Drama in Deal-Land

Could it be that the bloom is off of the daily deal rose? The news out of daily deal land these last few weeks has been grim. It has made those last few lazy, hazy days of summer, well, a little crazy too, if you are in the deal business or thinking about getting into it.

First up, there was news that daily deal don Groupon revealed that it owes more to its merchants than it has cash on hand (like $300 million more) and is living the corporate equivalent of hand-to-mouth, selling new Groupons to pay off old ones. (Isn’t this the sort of thing that got Madoff 150 years?!!?) This news was on top of another report that said that traffic to Groupon’s site has declined nearly 50% since its peak in the second week of June, which makes the selling of new Groupons to pay off the old ones strategy a little less of a no-brainer. This wasn’t particularly welcome news around Groupon’s HQ, since they declined to comment on these reports, but probably made the folks at Google a little happier that their $6 billion deal fell through.

Then, Facebook abruptly shut down its Facebook Deals a mere 5 months after opening it up on its massive social platform. Deals was designed to drive offers to local merchants, make users aware of its offers via email or news feed, as well as accept Facebook Credits as a payment type to buy the deal. When it was launched, it was reported as nothing short of Groupon’s death knell, and one reporter went so far as to say that it was going to “kill” every other deal site in existence. Its strategy was to serve deals for things that could be done in groups, so according to a spokesperson, “no to teeth whitening, but yes to river rafting.” Users could “like” the offer, share it and/or buy it. Rather than killing the deal space as once predicted, it apparently decided to kill its wannabe Groupon experiment, citing a shift in how it planned to go after the local deals space.

And, a day or so later, Yelp announced that it too is paring back its deal focus (although cutting one’s sales staff by 50% sort of suggests gutting rather than paring). It says that it won’t be abandoning the deal space entirely, just refocusing on “quality” offers. In August, Yelp offered fewer than 30 deals, down from more than 60 per month in June and July.

So, what gives here? Could daily deals be going the way of the hula hoop?

Well, here’s a little toy trivia to get us started this day after Labor Day. In 1957, when Wham-O introduced the hula hoop, there was a mad rush to buy them, in fact, 25 million were sold in the first 6 months they were on the market. Then, about a year later, Wham-O’s sales completely stopped – as in zero sales – as competitors entered the scene with cheaper models. In 1957, if Store A was out of a Wham-O model, Store B down the street probably had the same sort of thing but cheaper. Fast forward to 2011 and the deal space. Today, if you happen to miss that great deal on “I-never-heard-it-but- at-that-price-why-not-try-it-restaurant,” there will be 50 new offers just like it (some probably even cheaper) waiting in your inbox tomorrow and probably some 1,000 deal sites that will offer to host a deal for you if you are a merchant.

That’s not to say that deal sites haven’t done some great stuff. For new businesses looking to build a customer base, many will argue they’ve been a godsend. A store owner interviewed about why she would not run a Yelp deal remarked, “I just got 500 new customers from a deal I just ran, so why would I want to run another one right now?” For her, and for many like her, getting 500 customers in one fell swoop with a deal site would have probably taken her 5 years sans deal site (customer service issues associated with serving 500 customers notwithstanding.)

But as good as they’ve been for some merchants at driving new traffic, they seem to be pretty lousy at converting deal monger to loyal customer. According to new research out of Rice University, 80% of customers never return to the establishment that proffered the deal. About two-thirds never spend more than the face value of the offer. That combination: one-time customer not spending more than coupon face value generally does not make merchants happy unless you are a savvy enough merchant to price the deal accordingly. This lack of loyalty seems to cut both ways, too. This same Rice University research suggests that 73% of surveyed businesses were just as happy running a deal with Groupon as LivingSocial as UncleJoesDeals.com – whoever gave them the best deal got their business.

This all suggests that consumers and merchants might just be getting wiser to the deal. Sure, traffic to deal sites overall was down 25% but 44% of respondents to a recent survey by Experian said that they use or search daily deal sites – daily! And 63% of respondents get emails from more than 2 deal sites each day. No wonder everyone is rushing to enter the deal space. The ability of merchants to get mindshare from a consumer population that large is nothing short of astounding.

On the merchant side, 55% of the businesses surveyed in the Rice University study reported making money on a single deal. That suggests to me that they are playing the deal space for what is it now designed to do – drive people into their stores to move the products that they can make margin on, even at a discount.

Now there is still a lot of noise in the deal market and many problems to be solved. Too many of the deals either look the same, sound the same or are the same. Many are simply not enough of a deal to really matter: for some people, the idea of saving $10 on something worth $20 at a place they’ve never really heard of just isn’t enough of a motivation to buy anymore. Yelp’s proposition of fewer, quality deals feels like it might be taking a page out of Gilt City’s playbook, which is less about deep discounts and more about curated offers that promote the merchant’s brand, and in the process, drive repeat business.

On the merchant side, it actually might be easier than ever to make margin on deals. The mere fact that more than half of all merchants have made money on a single deal is proof of that point. A contributing factor is that there are zillions of deal sites to choose from and high margins will surely be competed down for a number of deal sites, including the market leaders. But the big issue to solve on the merchant side is one that may not be too easy to solve given the current deal site construct: making prices transparent to all consumers who see the offer. The big rap against deal sites is that many of those who buy the deals are customers who don’t need an incentive because they are existing customers but will take a discount if offered. For merchants, that is the ultimate in margin erosion. A deal site that makes the same price transparent to all categories of customers is not a sustainable business proposition for the merchant. Just ask all of the B2Bs that went kaput at the turn of this century. Making cheap prices transparent (and forcing the competition to follow suite if they want the business) is great if you are a buyer but not so great if you are seller. Deal sites that allow merchants to price discriminate based on a number of variables that are relevant to their business is where the industry has to be headed.

So, what does all of this have to do with hula hoops? Well, one way of interpreting the data on the deal market is to say that, like the hula hoop, they’ve burst onto the scene, peaked and are now on their way out as cheaper clones muddy the waters for everyone. For some, and perhaps the vast majority of the Groupon-wannabes, that may in fact be likely.

Another way to look at the deals space is that they are more like another toy fad introduced in 2001: the Bratz dolls. These dolls sold 125 million dolls worldwide by 2005, capturing about 40% (and $2 billion in sales) of the fashion-doll market (Barbie had 60%). A number of line extensions – more dolls, accessories, branded merchandise, etc. – kept this once niche-y product alive, going on to unseat the coveted Barbie doll as the most popular fashion doll in about 2007. Their strategy was to acquire a base of customers and market to them with new and different things that kept sales and margins alive and customer acquisition costs low.

The great opportunity for the deal sites today and in the future is the appetite that the worldwide consumer has for deals – that also happens to be their Achilles heel. The pivot point now for all deal sites is how to turn 44% of opted-in consumers into deal disciples who like a deal but like the merchant more. My view of the deal space is that the pendulum has to shift away from consumers chasing deals to merchants making offers that support their brand, engender loyalty and preserve their margins – that consumers will respond to. We’re seeing how hard it is for deal sites whose economics only make it possible for merchants to run a deal every 3, 4 or 6 months to sustain themselves. It’s time to think about strategies that leverage their consumer and merchant base in a way that builds value well beyond a discounted coupon.

Karen Webster is the CEO of Market Platform Dynamics (MPD), a consulting firm that helps companies find, implement and monetize innovation. She serves as an advisor and member of the board for a number of companies operating in the payment, technology and digital media industries. More info here.