LivingSocial under fire: Can daily-deal sites keep offering huge discounts?

“Today only, 84 percent off a massage!”

“Half off all garden tools!”

"47 percent off a family photo!”

If you have half a head for an online bargain, pitches like these in the form of e-mails from daily-deal vendors such as Groupon, LivingSocial, and a growing thicket of competitors are welcome messages in your inbox. Many of the sites simply require registration and, bingo, your digital world – from mobile phone to iPad or laptop – can begin to swell daily with invitations to snap up hyper-discounts on everything from personal hygiene to vacations.

But as this burgeoning virtual marketplace has blossomed over the past three years, so has criticism. Some businesses have been so overwhelmed by the sheer volume generated by a mass coupon exchange that they have almost been driven into bankruptcy. Other retailers, most recently movie theater owners, have fretted that the scale of discounts available has begun to train an entire generation away from paying a regular price.

It is, on one hand, part of the learning process for industries from retailers to newspapers, who are realizing how dramatically the online world can reshape their business. To some degree, merchants will simply have to adjust to a world in which consumers have more control.

But some observers say that the experience of recent years suggests that the hyper-discounts for which Groupon has become famous might not last. With such discounts so far not creating loyal customers, businesses are finding that smaller numbers of coupons – and smaller discounts – are better for business in the long run.

Big scale is what allowed this market to explode, says Kevin Wray, vice president of NimbleCommerce, which provides services to help businesses tap into the group-buying trend. But small scale is what’s coming next, he adds.

Groupon itself has already spun off a smart-phone app that delivers hyper-local coupons on the go.

But by and large, the growth of the industry has relied on big volumes and huge discounts.

“This is the fastest growing business sector I’ve ever seen online,” says John Buchanan, co-founder of Signpost, a self-serve site for companies to offer discounts.

Back in 2009, when he was a freshly minted business-school grad, he notes there were a handful of daily-deal firms. “Now, there are over 500 and counting,” he says.

The No. 1 daily-deal site, Groupon, “has gone from zero to several billion dollars in value in the blink of an eye,” writes Jeff Weidauer, vice president of marketing and strategy for Vestcom, a provider of integrated shopper marketing solutions to retailers and brands, in a recent blog. Groupon has announced plans to issue an IPO in the near future.

Meanwhile, LivingSocial, one of the next largest, is in 552 daily markets worldwide, according to spokesman Brendan Lewis.

A prime gripe from many merchants is that daily-deal “groupies,” grazing for that day’s most outrageous deal, don’t develop any brand loyalty. From the businesses' perspective, one of the main goals of offering the deals is to drive repeat business, says Terrence Rice, a Milwaukee accountant whose wife used Groupon twice for her business as an aesthetician.

She sold 900 deals, of which some 450 were actually cashed in, but fewer than 20 customers ever came back, in spite of additional discounts offered to the coupon users.

“It appears that Groupon fosters 'Groupon jumpers' – individuals that strictly purchase Groupon for the deal with little or no intention of utilizing the service, product, or restaurant again,” he says.

Groupon did not return a call for comment, though its website notes that “97 percent” of the merchants who use Groupon are satisfied. Mr. Lewis of LivingSocial points out “it is the responsibility of the merchant to provide the kind of experience that will encourage consumers to return.”

The barrage of daily deals, however, appears to have normalized the expectation that another discount is just around the digital corner. Grace Lavigne, a public relations professional from New Jersey, confirms that once initiated into the joy of going to the movies for half-price, “I won’t ever buy a regular movie ticket again.” She says there are too many deals out there to pay full price, “and I always know that another one is just around the corner.”

The experience of Los Angeles photographer Stuart Townsley offers a different perspective.

Mr. Townsley offered a private photo session and a canvas enlargement portrait for $69. According to Townsley's press representative, other local photographers sent him hate mail for undercutting their business. He was accused of being naive, and worse – stupid – for selling his services so cheaply, and he was warned by others who failed with Groupon that the deal would destroy his business.

But with some careful management of the number of coupons issued and diligence with the customers who came in, “It turned out to be a very good experience, which has helped my business grow.” Townsley says.

This sort of strategic implementation is the key to the next stage of the daily-deal phenomenon, says Mr. Wray of NimbleCommerce.

“Groupon has proved two things,” he says. “Consumers love outrageous deals, and merchants can use coupons to drive traffic.”

But, he points out, the company model has not figured out the next stage, which is how to drive loyalty and deep engagement. Smaller scale coupon offerings – like Townsley’s – allow for the kind of merchant/customer relationship that builds repeat business, he says.