The astonishing reports that Google might buy Groupon for $5.3 billion or more have everyone in Silicon Valley scratching their heads. How could this immature company possibly be worth anywhere near that amount?
In an era when the Internet is increasingly about mobile and social, there are undeniable appeals to the Groupon story for a company like Google, which has utterly failed in social software. But if Groupon were to sell for the reported figure, it would be the second most expensive sale in history for a private venture-backed company, only exceeded by the bubble-driven sale of telecom technology firm Cerent to Cisco in 1999, for about $7 billion.
Groupon isn’t so important that it merits such rarefied company. Sure, the popular coupon site is showing astonishing growth, with a reported $500 million annual run rate in revenue after only about two years of operation. But what is that revenue composed of?
The company works by letting advertisers direct discount deals to consumers, mostly via email. The advertiser typically gives 50 percent off the retail price of his product or service. Most deals are only valid if a certain minimum number of people accept them. Then, once a deal is completed, Groupon itself keeps half the purchase price. That leaves the merchant with a mere 25 percent of the list price of his product or service.
Groupon is talked about as an effective way to reach new customers and promote a business. It surely is. But there are plenty of other good ways to do that in today’s Internet marketplace, and Groupon is by no means the best.
I would ask any Groupon merchant whether, before he considers offering such a huge discount, he has considered, for example, running a targeted ad on Facebook that features a discount, albeit a lower one. Advertisers there rarely offer discounts, but there is no reason they shouldn’t work. Facebook enables a merchant to target ads to people in a certain geographic area, of a specific age, or using a vast range of other specific parameters. My gut experience, and I’ve talked to many, many Facebook advertisers, is that a discount offer of 30 percent for almost anything would yield a dramatic response in Facebook environment. And whereas Groupon spam-emails its members without much targeting other than by geography, on Facebook a merchant can target to those it really believes most likely to be its long-term customers.
While Google is the world’s dominant Internet company by far, in revenue and profit, it seems to have lost faith in itself.
There is a possible rebuttal to this argument. The business of selling coupons has a dirty little secret: Many coupons are never redeemed. It may be that for some Groupon merchants, even a 75 percent discounted sale is thus profitable. But if the reason Groupon is useful to a merchant is because of this, how would that square with Google’s corporate goal of avoiding being evil?
Google’s interest in Groupon appears driven by a sort of odd desperation. While Google is the world’s dominant Internet company by far, in revenue and profit, it seems to have lost faith in itself.
Even showing such dramatic interest in a discount email company inherently makes a statement that Google’s core product—the AdWords advertisements that accompany consumer searches on Google’s search engine—isn’t working well for local advertisers. If it were, there would be little need for something like Groupon. And for many categories of advertising, local merchants have little chance of achieving any useful advertising placement in Google search results.
But the best solution to Google’s local-business problem may not be to buy a discount email company. Groupon isn’t even a technology company, for goodness’ sake. It’s a discounter that happens to use the Internet. And not even the modern Internet, but rather old-fashioned email! The barriers to entry in this business are extremely minimal, as is evidenced by the 150 or so copycat companies that are already operating around the country. And Groupon does have substantial competition, notably LivingSocial, in which recent reports suggest Amazon is about to invest.
Oddly, Groupon depends for much of its success on the company Google increasingly hates most, Facebook. Groupon customers have an incentive to get more people to accept the offers they like, because otherwise they do not become valid. So users typically promote favored offers to friends on Facebook, using status messages and by other means. Google can surely give Groupon major boosts with its own services, for example by featuring Groupon offers in Google Maps. But Facebook is still likely to remain a key ingredient for Groupon’s success.
Google does need to make a stronger play in local advertising. It seriously negotiated about buying Yelp, which rates local retailers, but failed to conclude a deal. Meanwhile, Facebook is steadily powering forward with its 600 million-plus users, most recently by announcing a way for merchants to present discounts and other sorts of offers to users when they announce their location to their friends using the service’s new Places product.
Google’s vaunted reputation as the company to beat in tech has already taken a number of hits recently. Many top employees have defected to Facebook. The European Union this week announced it was launching a formal antitrust investigation into Google’s business practices. If it squanders its money in this way on Groupon, it will further reinforce the impression that Google is suffering from a failure of imagination and of leadership.
David Kirkpatrick writes about technology for The Daily Beast. A former Fortune reporter, he is the author of The Facebook Effect: The Inside Story of the Company That Is Connecting the World.