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A Conceptual Model Of Operating Internet-based B2C Business
In Fast-growing Industries
Yulin Fang
Richard Ivey School of Business
The University of Western Ontario
yfang@ ivey.uwo.ca
ABSTRACT
Most existing econometric studies approached the issue of Internet-based
Business-to-Consumer (B2C) operation by analyzing one or two specific relations, but few
studies have been done to picture the entire dynamics of online (Internet-based B2C) and
offline (traditional brick & mortar) operation in fast-growing industries. Taking the System
Dynamics (SD) perspective, this paper offers a comprehensive conceptual model that portrays
dynamic processes of simultaneously running online and offline business in fast-growing
industries. All major functional operations such as R&D, manufacturing, marketing, product
delivery, after sales service, online store construction, as well as online and offline customer
interflow are included in the causal loop diagram. Five reinforcing loops and three balancing
loops significantly influencing corporate performance are identified and analyzed. The
implications of this conceptual model to practitioners in fast-growing industries are discussed.
INTRODUCTION
The Business-to-Consumer (B2C) e-business model is a business model that extends the
traditional brick & mortar-based business practice by introducing an online channel to
customers. It has been widely accepted by many westem computer suppliers, even though
dot.coms have experienced dramatic boom and bust in the past five years. It was argued that as
the competition in the conventional computer market became increasingly intense, an online
business channel would emerge as a strategic imperative for companies to build competitive
advantages (Segal 2000). However, in the last few years the whole business world has
witnessed dot.com’s boom and bust. Dot.coms were one of the fastest growing businesses,
while they dropped like stone as fast as they grew. Having seen all these that happened, many
companies in developing countries have been extremely cautious about investing in the
Internet based B2C, doubting the return on investment as an early mover into the local online
market (Mellahi 2000). Two questions arise here: 1) What are the underlying processes of
operating conventional business and online business simultaneously? 2) To what extent and
how does the introduction to online business affect a company’s performance? By approaching
these questions, we expect to help practitioners understand the key issues that may influence
corporate performance when they consider the Internet-based B2C business. Considerable
research has been done on B2C performance using econometric approach, but few studies
examine B2C as a dynamic system with complex interrelationships.
In this paper, an enterprise-wide conceptual B2C model is developed from the System
Dynamics (SD) perspective. The model portrays a typical operation model of a common
manufacturing company in fast growing industries that does sales through both the
conventional channel and the emerging online channel. The focus of the model resides on the
interaction among the major functional departments of the company and the interweaving
effect between the online market and the conventional market.
Based on the model, we expect to illustrate the major loops that can affect the performance of
the company and to pave a path for quantitatively exploring the critical decision factors that
significantly influence the company performance, and the behavior with regards to customers’
reaction to the company’s B2C platform. The result will be of high value to business
practitioners with intention to building B2C capabilities in fast-growing industries.
PROBLEM DESCRIPTION
The existing literature has extensively studied the benefits companies can obtain from the B2C
model (Fan 2001). However, some major challenges still exist for companies that are adopting
B2C, including reduced barriers to entry, huge marketing investment, lack of qualified after
sales support workforce, the potential of online market growth in developing countries, etc.
Reduced Barriers to Entry
Internet is drastically reducing barriers to computer market. Current B2C players’ market share
is constantly being challenged. It is easy for anybody to build a web presence to take customer
orders in ways such as email, message board. Customers are free to switch instantaneously to
competitors since the comparative information about the product of any competitor can be
obtained effortlessly.
Enormous Marketing Investment
Much investment is needed to attract potential customers to online stores. Business on the
Internet is just like a battle for people’s attention. In order to capture customers, investment
needs to be ongoing and huge.
High-Qualified After Sales Service Workforce
The existing literature in e-business has also studied distinct roles that customer service plays.
Parasuraman (1991) found that online customers pay great attentions to service quality. It is
also found that customer service in e-business may have different characteristics than that in
traditional service (Cox 2001). Some determinants in traditional service are not relevant in
e-business while some other determinants such as accessibility, communication, credibility,
understanding, availability are equally applicable to e-business (Cox 2001). Thus distinct
online service quality seems to be important in increasing online customer satisfaction and
needs to be addressed be handled differently.
