Electronic commerce began in the United States and for many years was conducted primarily through English-language Web sites. As you will learn in this chapter, that has changed dramatically in recent years. Since 2013, China has been the leader in online retail sales, with a growing proportion of those sales being made on smartphones rather than computers.
With a population of 1.4 billion, some 650 million of whom have an Internet connection of some kind, China is the world’s largest potential online market. Recent studies have identified the Chinese as especially active Internet users, with more than 90 percent reporting that they go online two to four times a day. Combined with an overall upward trend in economic growth in the country, current and projected online retail sales are expected to continue their recent upward trends. Although Chinese buyers do use U.S.-based sites such as Amazon (Note: This typeface indicates a corresponding link to a related Web page in the book’s Web Links. Google’s URL is http://www.amazon.com) and eBay, they are also frequent users of domestic sites with well-developed brand awareness such as JD.com and Tmall.
The Evolution of Electronic Commerce
The business phenomenon that we now call electronic commerce has had an interesting history. From humble beginnings in the mid-1990s, electronic commerce grew rapidly until 2000, when a major downturn occurred prompting endless news stories describing how the “dot-com boom” had turned into the “dot-com bust.” Between 2000 and 2003, many industry observers were writing obituaries for electronic commerce. Just as the unreasonable expectations for immediate success had fueled unwarranted high expectations during the boom years, overly gloomy news reports colored perceptions during this time.
Beginning in 2003, electronic commerce began to show signs of a profound rebirth. Companies that had survived the downturn were not only seeing growth in sales again, but many of them were showing profits for the first time. As the economy grew, electronic commerce also grew, but at a faster pace than the overall economy. Thus, electronic commerce gradually became a larger part of the total economy.
In the general economic recession that started in 2008, electronic commerce suffered far less than most of the economy. Looking back from today’s perspective, we can see that as the general economy has expanded and contracted, electronic commerce has consistently expanded more in the good times and contracted less in the bad times than other economic sectors. This section defines electronic commerce and describes its evolution from a novelty to its current place as an important component of global business activity.
The differences between Chinese and U.S. online shoppers do not stop at the different languages they use. Chinese online buyers are more highly influenced by and want to consult online reviews far more often than shoppers elsewhere. They also like to discuss potential purchases with others online to a greater degree. These cultural characteristics have led to the development of independent online review sites and in sellers such as Nike becoming active participants in Chinese chat and messaging sites such as Sina Weibo and WeChat.
Sellers in China also find that they must take into account regional differences within a diverse country. In the major cities, shoppers are buying branded luxury goods and big-ticket items such as cars; while in smaller towns, consumers are more price-conscious and looking to find deals on everyday goods. Distribution and delivery can be tricky in parts of China that do not have well-developed roads and standardized shipping practices. Some sellers are overcoming these issues by creating their own distribution systems. For example, JD.com has built more than 80 warehouses in 34 cities which it uses to make faster and more reliable deliveries than its competitors.
Electronic Commerce and Electronic Business
To many people, the term “electronic commerce” means shopping on the part of the Internet called the World Wide Web (the Web). However, electronic commerce (or e-commerce) also includes many other activities, such as businesses trading with other businesses and internal processes that companies use to support their buying, selling, hiring, planning, and other activities. Some people use the term electronic business (or e-business) when they are talking about electronic commerce in this broader sense. For example, IBM defines electronic business as “the transformation of key business processes through the use of Internet technologies.” Most people use the terms “electronic commerce” and “electronic business” interchangeably. In this book, the term electronic commerce (or e-commerce) is used in its broadest sense and includes all business activities that use Internet technologies. Internet technologies include the Internet, the World Wide Web, and other technologies such as wireless transmissions on mobile telephone networks. Companies that operate only online are sometimes called dot-com or pure dot-com businesses to distinguish them from companies that operate in physical locations (solely or together with online operations); however, online business activity has become so integrated with everyday life in much of the world that few people worry about these distinctions any longer.
Categories of Electronic Commerce
Categorizing electronic commerce by the types of entities participating in the transactions or business processes is a useful and commonly accepted way to define online business. The five general electronic commerce categories are business-to-consumer, business- to-business, transactions and business processes, consumer-to-consumer, and business- to-government. The three categories that are most commonly used are:
Consumer shopping on the Web, often called business-to-consumer (or B2C)
Transactions conducted between businesses on the Web, often called business-to-business (or B2B)
Business processes in which companies, governments, and other organizations use Internet technologies to support selling and purchasing activities
A single company might participate in activities that fall under multiple e-commerce categories. Consider a company that manufactures stereo speakers. The company might sell its finished product to consumers on the Web, which would be B2C electronic commerce. It might also purchase the materials it uses to make the speakers from other companies on the Web, which would be B2B electronic commerce. Businesses often have entire departments devoted to negotiating purchase transactions with their suppliers. These departments are usually named supply management or procurement. Thus, B2B electronic commerce is sometimes called e-procurement.
In addition to buying materials and selling speakers, the company must also undertake many other activities to convert the purchased materials into speakers. These activities might include hiring and managing the people who make the speakers, renting or buying the facilities in which the speakers are made and stored, shipping the speakers, maintaining accounting records, obtaining customer feedback, purchasing insurance, developing advertising campaigns, and designing new versions of the speakers. An increasing number of these transactions and business processes can be done on the Web. Manufacturing processes (such as the fabrication of the speakers) can be controlled using Internet technologies within the business. All of these communication, control, and transaction-related activities have become an important part of electronic commerce. Some people include these activities in the B2B category; others refer to them as underlying or supporting business processes.
For more than 80 years, business researchers have been studying the ways people behave in businesses. This research has helped managers better understand how workers do their jobs and what motivates them to work more effectively. The research results have helped managers, and more recently, the workers themselves, improve job performance and productivity. An important part of doing these job studies is to learn what activities each worker performs. In this setting, a business activity is a task performed by a worker in the course of doing his or her job.
For a much longer time—centuries, in fact—business owners have kept records of how well their businesses are performing. The formal practice of accounting, or recording transactions, dates back to the Middle Ages. A transaction is an exchange of value, such as a purchase, a sale, or the conversion of raw materials into a finished product. By recording transactions, accountants help business owners keep score and measure how well they are doing. All transactions involve at least one activity, and some transactions involve many activities. Not all activities result in measurable (and therefore recordable) transactions. Thus, a transaction always has one or more activities associated with it, but an activity might not be related to a transaction.
The group of logical, related, and sequential activities and transactions in which businesses engage are often collectively referred to as business processes. Transferring funds, placing orders, sending invoices, and shipping goods to customers are all types of activities or transactions. For example, the business process of shipping goods to customers might include a number of activities (or tasks, or transactions), such as inspecting the goods, packing the goods, negotiating with a freight company to deliver the goods, creating and printing the shipping documents, loading the goods onto the truck, and sending payment to the freight company.
One important way that the Web is helping people work more effectively is by enabling employees of many different kinds of companies to work at home or from other locations (such as while traveling). In this arrangement, called telecommuting or telework, the employee logs in to the company network through the Internet instead of traveling to an office.
Relative Size of Electronic Commerce Elements
Figure 1-1 shows the two main types of electronic commerce as subsets of the overall business processes in which a company might engage. The figure presents a rough approximation of the relative sizes of these three elements (B2C commerce, B2B commerce, and overall business processes). In terms of dollar volume and number of transactions, B2B electronic commerce is much greater than B2C electronic commerce. However, the number of business processes that are conducted using online technologies is far greater than the number of all B2C and B2B transactions combined.
Elements of Electronic Commerce
The large oval in Figure 1-1 that represents the business processes that support selling and purchasing activities is the largest element of electronic commerce.
Some researchers define a fourth category of electronic commerce, called consumer-to-consumer (or C2C), which includes individuals who buy and sell items among themselves. For example, C2C electronic commerce occurs when a person sells an item through a Web auction site to another person. In this book, C2C sales are included in the B2C category because the person selling the item acts much as a business would for purposes of the transaction.
Finally, some researchers also define a category of electronic commerce called business-to-government (or B2G); this category includes business transactions with government agencies, such as paying taxes and filing required reports. An increasing number of states have Web sites that help companies do business with state government agencies. In this book, B2G transactions are included in the discussions of B2B electronic commerce. Figure 1-2 summarizes these five categories of electronic commerce.
The Development and Growth of Electronic Commerce
Over the thousands of years that people have engaged in commerce with one another, they have adopted the tools and technologies that became available. For example, the advent of sailing ships in ancient times opened new avenues of trade to buyers and sellers. Later innovations, such as the printing press, steam engine, and telephone, have changed the way people conduct commerce activities. The Internet has changed the way people buy, sell, hire, and organize business activities in more ways and more rapidly than any other technology in the history of business.
