#21 How does Groupon make money?
The Collective (group) buying business model
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If you have been following the Chinese Tech Ecosystem, you may have heard about Pinduoduo - the group buying social commerce platform that has taken the industry by a storm and has become one of the fastest growing commerce platforms in China. However, the company that pioneered group buying was Groupon (derived from Group Coupon).
Groupon
The idea that would eventually become Groupon was born out of founder Andrew Mason's frustration trying to cancel a cell phone contract in 2006. Mason thought that there must be some way to leverage a large number of people's collective bargaining power. In 2007 Mason launched The Point, a web platform based on the "tipping point" principle that would utilize social media to get people together to accomplish a goal. The Point was intended to organize people around some sort of cause or goal. It gained only modest traction in Chicago until a group of users decided their cause would be saving money. They wanted to round up people to buy the same product in order to receive a group discount. Born from The Point, Groupon was launched in November 2008.
The name for the E-Commerce platform, Groupon is a combination of "group" and "coupon". Groupon's first deal was a two-pizzas-for-the-price-of-one offer at Motel Bar, a restaurant on the first floor of its building in Chicago.
Fun Fact: Groupon was valued at over $1 billion after just 18 months in business, the fastest company ever to reach this milestone at the time. It also turned down a $6 Billion acquisition offer from Google in 2010.
Collective Buying
Collective buying allows for direct cost savings, both for the consumer as well as the business. Consumers participating in on-line buying reap the benefits of discounted prices for restaurants, spas, attractions, hotels, etc., while organizations can save money by directly reaching target markets.
Groupon uses an assurance contract platform to ensure that retailers are able to offer quantity discounts through a viable sales platform. In doing so, consumers are protected from the free-rider problem where individuals looking for a "free ride" ride the discounted savings of others who paid to bring the deal-of-the-day to the actualization threshold. Rather, users are only charged when the required number of people sign up.
The free-rider problem is a type of market failure that occurs when those who benefit from resources, public goods, or services of a communal nature do not pay for them or under-pay. Free riders are a problem because while not paying for the good, they may continue to access or use it. The free-rider problem in social science is the question of how to limit free riding and its negative effects in these situations.
How does Groupon make money?
Groupon typically takes ~50% of the voucher value from the merchant as a lead generation fee.
For example, let’s say a merchant normally charge $100 for a private horseback riding lesson. At 50% off the normal rate, merchant would be offering its lessons for $50 each to Groupon buyers. With Groupon taking a 50% margin, merchant would only make $25 per lesson sold.
What’s in it for merchants to offer such huge discounts via Groupon?
Groupon serves as a powerful advertising engine, generating sales and stronger brand recognition for the business in exchange for a fee. Though businesses receive less for goods and services than they would normally charge, Groupon serves as an advertiser with enormous reach, and merchants also benefit by not having to pay for the advertisement upfront. Rather, they pay a split of revenue earned based on the deal with Groupon afterward.
The business can sell add on services that are not included in the Groupon voucher. The customer might be open to spend more since they have already received a good deal. The hope is that the customer will also spend money on other items, or even better, become a regular customer.
A major benefit to using the platform is that it presents your business to more “ready-to-buy” customers. Contrary to the information-gathering users who visit search engines like Google, people who head to Groupon have usually already decided that they want to make a purchase.
Subscription
For $4.99 a month, you can become a Groupon Select member. With this subscription. you get an extra 25% off most local Groupon deals and 15% off goods you purchase and free shipping (with some exclusions). If you purchase a get-a-way trip, you get an extra 10% off on most travel options. If you enjoy going to live events – movies, concerts, games, or performances – a Groupon Select membership gives you 10% off most of those tickets too.
Payment Terms
Since Groupon collects money from the consumers and shares the revenue with the merchant only when the vouchers are redeemed, Groupon can hold on to this cashflow for 3-6 months at times.
Also, a substantial percentage of Groupon deals are never redeemed before the deal expiry. Meaning people buy a lot of coupons and just never use them. In this case, Groupon would keep 100% of the voucher value since the voucher is never redeemed (and the service is never provided).
Groupon Product & Experience Marketplace
Groupon also operates a marketplace like Amazon to sell goods directly to consumers. You can buy shoes, electronics etc. directly from Groupon.
This week’s newsletter is inspired by Ankur Warikoo. Ankur started Groupon’s India business in 2011. After running it for a few years, Ankur and the management team acquired Groupon India entity to start nearbuy (with backing from Sequoia). Nearbuy was later acquired by Paytm.
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