At the beginning of last year, some of the fiercest competitors in many an industry put aside their differences, at least for a while, and established consortium-based vertical marketplaces (CBVMs)—novel institutions that were supposed to embody the future of business-to-business (B2B) commerce. Before they appeared on the scene, independent vertical e-marketplaces founded by venture capitalists and other industry outsiders had been attempting to create liquid electronic markets for goods used by specific industries. The founders of these independent marketplaces often had simple goals: to streamline the participants' purchasing and procurement processes by building a common information technology platform. Such marketplaces were usually thought to favor neither buyers nor suppliers; their goal was to become profitable entities in their own right.

A CBVM, by contrast, is a joint venture among industry incumbents, with the ultimate goal of improving their performance and that of the industry as a whole.1 Accordingly, an initial public offering isn't always a part of the plan. As the 53 members of the Worldwide Retail Exchange—including Edeka, Kmart, and Toys "R" Us—have affirmed, "All benefits generated by the exchange will flow to its participants." Press releases have trumpeted a vision of trillions of dollars pouring through CBVMs, and companies keep signing on to them: almost every big industry is home to at least one, and some industries accommodate several (Exhibit 1).

Compared with other kinds of B2B marketplace, CBVMs have been thought to enjoy an inherent advantage: a high degree of liquidity resulting from the founders' aggregate expenditures. That advantage has been slow to materialize, however. Besides experiencing the same problems that have afflicted other B2B marketplaces, CBVMs have suffered additional difficulties arising from their own business strategies and their founders' behavior. They will improve their fortunes only if they can exploit their unique advantages: chiefly, the size and sophistication of the businesses that founded them and the exceptional value of their deep industry knowledge, so long as it is shared in a way that promotes industry collaboration. To succeed, the CBVMs will have to turn their founders' nominal commitment into something more active and sustained.

The promise of liquidity

When the boom in CBVMs started, many people expected them to oust their independent counterparts and quickly win control of the field. What independent marketplace, after all, could compete against a CBVM boasting billions of dollars of aggregate spending by industry leaders? The fortunes of many non-CBVM vertical marketplaces did indeed go south—but typically as a result of poor execution or upheavals on NASDAQ (and the resulting capital squeeze), not the challenge of the CBVMs, which for the most part have received a relatively small share of their founders' volume. The few CBVMs that have met their liquidity targets can usually thank simple auctions. This failure to achieve liquidity has kept CBVMs from fully exploiting the troubles of their non-CBVM competitors. Indeed, the CBVMs share those troubles: cannibalistic pricing structures, unexpected competition, fear of sharing information on-line, and incompatible IT infrastructures.

This combination of high rates of enrollment and low rates of participation can perhaps be attributed to the low fees that founders pay to join—usually less than $10 million—and suggests that many of them signed up to avoid being left out or to gain the value of the option, not to strengthen their industries. No doubt it isn't fair to judge the success or failure of the CBVMs on the basis of early liquidity. But they do face other problems.

The first is a misplaced focus on the e-procurement of nonstrategic goods and services, including IT hardware and software; capital goods; maintenance, repair, and operations (MRO) materials; energy; and many services. Horizontal marketplaces, where the buying and selling of uniform products used by several industries afford scale sufficient to produce the best prices, are the appropriate place to obtain such items. A CBVM that targets them wastes its talent and resources on activities that don't exploit its uniquely comprehensive overview of the supply chain (Exhibit 2).

A second flaw in the business strategy of the CBVMs is the failure of some buyers-only consortia to develop robust and attractive value propositions for suppliers—after having told them to conduct all future sales through the marketplace. Some CBVMs even insist that suppliers pay transaction fees, though most of the value goes to buyers, and the suppliers' understandable resistance has cost these CBVMs valuable liquidity. In the worst case, suppliers, taking a bite out of the already narrow margins that buyers' CBVMs had expected to monopolize, have created their own upstream CBVMs.

A third hazard for CBVMs is antitrust legislation. Their partners often enter into joint purchasing agreements that call for the sharing of price, quantity, and other supply chain data, and regulators in the United States and Europe thus worry that CBVMs might treat sellers or competitors unfairly or even engage in anticonsumer behavior such as price-fixing. So far, antitrust officials have reviewed the activities of only one European and one US CBVM. Both passed scrutiny, though the European exchange—MyAircraft—had an unusually low market share, and officials reserved the right to take a second look at the US CBVM, Covisint (the leading automotive CBVM), which has yet to settle on rules for its members.

