eBusiness: The Hope, the Hype, the Power, the Pain

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The Strategies of eBusiness

Don’t look back, somethin’ might be gaining on you. –Satchell Paige

I'd be hard- pressed to say it's overhyped. We've set out to make Yahoo the only place anyone needs to go to get connected to anything. There's nothing in the real world to compare to that. -Timothy Koogle, Yahoo CEO

The last decade of the 20^th century must be viewed as a grand experiment in the application of classic business strategies in a rapidly moving and rapidly changing environment. Business experiments that previously took decades to play out were playing out over days, months, and years. Classic business planning had far to long a time frame to be of much use here. The race is to the swift.

We will particularly discuss the key efforts to obtain competitive advantage including:

· First Mover Advantage.

· Obtaining Market Lock-up,

· Cost of switching,

· Sticky Eyeballs

· Bricks and Clicks

· Winner Take All Markets

We will also introduce the Porter 5 force competitive analysis for eBusinesses.

First Mover Advantage.

If there is one thing that characterizes eBusiness, it is the importance of the first mover advantage. Those who have the idea, the resources, and the gumption to get to market first often have a huge advantage over the latecomers. In many cases Metcalf’s Law accounts for much of the advantage. If your network of customers or clients is twice as large as your competitors then your network has four times the economic value. This of course attracts more customers to your site, which disproportionately increases your value even further relative to your competitor. This kind of positive feedback loop quickly locks in your competitive advantage. Systems of this type are often referred to as “network economies.” Positive feedback systems are often referred to as exhibiting the “Matthew effect[1]” from Matthew verses 13:12 “For whosoever hath, to him shall be given, and he shall have more abundance: but whosoever hath not, from him shall be taken away even that he hath.” Positive feedback systems give to those who have and take from those who have not. That is often how competitive advantages are obtained in eBusiness.

Frank and Cook in “The Winner-Take-All Society” identify a number of factors for the development of winner-take-all markets.[2] These are: Production Cloning, Network Economies, Lock-in through Learning and Investment, Other self-reinforcing processes, Decision Leverage, Natural Limits on the Size of the Agenda, Habit formation or Acquired Tastes, Purely Positional (Status) Concerns, Gifts and Special Occasions, Avoidance of Regret, and Concentrated Purchasing Power.

Modifying that list in the light of the eBusiness experience yields the ten imperatives for sustaining a competitive advantage in eBusiness:

1. Production scale

2. Network Economies

3. Lock-in through Learning and Investment

4. Decision Leverage

5. Natural Limits on the Size of the Agenda

6. Habit formation or Acquired Tastes

7. Purely Positional (Status) Concerns

8. Avoidance of Regret

9. Concentrated Purchasing Power

Production Cloning: Competitive advantage can often come because there are significant economies of scale. Often the first copy of something can be enormously expensive, but every succeeding copy can be reproduced at a very small cost. The first copy of Microsoft Windows 2000, the Intel 64 bit chip, etc. can be remarkably expensive, while every succeeding copy cost pennies. This implies huge costs advantages to those with the largest markets and huge barriers to entry for those without.

Network Economies: The formation of auction communities such as eBay illustrates the inherent advantages to size. Once eBay had established a first mover advantage, it was enormously difficult for others to compete. A seller could find the most buyers on eBay and a buyer could find the most sellers. Why would anyone go to another auction site? eBay provides a place for buyers and sellers to meet to exchange goods through auction. The more buyers and sellers that participate, the more liquid the market and the better opportunity to get a good deal in buying and selling your goods. The first mover advantage enjoyed by eBay made it hard for buyers and sellers to switch to another site with fewer participants. Yahoo and Microsoft are both communities with lots of participants, but neither has yet been able to wrest leadership from eBay in on-line auctions.

In order to defend one’s network advantage, it is important to try to raise the cost(pain) of switching outside of the network. You want to be sure that your customers feel a loss if they leave. If they can get all the same advantages while not being part of your network, then the cost of switching is low and you will find it difficult to defend your network advantage. AOL has an enormous network advantage because of its commanding market share of users, and one of the most valued AOL perks is the ability to IM (Instant Message) your on-line friends. People want to be on AOL since so many other people are already there, and they do not want to be left out.

