Will Covisint Thrive As a B2B Exchange?Published: April 25, 2001 in Knowledge@Wharton
Now that dot-coms are no longer in fashion, discussions about business-to-business (B2B) e-commerce exchanges are rarely heard these days. In a campus version of gallows humor, business school students who two years ago were hungry for jobs at Internet start-ups now describe B2B as "back to banking." (B2B’s cousin, business-to-consumer e-commerce, has suffered a similar fate: B2C is now "back to consulting.") Still, this is a healthy development. The less hype that surrounds B2B exchanges, the more meaningfully their true value can be debated and assessed.
If they work, B2B exchanges could dramatically transform the way in which companies do business with one another. One such exchange to watch is Covisint, which is backed by Detroit’s auto giants and other car companies – and which hired a CEO last week after a year-long search. What happens at Covisint will have major implications for the way large companies view Internet-based B2B exchanges in the future.
Covisint’s new boss, Kevin W. English, 48, is no stranger to e-commerce. In his most recent job at Credit Suisse First Boston, where he was managing director of e-commerce, he oversaw the development of an online wealth-management service for rich investors. Before that, English was CEO of TheStreet.com, a financial news and analysis website. Still, he has little experience in the auto industry and that will pose a major challenge as he tries to steer the exchange towards achieving its ambitious and complex objectives.
Located in Southfield, Mich., Covisint – which gets its awkward name from Cooperation, Vision and Integration – was launched a little more than a year ago. Ford and General Motors, which had earlier announced independent plans to set up B2B exchanges, said they would abandon these initiatives to create a common exchange and also invited other auto companies to join. DaimlerChrysler, Renault-Nissan, Toyota and Peugeot agreed to participate. Oracle and Commerce One came on board as technology providers. An exchange involving such players clearly has enormous market clout. Mark Hogan, president of General Motors’ eGM business unit told a Wharton conference organized by the Jones Center earlier this month: "We’ve already done $1.5 billion in transactions through Covisint," he said. "Our goal is to get to half a trillion dollars." Some estimates reckon Covisint’s potential volume of transactions is close to $750 billion.
Simultaneously with driving this massive volume of transactions through its exchange, Covisint has three major goals. First, it hopes to promote collaborative product development by harnessing the Internet’s communications prowess. Second, Covisint wants to streamline procurement for the auto companies by setting up market mechanisms such as auctions. More efficient procurement would lower transaction and other costs – some reckon that it could slash as much as $3,500 off the cost of a car. Third, Covisint wants to streamline the operations of the auto industry’s supply chains. As networks of buyers and suppliers interact in virtual space, the exchange’s founders hope that that the auto industry’s work processes will become more efficient and customer-friendly.
It is an ambitious vision; the question, however, is whether Covisint and English will be able to realize it. Their ability to do so, according to faculty members at Wharton and the Goizueta Business School of Emory University, will depend on their ability to deal with some key challenges.
One major challenge, according to John Paul MacDuffie, who teaches management at Wharton, is that as far as B2B exchanges go, Covisint is "still not the only game in town." Though independent dot-coms that attempted to set up B2B exchanges have all but disappeared, companies such as Honda, Volkswagen and BMW have not joined Covisint – at least not yet – and could potentially set up rival exchanges. Large auto components suppliers too have tried to set up their own exchanges. If competition emerges in the shape of rival exchanges, that could threaten Covisint’s prospects. MacDuffie believes, however, that the issues involved in developing a B2B exchange are so complex that even a competing exchange will take a long time to emerge.
A more critical issue is that in order to survive, a B2B exchange must work – and must be seen to be working – fairly for all its participants. Since Covisint is clearly dominated by Detroit’s auto giants, it will have to convince other members that it is not simply an oligopsony (a market dominated by a few buyers) bent upon bleeding suppliers. Says Goizueta’s Benn Konsynski: "We always have a problem when the facilitator of the market is also a participant in that market. We have seen this for decades in industries such as airlines and hospital supplies. It is difficult to build and sustain a balance of contribution and benefits."
