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Retail: Who Needs the Middleman?
In the new 'e-conomy,' the question isn't whether or when all retail will go online. It's whether producers or consumers will seize the upper hand
Ravi Dhar is an associate professor of marketing at the Yale School of Management. He is an expert on consumer behavior and decision-making, marketing strategy and high-technology marketing. He holds a Ph.D. from the University of California/Berkeley.
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Business New Haven
11/15/1999
By: Michael C. Bingham
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You recently wrote a piece looking at different facets of e-tailing. Tell us about it.
On November 1 Priceline.com announced a service where individuals can bid for groceries online. We wrote a piece asking, 'Should consumers be bidding on individual grocery items, does it make sense, and what happens when all the supermarkets come together and [sell] through a single entity like Priceline?' Can it be considered like a merger where from 600 supermarkets you went to one supermarket, in a sense?
What did you conclude?
We examined different reasons they might be doing this. One is that there are consumers who want to shop online - it's convenient. But the way the Priceline model is set up, it's not really targeting consumer convenience, because the consumer still has to go to the store to pick the order up. So, are they trying to target the price-sensitive consumers? But how many of the people who are price-sensitive or low-income are likely to be on the Internet, or is it right now skewed toward people who are relatively well-off and who have less time, rather than less money? The interesting part of this is, do consumers even know individual grocery prices [in order] to bid? If I asked, 'What is the price of 32 ounces of detergent?' I don't think most of us would know what it is.
Is there a better way to do this?
A better system might be where individuals define what the shopping basket is like - which is, 'How much do I spend each week on groceries?' - and then be able to tell Priceline or any other supermarket what the shopping basket contains and let the merchants bid for [the order]. There are companies which act on behalf of the buyer, whether it's Ford or General Motors, and tell [potential suppliers], 'We want 200 tons of steel, so why don't you steel makers bid on it?' That really drives prices down.
How will pricing models be affected overall in a bid environment?
As consumers bid for these different [supermarket] items, potentially supermarkets might compile information on [individual] consumers' willingness to pay. What implication does that have for future prices? Take a six-pack of Coca-Cola: Right now if you go to Stop & Shop, the people who really love Coke and the people who like Coke only slightly end up paying the same amount. But online you could customize this and give different promotional offers at different times to different customers. If the merchant knows that you really like Coke based on your history of bidding, over time he might decide, 'Well, this guy's going to buy anyway, so I won't give him an electronic coupon.' Whereas I have information on a shopper who doesn't value [Coke] as much, so I might give him a discount coupon.
It's the ultimate research tool.
Price discrimination is easier online for two reasons: One, [merchants] have better data on consumers' willingness to pay for each product because they have been bidding for them differently. Second, it's easier to customize prices and offers online. There are all sorts of interesting implications like that for customers.
It's the same with airlines. Some airlines have set it up so [travelers] can bid on certain trips. Cathay Pacific had something a couple of years ago where you could go online and bid for a trip to Hong Kong. It was very popular. It was hard for Cathay Pacific to identify the target segment of people who want to go to Hong Kong - you would think it would include some [U.S.] immigrants, but it's still very diffused. This allows the airline instantly to collect information on the target segment who want to travel to Asia. The second information it gave them was how much people were willing to pay for a flight to Hong Kong. So the next time they had empty seats - they can e-mail [potential flyers] in a certain order based on the bidding process. They know, 'Well, this guy paid $1,000 to go to Hong Kong; we'll e-mail him first and tell him he can get tickets for only $900. If he doesn't respond by a certain time, then I go down my list to people who bid only $800.' I don't give those seats to everyone at the same price. So the price discrimination and customization allows firms to capture how much different consumers value different products.
Everyone assumes the Internet necessarily drives prices down by placing power in consumers' hands. As you describe it, it's a two-way street.
Potentially, the way to put a lot more power in consumers' hands is to flip the process so that the bidding companies act as agents for the consumers, not the manufacturers. Say there are six supermarkets in the region. I want to buy five boxes of Tide, four boxes of cereal, and so on - and then I let the supermarkets bid. That puts power back in consumers' hands, because now the supermarkets are bidding for the consumer, and that drives the prices down.
It also has implications for pricing in the supermarkets. If all price-sensitive consumers are shopping online, then [retailers] might raise the prices in supermarkets because they know the people who are left [shopping] in the supermarkets either don't have Internet access, or they simply prefer to go to the store, which means they are willing to pay more. It's a little like inner cities, which tend to have higher prices than more wealthy areas. You would think that people in inner cities would be more price-sensitive. They are more price-sensitive - but they don't have any options.
How might the model get flipped back that way to place the power in consumers' hands?
There's a Web site called Acompany.com. It's an aggregator: As the number of consumers who buy a certain product increases, the price they pay decreases. Let's say [a manufacturer has] a Palm Pilot for sale, and the number of people who want to buy it is 50, then the price is $150. If the number of [potential buyers] is 100, then the price is $145 or $140. By aggregating individuals, they can get a better price from manufacturers. With groceries, right now I don't think Stop & Shop is interested in bidding on my grocery order. But if a local entrepreneur can get everyone who lives on Hillhouse Avenue to get him a list of stuff, now he'll have an order for 50 boxes of Tide and 80 boxes of cereal, and he can ask different supermarkets to bid on that [order].
Down the road, what is to keep all retail from going on line - and then there are no more stores?
Clearly, products which have high distribution costs, where the middleman takes in a lot of money but adds very little value - automobiles, for instance - will go [exclusively] online more rapidly. A not-so-obvious example is luxury products. Think about watches: Rolex sells around a million watches a year in this country. That's not a whole lot. Let's say those million watches are bought by one million consumers - one watch each. The markup by Tourneau, or Lennox Jewelers, on Rolex watches is 50 percent - which is really 100 percent on the wholesale price. What value is Lennox Jewelers really adding? The warranty is not a big deal; customer education [about the product] is not a big deal...Rolex will decide, 'I already have information on my one million customers' - it's not very hard to manage a million customers; for Procter & Gamble to manage 250 million detergent buyers is much harder. For a lot of those kinds of products, having a direct relationship with your customer - educating them, providing them with special offers - this is going to have huge implications for these kinds of products.
The second type of products where this is going to make a difference is where customization is important. This typically is information products, whether it's my Yahoo, or my stock quotes, or my newspaper. Any products which can be digitized and then transmitted online - these are the products which will move exclusively online faster. Products where you still have some value being provided by the channel [will move exclusively online] more slowly. So some middlemen will disappear, and the other middlemen will have to change what they do. Car dealers, for instance, may become places where [consumers] exclusively test-drive the car. You already know what car you want; you already know what [the manufacturer] will sell it to you for. It will be organized very differently: Ford might have two test-driving centers in Connecticut where people from all over the state can come.
So the whole notion of what service is, what value middlemen provide, is going to change - even if the middlemen continue to exist in some way.
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