Early Electronic Commerce
Although the Web has made online shopping possible for many businesses and individuals, in a broader sense, electronic commerce has existed for many years. Since the mid-1960s, banks have been using electronic funds transfers (EFTs, also called wire transfers), which are electronic transmissions of account exchange information over private communications’ networks. Initially used to transfer money between business checking accounts, the use of EFTs gradually expanded to include payroll deposits to employees’ accounts, automatic payment of auto and mortgage loans, and deposit of government payments to individuals, such as U.S. Social Security System remittances.
Businesses have also used a form of electronic commerce, known as electronic data interchange, for many years. Electronic data interchange (EDI) occurs when one business transmits computer-readable data in a standard format to another business. In the 1960s, businesses realized that many of the documents they exchanged were related to the shipping of goods; for example, invoices, purchase orders, and bills of lading. These documents included the same set of information for almost every transaction. Businesses also realized that they were spending a good deal of time and money entering this data into their computers, printing paper forms, and then reentering the data on the other side of the transaction. Although the purchase order, invoice, and bill of lading for each transaction contained much of the same information—such as item numbers, descriptions, prices, and quantities—each paper form usually had its own unique format for presenting the information. By creating a set of standard formats for transmitting the information electronically, businesses were able to reduce errors, avoid printing and mailing costs, and eliminate the need to reenter the data.
Businesses that engage in EDI with each other are called trading partners. The standard formats used in EDI contain the same information that businesses have always included in their standard paper invoices, purchase orders, and shipping documents. Firms such as General Electric, Sears, and Walmart were pioneers in using EDI to improve their purchasing processes and their relationships with suppliers. The U.S. government, which is one of the largest EDI trading partners in the world, was also instrumental in bringing businesses into EDI.
One problem that EDI pioneers faced was the high cost of implementation. Until the late 1990s, doing EDI meant buying expensive computer hardware and software and then either establishing direct network connections (using leased telephone lines) to all trading partners or subscribing to a value-added network. A value-added network (VAN) is an independent firm that offers connection and transaction-forwarding services to buyers and sellers engaged in EDI. Before the Internet came into existence as we know it today, VANs provided the connections between most trading partners and were responsible for ensuring the security of the data transmitted. EDI continues to be a large portion of B2B electronic commerce and is growing steadily every year in number of transactions and dollar volume. You will learn more about EDI, VANs, and new B2B transaction technologies.
The First Wave of Electronic Commerce, 1995–2003
Many researchers have concluded that the development of electronic commerce is a major change in the way business is conducted and compare it to other historic changes in economic organization, such as the Industrial Revolution. A growing number of business scholars have determined that major changes in economic structures do not occur as single events but occur as a series of developments, or waves, that occur over an extended period of time. For example, the Industrial Revolution is no longer studied as a single event but as a series of developments that took place over a 50- to 100-year period. Economists Chris Freeman and Francisco Louçã describe four distinct waves (or phases) that occurred in the Industrial Revolution in their book As Time Goes By (see the For Further Study and Research section at the end of this chapter). In each wave, they found that different business strategies were successful.
Electronic commerce and the information revolution brought about by the Internet will likely go through a series of waves, too. This section outlines the defining characteristics of the first wave of electronic commerce. Subsequent sections of this chapter discuss the evolution of electronic commerce through its second and third waves.
The first wave of electronic commerce was characterized by its rapid growth, often called a “boom,” which was followed by a rapid contraction, often called a “bust.” Between 1997 and 2000, more than 12,000 Internet-related businesses were started with more than $100 billion of investors’ money. In an extended burst of optimism, and what many later described as irrational exuberance, investors feared that they might miss the moneymaking opportunity of a lifetime. As more investors competed for a fixed number of good ideas, the price of those ideas increased. Many good ideas suffered from poor implementation. Worse, a number of bad ideas were proposed and funded.
More than 5000 of these Internet start-up firms went out of business or were acquired in the downturn that began in 2000. The media coverage of the “dot-com bust” from 2000 to 2003 was extensive. However, during that time, more than $200 billion was spent bailing out troubled electronic commerce businesses and starting completely new online ventures. Although this injection of financial investment was not reported widely in either the general or business media, these investments set the stage for significant growth in online business activity in subsequent years. This rebirth provided another chance at success for many good online business ideas that had been poorly implemented in the early days of the Internet.
The Second Wave of Electronic Commerce, 2004–2009
The first wave of electronic commerce was predominantly a U.S. phenomenon. Web pages were primarily in English, particularly on commerce sites. The second wave was characterized by an expanding international scope, with sellers beginning to do business in other countries and languages. Language translation and currency conversion were two impediments to rapid global expansion of electronic commerce in its second wave. You will learn more about the issues that occur today in global electronic commerce later in this chapter, in Chapter 7, which concerns legal issues, and in Chapter 11, which concerns online payment systems.
In the first wave, easy access to start-up capital led to an overemphasis on creating entirely new enterprises to exploit electronic commerce opportunities. Investors were excited about electronic commerce and wanted to participate, no matter how much it cost or how weak the underlying ideas were. In the second wave, established companies began using their own internal funds to finance gradual expansion of electronic commerce opportunities. These measured and carefully considered investments are helping electronic commerce grow more steadily, though more slowly.
The Internet technologies used in the first wave, especially in B2C commerce, were slow and inexpensive. Although businesses typically had broadband connections, most consumers connected to the Internet using dial-up modems. The increase in broadband connections in homes is a key element in the B2C component of the second wave. In 2004, the number of U.S. homes with broadband connections began to increase rapidly. Most industry estimates showed that about 12 percent of U.S. homes had broadband connections in early 2004. By 2009, those estimates were ranging between 70 and 80 percent. Other countries, such as South Korea, began to subsidize their citizens’ Internet access, which led to an even higher rate of broadband usage.
The increased use of home Internet connections to transfer large audio and video files is generally seen as the reason large numbers of people spent the extra money required to obtain a broadband connection during the second wave. The increased speed of broadband not only makes Internet use more efficient, but it also can alter the way people use the Web. For example, a broadband connection allows a user to watch movies and television programs online—something that is impossible to do with a dial-up connection. This opens up more opportunities for businesses to make online sales. It also changes the way that online retailers can present their products to Web site visitors. Although business customers, unlike retail customers, have had fast connections to the Internet for many years, the increasing availability of wireless Internet connections increased the volume and nature of B2B electronic commerce during the second wave. For example, salespeople using laptop computers could stay in touch with customers, prepare quotes, and check on orders being fulfilled from virtually any where. You will learn more about different types of connections in Chapter 2 and how connection speed can affect consumers’ online shopping experiences in Chapters 3 and 4.
Electronic mail (or e-mail) was used in the first wave as a tool for relatively unstructured communication. In the second wave, both B2C and B2B sellers began using e-mail as an integral part of their marketing and customer contact strategies. You will learn about e-mail technologies in Chapter 2 and e-mail marketing in Chapter 4.
Online advertising was the main intended revenue source of many failed dot-com businesses in the first wave. After a pronounced dip in online advertising activity and revenues near the end of the first wave, companies began the second wave with a renewed interest in making the Internet work as an effective advertising medium. Some categories of online advertising, such as employment services (job-wanted ads) have grown rapidly and have replaced traditional advertising outlets. Companies such as Google have devised ways of delivering specific ads to Internet users who are most likely to be interested in the products or services offered by those ads. You will learn about these advertising strategies in Chapter 4.
The sale of digital products was fraught with difficulties during the first wave of electronic commerce. The music recording industry was unable (or, some would say, unwilling) to devise a way to distribute digital music on the Web. This created an environment in which digital piracy—the theft of musical artists’ intellectual property—became rampant. The promise of electronic books was also unfulfilled. The second wave fulfilled the promise of available technology by supporting the legal distribution of music, video, and other digital products on the Web. Apple Computer’s iTunes Web site is an example of a second-wave digital product distribution business that is meeting the needs of consumers and its industry. You will learn more about digital product distribution strategies in Chapter 3 and about the related legal issues in Chapter 7.
Another group of technologies emerged in the second wave that made new online businesses possible. The general term for these technologies is Web 2.0, and they include software that allows users of Web sites to participate in the creation, editing, and distribution of content on a Web site owned and operated by a third party. Sites such as Wikipedia, YouTube, and Facebook use Web 2.0 technologies. Customer relationships management software that runs from the Web, such as Salesforce.com, also uses Web 2.0 technologies. You will learn about Web 2.0 business opportunities throughout this book and you will learn about the technologies used to implement them in Chapter 9.
In the first wave of electronic commerce, many companies and investors believed that being the first Web site to offer a particular type of product or service would give them an opportunity to be successful. This strategy is called the first-mover advantage. As business researchers studied companies who had tried to gain a first-mover advantage, they learned that being first did not always lead to success (see the Suarez and Lanzolla article reference in the For Further Study and Research section at the end of this chapter). First movers must invest large amounts of money in new technologies and make guesses about what customers will want when those technologies are functioning. The combination of high uncertainty and the need for large investments makes being a first mover very risky. As many business strategists have noted, “It is the second mouse that gets the cheese.” An approach in which a business observes first-mover failures and enters a business later, when large investments are no longer required and business processes have been tested, is called a smart-follower strategy.
