Groupon Rewards Program: The Top 3 Things Merchants Misunderstand

10/20/2011 09:01 am ET | Updated Dec 20, 2011

Loyalty. The final frontier. Every daily deal peddler is out there trying to conquer it. Perhaps no one more so than Groupon. And for good reason. In many ways, the success or failure of their IPO is hinged on their solving this monster of a merchant complaint: that Groupon customers simply don't come back.

Never one for subtle movements, Groupon's come out swinging at loyalty. Unfortunately for Groupon, just shouting "loyalty" a bunch of times doesn't make it true.

It might sound good in the press. It might get "Groupon" and "Loyalty" in the same search string on Google. And it'll definitely get IPO-crazed investors to perk their heads up.

Even more importantly, it might even get some merchants interested in trying Groupon again. But they won't do it for the long run. Why? Because Groupon isn't quite representing their new product accurately. Once you peel back its many layers, Groupon Rewards is less of a parfait and more of an onion.

And we're in a unique position to know.

Here's why:

We launched a similar pilot product (a previous iteration of LevelUp) in Philly six months ago. The initial pilot of LevelUp served up three increasingly better deals to the same place in hopes of encouraging repeat visits. And it worked, but not well enough -- so we evolved it into something better. (We relaunched LevelUp eight weeks ago and now, with truly epic results around customer loyalty, have recently doubled our active cities.)

But that's a whole different topic. In short, Groupon Rewards Team, we get it. It makes sense to target a "pre-warmed" and innovative city like Philadelphia with your new product.

But, given our experience in game dynamics -- particularly using progression dynamics to motivate customers to return -- and our deep merchant relationships in Philadelphia, we wanted to both share some things that we learned in our initial LevelUp pilot and also clarify for merchants how Groupon Rewards actually works.

[But first a message to the Groupon Rewards Team: We understand that you have a complex product and you've got a big sales team, so we get that your team might not have had all the answers up front. So allow us to welcome you to the city of brotherly love with a helping hand.]

Without further ado, may we present the a primer on Groupon Rewards for our merchant partners in Philly (and merchants everywhere, for that matter):

1) Didn't like offering one Groupon? How about two? Groupon Rewards, at its most basic, is just two Groupons mashed together. Buy one to try the merchant at 50% off. Spend some money there and unlock a second Groupon at that merchant which is ~80% off.

What We Learned: We tried this with the first version of LevelUp. The only difference was that we had three deals in a row. And frankly, we learned that retaining customers with heavier and heavier discounts might work OK, but it gets you the wrong type of customers. Even worse, it re-normalizes price expectations for the customers. (In other words, once the deals stop, the customers are gone.) Together, these were two of the biggest reasons we shut down that version and evolved LevelUp into something better.

2) Credit Card Linking Works, Sometimes: Groupon Rewards tracks the long-term spending habits of a consumer by tracking his or her credit card purchases and sending them back to the merchant.

What We Found: We didn't actually take this approach, but we did research it heavily. We found that this doesn't sit well with many consumers, and isn't entirely accurate for the merchant either. Depending on the compatibility of terminal mappings of the credit card processing company with the systems Groupon has in place, tracking credit card usage only works about 80% of the time. That may sound like a good figure, but a 20% fail rate when dealing with consumers and loyalty is just too high of a margin of error, potentially opening up customer service departments (sometimes directed at Groupon, but mainly at the merchant) to tons of complaints.

3) 100% of profits = wow. On the first deal in a Groupon Rewards structure, the merchant gives Groupon 50% of the deal value. On the second deal, Groupon keeps 100%. Wow! As a pre-IPO investor, I'm elated. As a merchant I'm disgusted.

What We Tried: With the first version of LevelUp we took 0% on the first deal, 25% on the second two. The theory was that if we didn't produce any value getting a customer in the door once, we could made our money when we did our job, I.E. bringing them back again. Sounds friendlier right? But remember, that version of LevelUp wasn't good enough, so we shut it down in search of something better. (Remember our "re- normalization" point?) We found a better way to reward customers for coming back while motivating them to pay *full* price on the second (and third) visit. Groupon's version is just plain wrong. There's no two ways about it.

Why did they make this decision? The theory, as far as I can tell, is that Groupon assumes that if they offered the merchant a share of the second-phase deal, the merchant would want to charge as much of the full value as possible, to maximize the amount of profits they actually receive. But if Groupon takes 100% of the sale price, then the merchant doesn't really care how it's priced to the consumer and Groupon can artificially make the discount as high as they want (definitely better than 50% for sure). That improvement (progression) is critical to pitching the product to a consumer. So they ask the merchant to do a 100% write-off and make some margin for themselves in the process.

In some crazy world where cats talk, that logic makes sense. In the real world (or at least in Philly) it doesn't.

So my message to merchants is this: Don't fall for this latest daily deal [Grou]Ponzi scheme. And don't get CSOI'ed by a Groupon Rewards rep's fancy "accounting practices" - aka taking 100% of the money that should be yours on the second transaction. Using ever-increasing discounts to bring customers back might fill your seats, but it'll empty your coffers. Groupon Rewards is just more of the same from Groupon and as far as I'm concerned, it's time we changed the game when it comes to local businesses and loyalty.