The following is from Stifel Nicolaus analyst Scott Devitt's recent note to clients summarizing his take on where the future of e-commerce lies.
Over the past several days, we attended the Internet Retailer Conference in Chicago (3,000 attendees) and eBay (NASDAQ:EBAY) Live in Las Vegas (15,000 attendees). We came away with renewed enthusiasm for the sector although, in this note, we begin discussing a changing view of the online landscape.
Below is a summary of our findings followed by more in-depth analysis:
* The Internet Retailer Conference in Chicago presented a case for multi-channel retailing, focusing on the customer experience, and managing online operations as a material driver of business for an entire retail brand rather than "just another store."
* We found the eBay Live event to be informative yet complicated. We were focused on new areas such as Shopping.com, ProStores, different search types (algorithmic, affiliates, and paid), Skype, blogs, and Wikis. As merchants ourselves, we found many of the new initiatives confusing in relation to the "old" eBay. In short, eBay is attempting to "unbundle" its merchant base while still maintaining its relevancy, a goal we believe eBay can achieve although it will continue to face fits-and-starts.
* The event was eBay's largest ever and in our conversations with merchants, eBay continues to be a highly-relevant marketplace. We have our own list of ideas related to shipping, loyalty, and fixed price listings, all areas of discussion throughout the event.
* From an investment standpoint, we found the events to be positive for both Google (NASDAQ:GOOG) and GSI Commerce (NASDAQ:GSIC), neutral for Amazon (NASDAQ:AMZN) and Yahoo! (NASDAQ:YHOO) , and neutral/negative for eBay.
The two events we attended provide U.S.-centric data points for many of the companies that we follow. At Internet Retailer, we found that the focus on the Internet by retail merchants seems to be increasing with an overriding theme being the integration of online distribution with other sources of distribution (catalog and storefront). At the eBay conference, we noted a continued enthusiasm by the eBay Nation to find ways to more profitably sell merchandise on eBay, but we could not help but also notice that being an eBay merchant has become a much more complicated endeavor over the past two years.
Online retailing in the U.S. has grown at a fairly consistent 25% annual rate over the past three years -- a level that we believe will moderate toward 20% over the next three years. The opportunities for pure-play general merchandise companies remain very limited as we believe Amazon could remain the only company to attain public market funded scale for some time. Increased competition amongst pure-plays, traditional retail initiatives, and rising advertising costs have restricted the opportunity for another Amazon to ever be created. We believe opportunities for online retailers focused on specific verticals and that "solve a problem" such as Blue Nile remain quite compelling and we believe the competitive position of GSI Commerce continues to improve in this changing environment.
To us, eBay's strategy shift remains a work in progress, although the company has become very active in its attempt to position the company for the where the industry is headed. We continue to focus on eBay's brand and critical mass of users as assets that will allow eBay to manage through the transition of its marketplace. Historically, running a business on eBay was more about accessing inventory at compelling prices, selling it as quickly as possible, and then fulfilling an order as efficiently as possible. We find voice communication on eBay, Wiki's, Blogs, and search programs to be necessary for eBay to provide, but we think if a merchant is going to put in the extra effort to create rich content to be better indexed by search engines that the merchant may as well test alternative channels as well.
The Internet Retailer Conference in Chicago presented a case for multi-channel retailing, focusing on the customer experience, and managing online operations as a material driver of business for an entire retail brand rather than "just another store."
While many in the exhibit hall were pure-play internet service providers, the majority of presentations were from the traditional retail category. We expect the interest level from all types of retailers to increase over time although we expect the number of companies offering services to contract (possibly materially) over the next several years. From a public company standpoint, we find GSI Commerce to be the greatest beneficiary of contraction in the service provider area of ecommerce. While nobody at the event competes with GSI's fully outsourced offering, many offer components of the GSI solution.
We found the eBay Live event to be informative yet complicated. We were focused on new areas such as Shopping.com, ProStores, search (algorithmic, affiliates, and paid), Skype, Blogs, and Wiki's. As merchants ourselves, we found many of the new initiatives confusing in relation to "old" eBay. In short, eBay is attempting to "unbundled" its merchant base while still maintaining its relevancy, a goal we believe eBay can achieve although it will continue to face fits-and-starts.
At the keynote speech Meg Whitman and Bill Cobb spoke on topics such as the launch of Skype on the eBay platform and the launch of wiki's and blogs. In our discussions with merchants in the U.S., we have found only limited interest in using Skype as an integrated component of one's business. We continue to believe that Skype's opportunity is much more related to the independent VoIP area, in helping gain traction in Asia, as a way to penetrate mobile communication, and in the integration of Skype and PayPal as it relates to taking PayPal off the internet via mobile devices. As for wiki's and blogs, we continue to believe that the typical eBay merchant does not fully comprehend the value of creating relevant content for indexing in search engines and those that do are sophisticated enough to build tools for distribution off of the eBay platform. eBay has always been about providing all the services for a merchant so the merchant could focus on her business and the keynote and the launch of the new product offerings are indications of change, in our view.
During breakout sessions, we chose to attend meetings related to distribution/search (natural/algorithmic and paid), Shopping.com, and ProStores. The most interesting component of the natural search session to us was that, despite a recent deal cut with Yahoo! to better index eBay content in the eBay search engine, the entire session (and slide deck) was focused on optimization for the Google search engine. In the paid search session, the team presented with a more neutral approach to distribution. To us, the presentations point to the fact, in our view, that the Yahoo! deal does little to alter the market share landscape of search and distribution. Also, in our discussions with merchants we found a lack of detailed understanding by merchants of how to utilize natural and paid search to better distribute inventory on the internet on or off eBay.
