The recent craze over these deep discount coupon sites (Groupon, Living Social, and Deal Chicken) has many businesses making rash decisions without thinking about the full cost for this type of marketing. Here’s how it works….
A sales person from one of these sites will call the business and present to them an opportunity to reach out to millions of users with an offer to try their business (at a severe discount often times 30% to 75% off regular prices) for no advertising costs. That’s right, it’s FREE advertising. Wait, it’s not really FREE. Typically, these sites will charge 25% to 50% as a commission for any sales generated from the deal. Let’s do the math.
The Deal – $15 for $30 worth of food & drink
Total Coupon Sales 100 deals – $1,500 in revenue for $3,000 worth of food & drink
Total Incremental Sales of Food & Drink – 2x more than the coupon (very lucky if you average that)
Restaurant Profit Margin – 20% (if they’re lucky)
Commission for the deal website – 50%
+ $1,500 in coupon sales
+ $3,000 in incremental sales
– $750 in commission to the deal website (@ 50%)
– $4,800 in food cost, overhead expenses (@ 20% profit margin)
– $1,050 (Loss)
As you can see in the example above, this deal cost the restaurant $1,050 if 100 people buy the deal. In order to break even on this ad campaign, the customer would have to spend 6.5 x more than the cost of the deal (6.5 x $15 = $97.50) during their visit.
The counter argument from the sales person will be that these deals are meant to introduce new customers to the business and drive incremental visits that will be at normal profit margins. The problem with this assumption is that in order to make up for the cost of the deal, the customer will have to return multiple times. In the example above, the incremental revenue needed to cover the expense of the deal is $5,250!
The reality is that more often than not, the people who purchase these flash deals are not going to return to the establishment. Therefore, it’s extremely difficult to make up the cost. In order to the reduce the potential risk for large losses, businesses can limit the number of deals sold. However, they are often not advised that this is an option and given a scenario on how to calculate potential cost.
By design, these deal websites are not meant to drive loyalty to a business. They are designed to build loyalty for the deal website! Why would an avid Groupon user/buyer visit a restaurant and pay full price when there’s a new deal in their email inbox everyday?
I’m not saying these websites are bad for every business. I’m sure there are many success stories out there. The point of this blog post is to provide a different perspective and hopefully help others work through the math before they commit to a bad deal.
Buyer beware and do your homework before you put yourself in a hole that will be difficult to get out of.