Unfortunately for the merchant, when it comes to repeat purchases, the converse mechanism takes over. Compared to the terms of the discounted deal they snapped up initially, full retail price represents a doubling of the price on a product or service that the consumer can do without. Under that framework, it’s easy to see why the rate of repeat patrons might be abysmal. The initial discount is so substantial that it creates massive demand for goods and services for which consumers would never dream of paying full retail prices. Faced once more with ordinary prices, one would expect shoppers to revert to their behavior prior to taking advantage of the deal — in short, they abstain from buying.
The fundamental flaw
That reversal is really at the crux of the contradiction in the deal site model: Demand generation occurs due to the huge discounts. When the discount disappears, the demand evaporates with it. For most merchants, the only thing that justifies doing a deal in the first place is the promise of repeat demand at full retail price, which is a mirage.
The executive managements of GroupingSocial missed that contradiction because in choosing to focus on delighting users, at the expense of satisfying merchants, they misunderstood who their customers are. The deal site gets paid out of the merchant’s pocket, with the user paying nothing to access these deals. In other words, the deal site’s true customer is the merchant, not the user. Remember the adage that if the service is free, you’re not the customer, you’re the product (the same applies to Facebook — if you’re on it, you’re their product).
Groupon’s 2010 initial public offering prospectus provides plenty of evidence of this misunderstanding:
Our investments in subscriber growth are driven by the cost to acquire a subscriber relative to the profits we expect to generate from that subscriber over time… We spend a lot of money acquiring new subscribers because we can measure the return and believe in the long-term value of the marketplace we’re creating.
The irony here is that Groupon appeared to be completely oblivious to the fact that its merchant customers would think about customer acquisition via Groupon in the very same way, i.e. on the basis of a hard-nosed, return-on-investment estimate:
Our strategy
Grow the number of merchants we feature: Our merchant retention efforts are focused on providing merchants with a positive experience by offering targeted placement of their deals to our subscriber base, high quality customer service and tools to manage deals more effectively.
When it comes to the merchant, there is no mention of profitability or ROI, as if a “positive experience” could replace cash in the till. Furthermore, Groupon confused growth with value creation:
Our metrics
We believe revenue is an important indicator for our business because it is a reflection of the value of our service to our merchants… First, we track revenue — our gross billings less the amounts we pay our merchants — because we believe it is the best proxy for the value we’re creating.
