Breaking the Groupon Habit, or, Making Merchants Money

CEO, Market Platform Dynamics
2:22 PM EDT April 4th, 2012

I was doing some work today on the social commerce application that we’ve been incubating and piloting here at MPD. The application is a SaaS-based toolkit that allow local merchants to capitalize on the online/offline commerce shift that we’ve been talking about for a long time, using mobile and social channels to enable that new commerce opportunity. More on that innovation in a later post, but a couple of things struck me like a thunderbolt as I reviewed our latest pilot results.

Insight number one: new habits are hard to break.

One of the big experiments that we have been running during our pilot involves different ways to motivate people to buy a variety of promotional offers. More precisely, we’ve been running experiments to try to determine how (and why) people will throw down their card information onto a web site they’ve never heard of in exchange for being presented with an offer. On the one hand we’ve observed the millions of people who happily enter their card information on Groupon’s site to buy a hugely discounted deal at a (generally) lousy place that they (likely) never return to again, ever. Why do people do this and so many of the same people repeat the cycle – pay good (but cheap) money to go to places that they probably don’t like and won’t visit again?

My hypothesis is that this results from two things: (a) regular customers of those merchants who like snagging the deal and/or (b) the psychological high that people get from “being smart about saving money” when they buy anything that is 70% off, irrespective of what they are buying. This big revelation hit me after reading a really great book about why people develop habits and why those habits are so hard to break. The author’s research concludes that all human beings (and mice too) all have a “cue-response” mechanism hard wired into our brains that sort of operates like our own personal autopilot. This autopilot means that whenever we are stimulated by a cue, we take an action on that cue because we get a reward when we do – even if that cue/action combo results in a reward that isn’t always good for us (smoking, eating too much, etc.). So, if we take that same logic to the Groupon environment, I would posit that the cue is consumers seeing deeply discounted deals, the action is to buy it, but the reward isn’t just about big savings but rather feeling good about saving oodles of money on that deal and feeling pretty darn smug about doing so. It is sort of conveys bragging rights too about how much was saved. I further contend, that if the cue-action-reward stimulated more than that response (buy more deeply discounted deals) people would actually return to the merchants that offered those deeply discounted deals, even when they didn’t offer a discount.

If you agree, there are some interesting implications for merchants, consuemrs and even Groupon (and others like them). The big net-net here is that Groupon has helped to hook a whole generation of consumers onto the habit of humongeous discounts in order to get the payoff of “feeling smart about saving money” – a reward that has become ever more relevant to consumers in a tough economic environment. This is significant since the “more typical” 20% to 30% discounts now no longer mean that much to consuemrs – 50% is barely viewed as tolerable. After all, when consumers have been trained to see 70% to 80% off each and every day in their inboxes, that becomes their frame of reference for just about everything else they see.

That, by the way, is exactly why merchants hate Groupon. This habit is especially bad for merchants who want consumers to develop the habit of returning to their storefront post-coupon to buy at full price. By and large, that isn’t happening, and most merchants would rather be audited by the IRS than do another Groupon offer

I’ll also mention that once you understand the Groupon habit and the habit-forming dynamic it sets up (between itself and its consumers), it’s not hard to see thru the “incremental customer” promise that they dangle in front of merchants. Groupon and other deal sites like them, bring in incremental customers to those merchants, but only one time. Consumers don’t develop the habit of returning to those merchants a second or third time. Paying full price is a habit that Groupon has helped to break, in a big way, for many consumers across all retail categories. The implications for Groupon and its business model is something we’ve said all along – they have to keep the direct sales machine revved up – repeat customers isn’t really a part of their model.

Insight number two: loyalty is the new mobile payment app

Once upon a time, in payments card land the loyalty experience went something like this.

→ Customer walks into any store that takes a card for payment

→ Customer buys stuff

→ Customer pays for that stuff using a credit or debit card that she whips out of her wallet

→ Customer will decide which card to use based on whether she wants to get points for that purchase and what card might give her the most points

→ Customers completes transaction and gets points for making that purchase on that card

→ Customer saves up a bunch of points and 50% or so will redeem those points for merchandise, airline miles, etc.at some point in the future

Well, I guess that’s not so once upon a time, now is it. This “loyalty experience” looks pretty much like this today just about everywhere you look, except that redemption formulas are getting stingier and debit rewards programs are disappearing. That said, the standard process of payment transactions pulling thru loyalty to a card via points is the model that exists today, and has existed for as long as loyalty has been a topic of conversation at card issuers.

Mobile and in particular, smartphones, have begun to turn this process upside down and inside out.

Apps tied to payments are popping up all over the place that redefine the loyalty experience so that it looks now something like this:

→ Customer downloads an app onto her iPhone

→ Customer registers a card to that app

→ Customer goes into a merchant that allows her to use that payment app to pay, most of these are enabled via bar code

→ Customer gets a discount for using that app to pay at that store for whatever they buy. The discount isn’t grand (maybe 10% or 15%) but it is applied to the total amount of the transaction at that merchant

→ Customer gets an email from that merchant reminding her that she can get another credit off of her next purchase the next time she comes in

→ Customer goes back to that merchant and buys stuff and gets a credit applied to her card

→ Repeat.

What’s different here? Well, a whole lot.

First, themerchant has much more of an opportunity to control the loyalty experience. The big gripe in payments/loyalty land today is that merchants “fund” issuer loyalty programs via interchange and don’t get the direct benefit back. Although these programs are still card-based, and so merchants still pay interchange, these schemes help merchants create a “cue-reward” mechanism that prompts consumers to return to their store and to buy things – and not because they are deeply discounted.

Second is that in these situations, the “reward” is immediate – an email that says the consumer has saved money on that transaction and a statement credit to prove it. Loyalty to the merchant and that immediate gratification is really what’s pulling thru the payment transaction – not the other way around. The act of registering a card to an app in exchange for a credit that is applied to the bill is much more about an inducement to return to THAT merchant to shop and buy than it is about selecting a card that racks up points for redemption later. The “reward” only happens when the consumer comes back to spend money at the store. The habit that these apps are hoping to create for the merchant is preference for the merchant that accepts the app – loyalty pulled thru a mobile payments app that offers an incentive to return and an easy way to tie payment to the experience.

It’s a really interesting shift, I think, and one that is made entirely possible because of two things: mobile phones and that lowly piece of technology – the barcode. These apps are, by and large, driven by an app that produces a bar code that is scanned at the merchant and linked to the payments flow. It is by and large, a frictionless experience for the merchant and the consumer.

Even though the discounts aren’t steep, merchants still have to fund them so they have to be willing to adopt the mindset they are giving “regular” customers a discount for visiting their storefront. And, as the density of merchants that accept these apps increases, the promise of “incremental new customers” for these merchants may become a less plausible claim for the apps developer (the pool of potential customers in any geography won’t get any larger so these same customers can’t all be new to everyone at the same time).

These schemes are new and so we don’t have a lot of data points to know yet whether (a) merchants will be willing to subsidize regular customers on a going basis, (b) apps customers will remain loyal customers absent the credits/discounts and (c) whether the apps business model is sustainable. But for now, it seems that these new mobile payments apps are transforming the notion of loyalty, popping up like rabbits in the Springtime and launching their loyalty/apps schemes outside of the traditional issuer/points paradigm.

What are your thoughts?

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