Electronic Commerce (“eCommerce”) is a concept for trade based upon products and services that are being marketed, contracted, and paid for over the Internet. Consequently, electronic commerce demands for the investment in computer systems, marketing, logistics and payments.
This paper will develop conditions for profitable investments in eCommerce with a special focus on outlays for information technology systems and sales management. If the services are made more standardized, if they do not change that often, or if they are well known to the customers so that there is little need for supplementary information, then the less costly will the information technology system become. The investment in marketing depends on how well known the brand name is to the customer. eCommerce firms “Born on the Net” have to spend substantially more resources on marketing than firms that “Move to the Net”.
These investments may be seen as parts of a process, which aims to generate larger revenues to the firm, better services to the customers, a more efficient logistic system, and lower payment costs. A financial perspective is taken, where investment outlays for web services and marketing are balanced to cost savings when serving existing customers and net revenues from the generation of new customers. This financial approach is applied to five case studies from the sectors of capital goods, financial services, food, ornamental horticulture, and books and stationeries, where the given background from practice and conditions for success are developed in terms of a customer-base, margins, and sales growth. It is demonstrated that an existing customer base offline reduces the need for a marketing that is costly. It is also shown that a combination of services online and offline improves customer services and increases the extension of repeat purchases.
Electronic Commerce is an activity that makes use of a computer network (the Internet) in order (a) to exchange information about products and services including price offers, and (b) to buy and sell products, services, and information online. It stands for a radical structural change concerning computer systems, marketing principles and logistics. Objectives have been “to develop low-cost customer-prospecting methods, establish close relationships with customers, and develop customer loyalty” [1, p. 9]. The main profitability of eCommerce is supposed to come from transactions business-to-business (B2B). In the case of business-to-consumer (B2C) only a limited number of cases seem to have become a success. For an overview sector by sector see e.g. [2, pp. 34–41].
Until today substantial resources have been invested in eCommerce. They have been directed towards two main tasks:
1.To develop an information technology system (a Web system) to be connected to the Internet. Such a system should let the potential customer to obtain accurate information on product availability, product quality, service conditions, and payment facilities in order to execute a purchase.
2. To establish and to maintain a customer-base (a register over earlier customers, present customers, and potential customers in combination with detailed sales records). Such a customer-base may be obtained by advertising in medias such as the Web, newspapers, television, telemarketing, etc. It may be maintained in terms of running a “Customer Club”, in which a customer obtains benefits from repeated purchases.
An investment in eCommerce may be compared to an investment in research and development, in patents, and in new technologies. Such an investment has the following characteristics:
• It is essential to find an optimal date of investment. A delay in investment gives an opportunity to obtain a more developed information technology system as well as more information about market conditions. “Nothing can compensate for the disaster of a massive launch when a site isn' t working” [3, p. 90]. On the other hand, a delay may result in a loss of cash flows to competitors.
• The expected stream of net profits has a substantial degree of uncertainty. Certain customers may not be well trained in using the Internet and they may consider on-line payment systems as being risky. Consequently, substantial amounts of resources may have to be spent on marketing, on consumer service, and on interactive systems.
The uncertainty about market conditions will result in a need for special financial programs including guarantees, risk-sharing systems, and the supply of venture capital.
The demand for successful deployment of eCommerce investments causes the need for empirical studies in the following three problems:
a.The design of the web system has to be tailor-made for each specific company in order to suit its configuration of products and services. Furthermore, such a design has to be upgraded from time to time dependent on the development of new and more modern systems as well as on the changes in customer demand.
b.The degree of success in online sales will depend on the marketing approach. A company with an existing stock of customers seems to have a lead over any new enterprise, which has to spend substantial resources on attracting customers.
c.Online sales implies that the distribution of products and services have to be performed without a major involvement of the customer. Consequently, each eCommerce firm has to design low-cost but highly efficient systems for dispatching their products at a time and date suitable to each single customer.
The purpose of this paper is to develop conditions for profitable investments in eCommerce. A financial approach is taken, where investments are treated as activities that initially spend fixed outlays on information technology and marketing in order to obtain a time series of net benefits to the firm and to its customers. The paper starts (in Section 2) with the investment in eCommerce seen as a process. The focus is on the principles for an economic evaluation based upon the costs and the benefits of investment and operation of eCommerce. These analytical principles are then used in five case studies, each of them representing one specific economic sector (Section 3). The experiences from these case studies form a basis for an analysis of the conditions for profitability (Section 4). Finally, conclusions are drawn (Section 5).
