Business Models

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BUSINESS MODELS

The advent of e-commerce in the mid-1990s brought with it many new ways of doing business. Some were viable and others were not. While the number of ways to conduct business electronically is vast, only a handful of business models—methods by which businesses generate revenue—proved worthy enough to survive the dot-com fallout of 2000. Several variations exist within each model, and many firms attempt to meld models to increase profitability.

MERCHANT MODEL

Perhaps the most well-known e-commerce business model, Internet-based merchandising is what comes to mind for many when the subject of e-commerce is raised. One of the most successful online merchants using this model, Amazon.com, began operating as a business-to-consumer (B2C) Internet company by selling books online from a database that exceeded one-million titles by the end of 1996. Amazon's wide selection, along with its practice of discounting books by 10 to 30 percent, were key factors in its success. The firm developed one-click shopping technology, which allowed returning shoppers to purchase an item with a single click. Although the site experienced meteoric growth from its inception in 1995 to the end of the decade, analysts in late 1999 began to question whether or not Amazon.com would ever attain profitability. Consequently, the company's stock prices plunged and founder Jeff Bezos was forced to defend the viability of his business model. The world's largest online retailer, with vast offerings that include books, CDs, and electronics, Amazon began to offer business-to-business (B2B) services in 2000 by selling the technology it had developed and employed so successfully. For example, it helped Toysrus.com strengthen its Internet infrastructure after the toy retailer found itself unable to keep pace with holiday orders in 1999.

Unlike Amazon, catalog clothing company Landsend.com was run by a traditional brick-and-mortar parent, Lands' End Inc. Landsend.com began selling 100 items on the Internet in 1995. The firm decided to move into Internet sales after examining the demographics of typical Lands' End shoppers. Many Lands' End shoppers owned PCs, and they were twice as likely to have online access as the rest of the population. Also, they typically were between 35 and 54 years of age, college educated, employed in a professional or managerial position, and earned an average household income of $60,000. Within three years, sales from Landsend.com had reached $18 million, and the online venture had achieved consistent profitability. The firm added technology to its site that allowed shoppers to build their own outfits; create three-dimensional models of their body shape to see which articles of clothing were best suited to that shape; and establish personalized accounts that would store billing and shipping information to streamline future online purchases.

In 1999, Landsend.com launched Lands' End Live, an innovative live customer service program that offered online shoppers real-time personal assistance 24 hours a day, seven days a week. By then, Landsend.com had evolved into the leading online apparel site. Its success prompted the firm to expand its business model and begin offering Web site development services to firms like the Saturn division of General Motors Corp. and RadioShack. In 2001, online sales totaled $218 million, accounting for roughly 16 percent of the total revenues secured by Lands' End Inc.

By targeting more lucrative clients, both Amazon.com and Landsend.com followed a pattern typical of Internet retailers after the dot-com shakeup. According to Daniel Levine, columnist for the Sacramento Business Journal, "For surviving business-to-consumer companies, that approach represents a shift to business-to-business and to selling the technology they developed as a service to businesses."

ADVERTISING MODEL

This model relies on advertising to make money. To attract users to its site, leading Web portal Yahoo! offers things like free e-mail, extensive content, and travel services. The firm got its start in early 1995 when founders Jerry Yang and David Filo put together a simple list of favorite Web sites. The firm's lucrative initial public offering in April 1996 allowed it to launch an acquisition spree that eventually would exceed $10 billion. In September of 1997, Yahoo! bought a news delivery service, as well as technology that allowed it to add people-searching and e-mail to its free online services. Purchases in the following year allowed Yahoo! users to play games and shop. The firm paid $4 billion for Geocities and $5.7 billion for video services provider Broadcast.com in 1999. This aggressive growth strategy reflected manage-ment's belief that more features, services, and content would attract more visitors and advertising dollars.

Unlike many other dot-com startups, Yahoo! actually was able to parlay advertising dollars into profitability. This partially was due to the technology the firm developed for monitoring each visitor's online activity, selecting the advertisements displayed to each visitor, and tracking the hits received by each ad. Eventually, Yahoo! proved too reliant on other dotcom upstarts for advertising revenue. When these fledgling ventures were forced to curtail spending, Yahoo! began looking to traditional brick-and-mortar companies. However, many of these firms also were cutting costs, and quite often the dollars earmarked for online advertising were the most vulnerable to cuts. Eventually, the firm recognized that it needed to reduce its reliance on advertising, which accounted for roughly 85 percent of sales in 2000. Yahoo! altered its business model when it began offering fee-based services like online bill paying to consumers, and fee-based services like e-store management to corporate clients.

INFORMATION MODEL

Several online ventures focus on the sale of information. For example, the Wall Street Journal Online, one user of this model, offers a subscription that includes access to articles, detailed company information, and real-time stock quotes for a monthly fee. Consumer Reports Online offers access to its product ratings and reports for a fee as well. To draw more readers, both offer a limited amount of free content and charge a subscription for access to premium content. Quite often, sites like these also rely on advertising to make money.

BROKERAGE MODEL

Like Amazon, eBay is another pure-play Internet company, meaning that it conducts business solely on the Internet. However, instead of using the retailing model employed by Amazon, the firm uses a brokerage format that brings sellers and buyers together. The world's largest online auction site, eBay was founded by Pierre Omidyar in 1995 as Auction Web, a site that allowed sellers to list descriptions of items for sale, require a minimum bid, and set an auction's length between three and 10 days. When the auction expired, the highest bidder was able to purchase the object for the bid price, providing the minimum had been met. The buyer and seller were responsible for handling payment and delivery.

