Why Groupon works?

Too much has been said about Facebook and lately Google plus. Time will tell if Google is successful in bringing in the next level of social networking but we can now accept that Facebook has added a new dimension to our lives (300 to 600 million active/ semi-active users would probably vouch for that). Anyway you look at it, the numbers are pretty impressive. Only very few companies reach this sort of a wide spread impact, even fewer if its on the internet. 

This is a good time to ask - have you used Groupon's services? Depending on where you are located, there is a fair chance that you may not have heard of it. It is yet to become a phenomenon outside North America but give it a year or two - it just might. If you thought Linkedin or Facebook had a good year then check out these numbers. The business of Groupon is very different and it doesn't compete with them but it is still useful to put things in perspective. 

Linkedin took 8 years to get real money from the business ($161 mn sales and < $2 mn in net income). People ecstatic about their IPO should keep these numbers in mind. 

Facebook's numbers are in the vicinity of $4 bn in estimated sales and $2 bn in earnings this year and it took them 7 years to get here. 

Groupon on the other hand is yet to complete 3 years in business. They moved from $33 mn to $760 mn in sales this year. They are in the business of offering discounts. So what is their business really about?

Yesterday we went out for a musical and then wanted to get some dinner. I logged into the Groupon application on my tablet and it tracked my location to give me deals on restaurants at a walking distance with 30-50% off on all of them. There was Thai, Italian, Indian... even desserts. After choosing Thai, we walked into the restaurant. I had to make sure that this thing worked so we walked in and asked if they were aware of this Groupon thing. They said yes, I clicked a button and we ate. It was that simple to save 50% on our bill. 

In the last 2 weeks we have been to two musicals,  a rock show (80% off) and we have concerts, movies and even an adventure park trip lined up in the next month (with discounts of 50 to 80%). To get my car fixed, all I have to do is log in and check if there are car servicing garages near my house. I need to do the same when I need a haircut, which incidentally I do. All this is possible because Groupon has chosen to enter in multiple lines of business inside the same city and has reached a critical mass. So it is possible for me to think about Groupon every time I want to do something in Toronto. 

Why does it make sense for the companies to offer such discounts?

Groupon's business model is simply group + coupon. They approach businesses and decide on two things: 
 -- Discount
 -- Minimum number of sales they would need to offer the discount - let's say "p"

So if Groupon fails to make those many number of sales - there is no deal. So if you are a buyer on Groupon, then you wouldn't be charged until "p" number of people have agreed to buy. 

1. Repeat sales and word of mouth
Instead of buying advertising space ask Groupon to send an extra 50 people to your restaurant (with a catch of lets say 50 sales). Usually in all the deals I have seen, Groupon ends up selling it to many more than 50 people (in some cases 10-20 times more). Even if you serviced those people 'at cost' or at minimal margin, you still end up gaining: 

-- Groupon reached out to 1000s of people located close by
-- A bunch of people walked in and experienced your service, which will translate into repeated sales and word of mouth. 

2. Sell off extra stock
Have extra stock to sell? Let Groupon empty some space for you. 

3. Off Season sales
If your product/service goes slow at a particular time of the year and you don't want to fire your contract staff - do some business which helps you keep some of them. 

4. "Guaranteed" Advertising
Let's say you spend 1000$ each month to reach out to 'x' number of people, which translates into 'y' sales (depending on the effectiveness of the campaign). A lot of business owners have struggled with the trial and error process of campaigns, even after hiring the best in the business. If you are already doing that, it probably makes sense to spend "z" money on "guaranteed advertising". You share margin on the sales when a minimum number of sales have been made. Not a bad deal. It's like paying your advertiser only when the campaign is successful. 

You will notice I am talking about selling at a low margin - which makes sense only if you have a respectable volume. That's what Groupon promises its businesses. A win-win situation really, especially for small businesses who don't have a big marketing budget to play with. 

Not surprisingly Groupon's business model has been quickly copied by numerous other companies like Living Social. Dealing with the competition will be a rough road but at least they have attained a critical mass in most of North America. Either way - power seems to be coming back to consumers with the a business model which merges the gap between online and brick-and-mortar businesses. 

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