Crowd-Driven Discounters Tap Bargain-Hungry Market
Special to CNBC.com
Want an hour-long massage session for only $30? How about a 37-inch HDTV for a mere $289? These deals are attracting customers to a new wave of Web sites that use group action to sell products and services for a percentage of their original price. In turn, these discount sites have found a way to profit in an economy in which most retailers are struggling.
One of the largest, Groupon, uses collective buying power to sell coupons for businesses like restaurants, acupuncture spas, and tennis clubs.
Groupon is funded by individual private investors as well as New Enterprise Associates, a venture capital firm that helped build CareerBuilder and Vonage .
It sprouted from a company called The Point, a Web site introduced in November 2007 that allows users to campaign for a cause or orchestrate a group activity.
"One of the ways people started using [The Point] was for collective buying power," founder and CEO Andrew Mason said. "We combined this idea with the nagging problem of living in a city where there is so much to do you are overwhelmed and just stay home instead."
Mason was a student at the University of Chicago when he conceived of The Point. His former boss heard about the idea and offered him $1 million in start-up money to launch the business.
"We raised $4.8 million from New Enterprise Associates back in January 2008," Mason said. "This money lasted us well into the creation of Groupon."
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Since its launch in Chicago in November 2008, Groupon has expanded to such cities as New York, Los Angeles, San Francisco, and Atlanta. It focuses on one good or service each day for each city. The site creates a surefire customer base for a local business, which then presents the site a special discount.
"Deals are only available if enough people buy them," Mason said. "If the critical mass is not met, neither the user nor the business pays anything."
So far, customers have bought more than 200,000 Groupons and saved almost $11 million. the site even tracks that data on its homepage.
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Mason would not discuss figures but said "Groupon is profitable" since its launch.
"We make money by taking a percentage of each Groupon we sell," Mason said.
That percentage varies depending on the business. The company does not charge local businesses a fee for being featured on its site.
Alice's Tea Cup, a New York restaurant chain, was featured recently on Groupon.
According to manager Matt Reed, about 1,000 users purchased the Groupon discount, offering 47 percent off the 'Bigger Breakfast' meal.
"For the first few days, we were not prepared for the huge increase in volume," Reed said. "We weren’t expecting it to be that successful."
The exposure from the deal was the biggest benefit, though.
"We knew we wouldn’t see a lot of profits from the people initially coming because that entire breakfast costs a lot to make", Reed said. "If we are going to profit, it will be because people will come to us with the coupon, like it, and then come back for more."
Alan Melson, 31, is a Groupon user in the recently launched Dallas branch. Melson became aware of Groupon after seeing an ad on Facebook for the “Deal of the Day in Dallas.” Using the site, Melson got $15 worth of coffee and pastries from a pastry shop for $5.
“The price reduction may not seem like much, but it definitely adds up over time,” Melson said. "I think Groupon is a great idea."
And Groupon hopes to expand, even in today's economy.
"We are in 12 different cities right now and will have 28 by the end of the year." Mason said. "We want to continue to find really interesting things as well as provide a way for smaller, cool businesses to support themselves."
Like Groupon, Swoopo is an auction site that uses crowd power to provide discount deals. The company was founded in Germany in 2005, and moved to the US last September.
With more half a million users in the US alone, Swoopo auctions hundreds of products daily. All auctions start at a dollar and people participate by bidding to drive the price up.
"Each bid increases the price of the item by a certain increment and also extends the life of the auction by 20 seconds," North American General Manager Frank Han said. "The last person to place a bid without being outbid before the timer hits zero wins the item." But because users purchase bid packages before they bid, losers relinquish all the bids they placed and essentially give Swoopo money for nothing.
Swoopo recently responded to complaints about the bidding process by introducing "Swoop it now," which the company describes as "risk-free bidding."
"You are able to take the value of your used bids and apply them toward buying the item that you have bid on," Han said. "Essentially, you can buy the product for just as cheap as it is on other sites while taking the opportunity to first win the item at a huge discount."
Al Ferrara, Partner with BDO Siedman’s Retail and Consumer Product Practice, says these companies have found their niche in a time when the retail environment is not expected to grow.
"Anything that helps these retailers and businesses drive traffic will do well in this market," Ferrara said. He warns that copy-cat companies may not do as well as companies like Groupon and Swoopo, though.
"If you look at every retail strategy, there are a couple major chains that are dominant and survive while the others get washed away," Ferrara said. "There is not enough market space for all of them to survive so these companies may merge in the future to become more dominant."
Ferrara said he expects these online companies to go public when the venture capitalists eventually cash out.
(CORRECTION: An earlier version of this story incorrectly said eSwarm is a group/crowd buying site. The company actually runs a social networking service that attempts to make it easier for people in groups to communicate with one another.)