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Groupon Is Ruining Your Neighborhood: It's the Crack Cocaine of Small Business

The backlash against Groupon (GRPN) has begun, and it's not over the dodgy accounting in the daily deal company's IPO. Rather, the grumbling is about Groupon's effect on small businesses and whether it ultimately helps or hurts local economies.

A "study" by Ed Lang, chief economist of the Community Sustainment Coalition, claims that every dollar spent on Groupon lowers the property value of 12 surrounding properties by about $1 each. I put the word "study" in quote marks because the data in the paper is pitiful; the CSC has no web site, and the paper was forwarded to me by Applaise, a Groupon competitor that sells localized daily deal services.

That said, the study points out a truism: Whenever your local cafe, bar or yoga studio offers a Groupon, then Groupon takes about half the value of the coupon for itself. That money is removed from your community -- from your local businesses, the people they employ, and the vendors who supply them. The study estimates that for each dollar taken by Groupon there is a downward multiplier effect on the neighborhood which results in the loss of about $12 more. Absent Groupon, all those dollars would have been spent locally, albeit at different businesses, assuming that the spender was looking for a bargain.

The estimate is garbage -- it's based on a poll of four attendees at the International City/County Management Association conference in San Diego. But that's not the point. It's the idea which is compelling: If you agree that a dollar transferred from your community to Groupon's Chicago HQ is a dollar that never comes back, then you have to agree that Groupon may damage local business.

There is some anecdotal evidence that this might be true. Last year, the tale of one Portland cafe owner who signed a ruinous deal with Groupon became something of an Internet meme. She lost $8,000 on the deal -- a huge sum for a small business -- in part because Groupon did not allow her to limit the number of deals sold.

Groupon is like crack for small business
More recently, data from a service that books hair salon appointments in the U.K. and Ireland for Groupon suggests that only 1% of Groupon customers become long-term customers of the merchant. Worse, Groupon ends up being the crack cocaine of small business:

... an increasing number of smaller salons now survive solely on Groupon deals. This phenomenon happens when a salon runs a very successful Groupon deal but spends so much time servicing it that they lose all their original clients. They then have no choice but to go back to the well and run another Groupon deal just to ensure their survival. These salons are then caught in a deal-loop where they can't escape Groupon!
It all dovetails with a post on Gawker, in which small business owners describe mixed results from Groupon. The thread is interesting because they all experienced the same thing: A flood of new customers. What none of them report is the conversion of those customers into regulars. Some owners hated it, but that appears to be because they were bamboozled by Groupon's math. Note that the massage studio owner who reported success also rigged her "$50 for $100 of services" offer so that customers would have to pay an extra $20 for an extra service to get the full $100 value.

And it correlates quite nicely with the fact that Groupon's own numbers show that it makes a declining number of dollars per merchant on average than it did in 2009 -- which suggests that once a merchant is bitten by Groupon they become twice shy.

But back to the notion that Groupon will ruin your neighborhood by sucking money out of it. It's true, according to Sucharita Mulpuru, a vp/principal analyst at Forrester Research, writing in Forbes about why this makes Groupon a bad stock:

Let me be clear, this is fundamentally a decent economic model -- there are no expensive fixed costs and the merchant bears the inventory risk. ... it relies on discounting products which attracts the wrong customers, merchants are hard to sell, good merchants are more expensive to sell to, etc.

Related: Image by Wikimedia, CC.