Death of a middleman, no! Reintermediation, Yes!


15.963 Electronic Commerce
Luis Barros
Pete Billante
William Deley
Ignacio Nores

Scores of high-ranking officials and industry leaders from the twenty-nine most developed economies in the world convened last fall in the arctic summary of Turku, Finland to discuss global electronic commerce. These countries and thought leaders have recognized the potential for e-commerce for economic growth, employment, education, medicine and more.

1998 will be remembered as the year when the groundwork was laid out for business-to-business e-commerce. The fastest growing aspect of e-commerce was online corporate procurement. For example, General Electric Co.’s TPN Register has spent $1 billion on supplies from the Web based system. Business to business e-commerce is projected to reach $200B by 2001 and retail internet transactions are estimated to approach $17B by 2001.1 According to Active Media, a research firm in Peterborough, New Hampshire, total web business volume could reach $1 trillion by 2001.

In this document we address the evolution of e-commerce. First, we present the challenges of moving from a traditional to a direct model. Secondly, we will also examine the more successful business models such as Amazon’s direct to consumer; the use of Extranets for business processes at Ford Motor Company; utilization of combination model of traditional and direct by Intuit and Microsoft.

Thirdly, Convergence Applications, Total Solutions, and Home Grown Systems will be analyzed. Suppliers of software and services are providing new capabilities that make e-commerce possible. For e-commerce to reach its potential enabling technologies play a critical role. Startups such as Actra, Commerce One, Connect, Elcon Systems, Elekom, Fisher Technology Group, and TradeEx provide software and services for e-commerce. Mountain View, CA based, Ariba Technologies was one of the more successful newcomers with its Java-based ORM (Operating Resource Management) software.

Disintermediation Concept

The concept of shortening the supply chain or "disintermediation" caused by electronic commerce is a relatively new concept. Typing ‘disintermediation’ into Yahoo’s search engine, results in over 1800 document matches. According to one author, the word has only been around for three or four years. In its widest sense, disintermediation means the elimination of intermediaries such as distributors and retailers.

There is a natural evolution in the ways organizations provide value to the supply system. The value system (Porter & Millar 1985), as Porter terms it, is in a period of change given advances in information technology2. What is it that fuels the interest in information technology towards value chains? Transaction cost theory provides some insight. Wigand and Benjamin have summarized that there are two mechanisms for coordinating the flow of materials and services through adjacent steps in the value chain: markets and hierarchies.


What are the costs that support coordination between multiple buyers and sellers, i.e., market transactions, and those supporting coordination within the firm, as well as industry value chain, i.e., hierarchy transactions?3 In the most basic sense, we can think of these costs as the costs of channel inventory procurement and internal general & administrative costs. In a larger sense, we can consider the cost of accessing customers and managing customer relationships. Economic theory and practice shows that firms will seek to minimize the costs. Evidence in this regard comes from I2 Technology's VP of Logistics Operations. Jon Kirkegaard remarks "It used to be Company X competing with Company Y, Now it's supply chains competing with supply chains."4 Recently, Forrester Research performed an analysis of the costs of inventory procurement for tangible goods manufacturer. They found that manufacturer’s spent 14% of their revenues on procurement (see Exhibit 1 for typical supply chain costs in the shirt industry).

We can see why companies such as I2 and GE that link the distributor’s inventory management systems with the manufacturers and suppliers electronically, are growing so rapidly. The opportunity costs of inefficient overhead and working capital are enormous. Even if we view the opportunity costs as the costs of distributor inventory and order processing the savings are very tempting. For example, Doug Tuttle – National Director of High Tech Practice Deloitte & Touch Consulting said (on Dell versus Compaq), "Dell has a 10% - 12% cost advantage over someone like Compaq mainly because of the lack of inventory."5 Thus, its not surprising that Dell has been able to maintain competitively advantageous prices. On March 9th, 1998, Compaq warned investors of disappointing results for among other things, falling prices and demand. On the same day, Dell said, that not only is demand firm, but they are "not feeling price pressures and continue to price to our (Dell’s) cost structure". Many people have speculated that Compaq’s resistance to setting up an on-line direct channel forced them to consider acquisitions of higher margin computer companies such as Digital Equipment Corporation.