As site traffic grew, Auction Web began charging a small fee, basing it on the final price of each object sold. Because the auctioning process was automated, overhead costs were kept to a minimum and the site achieved profitability quickly. A feedback forum, which allowed buyers and sellers to rate one another, was put into place in 1996. Auction Web changed its name to eBay the following year. Despite competition from the Internet leaders like Yahoo! and Amazon.com in the late 1990s, eBay continued to thrive, mainly because it had developed the online auction business model first and had secured an extensive base of buyers and sellers.

Auction site Covisint functions as a B2B marketplace for the worldwide automobile industry. Launched in November of 2000, Covisint was first conceptualized in late 1999 by industry leaders Ford Motor Co., General Motors, and DaimlerChrysler to streamline the purchasing and production processes of automobile making in an effort to cut costs. The auto-makers envisioned an online marketplace that would improve new parts development processes by enhancing communication between automakers and suppliers; cut the time needed for vehicle development; and grant dealers more inventory control by helping them to stock what consumers want and maintain fewer cars on their lots. In mid-2001, Covisint functioned mainly as a procurement vehicle, making its money by charging fees for each transaction.

According to a July 2001 article in PC Magazine, eBay and Covisint stood out among the many online marketplaces that failed soon after they launched. It explained: "The Web-based business-to-business marketplace assumed that automating transactions would be enough to bring buyers and sellers together online." According to the article, successful implementation of this business model also requires a high volume of buyers and sellers, as is the case with eBay, or a strong incentive to join, which in Covisint's case stems from the ability of the large automotive buyers to ask smaller suppliers to participate the marketplace.

Another type of online brokerage model is the reverse auction. Using reverse auction technology, Priceline.com allows users to name the price they are willing to pay for airline tickets, hotel rooms, automobile rentals, mortgages, new cars, and long-distance telephone calls. Customers who submit a price are obligated to complete the purchase if a seller matches that price. Priceline makes its money via any spread between the price it pays for tickets, rooms, etc. and the price consumers are willing to pay. The firm achieved profitability in July of 2001, roughly six years after it was founded, lending credibility to the frequently criticized business model.

MySimon.com is an online brokerage that locates the lowest prices on a wide range of products and services for consumers and allows them to link directly to merchants to complete purchases. Known as a shopping bot, mysimon.com uses virtual learning agent software to search the inventory of more than 2,000 e-tailers. Search results may be sorted by price, merchant ratings, and other criteria. Shoppers who reach a decision about which item they wish to purchase begin the transaction by clicking the "Buy" button located beside each product. They are then routed to the Web site selling the item, where they can complete their purchase. Shoppers can use mysimon.com for free; the site makes money via online advertising and by charging merchants who wish to boost their visibility by paying a fee to add a bolder typeface to their listing.

ONLINE SERVICES MODEL

At the core of online service providers like Earthlink, MCI WorldCom, and America Online Inc. (AOL) is a subscription-based model; revenues are generated by charging users a monthly fee for Internet access and e-mail service. Quite often, these firms also generate revenues by doing things like selling advertising space on their sites. For example, AOL founder and CEO Steven Case developed a successful business model that allowed his firm to make money in a variety of ways, such as charging subscription fees, selling online advertising, and developing e-commerce deals with online retailers.

In May of 1985, Case launched AOL as Quantum Computer Services Inc., a modem-based online service offered to Commodore personal computer (PC) users. Within two years, the service had been expanded to include owners of PCs made by Tandy Corp. and other companies. Profitability came in 1987, and by the end of the decade the young firm had made online services available to owners of IBM-compatible PCs and Macintosh machines. Believing a mass market existed for interactive online services and content, Case began working on a nationwide online network for PC owners called America Online. Officially launched in 1989, AOL included games, e-mail, and real-time chat capabilities. The firm used aggressive marketing tactics, like giving AOL software away for free, to grow its subscriber base.

Realizing that additional content would draw more subscribers to the site, AOL orchestrated licensing deals with media firms like Knight-Ridder and CNN. To counter predictions that the World Wide Web would render online services like AOL obsolete, the firm created a gateway, AOL.com, to offer subscribers a link to the Internet from AOL. A pivotal cross-marketing deal with Microsoft, signed in 1995, resulted in Microsoft including AOL software on its Windows 95 platform. By 1996, AOL was a leading online services provider. Robert Pittman, hired that year as president and chief operating officer, was charged with the task of developing AOL's e-commerce strategy. Pittman began forging agreements with online retailers, such as Amazon.com, who wanted to sell their merchandise on AOL. With a membership of more than 10 million subscribers by 1997, AOL also found itself well positioned to sell advertising on its site.

To grow both its subscriber base and its services, AOL completed two key acquisitions in 1998: rival CompuServe Inc. and instant messaging firm ICQ. The following year, AOL bought browser firm Nets-cape Communications, and in 1999 the firm extended its services to wireless consumers via AOL Mobile Messenger. In perhaps its boldest move to date, in 2001 AOL took part in one of the largest mergers in media industry history—a $183 billion union with Time Warner Inc. to form AOL Time Warner Inc. The marriage of an online services provider with a major media player created a "new media business model," according to an April 2001 article in Electronic Media, which explained: "AOL Time Warner is dependent upon subscriber growth and advertiser partnerships and its ability to leverage those relationships while selling its content to its own and other outlets." AOL Time Warner's ability to develop this new business model will likely have a significant impact on future business models in both e-commerce and media industries.