US and European regulators fear that consortia might treat sellers, competitors, or consumers unfairly

Those decisions provide little guidance. But to assuage the regulators' concerns, a CBVM might take such steps as installing fire walls around information that would give its members an unfair advantage if shared among them; creating buying groups smaller than the overall consortium to reduce its market share; emphasizing its industry-wide benefits; giving founders and nonfounders access on the same terms; and including as founders such supply chain participants as suppliers and distributors. Of course, any of these expedients should be employed under the watchful eye of good antitrust counsel.

The value a CBVM can (and should) offer

Regulatory concerns may be the least of the worries of the CBVMs, for it is now clear that they—like all other B2B enterprises—must earn the business of their founders, their suppliers, and everyone else. Fortunately, the early limitations of the CBVMs haven't eclipsed their compelling advantage; access to the founders' collective wisdom and influence has much more value than the price efficiencies, purchase process savings, and neutrality of independent vertical marketplaces. Moreover, the industry knowledge of the CBVMs can foster collaboration, help set industry standards, and even uncover new sources of revenue.

CBVMs offer six kinds of unique value.

1. Market efficiencies

Price transparency and the savings that result from aggregating the expenditures of many companies on a common purchasing platform are not a distinct advantage of CBVMs. Incumbents with efficient purchasing practices can realize comparable price savings on their own, and many forms of price transparency may be detrimental to the competitive position of best-in-class purchasers, whose practices will become transparent to less capable ones.

Consortia truly can provide unique price efficiencies by helping to standardize unnecessarily complex and varied products and services

But CBVMs can provide unique price efficiencies for their members by helping to standardize unnecessarily complex and varied products and services, which they are in a uniquely good position to identify, and by acting as an honest broker in the process of standardization. One metals marketplace, for example, established that suppliers produce five to ten times as many stock-keeping units (SKUs) of a certain alloy as manufacturers really need. It intends to help develop common specifications for the alloy so that capital can be focused on a few SKUs. An energy CBVM saw that its members used a tremendous range of poles and insulators, though such variety contributed little to the efficiency of energy transmission. Reducing that range to three or four standard units will facilitate group purchases and longer manufacturing runs.

2. Procurement process efficiencies

Like private marketplaces and some other e-procurement facilities, CBVMs both enable users to automate the requisition-to-pay process and enforce improved compliance measures that can reduce rogue spending. In addition, they can provide tools that minimize costly paperwork and input: tracking processes, which are common to many regulated industries. (Some replacement parts for airplanes and nuclear plants, for example, cost as much to track as they do to purchase.) CBVMs make it possible to submit and track documentation on-line, thus eliminating the repeated use of forms and enabling buyers, suppliers, and regulators to gain access promptly.

3. Savings from standardization

To make the purchasing process more efficient, CBVMs can help implement uniform standards for transmitting data, for describing products, and for conducting business processes. At each step, the resulting improvements in the transparency of the supply chain mean less waste, rework, and troubleshooting, and the savings for buyers and suppliers can be very large in businesses, such as the manufacture and assembly of computer components, that have fragmented global supply bases and thousands of SKUs. One promising CBVM founded by companies at several stages of that industry plans to facilitate savings of precisely this kind.

4. Savings in supply chain management

When uniform standards have been established, a CBVM can serve as a central hub that clarifies information and speeds up its transfer from many buyers to many suppliers. Value will be created as suppliers adjust production to demand more smoothly, as buyers and several tiers of sellers collaborate to shrink design lead times and input costs, and as buyers discover other companies with similar inventories and start pooling them to minimize costly and redundant stocks.

Every commercial airline, for instance, maintains more or less the same vast inventory of spare parts. One CBVM in the airline industry estimates that pooling them could reduce, by 20 to 40 percent, the number of parts each airline is now obliged to hold. In the consumer electronics industry—where supply chains are global, demand fickle, and products highly perishable—a leading IT vendor estimates that CBVMs can help users cut their sourcing and other product costs by more than 10 percent by improving demand signals and coordinating anticipated demand with the supply base (through sales promotions, for example).