SAP has recently placed it stake in the e-commerce market with an equity investment in CommerceOne. The agreement is to integrate SAP’s world leading enterprise resource planning application, SAP R/3 into Commerce One’s Chain Suite for cooperate purchasing on the World Wide Web. Chuck Donchess, VP of marketing and business development at Commerce-One stated, "suppliers are brought into the equation as if they were departments inside the company…it will allow companies to check a supplier’s inventory, place the order, and reconcile order problems."


So why aren’t traditional tangible goods industries shifting to a customer-direct model? First, to dump your intermediaries would suggest that the manufacturer could take over privileged customer relationships efficiently. In fact, that is not the case. A 14" computer screen with dazzling graphics cannot replace the power of human relationship. Plantronics Inc’s. (maker of telecommunication headsets), CEO recently noted that demand in the call center industry for headsets has recently begun a strong return as people demand human interaction for service. Also, distributors are willing to accept lower net profit margins on the order of 5%-10% which manufacturer/developers are not willing to invest in (20+% ROI requirements).

This is not to say that electronic commerce business systems will not replace the role of human interaction. On the contrary, given the nonlinear growth of business to business net-based transactions ($200B by 20016 – Also see Exhibit 2) the market of electronic opportunities will be large. It is closer to say that many people erroneously jump to the net as the end-to-end solution for cutting costs. Yet they forget the strategic implications of their decision. This, in fact, is the first reason we haven’t seen a tremendous shift to opening electronic direct channels by existing manufacturers in traditional tangible goods industries. Instead, major investments in the VC community are being targeted at building the new digital middlemen.7 Startups such as Ariba Technologies, CommerceOne and Actra Business Systems are automating business produces that support electronically linked business value systems. The VC community believes that their investments in ORM (operating resource management) companies will lead to the emergence of the new value chains.

The second reason we haven’t seen a major shift to the electronic channels is the complications caused by this new arrangement. Consider the sources of value in the traditional supply chain at the distribution level. Wholesalers provide a major inventory and distribution location to warehouse and distribute product to hundred and maybe thousands of local retail outlets. The local retail outlets, then provide local sales, service and support for the products they sell. Wholesalers provide value mainly in the efficiency of their distribution and make money on their ability to minimize inventory and stimulate demand at the retail level. Retailers, provide value mainly through their availability of product, information dissemination, service and local administration. With the advent of ORM software coupled with highly efficient distribution networks a significant portion of the traditional value at the wholesaler and retailer levels is made unnecessary. What is necessary are the client lists, relationships and marketing information at the local level that is so crucial to the manufacturer.

So what has happened when the manufacturer has tried to move to the direct model? Consider Cisco’s Pat Frey, Manager of Supply Chain Operations on sharing information between supply chain partners. "We’ve run into quite a bit of resistance," says Cisco’s Frey. "Lots of people just aren’t ready to start sharing information on this level."7 Frey probably isn’t surprised in reality. If the distribution channel doesn’t trust the intentions of the manufacturer you can bet they will resist sharing their most valuable assets, i.e. customer intelligence.

This is not an isolated case. Based upon our research, we have not identified even one public company in an existing traditional tangible goods supply chain that has opted to open an electronic channel directly to its end users. We see the largest untapped opportunity in electronic commerce going to the value chains that adopt the electronic business model that aligns the strategic sources of value of the distributor/retailer with the manufacturer and supplier while eliminating the inefficient transaction costs. Until that occurs, we will continue to see merely shavings of costs coming out of supply chains versus order of magnitude strategic improvements.

Business Model : Direct to Consumer

With more than 31 million connections to access the Web, users spread around the world are truly starting to believe in the Internet as a viable emerging channel for purchasing both products and services. Many companies have opted for starting from stage 1 to develop a business plan for this purpose. They have emerged in well-known industries like computer sales, book, investing, home delivery, etc. With innovative business models, they have managed to take market share away of traditional marketing channels. Dell and are considered to be innovators in the adoption of this model and in the following section we will discuss the advantage of a channel strategy like theirs.