First movers that were successful tended to be large companies that had an established reputation (or brand) and that also had marketing, distribution, and production expertise. First movers that were smaller or that lacked the expertise in these areas tended to be unsuccessful. Also, first movers that entered highly volatile markets or in those industries with high rates of technological change often did not do well. In the second wave, more businesses followed a smart-follower strategy when they took their businesses online.
Business Models, Revenue Models, and Business Processes
A business model is a set of processes that combine to achieve a company’s primary goal, which is typically to yield a profit. In the first wave of electronic commerce, many investors tried to find start-up companies that had new, Internet-driven business models. These investors expected that the right business model would lead to rapid sales growth and market dominance. If a company was successful using a new “dot-com” business model, investors would clamor to copy that model or find a start-up company that planned to use a similar business model. This strategy led the way to many business failures, some of them quite dramatic.
In the wake of the dot-com debacle that ended the first wave of electronic commerce, many business researchers analyzed the efficacy of this “copy a successful business model” approach and began to question the advisability of focusing great attention on a company’s business model. One of the main critics, Harvard Business School professor Michael Porter, argued that business models not only did not matter, they also probably did not exist. (You can read more about Porter’s criticisms of the business model approach in the articles cited in the For Further Study and Research section at the end of this chapter.)
Today, most companies realize that copying or adapting someone else’s business model is neither an easy nor wise road map to success. Instead, companies should examine the elements of their business; that is, they should identify business processes that they can streamline, enhance, or replace with processes driven by Internet technologies.
Companies and investors do use the idea of a revenue model, which is a specific collection of business processes used to identify customers, market to those customers, and generate sales to those customers. The revenue model idea is helpful for classifying revenue-generating activities for communication and analysis purposes. The details of revenue models that are used on the Web are presented in Chapter 3.
Focus on Specific Business Processes
In addition to the revenue model grouping of business processes, companies think of the rest of their operations as specific business processes. Those processes include purchasing raw materials or goods for resale, converting materials and labor into finished goods, managing transportation and logistics, hiring and training employees, managing the finances of the business, and many other activities.
An important function of this book is to help you learn how to identify those business processes that firms can accomplish more effectively by using electronic commerce technologies. In some cases, business processes use traditional commerce activities very effectively, and technology cannot improve them. Products that buyers prefer to touch, smell, or examine closely can be difficult to sell using electronic commerce. For example, customers might be reluctant to buy items that have an important element of tactile feel or condition such as high-fashion clothing (you cannot touch it online, and subtle color variations that are hard to distinguish on a computer monitor can make a large difference) or antique jewelry (for which elements of condition that require close inspection can be critical to value) if they cannot closely examine the products before agreeing to purchase them.
This book will help you learn how to use Internet technologies to improve existing business processes and identify new business opportunities. An important aspect of electronic commerce is that firms can use it to help them adapt to change. The business world is changing more rapidly than ever before. Although much of this book is devoted to explaining technologies, the book’s focus is on the business of electronic commerce; the technologies only enable the business processes.
Role of Merchandising
Retail merchants have years of traditional commerce experience in creating store environments that help convince customers to buy. This combination of store design, layout, and product display knowledge is called merchandising. In addition, many salespeople have developed skills that allow them to identify customer needs and find products or services that meet those needs.
The skills of merchandising and personal selling can be difficult to practice remotely. However, companies must be able to transfer their merchandising skills to the Web for their Web sites to be successful. Some products are easier to sell on the Internet than others because the merchandising skills related to those products are easier to transfer to the Web. You will learn more about how merchandising can be accomplished online in Chapters 3 and 4.
Product/Process Suitability to Electronic Commerce
Some products, such as books or CDs, are good candidates for electronic commerce because customers do not need to experience the physical characteristics of the particular item before they buy it. Because one copy of a new book is identical to other copies, and because the customer is not concerned about fit, freshness, or other such qualities, customers are usually willing to order a title without examining the specific copy they will receive. In later chapters, you will learn how to evaluate the advantages and disadvantages of using electronic commerce for specific business processes. Figure 1-5 lists examples of business processes categorized by suitability for electronic commerce and traditional commerce. As technologies develop, many processes that were strictly handled through traditional commerce have become more suitable for electronic commerce. This trend will likely continue. You will learn more about transitions of this type in Chapter 3.
|Well Suited to Electronic Commerce||Suited to a Combination of Electronic and Traditional Commerce Strategies||Well Suited to Traditional Commerce|
|Sale/purchase of books and CDs||Sale/purchase of automobiles||Sale/purchase of impulse items for immediate use|
|Sale/purchase of goods that have strong brand reputations||Banking and financial services||Sale/purchase of used, unbranded goods|
|Online delivery of software and digital content, such as music and movies||Roommate-matching services|
|Sale/purchase of travel services||Sale/purchase of residential real estate|
|Online shipment tracking||Sale/purchase of highvalue jewelry and antiques|
|Sale/purchase of investment and insurance products|
One business process that is especially well suited to electronic commerce is the selling of commodity items. A commodity item is a product or service that is hard to distinguish from the same products or services provided by other sellers; its features have become standardized and well known. The only difference a buyer perceives when shopping for a commodity item is its price. Gasoline, office supplies, soap, computers, and airline transportation are all examples of commodity products or services, as are the books and DVDs sold by Amazon.com.
Not all commodity items are good candidates for electronic commerce. They must have an attractive shipping profile to be sold online. A product’s shipping profile is the collection of attributes that affect how easily that product can be packaged and delivered. A high value-to-weight ratio can help by making the overall shipping cost a small fraction of the selling price. A DVD is an excellent example of an item that has a high value-to-weight ratio. Products that are consistent in size, shape, and weight can make warehousing and shipping much simpler and less costly. Commodity items that have an attractive shipping profile include books, clothing, shoes, kitchen accessories, and many other small household items.
A product that has a strong brand reputation—such as a Sony television—is easier to sell on the Web than an unbranded item, because the brand’s reputation reduces the buyer’s concerns about quality when buying that item sight unseen. Expensive jewelry has a high value-to-weight ratio, but many people are reluctant to buy it without examining it in person unless the jewelry is sold under a well-known brand name or with a generous return policy.
Other items that are well suited to electronic commerce are those that appeal to small, but geographically dispersed, groups of customers. Collectible comic books are an example of this kind of product.
Traditional commerce, rather than electronic commerce, can be a better way to sell items that rely on personal selling skills. For example, sales of commercial real estate involve large amounts of money and a high degree of interpersonal trust. Even if commercial real estate is listed online, it will usually require personal contact to negotiate the deal. Many businesses are using a combination of personal contact enhanced by an online presence to sell items such as high-fashion clothing, antiques, or specialized food items.
A combination of electronic and traditional commerce strategies works best when the business process includes both commodity and personal inspection elements. For example, most people find information on the Web about new and used automobiles and do considerable research on specific makes and models before they visit a dealership to buy. In the case of used cars, electronic commerce provides a good way for buyers to obtain information about available models, features, reliability, prices, and dealerships, and also helps buyers find specific vehicles that meet their exact requirements. The range of conditions of used cars makes the traditional commerce component of personal inspection a key part of the transaction negotiation.
Another approach to combining online and traditional selling strategies has been developed to great success by Home Depot. Many of the items sold by hardware stores and home improvement centers are large and heavy; that is, they have terrible shipping profiles. However, Home Depot has a large number of physical store locations. By offering online shoppers the option to pick up purchased items at a nearby store, Home Depot has combined the best of both worlds. Today, more than 40 percent of the company’s online sales are picked up in a store, where many customers then make additional purchases.
Electronic Commerce: Opportunities, Cautions, and Concerns
Electronic commerce has changed the way business is conducted in many industries. However, not every business process is suitable for electronic commerce. As technologies advance, more and more types of business processes become candidates for electronic commerce. This section outlines some opportunities and points out some cautions that businesses should consider in evaluating opportunities to engage in online business activities.
Opportunities for Electronic Commerce
Electronic commerce is attractive to businesses because, quite simply, it can help increase profits. It can do this because electronic commerce can increase sales and decrease business costs. Advertising done well on the Web can get even a small firm’s promotional message out to potential customers in every country in the world. A firm can use electronic commerce to reach small groups of customers that are geographically scattered. The Web is particularly useful in creating virtual communities that become ideal target markets for specific types of products or services. A virtual community is a gathering of people who share a common interest, but instead of this gathering occurring in the physical world, it takes place on the Internet. In recent years, virtual communities have taken advantage of Web 2.0 technologies to make their activities more accessible and interesting to community members. Thomas Petzinger has written extensively in his Wall Street Journal newspaper columns and his book, The New Pioneers, about new patterns of work and commerce that have evolved from these virtual communities. As you learned earlier in this chapter, businesses in the third wave of electronic commerce are starting to use virtual community structures and tools to conduct social commerce. You will learn about Web sites (called social networking sites) that individuals and businesses use to conduct social interactions online and the business opportunities they present in Chapter 6.