If you are trying to break down someone else’s network advantage, then you will try to lower the cost of switching. Phone companies do this to an absurd extreme by paying customers to switch to their networks. If you are one of the networks competing with AOL (MSN, Yahoo, etc) then you have t find a way to lower switching costs. A key element of that strategy is to allow your customers to IM AOL customers. Thus networks have created their own IM systems that they hope to make compatible with AOL IM. Since AOL wants to defend it advantage under Metcalf’s Law, it would be to its advantage if their rivals were unable to do that. AOL has made a systematic effort to frustrate this access while justifying its actions as “defending the integrity of their user’s experience.” More cynical observers have attributed their actions to a desire to make it difficult to switch out of AOL.

Cumulative advantage through learning and investment: A company that establishes a competitive advantage can often maintain that competitive advantage through learning and investment. The rate at which any technology is improved is related to how dominant it is in the market. The dominant technologies are improved faster than the also-rans. This results in a cumulative advantage that can quickly become overwhelming. Microsoft Windows is a classic example of a technology that was very slow to be adopted until is had achieved a certain market penetration. At that point the cumulative investment of Windows developers created such a rich set of applications that no other operating systems could compete. Similarly, the Oracle database did not originally enjoy a commanding market position, but once an advantage developed it began to drive the market for database applications and attract the lion’s share of investment.

Decision Leverage: There are times when a very small difference in ability might lead to a very large difference in value. By any objective measure Michael Jordan was only slightly better than his very talented competitors. He really could not jump that much higher than others. He was not that much more graceful. Not that much faster. But, when you put it all together and watched him play against his competitors those very small differences meant that he almost always came out on top in any one on one basketball contest. He made the others look like they were running in mud! His very slight advantage was worth almost any amount in salary because the consequences of his excellence were so dramatic. An executive like Jack Welch at GE is only slightly better than many many other middle level executives at GE, but the leverage of his decisions have such huge implications that no one would settle for second best at any price!

Natural Limits on the Size of the Agenda: There are only so many things that a single person can keep in memory. Thus the familiar has an enormous advantage over the unfamiliar. A person who is looking for a book on-line is likely to remember the address Amazon.com, but far less likely to remember any of the many other sites that also sell books. Why should they have to remember lists of names? Just type in Amazon.com and forget the rest! Amazon’s familiarity comes from its market position and first mover advantage.

An eCommerce business may simply be familiar because of general use unrelated to the site. There was a long and bitter battle over the ownership of the address “Sex.com” because it was the easiest thing to imagine typing in if you were an internet user interested in sex. Battles over familiar web site names have become commonplace in eBusiness. Enterprising individuals bought up the rights to many domain names that are common trademarks for established businesses. In many cases the business had to pay millions to acquire the domain names from the original owners. In other cases businesses failed to recognize the value inherent in domain names and then were forced to acquire the domain name later. When Alta Vista discovered that someone else trademarked the name, they negotiated to buy the trademark from the owner, but failed to recognize the value of the domain name. Later they had to acquire the domain name for millions.

Habit formation or Acquired Tastes: Once you have learned to use a search engine or other application, it is often difficult to convince yourself to change to an alternative. Yahoo established a significant first mover advantage in search engines and then in portals built around search engines. Although much better products eventually came to market like Alta Vista and XXXXX, they could not overcome the advantage that Yahoo gained by having so many persons who knew how to use Yahoo and were comfortable in using the site.

Learning lock in is a characteristic of many markets in the technology area. It explains why no company has been able to break the domination of Microsoft Office, why the Apple Macintosh continues to dominate the education market, and why computer keyboards still use a key arrangement specifically designed to slow down typists to avoid stuck keys.

Avoidance of Regret: Many years ago, the best advice given to new employees in the IT areas of corporations was “No one ever gets fired for buying IBM.” This piece of advice implies that the purchase of IBM equipment is the safe choice and the expected choice. If someone offers you a little better performance or a little better price, you had better think twice before accepting that offer. If it works you may be a minor hero. If it fails, you will surely be made to regret the purchase. Today the safe purchase might be a Microsoft operating system, a Cisco router, and Intel Inside PC, or an Oracle database. Competitors have a higher bar to clear.