The event was eBay's largest ever and in our conversations with merchants eBay continues to be a highly-relevant marketplace. We have our own list of ideas related to shipping / non-paying bidders, loyalty, and fixed price listings, all areas of discussion throughout the event.
Given our views on the unbundling of merchants and the associated confusion, we continue to believe the franchise will make it through this transition in the business. We also note that most of our observations are much more relevant to the U.S business than they are to international operations at this point in time. We met several merchants experiencing rapid growth on eBay and not even contemplating alternatives. We also met merchants who are successfully selling on their own sites and / or utilizing sites like Amazon for distribution. We have found that Amazon's service for small merchants can be very successful in the areas in which data can be easily structured such as the books, music, DVD, and video game categories.
We are believers in the value of the eBay marketplace for buyers and sellers and we came away with a belief that the value of the marketplace remains intact. We came up with our own list of ideas to better the eBay marketplace, including shipping / non-paying bidders, loyalty, and fixed price listings.
Shipping / Non-Paying Bidders. Historically, eBay has never charged fees on shipping costs, only on the cost of the product. The lack of monetization of the shipping component of the purchase price has created a loophole on eBay that allows sellers to list items at very low prices and incorporate excess shipping fees. The loophole is a distinct negative for the buyer experience and it has also made otherwise consumer-friendly merchants match the most abusive merchants in order to remain relevant on the site. At the keynote, Bill Cobb noted that eBay would begin to more aggressively enforce its excessive shipping policy and shut down listings of those in violation. Given that eBay's shipping policy is very vague, we believe that the strategy may not work or that it may never be implemented well enough to control the problem. To solve the problem, our position would be to adjust the pricing on eBay to include fees for shipping. We believe eBay has the data to understand the percentage of the value of transactions that is in the product price and the shipping fee and we think a lowering of overall fees with the inclusion of shipping fees would go a long way to fixing the shipping loophole issue. In Amazon's third-party business, which again only works well for structured inventory, the shipping fees are set by Amazon and an agreed upon fee is then distributed to the merchant. Amazon's methodology creates a much better experience and while eBay cannot match it, they could do more than what was presented in the keynote address, in our opinion.
Loyalty. eBay has a significant opportunity with its PayPal platform over time in the areas of not only off-eBay payment processing but also in off-internet payment processing, and most importantly creating a loyalty component to eBay that currently is nonexistent. eBay just launched a credit card backed by GE Capital and which will provide $1 of loyalty points for every $1 spent on the card. Once a consumer spends $2,500, she will receive a $25 voucher to spend on eBay. We would recommend initially taking the offering one important step further – if a consumer signs up for the card, she should not just be given $1 for using the card but her PayPal account should also be flagged so that anything the individual buys with PayPal that is funded with a bank account or PayPal balance should receive $3 of loyalty points. The program should only be for holders of the new card and it should be promoted heavily by eBay. We believe this would give an incentive for consumers to sign up for the card, to use PayPal as often as possible, and to fund payment with the highest profit margins to PayPal, balance and ACH transfer. We further believe that eBay, through its new toolbar relationship with Yahoo!, could find a way to give incentives to users for searching within eBay/Yahoo! much the way that Amazon offers a Pi/2 discount to its A9 users. In the areas of loyalty, little things add up over time and we believe eBay could create many initiatives around loyalty that would have the capacity to improve its position in the changing marketplace in which eBay has become less of a destination site over time.
Fixed price listings. At this point, even casual observers of eBay could explain eBay's "SIF in core" problem experienced in 1Q'06. Of course, the SIF in core issue was related to eBay's attempt to improve the display of fixed priced listings within the core site. eBay has since rolled back the changes and pointed to the change as a limiting factor on the business in 1Q. We believe the way for eBay to fix its mix shift issues would be to re-stabilize the marketplace with a pricing adjustment. Currently the cost of a fixed price listing on eBay is about 94% of the cost of an auction or 85% including conversion rates. We believe that eBay could benefit materially from a fixed price fee increase to improve the economics of fixed price and possibly stabilize the recent shift toward fixed price.
From an investment standpoint, we found the events to be positive for both Google and GSI Commerce, neutral for Amazon and Yahoo!, and neutral/negative for eBay.
Given some time to digest our observations over the past week, we would recommend that investors own Google, Yahoo, and eBay, in that order, in the large cap area and GSI Commerce in the small cap area.
We believe that Google has many positive fundamental drivers that will generate upside to its quarter including continued improving international monetization, continued share gains, more sponsored search on Google.com in various commercial queries, and a move to make the adsense network ads more transparent to the user. We also believe the longer-term takeaways from the two conferences that we attended are that Google's relevance in the marketplace is increasing with time rather than a prior belief by us that fragmentation could occur.
We believe Yahoo! shares are undervalued but we believe the returns in Yahoo! will be back-end loaded as the new search platform launches and benefits become visible in 1H07.
We continue to believe eBay has significant opportunity in front of it but believe the near term will continue to be choppy and we think it will be the laggard of our three large-cap Buy-rated stocks from current levels in 2006.
As for GSI Commerce, it now trades at 9.5x forward EBITDA and 25x cash earnings and we increasingly believe its competitive position is improving with time.
We appreciate Amazon's competitive position as the only pure-play retail business in the world but would be interested in shares only below $30, all else being equal.
E-Commerce 1-yr comparison chart: