Trading Places

Ray Rawson hardly seems like the type to get caught up in the dotcom revolution. He's a plain-talking, blue-jeans-clad farmer, fitter than one might expect for his 56 years, busy working a 10,000-acre spread that spans two rural counties in Michigan. Yet early in the morning, before his crews show up, Rawson's farm business meets e-business at a Web site called DirectAg.com.

At the site, Rawson reads agricultural news that helps him pick the best time to sell the options on his soybean, corn and wheat harvests. He figures that in one month last northern autumn, he made an extra $US100,000 or so in profits thanks to information that he would have had to otherwise chase down by phone or would not have seen at all. Information such as news on what the ag markets did overnight in Europe gives him an edge in figuring out what they might do in the United States that day. He's also saved money on purchases. DirectAg.com's prices on farm supplies often beat those of local distributors, since he can get a larger volume discount by concentrating his buying in one place. He's saving around $US70 a ton on fertiliser alone - a big chunk of change for someone who buys several hundred tons at a time. "In one year, it's enough to go out to dinner a couple of times," Rawson deadpans, "maybe in the Cayman Islands."

Rawson is just one of a growing number of business folks flocking to Web sites that bring together buyers and sellers within a particular industry, or across a particular business activity, for one purpose: wringing inefficiencies out of the supply chain. These sites go by many names - e-hubs, e-marketplaces, e-market makers, vertical portals, business-to-business trade communities, intermediaries and even metamediaries. They are cropping up in industries from petrochemicals to produce, steel to semiconductors. In 1998, such marketplaces handled around $US12 billion in business, not including marketplaces that trade financial instruments, according to Dataquest, a GartnerGroup company. And by the year 2003, Dataquest expects $US1.25 trillion in non financial goods and services to be traded through them. "Buyers and sellers who aren't participating . . . will certainly be at a disadvantage," says Leah Knight, analyst at Dataquest in San Jose, California.

For buyers, a marketplace can make it easy to find and compare products and prices - easier than paging through dozens of manufacturers' catalogues or calling scads of distributors to find the best quote, Knight says. For sellers, marketplaces offer a chance to reach new buyers, such as small accounts that wouldn't have been cost-effective for a sales rep to handle or that are located elsewhere in the world, or to unload surplus inventory. And those efficiencies add up: Bear, Stearns and Company, an investment banking and securities trading and brokerage company in New York City, estimates that by 2003 marketplaces will yield their participants nearly $US60 billion in savings, with reduced supply chain costs accounting for $US13 billion of that amount.

Some industries have already spawned multiple marketplaces. Agriculture has DirectAg.com and Farms.com, the chemicals industry has Chemdex, CheMatch.com, ChemConnect and Fobchemicals.com, and the metals industry has MetalSite and e-Steel. Some industries will see more business flow through such marketplaces than others. Some marketplaces aim to take the place of traditional middlemen; others try to work with existing distributors. But smart CIOs and e-business strategists must understand how these marketplaces work - and how they could redefine their supply chains - because if none has cropped up in their industry sector yet, it's only a matter of time.

Breaking Down the Business Models

Marketplaces fall into two broad categories: vertical and horizontal. Vertical marketplaces operate in specific industries - agriculture, energy, petrochemicals and so on; DirectAg.com is one such marketplace. Horizontal marketplaces, on the other hand, focus on a specific job function or need applicable to many different industries, such as purchasing used office equipment or maintenance, repair and operating (MRO) supplies. Trade Out.com, a site that auctions surplus equipment, falls into the horizontal marketplace category.

Whether vertical or horizontal, a marketplace won't thrive without a critical mass of buyers and sellers. Buyers won't visit a site if it doesn't have the suppliers they want to buy from; suppliers won't want to participate in a marketplace that doesn't get enough buyer traffic. Content is also key to a marketplace's success: buyers need enough pricing and product information to be able to make a buying decision. Value-added content such as industry news, expert advice or detailed product spec sheets can make a marketplace that much more compelling.

What industries are fertile territory for marketplaces to develop? In their September 1999 "Internet Business to Business Report", Bear, Stearns analysts Scott Ehrens and Peter Zapf spell out some of the characteristics. One is size; "intermediaries", the authors' term for an online business that aggregates data and facilitates transactions via a marketplace, are most likely to target industries that do at least $US10 billion in business. Another indicator that an industry is ready for marketplace development is a fragmented supply chain, that is, a market in which it's hard for buyers and sellers to find one another. An intermediary can bring them together to help buyers compare offerings. And when products, inventory levels and prices change quickly, or product descriptions are complex - when it's hard for buyers to compare product information - an intermediary can aggregate such information and make it easier to search.

