Welcome

1. Welcome Strategies of Network Companies Jonathan D. Wareham wareham@acm.org

2. Agenda • When firms cooperate, compete and exchange • problems with traditional supply chain management (SCM) • problems this creates for manufacturers • problems this creates for their suppliers • problems this creates for consumers • improvements to traditional SCM • the direct-to-customer model • virtual integration with suppliers Markets Networks Firms Agents

3. Quiz • ? days a box of cereal spends in the supply chain? • Distorted information causes total inventory in the pharmaceutical supply chain to exceed ? days. $?in savings to be realized. • $ ?wasted because ofpoor coordination in the food industry supply chain • $ ?Boeing write-off in 1997 due to supply chain inefficiencies

4. Quiz • A box of cereal spends 104 days in the supply chain • Distorted information causes total inventory in the pharmaceutical supply chain to exceed 100 days. $11 billion in savings to be realized • Poor coordination wasting $ 30 billion annually in the food industry • $ 2.6 billion Boeing write-off in 1997 due to supply chain inefficiencies

5. Defining SCM • SCM is the coordination of material, information and financial flows between and among enterprises participating in the demand fulfillment process for a product or service. • Spans multiple organizations and industries • Coordination and integration of flows essential for the modern enterprise

6. Gates: Business @ The Speed of Thought A digital nervous system is the corporate, digital equivalent of the human nervous system, providing a well-integrated flow of information to the right part of the organization at the right time. A digital nervous system consists of the digital processes that enable a company to perceive and react to its environment, to sense competitor challenges and customer needs, and to organize timely responses.

7. Gates: Business @ The Speed of Thought A digital nervous system requires a combination of hardware and software; it's distinguished from a mere network of computers by the accuracy, immediacy, and richness of the information it brings to knowledge workers and the insight and collaboration made possible by the information.

8. Scott McNealy on Gates’ View He is right - I would be very nervous if my systems were based on their platforms and products!

9. Beer Game video

10. Traditional supply chain obsolescence Direction of flow of demand Direction of flow ofproduct Point of differentiation Distribution costs Market mediation costs Manufacturers Tier-I Suppliers Distribution Centers Tier-II Suppliers Retailers Customer Zones Raw Material vendor

11. The Bullwhip Effect Upstream amplification of demand variation Progression of a brushfire to an inferno! Customer Retailer Distributor Factory Tier 1 supplier Equipment

12. Machine Tools at Bullwhip Tip

13. The Diaper Supply Chain! Ripples to tidal waves Stockpiles and stockouts Insufficient or excessive capacities Higher costs

14. What is the Problem? • The “bullwhip effect” - four key causes • Demand signal processing • Currently only order information is shared (not actual sales) • Need to instead share POS retail data (sell-through data) • Order batching (retailers only order periodically) • Infrequent access to demand information • Order rationing • retailers order popular items excessively • Hoarding of scare products (inflate demand order of scarce product to ensure that you have it on-hand) • Special Promotions • Alter the normal pattern of product demand from customer; so that it’s impossible to understand the “true” demand

15. Interorganizational Systems: CRP BIG RETAILER < 3% stock outs < 14days inventory Warehouse 1 P&G Warehouse 2

16. Before CRP Budget BIG RETAILER Actual Warehouse 1 P&G Warehouse 2 • Volume discounts • New product promos • Here and now discounts • Trade marketing • Bonuses….

17. Interorganizational Systems • Integration of supply chain across companies • Degrees of integration: information, process, property rights • Increased efficiencies through • optimal production/logistics planning • lower inventories • increased flexibility • customer satisfaction • Oh brave new world, this is wonderful…But…

18. The Economist says…. • Look out for proprietary systems with high specificity Lock-in • Sharing processes is optimal from logistics viewpoint, but remember ‘knowledge of time and place’ • Additional information acquired by one party can reduce bargaining power of other. Competitive industries like retailing, grocery and electronics has demonstrated many examples of this….