Wharton’s Ravi Aron points out that in order to avoid this trap, Covisint will have to carefully sort through issues of control and ownership. "Who owns the exchange? Who sets the controlling policies? To what extent do buyers control the exchange? These are critical questions," he says. "If an exchange has large numbers of sellers and a few buyers, it means that buyers can exert disproportionate clout. The trouble is that most laws don’t deal effectively with such situations."
Fears that exchanges in which rivals come together might encourage collusion or price fixing have prompted anti-trust regulators to closely examine B2B exchanges – including Covisint. Last fall the Federal Trade Commission gave approval to Covisint’s plans. MacDuffie points out that if Covisint were to prevent participants from joining the exchange, this exclusion might spark charges of anti-competitive behavior, but Covisint has always made it clear that that others are welcome to join. Similarly, he adds, price fixing is difficult without product standardization – and the latter is tough in an industry that abounds in varied brands and models of vehicles. "If GM is buying a seat for a Chevy, Ford cannot buy the same seat for one of its models," MacDuffie says. "These are different products."
Aron argues that a buyer-dominated B2B exchange need not overtly fix prices in order to engineer the results it wants. "It is difficult to argue that you are engaged in price fixing when you intelligently choose a market mechanism. If you choose a reverse auction, declare upfront the quantity of a component that you want to procure and make suppliers compete in a downward price spiral, you can argue that you haven’t fixed any price. What has taken place is dynamic price discovery, not price fixing. That is why the choice of a market mechanism is so crucial." The result of such a reverse auction, however, would be to squeeze prices down for the buyer at the expense of suppliers who bid against one another to get business.
Is that scenario likely at Covisint? According to Konsynski, assuring that it is not will be one of English’s prime challenges in the months ahead. "He must make sure that the contributions of the members are aligned with the benefits and that the expectations are clearly articulated. Why these things start is different from why they stay, and a new phase of Covisint’s future is just beginning. The challenge will be to anticipate the needs of the community and to reduce the overall bias, which some believe to be buyer-side bias."
MacDuffie offers a different perspective. He points out that auction-type procurement capabilities are just a small part of what Covisint offers the auto industry. Precisely because many auto components are hard to standardize, "not much of the procurement process in the auto industry is amenable to the auction process," he explains. In recent years the auto industry has seen the emergence of large suppliers that produce increasingly complex and non-standardized modular components for the big auto makers. Such products are not commodities – and as a result, they are not easy to sell in auctions or reverse auctions. "Suppliers initially were opposed to Covisint – and they tried to form their own exchange – but then they realized that their products would not be squeezed," MacDuffie points out.
If a price squeeze does occur as a result of reverse auctions or other market mechanisms, the products that will be most vulnerable to them will be standardized items where profit margins are already slender. MacDuffie believes that this, too, is unlikely because Covisint recognizes the danger of pursuing such a strategy. "Squeezing the weakest links of the supply chain is counter-productive," he says. "It weakens your supplier base."
Aron agrees that it will be mainly commodity-type products that will be affected by auction-based market mechanisms. "In direct engineered products, where the level of customization is high, sellers and buyers will both benefit," he says. "If suppliers can find effective ways of customizing their products, the degree of competition among suppliers will decline and the relative gains to buyers also will decline."
Konsynski recommends that Covisint should make "a frequent review of the scope and objectives of the forum versus the changing expectations of the marketplace participants. Otherwise the benefits will be reduced if they only lead to commoditization of the sellers and the limitation of the processes that reduce market innovation."
English and his associates will have to grapple with these issues and more as they attempt to build Covisint’s base and move towards realizing the exchange’s full potential in areas such as collaborative production and design. These are formidable challenges, but then creating a B2B exchange that is powerful enough to overhaul a giant, global industry’s supply chains is hardly an easy task. Still, those who don’t have the stomach for it can always go back to banking.