07 May 2012

Economics 1, Groupon 0

I've been a skeptic of Groupon and its business model for some time.

I was not pleased with their business because it was so easy for others to copy it, but their dodgy accounting (booking gross sales without removing fees to merchants as "revenue) sealed their fate.

The problem with the model is that consumers will get fatigued of using the interface (i.e., higher transaction costs) compared to just shopping -- especially when Groupons are used for "extras" that will not become repeat purchases. (Merchants are also not so pleased, for the same reason -- a surge in demand that falls, without increasing future profits.)

So I was interested to see that some directors are jumping ship, a ship with a sinking share price (After the $20 IPO, prices went over $30 but are now under $11/share):

DJIA up 12.50% in 6 months; Groupon down more than 50%
It seems that "the market" is also displeased with Groupon and its business model. That's bad news for investment banks playing with the tech bubble, but good news for fans of capitalism.

It's also quite "interesting" to compare these dynamics (zero to hero to zero in less than a year) with the norm in the water "business," where a failed business model (charging price equal to cost for a good that's scarce and thus worth more than cost, creating shortages) and failed businesses (Las Vegas, MWDSC, and MANY others) can keep operating for years. Why? Because water utilities are legal monopolies subject to political definitions of "success" that can stumble along, delivering poor performance to customers and society for decades.

Bottom Line: Businesses need to make profits over the long term to be viable. (Hear that Facebook?)

3 comments:

Damian said...

Groupon encourages my fiancee to buy more of something at places that are overpriced to begin with, and when you factor in the transaction cost, as you say, and the overall quality of what you get, its not a great deal. It can be, but in my experience, we have had more failures than successes.

James Eaves said...

Hi Dave,
That is a great post. I think VC and founders dont spend enough time thinking about the core economic principles underlying their business models and product. Specifically, they dont think enough about incentives.

You should write more often about tech - though I understand that's not your brand.
James

water molecule said...

yes, VC and founders dont spend enough time thinking about the core economic principles underlying their business models and product.