Potential of Online Sales Market
The online selling can only be conducted through computers that are already linked up to
Internet, provided that the computer user wants to shop through the Intemet. Although the
Intemet growth rate in developing countries, such as China, appears to be exciting, the overall
penetration rate is still much lower than that of the developed countries. Whether the amount of
computers and users can push forward the online retailing market is still remaining to be
addressed.
Other Major Concerns
Other factors such as security of payment, the Internet access cost and quality may also affect
the performance of online selling.
PRELIMINARY LITERATURE REVIEW
Prior Studies associated with this topic is reviewed as the basis of this research. These
literatures fall into three categories: 1) Growth Management In Fast Moving Organizations; 2)
The Impact of IT Evolution on Business; 3) Skills and Customer Service Dynamics. In the
paragraphs to come is a summary of the studies in these fields.
Growth Management for fast moving organization
Managing growth is the focal managerial issue for companies in fast-growing industries. A
generic model “ Growth and Underinvestment” points out the lag between the support needs
and the technical support capacity, which is caused by significant delay of capacity building
(Lyneis 1998). The article takes Gateway as an example and emphasizes that the service
capacity should be expanded at least as rapidly as the growth in shipments. Also presented is
trade-off between huge investment in expansion and short-term profit. See Figure 1
Super-Exponential Growth in Installed Base
2000. _—-A$_____
1500
1000 LZ Annual Shipments
0
1989 1990 1991 1992 1993 year
Units(thousands)
Figure 1A Super-Exponential Growth in Installed Base
From Figure 3-1, we can see that the insufficiency of technical support service is a direct result
of the sales success. The article also discusses the situation that arises when a company tries to
enter a new market. Both a new market entry and technical support service require a huge
amount of investments that reduce the profit margin. Two conflicting goals- a high profit
margin and sufficient infrastructure - potentially challenges the company, as illustrated in
Figure 3-2, loop B4 and B5.
Expansion to f. markets ae _—
Company Standartis
* Ravenna 7 Z Quality
@s 7, B3
: +
Technique support Capacity Quality Ga
+
¢ +
Cost’ “oe Investment in Capacity
Figure 2 “Expansion Investment and Profit Margin” adapted from Daniel H.Kim and Anne Coyle, 1993
The Impact of IT Evolution on Business
Successfully introducing a product based on a new technology can give company significant
advantages over its competitors in terms of the position to define the product standard and the
ability to drive down the cost (Kim and Coyle 1993). IT-enabled transactions help firms create
value by enhancing interaction with suppliers and customers (Glazer 1993). Conceptually
speaking, an important asset firms can build is the IT infrastructure highly aligned with
customer-oriented business practice. By doing so, internally it can help to train staffs, and
externally can improve the understanding of individual customer shopping habits (Sonka 1998).
These lead to customer's reaction to the change and an enhanced and modified internal
knowledge and skills associated with products, service and customer needs (Sterman 2000).
The research in this field has articulated how information technology affects the way of doing
business with particular focus on the enrichment of staffs’ knowledge and skills.
Skills and Customer Service Dynamics
Service professionals must upgrade their own knowledge to keep up with the new online
system and develop skills for dealing with a variety of troubles caused either customers’
unfamiliarity with the website from the technical aspect, or customers’ complaints on the
product ordered through the Internet. In other words, the rate of skills obsolescence becomes
rapid and normal staff development processes may simply prove inadequate in building up the
necessary new skill base in times of major changes such as online business platform
implementation (Winch 1998).
Customer service is playing a more and more important role in the product life cycle. The
effectiveness and efficiency of customer service, including pre-sales service such as product
information delivery, best suitable product recommendation, and after-sales service, largely
leverage the satisfaction degree. In the online business, a company’s web site plays an essential
role in making up the skill obsolescence caused by the shift of the business platform. A good -
performed website takes care of customer service throughout the life cycle of the products by
publishing sufficient and relevant information in a user-friendly and well-organized way.
