While no one has ever doubted Groupon’s impressive topline growth – the question has always been around the defensibility of a business that has so few barriers to entry.
In its long awaited S-1, it’s clear that Groupon has impressive topline growth. However, when looking at its oldest markets, it appears that their business model is deteriorating.
Groupon’s Network Effect?
- On the consumer side: “Increased relevancy enables us to offer several daily deals, which we believe results in increasing purchases by targeted subscribers, thereby driving greater demand for Groupons.”
- On the merchant side: “Increasing our merchant base also increases the number and variety of deals that we offer to consumers, which we believe drives higher subscriber and user traffic, and in turn promotes greater merchant interest in offering deals through our marketplace, creating a network effect.”
However, when looking at the data for their Boston market, it does not appear that that Groupon has achieved this virtuous cycle.
The Boston Case Study
While Groupon is relatively opaque for most of its filing, it provides case studies of four of its major cities. We look at Boston since Chicago, the other US city, is Groupon’s home town.
Despite being one of Groupon’s oldest markets, Boston had demonstrated impressive growth: revenue, subscribers and customers have all tripled in the past year. This topline growth has been aided by the launch of personalized deals in Boston in Q3 2010: Groupon started running multiple deals per day in Boston through its targeting/personalization initiative.
Deeper analysis of the Boston case study, however, shows that despite impressive topline growth Groupon’s business model peaked around Q3 2010 and has been deteriorating ever since.
Consumers Buying Fewer Groupons
On the consumer side, we just need to answer one question:
Does Groupon’s ability to send targeted/personalized deals to subscribers (thanks to its large merchant base) drive increased demand for Groupons?
If this were true, it would imply that activity and revenue per subscriber metrics would increase right along with Groupon’s increased deals per day.
However, Groupon’s quarterly revenue per subscriber is declining Boston.
Groupon’s business model is predicated on the idea that the company can stomach the ever-increasing customer acquisition costs since an acquired customer should generate a steady flow of high margin revenue. However, this relies on existing customers purchasing several subsequent deals. While existing customers are indeed purchasing subsequent deals, they are doing so at a declining rate, despite Groupon’s recent targeting efforts.
Far more worrisome for Groupon is the fact that its existing customers (those 20% of subscribers who have ever bought a Groupon) are also becoming less engaged. The Boston Case Study reveals purchases made from existing customers by removing the impact of purchases made by new customers each period:
Frequently when you see this deterioration in a company’s existing customer base it is because the average customer is getting “older” and these “older” customers tend to be less active.
However, due to the exponential growth in customers, the average “age” of Groupon’s customer base has been roughly the same since Q1 2010. In other words, the average customer isn’t getting older.
As Groupon begins to reach saturation in Boston and its customer base inevitably ages as a result, reversing the decline in participation from its existing customer base will only become more difficult.
Groupon’s Customer Acquisition Costs are Rising
And of course, right when Groupon’s customers are becoming less engaged, and therefore less profitable – Groupon’s costs to acquire customers are skyrocketing.
Given the recent entrance of well-financed competitors such as Google, Facebook and Microsoft its hard to believe Groupon’s customer acquisition costs will slow anytime soon. Along with declining engagement from existing customers, this does not bode well for the future of Groupon’s margins.
Groupon Selling Fewer Deals per Merchant
The second question is whether Groupon’s industry-leading subscriber base will attract merchants willing to pay a premium to run with Groupon and preventing other players from effectively driving down gross margins to compete on cost.
According to Groupon, merchants are willing to pay a premium for their reach.
However, Groupon’s targeting/personalization strategy is leading to a decline in the number of Groupon’s purchased per deal as the number of deals Groupon is running per city far outpaces the growth in subscribers.
Should personalization increase conversion rate per deal, this may offset decline in reach – Groupon could presumably increase total merchant satisfaction by satisfying more merchants more efficiently. However, as the average purchases per customer continues to decline so will overall conversion rates on personalized deals.
Groupon’s decision to rapidly increase the number of deals per metro has allowed competitors to credibly tell merchants that they deliver more customers than Groupon can in major cities such as Boston. Based on the Yipit Data Product, which features nearly 20,000 offers per month across major US metros, both Travelzoo and LivingSocial now average more vouchers sold per deal than Groupon in most major North American cities.
Several other players such as OpenTable, WagJag, DealFind regularly sell as many or more vouchers per deal as Groupon in major markets as well. This calls into question any network effect that Groupon thinks it may have by having the largest subscriber base in the industry. Merchants won’t pay a premium for total subscribers if Groupon can’t deliver more new customers than the competition.
Groupon Operating Margins Declining
- Revenue per Groupon customer is declining
- Cost to acquire those customers are increasing
- Sales costs are increasing as it needs to run smaller deals with more merchants to personalize the experience
Why Is This Happening? Competition Has Arrived
“Groupon Now” May Be the Answer
What Does This Mean For the IPO?
David Sinsky, Jim Moran and Vinicius Vacanti contributed to this post. David runs Yipit’s Data Product, which provides past offer detail and competitive intelligence to the Daily Deal Industry.
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