B2B survivors

Pop-culture experts say the nostalgia cycle is growing shorter and shorter — that someday we may all yearn for those lazy, hazy, carefree days of six weeks ago. So it doesn’t seem out of line to look back with amusement at 2000. Back then, James Glassman and Kevin Hassett’s Dow 36,000: The New Strategy for Profiting from the Coming Rise in the Stock Market was selling briskly, and experts were predicting that enterprises were set to junk a hundred years’ worth of purchasing practices and instead buy everything — from manila envelopes to sheet steel — through online exchanges, or e-marketplaces.

Seems almost quaint, doesn’t it?

The idea, you’ll recall, was to conjure the Internet’s power to form a more efficient marketplace. Suppliers would be forced to cut prices (because if they wouldn’t, a competitor surely would), but the best would benefit from massive volumes. Buyers would have a world of choice a mouse click away, all at rock-bottom prices. Everybody would win. All this was scheduled to occur soon, just about the time the Dow would be closing on 36,000.

According to Keenan Vision Inc., a Berkeley, Calif.-based analyst firm, more than 200 exchanges and exchange-related products were rolled out each month from November 1999 to April 2000. Small wonder, then, that Keenan once predicted that there would be 4,070 exchanges in the U.S. by this year. Today, analysts and exchange CEOs say they believe that fewer than 200 e-marketplaces survive — though it’s hard to nail down a precise number.

Carl F. Lehmann, an analyst at Meta Group Inc., says, “If you’re trying to exploit economies of scale, you don’t need to set up (online) markets; you need to analyze markets. All you have to do is put three good MBAs on the problem. But we learned that too late.”

Most exchanges were bubble-driven businesses that quietly folded when the venture funding dried up. But some vertical e-marketplaces were founded by industry consortia whose members boast deep pockets. Many of them have flailed about for tenable business models and managers, but along the way they’ve learned how to deliver value to their members/customers. By signing on with Elemica Inc., an online exchange for the chemical industry, The Dow Chemical Co. “saved thousands of hours,” says Dow CIO Dave Kepler, “and we think we can (eventually) reduce inventories up to 50 per cent.”

Less Tech, More Value

While the exchange boom was by its very nature technology-driven, the surviving companies universally agree that their focus has shifted. “We’ve transitioned from a tech company in Houston to a company with people on the ground working with (member companies’) procurement people,” says John Wilson, CEO of Trade-Ranger Inc., an exchange that serves the energy industry. “Three years ago, the tech was our raison d’etre. No longer. We’ve gone from being IT experts to being purchasing experts.”

Like their fallen brethren, the surviving exchanges once had ambitious, IT-driven plans — overly ambitious, as it turned out. For many reasons, companies were reluctant to alter purchasing practices. To succeed, exchanges had to adjust. “In 2000, we thought we’d move faster. We thought we’d bring people right to the Net and XML,” says Kevin Ruffe, chief operating officer at Global Healthcare Exchange LLC. “But soon we realized we were pushing a rock uphill. Health care (IT) systems aren’t the most up to date….People had EDI and didn’t want to change that. We had to back off our aspirations of making major changes quickly.”

Trade-Ranger was “conceived as a technology play, but no one knew how to make the value real,” Wilson says. “The first idea was to connect the world virtually from behind a firewall in Houston. It didn’t work. We then spent a few hundred million and went through many CEOs.” Trade-Ranger survived its murky times because its founding companies were patient and had a five- to seven-year plan.

It’s still not clear whether even the survivors will ever be truly successful. Analysts say privately that many companies that helped found exchanges have little hope that their investments will ever pay off, and they would bail out if they could do so gracefully.

The strongest exchanges appear to be those that downplayed technology from the outset. Pantellos Group LP, an e-marketplace for large utilities, is mentioned by Gartner Inc. analyst Andrew White as one of the standouts. According to Pantellos CEO Jim Neikirk, the key is that “from the beginning, we knew it was about value-add, not just technology. Our clients have had some (fiscal) struggles, so we recognized that cost management is really important to them.”