Just as electronic commerce increases sales opportunities for the seller, it also increases purchasing opportunities for the buyer. Businesses can use electronic commerce to identify new suppliers and business partners. Negotiating price and delivery terms is easier in electronic commerce because the Internet can help companies efficiently obtain competitive bid information. Electronic commerce increases the speed and accuracy with which businesses can exchange information, which reduces costs on both sides of transactions. Many companies are reducing their costs of handling sales inquiries, providing price quotes, and determining product availability by using electronic commerce in their sales support and order-taking processes.
Cisco Systems, a leading manufacturer of computer networking equipment, currently sells almost all its products online. Because no customer service representatives are involved in making these sales, Cisco operates very efficiently. In 1998, the first year in which its online sales initiative was operational, Cisco made 72 percent of its sales on the Web. Cisco avoided handling 500,000 calls per month and saved $500 million in that first year. Today, Cisco conducts more than 99 percent of its purchase and sales transactions online.
Electronic commerce provides buyers with a wider range of choices than traditional commerce because buyers can consider many different products and services from a wider variety of sellers. This wide variety is available for consumers to evaluate 24 hours a day, every day. Some buyers prefer a great deal of information in deciding on a purchase; others prefer less. Electronic commerce provides buyers with an easy way to customize the level of detail in the information they obtain about a prospective purchase. Instead of waiting days for the mail to bring a catalog or product specification sheet, buyers can have instant access to detailed information on the Web. Allowing customers to create their own ideal information environment saves money and provides an opportunity for increased sales.
Most digital products, such as software, music, video, or images, can be delivered through the Internet to reduce the time buyers must wait to begin using their purchases. The ability to deliver digital products online is not just a cost-reduction strategy; it can provide an opportunity for increased sales. Intuit sells its TurboTax income tax preparation software online and lets customers download the software immediately if they wish. Intuit sells a considerable amount of TurboTax software late in the evening on April 14 each year. (April 15 is the deadline for filing personal income tax returns in the United States.)
The benefits of electronic commerce extend to the general welfare of society. Electronic payments of tax refunds, public retirement, and welfare support cost less to issue and arrive securely and quickly when transmitted over the Internet. Furthermore, electronic payments can be easier to audit and monitor than payments made by check, providing protection against fraud and theft losses. To the extent that electronic commerce enables people to telecommute, everyone benefits from the reduction in commuter-caused traffic and pollution. Electronic commerce can also make products and services available in remote areas. For example, distance learning makes it possible for people to learn skills and earn degrees no matter where they live or which hours they have available for study.
Electronic Commerce: Current Barriers
Some business processes might never lend themselves to electronic commerce. For example, perishable foods and high-cost, unique items such as custom-designed jewelry can be very difficult to inspect adequately from a remote location, regardless of any technologies that might be devised in the future. Four issues currently act as barriers to electronic commerce. These issues might be addressed as online business knowledge and technology develop. They are as follows:
The need for a critical mass of potential buyers to be equipped with the technology necessary to buy online and be comfortable using that technology,
A level of predictability in costs and revenues related to the technologies used to undertake electronic commerce,
Sufficient tools for both hardware and software technology integration, and
The ability to overcome cultural and legal barriers that can prevent companies from doing business online efficiently.
The Need for a Critical Mass
Some products and services require that a critical mass of potential buyers be equipped and willing to buy through the Internet. For example, online grocers such as Peapod initially offered their delivery services only in a few cities. As more of Peapod’s potential customers became connected to the Internet and felt comfortable with purchasing online, the company was able to expand slowly and carefully into more geographic areas. After more than 10 years of operation, Peapod operates in fewer than 20 U.S. metropolitan areas. Most online grocers focus their sales efforts on packaged goods and branded items. Perishable grocery products, such as fruits and vegetables, are much harder to sell online because customers want to examine and select specific items for freshness and quality. Peapod is a good example of how challenging it can be to build a business in an industry that requires this kind of critical mass. Although it was one of the first online grocery stores, Peapod has had a difficult time staying in business, and was even offline for a short time in 2000. Peapod was subsequently acquired by Royal Ahold, a European firm that was willing to invest additional cash to keep it in operation. Two of Peapod’s major competitors, WebVan and HomeGrocer, were unable to stay in business long enough to attract a sufficient customer base.
Established traditional grocery chains in the United States, such as Safeway, also offer online ordering and delivery services in a second wave of using Internet technologies in the grocery business. By using their existing infrastructure (including warehouses, purchasing systems, and physical stores in multiple locations), they are able to avoid having to make the large capital investment in facilities that led to the demise of first-wave dot-com grocers such as WebVan and HomeGrocer.
One online grocer that has successfully implemented an updated version of the WebVan and HomeGrocer operational approach is FreshDirect. By limiting its service area to the densely populated region in and around New York City, FreshDirect has found the right combination of operating scale and market. The company started in 2002 and achieved profitability in 2004 with sales of $90 million. This is a much smaller sales volume than either WebVan or HomeGrocer would have needed to be profitable.
Outside the United States, online grocers have done quite well. Three of the most successful online grocery efforts in the world are Grocery Gateway in Toronto, Disco Virtual in Buenos Aires, and Tesco in the United Kingdom. Grocery Gateway and Disco Virtual operate in densely populated urban environments that offer sufficiently large numbers of customers within relatively small geographic areas, which make their delivery routes profitable. Tesco started its operations in London, which offers a similar densely populated urban area. However, Tesco has also expanded its operations to selected rural areas that are near a Tesco supermarket.
Predictability of Costs and Revenues
Businesses often calculate return-on-investment numbers before committing to any new technology. This has been difficult to do for investments in electronic commerce because the costs and benefits are often hard to quantify or predict with any degree of accuracy. Costs that are a function of technology can change dramatically even during a short-lived online business implementation project because the underlying technologies are changing so rapidly. As companies move into the third wave and increasingly use big data and related analytical tools, they are getting better at predicting some costs and revenues. But the difficulty of cost and revenue prediction remains an issue for most companies.
Many firms have had trouble recruiting and retaining employees with the technological, design, or business process skills needed to take their business online. Larger firms often try to use existing personnel who are steeped in traditional ways of doing business. These employees often have difficulty adapting what they have learned about the business to an online environment in which the risks and benefits are often very different. You will learn more about return-on-investment calculations and employee recruitment and retention issues in Chapter 12.
Technology Integration Issues
Another problem facing firms that want to do business on the Internet is the difficulty of integrating existing databases and transaction-processing software designed for traditional commerce into the software that enables electronic commerce. Although a number of companies offer software design and consulting services that promise to tie existing systems into new online business systems, these services can be expensive. The outcome of any systems integration effort can be highly uncertain as well.
In the third wave, more companies are introducing tracking technologies that can help them integrate operations more efficiently. You will learn more about how companies are using tracking technologies in Chapter 5 and how they are beginning to deal with software integration issues in Chapter 9.
Cultural and Legal Concerns
In addition to technology and software issues, many businesses face cultural and legal obstacles to conducting all types of electronic commerce. B2C electronic commerce must deal with the fact that many consumers are still fearful of sending their credit card numbers over the Internet and having online merchants—merchants they have never met—know so much about them. Other consumers are simply resistant to change and are uncomfortable viewing merchandise on a computer screen rather than in person.
B2B electronic commerce is also affected by cultural and legal considerations. The details of business transactions are often not specified; businesses frequently rely on a long history of doing business a particular way. These established business practices can vary greatly from country to country, and making assumptions when engaging in international commerce can be disastrous. You will learn more about electronic commerce security, privacy issues, and payment systems later in this book.
The legal environment in which electronic commerce is conducted is full of unclear and conflicting laws. In many cases, government regulators have not kept up with technologies. As you will learn in Chapter 7, laws that govern commerce were written when signed documents were a reasonable expectation in any business transaction. However, as more businesses and individuals find the benefits of electronic commerce to be compelling, many of these technology- and culture-related disadvantages will be resolved or seem less problematic.
Economic Forces and Electronic Commerce
Economics is the study of how people allocate scarce resources. One important way that people allocate resources is through commerce (the other major way is through government actions, such as taxes or subsidies). Many economists are interested in how people organize their commerce activities. One way people do this is to participate in markets. Economists use a formal definition of market that includes two conditions: first, that the potential sellers of a good come into contact with potential buyers, and second, that a medium of exchange is available. This medium of exchange can be currency or barter. Most economists agree that markets are strong and effective mechanisms for allocating scarce resources. Thus, one would expect most business transactions to occur within markets. However, much business activity today occurs within large hierarchical business organizations, which economists generally refer to as firms, or companies.
Learning from Failures
Most hierarchical organizations are headed by a top-level president or chief operating officer. Reporting to the president are a number of executives who, in turn, have a larger number of middle managers who report to them, and so on. An organization can have a relatively flat hierarchy, in which there are only a few levels of management, or it can have many reporting levels. In either case, the bottom level includes the largest number of employees and is usually made up of production workers or service providers. Thus, the hierarchical organization always has a pyramid-shaped structure.
