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Business-to-Business Exchanges

Jenny Arnold

Supree Mongrolcheep

Matthew Sheets

Melissa Sherer

April 29, 2004

Executive Summary:

Business to Business Exchanges

Business to Business exchanges (B2B) occur when two or more businesses come together to make a transaction. A B2B exchange includes the following three markets: suppliers → manufacturers → wholesalers. This paper concentrates on B2B e-commerce where buyers and sellers meet in an Internet marketplace designed to make the transaction process more efficient than the traditional methods of conducting business thru phone, fax, or email.

Size and Importance to Managers

Even though sources conflict on the actual size of spending conducted through B2B markets, all sources agree that B2B exchanges comprise the LARGEST market known to business. In 2001, one source, Gartner Group, stated that B2B spending was estimated to be $7,297,300,000,000 in 2004. In 2000, another source estimated that the market size would be $1.5 trillion. Whatever the difference in estimating the market, it is clear to all sources that B2B is five to ten times larger than B2C markets. Managers can benefit from B2B markets due to larger transaction values in both size and dollars. Also when compared to Business to Consumer (B2C) markets, 80% of all money poured into e-commerce goes to B2B exchanges.

Benefits

When B2B exchanges are operating efficiently, this market provides many benefits including:

  • Reducing transaction costs
  • A larger opportunity for transformation as a result of scale and scope
  • Lowering purchasing costs for the buyer due to automation of paperwork
  • Providing an Internet marketplace to connect buyers and sellers that would not have met using the traditional methods of doing business

Pitfalls

As discussed above, B2B exchanges deliver benefits when operated efficiently. However, on the flip side, when operatedinefficiently, some roadblocks that B2B exchanges can experience include:

  • Overcoming the habitual nature of people
  • Money does not ensure success
  • Prioritizing new features is not easy
  • Launching at the right time is tricky
  • Security is critical
  • Tools for viewing and collaboration are essential
  • Movement is toward private exchanges

Research Method

Initially, our research method included attending and interviewing a campus lecture given by Robert Skandalaris, founder, chairman, and CEO, of Noble International Ltd.. Unfortunately, the lecture was cancelled due to inclement weather. Since our group members did not work for a B2B company, we searched for B2B company case studies. This led us to the European Case Clearing House website where we found the Steelscreen.com case as well as a case referencing Covisint’s FTC investigation. Therefore, the main focus of this paper illustrates how three companies: Steelscreen.com, Covisint and WorldWide Retail Exchange, demonstrated the potentialwhile starting up a B2B e-commerce company.

Summary of Overall Lessons and Findings

During the research process of B2B exchanges and thru the three case studies, we determined that the overall lessons are best demonstrated through the best practices of the B2B market. The following isa brief listing of the best practices:

  • Products Exchanged
  • Structure of Exchange
  • Value-Added Services
  • How Does the Exchange Derive a Profit
  • What Role Do the Members play in the Management of the Exchange?
  • Proposed Benefit for Buyer or Seller?

The paper will further compare the companies of Steelscreen.com (Steel industry), Covisint (Automobile industry), and WorldWide Retail Exchange (Retail, Food and Healthcare industry). Additionally, the best practices model illustrates that all three companies share similarities even though these companies are in diverse industries.

B2B exchanges:

B2B’s are the LARGEST markets known to business!

B2B exchanges offer digital transaction services that enhance eBusiness presentation making it safer and more secure.(5) The B2B marketplace is made up of websites that allow buyers and sellers to come together to communicate both vertically and horizontally, and they are able to bid, advertise, transact, and procure.(1) B2B can often be defined as:

  • Selling to intermediaries rather than directly to the end customer
  • Transactions involving fewer customers
  • Smaller product ranges (9)

Spending

Numbers on B2B spending tend to vary by source. In 2002, the GDP of the U.S.was $10,480,800,000,000. While in 2004,B2B spending is estimated to be $7,297,300,000,000. The Gartner Group predicts the volume of e-commerce generated through B2Bs worldwide will grow to $7.29 trillion by 2004, a far cry from $145 billion in 1999. B2B exchanges are expected to facilitate nearly $2.71 trillion worth of B2B sales transactions in 2004, representing about 37 percent of the overall business-to-business market.(17)

Why is B2B bigger?

As you will be able to see in our case studies that follow, B2Bs are large operations for some of the following reasons:

  • The values of B2B transactions are bigger since the goods and services being created will pass through a lot of hands before they reach an end customer.
  • Big transaction value, however, does not always make a difference in the bottom line.
  • B2B derived efficiencies will be competed away by companies whose products and services are uninspired and undifferentiated. (10)

B2B versus B2C--B2B a bonanza B2C a bust

When B2B’s first startup their goal is to get as much value as they can out of the supply chain rather than trying to steal customers from their competitors. Of all the money poured into e-business,80% goes to B2B. The main reason that B2C startups fail is often because they lack good business models, and they often do not receive the money that B2B exchanges receive.(10)

Transactions

B2B exchanges act as virtual marketplaces and make money through charging transaction fees to buyers and suppliers. On average these transaction fees are 4%. Online transactions make it easier for buyers and sellers to come together on the web:

  • Certain exchanges allow businesses to find particular products or suppliers to agree to the terms of a transaction online (while the actual sale takes place offline)
  • Others allow for complete transactions to take place online.(7)

Types of B2B exchanges

There are two types of B2B marketplaces through which these exchanges take place:

  • Horizontal B2B exchanges serve a wide range of industries. Horizontal B2B marketplaces deal with the exchange of supplies that are common to many industries. Some examples of this could include computers or work clothes.
  • Vertical B2B exchanges specialize in trading supplies in one particular industry. Some examples of industries that benefit from vertical exchanges would include petroleum or agriculture.(4)

Benefits of B2B Exchanges

Why are they useful???