Concentrated Purchasing Power: After Jim Clark founded Silicon Graphics, Netscape and then Healtheon, he came up with the idea for myCFO.com. His plan was to use the concentrated purchasing power of the wealthiest persons in the world to gain advantage over the suppliers of the financial and other services. He defined the wealthiest as those with over $10 million in net assets, and he called them the “wealthy masses.” He assumed there were over 180,000 persons in the “wealthy masses” and that they controlled over 15 trillion dollars in assets. He explained that “The power of that money is huge. You could go and cut deals with banks or brokerage firms or insurance companies or anyone else who wanted to do business with the money” His argument of concentrated purchasing power was so persuasive that, with no business plan, he persuaded John Chambers, CEO of CISCO, Tom Jermoluk, CEO of @Home, Jim Barksdale, CEO of Netscape, and John Doerr, of the Kleiner Perkins Venture Capital Group, to finance the venture!

Purely Positional (Status) Concerns: This can occur when there is a status that can accrue with one brand that is not enjoyed by another. This explains why Tommy Hilfiger clothing became so ubiquitous on urban teens and young adults in the late 90s.

Gifts and Special Occasions: Why do diamonds enjoy a special place in our purchasing patterns? Because they have become the special symbol of certain occasions and nothing else will really do.

Obtaining Market Lock-up,

There is one strategy for obtaining market lock-up that is particularly advantageous to eBusinesses, and that strategy stems directly from the three driving laws, Moore’s Law, the Bandwidth Law, and Metcalf’s Law. EBusiness is one area of the economy which generally experiences declining unit costs for many of the elements of products and services. This allows a lock-up strategy based upon creative use of long-term contracts and systematic renewal of contracts. If a supplier has a long-term contract with a vendor, then there is often an opportunity for the supplier to go to that vendor and offer attractive terms for early renewal. No alternative supplier can make the same offer at that time, since the contract already in force makes the costs of switching to a new provider prohibitive to the consumer. The supplier is able to offer the consumer a contract that will reduce the consumer’s costs over the existing contract since the unit cost of delivering the products or services has decreased. The consumers have a huge incentive to renew the contract because they stand to save money immediately.

The astute consumer will realize what is happening, but faces a difficult choice. Suppose the supplier and consumer have a three year contract for a certain service. Suppose also that the unit cost of providing that service has halved over the first 18 months of the contract. The supplier can then offer the consumer a new three year contract at a significant discount (say 25%) to the existing contract and still make a profit. The consumer can either agree and immediately reduce the costs of the contract for the remaining 18 months of the contract, or can chose to pay the higher price for the remaining 18 months in hopes of obtaining an even lower cost of service for the next three year contract. If the consumers elect to renew early, the supplier has effectively locked in the consumers. If the consumers chose not to renew, they pay a higher price for the remainder of the contract and then the supplier has to meet the market at the end of the contract. This is almost a no-lose situation for the supplier, because the supplier will continue to have other advantages based upon the cost of switching and should have a favorable position vis-à-vis other suppliers that are trying to win the business. The only possible disadvantage is the chance of upsetting the customer, but customers rarely become upset when offered lower prices.

Cost of switching: As we have seen, raising the cost of switching is an important aspect of obtaining market lock-up. Once your organization has the advantage of Metcalf’s Law, it needs to ensure that the cost of switching to another has more cost and more pain than the customer is willing to bear. This needs to be done quite delicately, since ham handed attempts to trap customers are usually obvious and often lead to the opposite effect of lowering switching costs. A customer that feels trapped is willing to pay a bit for freedom. The best way to keep a customer in your network is to offer better, more, and lest costly service than competitors. If the customer know that he or she can get more from your firm than from any other, then the cost of switching will always be too high.

Sticky Eyeballs: The investment community began to refer to the customers using the websites as “eyeballs.” The job of the sites was to “grab eyeballs.” The more eyeballs the better Metcalf’s law treated you. It was soon discovered that grabbing them was not enough. Once you got them to your site you needed to keep them there. Investors wanted sites with “sticky eyeballs.” The theory was that if you could keep them on your site, they were likely to bring you revenue.

