What's Wrong With eBay? It's Simple Economics

What's wrong with eBay?  Before I answer this question, you should download this Wharton case study by Dr. Eric Clemons of The Wharton School, University of Pennsylvania.  Dr. Clemons is one of the world's most renowned experts on information economics, and this case study is currently being taught at Wharton this semester.  It goes into great detail discussing eBay's current challenges, and I believe you will find it insightful.

Okay back to the question...  What's wrong with eBay?

Suddenly, there is so much discussion about what is going on with eBay.  Buyers seem to be shopping elsewhere.  Sellers are complaining about deteriorating economics and looking for new, more profitable sales channels or going out of business altogether.  Third-party service providers are reading these tea leaves and choosing to relieve their dependence on eBay's success and more importantly, the risks of falling victim to eBay's policy team.  The media is reporting continued fraud and emerging customer service problems.  Designer brands and manufacturers are suing eBay over massive counterfeit sales and intellectual property abuse.  Key managers are leaving for greener pastures.  New competitors are emerging in a big way.  Analysts are waking up and asking real questions.  Investors don't seem to be buying, and in many cases, they have been selling.  A lot of my eBay customers have been calling me lately asking for an opinion for what is going on.

First of all, let's review a few facts.  These are not my opinions, but rather, real data points.

• eBay is growing slower than the rest of eCommerce
  • Read Scot Wingo's insightful analysis
• 41% of eBay's users apparently quit in 2006
  • 56 million active users in 2005 grew to 78 million active users in 2006, but during that time, eBay added 45 million new registered users
• 100 of eBay's top 1,000 U.S. eBay sellers by feedback rating have either quit eBay or gone out of business
  • Based on my detailed analysis of The Sellathon 10,000 data for August 2006
• 59% of eBay's sellers apparently plan to stop selling on the eBay platform in the next six months
  • Here is the AuctionBytes survey of 1,225 eCommerce merchants
• A number of high profile, large sellers have gone out of business on eBay in 2006 
  
  • BusinessWeek's Robert Hof writes about eBay's former #2 rated seller, GlacierBayDVD, going out of business
  • AuctionBytes reports Sell2All's financial default
• eBay prices are a fraction of what sellers can get on other channels
  • Jonathan Garriss at GothamCityOnline, one of eBay's largest shoe sellers, says prices are 20-50% lower on eBay than on his other sales channels, and we have many, many merchant customers that will confirm this amazing statistic
• The fraud problem continues to grow
  • No official eBay figures here because eBay quit sharing the data with FTC and Fraud.org, but anyone working in the space will have a strong opinion on this
• Tiffany & Co (TIF), Louis Vitton (LVMH), and Christian Dior (DIOR) have all filed lawsuits against eBay suggesting that 90+% of the goods sold on eBay claiming to be produced by these brands are in fact counterfeit
  • Louis Vitton and Christian Dior lawsuit discussed on a popular ecommerce merchant forum
  • Tiffany lawsuit discussed on Fraud, Phishing and Financial Misdeeds
• eBay's stock is down almost 48% from its high as of today (9/27/06)
  
  • You can research eBay's stock at Google Finance

So, what is wrong with eBay?

Ugly seller economics?
Yep.  That is for sure, but that isn't the core problem.  That is the net effect of the core problem.

Rampant fraud?
Some folks think that if Rob Chestnut and the eBay Trust & Safety department could simply catch all the bad guys, then everything on eBay would be fine.  I believe that is a little naive.  Mr. Chestnut is never going to catch all the bad guys or even a fraction of them, but I am sure he and his team are working hard and having lots of successes.  The problem with this line of thinking is that it is a losing proposition. It reminds of that game we have all played at the county fair, "Whac-A-Mole". You will never hit all the moles, and when you get too focused on one mole, you miss all the others.  Chasing bad guys has its place, but you need a more fundamental solution.  I also believe fraud will always exist, and so you need to concentrate on a more scalable, effective mechanism.  More on that later.

Not enough buyer demand?
Many eBay experts and Wall Street analysts are crowing about a lack of buyer demand, and they will cite some of the statistics mentioned above and the story can be quite convincing.  Well anytime you have too much risk and uncertainty in a marketplace, you will have less buyers.  The risk averse buyers will seek safer harbors.  I guess that should be pretty obvious, but I can tell you that many eCommerce "experts" don't fully grasp this basic economic concept (I can talk more about this another day).  Too little buyer demand is certainly a problem, but again, it is the result of a more fundamental problem.

