Technology is our friend: Groupon may be a bad investment, but its market isn’t
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June 21, 2011

Groupon may be a bad investment, but its market isn’t

A while back Groupon raised around a billion dollars in a financing round. Usually you need to go public to raise this kind of money, but somehow Groupon managed to convince a bunch of obviously big investors that the money would be well invested. Since then, the company has been discussed heavily, and in my eyes, these discussions are way too 1999: Now, Groupon is representing a whole industry, and when its IPO or eventually the whole company will fail, the whole industry will lose credit. And maybe even social businesses in general.
I never understood why Groupon was considered “social” in any way and why one would invest so much money since there is no network effect, no lock-in, no systematic winner-takes-it-all mechanism in its market like it is apparent in Ebay, Facebook, Paypal and many other businesses. So obviously I would not invest in Groupon as such since I don’t see the strategic advantage the company has against others. I just see tactics. They are fast, and they are executing well, but that doesn’t mean they will be defendig their lunch against anyone who will execute better (and in markets with a network effect, that would be the case). Still, their evaluation went through the roof.

What I am convinced of is the business Groupon is in. So what are they actually doing? They are building local reach (by investing in advertising and maintaining reach through email, Facebook, apps). Then they offer this reach to businesses who act as advertisers. Up to this point, they are no different from any publisher. Where they differentiate is that they don’t assemble their reach through content and offer ad space or banners, but their content and advertising are one: Deals. 
You can’t just advertise a brand or local branch on Groupon. You have to offer a deal which is heavily discounted. Groupon vouches to the consumer that the deal is a real catch; Groupon vouches to the advertiser with its reach that it will pay off (making the deal happen only if a number of x people actually take the offer). That is more or less what any dealmaker does in any business – an agent in real estate, a middle man in business deals: they are "just" a broker or mediator. The mechanics are excellently analyzed in this post from 2009 (!!) by Evan Miller.

But it’s nothing social – just because there are groups of people involved that doesn’t mean it has to be something truly networked with social media dynamics, even if it looks so at first sight. But they have another edge: by offering deals Groupon is not a local attention broker (like a publisher), but a transaction broker. This is where it gets interesting. To businesses, Groupon is like a virtual sales force that will deliver results as long as you have a very appealing offer. The businesses that put up deals on Groupon don’t earn too much (and sometimes even lose money) since they have to heavily discount their offer and give a huge share of that discounted price to Groupon – but they manage to bring people into their outlets and often enough reach new potential buyers.
That is everything you could ask for from a local advertisement. Additionally, they get a communication value out of Groupon’s local reach and the unique way their editors are describing the businesses. So Groupon’s offer is at least as good as anybody’s local advertising offer.

From an internet perspective, this kind of business is like a real life Google. Instead of directing traffic to websites of businesses, it brings (real human) traffic to actual, real, physical stores. From the perspective of a participating business, it will give you a guaranteed number of new clients who will show up in your store and experience your offers. So in the end, the customer profits (deals), the advertiser profits (real value from an ad budget), Groupon profits (in turnover and data). This is powerful.
I cannot see why Groupon as a company should hold a majority of this market (which is also indicated by the bazillion of clones) on the long run. Many say that they will be profiling people so well based on their reactions to deals that they will be able to target small portions of their audiences with perfect offers; I doubt that this will give them an advantage that will be able to lock out competition.

What I can see is that the market Groupon is in will grow and blossom, because it transforms “communication only” budget into “communication and transaction budget” for businesses. Anyone who offers (local) reach will have to ask themselves if their clients will be happy with “communication only” on the long run. Infected by these deal mechanics, advertisers will ask for performance based forms of advertising – where performance is not measured in clicks, but in actual turnover and physical customer relations; this will get to anyone who wants to capitalize their reach through sponsors or advertisers. Newspapers and their websites, football clubs, magazines, portals, freemail-providers and I don’t know who else. Social networks, Ebay, maybe even telcos. Facebook already launched Deals, Google is in there, too. The industry of online-to-offline-traffic-generation through coupons and deals should be seen independently from Groupon as a single company.

As German entrepreneur Verena Delius was quoted yesterday: Groupon may become the Enron of the internet business, in terms of damage that the business might give to an industry. But I would like to see the whole analogy: We’re talking energy business here.