Though they both target the business-to-business e-commerce space, these marketplaces differ from extranets. Extranets just Web-enable relationships between existing partners; they tend to be run by a single company seeking to lower the cost of doing business with its current suppliers or customers. Marketplaces, on the other hand, bring together multiple vendors and multiple buyers; they tend to be run by independent third parties who have deep experience in the industry they aim to serve. Forrester Research senior analyst Varda Lief, in her "Anatomy of New Market Models" report, groups these marketplaces into three categories based on the market model they adopt: aggregators, auctions and exchanges. Some Web businesses have already begun to combine these models, but the distinctions offer a useful taxonomy.

Aggregators aim to be "one-stop shopping" locales, gathering the catalogues of many suppliers and presenting them to targeted groups of buyers, as DirectAg.com does for farmers like Rawson. Aggregators can give small sellers access to a broad range of buyers; they can also group small buyers to increase their buying power and consequently offer them volume discounts. They keep buyers from having to call distributors or scan catalogues, and they can make it easier for sellers to set up an online presence.

Auctions offer venues for suppliers to unload excess inventory; buyers bid against each other to set the price. The advantage for buyers is that they can get lower prices on surplus goods; sellers can shorten the amount of time they hold inventory and can get access to new markets. MetalSite, for example, is a marketplace that facilitates the buying and selling of steel and other metal products. The site's first investors included three of the biggest names in the industry - Weirton Steel, LTV Steel and Steel Dynamics - and sellers offer $US45 million to $US50 million in inventory on the site every month. The site initially sponsored only sealed-bid auctions of non-prime and surplus products. Late last year it began offering participants the chance to buy both prime and non-prime metals online through a product guide on the site that specifies list prices but also offers contract and volume-discount pricing, as well as the opportunity for online negotiations. The site offers steelmakers several advantages. "It opens up another channel of distribution for them," says Maggie Bray, MetalSite's manager of communications. "It's a more efficient, more streamlined way of doing business. You can deal with thousands of buyers at a time instantly, rather than one phone call at a time."

Exchanges, akin to the Chicago Board of Trade or Nasdaq, are anonymous marketplaces that let industry players trade commodities - such as excess chemicals or energy capacity - in a spot, or last-minute, market. By bringing buyers and sellers together on neutral trading turf, the market determines the price dynamically, with both buyer and seller able to go back and forth on a price. CheMatch, an online spot market for petrochemicals, plastics and fuel additives, counts industry giants like ExxonMobil and Dow Chemical among its participants, all of which are pre-screened. Trading is anonymous, but traders can spell out with whom they want - and don't want - to do business. Jorge Werlang, vice president of global commodities trading at Voest-Alpine Intertrading, an international commodities trading company in Houston, says using the exchange saves him the trouble of calling individual traders or brokers. In a fast-paced market, where Werlang is sometimes so busy that lunch consists of a cappuccino slurped down at his three-screen trading desk, time is of the essence. He believes human brokers feel threatened by the fact that CheMatch lets him watch the market - and its fluctuating prices and product availability - play out in front of him. "You see what's happening," Werlang says, as he watches the CheMatch screen change colour, letting him know that a seller has decided to make a lower counter offer on his $US2.5 million bid to buy 60,000 barrels of benzene. "Brokers know that it's hard to represent the market differently than it is."

Business-to-business marketplaces earn money in a variety of ways. Some sell advertising, although for many that is becoming a less important piece of the revenue stream. Matchmaking sites - those that gather requests for proposals or requests for quotes - may charge sellers a finder's fee for every buyer lead they pass on. Sites with a catalogue component take a mark-up on the items they sell, just as distributors do. For DirectAg.com, that mark-up ranges from 10 per cent to 30 per cent - similar to the mark-up a traditional ag distributor would charge. The difference is that a traditional distributor might carry products from just a few manufacturers, while DirectAg.com carries a broader selection. Farmers who concentrate their buying at DirectAg.com receive greater volume discounts than they would at a traditional distributor. The typical range for mark-ups in multivendor catalogue sites is 5 per cent to 15 per cent, according to Bear, Stearns. Auction and exchange sites typically charge buyers, sellers or both a transaction fee; on CheMatch, for example, buyers and sellers currently pay one-tenth of a cent per gallon on each trade. Some marketplaces charge membership fees, although Bear, Stearns notes that those fees can keep people from signing up to a marketplace, and they are frequently waived. Expect to see a lot of tinkering with these formulas over the coming months: marketplaces that now charge buyers to participate may decide that it is more advantageous to charge sellers, and vice versa. "These business models are all still very young, and they're not worked out," says Erica Rugullies, director at Giga Information Group. "We'll see a lot of changes over the next 18 months."

