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Daily Deals do More Harm than Good for these 10 Industries

|Includes:GOOG, GRPN, KR, Starbucks Corporation (SBUX), SVU, SWY
By IBISWorld Consumer Products Analyst Mary Gotaas


Small businesses have embraced daily deals offered by companies like Groupon and LivingSocial as a way to drive sales amid a sputtering economy. But, the strategy to increase revenue by using daily deals is not the wisest move for businesses with small profit margins and only a few locations, especially those in the 10 IBISWorld industries highlighted in this report. Companies present in these industries have already experienced poor performance during the recession and daily deals are unlikely to bring them back to prerecession levels. In fact, these deals might be detrimental to their performance, pinching profit margins further and enhancing the risk of closure.

Struggling during the recession
Industries that provide discretionary products and services to consumers have experienced declining clientele in the past three years, and a strong rebound is highly unlikely. These industries, including interior designers, tour operators and nail salons, offer luxury services that are heavily dependent on consumers’ willingness to spend. It is no surprise that these industries have not fared well amid markedly high unemployment and low disposable income during the Great Recession.

Consumers shifted their spending patterns substantially and switched to cheaper substitutes to save money. For instance, instead of paying for an expensive espresso, many Americans opted for standard coffee. Other consumers chose to give up certain luxuries altogether, such as acupuncture and vacations, which hurt revenue for alternative healthcare providers and tour operators, respectively.

Although the shift in consumer spending affected almost all American industries, those with high competition, low concentration and low profit margins have had more difficulty recuperating. These industries operate with many competitors and gain business by offering price-competitive services. Price has been one of the major determinants of consumer purchases during and after the recession, leading consumers to visit the shop that is the most affordable. Further pressure is placed on profit margins in these industries as consumers stay cost conscious. Additionally, low profit margins increase the risk that a firm will be affected by a shift in sales. For instance, when sales declined 8.9% in 2009 for the Hair and Nail Salon industry, 3.5% of the salons closed. Also with low profit margins like those in the Supermarkets and Grocery Stores industry (2.0%), firms hesitate to lower prices further because they fear the price change will not boost sales significantly enough to increase or keep profit margins at the current level.

Enter daily deals
After struggling for a few years, many of these industries have tried to increase their sales by offering group discounts through websites like Groupon and LivingSocial. Despite many firms’ reluctance to lower prices amid sluggish growth, firms increasingly use daily deals because it does not cost anything upfront to gain customers. Providing group discounts through websites can also increase the company’s visibility because these sites generally have a very large number of subscribers that are unfamiliar with many of these retailers.

There are substantial risks for small businesses that use daily deal websites to drive customer traffic, though. The discount is often too steep that the company only breaks even or even loses money on their offerings, leading to a decline in profit margins. Most group discount providers take a fraction of the revenue reducing the companies’ gains from the discounts.

Furthermore, many customers who purchase such discounts do not become regular customers, defeating one of the main purposes of the coupon. This is especially true among highly competitive industries, such as coffee shops and snack shops. Consumers may go to the local coffee shop to use their coupon one day and then return to their normal habit of Starbucks the next day. This trend is also apparent with more experimental services. Some consumers want to try acupuncture but don’t intend to make it a regular habit. In sum, by accepting a large number of daily deals, small businesses actually experience a drop in profit margins and fail to acquire new customers—this is a losing strategy.
Here are the 10 IBISWorld industries that are most adversely affected by using daily deal websites to drive revenue:

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