• by Mark Walsh  @markfwal, November 9, 2010

Groupon Growth Too Good to Be True?

Groupon is the stuff startup dreams are made of. The company's group-buying site offering daily deals has proven wildly popular with consumers and won the admiration of retail experts for the elegant simplicity of its business model. In an August cover story, Forbes called two-year-old Groupon the "fastest growing company ever," and its success has spawned a series of me-too competitors.

Along with the accolades and imitators have come investment dollars - $173 million to date, with the most recent round giving the company a rumored valuation of more than $1 billion and a series G round ready to push that figure higher. Groupon has used that capital to expand the site's local offers to cities throughout the U.S. and across 29 countries while growing its staff to 1,200.

But the inevitable backlash began this fall, with a blog post from the owner of Posie's Café in Portland detailing how its Groupon offering was a financial disaster for the company. In particular, the post took issue with Groupon for not capping how many coupons can be sold and taking too large a cut of sales. "There came a time when we literally could not make payroll because at that point in time we had lost nearly $8,000 with our Groupon campaign," the owner wrote.

Groupon's founder and CEO Andrew Mason responded with his own blog post the next week saying the company doesn't keep merchants from capping their deals. The post stated 97 percent of merchants want to be featured on Groupon again. Case closed? Not quite.

Providing fresh ammunition against Groupon is a study by Rice University concluding the service is more a boon to consumers than businesses. Of the 150 businesses it surveyed in 19 cities, 66 percent said Groupon promotions were profitable, while 32 percent said they weren't. More than 40 percent of the companies wouldn't run a Groupon offer again.

The study by Rice's Jesse H. Jones Graduate School of Business found "satisfied employees" was the key factor in whether deals succeeded or not. If employees remained content throughout the promotion, profitability was much more likely. So dealing with the surge of business from bargain shoppers was critical.

Perhaps shedding light on the Posie's experience, the study also said restaurants fared worst among service businesses with Groupon deals, while spas and salons were most successful.

Study author and Jones School associate marketing professor Utpal Dholakia offered these tips for Groupon merchants: Use deals for building relationships rather than just creating one-time buys; don't offer discounts on a total bill but for specified products or services; and use Groupon to sell slower-moving items.

The university said it received no external funding for the study. Groupon didn't respond to a media request about the study. The company's media site does include links to academic articles about Groupon, but strangely not the one from Rice yet.