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The new-economy giant generates nearly $500 million in revenues, yet eBay doesn't manufacture a thing, hold inventory, move goods, or transfer payment. The 15 million or so registered users do most of the legwork.
Russ Banham, eCFO
December 15, 2000
Few things are as plain as this: Gary Bengier was meant to work at eBay. The San Jose, California-based eBay Inc. is the world's largest personal online trading community. Bengier, the company's CFO since fall 1997, happens to be an avid collector himself, with an impressive assortment of rare coins and fossils. eBay — generally credited with inventing the online auction format — has been hailed as a leader in ecommerce.
Bengier is a pioneer in his own right, having served as the top finance officer at several high-profile software and high-tech startups, including streaming video specialist Vxtreme Inc. Finally, eBay continues to face some fairly steep challenges — nagging little problems like system outages, theft of intellectual property, and user fraud. Bengier, too, knows a little something about uphill slogs. A world-class mountain climber, the finance chief has made it to the top of the Matterhorn. The mountain, not the ride.
Indeed, spend any time at all with Gary Bengier and you soon realize that he fits eBay like Pez in a Popeye dispenser. Since signing on with the company, the Harvard Business School-trained Bengier has helped transform the online auctioneer from a Silicon Valley startup into a Wall Street favorite. eBay went public in late 1998, with the initial public offering priced at $18 per share. Six months later, a share of eBay common had jumped to $80. Even with the recent cool-off in the dotcom sector, eBay stock is still trading around $50 per share — a threefold increase from the offering price.
Investors have good reason to stick with eBay. In an Internet world populated by empty- pocketed visionaries and pie-in-the-sky etailers, eBay actually makes money. Through the first three quarters of 2000, the online auctioneer racked up $24.4 million in earnings off $300 million in revenues. Management now projects the company will hit $3 billion in net revenues by 2005 — an annual growth rate of almost 50 percent. Gross merchandise sales at the online auction house top $5 billion, an astonishing figure given eBay's been around for only 5 years. "It took Cisco 12 years, Microsoft 19 years, and Intel 23 years to reach this kind of economic activity," crows Bengier.
All of which proves that technology is swell, but a good idea is hard to beat. Remarkably, eBay generates nearly $500 million in revenues without manufacturing a thing. The online operator is nary more than a promise and a brand, as ethereal as money wired to a bank. eBay doesn't hold inventory, doesn't move goods, doesn't transfer payments. The 15 million or so registered users do most of the legwork, posting and haggling over roughly 4 million items for sale in 4,320 product categories — everything from Beanie Babies to Salvador Dali etchings to failing dotcoms. Users spend, on average, $166 — per second. "eBay has created a model that drives revenue with very little capital," says Anthony Noto, ecommerce analyst at Goldman Sachs in New York. "That's not easy to do."
In an era of disintermediation, eBay is the ultimate middleman. By serving as facilitator, it has successfully skirted the usual ecommerce pitfalls — things like procurement, merchandising, inventory risk, order fulfillment, and shipping. Not surprisingly, eBay's profitability has inspired scores of imitators, wannabes, and rivals.
In May, online giant Amazon.com reported it had increased the number of items listed for auction or fixed-price bid to 2 million, or about half of what eBay lists. And last year, Dell Computer, Microsoft, and more than 100 other companies announced they had linked their Web sites — along with their 46 million users — to a new auction platform run by FairMarket, a builder of online auction sites. "To eBay has become a verb now," says Vernon Keenan, Internet analyst at Keenan Vision Inc., a market research firm.
Even old-economy stalwarts like JCPenney have aped the online auction house. "I've counted literally thousands of mini eBays, companies replicating eBay in part or in full," says Keenan. "They all want to be the eBay of their industries."
The secret to eBay's remarkable success, however, goes beyond a brilliant business model. Bengier and eBay CEO Meg Whitman, a former Disney and Hasbro marketing executive, have consistently plowed revenues back into the company, investing in core acquisitions around the world. Management has also restructured the company along product category lines to obtain more marketing focus. Further, the company's legal staff has not exactly been shy about going after intellectual property trespassers.
