Wednesday, June 22, 2011

GroupOn is like “dating in NYC”…therefore, every merchant’s nightmare!

Well, you can replace “NYC” with “LA” or any other major metropolitan city that offers too much of a good thing – a proliferation of single eligible men & women (which is a paradox in itself.) The simplistic theory that explains this paradox is the non-committal factor, since everyone is waiting for the “next best thing.” Why commit to a relationship when you are swimming in a sea of options? Too much of a good thing can be dangerous for commitments.

And this is the story of the avid GroupOn user. For GroupOn to succeed, it needs to generate excitement and loyalty to its business. However, GroupOn loyalty outrightly means non-commitment to a merchant, the merchant that GroupOn is designed to serve … and hence, the nightmare of the small business begins.

Loyalty is what most businesses thrive on. Loyalty makes a business sell not 1, but 100 widgets to one consumer, increasing profits. But, the case with GroupOn is a bit more complex. When GroupOn creates loyalty to its business model, it creates a vulture who thrives on deals…a vulture that is waiting for the next best deal…this vulture is not the ideal customer that the small business had in mind when signing up for GroupOn. The merchant’s viability and interest in GroupOn is to attract a new user base who will eventually become loyal customers of its establishment and not of GroupOn. But, that is in absolute contradiction with what will make GroupOn thrive & explode in success.

The conflict of interests is deepened by competition that has innovated in the deals space to further shape the future phsychology of this vulture to become even fiercer deal hunter. Such recent innovation is the “instant deals.” With instant deals, the consumer can plan its day around the deals available to him on that day.

Although, the instant deal can be a fantastic “just-in-time” inventory clearing mechanism, or extra capacity management for a merchant, when adopted by the majority it will become the merchant’s nightmare. Everyday, one of your competitors, featuring the deal, will be stealing your customer base, who now have become GroupOn loyalists.

Of course, this theory is only valid if GroupOn and the deals industry become really successful. So, let’s revisit the numbers from GroupOn. In my first blog of this series -“GroupOn’s valuation myth debunked!!! A cautionary tale of the deals industry…” I visit GroupOn’s valuation. The $30 billion valuation for GroupOn tells us how optimistic investors are about the industry. For GroupOn to be worth that, it needs to become at least a $15 billion business, therefore, needs to sell at least 600 Million deals a year (based on average revenue of $23 per deal see S-1 filings). Either U.S. will more than double its population or GroupOn will have to create a lot of loyal customers who will buy quite a few deals per year. Now if we add Living Social, Facebook’s deals, we can picture the gigantic success investors expect.

Unfortunately, the small/local business who is the GroupOn user is so fragmented that they will not have the typical power to restrain GroupOn’s empire. The death of the small business will come slowly and ‘unexpectedly’ by the vulture that GroupOn will create. “Unexpectedly,” because a small local merchant will fail to see beyond the short-term effects, meanwhile the downfall will be building up and will be macroeconomic in nature.

GroupOn creates a conflict between its success and the success it promises to the small business. However, GroupOn has a potential to succeed, which is not based on “rational” theory, but the pshychology of the merchant and consumer. Read “Why will GroupOn succeed?” for more.

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