When done correctly B2B exchanges can provide many benefits for their users, including the following:

  • Cutting transaction costs—By allowing customers to download catalogs online and creating paperless purchase orders, companies can save valuable resources.
  • Large opportunity for transformation because of scale and scope.
  • Buyers are able to reduce purchasing costs due to automation of paperwork—saves valuable time.
  • Online exchanges introduce buyers to suppliers they would not have traditionally met—allowing buyers and sellers to come together on the web.(7&9)

Benefits to Buyers

If a buyer is looking to get the lowest price, chances are they will prefer a B2B marketplace. However, if they want to develop a close relationship with a supplier because they are dealing with large orders that are critical to the core operations, they may prefer bilateral e-trade.

Benefits to Sellers

Sellers can maintain some control over their sales channels while minimizing service costs. However, this could mean that they lose their existing customers. Another benefit to a seller could be that they could customize products by taking over value added processing. (13)

Analyzing the B2B Market

Structure, Processes, and Groups

A market has three basic elements: a mechanism (info-structure) to support data exchange, a set of market processes, and a set of institutions to perform these market processes.

Info-structure is compared to the plumbing and wiring that support a building. Without these vital internal structures, the building would not exist. The same comparison can be made with info-structure and markets. Without information and the systems to gather, store, and redistribute; markets can not operate. The more efficient the structure, the more efficient the market. Info-structure can be broken down into physical infrastructure (computers, telephones, switches, and wiring) and intangible data.

Market processes are composed of five trade and five context processes.

Trade processes represent activities that buyers and sellers must accept before goods and services can be exchanged. The trade process is made up of the following activities:

  • Search: Buyers and sellers must find each other.
  • Authentication: Help participants verify each other’s trustworthiness prior to the transaction.
  • Pricing: Negotiation of acceptable prices.
  • Payment: The transfer of money between buyers and sellers.
  • Logistics: Arranging the physical transfer of purchases made in the market.

Context processes are activities that support the trade process or help the process run more efficiently. Thecontext processis made up of the following activities:

  • Representation: Principles or agents acting on behalf of the buyers or sellers.
  • Regulation: Ensuring that all transactions meet specified rules.
  • Influence: Ensuring that the transactions are actually executed.
  • Dispute Regulation: Adjudicating conflicts with participants of the transaction.
  • Risk Management: Specialized insurance agencies that mitigate the effects of counterparty failure to uphold their half of the exchange.

Institutions can be described as “ecosystems”, made up of three groups – principals, agents, and supporting cast members.

  1. Principals are the buyers and sellers. This group constitutes the participants involved in making the exchange.
  2. Agents(brokers or traders)represent principals in one or more of the market processes.
  3. Supporting cast members represent bankers, insurers, shippers, etc. They provide highly specialized context processes to the market.

In essence,the market is more than just a platform or a process. It is a web of personal and interpersonal relationships between principles, agents and the supporting cast members. (9)

The Future of B2B Exchanges

The future is never clear

In 2000, B2B exchanges were thought to be growing markets; however there were some doubts about the future. It was estimated that the market size would be $1.5 trillion in 2004; making it five to ten times larger than estimated B2C markets. In 2003, it was estimated that more than half of B2B trade will take place through eBusiness networks or eMarketplaces.(5)All of the sources that were researched gave conflicting estimates for the B2B exchanges. However, the bottom line and main takeaway is that theB2B market is much BIGGER than the B2C market.

Why are B2B Exchanges Struggling?

The main goal of B2B services should be to bring buyers and sellers together using the Internet as a tool. However, some B2B exchanges are failing due to the following reasons:

  • People are creatures of habit. People are used to their familiar ways of conducting business thru telephone, fax and email. Therefore, it can be difficult to convince these individuals to change their habits and use the Internet to conduct business transactions.
  • Money does not ensure success. Even if a company spends money to build a good environment for a B2B exchange, they are still not guaranteed to earn the money back. Money is important, but it is not the only factor in determining success. Factors such as employees and business plans must be used in conjunction with one another to achieve success.
  • Prioritizing new features is not easy. Defining new features is not challenging, however, prioritizing and communicating these new features to the Web development team can cause difficulties.
  • Launching at the right time is tricky. Timing is everything.
  • Security is critical. In a world of information, data security is important when doing business.
  • Tools for viewing and collaboration are essential. Information today has become increasingly more complicated making it a necessity for B2B exchangesto establish tools that simplify processes.
  • Movement is toward private exchanges. The private exchange is stealing the spotlight from public exchangesby providing companies value-added alternatives that helpmeet specific needs. (16)

Evaluating B2B Best Practices:

Over the last 80 years, products and businesses of great diversification have experienced the same general market life cycle. In an entity’s beginning stages, R&D costs are high, profits are low and economies of scale are few. With low barriers to entry, competition floods the marketplace and throws an industryinto chaos. While some market participants prosper, many have flawed business models and fail in the industry.

