The one key rule for surviving a Groupon deal

Summary:Learn how a Groupon deal can be very compelling for buyers, but for sellers, it can be brutal.

When I started DIY-IT back in September, I promised I'd not only talk about DIY tech, but also about tips and techniques for small business operators. Since we're entering the official start of the Silly Season, I though it was time to bring the small business aspect of DIY-IT into focus. I'm kicking it off with a cautionary tale of marketing, sales, and Groupon.

If you own or run a business, you know that you can't sell if people don't know about what you offer. There have, historically, been two key ways to create awareness: PR (getting covered in the press) and marketing (advertising and promotion you pay for to get awareness).

Since 2008, there has been another way: Groupon. Groupon is a deal-of-the-day service that has grown to have enormous reach. It works by partnering with vendors to offer coupons to customers. The idea that makes Groupon powerful is that deal doesn't become active until a certain number of people buy into the group coupon (group+coupon=Groupon).

Groupon essentially becomes social selling.

If you want the deal real bad, you'll tell a few of your friends, and eventually enough buzz will be generated that a bunch of people will want the deal and buy. This, to any marketer, is promotional gold.

Groupon makes its money by taking a portion of the deal. And this is where it can be absolutely poison to any company who uses Groupon for promotion. It works like this. You (as the seller) offer an incredibly compelling deal.

Let's say you're selling premium cupcakes, like Rachel Brown in London does. A dozen of these premium cupcakes sells for the equivalent of about $40, or $3.33 a cupcake (they better be awesome cupcakes). Rachel (true story) wanted more cupcake customers, so she did a deal with Groupon to offer cupcakes for 75% off, providing a dozen cupcakes for $10, or about $0.83 a cupcake.

You can see how a 75% off deal becomes very compelling for buyers, but for sellers, it can be brutal.

Do the math. No, seriously, do the math. Normally, Rachel gets about $40 for her dozen cupcakes. Now, she's getting $10. But she has to split that $10 with Groupon, so she really only gets $5, a whopping $35 less than she would with a normal sale.

Here's where it got really bad for baking Rachel. There's no published limit to how many customers can get the Groupon deal. Apparently, Londoners love them their cupcakes, and, by the end of the promotion, 102 thousand cupcakes were ordered. That's 8,500 dozen -- each of which was sold at about a $3 loss.

The hit to her bottom line (more than $20,000) was one thing. But she and her batch of Brit bakers had to work overtime to crank out the 102 thousand cupcakes. So, not only did they lose money, they worked to exhaustion to do so.

Don't be stupid

At the beginning of this article, I promised you the one key rule for surviving a Groupon deal and here it is: don't be stupid.

I feel for Rachel, I really do. I've run a business and been so desperate for customers that I'd do almost anything. Almost. But there are limits and Groupon pushes them.

Groupon's sales people will tell you that it's okay to take a loss, because you're creating so much extra awareness, but that's not really true. People who will happily buy cupcakes for 75% off are not likely to come back and pay full freight. The extreme discount is often the draw, not the original offering.

If you're considering doing a Groupon deal, take this caution in mind. Never, ever do a Groupon deal where you're taking a loss. In fact, don't ever do a Groupon deal where you're not making some money. Think it through carefully.

Fire up a spreadsheet and calculate how you'd do if you sold, say, ten of whatever you sell. Then scale it. Calculate what would happen for a hundred, a thousand, ten thousand, a hundred thousand, even a million. If you can't withstand the potential demand -- even at what you might consider completely ridiculous volumes -- don't do the deal.

Awareness alone isn't good enough. You need awareness with profitability.

Just ask Pets.com about that.

More tips on Groupon: How to Use Groupon Without Losing an Arm

Topics: CXO

About

In addition to hosting the ZDNet Government and ZDNet DIY-IT blogs, CBS Interactive's Distinguished Lecturer David Gewirtz is an author, U.S. policy advisor and computer scientist. He is featured in The History Channel special The President's Book of Secrets, is one of America's foremost cyber-security experts, and is a top expert on savi... Full Bio

zdnet_core.socialButton.googleLabel Contact Disclosure

Kick off your day with ZDNet's daily email newsletter. It's the freshest tech news and opinion, served hot. Get it.

Related Stories

The best of ZDNet, delivered

You have been successfully signed up. To sign up for more newsletters or to manage your account, visit the Newsletter Subscription Center.
Subscription failed.