See How They Grow

As an industry's buyers and sellers have more marketplaces to choose from, marketplaces will need to broaden their sources of revenue and the services they provide to stay competitive. Offering services such as financing, logistics, back-end system integration and procurement management will help them tighten ties with participants. DirectAg.com, for example, has come up with a variety of financial tools, including the ability to sign up online for a house credit account of $US17,500, apply for loans of up to $US1 million and set up an account with an online bank. "We sell big-ticket items," says Kip Pendleton, president and CEO of DirectAg.com, hence the need for the financing. "We expect the average [farmer] will use our site to buy $US230,000 of [products] a year."

While some marketplaces seek to grow by going deep within one industry, others are trying to go wide. That's been VerticalNet's strategy from day one, says founder Michael Hagan. The Pennsylvania-based company owns and runs 53 vertical business trading communities in areas such as wastewater treatment and paper manufacturing; it started out largely as a content and community provider, but is now aggressively moving to offer commerce. Its core advantage, Hagan says, is the ability to leverage new technologies across 53 balance sheets. For example, it acquired Isadra (last spring for $US47 million in stock), which makes technology for aggregating supplier catalogue data, and that technology can be used across its entire network. "We were able to amortise that across the whole network," Hagan says. "Other companies would have had to absorb it in one market."

Analysts have questioned whether VerticalNet will be successful in its move to offer commerce - and whether it will be able to dig deep enough in each industry to compete with industry-specific marketplaces. "A vertical market is more valuable to [participants] the more vertical it is," Forrester Research's Lief says. But some recent developments may validate Hagan's model: Fobchemicals.com, a vertical purchasing site that acts like a co-op for buyers by aggregating orders, thereby lowering prices and transaction costs, opened in November 1999 and is eyeing using the same model in the food ingredients, plastics, metals, paper and packaging industries. And last September Chemdex, one of the earliest aggregators out the door in the chemicals industry, bought Promedix.com, a medical products exchange. "[Chemdex] started in one market super deep, and now they're saying that they can exploit their technology and infrastructure in another," Hagan says.

Whatever their strategies for growth, not all of these marketplaces will survive. As one or two players within an industry get a critical mass of buyers and sellers, they may wind up consolidating with each other or with smaller players. Bear, Stearns predicts marketplaces that need to be deeply integrated with companies' business processes, and hence their internal systems, will wind up having to join forces with Ariba, Commerce One or other procurement software vendors. Rawson, for one, hopes to see DirectAg.com expand. Some day, he'd like to be able to market his crops via the site. "It would be a [central] place to sell," Rawson says. "Then the world market would know where to come."

Before You Join

Don't get involved in a business-to-business marketplace until you've done your homework Whether you're a potential buyer or you have wares to sell, you need to consider the following tips before you join a business-to-business marketplace.

Buyers should

* Look for the lowest prices and broadest selection * Seek assurances of quality and reliability * Check out a site's financing and logistics services - they can tip the scale in favour of one marketplace over another Sellers should * Compare the fees with those charged by other marketplaces and by traditional distributors * Find out whether the marketplace delivers enough foot traffic to merit those fees; also ask how well your brand will be represented online * Beware of how online sales impinge on sales through other channels, but don't let channel conflict stop participation if your buyers want you to join a marketplace * Be prepared for the technological hurdles of integrating back-end systems with marketplaces Buyers and sellers should * Determine whether the marketplace lets you preserve existing relationships, for example by allowing you to identify a preferred buyer or seller * Ask how the marketplace screens out fraudulent participants - S KalinB-to-B Marketplace Sales in 2003 Energy $US90 billionChemicals $US89 billionFood and agriculture $US54 billionComputing and electronics $US40 billionMRO (maintenance, repair and operations) $US33 billionMotor vehicles $US21 billion Construction $US21 billion Business travel $US20 billionShipping and warehousing $US15 billionProfessional $US12 billionPharmaceutical and medical $US11 billionConsumer goods $US10 billionAdministration/Support $US10 billionTelecom $US8 billionHeavy industries $US2 billionIndustrial equipment $US2 billionAerospace and defence $US2 billion SOURCE: "The Internet Business to Business Report," Bear, Stearns and Company, New York City.

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