The Internet Paradox

Opportunities for airports in the wild wired world

The Internet

The Internet and e-commerce present unique opportunities for both producers and consumers of goods and services because of the way in which information is managed. This information relates to the products and services companies sell and the needs/wants of customers. It does this by giving producers information about who is buying what and providing consumers with detailed information about planned purchases, including the best price available. In this way, the Internet overcomes significant information asymmetries for both groups.

What remains fundamentally unchanged in the new business model, however, is the requirement that goods and services be transferred from the person that makes something to the person who buys that something. This essay explores some of the possibilities that the Internet offers to supply chain management, specifically in terms of airports.

The Paradox

More than anything else, the Internet revolution is about gathering, assembling and processing vast amounts of information. By using technology to quickly transmit data to anyone, anywhere at anytime, the Internet creates value for its users. Particularly interesting in the wired world are the new business models being created. Just about everyone recognizes the Internet's potential to redefine the economic landscape, but no one knows for certain what the new topography will look like. Much like the old Zen koan about imagining the sound of a single hand clapping, the notion of electronically enabled commerce — or e-commerce — is largely a paradox. The paradox is that the Internet's underlying value proposition is based on nothing of true substance, inasmuch as information is, after all, intangible. It is for this reason that most of the literature has focused on the debate about clicks and mortar (intangible) vs. bricks and mortar (tangible) businesses.

In the case of a Zen koan, thinking about the nature of the paradox can lead to important insights; so, too, with the Internet. Jay Walker, founder of Priceline.com has said that there are essentially four types of business models that can be created using the Internet. The key value drivers in these models are content, entertainment, price and convenience. Content-based models are unlikely to succeed in the long-term because of the wide availability of free content (why pay for something if you don't have to). Entertainment-based models will not work because of the prohibitive cost of creating online entertainment (also, why watch something on your computer when you can be more comfortable sitting in front of a TV). Price- and convenience-based business models do, however, hold the promise of commercial viability. This is because they offer consumers new and/or improved value propositions. (1) These value propositions are realized in terms of time savings (convenience) and enhanced resource allocation opportunities (price).

The Internet is having a major impact on three broad business trends:

  • Dis-intermediation/Re-intermediation
  • Product Commoditization/Information Branding
  • Dis-integration/Re-Integration

These trends are a manifestation — and further elaboration — of the fundamental value paradox represented by e-commerce business models.

The Intermediation Paradox — "Imagine a chain with no links"

In traditional business models, goods and services are produced by manufacturers who then trade part of the value of their production in exchange for the risk of holding inventories for resale. This is the primary reason why wholesalers and retailers exist in the supply chain; they assume the risk of warehousing, insuring and transporting stock from the manufacturer to the final consumer. This risk is information-based, inasmuch as the quantities and types of goods desired by consumers is only imprecisely known. Traditional middlemen manage their risk exposure through proprietary information systems, such as sales contacts, distributors, agents and brokers. But, with enabling technologies such as standardized communications protocols, the value added by middlemen is replaced and the physical supply chain becomes dis-intermediated. (2)

Some suggest that the Internet will lead to a new role for intermediaries, who will provide value-added services by repositioning themselves in the supply chain. For example, they would do this by providing knowledge about what sites have the best information, in terms of quantity and quality, about products and services. While this argument is valid, it is still true that traditional middlemen providing information about physical goods will gradually disappear in the virtual world.

The Commodity Paradox — "Imagine commodities that are different"

Knowing more about buyer choices and preferences allows producers to rationalize production. The global reach of e-commerce has created a situation where many goods and services have become (or, may soon become) commodities (i.e., they are easily and readily available to everyone, and their only distinguishing feature is price). Under these circumstances, it becomes important for suppliers to reduce costs, which typically results in industry consolidation, as economies of scale are sought. This, of course, has been the great fear of participants in B2B exchanges, where reverse auction selling makes markets highly efficient, whittling away at producer profits.