19. Excel video

20. Solutions to Improve Sales Forecasting • Vendor Managed Inventory • Collaborative Forecasting and Replenishment • Quantity-Flexible contracts • (as contrasted with rigid contracts) • Buyer allowed to make limited changes to forecast information, which is then shared with suppliers. Supplier only ships enough for the “newest” forecast. Why is this helpful?

21. Types of Shared Information • Inventory information • Transition to echelon-based inventory systems • Upstream companies can determine when and what to produce • Downstream companies can improve service levels with less inventory • The Apple-Fritz Supplier Hub • Fritz manages entire inbound logistics for Apple • Consolidates freight, clears customs, manages the hub, manages local transportation to Apple • FLEX system

22. Types of Shared Information • Sales Data • Variance of orders greater than that of sales • The “bullwhip effect” - four key causes • Demand signal processing • Move to sharing sell-through data and POS retail data • Order batching • Infrequent access to demand information • Order rationing • Hoarding of scare products • Promotions

23. Types of Information Sharing • Production/Delivery Schedule • Improves due-date estimation • Expand planning horizons • Other Information Sharing • Performance metrics • Capacity information

24. Models of Information Sharing • Information Transfer Model • Transfer information to the other who maintains the database for decision-making • EDI Limitations • Multiple industry-specific standards • Rigid design for transaction processing • Rigid text formats • Batch-oriented • Installation costs

25. Models of Information Sharing • Third Party Model • Third party collects and maintains supply chain information • Apple- Fritz alliance, with Fritz as the 3rd party • Instill corporation (www.instill.com) in the food services industry • Digital markets (www.digitalmarket.com) in the electronic parts market

26. Challenges • Aligning incentives of different partners Channel Management Example • Trust and cooperation • Confidentiality of shared information • Anti-trust implications, such as possible price fixing behavior • Timeliness and accuracy of information • Technological constraints

27. Commercial Uses of New Technologies • Many commercial forms are products of modern technologies

28. Manugistics, I2, Commerce 1, Ariba 3.1 .7 .3 2.3

29. eCommerce Status? Doing fine…. Billion USD

30. eCommerce - Where? • Manufacturing (18% of all sales) • Transportation equipment • Beverage and tobacco • Electrical equipment & components • Wholesalers (8% of all sales) • Drugs and druggists • Motor vehicles, parts and supplies • Professional and commercial equipment

31. eCommerce - Where? (cont.) • Services (1% of total sales) • Travel arrangement and reservations • Securities & commodities intermediation • Publishing and software • Retail Sales (1% of total retail sales) • Books and magazines

32. Outlook Common PresentSense • Manufacturing 18%70% • Wholesalers 8% 50% • Services 1%20% • Retail Sales 1%30% • 60-80% of all eCommerce conducted through EDI • x12 & EDIFACT (primarily VANS) • www.census.gov/estats

33. B2B What Happened ? • Estimates that over 1,000 B2B portal will soon consolidate to < 200. • Less than 15% of all exchanges operating • 2 Stories: • Vertical • Horizontal

34. Your task…. • You would like to buy a 3 year old Honda Prelude. You have 2 options: • Buy the car in a private transaction, mediated through the newspaper classifieds, or • Buy the car through a used car dealership Asses the relative advantages and disadvantages of each option.

35. Intermediaries • Up to 25% of the economy • Financial Intermediaries • Dealers & Wholesalers

36. What do Intermediaries do? • Infomediation or Information matching • Gathering, sorting and arranging information about buyers and producers plans in order to match them.

37. Intermediation • In addition to information matching, intermediaries also do: • Economic matching, in which the intermediaries do not have the ability to perfectly match producers’ and consumers’ plans. Therefore they are required to hold inventories and perform logistic functions where perfect matching is impossible. The are therefore risk bearing partners in exchanges. They may also extend liquidity (credit).

