May 28 (Bloomberg) -- When Philz Coffee Inc. offered half-price $20 gift cards to users of the Groupon coupon site, the San Francisco-based chain of coffee shops figured it would get a few hundred takers. It got more than 2,000.
“I nowhere near projected the amount of people that showed up,” said Philz President Jacob Jaber, who doesn’t expect to offer that kind of deal again. “We ran out of gift cards, and we just weren’t prepared for it.”
Philz’s plight spotlights a challenge facing Groupon Inc., which offers a daily deal to consumers in more than 140 cities. The site’s coupon-wielding hordes can overwhelm small businesses, rankling partners and customers alike. Overcoming those glitches will be key to helping Groupon maintain growth, hang on to its $1.35 billion valuation and possibly move toward an initial public offering.
Last month, the company got $135 million in funding from Digital Sky Technologies, the Russian investment firm that also owns a piece of Facebook Inc. Groupon is using the money to fuel growth. The company, which started in November 2008, aims to double its U.S. coverage to 100 cities this year.
Part of that effort is ensuring business partners aren’t overrun with customers, said Chief Executive Officer Andrew Mason. The Chicago-based company is beefing up its consulting programs to help merchants handle the surge of new business and retain those customers. In the coming months, it plans to add online seminars on marketing and redesign its business site to better prepare small-business owners for sudden demand booms.
‘Going to Be Crazy’
“It’s not in anyone’s interest if the merchant is so overwhelmed that they can’t provide the service they’re known for,” Mason said. “We say to businesses, the first day is going to be crazy. We’re always thinking of things to do to make our services better.”
When Groupon posts an offer on its site, it keeps 50 percent of the revenue that merchants get from the deal. Enough consumers have to sign up for the offer before it becomes valid, and businesses can set a cap on how much they want to sell.
The trouble is, businesses don’t always make the cap low enough. A nail salon in Boston sold 4,000 manicures and pedicures before Groupon discovered the shop had just two stations to serve customers, Mason said.
Merchants that find the onslaught of customers counterproductive are the exception, he said. About 97 percent of businesses the company has worked with say they will use the service again, according to Groupon surveys.
‘Who Do You Sue?’
The risk is that disgruntled users may turn around and sue Groupon, said Jeremiah Owyang, an analyst at Altimeter Group in San Mateo, California.
“Groupon could be liable for unfulfilled deals it sells,” Owyang said. “Imagine you’re a consumer and you didn’t get the manicure or pedicure you paid for. Who do you sue -- the small-business owner or someone who just got $135 million?”
The company hasn’t been sued for unfulfilled deals, Mason said. Groupon offers customers full refunds if they’re dissatisfied in any way.
“We don’t need to be sued to go out of our way to make sure our customers have great experiences,” Mason said. “We don’t anticipate businesses being overwhelmed being a long-term issue.”
Groupon’s daily deals have included skydiving trips, golf outings and spa treatments. The company bought Germany’s Citydeal this month for an undisclosed amount, bringing its services to 18 countries.
Mission Minis, a San Francisco bakery, got bombarded with 72,000 cupcake orders through a deal on Groupon. Since then, the shop has been baking as many as 1,700 a day to keep up with demand, versus about 800 prior to the offer, owner Brandon Arnovick said. His bakers are frazzled, he said.
“People were mad and angry,” Arnovick said. Groupon was the bakery’s only form of advertising since it opened in January. “They sent us a ton of customers, but we definitely got thrown into the ocean.”
Philz Coffee’s Jaber decided his company is established enough to rely on word-of-mouth marketing, rather than Groupon. Most of the users that pounced on the gift-card offer were already Philz customers, so it didn’t provide too much benefit, he said.
At Mission Minis, Arnovick says he should have stipulated that customers call 48 hours in advance and that the offer didn’t apply to deliveries. He says he’d consider another deal with Groupon, maybe at the height of the wedding season.
The experience taught employees how to deal with disgruntled customers, how many cupcakes they could bake quickly and how to work as a team under pressure, Arnovick said.
“It was fun kind of in a way,” he said.
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