RESEARCH APPROACH
The system under examination features complexity and dynamics. The company is
undertaking structure changes when setting up online channels. It has to manage two different,
online vs. traditional, channels simultaneously. Customers choose to purchase through one of
the two channels or to leave for its competitors. The customer tumover between channels
and/or between competitors can cause dynamic and complex interactions. Thus, we need a
methodology that can portray the system’s dynamics and complexity, reflect delays and
feedbacks, and can predict the patterns over time through simulation. Traditional econometrics
applies mathematical and statistical approach to economics, but the dynamics (i.e., feedbacks
and delays) embedded in a system were not explained (Sterman 2000).
System dynamics (SD) is a perspective and a set of conceptual tools that enable us to
understand the structure and dynamics of complex systems. Causal loop diagrams (CLDs) are
flexible and useful tools for diagramming the feedback structure of system in any domain.
They are simply maps showing the causal links among variables with arrows from a cause to an
effect (Sterman 2000). Given its ability in addressing dynamic and complex system structures,
the causal loop diagram was adopted in our study.
In this study, an enterprise-wide operation conceptual diagram was built to portray the structure
of a computer company with both a conventional sales channel and an online sales channel.
The diagram offers a holistic view of the entire operation of a traditional computer company
with B2C practice by including major components discussed in the above section (i.e. customer
base, customization, open architectures, marketing, customer service, etc). The conceptual
causal loop diagram can facilitate can be used to understand the dynamics underlying in the
system and facilitate simulation model building process in the future research.
CONCEPTUAL MODEL
This section presents the causal loop diagram. Firstly, the causal loop diagram for companies
with the conventional channels is presented. Secondly, we extend this causal loop diagram by
including an online sales channel and website operations associated with the online sales
channel. Thirdly, the issues implied by adding a new channel is discussed, and preliminary
suggestions for performance improvement are presented.
Causal Loop Diagram - Manufacturing Firms With The C onventional C hannel Only
A typical manufacturing firm includes multiple functionalities, such as R&D, marketing,
production, product delivery and after sales service. Figure 3 presents the feedback loops
associated with these functionalities.
ga aaa
Production Capatcity Capacity Ordering
Installed Base t
i
tale Backlo
ay an
(21 prep Invest
=
* Delivery a, (mh cei hna Orde
Price
Servike Capacity A dequat Oe. cacy
\e Custermization Nees lity
Service Quality -
iets Market Share
Figure 3: Major feed back loops in a typical manufacturing firm
R1 Marketing reinforcing loop
R2 R&D reinforcing loop
R3 Economy Scale reinforcing Loop
B1 __ Delivery capacity balancing loop
B2 After Sales service balancing loop
Marketing and sales have long been determined as key activities strengthening firms’ growth.
More marketing & sales activities attract more customers and boot the company’s conventional
market share, which leads to more product orders. More conventional orders lead to more sales
volume, which results in more revenue for the company. Then the company is able to allocate
more funds for marketing and sales activities. This reinforcing loop (R1) is a driver of
corporate growth.
R&D has long been seen as a source of companies’ competitive advantage. An R&D increase
can result in more product options or better product quality to customers, which results in more
customers and more sales, and consequently make the company be able to allocate more R&D
investment. This reinforcing loop (R2) is also a driver of corporate growth.
Increasing economic scale is a major way of driving down production costs. Loop R3 briefly
illustrates how capacity increase helps lower down product unit cost, which constitutes a major
component of product price. Lower product price helps increase the company’s market share
and then conventional orders.
By the same token as “growth and undersinvestment” (Lyneis 1998), balancing loops exist and
impede companies from constantly growing. A classic literature in the system dynamics field -
Limit To The Growth - has addressed the issue of growth constrained by limited resources. In
the circumstances of a company, production delay and service capacity are widely suggested as
major capacity bottlenecks undermining corporate growth. Loop B1 shows that increasing
order quality leads to increasing backlogs, which increase the pressure on product
manufacturing and then lead to delayed delivery. Prolonged delivery delay decreases
customers’ satisfaction that subsequently negatively influences the company’s market share.
Along the same lines, increasing quantity of products sold leads to a higher amount of installed
product base on the market, which require more after sales service. Increased service requests
squeeze up service staff’s time available for each request, which in turn may cause decrease in
customer perceived service quality. Market share then decreases due to worsen service quality.
