Tuesday, May 24, 2011

How Do Penny Auctions Work?

How do Penny Auctions work? How can penny auctions offer such deals? These are some of the natural questions that arise when one first hears about penny auctions. However, before you decide penny auctions are scam, do learn about their business model. You will then know how penny auctions are able to advertise 95% off on goods without making a loss.

First off, penny auction advertising is misleading. Though it is true that you can get 90% or 95% or 99% off, it is just a chance. That is like a casino advertising "Get 1000% return on your money!" Well, technically he is not wrong - you might end up getting 10 times the money you "invested" but that is not the whole story.

How Do Penny Auctions Work: Business Model 

Penny auctions follow the business model of "Bidding Fee" auctions. This is a whole class of auctions in which there is a fees for bidding. In these auctions, unlike traditional auctions like eBay, every bid you place needs to be placed in advance.

Now, there are many different forms of bidding fee auctions. Penny auctions are the most popular. Other forms include lowest unique bid auctions or hidden limit auctions as well. In all these auctions, bidding isn't free. However, penny auctions are the most popular and this is exactly how they work:
  • Bidders buy bids priced usually from $0.50 to $1.00 
  • The items usually start at $0.00 and increments by $0.01 each time a bid is placed. 
  • Each time a bid is placed, the timer increments by 10-30 seconds. 
So now, let us understand the business model from the point of view of the penny auction.
When an auction is started, it starts off at $0.00. Now bidders start placing bids and the price of the auction increments only by a penny (thus the name penny auction). This looks great because the real money is coming not from the auction price but from the bids used on the auction. A penny auction can afford to give away the final item for free, it doesn't matter!

For example, say there is a $10 gift card and the bids cost $0.60 (e.g. at Quibids) Suppose the auction ends at $1.00. This looks like a great deal, with 90% off retail, but look at how much the penny auction has made - 100 bids X $0.60/bid = $60. $60 on a $10 gift card that appears to be 90% off retail! That is how penny auctions work!

Are Penny Auctions Gambling? 

Now, comparing penny auctions to gambling is only natural, but I don't think that is the full story either. Penny auctions like Quibids allow you to use the money you lost towards buying the item at full retail. Casinos would go bankrupt if they did so. There are, however, some similarities. This is what prompted the decision in South Africa to consider penny auctions as gambling (and later revoked) and this is what the lawsuit against penny auctions was based upon.

If a penny auction has the Buy Now feature like Quibids does, then it is really hard to argue that penny auctions are gambling. However, without this feature, there are some arguments that do seem convincing. This is really a gray area and there is no definite answer to this question that is universally accepted.

Do Penny Auctions Always Make a Huge Profit? 

Not necessarily. New penny auctions do indeed struggle to make money initially. This is because they want to auction off big items like iPads and Macbooks in order to get the required publicity but in doing so, there are not enough bidders so these auctions can end really soon. This is also a nice strategy to use as a penny auction bidder: If you find new penny auctions that are not scam, then you can get really great deals in most cases.

Also, penny auctions with the Buy Now feature don't make a killing. In the previous example of $10 gift card being sold for $1, imagine that all the losers used their Buy Now and got this gift card at full retail, which is $10. In this case, the penny auction actually ends up making a loss. This is what happens at many auctions at sites like Quibids.

So now that you know how do penny auctions work, I hope you are in a better position to look for deals on penny auctions and deciding whether penny auctions are really for you or not. Like I mentioned, if you look for new and legit penny auctions, you will have a good chance of winning great deals.

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