Five forces analysis applied to the online auction industry

The online auction industry offers marketplaces where buyer and seller meet to trade various products. Advantages of online auctions are: a wide community, broad product range, lower search and transaction costs and, compared to fixed price, a lower price. Therefore, a win-win situation is created, with benefits for buyers, like making a good deal and the auction feeling, and benefits for the sellers, like obtaining a good market price and being able to sell dispensable inventory. Some auction sites list a broad range of products on their site, and other specialize on niche products.

Apart from that, the industry can be divided into three segments: Business-to-Business, Business-to-Consumer and Person-to-Person (Consumer-to-Consumer), with either businesses or consumers as market participants. Online auctions are one of the few profitable E-Business Models, and make up nearly 10% of all revenues created in E-Commerce.

Five forces analysis applied to the online auction industry

1. Threat of entry

In the industry, there are various barriers:

– Capital requirements: Only some hardware (Server etc.

) and a software packet are needed, as well as human capital to run an online-auction. In comparison to other industries, overall ramp-up costs are relatively low and no inventory is required.

– Economies of scale exist: Within a certain range of users, there are fixed costs, but only very few variable costs. For example, two servers and a program adjusted for 1000 users, may also fit 10000 users, so there are declining costs per unit. Because the fixed costs are low, economies of scale are not a relevant barrier to enter the online-auction industry.

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– Product differentiation: Image is important to establish trust, confidence and customer loyalty; these elements are essential for online auctions. Special services, like warranties offered by uBid, and measures to foster community spirit, like special sites that attract a certain community, help to acquire new users and to keep actual users.

– Switching costs: are high, because sellers who gain reputation at certain online-auction sites cannot transfer this to other sites. If customers would switch from a provider with a huge community to one with a small community, disadvantages caused by smaller audiences, bidding and selling, appear. The result would be a smaller product variety and fewer buyers that can bid for an offer.

– Learning curve: In order to communicate with the user community and react to their needs, online-auction specific techniques, like online marketing, can be used. The market leader eBay for example, constantly analyses their customer base to be able offer services according to their needs. Certainly, the huge amount of users frequenting eBay’s site makes it easier to draw conclusions on the services wanted.

– Community: An online-auction needs a critical mass of buyers and sellers to be attractive. The membership-loop is an example of network externalities, the bigger the community, the more advantage customers gain from an online-auction: buyers only go to a site if they can expect a certain amount of offers, and sellers only go there if a sufficient number of buyers will bid for their products.

Entering the online auction market is relatively easy as low start up capital is required. On the other hand network externalities play an important role in the industry. To be successful in the long run it is crucial to build up a critical mass of customers. Customers face high switching costs as they are not able to transfer the reputation gained among one community to a different community. Thus, new entrants face difficulties in attracting new customers.

Customer loyalty, company image and community building have to established over time and can not be achieved immediately.

To sum up entry barriers are high, thus new potential entrants are not a viable threat to the incumbents.

2. Bargaining power of buyers

Buyer concentration differs over the industry segments. In the B2B segment, buyer concentration is high compared to C2C and B2C. With over 40 million customers in the latter two markets, the buyer group is very fragmented and each single customer does not have the power to negotiate on fees.

The Internet is a very transparent market that enables customers to select a provider with optimal price-performance ratio. As it is very easy in the Internet to switch from one service-provider to another, providers have to increase switching costs artificially, for example building up a system to measure reputation of customers.

Due to the high entry barriers, the risk of backward integration of customers does not exist.

Conclusion

At least in the C2C sector buyers have low bargaining power.

3. Bargaining power of suppliers

Main suppliers of the online-auction industry are companies providing network infrastructure such as servers. Server and other hardware suppliers are operating in an oligopolistic market with undifferentiated products and therefore switching costs are low. To establish the network and web pages IT specialists can be hired or outsourcing partners such as site hosting companies can provide services. Highly qualified personnel are rare thus bargaining power can be exercised by high salary demands.

The threat of forward integration is low as entry barriers into online-auctioning are relatively high.