This feedback loop is illustrated as B2 in figure 3.
In short, corporate growth is driven or impeded by these fundamental feedback loops. The
dynamics among them (e.g. dominant loop shifts) are seen as the underlying reasons for
various corporate behaviors (Senge 1990).
Causal Loop Diagram -Manufacturing Firms With Both The Conventional Channel
And The Online Channel
By opening online B2C businesses, conventional manufacturing firms will have one more
channel facing customers. Customers can place product orders through the online shopping
website that the firm has built. Figure 4 illustrates major feedback loops undergoing the
company with both the conventional sales channel as well as the online sales channel.
Similar to conventional orders, orders received through the online shopping site can eventually
drives increases in marketing & sales funds and R&D investment by increasing corporate
revenue, can help lower down product price by enlarging economic scale, and potentially
impact customer satisfaction by changing product delivery backlog and service backlog.
Therefore, all the major loops (i.e., R1, R2, R3, B1 and B2 in figure 3) apply to the online
channel as well.
In addition, there are three new loops brought into play as the online ordering presence is
introduced. They are online store software infrastructure loop (R4), online store maintenance
loop (R5) and server load loop (B3) (see figure 4). They are all associated with the
Intemet-based B2C practice and are independent from the conventional process.
Server workload +
J Software Infrastructure Advantage
Online ae quality Jia?
Webpage Content
Figure 4 - The operational structure with Intemet-based B2C included
An online shopping site is the interface between companies and the potential customers;
therefore the quality of the online shopping site (e.g., the extent to which users feel page
loading speed, website easy-to-use and usefulness, etc) is a key factor influencing customers’
online shopping behavior. Apparently, more investment in online shopping site construction
and maintenance leads to higher advantage of the whole software solution, which may in tum
lead to better organization of the website, which subsequently attracts more online customers.
More online customers come with more orders, subsequently more revenue and more
allocation for further investment. This feedback effect is illustrated as the reinforcing loop R4
in figure 4.
Similarly, more online site investment can lead to better site maintenance done by IT
professionals, which in turn results in better quality of the website that subsequently leads to
more online customers. More online customers will result in more revenue and more funds
allocated for investment in web maintenance. This feedback effect is illustrated as reinforcing
loop R5 in figure 4.
The two reinforcing loops suggest the upside of increasing online order quantity. However, an
increase in online order quantity also has its downside. Similar to the issue of service backlog
and delivery backlog, increased web awareness leads to higher quantity of online shopping site
visit. This increases the online site’s workload, and subsequently slows down server response
quality. Slowness in response decreases website visits and eventually has negative effect on
orders place through the website. The whole causal-effect chain is a balancing loop limiting the
growth of online ordering, illustrated as balancing loop B3 in figure 4.
Furthermore, there appears to be interactions between the conventional ordering process and
the online order process. Depending on existing customers’ preference and the company’s
strategy, some conventional customers will become online customers while some online
customers will become conventional customers. They may be driven by individuals’ shopping
presence, by the quality of product life cycle service through either way, or by the company’s
strategies.
In summary, the whole business process becomes much more complicated when a company
has two sales channels, which are partly in common and partly distinct.
IMPLICATIONS AND DISCUSSIONS
Now that the major underlying balancing and reinforcing processes underlying the whole
business (i.e., include offline and online business) have been identified and understood, we
could broadly discuss how the introduction of online sales can impact corporate performance.
As Sterman (2000) suggests, reinforcing loops reinforce changes with more changes. Thus, this
kind of loops leads to grow at an ever-increasing rate or leads to decline at an ever-increasing
rate. Thus, it is important that the reinforcing loops identified in the diagram should move
positively. In other words, it seems that corporate policies should be designed to encourage
appropriate marketing investment, R&D investment, and online site construction investment.
Furthermore, he suggests that balancing loops drive systems to seek a goal. If the current level
of a variable (e.g., backlog) is above a fixed value, the balancing loop will work to decrease the
variable to meet the value. In other words, in many situations balancing loops can stabilize the
system behavior to center around a fixed level (e.g., maximal capacity of service or production).
This implies that it might be important to “raise the ceiling” - keep balancing loops from
stagnating the business.