More important, eBay has been able to assemble a true Internet community — a feat that's eluded even the best-backed dotcoms. "That critical mass of users drives a virtuous cycle of accelerating growth," explains Noto. "The more sellers on the site, the greater the selection of goods for sale, which attracts more buyers. More buyers result in higher prices for goods transacted, which then attract more sellers."
This virtuous cycle, propelled by unswerving brand loyalty, is the Holy Grail of ecommerce. Noto says simply: "eBay's network effect creates a barrier to entry that is very hard for competitors to break."
Hence, the Earlier Pez Reference
The origin of that network is the stuff of legend. In 1995, the founder and current chairman Pierre Omidyar's wife, an avid collector of — yes — Pez dispensers, bemoaned the difficulty of finding other collectors to trade with. The complaint got Omidyar thinking, and he soon seized upon the simple notion of an Internet auction site for consumers. After writing some software code at home, he introduced the online world to what was then called AuctionWeb.com.
Shortly thereafter, an outside consulting firm concocted a simpler, more-elegant brand name: eBay. Benchmark Capital kicked in $6.5 million to fund eBay's build- out (an investment now said to be worth some $4 billion). Following the IPO in 1998, the company's fortunes simply skyrocketed. Omidyar's initial idea — an online consumer trading community — was spot on. Users couldn't get enough of eBay.
And they still can't. For many consumers, eBay is practically an addiction. "eBay has one of the most powerful brands in business today," offers branding guru Duane Knapp, author of The Brand Mindset (McGraw-Hill, 1999) and the executive director of FutureBrand, a New York-based brand consultancy. "eBay is as closely aligned to the process of online trading as Kleenex is to blowing one's nose."
Part of the branding comes from the chairman's Mo-ist leanings. "The business model pivots off Omidyar's idea that people are honest," explains Knapp. "The company appeals to higher motives. It's a business, of course, but one that humanizes the process of business." Bengier sees it the same way. "We are deeply rooted in what we call the eBay values," he says. "Fundamental to this belief system is our notion of community and our conviction that people are basically good and trustworthy."
Well, not all of them. In late May, one eBay seller was accused of bidding on his own item, a painting purported to be the work of the late abstract expressionist Richard Diebenkorn. eBay eventually canceled the auction. Typically, though, eBay takes a back seat to issues regarding product quality or shipping timeliness. Instead, company management prefers to let users police themselves. Buyers who are disgruntled over the quality of a purchased item can gripe about it in the Feedback Forum. The comments are then turned into a seller profile, enabling prospective buyers to check the reliability of a seller before bidding on an item.
That simple idea has caught on with a number of B2B operators. "eBay's strategy of providing feedback about buyers and sellers was an inspiration for us," says David Centner, president of MaterialNet.com, a Lake Success, New York-based Internet raw- material-procurement trading platform. "Since we provide E-procurement to accommodate auctions," Centner explains, "we decided, based on the eBay example, to track buyer and supplier integrity to offer a higher comfort level to our users."
Atlanta-based Ebix.com Inc. also mimics the eBay approach, but with a slight twist. The online insurance exchange — where independent agents bid on consumer requests for automobile insurance rates — features outside ratings of agents. "We took the eBay idea of a track record and massaged it to fit our system," acknowledges Robin Raina, CEO and president of Ebix.com. "The consumer decision is made more educated by Ebix providing access to independent ratings of each of the insurance carriers by such agencies as Standard & Poor's, which have no ax to grind."
Still, some analysts decry eBay's see-no-evil approach. "eBay is hurting itself by not adding services around its model, including the most basic one — product inspection," argues Keenan. Michael May, senior analyst at Jupiter Research, believes the auctioneer's original model — to be as distant as possible from the transaction and absolve itself of certain responsibilities — will inevitably need some overhauling. "It worked well for the first few years, but no longer," May says. "The online marketplace must be held increasingly accountable for the transactions that take place within it."