Bricks and Clicks: At first it was thought that one reason Amazon.com had a huge advantage over Barnes and Noble was because it did not have a huge capital investment in “bricks and mortar.” Over time, that became less clearly an advantage. There was certainly the advantage of the lower capital investment, but there was a disadvantage in not being able to get product into the customers hands more quickly. Over the last two years we have seen the “brick and mortar” companies launch their own eCommerce arms using a variety of strategies. Some kept them as part of the bricks. Some spun them out into separate companies. The former had the advantage of building on the established brand name and closely integrating the strategies of the traditions retail with that of the eBusiness. The latter had the advantage of being unencumbered by the old ways of thinking, operating, financing and so on. In some cases the identification of the eBusiness with the tradition brand may not have been an advantage.

There are examples of successes and failure in both models. Better insight will need to await better (and more) experience and more research.

The Porter Five-Force Analysis of Competitive Strategy

Michael Porter, Harvard University, has introduced a widely used scheme for analyzing an organizations competitive position. He identifies five forces that need to be evaluated to determine whether an organization can maintain a competitive advantage and also to identify potential strategies for the organization.

The Porter analysis identifies five forces and then asks for a determination of the level ( high/low) of that force in this industry. The five forces are:

1. The intensity of the competition among industry competitors

2. The threat of new entrants entering the market

3. The amount of bargaining power in the hands of the suppliers to the organizations in the industry

4. The amount of bargaining power in the hands of the customer of the organizations in the industry

5. The threat embodied by potential substitute products to existing products.

The Five Force Analysis begins with identifying the organizations industry competitors and then evaluating the intensity of the rivalry among those competitors. Then each of the forces is evaluated in turn to obtain the best answers to the following questions.

· Is the level of this force high or low?

· What is the source of this intensity?

· What are some of the defenses that one may erect to strong forces?

· What are weaknesses the firm might exploit?

· Are there “game changing” ways to alter the forces in your firms favor?

For many of the firms in eBusiness, the level of industry competition is very high, but in other areas of the economy there are often low intensity areas in which competitors are content to share along geographic or product niche lines. The data base industry is a good example of a very high intensity competitive environment. Oracle and IBM DB2 are fierce competitors with each holding about 30% of the overall market. Microsoft SQL is the fastest growing database in this market, but has about half the market share of the two largest competitors. Microsoft appears to be growing at the expense of the smaller suppliers, creating a classic three horse race. On the other hand the threat of new entrants into the database appears to be quite small. The competitors are well established with an intense competitive position and huge installed bases. The switching costs for someone who is already using en enterprise database are huge. Reprogramming, conversion, and training costs are nearly prohibitive. An organization has to develop a compelling reason to switch. Absent a game changing strategy, there appears to be little likelihood of new entrants gaining a foothold in this market. The power of suppliers to the database industry also appears to be quite small. Database producers do not depend upon suppliers for any significant parts of their products.

What about the bargaining power of the customers? This is a far more complex situation. The answer my just be: ”it depends!” If a corporation has a large installed base from one supplier, the switching costs are prohibitive, as we have seen. However, if the enterprise is acquiring a data base for a new function that does not already have an entrenched system, the bargaining power of the customer is quite large. With two firms (IBM and Oracle) battling for market leadership and another (Microsoft) trying to eat into their leadership, corporations are in the driver’s seat in negotiations for new database procurements. Firms often employ a diversification strategy to keep from being trapped by high switching costs. A firm may decide to put some of their database systems on one supplier and the rest on another. This usually leads to a little higher cost and complexity of operations, but it helps to keep the switching costs down for additional procurements.

Are there threats of substitution of other products for database products? These are not obvious at this time, but that situation is indeed subject to change. To a certain extent the rise of the World Wide Web represented a potential substitute for traditional databases. During the middle part of the 1990s, huge quantities of corporate data were put on line in web formats. Much of the early material was stored in static HTML files, but the trend is clearly back to databases. By putting the information in databases, companies can personalize the customer’s experience with the web site. There are now excellent tools for gathering the information from corporate databases, assembling it into personalized web pages and then delivering the targeted material to the users. This has opened up controlled access to huge legacy databases and put the database back at the center of the eBusiness universe.

