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9:01 PM
How E-commerce Works

Why the Hype?

There is a huge amount of hype that surrounds e-commerce. Given the similarities with mail order commerce, you may be wondering why the hype is so common. Take, for example, the following quotes:

  • "...the estimate of U.S. retail e-commerce sales for the third quarter of 2005, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, was $22.3 billion, an increase of 5.7 percent (±1.7%) from the second quarter of 2005."-- U.S. Census Bureau
  • "2004 online retail sales rose 23.8 percent to $89 billion, representing 4.6 percent of total retail sales. Including travel, online sales also rose 23.8 percent to $141.4 billion. Online retail sales will reach $109.6 billion [in 2005]. Online sales including travel will rise to $172.4 billion this year." -- Forrester
  • "Online ad growth of 33.7 percent is expected in 2005 to $12.7 billion, raising a previous estimate of $11.5 billion for the year. eMarketer had estimated 2004 ad revenue at $9.5 billion." -- eMarketer

This sort of hype applies to a wide range of products. According to eMarketer the biggest product categories include:

  • Computer products (hardware, software, accessories)
  • Books
  • Music
  • Financial Services
  • Entertainment
  • Home Electronics
  • Apparel
  • Gifts and flowers
  • Travel services
  • Toys
  • Tickets
  • Information

The Dell Example

The hype doesn't explain the frantic rush by companies, both large and small, to get to the Web. Nor does it justify a small business making a big expenditure on an e-commerce facility. What is driving this sort of frenzy? To understand it a bit, let's take a look at one of the most successful e-commerce companies: Dell.

Dell is a straightforward company that, like a host of others, sells custom-configured PCs to consumers and businesses. Dell started as a mail-order company that advertised in the back of magazines and sold their computers over the phone. Dell's e-commerce presence is widely publicized these days because Dell is able to sell so much merchandise over the Web. According toIDG, Dell sold something like $14,000,000 in equipment every day in 2000, and 25 percent of Dell's sales were over the Web.

Does this matter? Dell has been selling computers by mail over the phone for more than a decade. Mail order sales is a standard way of doing things that has been around for over a century (Sears, after all, was a mail order company originally). So if 25 percent of Dell's sales move over to the Web instead of using the telephone, is that a big deal? The answer could be yes for three reasons:

  • If Dell were to lose 25 percent of its phone sales to achieve its 25 percent of sales over the web, then it is not clear that e-commerce has any advantage. Dell would be selling no more computers. But what if the sales conducted over the web cost the company less (for example, because the company does not have to hire someone to answer the phone)? Or what if people purchasing over the web tend to purchase more accessories? If the transaction cost on the web is lower, or if the presentation of merchandise on the web is more inviting and encourages larger transactions, then moving to the web is productive for Dell.
  • What if, in the process of selling merchandise over the Web, Dell lost no sales through its traditional phone channel? That is, what if there just happens to be a percentage of the population that prefers to buy things over the Web (perhaps because there is more time to think, or because you can try lots of different options to see what happens to the final price, or because you can compare multiple vendors easily, or whatever). In building its web site to attract these buyers, Dell may be able to lure away customers from other vendors who do not offer such a service. This gives Dell a competitive advantage that lets it increase its market share.
  • There is also a widely held belief that once a customer starts working with a vendor, it is much easier to keep that customer than it is to bring in new customers. So if you can build brand loyalty for a web site early, it gives you an advantage over other vendors who try to enter the market later. Dell implemented its Web site very early, and that presumably gives it an advantage over the competition.

These three trends are the main drivers behind the e-commerce buzz. There are other factors as well.

The Lure of E-commerce

The following list summarizes what might be called the "lure of e-commerce":