Statistics show that B2B exchanges are no exception. Before competitive turbulence shook free nearly 90% of the market participants, there were over 1500 B2B exchanges. Now there are less than 200. (14) Why? What made over 1300 firms extinct? What are the 200 firms doing right? The following are some best practices we developed to help differentiate the successful business models from the lemons:

  • Products Exchanged – raw materials like steel and timber can entice participation through lower costs. General products like paperclips and office furniture also are attractive at bulk prices. Items like diamonds, Van Goghs, and small-arm NATO weapons are not ideal for B2B internet exchanges.
  • Structure of Exchange – is the exchange public or private? Private exchanges are generally formed by participating members for the benefit of the participating members. Publicly-traded exchanges are formed to maximize the wealth of the shareholders, whom may or may not be participating members.
  • Value-Added Services – the competition is intense enough without having to combat a potential client’s traditional methods of B2B interaction. Value-added services not only provide a leg up on the competition, but help to persuade business away from fax machines, telephones and notepads.
  • How Does the Exchange Derive a Profit – the two most common practices for generating revenues are transaction commissions and annual fees. Commissions seem to properly align an exchange with the participants. Annual fees help to entrench participants, but do not have the total dollar potential that commissions enjoy. Ultimately, if you are not profitable, you are living on borrowed time.
  • What Role Do the Members play in the Management of the Exchange? – When the members have a say, their best interests are represented. An active management role by the members of an exchange is a good sign the exchange is private.
  • Proposed Benefit for Buyer or Seller? – This is a trick question. Successful exchanges must provide value for both sides, especially since they are also engaged in the greater fight against the ‘old’ way of conducting business.

Now that some best practices have been set forth, let’s see what they reveal about three B2B exchanges in particular. We chose 3 companies to perform case studies on; companies that were diverse with respect to goods traded and member characteristics. The three companies selected for study were the WorldWide Retail Exchange, Covisint, and Steelscreen.com.

WorldWide Retail Exchange:

The Premiere Internet-based B2B Exchange in the Retail e-Marketplace

In March of 2000, 17 international retailers pooled $100 million of capital into an Internet-based B2B exchange to improve supply chain processes both vertically and horizontally. The WorldWide Retail Exchange, or WWRE, facilitates the exchange located at Trading is done in the form of online auctions, where products are listed and bid on for a specified amount of time (usually days). Some benefits of using the WWRE include the following:

  • The retailers envisioned an Internet marketplace, where goods could be efficiently obtained, and surpluses could be quickly unloaded.
  • Perishable items would be routed quicker through automation, allowing reduced costs for consumers and less spoiled product for the retailer.
  • A worldwide network of suppliers would give the retailers access to new markets.

At the time, this group of retailers boasted of over $300 billion in annual sales. If it is agreeable to say that the average company’s IT budget is 5% of revenues, then the combined annual IT budget of these 17 companies would have been around $15 billion. Ironically, although $100 million seems like high initial startup costs, this sum represented only 0.67% of the founding member’s annual IT budget. This illustrates how massive these companies are and more importantlythat only a small number were required to give the inexperienced exchange its required inertia. Consider that the combined economic output of these 17 retailers was roughly equivalent to the GDP of Russia in 2002! (21)

Value Proposition

Digital Economies of Scale with a Global reach

In the past, companies had to purchase their own IT assets and manage them. Outsourcing was an unproven commodity and companies lacked the experience needed to properly plan for future IT needs. With the WWRE, companies can leverage expert knowledge and retain a needed degree of control through:

  1. Cost efficient products that grow with your business allow for collaboration between members and are helpdesk supported.
  2. Shared technology investments and outsourced assets allow for a “whole is greater than the parts” advantage. Although a company may have invested several million in the WWRE, they get access to several hundred million of IT assets.
  3. Access to a global membership community and the ability to network with other retailers/manufacturers. More sellers mean cheaper prices for buyers. Free access to a proven market means sellers can increase their exposure to the WWRE risk-free.

Although initially founded by large retailers like Albertson’s, Kmart, Marks & Spencer, and CVS Pharmacy, the exchange has grown today to include pharmaceutical manufacturers such as GlaxoSmithKline, Wyeth, and Schering-Plough. The WWRE has proven useful at not only helping retailers cut costs on goods they stock their stores with, but also at combining demand across users to lower costs on back office supplies like furniture, light bulbs and pencils. Today, there are 64 members of the WWRE and over 100,000 suppliers. These 64 members employ over 5,000,000 workers in over 130 countries. With $900 billion in annual sales, this group is the 8th largest country in the world in terms of GDP. (21)