Amazon was founded in 1994 by CEO Jeff Bezos, when he was looking for a Web service that would offer e-commerce advantages unavailable at traditional retail stores. Books came to the top of his list of viable products to sell because of the unlimited amount of titles and the easiness to develop search and retrieval interfaces. Backed by approximately $10 million in venture capital money from John Doerr, the company incorporated in July 1994. In July 1995 Amazon sold its first book on line. Since then, it has gained significant sales momentum and developed a number of vendor relationships. It is one of the most widely known, used and cited commerce sites in the Web with daily hits to its site averaging over 80,000, which translates into 30 million hits per year. Sales have increased significantly from $875,000 in the first quarter of 1996 to $66MM in Q4 1997. It presently has more than 940,000 customer accounts in 160 countries. 8

Electronic Advantages of on-line store

Some years ago, bookstores began building bigger stores in efforts to meet demand and more efficiently manage inventories. Barnes & Noble and Borders led this superstore trend. These business models typically require significant investments in both real estate and inventories. Average booksellers carry around 130,000 titles, with some of the biggest ones carrying 170,000.9 has significant advantages over these traditional retail bookstores including:

Direct customer advantages           Cost advantages Analyst Miles D. Russ expects that the company, which is still working at a loss, will reach profitability by the end of 1999, after critical sales volume is reached. This expected growth is based on a number of key advantages:

Business Model : Traditional with Transitional Baby Steps

Some companies have been assuming a more visionary attitude towards the utilization of the Internet as an important business-to-business communications means. (see Exhibit 3). Instead of selling directly to its customers, the auto industry is an example of an industry that has taken small steps by rolling out Extranets and other services to link the different components of the value chain, suppliers, manufacturers, dealers, etc. In the following paragraphs we will outline the steps one of the "Big three" auto manufacturers has taken.

Ford Motor Company

Ford Motor Company’s FocalPt Extranet was rolled out in 1997 with the intention of providing customer support worldwide through its network of 15,000 dealers.10 Repair records of individual vehicles are available online for throughout the dealership chain, along with inventory, pricing, financing, and promotional information to help salespeople close a deal.

An Extranet in this sense is no more than a network comprising elements of both Intranet and Internet, establishing secure communications and data exchange between internal and external users. Below are some of the pros and cons of an Extranet like the one Ford has launched:


CONS This problem has been addressed by a number of ways such as password protection, secure server technologies. Other options include placing the shared data outside the boundaries of the Intranet or firewall, or contract hosting services to ISP that provide virtual private data networks with special encapsulations and security transfer protocols.

Business Model : Combining Traditional and Direct

Some companies have opted for a middle approach in the adoption of the Internet as a viable and profitable way to commercialize its products. Any industry in general where dissemination of information is of additional value to consumers is likely to be shaken by the Internet sales trend. Among these are auto sales, financial services, travel, insurance, etc. The software industry is a clear example of such companies that have been slow and cautious in implementing a double distribution channel.


Companies like Intuit and Microsoft are developing business models consisting of a mix of the old supply chain model and a new direct sales approach.12 Intuit has been reluctant to push electronic commerce because they don’t want to upset the traditional sales channel. However, they are now selling products both on the Web and in regular retail stores. Although one of the main advantages of selling on the Web should be a lower price due to a lower cost structure, Intuit’s prices on the Web are actually slightly higher because of large discounts offered in the retailing channel. Alan Gleicher of Intuit said, "We don't want to disrupt the channel so [retailers] feel that we are competing with them."

Nevertheless, several retailers with both traditional and online sales don’t believe that the Internet will cannibalize their regular store sales. They believe that the main goal is to increase sales and acquire momentum, whatever the sales channel. Despite the increased online sales, it will still take a long time before any software manufacturers see the majority of their revenues coming from the Web.

Microsoft is also following the same lines. The software gorilla said it is planning to launch an Internet store in August, which will be use "Buy Now" buttons spread around those Web pages that contain Microsoft’s product information. The actual site offers information of its products and refers to its resellers whenever a purchase is to be consumed. With the new approach, Microsoft attempts to close transactions before buyers have the chance to go somewhere else. Once they have decided to buy the product, customers are given the possibility of choosing if they would prefer to go through a software reseller that offers a discount on retail prices. If they choose "yes", they will be given a menu of resellers from which to choose from.

" gets 170 million hits a day, but only 12,000 of those go to shop," said Neil Farnsworth, General Manager for Business Development at Microsoft’s end user customer unit. "Hopefully," he adds, "we’ll be able to have an influence on people who are implementing online commerce sites in all industries but are afraid of irritating resellers."


Enabling Technologies

Many software vendors have created a market by helping companies enable their supply chains via the web or to create entirely new business models. Their products range from specific solutions that can automate an already established process using web technology to totally new systems designed around a business model where the manufacturer can sell direct to the consumer.

