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Most B2B activity to date has been centered on online exchanges and auctions, and most observers have assumed that these electronic marketplaces would come to dominate the B2B landscape. Once you look beyond the hype, however, you quickly see that most Internet exchanges are floundering. They suffer from meager transaction volume and equally meager revenues, and they face a raft of competitors. One of the leading chemical exchanges, for example, has seen its postings grow considerably since its launch in early 1998, but it's still processing less than one trade per day. The hard truth is that few of these exchanges will ever create the liquidity needed to survive.
The current B2B model has three fatal flaws. First, the value proposition offered by most exchanges — competitive bidding among suppliers allows buyers to get the lowest possible prices — runs counter to the best recent thinking on buyer-supplier relations. Most companies have come to realize that getting supplies at the lowest possible price may not be in their best economic interest. Other factors, such as quality, timing of deliveries, and customization, are often more important than price in determining the overall value provided by a supplier. (That's particularly true for the many manufacturers that have adopted lean, low-inventory production systems that depend on reliable, precisely scheduled shipments of supplies and components.) Many companies have spent the last two decades methodically forging tighter, more strategic relationships with suppliers — many such affiliations have involved joint product-design efforts, integration of complex processes, and long-term service contracts. The online exchanges' focus on arm's-length, price-driven transactions flies in the face of all this hard work.
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| The influx of new entrants is leading to the same type of market fragmentation that exchanges were designed to overcome. | |
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| — Richard Wise and David Morrison |
Second, the exchanges deliver little benefit to sellers. Yes, suppliers have access to more buyers with only a modest increase in marketing cost, but that benefit is overwhelmed by pricing pressures. Few suppliers want to be anonymous contestants in ruthless bidding wars, and for the highest-quality, most innovative suppliers, price battles are anathema. As a result, the buyer-biased exchanges that characterize B2B today will not be able to achieve a critical mass of participants and transactions — they will be forever starved of liquidity. To be successful in the long run, B2B markets need to offer strong incentives to both buyers and sellers.
Finally, the business models of most B2B exchanges are, at best, half-baked. In their rush to get online, the companies that run the exchanges haven't taken the time to study their customers' priorities in-depth, create distinctive offerings, or even map out paths to profitability. They've simply used off-the-shelf software to set up simple auctions as quickly as possible. Because the software is readily available and relatively cheap, the barriers to entry are low, and the resulting proliferation of new exchanges is undermining the margins of all players. Indeed, the influx of new entrants is leading to the same type of market fragmentation that exchanges were designed to overcome in the first place.
The current B2B model, propped up by cheap investment capital, is not sustainable. As the markets mature, they will have to evolve in ways that fix the problems of the existing system. New structures will enable buyers and suppliers to form tight relationships while still enjoying the reach and efficiency of Internet commerce. Rewards will begin to flow to sellers as well as buyers. And new business models will provide profits in a world of dirt-cheap transactions. The B2B business will, in other words, reshape itself to resemble the financial services industry.