Early failures — or, at best, unimpressive savings for customers — prompted exchanges to ask how they could deliver value, and the result, Meta’s Lehmann says, is that “they’re morphing into supply chain business-process outsourcing companies.” Indeed, when exchange executives discuss their offerings, they could easily be confused with systems integrators or software vendors.

“We wanted to get buyers’ ERP talking to sellers’ ERP,” says Elemica CEO Kent Dolby. Elemica’s star offering is a software hub that allows the many industry-specific XML variants to communicate with each other. “Some larger companies want to be very integrated (with supply chain partners) and have a SAP or Oracle or Baan system,” Dolby says. “Others may be simple buyers working off Excel spreadsheets. We need to talk with all of them.”

Real Savings?

The big question is whether exchanges can help companies save money — and how much. Nick Parnaby, global director of member development at the WorldWide Retail Exchange LLC in Alexandria, Va., says that since the exchange’s founding in 2000, “members have saved US$1.1 billion to US$1.2 billion,” with returns on their investments at 700 per cent to 1,000 per cent. Retailers save on maintenance, repair and operating equipment (known as MRO, essentially all the supplies that don’t go into the product) and private-label goods. Parnaby says the typical member saves 13 per cent, but that number rises to 20 per cent if member companies “pool their spend” with one another to improve economies of scale.

Exchanges also point to other corporate benefits. According to Wilson, one Trade-Ranger member has cut head count in its accounts-payable department from 99 people last year to 40.

Craig Weida, vice-president of supply chain and administrative services at Cinergy Corp., a Pantellos customer, says Cinergy has seen a 500 per cent return on its investment in the exchange. The company now routes 50 per cent of its purchase orders through Pantellos and has seen a dramatic drop in error rates, he adds. Pantellos says its members have saved an aggregate US$315 million since the exchange’s founding in 2000.

Elaine Callas, CIO at Englewood, Colo.-based hospital chain Centura Health, says that signing on with the Global Healthcare Exchange was a major component of a plan that let Centura cut the number of steps in its purchasing process by more than half. Callas was been sufficiently impressed to increase the chain’s use of the exchange nearly 350 per cent from 2002 to 2003.

Such impressive returns help explain why Gartner, Meta and other analyst firms predict an exchange renaissance over the next several years. If your company isn’t part of an industry marketplace yet, congratulations — you may be poised to reap the benefits without having to remove arrows from your back.

Deep Pockets Prevail

The vast majority of today’s exchanges owe their survival in large measure to the simple phenomenon of deep pockets: They were formed by massive companies that kicked in millions apiece back in the heady late 1990s. The WorldWide Retail Exchange, for example, was founded by 17 retailers from the U.S., Asia and Europe, each of which kicked in US$10 million, according to Nick Parnaby, the exchange’s global director of member development.

The WorldWide Retail Exchange then recruited another 45 members that contributed lesser sums, Parnaby adds. All told, the exchange raised US$200 million within a year.

Most exchanges are less forthcoming about the amount of their funding, but the might of their founders offers clues. Elemica, for example, was formed in 2000 by such chemical-industry titans as Du Pont Co., Dow Chemical, BASF Corp. and Mitsubishi Chemical Corp. Pantellos was established (also in 2000) by the nation’s 20 largest electric utilities, including Consolidated Edison Inc., Duke Power Co., Entergy Corp. and Pacific Gas & Electric Co.

The list goes on, and the point is clear: One way for an exchange to survive is to depend on the kindness of its founders. Pantellos is a rare bird in that it is “both earnings- and cash-positive,” says CEO Jim Neikirk.

Analysts say most exchanges are under pressure from their members to stop being cost centers. “We understand that (exchange) members are starting to call up and say, ‘Where’s the value?’ ” says Meta Group analyst Carl F. Lehmann. “Many businesses question whether the e-marketplaces can do the (required) tasks and do them cheaper. Their value is very much in question.”

The exchanges are very much aware of this, and they’re determined to make the transition. Trade-Ranger CEO John Wilson says, “In 2004, our business model will change. We will be paid for the value we deliver, not (treated) as a subsidy. All of our customers would prefer not to be on an equity ownership basis.”

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