The counter-argument to this trend is that branding strategies can effectively distinguish Internet businesses and thereby create consumer value. Branding creates the illusion that a company's products and services are different from those of its competitors, and consequently consumers will pay more for them. This is, however, a misleading argument. Internet branding strategies relate not to physical goods or services, but rather to the role that information plays in the supply chain. Consequently, producers' physical output will still tend toward commoditization. (3)

The Dis-Integration Paradox — "Imagine growing while shrinking"

Companies integrate vertically for many reasons, such as realizing greater operating efficiencies, as well as the murky notion of achieving corporate synergies. But, another view holds that in order for businesses to be successful in an environment of globalization and rapid advances in information technology they should identify their core competencies and devolve non-core responsibilities to others. This has led to corporate outsourcing, strategic alliances and the dis-integration of conglomerates. (4)

In the wired world, where the physical supply chain is contracting (dis-intermediation) and industry sectors are consolidating to compete on the basis of price (commoditization), vertical integration is an inefficient and irrelevant strategy handed down from the old economy. The new economic model requires that a company focus on its core competencies and grow within a narrow industry sector in order to realize economies of scale. (5)

Airport Opportunities

By understanding the Internet paradox and its implications for the supply chain, airports can benefit by aligning their strategies to fit the new business environment created by the Internet. While air cargo still comprises only a small part of the total tonnage of physical goods moved, it is a quickly growing mode of transport. The distinguishing features of goods shipped via air are that,

  • They have a high value relative to their weight-bulk ratio — i.e., they are relatively small, lightweight, primarily high-tech products — with the exception of documents and perishables. (6)
  • They all have a time-value associated with them — e.g. aircraft parts that must arrive on time to prevent expensive schedule delays and medicines/human organs that prevent life-threatening illnesses.

The important features of the Internet (and e-commerce) are that it overcomes information asymmetries between producers and consumers and provides lower prices, greater selection and convenience.

It is expected that with the increasing commoditization of goods and services because of better information provided by e-commerce business models, supply chain contraction (dis-intermediation) and consolidation (economies of scale) will occur. As a result, major hub airports will likely become larger players in the global supply chain because of anticipated increases in the volume of air cargo. (7)

Air cargo tonnage is expected to increase because of lower input costs for — and product prices charged by — producers. This will result from cost savings realized by B2B e-commerce, including streamlined transaction processing and reverse-auction buying. These savings will justify time convenience prices charged to — and costs paid by — consumers for air cargo transport. (8) In other words, lower costs for producers will be reflected in lower prices to consumers, and this will encourage the use of air transport for order fulfilment. (As noted, the most viable e-commerce models are those that focus on price and convenience.) In effect, the B2B market will drive the success of e-commerce.

Increased air cargo activity will also allow more optimum capacity utilization by air carriers, which in turn will stimulate all-cargo airline growth and reduce transportation costs as air cargo service providers achieve economies of scale. As e-commerce grows and greater efficiencies are realized from investments in technological infrastructure, producer costs — and consumer prices — will decrease. These savings can then be transferred to other value-enhancing propositions for consumers, such as obtaining time and place convenience. It is at this juncture that airports, as logistics hubs, will assume significantly greater importance.

A logical consequence of this reasoning is that large dedicated-use warehouses, and possibly manufacturing facilities, will be built at airports for certain high-value/low-weight-bulk items. Examples of these types of goods include generic pharmaceuticals and microprocessors. As in most commodities-based industries where consolidation occurs, certain producers will relocate their storage and/or manufacturing facilities in close proximity to their logistics hub in order to gain greater supply chain efficiencies. In essence, the front end of the supply chain will shift to the airport.

The possibility of this happening follows logically from the fundamental insights gained by examining the paradox presented by the Internet. Value can be extracted from "nothing" by realizing that "nothing" has value. That "nothing", as this essay has argued, is the information component of the information technology revolution. When this information is used to make market exchanges more efficient by eliminating asymmetries, thus doing away with physical world middlemen and the chimera of differentiated commodities (branding), value is not so much created as it is reallocated among those in the supply chain. (9)

To compete effectively in this new landscape, producers must focus on their core business, improving the quality of their products and services while at the same time becoming more cost efficient. At the other end of the supply chain, consumers will have significantly improved information about product price and quality. The supply chain's new virtual intermediaries (B2B exchanges, shopbots and portals) will become cyberspace "brands" on the basis of their reputation for providing quality information for decision-makers in the supply chain. In this context, warehouse and transportation providers will become increasingly important, as value is reallocated from physical world intermediaries to: (a) consumers, (b) virtual infomediaries and (c) providers of logistical services.

The Wild Wired World . . .