38. Dis-Intermediation; can it be done? • If both producers and consumers had perfect information, then they could simultaneously match (infomediate) their plans and transform intermediaries in to useless entities. (Dis-intermediation) • Plan matching remains insurmountable, moreover; • Information asymmetries are not just about asymmetric information on plans. Moral hazard and adverse selection problems remain!! • Exogenous forces, uncertainty, bounded rationality • There is no logical argument that optimal plans will match. Many consumption decision are instantaneous and not planned;exacerbated through liquidity constraints.

39. OK, so what do Intermediaries do? Information management: compiling and filtering information, informing consumer's knowledge of supply and demand capacity. Logistics management: economies of scale, scope and specialization in conveying goods from production sites to consumption sites Transaction securitization: controlling and guaranteeing the quality of goods and payments delivered to buyer and seller Insurance: insurance for the existence of a market for the products, that is, a market making function Liquidity: extending credit to both sides of the transaction, alleviating liquidity constraints

40. Morgan Stanley “Collaborative Commerce” • Before the Order • Purchase approval and routing • Promotions and campaigns • Financing • Inventory availability • Price negotiation • During Fulfillment • Order status • Partial Shipments • Backorder information • Substitute products • Order explosion to multiple suppliers • Scheduling of inventory • After Delivery • Warranty and maintenance • Replacement parts • Asset Management • Regulatory Compliance • Returns and incorrect ships • Settlement • Inspection

41. Remember Amazon Amazon, when it started, it was mostly and infomediary. When faced by competition by an actual commercial intermediary, (Barnes & Noble) it was forced to purchase in larger quantities and thus hold inventories. Hence, a commercial intermediary had advantage over infomediary due to holdings of inventories and established, well managed logistics channels. For B&N, their website is an additional display case. Amazon may be forced to become a retail distributor...as was the case for many post order firms at the beginning of the century!!!!

42. Determinants of Choice in Intermediated exchange perceived market and environmental uncertainty. information asymmetry, opportunism, moral hazard, adverse selection and perceived and real volatility of supply temporal sensitivity, immediacy and spatial needs, aversion to search and coordination costs

43. Relationship to Profits

44. Centralization Yields… • Economies of scale in transacting (reduced search, negotiation and implementation costs) • Economies of scope (group or bundled transactions) • Cross subsidization amongst transactors and transacted goods play off on different buyer's willingness to pay and supplier's opportunity costs. ...Can increase welfare overall. • Risk pooling: reduce market uncertainty by holding inventories. • Rearrangement of goods. When there is a mismatch between the producer's offering and the buyer's preferences, the intermediary can rearrange them to improve the match.

45. Is Bigger Better ? • Centralization yields: economies of scale and scope, risk pooling, liquidity, transparency. • Between 1921 and 1983, 180 different futures markets existed, average lifetime of less than 12 years. • Similar patterns with equity markets… yes – size does matter! Network externalities - natural monopoly 1 or 2 markets per sector/service

46. B2B Portals: prospects… • Recent study shows less than 15% of B2B exchanges were actively operating markets • 1000 should consolidate to 200 • Highly standardized products will be centralized • Place for niche exchanges in esoteric, non- standard products with many attributes • Learn from the consolidation in financial markets • Look for fallout & consolidation in intermediate term

47. Horizontal 1 product sector – many industries Large exchanges Provide liquidity, transparency, aggregate supply & demand Require high volume of transactions, small commission base Additional revenue through value adds like financing, asset management, warrantees Vertical One industry –many products Limited membership Eliminate inefficiencies in specific industry supply chains Fewer transactions – revenue based on realized savings B2B Portals – 2 main types

48. Purpose • Increase understanding of rent generation models in electronic intermediaries • Implications of network and product characteristics • Evolution of rent accrual mechanisms & information and relational capabilities • Comparative case studies: 2 companies, both founded in Atlanta in 2000, & backed by large industry incumbents • Omnexus • eGatematrix

49. Omnexus

50. Omnexus • Plastics Industry one of world’s largest • 589 billion dollars in revenue • Employs 1.5 million people • BASF • Bayer • Dow • Dupont • Ticona/Celanese