digital intermediation in electronic commerce
Alina M. Chircu, Robert J. Kauffman and Bin Wang
3
INTRODUCTION
Interactions between buyers and sellers in a market normally reflect the existence of a transaction process, in which goods or services are exchanged between customers and suppliers (Bakos, 1991). This process may involve none, one or several intermediaries, depending on the kind of the goods or services that are involved in the transaction, and other situational factors (Spulber, 1999) (see Figure 3.1).
Since the middle of the 1990s, new technologies for electronic commerce on the Internet have dramatically changed the spectrum of
possibilities for making transactions in the marketplace. Such technolo-gies have also changed the manner in which the various players are able to interact (Benjamin and Wigand, 1995; Rayport and Sviokla, 1994;
Whinston et al., 1997), and the present value of growth opportunities that market-transforming technology companies create (Dehning et al., 2003). Consider such well-known players in electronic commerce as Hotwire, Orbitz, Amazon and eBay. (See Appendix 3.1 at the end of this chapter for background information on all organizations mentioned in this chapter.) Hotwire has been highly successful in providing a buyer-driven marketplace for leisure travel services, putting some control back into the hands of the consumer, similar to the market pioneer, Priceline.com. Orbitz, meanwhile, emphasizes greater transparency on prices and travel itineraries for its customers, and has recently led the way towards reductions in the informational biases of online markets.
Amazon, over the years, has embedded collaborative filtering technology that enables the appropriate book and movie titles to be shown to the right kinds of customers, in effect digitizing the expertise the firm has with respect to the market for books and DVDs, and the related consumer demand. And LetsBuyIt.com has created a group-buying auction market that permits consumers to engage in intermediated
‘power buying’, which results in lower prices as more buyers partici-pate (Kauffman and Wang, 2002). eBay, as the title of this chapter suggests, has been highly successful over the years since it was founded in improving market liquidity for all kinds of goods. These include collectible goods, which do not always transact as easily as other com-modity goods such as books, CDs and new cars. Today, they also include the stale inventories of major corporations, such as Best Buy in the United States, whose senior managers decide at some point that the time of sale becomes more important than the price of the sale. Such decisions warrant the use of an unbranded ‘fire sale’ auction channel, which eBay is able to supply.
Investors, observing the continuing digital industrial revolution, have also recognized the long-term value of the related stocks, especially for
Supplier
Customer Transaction
process
Figure 3.1 The transaction process
those companies which have been able to operate in breakthrough markets.
Day et al. (2003) coined this term and contrasted it with reformed markets.
The former is possible when the technologies of the Internet and e-commerce fundamentally change the basis for competition, lead to the creation of new products and services, and completely alter busi-ness processes. When more modest changes occur – for example, the rehosting of a business process with a similar design overall, or the use of similar selling mechanisms as in traditional stores, only in the online channel – reformed markets are more likely to be seen. These are less likely to win extraordinary value in the equity markets, though they may be critical to support a strong and effective multi-channel strategy. Some examples that come to mind are the large American retailers Wal-Mart, Target, the Home Depot and Best Buy, which collectively operate hun-dreds of physical stores, but also operate in the Internet channel with Walmart.com, Target.com, HomeDepot.com and BestBuy.com.
The reality of the late 1990s capital markets for e-commerce and dot.com firm equity, however, was well understood by David Baltaxe, an industry analyst for the Web-based e-journal Current Analysis. He noted the ‘irrational exuberance’ and inappropriate willingness to take risks of e-commerce sector investors, in spite of the sometimes sketchy and poorly thought out business plans that were offered:
You have no idea how many companies come in with a five-minute pitch:‘We want to be the eBay of blank.’ Just fill in the blank for a country. That’s the entire business plan. (Baltaxe, 1999)
Today, the truth of Baltaxe’s words continue to ring in our ears – as well as in the ears of venture capital investors, who lost a historically large amount of wealth during the ‘dot.com crash’ of 2000 and 2001. During that period of time, many of the market indicators had pointed towards high value for the new forms of digital intermediation that Internet firms were expected to be able to achieve in the financial markets.