These large firms often conduct many different business activities entirely within the organizational structure of the firm and participate in markets only for purchasing raw materials and selling finished products. If markets are indeed highly effective mechanisms for allocating scarce resources, these large corporations should participate in markets at every stage of their production and value-generation processes. The late Nobel laureate Ronald Coase wrote an essay in 1937 in which he questioned why individuals who engaged in commerce often created firms to organize their activities. He was particularly interested in the hierarchical structure of these business organizations. Coase concluded that transaction costs were the main motivation for moving economic activity from markets to hierarchically structured firms.
Transaction costs are the total of all costs that a buyer and seller incur as they gather information and negotiate a purchase-and-sale transaction. Although brokerage fees and sales commissions can be a part of transaction costs, the cost of information search and acquisition is often far larger. Another significant component of transaction costs can be the investment a seller makes in equipment or in the hiring of skilled employees to supply the product or service to the buyer.
To understand better how transaction costs occur in markets, consider the following example: A sweater dealer could obtain sweaters by engaging in market transactions with a number of independent sweater knitters. Each knitter could sell sweaters to one or several dealers. Transaction costs incurred by the dealer would include the costs of identifying the independent knitters, visiting them to negotiate the purchase price, arranging for delivery of the sweaters, and inspecting the sweaters on arrival. The knitters would also incur costs, such as the purchase of knitting supplies. Because individual knitters could not know whether any sweater dealer would ever buy sweaters from them, the investments they make to enter the sweater-knitting business have an uncertain yield. This risk is a significant transaction cost for the knitters.
After purchasing the sweaters, sweater dealers take them to a different market in which sweater dealers meet and do business with the retail shops that sell sweaters to the consumer. The dealers can learn which colors, patterns, and styles are in demand from price and quantity negotiations with the retail shops in this market. The sweater dealers can then use that information to negotiate price and other terms in the knitters’ market. A diagram of this set of markets appears in Figure 1-6.
Market form of economic organization
Markets and Hierarchies
Coase reasoned that when transaction costs were high, businesspeople would form organizations to replace market-negotiated transactions. These organizations would be hierarchical and would include strong supervision and worker-monitoring elements. Instead of negotiating with individuals to purchase sweaters they had knit, a hierarchical organization would hire knitters, and then supervise and monitor their work activities. This supervision and monitoring system would include flows of monitoring information from the lower levels to the higher levels of the organization. It would also have control of information flowing from the upper levels of the organization to the lower levels. Although the costs of creating and maintaining a supervision and monitoring system are high, they can be lower than transaction costs in many instances.
In the sweater example, the sweater dealer would hire knitters, supply them with yarn and knitting tools, and supervise their knitting activities. This supervision could be done mainly by first-line supervisors, who might be drawn from the ranks of the more skilled knitters. The practice of an existing firm replacing one or more of its supplier markets with its own hierarchical structure for creating the supplied product is called vertical integration. Figure 1-7 shows how the sweater example would look after the knitters and the individual sweater dealers were vertically integrated into the hierarchical structure of a single sweater dealer.
Hierarchical form of economic organization
Oliver Williamson, an economist who extended Coase’s analysis, noted that firms in industries with complex manufacturing and assembly operations tended to be hierarchically organized and vertically integrated. Many of the manufacturing and administrative innovations that occurred in businesses during the twentieth century increased the efficiency and effectiveness of hierarchical monitoring activities. Assembly lines and other mass-production technologies allowed work to be broken down into small, easily supervised procedures. The advent of computers brought tremendous increases in the ability of upper-level managers to monitor and control the detailed activities of their subordinates. Some of these direct measurement techniques are even more effective than the first-line supervisors on the shop floor.
During the years from the Industrial Revolution through the present, improvements in monitoring became commonplace and the size and level of vertical integration of firms have increased. In some very large organizations, however, monitoring systems have not kept pace with the organization’s increase in size. This has created problems because the economic viability of a firm depends on its ability to track operational activities effectively at the lowest levels of the firm. These firms have instituted decentralization programs that allow business units to function as separate organizations, negotiating transactions with other business units as if they were operating in a market rather than as part of the same firm. Economists argue that large companies decentralize because they have grown too large to be managed effectively as hierarchical structures, so their managers need the information provided by market mechanisms.
To expose their decentralized operations to market mechanisms, these companies allow their divisions to operate as independent business units. A strategic business unit, or simply business unit, is an autonomous part of a company that is large enough to manage itself but small enough to respond quickly to changes in its business environment. Strategic business units have their own mission and objectives; therefore, they have their own strategies for marketing, product development, purchasing, and long-term growth. General Electric, one of the largest companies in the world, has used strategic business units to organize its diverse business operations since the 1960s. For example, General Electric makes both jet engines and light bulbs. These two businesses have different products, distribution channels, and customer types; therefore, they require different objectives, product development strategies, marketing plans, and manufacturing operations. General Electric’s Jet Engine division and Light Bulb division operate as separate strategic business units. Although a strategic business unit operates as a participant in a market (rather than as part of the hierarchical structure of the owning company), the strategic business unit itself is organized internally as a hierarchy.
Exceptions to the general trend toward hierarchies do exist. Many commodities, such as wheat, sugar, and crude oil, are still traded in markets. The commodity nature of the products traded in these markets significantly reduces transaction costs. There are a large number of potential buyers for an agricultural commodity such as wheat, and farmers do not make any special investment in customizing or modifying the product for particular customers. Thus, neither buyers nor sellers in commodity markets experience significant transaction costs.
Using Electronic Commerce to Reduce Transaction Costs
Businesses and individuals can use electronic commerce to reduce transaction costs by improving the flow of information and increasing the coordination of actions. By reducing the cost of searching for potential buyers and sellers and increasing the number of potential market participants, electronic commerce can change the attractiveness of vertical integration for many firms.
To see how electronic commerce can change the level and nature of transaction costs, consider an employment transaction. The agreement to employ a person has high transaction costs for the seller—the employee who sells his or her services. These transaction costs include a commitment to forego other employment and career development opportunities. Individuals make a high investment in learning and adapting to the culture of their employers. If accepting the job involves a move, the employee can incur very high costs, including actual costs of the move and related costs, such as the loss of a spouse’s job. Much of the employee’s investment is specific to a particular job and location; the employee cannot transfer the investment to a new job.
If a sufficient number of employees throughout the world can telecommute, then many of these transaction costs could be reduced or eliminated. Instead of uprooting a spouse and family to move, a worker could accept a new job by simply logging on to a different company server.
Mobile technologies, which are becoming more prevalent in the third wave, can also reduce transaction costs. For example, a construction supervisor could review architectural drawings on her tablet device and place an immediate order for a building component using the tablet.
Network Economic Structures
Some researchers argue that many companies and strategic business units operate today in an economic structure that is neither a market nor a hierarchy. In this network economic structure, companies coordinate their strategies, resources, and skill sets by forming long-term stable relationships with other companies and individuals based on shared purposes. These relationships are often called strategic alliances or strategic partnerships, and when they occur between or among companies operating on the Internet, these relationships are also called virtual companies.
In some cases, these entities, called strategic partners, come together as a team for a specific project or activity. The team dissolves when the project is complete; however, the partners maintain contact with each other through the ensuing period of inactivity. When the need for a similar project or activity arises, the same organizations and individuals build teams from their combined resources. In other cases, the strategic partners form many intercompany teams to undertake a variety of ongoing activities. Later in this book, you will see many examples of strategic partners creating alliances of this sort on the Web. In a hierarchically structured business environment, these types of strategic alliances would not last very long because the larger strategic partners would buy out the smaller partners and form a larger single company.
Network organizations are particularly well suited to technology industries that are information intensive. In the sweater example, the knitters might organize into networks of smaller organizations that specialize in certain styles or designs. Some of the particularly skilled knitters might leave the sweater dealer to form their own company to produce custom-knit sweaters. Some of the sweater dealer’s marketing employees might form an independent firm that conducts market research on what the retail shops plan to buy in the upcoming months. This firm could sell its research reports to both the sweater dealer and the custom-knitting firm. As market conditions change, these smaller and more nimble organizations could continually reinvent themselves and take advantage of new opportunities that arise in the sweater markets. An illustration of such a network organization appears in Figure 1-8.
Network form of economic organization
Electronic commerce can make such networks, which rely extensively on information sharing, much easier to construct and maintain. Some researchers believe that these network forms of organizing commerce will become predominant in the near future. One of these researchers, Manuel Castells, even predicts that economic networks will become the prevalent organizing structure for all social interactions among people.
Economists have found that most activities yield less value as the amount of consumption increases. For example, a person who consumes one hamburger obtains a certain amount of value from that consumption. As the person consumes more hamburgers, the value provided by each hamburger decreases. Few people find the fifth hamburger as enjoyable as the first. This characteristic of economic activity is called the law of diminishing returns. In networks, an interesting exception to the law of diminishing returns occurs. As more people or organizations participate in a network, the value of the network to each participant increases. This increase in value is called a network effect.