The purpose of this paper was to develop conditions for profitable investments in eCommerce. Two kinds of investment outlays have been considered—those for information systems (web-services) and those for marketing. It has been found that the marketing outlays are often of the same dignity and sometimes above those of the information systems. Both kinds of investments must be seen as extremely risky and it must therefore be important to develop principles for a financial evaluation of them.
The initial investment outlays will have to be matched to the operating surplus. It is sometimes the case that the investment decisions may be taken in a sequence. This provides the investments with a substantial flexibility. For example, a second step of investment in web-services and marketing may not be taken until the uncertainty has been released as to the effect the initial investment in marketing gave on online sales.
The practical relevance of these investment decisions has been studied for five firms representing five different business sectors. Two kinds of firms were identified—those being “Born on the Net” and those that have “Moved to the Net”. Firms that move to the Net spend substantially lower investment outlays on branding and sales marketing as they already are provided with a customer-base.
An existing customer-base will become a strong indication of loyalty. A rapid growth of new customers online will become a great advantage. However, such new customers often show less loyalty to the firm than the traditional customers do. This is a reason why the business-to-business segment of eCommerce has been more successful in sales management than the business-to-consumer one.
A multi-period model has been proposed in order to evaluate the profitability of investments in eCommerce. The fixed outlays will concern instalments in a system for web-services as well as actions for marketing with an emphasis on advertising. The time series of sales volumes stand for the main inter-period relations and their uncertain evolutions will have a critical influence on the profitability of investments in eCommerce. Investment outlays for web services and marketing have to be covered by net revenues from new customers as well as from cost savings in serving existing customers. Such a financial approach has great advantages for decision-making compared to general forecasts and market analyses. However, a financial approach requires cost estimates of investments and distribution that are well laid out and combined with risk analyses of the future demand for online services.
Such a multi-period investment approach has been applied to two of the five firms. One of them (BlueMarx) may be classified as “Born on the Net” while the other one (Interflora) as being “Moved to the Net”. Comparing them forms a basis for a set of conclusions:
• An existing customer-base (as for Interflora) will reduce the need for marketing investments and will also increase the willingness for customers to purchase services online. A well-known brand will stand as a guarantee for product quality, payment safety and lower costs of finance. An existing span of products will make it easier to convince customers about the advantages of electronic commerce. “Blommogram” has for long been known as an efficient and reliable system for purchasing flowers offline. With that basis Interflora had only minor difficulties to introduce online sales even if a focus had to be set on another (and younger) customer segment.
• Capital intensive products (as for BlueMarx) will generate large margins for online services. At the same time they will limit the market segments to wealthy customers and the longer product life may reduce the volume of repeat purchases. To get success in the sales of capital intensive products is was found it to be necessary to let any potential customer get acquainted with the product offline. Furthermore, after the decision to purchase such a product, a customer may demand for maintenance and other types of services. BlueMarx had a weak point in this respect. Even though the firm introduced a showroom in the center of Stockholm, it did not prove sufficient in that respect when it came to technical advanced services concerning automobiles, cameras and computers.
• The higher the rate of sales growth the larger the profitability. On the other hand the faster the market saturation, the riskier the investment. BlueMarx demonstrated an extremely high growth in the sales of capital goods. However, the customers of these types of goods rarely returned for repeat purchases. On the other hand Interflora did not present such a high growth rate but its strength came in terms of repeat sales. Flowers are typical goods for repeat purchases.
Summing up, a successful eCommerce strategy has proven to be:
•Invest in an interactive computer system. A lead will be given to those firms that may add on such a system to an existing sales system. Many firms (like Wettergrens above) use it for business-to-business transactions.
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Focus the initial sales efforts on an existing customer-base. Existing customers are the perfect target for repeat purchases online.
• Use the computer system for online marketing to existing and potential customers. Most eCommerce systems function not only for online sales but a main use is for information concerning new products, new offerings, sand new services.
This type of strategy has been successful for firms like Dell, Gap, Interflora, Nike, Nordea, Wettergrens, and many others.
Given these findings concerning the profitability of eCommerce projects, it seems constructive in the future to further develop a multi-period investment model in order to handle risk. One attractive way of doing so is to formulate the uncertain sales growth in terms of a binomial lattice and reformulate the model as one of real options.