Rakesh Agrawal's blog

IMPORTANT: Please see this page to see my current interests in Groupon.

Whenever I get into Groupon mode, people ask me about how LivingSocial and Google Offers are different from Groupon.

In many ways, they are the same. Any model that gives businesses cash early on in exchange for a promise of service to be delivered later is a financing business, not a marketing business. I use the analogy of receivables factoring or payday lending to describe the core U.S. Groupon business model. That also applies to LivingSocial’s and Google Offers’ daily deals product. Whenever you do that, you have a risk management issue. And I believe that no one in the space is handling the risk appropriately.

As a point of comparison, I tried one of my fraud tests against Square. About $11 in transactions that fit a pattern of potential fraud were enough to get my account shut down. Yet Groupon and LivingSocial are writing checks for tens of thousands with very little fraud prevention.

But there are some very significant differences among the players in the space:

• Scale. Groupon has the most scale by far. On a revenue basis, they are roughly 4x as large as LivingSocial, the #2 player.
• Management team. Groupon co-founder and executive chairman Eric Lefkofsky has a checkered past with his previous companies. The pattern is the same: he gets rich and investors lose. This CNN article is a must read for anyone interested in Groupon. Lefkofsky and his affiliated entities took nearly $400 million out of Groupon before the company went public. I worked with LivingSocial CEO Tim O’Shaughnessy during my time at Aol (although not closely). There was nothing in my interactions with him that suggested anything sketchy. He just struck me as an ambitious and energetic guy. It’s hard for me to believe that a $10 billion public company has a PR team as grossly incompetent as Groupon’s. LivingSocial’s is among the best I’ve ever worked with. (Disclosure: I worked with LivingSocial’s head of PR at Aol. He was the PR lead on one project I worked on. Groupon refuses to talk to me.)
• Company structure. Groupon is an independent public company, which means its moves are analyzed differently than LivingSocial’s (which is private) and Google Offers (which is too small to be material in Google’s results). This means they have to act very differently. Even if Andrew Mason agreed 100% with everything I’ve written, he might not be able to take corrective action because most of the necessary steps would require short-term revenue declines. LivingSocial, on the other hand, can do away with underperforming products like LivingSocial Instant. Because Offers is a tiny part of Google’s business, they can afford to build for the long term and do the right thing for small businesses as opposed to trying to extract as much money as possible now to satisfy Wall Street.
• Innovation. Although LivingSocial essentially ripped off Groupon’s business model, it has been much more innovative since. As a smaller company that is not subject to Wall Street pressures yet, it is able to try a lot of new businesses and see what works. This flexibility may be what saves LivingSocial while Groupon has to double down on a stupid business model to show revenue growth.
• A different focus. Groupon has set its brand to be all about price, which attracts the wrong set of customers for small businesses. Businesses want high-value customers, not cheapskates who will never return at full price. Just the brand names make a difference: Groupon sounds cheap; LivingSocial almost sounds classy. This may sound like a cheap shot, but I believe it makes a meaningful difference.
• Risk mitigation. LivingSocial has sales people on the ground in most of its markets. They actually visit the businesses and talk with business owners. Groupon has a lot of people in call centers in Chicago. Although LivingSocial has had its share of deals that go bad, having feet on the street is an important risk mitigation function. In theory, LivingSocial sales people can see if a business is shoddy or has gaping flaws that would turn off customers. I’m sure they’re not trained to evaluate risk as someone who knew they were in the receivables financing business would be, but it’s better than nothing. There are also structural differences: by being in market, LivingSocial salespeople don’t have as much incentive to screw over small businesses because they may have to revisit them. Groupon, with its call centers, creates bad incentives because sales people screw over businesses in smaller markets in order to get promoted into bigger markets where they get promoted.
• Groupon Promise. The Groupon Promise is the proximate cause of Groupon’s earnings re-statement on Friday. (There are others, but I’m simplifying.) LivingSocial and other players have not had anything like it. This creates a lot of overhang for Groupon in that they’re unconditionally backing the performance of small businesses over whom they have little control. It also opens Groupon up to refund abuse by consumers who just take advantage of the promise. As a consumer value proposition, it sounds great. But it creates a lot of risk for the business financially. It also creates legal and regulatory risk if they don’t live up to that promise.