To understand how network effects work, consider an early user of the telephone in the 1800s. When telephones were first introduced, few people had them. The value of each telephone increased as more people had them installed. As the network of telephones grew, the capability of each individual telephone increased because it could be used to communicate with more people. This increase in the value of each telephone as more and more telephones are able to connect to each other is the result of a network effect. Imagine how much less useful (and therefore, less valuable) your mobile phone today would be if you could only use it to talk with other people who had the same mobile phone carrier.
Your e-mail account, which gives you access to a network of other people with e-mail accounts, is another example of a network effect. If your e-mail account were part of a small network, it would be less valuable than it is. Most people today have e-mail accounts that are part of the Internet (a global network of computers, about which you will learn more in Chapter 2). In the early days of e-mail, most e-mail accounts only connected people in the same company or organization. Today’s Internet e-mail accounts are far more valuable than single-organization e-mail accounts were because of the network effect.
Regardless of how businesses in a particular industry organize themselves—as markets, hierarchies, or networks—you need a way to identify business processes and evaluate whether electronic commerce is suitable for each process. The next section presents one useful structure for examining business processes.
Identifying Electronic Commerce Opportunities
Internet technologies can be used to improve such a wide range of business processes that it can be difficult for managers to decide where and how to use them. One way to focus on specific business processes as candidates for electronic commerce is to break the business down into a series of value-adding activities that combine to generate profits and meet other goals of the firm. In this section, you will learn how to analyze business activities as a sequence of activities that create value for the firm.
Business activities are conducted by firms of all sizes. Smaller firms might combine business activities to create one product, sell through one distribution channel, or sell to one type of customer. Larger firms combine business activities to sell many different products and services through a variety of distribution channels to several types of customers. In these larger firms, managers organize their business activities into strategic business units, which you learned about earlier in this chapter. Multiple business units owned by a common set of shareholders make up a firm, or company, and multiple firms that sell similar products to similar customers make up an industry.
Strategic Business Unit Value Chains
In his 1985 book, Competitive Advantage, Michael Porter introduced the idea of value chains. A value chain is a way of organizing the activities that each strategic business unit undertakes to design, produce, promote, market, deliver, and support the products or services it sells. In addition to these primary activities, Porter also includes supporting activities, such as human resource management and purchasing, in the value chain model. Figure 1-9 shows a value chain for a strategic business unit, including both primary and supporting activities. These value chain activities will occur in some form in any strategic business unit.
Value chain for a strategic business unit
The left-to-right flow in Figure 1-9 does not imply a strict time sequence for these processes. For example, a business unit might engage in marketing activities before purchasing materials and supplies. Each strategic business unit conducts the following primary activities:
Design: activities that take a product from concept to manufacturing, including concept research, engineering, and test marketing
Identify customers: activities that help the firm find new customers and new ways to serve existing customers, including market research and customer satisfaction surveys
Purchase materials and supplies: procurement activities, including vendor selection, vendor qualification, negotiating long-term supply contracts, and monitoring quality and timeliness of delivery
Manufacture product or create service: activities that transform materials and labor into finished products, including fabricating, assembling, finishing, testing, and packaging
Market and sell: activities that give buyers a way to purchase and that provide inducements for them to do so, including advertising, promoting, managing salespeople, pricing, and identifying and monitoring sales and distribution channels
Deliver: activities that store, distribute, and ship the final product or provide the service, including warehousing, handling materials, consolidating freight, selecting shippers, and monitoring timeliness of delivery
Provide after-sales service and support: activities that promote a continuing relationship with the customer, including installing, testing, maintaining, repairing, fulfilling warranties, and replacing parts
The importance of each primary activity depends on the product or service the business unit provides and to which customers it sells. Each business unit must also have support activities that provide the infrastructure for the unit’s primary activities. The central corporate organization typically provides the support activities that appear in Figure 1-9. These activities include the following:
Finance and administration activities: providing the firm’s basic infrastructure, including accounting, paying bills, borrowing funds, reporting to government regulators, and ensuring compliance with relevant laws
Human resource activities: coordinating the management of employees, including recruiting, hiring, training, compensation, and managing benefits
Technology development activities: improving the product or service that the firm is selling and that helps improve the business processes in every primary activity, including basic research, applied research and development, process improvement studies, and field tests of maintenance procedures
Industry Value Chains
Porter’s book also identifies the importance of examining where the strategic business unit fits within its industry. Porter uses the term value system to describe the larger stream of activities into which a particular business unit’s value chain is embedded. However, many subsequent researchers and business consultants have used the term industry value chain when referring to value systems. When a business unit delivers a product to its customer, that customer might use the product as purchased materials in its value chain. By becoming aware of how other business units in the industry value chain conduct their activities, managers can identify new opportunities for cost reduction, product improvement, or channel reconfiguration.
Every product or service is sold within an industry value chain that can be identified and analyzed for these opportunities. To create an industry value chain, start with the inputs to your strategic business unit and work backward to identify your suppliers’ suppliers, then the suppliers of those suppliers, and so on. Then start with your customers and work forward to identify your customers’ customers, then the customers of those customers, and so on.
An example of an industry value chain appears in Figure 1-10. This value chain is for a wooden chair and traces the life of the product from its inception as trees in a forest to its grave in a landfill or at a sawdust recycler.
Industry value chain for a wooden chair
Each business unit (logger, sawmill, lumberyard, chair factory, retailer, consumer, and recycler) shown in Figure 1-10 has its own value chain. For example, the sawmill purchases logs from the tree harvester and combines them in its manufacturing process with inputs, such as labor and saw blades, from other sources. Among the sawmill customers are the chair factory, shown in Figure 1-10, and other users of cut lumber. Examining this industry value chain could be useful for the sawmill that is considering entering the tree-harvesting business or the furniture retailer who is thinking about partnering with a trucking line. The industry value chain identifies opportunities up and down the product’s life cycle for increasing the efficiency or quality of the product.
Many managers have found ways to use electronic commerce technologies to reduce costs, improve product quality, reach new customers or suppliers, or create new ways of selling existing products. For example, software developers now almost universally use the Internet to distribute updates. Doing so modified software developers’ industry value chains and has provided additional opportunities for sales revenue (software developers now retain the profit that retailers and distributors once added to the price of updates), but this revenue opportunity was not a part of the software developers’ business unit value chains. By examining elements of the value chain outside the individual business unit, managers can identify many business opportunities, including those that can be exploited using electronic commerce.
The value chain concept is a useful way to think about business strategy in general. When firms are considering electronic commerce, the value chain can be an excellent way to organize the examination of business processes within their business units and in other parts of the product’s life cycle. Using the value chain reinforces the idea that electronic commerce should be a business solution, not a technology implemented for its own sake.
SWOT Analysis: Evaluating Business Unit Opportunities
Now that you have learned about industry value chains and SBUs, you can learn one popular technique for analyzing and evaluating business opportunities. Most electronic commerce initiatives add value by either reducing transaction costs, creating some type of network effect, or a combination of both. In SWOT analysis (the acronym is for strengths, weaknesses, opportunities, and threats), the analyst first looks into the business unit to identify its strengths and weaknesses. The analyst then reviews the environment in which the business unit operates and identifies opportunities presented by that environment and the threats posed by that environment. Figure 1-11 shows questions that an analyst would ask in conducting a SWOT analysis for any company or strategic business unit.
SWOT analysis questions
By considering all of the issues that it faces in a systematic way, a business unit can formulate strategies to take advantage of its opportunities by building on its strengths, avoiding any threats, and compensating for its weaknesses.
In the mid-1990s, Dell Computer used a SWOT analysis to create a business strategy that helped it become a strong competitor in its industry value chain. Dell identified its strengths in selling directly to customers and in designing its computers and other products to reduce manufacturing costs. It acknowledged the weakness of having no relationships with local computer dealers. Dell faced threats from competitors such as Compaq (now a part of Hewlett-Packard) and IBM, both of which had much stronger brand names and reputations for quality at that time. Dell identified an opportunity by noting that its customers were becoming more knowledgeable about computers and could specify exactly what they wanted without having Dell salespeople answer questions or develop configurations for them. It also saw the Internet as a potential marketing tool. Dell carefully considered and answered the SWOT analysis questions shown in Figure 1-11. The results of Dell’s SWOT analysis appear in Figure 1-12.
Results of Dell’s SWOT analysis
The strategy that Dell followed after doing the analysis took all four of the SWOT elements into consideration. Dell decided to offer customized computers built to order and sold over the phone and, eventually, over the Internet. Dell’s strategy capitalized on its strengths and avoided relying on a dealer network. The brand and quality threats posed by Compaq and IBM were lessened by Dell’s ability to deliver higher perceived quality because each computer was custom-made for each buyer. Ten years later, Dell observed that the environment of personal computer sales had changed and did start selling computers through dealers.
International Nature of Electronic Commerce
Because the Internet connects computers all over the world, any business that engages in electronic commerce instantly becomes an international business, with exposure to potential customers in other countries and cultures. When companies use the Web to improve a business process, they are automatically operating in a global environment. The first wave of electronic commerce was dominated by U.S. businesses. In the second wave, European and Asian businesses expanded online.