Apart from selective cases of high salary demanding IT specialists, the overall bargaining power of suppliers is low.

4. Pressure from substitute products

Online:

Online retailers like Otto, power shopping agencies, online advertising

Offline:

Adds in newspapers, flea markets, garage sales, traditional auction houses, liquidators, companies offering catalogue selling

Each of these services can substitute only parts of the services provided by online auctioning, depending on the customer segment and the product demanded. The more diversified the customer base of an online-auctioneer the more difficult it becomes to find substitutes with an equal product range and competitive transaction costs.

Threat of substitutes poses a low risk to the online auction industry, especially to dominant industry players like eBay.

5. Intensity of rivalry among existing competitors

The total number of players in the industry is approximately 2700 with eBay as the market leader with a market share of 65%. The industry is highly concentrated, the largest five companies occupy approx. 90% of the whole online-auction market. Industry growth has been extremely high in the past years and is expected to go on as the Internet will spread further and its use will become more common. eBay did grow since it was started 1996, and uBid, with 14 percent the second biggest player on the market, had an 80 percent increase of revenue from December 1999 to December 2000.

Another reason for a low level of rivalry are the unsaturated markets: because there are still customers that don’t use online-auctions at all, providers can concentrate on gaining new clients instead of stealing them from each other.

Due to the big differences between the online-auction providers, like varying amount of consumers and different communities, the switching costs in the industry are high. Therefore, the rivalry between the various providers is not that strong.

There are no high exit barriers in the online-auction industry, because there are no specialized assets and no fix costs of exit.

The main reason for low rivalry in the industry is the dominant position of the market leader eBay: It is difficult for potential rivals to compete with eBay`s huge user community. The low rivalry is enhanced by the growth opportunities typical for unsaturated markets.

The competitive situation of the online-auction industry consists of the following main elements:

– High entry barriers deter new potential rivals from entering the market.

– Bargaining power of buyers and suppliers is low.

– No substitutes which fully satisfy the needs of the online auction customers are available.

– Rivalry among incumbents is low.

These characteristics lead to a high profit potential of the industry.

SWOT analysis of eBay

EBay was found in 1995 by Pierre Omidyar. The idea seems to be so simple, and brilliant on the other side: offer a marketplace for a community in order to facilitate C2C trade.

Ever since eBay`s customer base and their product range as well as total revenue and finally their market share increases and even a period of economic slowdown, can’t thwart eBay.

Strengths:

Being the first to run online-auctions thereby introducing a new idea of running e-commerce can be named as eBay`s initial strength. Ever since eBay is the market leader in the online auction industry and explored international markets within the last years.

The customer base increased rapidly over time and the largest online trading forum was established. The critical mass of participants as well as products couldn’t be scored to date by competitors.

The trading platform is easy to navigate, accessible from various countries and generally facilitates transactions. The customer needs only a computer and Internet access for the transaction. EBay is a relatively neutral partner, whose job it is to initiate and overview the business, not to control or influence the transaction.

The bidding procedure follows certain rules. Offences against these rules can be punished by eBay resp. by the users e.g. with the rating systems or the program Safeharbor. Thus enhances trust, improves customer loyalty and fosters the sense of community.

Through constant improvements in customer services, like additional product groups and special sites, as well as through strategic alliances with partners along the value chain, eBay provides additional service to its customers.

Good communication with its community through forums and face-to-face discussion facilitates feedback from customers.

The skilled human resources, like Meg Whitmann, fostered eBay present position.

The reliability of the system was increased by investment in new servers as well as in Maynard Webb, a premier software engineer.

Capital requirements were relatively low in the start-up-period and even now fixed cost required to run the business are low, seen relative to earnings. Later eBay raised capital through a public offering of common stock in 1998 and an additional offering in 1999.

The strengths listed above fostered the built up of a brand provide a secure starting point for the future development and challenges.

Weaknesses:

The basic concept of eBay: running online auctions is easy to copy for potential entrants.