Essentially there are three different approaches to the "intermediation" problem. First, there are many software companies that build "Convergence Applications."13 This is a generic term that is defined as applications focused on solving problems and processes external to a company. For example, an Extranet solution would be a type of "Convergence Application." Convergence applications are also defined as systems that use open standards, usually object-oriented, and purchased from an outside vendor rather than developed in-house. Second, other companies have taken an end-to-end approach by providing turnkey or "Total Solution" systems where a company’s entire operation can be compressed into one package. This model best facilitates direct sales since it gives the manufacturer or distributor an immediate presence with the customer while also providing the back end business logic for the entire sales operation. While these turnkey solutions can bring a company’s sales presence to the web rapidly, many of the most successful solutions have been created by in-house development. This is the case for Amazon, Cisco, and Dell, who have each invested millions of dollars building custom web-based systems supporting their new business models.

Enabler Type I : Convergence Applications

Convergence applications typically allow a company to improve its existing supply chain by optimizing certain segments of communication or reducing lead times and errors. Usually these solutions serve to reinforce existing distribution models rather than developing entirely new scenarios.

Enabler Company : CrossRoute Software

Product : Alliance

Price : $250,000 to $1 Million

Customers : Adaptec

Key Technology : Java, Windows NT

CrossRoute’s product "Alliance" is targeted at linking customers, distributors, and suppliers via an Extranet. The business processes supported include inventory replenishment, distributor order management, and logistics operations. A key advantage is Alliance’s integration with back-end ERP (Enterprise Resource Planning) systems. The system allows a manufacturer to instantly distribute design documents in addition to sales forecast info, WIP data, and quality reports to its channel. The result is reduced lead times as a competitive advantage to its competitors. An added benefit is a logistics extension that allows a manufacturer to monitor inventory in warehouses operated by third parties. They can also send orders to the logistics providers and receive shipping confirmations.

On the other side of the equation, distributors can directly enter orders into a manufacturer’s system with up to the minute pricing information. Plus the system only allows correctly configured orders (in the case of a configurable product). After orders are placed the distributor receives order confirmation and shipping details.

Enabler Company : Ariba Technologies

Product : Ariba ORMS (Operating Resource Management System)

Price : $750,000 and up

Customers : AMD, Cisco, Octel, Visa

Key Technology : Java

Similar to CrossRoute’s system, Ariba has developed Extranet applications focused on the purchasing side of the supply chain. However, Ariba’s focus on the ORM market is somewhat different from CrossRoute’s. ORM systems handle purchasing of industrial supplies, office supplies, capital equipment, services, and other non-production items that an enterprise acquires to support its day-to-day operations. However, Ariba provides additional functions internal to the company such as HR information for purchase approvals that make it very different from CrossRoute.

Interestingly, ORM software like Ariba’s does not give a company any new ability to manage its customers, rather it has an opposite effect. It allows suppliers to be more integrated with customers who use ORM software. For instance, a paper-clip manufacturer might supply a company using ORM software. With the enhanced ability to communicate order information with this customer, the paper-clip supplier could change its distribution model to communicate directly with its customers and eliminate some excess costs in managing a supply channel.

Enabler Type II: Total Solutions

While "Total Solutions" packages could broadly be defined under the category of convergence applications, they are different in the sense that they enable entirely new business models to be implemented. Their key advantage is of course faster time to market and lower development costs since the software is purchased from a specialized vendor.

Enabler Company : Open Market

Product : Transact, LiveCommerce

Price : $125,000 and up

Customers : AT&T, Barclay Square, Disney Store,,…

OpenMarket’s product Transact, originally developed in 1995, has matured to become the premiere electronic commerce storefront solution. It integrates the customer ordering and payment process along with back end logic to support the business operation. LiveCommerce, a web-based industrial catalog product, compliments Transact by providing the link to a company’s suppliers. Manufacturing companies could find it an easy tool to use to develop a web direct sales channel for tangible goods, but ‘digital product’ companies have already taken it to the next level. For example, uses OpenMarket’s products to sell software directly over the Internet. This new model totally eliminates distribution and provides instant delivery to the customer.