In the third wave, a rapidly increasing proportion of online business activity is based outside the United States. Countries with large populations, such as China, India, and Brazil, have seen enormous recent growth in both the number of people who have Internet access and the number of online businesses. The proliferation of smartphones and tablet devices has greatly increased the size of potential markets for companies operating in these countries. B2C sales in China have exceeded those in the United States since 2013. Figure 1-13 shows the proportions of online B2C sales that arise in the main geographic regions of the world.
Proportion of online B2C sales by geographic region, 2014
Although much of the online sales activity in each of the world regions depicted in the figure occurs within its originating region, a substantial proportion of online business today occurs across international boundaries. The key issues that a company faces when it conducts international commerce include trust, culture, language, government, and infrastructure. These topics are covered in the following sections. The related issues of international law and currency conversion are covered in Chapter 7.
Trust Issues on the Web
It is important for all businesses to establish trusting relationships with their customers. Companies with established reputations in the physical world often create trust by ensuring that customers know who they are. These businesses can rely on their established brand names to create trust on the Web. New companies that want to do business online face a more difficult challenge because a kind of anonymity exists for companies trying to establish a Web presence.
For example, a U.S. bank can establish a Web site that offers services throughout the world. No potential customer visiting the site can determine just how large or well established the bank is simply by browsing through the site’s pages. Because Web site visitors will not become customers unless they trust the company behind the site, a plan for establishing credibility is essential. Sellers on the Web cannot assume that visitors will know that the site is operated by a trustworthy business.
Customers’ inherent lack of trust in “strangers” on the Web is logical and to be expected; after all, people have been doing business with their neighbors—not strangers—for thousands of years. When a company grows to become a large corporation with multinational operations, its reputation grows commensurately. Before a company can do business in dozens of countries, it must prove its trustworthiness by satisfying customers for many years as it grows. Businesses on the Web must find ways to overcome this well-founded tradition of distrusting strangers, because today a company can incorporate one day and, through the Web, be doing business the next day with people all over the world. For businesses to succeed on the Web, they must find ways to quickly generate the trust that traditional businesses take years to develop.
Most companies realize that the only way to do business effectively in other cultures is to adapt to those cultures. The phrase “think globally, act locally” is often used to describe this approach. The first step that a Web business usually takes to reach potential customers in other countries, and thus in other cultures, is to provide local language versions of its Web site. This may mean translating the Web site into another language or regional dialect. Researchers have found that customers are far more likely to buy products and services from Web sites in their own language, even if they can read English well. Only about 400 million of the world’s 7 billion people learned English as their native language. Electronic commerce began in the United States; however, it has become a global phenomenon and the proportion of Web sites available only in English has declined dramatically in recent years. Today, about 25 percent of Web sites are in English.
Some languages require multiple translations for separate dialects. For example, the Spanish spoken in Spain is different from that spoken in Mexico, which is different from that spoken elsewhere in Latin America. People in parts of Argentina and Uruguay use yet a fourth dialect of Spanish. Many of these dialect differences are spoken inflections, which are not important for Web site designers (unless their sites include audio or video elements); however, a significant number of differences occur in word meanings and spellings. You might be familiar with these types of differences, because they occur in the United States and British dialects of English. The U.S. spelling of gray becomes grey in Great Britain, and the meaning of bonnet changes from a type of hat in the United States to an automobile hood in Great Britain. Chinese has two main systems of writing: simplified Chinese, which is used in the Peoples Republic of China, and traditional Chinese, which is used in Hong Kong and Taiwan.
Most companies that translate their Web sites choose to translate all of their pages. A number of firms translate Web pages and maintain them for a fee that is usually between 15 and 50 cents per word for translations done by skilled human translators. Languages that are complex or that are spoken by relatively few people are generally more expensive to translate than other languages. Different approaches can be appropriate for translating the different types of text that appear on an electronic commerce site. For key marketing messages, the touch of a human translator can be essential to capture subtle meanings. For more routine transaction-processing functions, automated software translation may be an acceptable alternative. Software translation, also called machine translation, can reach speeds of 400,000 words per hour, so even if the translation is not perfect, businesses might find it preferable to a human who can translate only about 500 words per hour. Many of the companies in this field are working to develop software and databases of previously translated material that can help human translators work more efficiently and accurately.
The translation services and software manufacturers that work with electronic commerce sites do not generally use the term “translation” to describe what they do. They prefer the term localization, which means a translation that considers multiple elements of the local environment, such as business and cultural practices, in addition to local dialect variations in the language. The cultural element is very important because it can affect—and sometimes completely change—the user’s interpretation of text.
An important element of business trust is anticipating how the other party to a transaction will act in specific circumstances. A company’s brand conveys expectations about how the company will behave; therefore, companies with established brands can build online businesses more quickly and easily than a new company without a reputation. For example, a potential buyer might like to know how the seller would react to a claim by the buyer that the seller misrepresented the quality of the goods sold. Part of this knowledge derives from the buyer and seller sharing a common language and common customs. Buyers are more comfortable doing business with sellers they know are trustworthy.
The combination of language and customs is often called culture. Most researchers agree that culture varies across national boundaries and, in many cases, varies across regions within nations. For example, the concept of private property is an important cultural value and underlies laws in many European and North American countries. Asian cultures do not value private property in the same way, so laws and business practices in those countries can be quite different. All companies must be aware of the differences in language and customs that make up the culture of any region in which they intend to do business.
For example, managers at Virtual Vineyards (now a part of Wine.com), a company that sells wine and specialty food items on the Web, were perplexed by the unusually high number of complaints from customers in Japan about short shipments. Virtual Vineyards sold most of its wine in case (12 bottles) or half-case quantities. Thus, to save on operating costs, it stocked shipping materials only in case, half-case, and two-bottle sizes. After an investigation, the company determined that many of its Japanese customers ordered only one bottle of wine, which was shipped in a two-bottle container. To these Japanese customers, who consider packaging to be an important element of a high-quality product such as wine, it was inconceivable that anyone would ship one bottle of wine in a two-bottle container. They were e-mailing to ask where the other bottle was, notwithstanding the fact that they had ordered only one bottle.
Some errors stemming from subtle language and cultural standards have become classic examples that are regularly cited in international business courses and training sessions. For example, General Motors’ choice of name for its Chevrolet Nova automobile amused people in Latin America—no va means “it will not go” in Spanish. Pepsi’s “Come Alive” advertising campaign fizzled in China because its message came across as “Pepsi brings your ancestors back from their graves.”
Another story that is widely used in international business training sessions is about a company that sold baby food in jars adorned with the picture of a very cute baby. The jars sold well everywhere they had been introduced except in parts of Africa. The mystery was solved when the manufacturer learned that food containers in those parts of Africa always carry a picture of their contents. This story is particularly interesting because it never happened. However, it illustrates a potential cultural issue so dramatically that it continues to appear in marketing textbooks and international business training materials.
Designers of Web sites for international commerce must be very careful when they choose icons to represent common actions. For example, in the United States, a shopping cart is a good symbol to use when building an electronic commerce site. However, many Europeans use shopping baskets when they go to a store and may never have seen a shopping cart. In Australia, people would recognize a shopping cart image but would be confused by the text “shopping cart” if it were used with the image. Australians call them shopping trolleys. In the United States, people often form a hand signal (the index finger touching the thumb to create a circle) that indicates “OK” or “everything is just fine.” A Web designer might be tempted to use this hand signal as an icon to indicate that the transaction is completed or the credit card is approved, unaware that in some countries, including Brazil, this hand signal is an obscene gesture.
The cultural overtones of simple design decisions can be dramatic. In India, for example, it is inappropriate to use the image of a cow in a cartoon or other comical setting. Potential customers in Muslim countries can be offended by an image that shows human arms or legs uncovered. Even colors or Web page design elements can be troublesome. For example, white, which denotes purity in Europe and the Americas, is associated with death and mourning in China and many other Asian countries. A Web page that is divided into four segments can be offensive to a Japanese visitor because the number four is a symbol of death in that culture.
Initially, Japanese shoppers resisted the U.S. version of electronic commerce because they preferred to pay in cash or by cash transfer instead of by credit card, and they had a high level of apprehension about doing business online. Softbank, a major Japanese firm that invests in Internet companies, created a joint venture with 7-Eleven, Yahoo! Japan, and Tohan (a major Japanese book distributor) to sell books and CDs online. This venture, called eS-Books, allowed customers to order items on the Internet, and then pick them up and pay for them in cash at the local 7-Eleven convenience store. By adding an intermediary that satisfied the needs of the Japanese customer, Softbank was highly successful in bringing B2C electronic commerce to Japan.