Weaknesses can be detected in the IT system:

– Operating online might be dangerous, because the site or a running auction can be

disturbed by hackers or external tools (e.g. automatic overbidding tool)

– It is impossible to prevent system downtimes.

eBay has no “distribution channel” besides the Internet.

The size of the community and the variety of customers, which comes along with the size, results in different expectations towards the aim and participants in auctions. As a current problem one can name the growing presence of companies. It can be seen as a weakness that, C2C being the core competence of eBay, it is only in narrow ranges possible to exploit the potential of B2C trading. Turning towards businesses likely will result in loosing customers as well as a loss of potential revenues.

Opportunities:

With the growing worldwide diffusion of the Internet and the increase of e-commerce, countries like China offer a large market of potential customers. Other areas like South America or Eastern Europe, which are characterized by a high population, could also be attractive for eBay. So the geographical expansion represents a great opportunity to compensate for the saturating market in the US and to continue its growth. In this effort eBay`s brand image and its huge installed base could give it a competitive edge over its competitors.

Secondly the alliances of eBay (e.g. with MercadoLibre.com, the market leader in online auction sites in Latin America) and the acquisitions of large or leading regional competitors could help to establish a favourable position in these countries.

Another growth opportunity is the expansion of its current product line. One possibility is to increase the number of existing specialty sites. In the past eBay successfully introduced trading categories (e.g. eBay Motors), which were addressed to a particular product or group of products. As the variety of goods traded is almost infinite, there is enough space for more categories of this kind.

Another possibility is the broadening of its pre- and post trade services (e.g. shipping service, escrow service etc.). By increasing the service around the auction eBay is enhancing the convenience in the auction and, which is even more important, it is increasing the customers` feeling of security and trust in its site. The increase in trust is extremely important for acquiring new customers, who until now were reluctant to join eBay because of their concerns about security issues in e-business in general. In this task eBay again could capitalize on its alliances with the leading companies in the various services.

A third possibility to broaden its product line is the expansion in other segments of the online auction industry. The initial idea behind eBay was to provide a platform where consumers can trade with others consumers. But lately it has entered also the B2C business by attracting corporate customers like IBM for its services. For the corporate customers eBay with its huge customer base represents an ideal additional distribution channel for products (e.g. discontinued products or excess inventory), which could not be sold profitably elsewhere.

As we will see in the last section of the SWOT analysis, this kind of expansion can also pose a threat on eBay`s success.

Another point is that eBay could use its experience in C2C and B2C in order to also enter the B2B segment. This segment of large ticket items is certainly attractive for eBay, because of the vast amount and the value of products traded in it.

A fourth possibility is to diversify into a new industry like the online retailer industry. With the acquisition of Half.com and the introduction of its “Buy it now!”-feature it has made the initial steps into the online retail business. eBay has gained a lot of knowledge concerning consumer behaviour and has experience in dealing with diverse customers so that it can use these skills in the new industry. This second business segment would be another source of revenue and would decrease its strong dependence on the auction business.

One further opportunity for eBay could be the accelerating development of the technological innovations, especially in the mobile business. As the mobile phones and PDA`s etc. become more sophisticated and nowadays already have access to the Internet, the wireless technology offers an additional way of reaching current and new customers.

Threats:

As the online auction model, especially in the C2C segment, is easy to imitate, there is a permanent threat of new competitors. Online retailers (e.g. Amazon) and other Internet companies are diversifying into the auction market. While most entrants where not successful, one new competitor (uBid) could gain a considerable market share of 15% (of the online auction revenue) within a short time. If new entrants, who have enough financial recourses or who are ready to sacrifice profits, start a price war (by lowering the fees or by offering services for free) in order to win customers then eBay would face substantial losses in this competition. Furthermore, traditional auction houses begin to set up websites and brick-and-mortar retailers try to sell their products over the Internet. Another major threat could be eBay`s expansion in the B2C segment. On the one hand, this segment is very profitable and it is necessary to serve it in order to support future growth. On the other hand smaller customers, especially the sellers are threatened by the presence of corporatism, who intensify the competition in the auction. These smaller sellers are afraid of being overlooked among the mass of products offered by corporate sellers.