5. New sources of revenue

A CBVM's position in the supply chain affords a broad overview of what companies in an industry are buying, selling, and building. These patterns can reveal unmet needs. One high-technology CBVM, for example, plans to offer suppliers reliability ratings for the hardware subcomponents they might wish to stock. A buy-side CBVM plans to create a marketplace to sell unused manufacturing capacity. A metals CBVM intends to advise relatively small companies in the industry on the management of capital investments, which are both infrequent and costly. These ideas sprang from the knowledge that the CBVMs have collected about their respective industries.

6. Sharing of risk

A CBVM incurs the cost of building and operating an IT platform and the risk that it, as well as other new standards and processes, might not work as intended. No single incumbent would assume any of these risks, but because they are shared by the entire membership of a CBVM, even the most risk-averse companies may feel secure enough to join it. Many CBVMs believe that member companies will save millions of dollars each year by sharing the cost of maintaining World Wide Web sites, software licenses, IT consultants, and so on. In addition, the shared nature of the investment in the CBVM and the commitment to it of many companies in the supply chain reduce the likelihood that the IT platform will be abandoned.

This isn't the only kind of risk that CBVMs can divide among their membership. They can also, for instance, attempt to intensify competition within the supply base. Executives in one industry, which is held hostage by a dominant supplier of vital inputs, hope to use the combined market power of its CBVM to develop alternative sources.

Jumping the hurdles

The fear that many companies feel about sharing information with fellow marketplace participants against which they ordinarily compete is the biggest hurdle facing CBVMs and many other kinds of on-line marketplace. A second major hurdle is the need to develop effective partnering strategies with suppliers to foster collaboration along the supply chain. A third, of course, is ensuring that CBVMs target their offerings to their sources of unique strategic value rather than getting sidetracked by nonstrategic goods.

One alternative to the CBVMs—private exchanges that can conduct transactions between a single buyer and several suppliers—already offers benefits. It is still too early to say whether CBVMs will be able to go much further than these private exchanges in promoting multiparty collaboration. CBVMs are in a better position than private exchanges to encourage participants to forget their fear of collaboration. But little collaboration has occurred so far, though every CBVM we studied has offered its founders a formal role in shaping the business—which seems to suggest that they would be willing to give those CBVMs a large volume of their transactions, to share some data, and to collaborate with competitors. Only 20 percent of the CBVMs we surveyed said that they knew "many industry examples" of competitors working together; half said there were none.

How are CBVMs trying to encourage the strong commitment that could promote collaboration? One tactic attempted by more than half of the CBVMs we studied is to issue equity warrants to members when their transaction volumes meet certain targets. CBVMs whose founders compete against one another could also begin with a series of confidence-building measures, such as joint purchasing, the sharing of emergency inventories, and the coordination of logistics.

A CBVM that persuades its founders to contribute their talent, capital, and brand names and exploits its strategic relationships will find itself in a stronger position than any independent competitor could hope to achieve. Transora, a CBVM in the food, beverage, and consumer products industry, has secured almost $250 million from more than 50 investors and boasts the brand names and strategic networks of such leading consumer products businesses as Coca-Cola, Johnson & Johnson, and Procter & Gamble.

Suppliers are in a less rosy position. Some have already been hit hard by the price transparency that B2B marketplaces promote; others are sure to resist the idea of sharing inventory and capacity information for fear that it will cost them sales. Yet CBVMs depend on the cooperation of suppliers, and those CBVMs that partner with them and with other participants in the supply chain have the best chance of success. Existing consortia practice two models of inclusive supply chain partnering. In the first, suppliers, distributors, and other participants in the supply chain (such as original-equipment manufacturers and assemblers) are invited to help found a CBVM. In the second, suppliers are not invited to participate in its founding but do help determine its functionality and product offerings. Covisint, for example, follows the second model: almost 20 suppliers are its "development partners."

Sustainable CBVMs can be built, but they require a combination of distinctive industry knowledge, close collaboration among participants in the supply chain, and a solid commitment from the founders. A CBVM that can achieve all three should ultimately generate value that its founders couldn't find elsewhere and—at last—acquire the liquidity once regarded as certain.