Culture and Government
Some parts of the world have cultural environments that are extremely inhospitable to the type of online discussion that occurs on the Internet. These cultural conditions, in some cases, lead to government controls that can limit electronic commerce development. The Internet is a very open form of communication. This type of unfettered communication is not desired or even considered acceptable in some cultures. For example, Human Rights Watch regularly reports on countries that do not allow their citizens unrestricted access to the Internet; China, Russia, Saudi Arabia, Yemen, and the United Arab Emirates all filter the Web content that is available in their countries.
In some countries, officials have publicly denounced the Internet as a medium that helps distribute materials that are sexually explicit, antireligion, or that cast doubts on the traditional role of women in their societies. In many of these countries, uncontrolled use of Internet technologies is so at odds with existing traditions, cultures, and laws that electronic commerce is unlikely to exist locally at any significant level in the near future.
A number of governments in the world control Internet access as a way to prevent the formation and growth of internal independent political activist organizations. By limiting access or monitoring all Internet traffic, the planners of rebellions against the government can be thwarted. The censorship of Internet content and communications restricts electronic commerce because it prevents certain types of products and services from being sold or advertised. Further, it reduces the interest level of many potential participants in online activities. If large numbers of people in a country are not interested in being online, businesses that use the Internet as an information and product delivery channel will not develop in those countries.
Countries such as the People’s Republic of China and Singapore are wrestling with the issues presented by the growth of the Internet as a vehicle for doing business. These countries have a tradition of controlling their citizens’ access to information from outside the country, but they want their economies to reap the benefits of electronic commerce. China created a complex set of registration requirements and regulations that govern any business that engages in electronic commerce. These regulations are enforced by the Public Security Bureau, which is a branch of the state police, not an independent administrative agency. For example, companies in China that sell Internet services must register all of their customers with the Public Security Bureau and must retain copies of all e-mail messages and chat room conversations for 60 days.
The Chinese government regularly conducts reviews of ISPs and their records. Every year, the Chinese Public Security Bureau shuts down thousands of Internet cafes for failing to keep adequate records and requires many others to suspend operations while they implement required electronic record-keeping procedures. Operators of Web sites in China are required to monitor all content that appears on their sites. Hundreds of people have been jailed in China for posting “subversive” content on Web pages.
At times, the Chinese government has required the installation of censoring software on all computers used in schools and Internet cafes in the country. One example of such software, the Green Dam Youth Escort, blocked any Web sites on a government-banned list and tracked details of the use of the computer on which it was installed. A requirement that all computers sold in China have this software installed was withdrawn in 2009; however, other government efforts to limit access to the Internet are in place. China’s Golden Shield Project is an $800 million effort to limit its citizens’ access to information on the Internet that it deems to be forbidden. The Chinese government actively monitors developments in the world to determine what it will censor. For example, Chinese human rights activist Liu Xiaobo became a forbidden topic when he won the 2010 Nobel Peace Prize and discussion of the 2013 arrest of Xu Zhiyong, another human rights activist, also was forbidden.
Some countries, although they do not ban electronic commerce entirely, have strong cultural requirements that have found their way into the legal codes that govern business conduct. In France, an advertisement for a product or service must be in French. Thus, a business in the United States that advertises its products on the Web and is willing to ship goods to France must provide a French version of its pages if it intends to comply with French law. Many U.S. electronic commerce sites include in their Web pages a list of the countries from which they will accept orders through their Web sites to limit their exposure to laws such as this.
Businesses that successfully meet the challenges posed by trust, language, and culture issues still face the challenges posed by variations and inadequacies in the infrastructure that supports the Internet throughout the world. Internet infrastructure includes the computers and software connected to the Internet and the communications networks over which the message packets travel. In many countries other than the United States, the telecommunications industry is either government-owned or heavily regulated by the government. In many cases, regulations in these countries have inhibited the development of the telecommunications infrastructure or limited the expansion of that infrastructure to a size that cannot reliably support Internet traffic.
Local connection costs through the existing telephone networks in many developing countries are very high compared to U.S. costs for similar access. This can have a profound effect on the behavior of electronic commerce participants. For example, in countries where Internet connection costs are high, few businesspeople would spend time surfing the Web to shop for a product. They would use a Web browser only to navigate to a specific site that they know offers the product they want to buy. Thus, to be successful in selling to businesses in such countries, a company would need to advertise its Web presence in traditional media instead of relying on Web search engines to deliver customers to their Web sites. This problem continues in many countries even as they move to mobile devices for Internet access. In India and China, data plans for smartphones are very expensive. These costs limit Internet usage, especially B2C Web shopping, just as high telephone network costs have in the past.
More than half of all businesses on the Web turn away international orders because they do not have the processes in place to handle such orders. Some of these companies are losing millions of dollars’ worth of international business each year. This problem is increasingly global; not only are U.S. businesses having difficulty reaching their international markets, but businesses in other countries are having even greater difficulties reaching the U.S. market.
The paperwork and often-convoluted processes that accompany international transactions are targets for technological solutions. Most firms that conduct business internationally rely on a complex array of freight-forwarding companies, customs brokers, international freight carriers, bonded warehouses, and importers to navigate the maze of paperwork that must be completed at every step of the transaction to satisfy government and insurance requirements. A freight forwarder is a company that arranges shipping and insurance for international transactions. A customs broker is a company that arranges the payment of tariffs and compliance with customs laws for international shipments. A number of companies combine these two functions and offer a full range of export management services. A bonded warehouse is a secure location where incoming international shipments can be held until customs requirements are satisfied or until payment arrangements are completed. The multiple flows of information and transfers of physical objects that occur in a typical international trade transaction are illustrated in Figure 1-14.
Parties involved in a typical international trade transaction
As you can see in Figure 1-14, the information flows can be complex. Domestic transactions usually include only the seller, the buyer, their respective banks, and one freight carrier. International transactions almost always require physical handling of goods by several freight carriers, storage in a freight forwarder’s facility before international shipment, and storage in a port or bonded warehouse facility in the destination country. This handling and storage require monitoring by government customs offices in addition to the monitoring by seller and buyer that occurs in domestic transactions. International transactions usually require the coordinated efforts of customs brokers and freight-forwarding agencies because the regulations and procedures governing international transactions are so complex. You will learn more about how businesses transfer money in international transactions in Chapter 11.
Industry experts estimate that the annual cost of handling paperwork for international transactions is $700 billion. Companies sell software that can automate some of the paperwork; however, many countries have their own paper-based forms and procedures with which international shippers must comply. To further complicate matters, some countries that have automated some procedures use computer systems that are incompatible with those of other countries.
Some governments provide assistance to companies that want to do international business on the Web. The Argentine government operates the Argentina Empresas Web site to provide information to companies that want to do business in Argentina. The U.S. Department of Commerce’s International Trade Administration operates the Export.gov site, a portal for U.S. companies that want to sell abroad.
Infrastructure issues will continue to prevent international business from reaching its full potential until technology is adapted to overcome barriers instead of being a part of those barriers.
In this chapter, you learned that electronic commerce is the application of new technologies, particularly Internet and Web technologies, to help individuals, businesses, and other organizations conduct business more effectively. Electronic commerce is being adopted in waves of change. The first wave of electronic commerce ran from about 1995 through 2003 and was characterized by a period of rapid growth and innovation, with many companies pursuing a first-mover advantage. This period included much experimentation with a wide range of revenue models and business strategies and developed primarily in the United States. The second wave, which ran from 2004 through 2009, saw global expansion of electronic commerce driven by improvements in the technologies of the Internet and the Web. Digital product distribution grew dramatically as content providers came to terms with piracy and developed strategies for succeeding in the online environment. An increasing number of companies used a smart-follower strategy rather than pursuing a first-mover advantage. A third wave of electronic commerce began in 2010 and is exploiting the critical mass of mobile users who have powerful smartphones and tablet devices and are eager to do business and participate in social networking online. Other characteristics of the third wave include increased participation by smaller businesses, rapid electronic commerce growth in developing countries with large populations, sophisticated analysis of the large amounts of data generated by electronic commerce activities, and increased integration of tracking technologies into business operations.
You also learned that, when viewed through an historical perspective, the “boom and bust” characterization of the development of electronic commerce often portrayed in the media is largely incorrect. Although online business activity has increased and decreased with changes in the overall economy, it has a long record of consistently outperforming traditional business activity throughout its history.
Using electronic commerce, some businesses have been able to create new products and services, and others have improved the promotion, marketing, and delivery of existing offerings. Firms have also found many ways to use electronic commerce to improve purchasing and supply activities; identify new customers; and operate their finance, administration, and human resource management activities more efficiently. You learned that electronic commerce can help businesses reduce transaction costs or create network economic effects that can lead to greater revenue opportunities.
You examined an overview of markets, hierarchies, and networks—the economic structures in which businesses operate—and learned how electronic commerce fits into those structures. Porter’s ideas about value chains at the business unit and industry levels were presented, and you learned how to use value chains and SWOT analysis as ways to understand business processes and analyze their suitability for electronic commerce implementation.
The inherently global nature of electronic commerce leads to many opportunities and a number of challenges. You learned that companies engaged in international electronic commerce must understand the trust, cultural, language, infrastructure, and legal issues that arise when doing business across national borders.