Many believe that the marketing department simply needs to do a better job of telling consumers about eBay.  Marketing is obviously not the problem.  Every human on the planet with a computer or TV knows what eBay is as well as its value proposition.

Too much seller supply?
eBay's Bill Cobb recently announced fee increases to "reset the balance of the eBay marketplace". A balanced supply and demand is critical to a healthy marketplace, so I don't fault the line of thinking.  Also, auctions are more profitable to eBay, so okay, I guess that is fine.  My worry is that eBay management believes that raising fees is a way of pushing low quality product off the platform when in reality, I think it does just the opposite.  If you don't understand the core problem I am about to diagnose for you, then it is easy to think this might be a good strategy.  It is a common perception in the eCommerce world that market failures are largely due to bad inventory and that if you charge no or low fees, you invite bad inventory.  That is only true when buyers can't tell which inventory items are the poor quality items and which items are the pristine items.

That brings me to eBay's core problem.

eBay's core problem is simple economics!
More specifically, eBay's core problem is the existence of information asymmetry and the lack of an effective seller certification and performance guarantee mechanism.  Information asymmetry exists when one party has more or better information about the product than the other party.  In eCommerce and on eBay, the seller clearly has an information advantage over the buyer, and this is information asymmetry.

In 2000 and 2001 while working on the business plan for buySAFE, I talked to thousands of people about what I viewed as an inevitable problem for eBay and eCommerce, information asymmetry and the lack of an effective signaling mechanism.  My belief then was the same as it is now, stringent, meaningful seller certification and strong, comprehensive performance guarantees will enable eBay and eCommerce to be successful channels for small and medium-sized merchants.  Without it, small and medium-sized businesses won't be able to optimize profits, and eCommerce marketplaces will become Markets for Lemons (You should read my blog post on "What's a Market for Lemons?" in order to see an illustration that defines what I am talking about here.)

While working on the business plans, every professor, classmate, venture capitalist, eBay manager, expert and entrepreneur rolled their eyes at me, and then they lectured me on how eBay and PayPal had clearly solved the problem with feedback ratings and back-end buyer protection plans.  That was six years ago, and given the facts I have just described above combined with buySAFE's incredible growth over the last two years in eCommerce, I would suggest that the information asymmetry problem was and is real, and somebody on eBay's management team needs to recognize this sooner versus later. 

Have you ever seen the famous New Yorker cartoon by Peter Steiner from 1993 where the two dogs are sitting at a computer?  One of the canines says to the other with a nice smile, "On the Internet, nobody knows you're a dog". Yep.  That is so true, and on the Internet, buyers have difficulty telling who is a professional, legitimate merchant as well.  The key to dealing with information asymmetry? Signaling. 

If effective signaling mechanisms are the key to solving eBay's information asymmetry problem, then what is the most effective signaling mechanism?  Again, absent an established, recognizable merchant brand, I believe stringent, meaningful seller certification and strong, comprehensive performance guarantees provide the strongest possible signal of professionalism, trustworthiness, and reliability.  Obviously, that is what buySAFE does when it bonds sellers and transactions, but I will address this in more detail in a future post.   I should also note that the Professional eBay Sellers Alliance (PESA), eBay's largest, independent seller organization, has been a strong proponent for stringent, meaningful seller certifications as well.

When information asymmetry isn't addressed, what happens in the long-run?  As I mentioned above, economists believe that markets can eventually become "Market for Lemons".  Again, you should check out the following post for details on "What is a Market for Lemons?".

Ecosystems are fragile.  They can completely unwind when they fall out of balance.  Any biologist will tell you that this is true.  eBay's marketplace is an ecosystem, and we need to recognize that the core challenge to this ecosystem and the eCommerce ecosystem in general, is information asymmetry.

I hope this is a helpful commentary.  I want to end by saying that I am eBay's biggest fan, and I hope it can sustain its amazing run.  We will all be better off if eBay can succeed.