But senior executives at eBay see a problem with getting too involved in policing its site. "In the United States, we are protected by congressional statute and court decisions against defamation claims," explains Jay Monahan, eBay's associate general counsel. "Overseas, however, there's not the same clarity." eBay has separate sites and servers in six cross-border markets: Australia, Canada, France, Germany, Japan, and the UK. The six sites come with local languages, local currencies — and local liabilities. "In many countries, there's no immunity for online service providers," says Monahan. "Therefore, we could be on the hook for claims." To minimize exposure, eBay has established clear procedures for reporting feedback in some countries, while ditching the Feedback Forum in others.
Don't Touch the Merchandise
If eBay has deftly limited much of its enterprise risk, observers say the company has done an even better job defending its intellectual turf. When it comes to copyright infringement, eBay protects its brand like a pit bull with a porterhouse.
Two recent lawsuits exemplify the company's dogged determination. In July, ReverseAuction.com agreed to pay $1.2 million to settle a suit brought by eBay. Apparently, ReverseAuction had used softbots — software robots — to harvest hundreds of thousands of email addresses off eBay's site. "The company demonstrated a blatant disregard for the privacy of our community," Bengier claims. eBay sued on several grounds, including a California anti- spamming statute, as well as a legal theory in intellectual property law that specifically prohibits robotic harvesting.
The second suit was filed this year against a company called BiddersEdge.com. Basically, the company assembled a multi-auction comparison service that allowed users to skip eBay's site to do a search of available items. Visitors to the site could enter an item — say, a Jimi Hendrix autograph — and BiddersEdge would pull up listings from a variety of auction sites in a commingled fashion.
Bengier and CEO Whitman were not pleased. "Their revenue model was advertisements over what were, in effect, our listings," claims Bengier. In June, the U.S. District Court in San Jose granted an injunction in eBay's favor. Alleges Monahan: "They were free-riding, so we took them to court on a variety of legal theories, including robotic trespassing." The case is currently on appeal in the ninth circuit.
Beyond suing auction aggregators, eBay management strictly enforces the company's licensing agreement. Even smalltime operators sometimes feel the wrath of eBay. In October, the trading site reportedly pulled the plug on 127 auctions for BeesKnees, a home-based seller of collectible china. In a published report, an eBay spokeswoman claimed BeesKnees had linked its items to rival auction sites — a violation of eBay's policy.
In addition, eBay routinely intervenes to curb misuse of its brand name. Some ecommerce operators insert "eBay" into their own sites or their company names. Others knock off the catchy, multicolored look and feel of eBay's logo. Often, managers at the offending dotcoms remain blissfully unaware that they have infringed upon eBay's trademark or copyright. "In these cases, sending a 'cease and desist' letter or just having legal call directly does the trick," says Monahan.
When threats don't cow offenders, eBay ups the ante. "We follow through on every incursion, no matter how small or seemingly irrelevant," notes the company CFO. "We don't want a reputation as a paper tiger."
And Yet More Animals
If eBay's fierce defense of its turf has repelled poachers, Bengier's policing of the balance sheet has kept the vultures away. At the end of September, consolidated assets totaled $1.1 billion — and $766 million of that was in cash and other financial instruments. The company's gross profit margin is now almost 80 percent — miles ahead of other dotcoms. The gross margin at Amazon.com, for instance, is around 26 percent. "Gary is always focused on profitability and returns," says Noto of Goldman Sachs. "In the Internet world of riches and exuberance, he has a philosophy of making sure eBay is profitable, first and foremost."
The single-minded pursuit of black ink is leading Bengier and eBay to seek out new sources of revenue. The bulk of the company's revenue comes from straight fees. eBay charges a listing fee of from 25 cents to $2, based on the merchandise value, and an additional success fee of from 1.25 percent to 5 percent if an item is sold. Obviously, the more valuable the merchandise, the greater eBay's take.
Although personal buyers and sellers make up the majority of eBay users, small-business sales on the site are increasing substantially. The company estimates that 50,000 to 100,000 sole proprietors make their primary living hawking items on eBay. "Some of them had storefronts, some sold through small catalogs," says Jeffrey Jordan, eBay senior vice president and general manager (U.S.). "Others were just collectors who realized they had the makings of a nice small business."
