11 Sep 2000  Research & Ideas

Riding the Internet Fast Track

On the Internet Express, getting big fast is the strategy of choice. But is it right for everyone? HBS Professor Thomas R. Eisenmann looks at key factors that can help a company decide.

 

Take a seat and hold on tightly. You're aboard the Internet Express, where speed is the order of the day and profit but a remote destination. For firms that ride the rails of the Internet's fast track, getting big fast—whatever its cost—is the strategy of choice. Here we encounter familiar names such as Amazon.com, drugstore.com, E*Trade, and Priceline.com, firms that unflinchingly invest millions of dollars in advertising and promotion each year to rapidly build traffic and revenues. The high-octane fuel that these super trains require is provided by booming venture capital markets, which in a single quarter last year, invested $3.8 billion in Internet start-ups. But, is the get-big-fast strategy right for everyone? To what extent is its payoff dependent on speculative excess in the capital markets?

These probing questions captured the interest of Harvard Business School assistant professor Tom Eisenmann, who also serves on the board of OneMain.com, one of the nation's ten largest Internet service providers, and on the advisory boards of many Internet start-ups. Eisenmann's definition of the get-big-fast strategy includes three criteria: massive up-front investment in customer acquisition and brand-building, products and services that are often free or deeply discounted, and abundant funding provided by exuberant capital markets."The problem," he says, "is that everyone understands the strategy, and many competing firms are now building and operating their own high-speed trains. I could list a dozen market categories where you'll find four, five, or six well-funded, well-organized, and savvy companies all pursuing this nearly identical strategy."

While many of those firms are entrepreneurial ventures from the ground up, others are well-established companies with widely recognized brands. Eisenmann cites Barnes & Noble as a clear example of the latter. "It took Barnes & Noble 18 months to wake up to the threat posed by Amazon.com," he explains, "but once they did, they reacted with a vengeance." Egghead, the well-known software retailer, not only launched Egghead.com but also placed all of its eggs in the Internet basket by closing its entire chain of stores. Still, established firms have been relatively slow to jump on the Internet fast track and for good reason. Cannibalizing their existing business is a genuine concern, as is the efficiency of using established distribution systems designed for inter-store delivery to also package and ship thousands of small orders to individual consumers. More important, the substantial losses these companies might well incur would flow directly to their corporate bottom lines, ultimately depressing stock prices. To circumvent this problem, some firms issue "tracking stock," hoping that capital markets will perceive them much like traditional start-up stocks.

So when should a company adopt the get-big-fast strategy? Eisenmann recommends that firms use a series of six "filters" to answer this critical question. If a company is going to make the investment required to aggressively pursue an Internet opportunity, management needs to believe in each of the following:

  • Online shopping will quintuple in the next three years;
  • Brand preferences are malleable among new Web users;
  • Winner-take-all dynamics apply;
  • Competitive risks are reasonable;
  • The company is capable of managing significant growing pains; and
  • Capital markets will reward first movers.

Winner-take-all dynamics are driven by three factors that vary according to the selected business model. If the model is characterized by increasing returns, demand begets still greater demand, as illustrated by eBay's success. A business may also benefit from significant scale economies if big up-front investments and fixed costs can be successfully spread over large business volume. Finally, if the ease of customer retention is high, early investment in customer acquisition can pay dividends over a longtime horizon. For example, Web users find changing Internet service providers a difficult task, but buying an automobile through AutoByTel offers that firm little guarantee that a customer will buy his or her next car from them, and at that, a second purchase could well be years away.

While many firms are clearly bent on getting big fast, some competitors are adopting a get-it-right-first strategy instead. One such company, Streamline.com, a grocery delivery service, targeted a narrow segment of higher-end families in selected communities in the Boston area. After four years of perfecting its business model, Streamline only recently expanded to the Washington, D.C., market. Its narrow market focus bypasses price-sensitive consumers and those where lower-density delivery routes are not cost-effective. Webvan, by contrast, a San Francisco-based grocery delivery service, is clearly one of this category's aggressors. The firm's ambitious growth plans include a commitment to offering 30,000 SKUs [Stack Keeping Units] and spending $1 billion to build a network of 26 warehouses. A November 1999 IPO valued Webvan at $8 billion.

But while some companies tread cautiously, competitors in categories like furniture, pet supplies, and online trading are forcing their trains' throttles to the maximum. "We have multiple trains racing toward the switching station at full throttle," Eisenmann says. "While some will get through safely, a train wreck is almost inevitable." Avoiding that train wreck will be no easy task either. "Once you embrace the get-big-fast strategy," he notes, "you start down a slippery slope—that is, the critical ongoing need to maintain balance between rapid growth and corporate focus. It's just as dangerous to grow indiscriminately as it is to grow too slowly." Whatever the outcome, riding the Internet fast track is nothing less than exhilarating.

From HBS New Business, Spring 2000.