There are lots of information sources for what is cooking at eBay and in eCommerce, but if you want unique insights into what is really driving behavior and marketplace activity, I highly recommend the following three blogs:
buySAFE blog by Jeff Grass
eBay Strategies blog by Scot Wingo
AuctionBytes blog by Ina Steiner

One new source of information is from Randy Smythe from GlacierBayDVD. Randy is one of the nicest, smartest guys I know (and a pretty good golfer too), and when his eBay business went under, I was very upset about it.  Randy is roaring back and sharing his terrific insights with us in his new blog, and I highly recommend it.

I welcome your thoughts and insights as well, so please feel free to weigh in with your comments.

Comments

[ed dickson]

Another good argument for bonding - with the current business model - there are too many moles to whac!

Read the interview with Rob Chestnut. He focuses on phishing and eBay/PayPal are known as the two most "phished" brands.

Anyone following the phishing expeditions sees a monthly increase in the amount of it going on. At least if you are to believe the Anti-Phishing-Working-Group.

Every month, there are more moles to whac.

Not exactly sure what the solution is - but the problem isn't going away and appears to be growing.

There has also been negative feedback that eBay is slow to provide the necessary info to law enforcement to go after the crooks and is leery of cooperating with other security departments when their goods are discovered on the site.

Might not be their fault - there are probably too many moles to whac.

In the end - it is the consumer that suffers - then the business itself (due to a lack of confidence).

Another good argument for bonding - which might bring back the confidence of the customer.

Bonding makes fraud harder to commit, instills confidence in the consumer and gives the security department the ability to focus their efforts (fewer moles to whack).

To solve a problem - you have to get ahead of it and change the reasons it is occuring.

[Peter Leeflang / CEO of Leeflang Archives Corporation]

Steve's analysis is wrong. Information asymmetry is a normal usually beneficial market phenomenon, which does not explain Ebay's self-inflicted problems. Saying that 'the seller clearly has an information advantage over the buyer' is giving Ebay an excuse not to be held accountable, while it really is. If Woda's statement were true that seller's had an information advantage on Ebay, in real economics it would mean that the Ebay sellers would fetch HIGHER prices than elsewhere, while he correctly states that Ebay sellers fetch 20-50% lower prices. One contradicts the other.

What is really happening (and I suggest you focus your research on that as is badly needed) is that we have a corporation (Ebay) which does not understand the core reason of its initial success and is actually working against itself, so against that core advantage, instead of enhancing it and using it as leverage against competitors. In otherwor ds: Ebay is its worst enemy now.

What is that unique core advantage Ebay's working against, its initial most critical success factor?

It is its unique 'laissez-faire capitalist' character, like no one ever created before. Ebay was the free market liberating minds and money, the place where finally sellers and buyers could meet and trade without virtually any limits. There were no governments suppressing its trade with their suffocating regulations, fines and property seizures. Fearless sellers and buyers entered a world where anything was possible and prices were created without any third party beyond Ebay trying to get an undeserving (non-value adding) piece of the trade.

Thanks to Ebay caving in to foreign and local governments, politicians, buyer and seller pressure groups, etc. their free world has become a world of chains, a dictatorship with mob rule, with especially the sellers being chained in so many ways and increasingly every day, that it is almost better to trade in a dictatorship like China. Sellers have been so restricted that they are almost employees of Ebay, not free traders anymore.

If Ebay wants to get back on track it will have to acknowledge the reason of its initial success and openly commit to it, to its 'laissez-faire world' for 100%. Then it will have to select and train the staff to do the job to make it happen once more, and bigger and better.

[Frank Ross]

Your point about 'eBay prices are a fraction of what sellers can get on other channels' is right on target. When I talk to new potential wholesale suppliers, I find that many of them have very restrictive policies against selling on eBay. Sometimes their policies name eBay by name, other times they just refer to 'online auction sites'. In most cases, they're perfectly OK with selling their product on other online channels like your own website or even Amazon. Wholesale suppliers are well aware of this 'bargain basement phenomenon' and don't embrace it.

[Pat Mason]

I think there's another phenomenon here which is something I've observed at flea markets. It starts out with a bunch of individuals selling their extra stuff. It's like a giant garage sale, but better because you don't have to drive around looking for signs.