Not surprisingly, the advent of these so-called "power sellers" has given rise to something of a cottage industry. In the past two years or so, a slew of vendors have begun selling auction organization and sales management software, as well as auction-oriented insurance and escrow services. Eager to grow the small-business segment, eBay management allows these vendors to advertise on the eBay site.
Fact is, transaction-related vendors are practically the only advertisers allowed on the home page. Remarkably, eBay does not run the typical banner ads that front so many portals, arguing that such come-ons are an intrusion upon the community's good graces. "For the time being, we believe advertising should be synergistic, focused around aiding the transactional process," explains Bengier. A clever strategy, May contends. "They're providing a service to their users and deriving an incremental flow of money at the same time," he says. "Instead of festooning their site with banner ads that most people ignore anyway, they're using advertising as an enhancement to their core selling proposition."
High Praise for Grisham
Ironically, that very proposition — Omidyar's original vision of a dynamic consumer-to-consumer auction — has seen a considerable reworking of late. Keen to expand its user base, eBay now operates a virtual trading floor, where small businesses can bid on new, used, and refurbished office equipment. Dubbed the Business Exchange, it's the company's first foray into the burgeoning B2B marketplace, estimated by IT research firm Gartner to reach nearly $4 trillion in sales by 2003.
Moreover, eBay has begun conducting fixed-price sales. In fact, a number of large companies now sell commodity items at fixed prices on eBay, using the site as a distribution channel. Sun Microsystems, for instance, uses eBay to sell its refurbished computers, some valued in excess of $100,000. At first blush, peddling an UltraSPARC IIi server on a site that also traffics in doilies would seem a stretch. But the numbers say otherwise. "Sun's internal statistics indicate that 45 percent of people buying their products on our site are new customers," Bengier points out. "That's clear proof that our channel is extending their market."
To extend its own market, eBay has completed a handful of deals. In March, the company agreed to work with AutoTrader.com, the world's largest used-car marketplace, to create eBay Motors, a co-branded automotive auction site. Then, in August, the online auctioneer formed a strategic relationship with zipRealty.com, an online real estate brokerage, to launch a new category, eBay Real Estate.
And in July, the company acquired Half.com Inc. in a stock purchase deal. Half.com offers buyers and sellers the chance to trade in four commodity product categories: used books, CDs, movies, and video games. Items at the site are sold at fixed prices typically half off the list price. "A John Grisham book is a perfect example of what would sell well on our site but not necessarily on eBay," says Josh Kopelman, founder and president of Half.com. "There are millions in print, they're not rare, and it's doubtful that owners will want to read them a second time."
Of course, for longtime members, fixed-price and B2B auctions may seem as un-eBay as a six- figure reserve. But Bengier argues eBay was never intended to be just an auction site. Rather, he says the site was designed to be a dynamic-pricing trading platform, where different products in different categories are sold via different means.
Smells Like Team Spirit
To reach their ambitious revenue targets, eBay managers will need to wring cash from various sources. Eventually, the company may embrace a more typical ecommerce approach to growth — acquiring some competitors, partnering with others. But Bengier isn't real likely to abandon the eBay way. "My role," he says straight out, "is to keep everyone on the surfboard."
So far, eBay has ridden the new-economy wave for all it's worth. "Unbelievable as it seems, the company has found a way to harness consumer spending in an assetless environment," raves Noto of Goldman Sachs. "To pull this off elsewhere would be pure nirvana."
Sort of like reaching the top of the Matterhorn (the mountain, not the ride). "I've been in technology for 19 years," says Bengier, "and I've never seen a business model as simple or as elegant as this one." He pauses, as if recalling nearly two decades in the high-tech hothouse that is Silicon Valley. "How many companies can say their business model is characterized by the things they don't have to do?"
Russ Banham is a contributing editor at eCFO.
The eBay eFfect
Why are traditional retailers like JCPenney and The Sharper Image now selling merchandise in virtual auctions? Call it the eBay effect "When you look at the customer-stickiness of a site like eBay — the number of minutes these shoppers spend online" — says Richard Last, executive vice president of JCPenney.com, "you just know something extraordinary is going down."