Strengthening reinforcing loops
Marketing (R1), R&D (R2), production at economic scale (R3) and online construction and
maintenance (R4 and R5) have been identified as reinforcing loops in our causal loop diagram.
These reinforcing loops are driving customer conventional orders and online orders to grow
exponentially. Therefore, it seems essential to guarantee decent resources to fuel these
reinforcing positive loops, such as allocating considerable funds for marketing, R&D and
dedicating sufficient resources to improve and maintaining the online site. In the circumstances
of fast-growing industries, commitment to these actions are particularly important because an
increasing number of competitors will join in the industry and threaten the company’s growth
quickly.
Managing balancing loops
Three major balancing loops are identified in the study, including production capacity loop (B1)
after sales service capacity loop (B2) and the online server capacity loop (B3). These balancing
loop constrain the company from growing by prolonging product delivery time, worsening
after sales service and slowing down online site response quality respectively. It appears
important to relax these limitations before a high corporate growth rate can be sustained. In
practice, solutions include increasing production capacity, recruiting qualified service
representatives and investing on the server upgrading. Taking after sales service loop as an
example (see figure 5), balancing loop B4 indicates that service capacity can be increased by
increasing current staff’s work intensity while balancing loop B5 suggests that service capacity
can be increased by recruiting new staff. By the same token, we could figure out solutions to
addressing other capacity limitations by including additional balancing loops.
Moreover, managing balancing loops has great implications to the effects of reinforcing loops.
Namely, the increasing product orders and increasing market share achieved by marketing,
R&D and online store investment will be negatively affected by insufficiency in production
capacity, service capacity and server capacity caused by these balancing loops. If the caps
caused by the balancing loops are not removed, the huge investment put into strengthen
reinforcing loops cannot generate expected outcomes.
Managing the customer interflow between two sales channels
Last but not the least, we have understood that existing customers are likely to move between
the two different channels (they is also likely to choose competitors, which is not included in
the current model). Therefore, corporate policies could be designed and implemented to direct
customers to use more of one channel than the other. For instance, it is widely suggested that
online order placement and fulfillment can provide customers with faster product delivery and
can provide companies with higher margin (i.e., distribution mark-up is eliminated). Corporate
policy could be designed to encourage existing conventional customers to make more use of
the online channel.
Personnel Hiring Ra'
‘Work Pressure
Number of Rookie
Work Intensity
Work Sérvice Quality
4 Intensity ; ;
loop B4 / Adequcay of Service Capacity ;
Number of Experienced|
+ a
Actual Service Capacity
Sales volume
Desired Service » Capacity
#
Installed Base
Figure 5 - Relaxing after sales service limit by increasing work intensity or recruiting new staff
LIMITATION AND FUTURE WORK
This study presents early outputs of the whole SD research cycle by extensively using causal
loop diagrams. Causal loop diagrams are used here because they make system dynamics more
accessible to a wider range of people and practically are often used to clarify conceptual
relationships before the formal models are introduced. However, casual loop diagrams have
some problems in addressing system dynamics issues. Firstly, casual loop diagrams cannot
effectively address delays - an important notion in the field of system dynamics. For instance,
it takes a considerable amount of time for marketing initiatives to have effects on target
customers; it takes long time to expand production capacity before new capacity get to work. A
simple cross over the link can qualitatively indicate the existence of a delay, but it cannot show
the magnitude of the delay. Its limitation in terms of quantities representation also applies to
other building blocks of causal loop diagrams, such as positive and negative signs. This is also
an essential and natural part of SD research. In addition, a crux problem with causal loop
diagrams is that they make no distinction between information links and rate-to-level links
(Richardson 1986). In the future work, formal quantitative models will be applied to address
quantitative relationships.
The current conceptual model presents generic structures of potential problems with
Intemet-based B2C business at a preliminary stage. It helps achieve conceptual clarification,
but is not sufficient to address industry-specific insights and generate insightful analysis based
on simulated behavior. Further research will include developing formal stock-flow diagrams,
collecting data from companies in fast-growing industries (e.g., the personal computer industry)
in developing countries. By doing so, causal relationships and time delays suggested in the
study of this early stage will be further quantified and more insightful implications will be
obtained.
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