Is the Local Deals Industry Heading for Segmentation?

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A recent Street Fight article discussed the important role that relevance is playing in making deals better products for both consumer and merchant. On the consumer-side, a deluge of companies has entered the space offering increasingly sophisticated targeting capabilities. This makes sense: the barriers to entry for distributing deals site are relatively low and white-label platforms are enabling anyone with a local audience or email list to take a sliver of the pie.

“[As a venture entering the market,] the consumer end is a mess,” says Stuart Wall, CEO of Signpost, a service that allows merchants to create and distribute customized offers. “It’s so noisy with daily deals that we think it’s at a point that nobody can win.”

Wall believes that the 2.3 million dollars per day that Groupon is spending on customer acquisition is actually ROI-negative: “If you look at the lifetime value of an inbox for Groupon, every time that person subscribes to another daily deals newsletter, the value of that subscriber goes down.”

While distributing deals to consumers continues to be an obscenely competitive space, the sourcing of local offers — the nitty-gritty business of building relationships with local merchants — is showing much less fragmentation. Dan Visnick, VP of marketing at recently acquired The Deal Map, dropped a fascinating statistic at the recent Deals 3D conference, revealing that 40 percent of the deals distributed by the company are still controlled by only two sources.

“The problem with local has always been that the cost to sell to a small business is high and the ability to monetize these relationships is relatively questionable,” says Wall. In conjunction with a round of funding raised in 2010, Signpost narrowed their focus to deal exclusively with this merchant acquisition issue.

Signpost’s solution combines an Examiner-like model, where community members can earn shares of potential profit by introducing Signpost to local businesses, with a semi-self-service deal-creation tool that enables SMBs to create customized deals.

What Signpost and others are betting on is a major specialization of the deals market. “It used to be that things were vertically integrated,” Wall explains. “Companies like Groupon and LivingSocial do their own proprietary sourcing, they manage their inventory, and they also have all their own customers on their email list.”

“The problem with local has always been that the cost to sell to a small business is high and the ability to monetize these relationships is relatively questionable,” says Wall.

The change appears to be largely a consequence of basic market dynamics. Thomas Cornelius, CEO of the offer exchange Adility explained the shift: “With a model like Groupon’s, the incentives are not aligned with the merchants. If you are going to take a dollar out of a pocket of a merchant, you have to put a dollar ten back.” The 50% discounts that Groupon and others use to entice consumers to purchase offers effectively alienate the very merchants from whom the offers are being sourced.

Wall believes that the “stack” — a term used to describe the spectrum of companies in a single industry — is dividing into three major segments: distribution, exchanges, and merchant specialists. Within each segment, a few companies will compete for market share, innovating their products around their particular clients’ interests.

Cornelius equates the specialization of the deals market to the evolution of ecommerce in the ’90s: “In the beginning, Amazon had to build the whole stack themselves, from processing to connectivity. But as the market matured, especially where there were ongoing integration efforts, you were able to come in and plug in something like a payment gateway.”

Both Cornelius and Wall stress that the local offers industry is still very much in its infancy. “There is an opportunity for vertical integration when you’re pioneering a market,” says Cornelius about the Groupon and Living Social model.  “However, as the market matures there are greater opportunities for fragmentation.”

A big part of this growth is an increased awareness amongst local business owners of opportunities in the space.  The big guys have used their massive sales forces to educate merchants and thus, build the market, says Cornelius.

Image courtesy of Flickr user Beta-J.