We recognized some of the potential problems in this market when we wrote an earlier version of this chapter a number of years ago. The high market capitalizations of some of the best known dot.com firms of the time may not have had a rational basis in terms that an investment banker might understand in the markets we have today. Table 3.1 reports on the stock prices and market capitalizations of some of these dot.com firms in 1999, with updates for 2006. It is easy to see that both stock prices and market capitalizations are now more in line with those of traditional firms, and that a number of dot.com firms are no longer
low high price (mm) ($mm) low high price (mm) ($mm)
● Booksellers
Amazon $13.37 $221.25 $115.25 163.122 $18 799.80 $34.41 $52.50 $26.78 418.942 $11 219.28
BN.com $14.12 $26.62 $20.82 25.000 $520.50 40% owned by Barnes & Noble’s Bookstore and 40% by Bertelsmann AG, 1999.
Acquired: Barnes & Noble’s bought back in early 2004 at
$3 per share.
Barnes & Noble’s $18.50 $40.25 $24.50 69.005 $1690.62 $32.64 $48.41 $26.41 84 180 000 $2223.19
● E-auctions
eBay $8.43 $234.00 $169.75 127 185 979 $21 589.82 $22.83 $47.86 $24.12 1415.394 $34 139.31
OnSale $10.62 $108.00 $17.50 19 188 571 $335.80 Acquisition and name change: Egghead.com in November 1999.
Priceline $58.00 $165.00 $109.13 142 809 072 $15 584.04 $18.20 $32.66 $26.41 42.425 $1120.44
Sotheby’s $15.00 $47.00 $35.44 57 352 804 $2032.44 $15.01 $33.84 $28.43 63.657 $1681.17
uBid $30.00 $189.00 $35.06 8 909 804 $312.40 $4.50 $7.20 $5.30 20.333 $107.77
CDNow $7.00 $39.25 $17.06 29 483 956 $503.07 Acquired: Amazon.com, 2002.
Doubleclick $6.75 $176.00 $87.50 39 580 000 $3463.25 Acquired: Click Holdings, Hellman & Friedman, and JMI Equity, 2005.
MarketWatch $45.50 $130.00 $50.00 11 750 000 $587.50 Acquired by Dow Jones and Co., 2005.
Net Perceptions $18.50 $35.00 $16.50 21 321 212 $351.80 $0.53 $0.90 $0.64 29.113 $18.63
Notes: 1999 data are as of 27 May 1999; 2006 data are as of 7 August 2006. Certain low and high prices do not reflect a 52-week period due to stock offerings. The initial public offering (IPO) of DLJDirect.com occurred on Wednesday, 25 May 1999. Net Perceptions’ IPO occurred on Friday, April 23, 1999. BN.com completed its IPO offering on May 25, 1999. The traditional basis for evaluating equity prices fails in the case of Internet stocks. Equity values are typically computed using two bases: discounted current and future earnings and the present value of growth opportunities (PVGO). Since future growth opportunities are so uncertain for the companies listed, one expects to see large variances in Internet firm asset prices over time. The price ranges that are observed indicate the extent to which variations in value are observed, driven to a large extent by under-informed (but certainly interested) investors with ‘great expectations’ of performance. For additional information on equity evaluation in this area, the interested reader should see Burnham (1999), which did a good job to guide many individual investors during the dot.com bubble in the stock markets. Sources: Castonguay (1999), PR Newswire (1999), Quicken Excite (1999), Marketwatch.com (2006), Reuters.com (2006), and annual reports of firms.
operating on their own, as a result of successful sell-out strategies, acqui-sitions under market pressure and bankruptcies.
In this rapidly changing environment of innovation, there are many products and services that could not be offered in the way they are offered today without these technologies. Along with eBay, FirstAuction.com, Onsale.com and uBid.com, among others – the new electronic consumer auction markets of the Internet – come to mind.
These digital intermediaries were among the first to create opportunities for transactions to occur that simply did not previously exist in the marketplace (Bailey and Bakos, 1997). They also offered – and some-times required – new roles that intermediaries had not taken on before.
Furthermore, the traditional processes associated with transacting may have been fundamentally changed. As a result, some intermediaries saw their roles threatened by new competitors that appeared in the market in the late 1990s. This led to new opportunities for IT-focused middlemen (Bakos, 1998).
Most digital intermediaries support the interaction of buyers and sell-ers on the Internet. As a result, we have seen the emergence of a new organizational form that moves in to fill a gap in the existing organization of various industries: the digital intermediary or cybermediary (Sarkar et al., 1995). This digital support role – emphasizing buyer/seller intermediation – generally is not assumed by traditional players right away and, as a result, we have often seen new entrants to the market acting in this capacity.