Portals represent a fairly new and very popular form of Business-to-Business eCommerce. The Chemical industry is one of the most active in creating on-line exchanges organized around product families, national interests, and corporate offerings. In this regard the level of industry competition is very high. ChemIndustry.com lists 39 general chemical portals, 181 niche portals, and 86 regional portals in its September 2000 list. Not all of these are involved in trading Chemicals. Some are both regional and niche in focus. Chinacbt.com bills itself as “the on-line authoritative data base in China….. in the cosmetics and detergents industry….” Many of the B2B marketplaces have strong links to particular firms. Dow Chemical took a significant equity stake in ChemConnect, a marketplace representing 80% of the 25 largest firms and boasting 2500 members. Dow rival Dupont invested in the rival Marketplace CheMatch.com, which numbers Bayer and GE among its other large investors.

If we were to do a five-force analysis of the on-line Chemical marketplaces, we would probably have to conclude that the competition among competitors is very intense. One might argue that the threat of substitution is also quite high. If buyers do not like the on-line marketplaces they can always return to more traditional channels.

The shear numbers of entrants indicates that the threat of new entries is also high, or at least it has been in the recent past. Situations change, and on the Internet, they can change rapidly. In the early stages of a marketplace’s development it is easy to get into the market and get going. After most of the major players have taken up positions, that becomes far more difficult. As the on-line marketplaces grow, some will gain larger market shares than others, and at that point, Metcalf’s law leads to positive feedback that tends to allow the successful to become more successful and the less successful to fade away. At this point the marketplace may enter a consolidation phase in which the weaker competitors disappear and the barriers to entry become quite high. Conversely, the threat of new entrants becomes quite low. Companies need to buy and sell where the buyers and sellers are, and once that pattern has been established, it can be quite difficult to break in.

The power of suppliers is quite high, especially in the early stages, since a marketplace cannot be successful unless it has sellers. For the same reason the power of the customer can be high. In the Chemical industry, the B2B market places seem to be favoring consortia of sellers rather than buyers. In the automotive industry the buyers are organizing the marketplaces. Covisint is a joint venture of Ford, GM, and Daimler Chrysler with some grudging participation by other manufacturers. This has made some suppliers nervous since it seems to enhance the power of the buyers and reduce the power of the suppliers. Once a marketplace is well established, the power of either buyer or seller is diminished, since it is hard for them to leave the place where most of the business is being done. We will take a far more in depth look at this situation in a later chapter on B2B.

This discussion reveals another unsettling aspect of this kind of analysis of firms moving in Internet time. That is: that the answers to the questions are always changing. This is an especially unsettling experience for those with technical backgrounds. To an engineer or scientist, a problem once solved stays solved. The problem with eBusiness is that no problem stays solved for long! The answers keep changing, and this requires that the analysis be done continuously.

Disruptive Technologies

When it comes to sustaining competitive advantage, companies would do well to watch out for the competitors that seem much too weak and low level to be a real threat. Harvard business school professor Clayton Christensen has developed the theory of disruptive technologies and has applied it to a variety of cases.[3] He even offers an on-line questionnaire that one can use to determine if your company is vulnerable to disruptive technologies.[4]

A disruptive technology sneak up on a company and devours it from underneath. Often the victim has already dismissed the threat as inconsequential. The victim considers the potential predator to be too far behind in technology or market share to be a credible threat. Often the victim has analyzed the disruptive technology and rejected it as un competitive. The stage is set for a disruptive technology when a mature market has reached the point where the leaders are producing technology that is often more than the market really wants, can afford, or an absorb. When that happens there is an opportunity for simpler, less expensive technology to come up underneath and devour the market from below.

Christensen’s favorite example was the way the 8-inch disk drive manufacturers teamed up with the minicomputer manufacturers to offer the 8-inch drives. The established players all had 14 inch advanced technology drives and dismissed the 8-inch drives as toys. The result: only one of the 14 inch drive manufacturers, IBM, survived the attack and they were only able to do so as a result of their diversity. He also points out that the 5.5-inch manufacturers later devoured the 8-inch manufacturers! The cycle of predators and prey continues.

My favorite example is the rise and fall of Silicon Graphics. Founded by Jim Clark as a manufacturer of very high performance computers for graphics, Silicon Graphics barely survived when the commodity Intel chips began to eat away their market from underneath. Their survival strategy included switching rather than fighting, as SGI adopted Intel technology for their mass-market computers.

Other examples include Novell’s response to Windows networking, the Macintosh response to Windows, and Compaq’s and IBM’s failure to respond to Dell’s direct marketing and mass customization.

Disruptive Technologies are a powerful force in eBusiness.