ELECTRONIC COMMERCE:ENTERPRISE AND B2B ELECTRONIC COMMERCE

ENTERPRISE AND B2B ELECTRONIC COMMERCE

Sharing information within business and between businesses is nothing new. Electronic data inter- change (EDI) has allowed firms to send and receive purchase orders, invoices, and order confirmations through private value-added networks. Today’s EDI now allows distributors to respond to orders on the same day they are received. Still, only large retailers and manufacturers are equipped to handle EDI-enabled processes. It is also common for consumers to wait four to six weeks before a mail order item arrives at their door. Special order items—items not in stock—at Barnes & Noble book- stores, for example, require three to four weeks of delay. In contrast, an order placed on a website at Land’s End (a clothing retailer) or an online computer store arrives within a day or two.

The business use of the Internet and electronic commerce enables online firms to reap the benefits of EDI at lower cost. The ultimate fast-response distribution system is instantaneous online delivery, a goal that a few e-businesses in select industries have already achieved. By their very nature, on- demand Internet audio and video services have no delay in reaching customers. In these examples, the efficiency stems from highly automated and integrated distribution mechanisms rather than from the elimination of distribution channels as in more traditional industries.

Web-Based Procurement

A traditional business’s first encounter with e-commerce may well be as a supplier to one of the increasingly common Internet Web stores. Supply chain management is in fact a key, if not a critical, factor in the success of an Internet retailer. The number of products offered in a Web store depends not on available shelf space but on the retailer’s ability to manage a complex sets of procurement, inventory, and sales functions. Amazon.com and eToys (http: / / www.etoys.com), for example, offer 10 times as many products as a typical neighborhood bookstore or toy shop would stock. The key application that enables these EC enterprises is an integrated supply chain.

Supply chain management refers to the business process that encompasses interfirm coordination for order generation, order taking and fulfillment, and distribution of products, services, and infor- mation. Suppliers, distributors, manufacturers, and retailers are closely linked in a supply chain as independent but integrated entities to fulfill transactional needs.

In physical markets, concerns about existing investments in warehouses and distribution systems often outweigh the desire and cost to implement fast response delivery. Some retailers still rely 100% on warehouses and distribution centers to replenish its inventory. Other retailers such as Tower Re- cords have moved away from warehousing solutions to drop shipping, which entails shipping directly from manufacturers to retail stores. Drop shipping, just-in-time delivery, and other quick-response replenishment management systems address buyers’ concerns about delays in receiving the right inventory at the right time. Many quick-response systems take this a step further and empower suppliers to make shipments on their own initiative by sharing information about sales and market demand.

Applications for a supply chain did not appear with the Internet or intranets. The supply chain concept evolved during previous decades to address manufacturers’ needs to improve production and distribution where managing parts and inventories is essential in optimizing costs and minimizing production cycles. EDI on the Internet and business intranets, used by large corporations such as General Electric Information Services and 3M, are aimed at achieving efficient supply management at the lower costs afforded by the Internet. Intermediaries such as FastParts (http: / / www. fastparts.com) further facilitate corporate purchasing on the Internet (see Section 7.2 below for a detailed discussion of B2B auctions). Traditional retailers such as Dillard’s and Wal-Mart have im- plemented centralized databases and EDI-based supply and distribution systems. The Internet and EC now allow small to medium-sized retailers to implement technologies in their procurement system through a low-cost, open, and responsive network.

An efficient procurement system and software, once installed, can enable firms to cross market boundaries. In a highly scalable networked environment, the size of a retailer depends only on the number of customers it attracts, rather than on capital or the number of outlets it acquires. The infrastructure set up for one product can also be expanded for other products. Amazon.com, for example, uses its integrated back office system to handle not only books but CDs, videos, and gifts. Store designs, product database and search algorithms, recommendation systems, software for shop- ping baskets and payments systems, security, and server implementation for book retailing have simply been reused for other products. An efficient online retailer and its IT infrastructure can be scaled for any number of products with minimum constraints added.

Contract Manufacturing

In the digital economy, the trend toward outsourcing various business functions is growing rapidly because it offers a less costly alternative to in-house manufacturing, marketing, customer service, delivery, inventorying, warehousing, and other business processes. This would be consistent with the observation that firms in the physical economy also delegate production activities to external orga- nizations if they find it less costly than to internalize them. As long as the cost of internal production (or service provision) is higher than the cost of contracting and monitoring, firms will prefer to outsource.

Regardless of the logic of this, it appears that the type of cost savings plays a critical role in the outsourcing decision. A study by Lewis and Sappington (1991) argues that when a firm’s decision to buy vs. internally produce inputs involves improvements in production technology, more in-house

production and less outsourcing is preferred. Their result does not depend on whether the subcon- tractor’s production technology was idiosyncratic (only useful to produce the buyer’s inputs) or transferable (the supplier could use its production technology and facility to service other potential buyers). In the case of transferable technology, the supplier would be expected to invest more in production technology, and thus offer lower costs, which may favor more outsourcing. Nevertheless, the buyer still preferred to implement more efficient technology himself internally.