  • Lower transaction costs - if an e-commerce site is implemented well, the web can significantly lower both order-taking costs up front and customer service costs after the sale by automating processes.
  • Larger purchases per transaction - Amazon offers a feature that no normal store offers. When you read the description of a book, you also can see "what other people who ordered this book also purchased." That is, you can see the related books that people are actually buying. Because of features like these it is common for people to buy more books that they might buy at a normal bookstore.
  • Integration into the business cycle - A Web site that is well-integrated into the business cycle can offer customers more information than previously available. For example, if Dell tracks each computer through the manufacturing and shipping process, customers can see exactly where their order is at any time. This is what FedEx did when they introduced on-line package tracking - FedEx made far more information available to the customer.
  • People can shop in different ways. Traditional mail order companies introduced the concept of shopping from home in your pajamas, and e-commerce offers this same luxury. New features that web sites offer include the ability to build an order over several days, configure products and see actual prices, easily build complicated custom orders, compare prices between multiple vendors easily and search large catalogs easily.
  • Larger catalogs - A company can build a catalog on the web that would never fit in an ordinary mailbox. For example, Amazon sells millions of books. Imagine trying to fit all of the information available in Amazon's database into a paper catalog!
  • Improved customer interactions - With automated tools it is possible to interact with a customer in richer ways at virtually no cost. For example, the customer might get an email when the order is confirmed, when the order is shipped and after the order arrives. A happy customer is more likely to purchase something else from the company.

It is these sorts of advantages that create the buzz that surrounds e-commerce right now.

There is one final point for e-commerce that needs to be made. E-commerce allows people to create completely new business models. In a mail order company there is a high cost to printing and mailing catalogs that often end up in the trash. There is also a high cost in staffing the order-taking department that answers the phone. In e-commerce both the catalog distribution cost and the order taking cost fall toward zero. That means that it may be possible to offer products at a lower price, or to offer products that could not be offered before because of the change in cost dynamics.

However, it is important to point out that the impact of e-commerce only goes so far. Mail order sales channels offer many of these same advantages, but that does not stop your town from having a mall. The mall has social and entertainment aspects that attract people, and at the mall you can touch the product and take delivery instantly. E-commerce cannot offer any of these features. The mall is not going to go away anytime soon...

Easy and Hard Aspects of E-commerce

The things that are hard about e-commerce include:

  • Getting traffic to come to your Web site
  • Getting traffic to return to your Web site a second time
  • Differentiating yourself from the competition
  • Getting people to buy something from your Web site. Having people look at your site is one thing. Getting them to actually type in their credit card numbers is another.
  • Integrating an e-commerce Web site with existing business data (if applicable)

There are so many Web sites, and it is so easy to create a new e-commerce web site, that getting people to look at yours is the biggest problem.

The things that are easy about e-commerce, especially for small businesses and individuals, include:

  • Creating the web site
  • Taking the orders
  • Accepting payment

There are inumerable companies that will help you build and put up your electronic store. We'll discuss some options in the next section.

Building an E-commerce Site

The things you need to keep in mind when thinking about building an e-commerce site include:

  • Suppliers - this is no different from the concern that any normal store or mail order company has. Without good suppliers you cannot offer products.
  • Your price point - a big part of e-commerce is the fact that price comparisons are extremely easy for the consumer. Your price point is important in a transparent market.
  • Customer relations - E-commerce offers a variety of different ways to relate to your customer. E-mail, FAQs, knowledge bases, forums, chat rooms... Integrating these features into your e-commerce offering helps you differentiate yourself from the competition.
  • The back end: fulfillment, returns, customer service - These processes make or break any retail establishment. They define, in a big way, your relationship with your customer.

When you think about e-commerce, you may also want to consider these other desirable capabilities:

  • Gift-sending
  • Affiliate programs
  • Special discounts
  • Repeat buyer programs
  • Seasonal or periodic sales

The reason why you want to keep these things in mind is because they are all difficult unless your e-commerce software supports them. If the software does support them, they are trivial.

Affiliate Programs

A big part of today's e-commerce landscape is the affiliate program (also known as associate programs). This area was pioneered by Amazon. Amazon allows anyone to set up a specialty book store. When people buy books from the specialty store, the person who owns the specialty bookstore gets a commission (up to 10 percent of the book's list price) from Amazon. The affiliate program gives Amazon great exposure because it now has over 1,000,000 specialty bookstores all over the Web [ref]. Therefore this model is now copied by thousands of e-commerce sites. If you are setting up an e-commerce site you will want to consider an affiliate program as one way to get exposure. Link Share is a company that helps e-commerce sites set up affiliate programs.

Another twist on affiliate programs is the CPC Link (CPC=Cost Per Click), also known as affiliate links or click-thru links. You put a link on your site and the company pays you when someone clicks on the link. A typical payment ranges from 5 cents to 20 cents per click. Affiliate links