Enabler Company : BroadVision

Product : One-to-one commerce

Price : $100,000 and up

Customers : Kodak, Hewlett-Packard, Phillips Electronics, …

BroadVision’s One-to-one commerce system provides similar capabilities to that of Open Market. It also provides capabilities to cross-sell products to customers and handles digital coupons and other incentives. In addition to the digital storefront application, One-to-one handles order management and fulfillment.

Enabler Type III: Home Grown Systems

Home grown systems are by far the most flexible of all solutions since the only requirements are a set of development tools and a large investment from the company. It is interesting to note that the companies that have made the largest internal investments in developing their web business models are also the companies that are leading the world in e-commerce. In fact, in a 1997 year end summary by C/NET, Cisco, Dell, and Amazon were identified as the leaders in e-commerce and described as "… credible, making lots of money, everyone wants to be them, and it seems to be a sustainable business model on the Web."



A short list of priorities such as adopting a standard for domain names, ensuring privacy and security, and establishing commercial practices will shape and determine e-commerce’s future. Increasingly companies and individuals are going online for basic commerce and ways to save money. The industry must commit itself to producing unified and workable solutions to the challenges of self-regulated business.

Exhibit 1 : Value Chains in the Shirt Industry


Exhibit 2 : Projected Retail Internet Transactions


Exhibit 3 : Major Companies E-Commerce Strategies
Strategy What they say
Digital Equipment Offer multi-vendor services as well as Digital products; leverage Alta Vista search technology "Business to business E-commerce is the biggest market. It’s three to 10 times bigger than the consumer market." 

Laura Franham, VP of marketing for Internet solutions

Hewlett-Packard Sell hardware-software packages for the Web, security and payment systems, and the HP Changengine framework for process and workflow applications "E-business is helping corporations take advantage of the Internet to improve relations with customers and suppliers." 

Ann Livermore, VP and general manager, software and services group.

IBM Sell systems that handle customer care, electronic payments, and supply-chain management; Apply e-business solutions to vertical industries "If you are going to transform a company, you need to master three disciplines; technology deployment, reengineering, and change management. 

Doug Sweeny, VP of strategic development.

Microsoft Promote the value chain initiative, an effort to integrate disparate supply-chain applications using Microsoft tools and applications "We want to leverage our existing base of technologies, injecting commerce into Windows, and commerce enabling our Backoffice products." 

Jonathan Weinstein, Lead product Manager of Site Server commerce marketing.

Novell Promote Netware as an open platform for distributed, Web based applications, in a joint venture with Netscape. "E-business from our perspective means integrating ERP software on our platform and managing these applications’" 

Chris Stone, Senior VP of corporate strategy

Oracle Reposition database and application products for e-commerce in an environment based on thin clients and Java "We have a very substantial business built around E-business." 

Beatriz Infante, senior VP of application servers.

SAP Help Web middleware and E-commerce vendors develop links to R/3 over the Net; invest in startups Crossroads Software and CommerceOne "We want to participate in business to business E-commerce both by product development and investments." 

Howard Lau, executive VP of venture capital funding

Sun Microsystems Supply the hardware for network computing while promoting Java as a platform for electronic business "E-business is a marketing wrapper around a whole bunch of separate but related activities around the enterprise." 

Anil Gadre, VP of marketing.



1 Forrester Research estimates provided by Date Delhagen

2 Info Tech Weekly, June 9, 1997, Frank March

3 Intermediaries and Cybermediaries: A Continuing Role for Mediating Players in the Electronic Marketplace , Mitra Barun Sarkar Michigan State University, Brian Butler, Carnegie Mellon University, Charles Steinfield, Michigan State University

4 Electronic Commerce: Effects on Electronic Markets, Rolf T. Wigand and Robert I. Benjamin ,School of Information Studies, Syracuse University

5PC Week Sept 97 "Forging Flexible Links", Jeff Moad

6 Red Herring February 97 "Dissing Disintermediation", Alex Gove

7 BancAmerica Robertson Stephens estimate

8 EC Riders –June 97 CIO magazine

9 Russ, D. Miles. Wheat first- January 27, 1998

10 Benjamin, Keith. BancAmerica Robert Stephens. January 21, 1998.

11Information Today, Inc., What on earth is an Extranet," July 17, 1997 and CMP Media, Inc., Information Week, "Year of the Extranet at last," January 5, 1998.

12Computerworld, Inc., "Channel conflicts stall web sales," February 16, 1998.

13 Red Herring, Feb. 97, "When Worlds Collide", Luc Hatlestad