The growth of e-commerce presents a unique opportunity for airports to become significant players in the management of the global supply chain. As a result of technology-produced efficiencies in the processes that move things from those who "make" to those who "take," the supply chain will:

  • Collapse, as intermediaries such as brokers, agents and other physical world middlemen are eliminated; (10)
  • Become more concentrated as a result of producers consolidating to gain economics of scale;
  • Dis-integrate, as companies focus on their core competencies. (11)

This will increase the "value proposition" for both producers and consumers. If airports can recognize these developments in their external environment and act strategically to gain first-mover advantages (12) they can reap the rewards. These rewards include new business development opportunities as well as increased revenues resulting from the movement of air cargo, including landing fees, land rents and concession agreements. (13)

The figure below summarizes the arguments presented in this article and provides a conceptual map for assessing the impact of the Internet on both commercial exchange and airport opportunities.

Capitalizing on the opportunities presented by the Internet and gaining value from nothing means extracting it from the information that moves freely through the fibre optic cable all around us. But, to ensure that airports obtain the value being redistributed in the supply chain, they must think differently about their role and how they generate revenues. This means redefining the fundamental nature of the airport as a business, becoming more focused on managing aeronautical properties rather than maintaining a public utility. In this context, airports can develop dedicated-use cargo facilities and specific types of manufacturing capabilities to take advantage of the insights gained from the Internet paradox. (14) This can be done either in partnership with experienced outside operators or through management agreements. (15) In this way the value of nothing becomes something as the Internet paradox leads to important insights about airport strategy and business development opportunities.

About the Author: Ron Messer has extensive experience in accounting, auditing, financial analysis and information systems. His essays have appeared in journals in Canada, the United States and the United Kingdom and he has recently published chapters on aviation finance in the Handbook of Airline Finance and aviation strategy in the Handbook of Airline Strategy. He has also written articles on airports and e-commerce, which have appeared in Airports International and Ground Handling International. He can be contacted at Ron_Messer@yvr.ca.

Endnotes

1 "Jay Walker: The Thought Leader Interview," Strategy and Business, Issue 19, Second Quarter 2000, pp. 87— 94.

2 See John Sviokla, "The Price is Wrong," Context Magazine, July/August 1999, www.contextmag.com and Laurie J. Flynn, "Let's Make A Deal", Context Magazine, Fall 1998, www.contextmag.com.

3 Compare "The Brand and the Bland," The Manager, August 2000, www.themanager.com.

4 Cisco and Dell are excellent examples of companies that have focused on their core competencies, using technology to generate value for consumers. They have done this by outsourcing all non-core functions, such as manufacturing and distribution.

5 Nobel prize-winning economist Ronald Coase's classic 1937 paper on The Theory of the Firm argues that companies organise vertically to minimise transaction costs. However, with advances in information technology, transaction costs have been dramatically reduced and vertical integration is no longer the least costly alternative — hence the emergence of strategic alliances and outsourcing.

6 The value attributed to an item is based on buyer behaviour in the destination market; for example, Japanese consumers will pay significantly more for salmon from British Columbia than will local purchasers.

7 See here Jacquelyn L. Jackson, "The Air Cargo Boom — Are We Ready," Airport Magazine, May/June 2000, www.airportnet.org.

8 Homegrocer.com, an online e-commerce grocery store's strategic plan calls for using the cost savings realised on lower land prices for its remote warehouses to offset delivery costs. (See Ric Mazereeuw, "One Foot in the Door.com," October 8, 1999, www.canbus.com.) For business-to-business e-commerce, the trend towards shorter product lifecycles and shorter development times will increase the value and use of air transport.

9 See here "Whither E-Commerce? John Hagel Shares Some Insights," Knowledge at Wharton, July 19, 2000, www.knowledge.wharton.upenn.edu.

10 Compare "To Be or Not to Be First," Context Magazine, Winter 1999, www.contectmag.com.

11 Compare, "The Dangerous Dictum of John Hagel," The Manager, August 2000, www.themanager.com.

12 First mover advantages in the e-commerce world include domination of an industry, according to Brian Arthur of the Sante Fe Institute, who argues convincingly that old economic models do not apply to the Internet. (See Joel Kurtzman, "An Interview with W. Brian Arthur," Strategy and Business, Issue 11, Second Quarter 1998, pp. 95— 103.)

13 See Barbara Cook, '"Air Cargo Goes high Tech," Airport Magazine, May/June 1999, www.airportnet.org.

14 Compare "Big Rigs' Lucky Break," The Economist, June 3, 2000, p. 66 for the trucking industry's response to e-commerce opportunities.

15 In this regard, consider the development of the massive Worldport complex outside Denver in the United States; an airport dedicated exclusively to air cargo. (See here "Ground Broken on Worldport Complex," World Airport Week, July 17, 2000, pp. 1— 2.)

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