Capacity Concerns in doing Daily Deals

In my critically acclaimed book, “To Group Coupon or Not: Small Business Guide to Groupon and LivingSocial“, I introduced a 4C model to evaluate the relevance of Daily Deals to small businesses. One of the 4Cs is Capacity. We have seen many stories on how stores that did outrageous deals (or as Groupon says in its Ads, ridiculously low prices) were run over by  a mob of deal seekers. Very recently a British cupcake bakery was in the news for the same reason.

It is likely that these are extreme cases (that is why they are reported in the national news media). Most businesses may not see a mob scene. The limited takeaway here should be, these businesses did Groupon like Daily Deal promotions without understanding their capacity utilization and suffered the consequences. Your small business should not do the same mistake.

The questions small business owners need to consider are

  1. Should I be doing the 50% off daily deal given my current capacity utilization?
  2. What is the arrival pattern of deal seekers compared to my regulars?
  3. Can I manage their arrival rate to better utilize my daily excess capacity?
  4. What are my new capacity costs, opportunity costs and gains if I did a daily deal?

When I was explaining my Groupon calculator and capacity utilization to a Small Business consultant, she remarked,

But small businesses, especially salons and cupcake bakeries do not know what capacity utilization is or how to measure it. How should they do it?

Mind you, there are sophisticated capacity utilization software used by Airlines and Hotels. The methods should be simple enough for most small businesses to not only understand and but also practice. For starters, I will refer you to a children’s show on PBS Kids called Cyber Chase.

Cyberchase

Past Perfect Prediction

Convinced that the last piece he needs to activate his powerful new machine is hidden in Slider’s garage, Hacker threatens to evict the teen unless he pays up on an old debt. Enter the kids and Digit. As a way to raise the money, they convince Slider to open the garage for business – just like his dad did. They do, but quickly discover that there’s more to it than meets the eye. Can they unlock the past to find the key to saving Slider’s future?

The kids run some sort of oil change garage to raise money. They have to order Cryoxide, the raw material that costs $15 a can (marginal cost) and expires at the end of the day (capacity cannot be carried over). They charge $32.5 for the service. They place an order for Cryoxide the previous day and it gets delivered next day morning.

The key here for these kids is to understand current capacity utilization and use that information to place future orders so they don’t end with either excess capacity (which is a loss in this case) or shortage (which is lost opportunity). Here is how they go about finding their capacity utilization

  1. They find one receipt from their father’s files that shows a sale of 66 cans. Based on this data point the kids expect to serve 66 customers  – good start
  2. As it turns out they could use only 30 of the 66 cans. The excess capacity of 36 cans is a loss.
  3. They quickly figure out that that was just one data point and it was also from a Saturday whereas they started work on Monday.
  4. Their initial search gives them one past receipt for each day of the week – getting better
  5. Not satisfied with the data-set they search more and find receipts for the whole month – getting better. (Note the 30 number)
  6. They find the average demand across these 30 days use that information to place an order for each remaining day of the week – not bad at all, (roughly right beats precisely wrong)

Measuring your businesses capacity utilization is no different from this. Here is how you go about it:

  1. Data Collection: Like the kids’ father who kept receipts, you need to start collecting data on daily sales. You likely have this data already. You need to include in this data, weekday vs. weekend classification and exceptions like holidays.
  2. How many days worth of data is needed? The number 30 is not an accident. It is a rule of thumb for assuming that the data is normally distributed. In your case you need at least 30 days worth of data. That said, this should be a continuous process. You don’t stop collecting data after 30 days.
  3. Simple Estimate:  A simple estimate of capacity utilization is to calculate the average across these 30 days. You can use that as an approximate for future demand. You are not going to be that far off. You can stop here if you want to.
  4. Refined Estimate: You not only calculate the average but you also calculate the variance – how much the individual days differ from the average. You can use the average and variance to make statistical prediction about future capacity utilization (ask me how).
  5. Further Refinement: You can take it to next step separating your weekdays and weekends. Since you only have 2 weekend days vs. 5 weekdays, you will need to collect receipts over 4-5 month period. Once you have that, then you do Step 4 above for weekdays and weekends and use that to predict your future capacity utilization

This procedure only describes how to find your current capacity utilization. It gets complex when you do a Daily Deal. All your careful capacity management based on past receipts are not useful when suddenly 1000 people show up to buy your cupcakes. This is when you end up turning away your loyal regulars and more.

Now returning to the original capacity questions you need to consider before doing a deal

  1. Should I be doing the 50% off daily deal given my current capacity utilization?
  2. What is the arrival pattern of deal seekers compared to my regulars?
  3. Can I manage their arrival rate to better utilize my daily excess capacity?
  4. What are my new capacity costs, opportunity costs and gains if I did a daily deal?

Ask me how you can answer these.

3 thoughts on “Capacity Concerns in doing Daily Deals

  1. Yup. I couldn’t have said it better myself. Daily deals act as a supplemental hand only in the market. You don’t need to abandon old ways of advertising for the heck of following the hype.

    Like

  2. This is great insight. Too many business’ end up replacing their sales stream with traffic from daily deals. That flips a good idea into a bad one. It’s great to use excess capacity to replace a direct marketing cost, but if you have to start trading off full paying customers you’re losing each time.

    Like

Comments are closed.