Extraordinary indeed. The success of eBay has scores of click-and-mortar operators launching online bidding sites. Overall, online business-to- consumer auction revenues will increase by a compound annual growth rate of 41 percent over the next four years, according to a forecast by ecommerce research firm Jupiter Research. If correct, revenues from B2C auction sites will top $4.5 billion by 2004.
In the case of The Sharper Image, the company CEO championed an auction format after looking at eBay's site. "Our CEO, Richard Thalheimer, is the consummate shopper," says Kathryn Grant, Internet strategist at San Francisco-based retailer Sharper Image Corp. "He saw eBay's model and realized there was an opportunity for us. He knew we'd generate excitement for our customers if we had an auction site."
Sharper Image launched its auction site in March 1999. "We looked at eBay and realized this was a great way to move inventory," notes Grant. Sharper Image has one advantage over some retailers: The company operates a full-fledged catalog division and more than 80 stores worldwide. Thus, order fulfillment is not an issue. "We haven't broken out the numbers yet," says Grant, "but the sales are successful enough that we're considering enhancements."
Executives at JCPenney.com have broken out the numbers. The online operator expects to generate some $300 million in revenues from its dynamically priced Internet business this year — nearly a threefold increase from 1999. Like Sharper Image.com, the site features catalog overstock merchandise. "We see auctions tying into our three- channel strategy for distribution stores, catalog, and the Internet," says JCPenney's Last.
JCPenney.com also offers a fixed-price clearance model. Last points out that some goods — such as electronics — sell well in an auction environment. Items like clothing, however, are better suited to a fixed- price or falling-price format. "Many people may bid on a portable computer," he explains, "but not a lot are going to bid on a size-8 dress in fuchsia." —R.B.
Best Practices: The eBay Way
• Invest idle cash in technology.
• Outlast rivals, then acquire them on the cheap — particularly if they expand your product line.
• If customers like your product, focus on customer service.
• Litigate, litigate, litigate. Defend your brand as you would home and country.
• Organize around individual business units. Let each division run its own show — but insist on profits.
• Minimize bells and whistles on the Web site. A simple home page is a fast home page. And fast is good.
• Measure, monitor, and benchmark. Then do some more.
• Build brand loyalty by developing a user community.
• Get out of the way. Let customers do the heavy lifting
Ixnay on the eBay?
While eBay continues to rack up impressive user numbers, critics charge that some eBay members may need to check themselves into a 12-step program.
Dr. Kimberly Young is one such critic. Young, a clinical psychologist and director of the Center for On-Line Addiction, a behavioral healthcare practice in Bradford, Pennsylvania, says eBay sucks users in, then makes suckers out of them. "Lots of times, users end up buying junk," she says. "But they don't care because they're thrilled they won something."
By Young's lights, eBay's auction format gives shoppers something other Web sites don't supply: a little action. "eBay is not Gap.com, where you go online and buy things you could otherwise buy in its stores," she explains. "It's this place where you bid like a gambler in a very nonthreatening environment, often on stuff you don't need. The thrill of victory is a powerful intoxicant."
Young believes eBay is a compulsion that, in some cases, may require treatment. Not all experts agree, however. Dr. Sheila Blume, a clinical professor of psychiatry at the State University of New York, Stony Brook, says the term addiction does not apply to online shopping. Explains Blume: "What we know about addiction from a physiological point of view and solid, scientific knowledge indicates that drugs, alcohol, tobacco — and not much else — are truly addictive."
But what about the notion that eBay's auction format is akin to gambling — and therefore potentially addicting? "There has been one behavioral addiction study I know of involving pathological gambling, which posits that the people who get hooked on it apparently achieve a high similar to the elevated feelings of a cocaine addict," says Blume. "It might be true, but we can't be sure until more neurophysical studies are conducted."
For now, if baby needs a new pair of shoes, there's always eBay. Even Young concedes: "The company has hit upon a very powerful way to separate people from their wallets." —R.B.