May
26

Is Groupon Worth It? – Do the math.

By on May 26, 2012

A colleague recently asked what I thought of Groupon for the independent restaurant business.

My gut says it’s probably not a good idea, but it depends almost completely on how much additional business at regular prices you think each Groupon will generate for you.  Let’s do the math to see when it is the right decision.

Assume you sell a $20 Groupon.  That means the customer paid $10 and you received $5.  Let’s also assume that your variable costs are 75% of your normal price (50% food cost, 25% labor).  This means for each $20 Groupon, you put $5 in your pocket but paid out $15 in costs for a net loss of $10 per Groupon.

You need to sell an additional $40 in product at normal prices to make $10 in profit to offset this $10 loss.  So, if you believe each Groupon will generate additional regular price business at 2 times the Groupon value, then you will break even, not make money, break even.

In this example, if you only have 25% gross margin (75% variable costs) you need to have incremental sales at least 2 times the Groupon value to justify it.  However, if you have 50% gross margin, the math works out that you only have to sell half the Groupon value incrementally.  The lower your variable costs, the more likely Groupon will be valuable to you.

Page 5 of “The Uniform System of Accounts for Restaurants, 8th edition” says that “A prime cost (cost of sales plus labor) of 65% or less in a full-service operation generally offers a restaurant the potential to earn an adequate bottom-line profit …” If you have variable costs of 65%, your breakeven point for Groupon is selling an additional $1.15 at regular price for every $1 of Groupon.

No matter your costs, you have to generate a lot more full price business just to break even.  This may seem unreasonable, but there are three ways Groupon can help generate additional business.

1. That customer buys a lot more than the value of the Groupon during the visit.  You can help this along by offering a Groupon value that is much lower than your normal ticket value.

2. That customer returns and buys more.  Ideally, you create a loyal customer by offering great value and service.  However remember, when you attract customers with low prices, the type of customers you attract are the one who are the most price sensitive.  They are more likely to follow the coupon than be loyal.

3. The crowds at your restaurant attract more people that wouldn’t have tried.  Find ways to show off your crowd and definitely gather testimonials.

My advice to you before using Groupon is do the math.  Know how much additional full price business you need to generate just to break even.  Do you think you can achieve that and more?  If so, it may be worth it.  If not, well … try something else.

Mark Stiving, Ph.D. – Small Business Pricing Expert

Categories : 2. Price Segmentation, Strategy
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Comments

  1. Mark Stiving says:

    Jeremy Lichtman created a web page to help figure out the potential effect of Groupon on a business. Check it out if you’re thinking of using Groupon or similar.

    http://lichtman.ca/coupon-calc/

  2. [...] beneficial to the business itself.  While there is mixed evidence and reviews on this according to Pragmatic Pricing the below example breaks down the business side of Groupon very well Assume you sell a $20 [...]

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