More and more customers express the concern that eBay is being “sold out” by cooperating with corporatism and that it would slowly lose its neutrality as a marketplace. With its move into the B2C segment eBay could lose the trust of its smaller customers and with it the “community spirit”, which were the driving forces of its success.

Competitors who are aware of this problem can steal the frustrated customers away from eBay or offer auction sites, which focus on the specific needs of different customer segments.

There is still a problem concerning the security issue. Even though eBay has installed features like SafeHarbor and the feedback forum to avoid frauds and other illegal activities, the security at online auctions is still not sufficient.

Moreover, eBay is still exposed to system outages and attacks by hackers. These problems are not expected to be completely solved in near future.

One big threat is the rapid expansion of eBay itself. By moving so fast into news countries and new business segments, problems of coordination and management of these diverse activities could emerge. Especially in its geographic expansion, eBay is facing different legal systems and competitive environments, which could be difficult to deal with.

Conclusion:

It appears that the strengths of eBay overweigh its weaknesses. It has a market share and a customer base, which cannot be achieved by any current competitor in near future. The network externalities in this industry contributes to eBay`s position as a market leader and make it difficult for new competitors to catch up with eBay. It also has a well-known brand and the image of a pioneer in its business. Some weaknesses of eBay are of general nature (e.g. system outages, hacker attacks etc.) and appear also in other Internet companies, so that they are not eBay-specific.

The SWOT analysis reveals that eBay has a broad range of opportunities to be successful in the future. eBay has already taken several steps (e.g. geographical expansion, alliances etc.) in order to continue its success in the past. The decreasing trust of its customers and its fading “community spirit” represent the major threats to eBay.

To sum up, due to its various strengths eBay is a favorable position and enjoys significant growth even in times of economic downturns.

Competitive strengths analysis of eBay and its rivals indicate that eBay has a competitive advantage or disadvantage? What are the sources of this advantage or disadvantage?

EBay is competing in the online auction industry, an industry that is characterized by high growth. The concept of online-auctioning is easy to copy; nonetheless, eBay is still the unchallenged market leader (64% of revenues in 2001), with the second company following far behind (uBid, 15%). There are various reasons for the competitive advantage of eBay.

The most important factors that contributed to eBay`s competitive advantage over its rivals can be traced back to its foundation. Pierre Omidyar�s vision of a community like efficient online-market place on which people could trade in a peer-to-peer manner, turned out to be very fruitful, as well as his experience in the IT-sector. Both qualities have remained substantial elements of eBay`s business model. The company was founded in the bay of San Francisco and initially focused on the people living there (that’s where the name “eBay” comes from). This location was decisive for its success, too: only in a place near to the most innovative IT-Cluster of the world, Silicon Valley, this business could be established that early. People were open for this kind of technologies earlier than in other locations, and professionals working in IT could be found easily. Additionally, the community spirit that Omidyar wanted, and that is needed for trust base of person-to-person trade, could be found in the tolerant atmosphere prone to the San Francisco Bay Area.

eBay`s service was new, and word of mouth spread quickly, so soon it had a critical mass of participants for an auction. This enabled them to make use of network externalities. The self-reinforcing loop of network externalities assured them a steadily growing user community and market leadership. Apart from this, eBay gained from this early foundation by being able to collect more experiences in this industry than their competitors are. eBay`s constant evaluation of service improved techniques belonging to the auction-process (e.g. their Feedback system or automatic bidding) as well as IT for handling a broad audience. They frequently asked customers for feedback, thus keeping in touch with the community and being able to adjust service to its needs.

The revenues created by the network externalities after acquiring a critical mass of customers gave them more capital, than most of their competitors had. eBay was able to hire qualified leading personal, to enable a high standard of IT and to finance far reaching marketing efforts, that further increased their competitive advantage.

In conclusion eBay`s main advantage is their big customer base that results in a huge product variety and attractive prices. It is very hard for competitors to offer services that compensate customers for not having as many trading partners as eBay can offer them. The company keeps this advantage, by strategically focusing on its core competence, personalized C2C online auctions.