In cases where buyer’s production technology is substantially inferior and monitoring costs are significantly lower, we would expect contract manufacturing to be favored. Whether this is the case or not is mostly an empirical question. However, when determining whether to outsource, one must consider not only production cost savings but also savings and other benefits in product development, marketing, and distribution. By delegating manufacturing, a firm may better utilize its resources in nonproduction functions. Because production logistics are taken care of, it may be able to consider more diverse product specifications. In fact, many Internet-based firms are focusing on customer assets and marketing value of their reputation among consumers while delegating manufacturing and distribution to third parties such as Solectron (http: / / www.solectron.com), who offers global manu- facturing networks and integrated supply chains (see Figure 1). The prevalence of outsourcing and subcontracting goes hand in hand with the use of information technology that facilitates horizontal coordination and relationships with suppliers (Aoki 1986).

Manufacturers with a well-recognized brand name and their own manufacturing operations have used manufacturer-pushed logistics management, where manufacturers dictate terms of distribution. On the other hand, manufacturers who are concerned with product development, market competition, and other strategic issues rely on contract manufacturers for efficient bulk manufacturing and dis-

tributors for the ancillary tasks of moving their products to retailers. They often interact only with a few large distributors, who are expected to push assigned products down to the retail channel. Their partners are more flexible manufacturers and distributors, who have developed closer ties to end customers. For example, channel marketers in the computer industry consist of original equipment manufacturers (OEMs) who provide basic components to distributors, who build computers after orders are received. New players are now taking advantage of information technology to cut costs while delegating most functions to third parties.

Dell Computers and Gateway began a new distribution model based on direct marketing. They now rely on contract manufacturers to distribute their products. Orders received by Dell are forwarded to a third party who assembles and ships the final products directly to consumers. This built-to-order manufacturing model attains distribution objectives by outsourcing manufacturing as well as distri- bution functions to those who can optimize their specialized functions. Distributors, in addition to delivering products, face the task of integrating purchasing, manufacturing, and supply chain man- agement.

For traditional in-house manufacturers and retailers, integrated distributors offer technological solutions to delegate order fulfillment and shipping tasks to outside contractors. For example, Federal Express (http: / / www.fedex.com) offers Internet-based logistics solutions to online retailers. FedEx introduced FedEx Ship, which evolved from its EDI-based FedEx PowerShip, in 1995. FedEx Ship is free PC software that customers can download and use to generate shipping orders. In 1996, FedEx launched its Internet version on its website, where customers can fill out pickup and shipping requests, print labels and track delivery status. As an integrated logistics operator, FedEx also offers a turnkey solution to online retailers by hosting retailer’s websites or linking their servers to retailer’s sites in order to manage warehouses and invoices coming from retailer’s websites, then pack and ship prod- ucts directly to consumers. Retailers are increasingly delegating all warehousing and shipping func- tions to a third party such as FedEx, while distributors expand their services into all aspects of order fulfillment.

Logistics Applications

Being ready for the digital economy means more than simply allowing customers to order via the Internet. To process orders from online customers requires seamless, integrated operation from manufacturing to delivery, readiness to handle continuous feedback from and interaction with customers, and the capability of meeting the demand and offer choices by modifying product offerings and services. Clearly, being integrated goes beyond being on the Internet and offering an online shopping basket. Manufacturing, supply chain management, corporate finance and personnel management, cus- tomer service, and customer asset management processes will all be significantly different in net- worked than in nonnetworked firms.

Logistics management, or distribution management, aims at optimizing the movement of goods from the sources of supply to final retail locations. In the traditional distribution process, this often involves a network of warehouses to store and distribute inventoried products at many levels of the selling chain. Manufacturers maintain an in-house inventory, which is shipped out to a distributor who stores its inventory in warehouses until new outbound orders are fulfilled. At each stage the inventory is logged on separate database systems and reprocessed by new orders, adding chances for error and delayed actions. Compaq, for example, which uses an older distribution model, has to allow almost three months for its products to reach retailers, while Dell, a direct-marketing firm, fulfill the order in two to three weeks.

Wholesalers and retailers often suffer from inefficient logistics management. Distributors may have as much as 70% of their assets in inventory that is not moving fast, while retailers receive replenishments and new products long after sales opportunities have disappeared. Optimizing distri- bution cycles and lowering incurred costs are a common concern for manufacturers, distributors, and retailers.

A conventional logistics management model built around warehouses and distribution centers is an efficient solution when products have similar demand structure and must be moved in the same manner. In this case, distribution centers minimize overall transportation costs by consolidating freight and taking advantage of the scale economy. This practice closely mirrors the hub-and-spoke model of airline transportation. By consolidating passenger traffic around a few regional hubs, airlines can employ larger airplanes on major legs and save on the number of flights and associated costs. Nev- ertheless, passengers often find that they must endure extra flying time and distance because flights between small but adjacent cities have been eliminated. While the hub-and-spoke system provides many advantages, it is too inflexible to respond to individual flying patterns and preferences.

Similarly, warehousing and distribution centers fail to function when products must move speedily through the pipeline. When market prices change as rapidly as computer components, Compaq’s computers, which sit in distribution centers for several months, lose their value by the time they reach consumers. Dell’s more responsive pricing is made possible by its fast-moving distribution channel.

More responsive distribution management cannot be achieved by simply removing several layers of warehouses and distribution centers. Rather, distributors in the United States are being integrated into the whole value chain of order taking, supply chain, and retailing. In the traditional logistics management model, distributors remained a disjointed intermediary between manufacturers and re- tailers. In an integrated logistics model that depends heavily on information technology and Web- based information sharing, distributors are fully integrated, having access to manufacturing and sales data and their partners’ decision making process.