Then you notice that some seller's faces are looking pretty familiar - they're there week after week. Pretty soon these sellers have a permanent location on the grounds. More of these type of sellers begin populating the grounds until now you have mostly permanent sellers and lots of new imported junk for sale. They pretty much crowd out the non-professional individuals.

It's no fun to go and buy anymore, so you stop attending and begin driving around looking for signs again.

[Jeff]

Steve,

Interesting article. However, it is my belief that (in general) ebay suffers from a management vacuum or even several of them into which falls the nearest empty space.

More specifically, I believe ebay is constantly on the short side in their real competition for my (the seller's) precious time.

Firstly, the ebay process is painfully inefficient. However, that could be palatable if management included in their focus the great need not to waste my (the sellers) precious time.

Secondly, this principle is grossly violated every time the company makes another dive to the left or dive to the right. Ebay operates like a tacking sailboat whose skipper operates without a compass, sextant or chart. Instead, the captain and crew "react" to wind and waves and can usually be found well off course (but going fast). Thinking sellers can and should figure out how to leverage the ebay platform to maximize their opportunity. This can be done with high integrity and excellent/fast service. I have found that to be especially true with my (independent) website and I seldom need to go back and do things over.

AND THAT'S THE KEY: On my website I can keep "building", "growing" and "moving forward" not always looking over my shoulder to find Meg pulling another boneheaded idea out of the "vacuum" between someone's ears.

THUS I CHOOSE TO MOVE FORWARD
I can no longer justify the precious time required to redo my ebay strategies every time the ebay "team" comes up with another bad idea and executes it as only they can.

MY REALITY
My online business began on ebay at 100% of sales. Today it's at 85-95% of sales at a significantly operating margin, gross profit, net profit AND, most importantly in the efficient use of my time.

If the people who run ebay fully understood what they had and have increasingly squandered, they could have called the shots a lot differently. Instead they created the vacuum which now bears other brand names they can only ban.

What a shame.

JDL

BTW, I still sell on ebay and I'm much too smart to "dive" to the left with all the others. I simply raised all my prices and shipping rates and hit the yes button to accept "best offers" to help guide the buyers to free shipping on my website. That one was easy.

[ebay gal]

It's funny that you praise Randy of glacierbaydvd. You do realize that with a feedback % of 98.8 and over three thousand negatives, Randy was part of the "information asymmetry" problem, right?

It's strange to reference him in this post. I wouldn't have purchased from glacierbaydvd if they were the only DVD seller on eBay and I needed DVDs to stay alive.

[Steve Woda]

Thanks for your comment eBay Gal. Your perspective is interesting, but I believe you may be reading a bit too much into my references to GlacierBayDVD.

My blog post references GlacierBayDVD twice. The first time, I point out that GlacierBayDVD, once one of the largest sellers on eBay, went out of business in 2006. That is not exactly a glowing endorsement of GlacierBayDVD.

My second reference to GlacierBayDVD points out that Randy is a nice guy, a good golfer, and most relevant to my point, that you should read his blog in order to get a very different, yet interesting perspective on the eBay world. I have personally found his blog posts to be fascinating, and I recommend that folks give it a quick read as well.

As Otto von Bismarck once remarked... "A fool learns from his experience. A wise person learns from the experience of others."

I believe that if you are an eCommerce merchant, it would be a big mistake not to learn everything you can about the mistakes that others have made in your business... especially the fatal mistakes. If you don't learn from their mistakes, you might just repeat them.

Thanks for your comment, and good luck with your business!

Steve

[Honor]

This certainly makes a good point. I'd like to see the response of others on this topic. Makes interesting reading.

ebooks with resale rights

[Jesse]

As a 9 year veteran of Ebay, I appreciate the tainted "ecosystem" analogy. It is cluttered, suspicious, uncomfortable and clumsy on Ebay. The "congratulations" item submitted page pictures of silly girls waving money around and the Paypal login page idiot on a bare green carpet indicate the lack of experience and sophistication at the world largest online store. Foreign buyers with multiple IDs filing repeated non-rect claims, buyers switching parts, lack of customer support... This web site is a new fresh breeze. My sales $ are down 50% in 2 months. Tresurector

[Peltz]

Brilliant analysis Steve! This is an absolutely perfect assessment of what is going on with my business on eBay. You are so right, and I wish the folks at eBay would wake up to the new realities of their current situation.

Peltz