economics and justification of ec

8/17/2019 Economics and Justification of EC

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© 2008 Pearson Prentice Hall, Electronic Commerce 2008, Efraim Turban, et al.

Chapter 15

Economics and Justification

of Electronic Commerce


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Learning Objectives

1. escribe the need for justif!ing ECinvestments" ho# it is done" and ho# metricsare used to determine justification.

2. $nderstand the difficulties in measuring and justif!ing EC investments.

%. &ecogni'e the difficulties in establishingintangible metrics and describe ho# toovercome them.

(. List and briefl! describe traditional andadvanced methods of justif!ing )*investments.


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Learning Objectives

5. $nderstand ho# e-C&+" e-learning" and

other EC projects are justified.

,. escribe some economic principles of EC.

. $nderstand ho# product" industr!" seller" and

bu!er characteristics impact the economics

of EC.

. &ecogni'e /e! factors in the success of ECprojects and the major reasons for failures.


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0h! Justif! E-Commerce )nvestments

o# Can *he! 3e Justified4

Increased Demand for FinancialJustification )* eecutives feel the demand for financial

justification and planning from eecutivesbut6,57 of companies lac/ the /no#ledge or tools to

do &O) calculations

57 have no formal processes or budgets inplace for measuring &O),7 do not measure ho# projects coincide #ith

promised benefits si months after completion


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Other Reasons Why EC Justification IsNeeded Companies reali'e that EC is not necessaril! the

solution to all problems 8 formal evaluation of re9uests for funding is

mandated Companies need to assess the success of EC

projects after completion" and later on a periodic

basis *he success of EC projects ma! be assessed in

order to pa! bonuses


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EC Investment Categories and

Benefits IT infrastructure provides the foundation for

EC applications in the enterprise

EC applications are specific s!stems and

programs for achieving certain objectives


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:pecific benefits Cost reduction

;roductivit! improvement

)mproved customer satisfaction

)mproved staffing levels

igher revenues

igher earnings

3etter customer

&etention+ore return of e9uit!


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Ho Is an EC Investment Justified!cost"#enefit analysis

8 comparison of the costs of a project

against the benefits

3usiness justification and business case


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What Needs to Be Justified! When

$hould Justification %a&e 'lace!0hen the value of the investment is

relativel! small for the organi'ation

0hen the relevant data are not available"

are inaccurate" or are too volatile

0hen the EC project is mandated


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(sing )etrics in EC Justificationmetric

8 specific" measurable standard against

#hich actual performance is compared


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(sing )etrics in EC Justification+etrics can6

efine the value proposition of business models

Communicate a business strateg! to the#or/force )ncrease accountabilit! 8lign the objectives of individuals" departments"

and divisions to the enterprise?s strategic

objectives*rac/ the performance of EC s!stems 8ssess the health of companies


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+etrics" measurements" and /e!

performance indicators&ey *erformance indicators +,'I-

*he 9uantitative epression of criticall!

important metrics


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ifficulties in +easuring and

Justif!ing E-Commerce )nvestments


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Difficulties in )easuring 'roductivity

and 'erformance .ainsata and anal!sis issues

EC productivit! gains ma! be offset b!

losses in other areas

)ncorrectl! defining #hat is measured

Other difficulties


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Difficulties in )easuring Intangi#le

Costs and Benefits*angible costs and benefits

)ntangible costs and benefits

andling intangible benefits

andling uncertainties


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%he 'rocess of Justifying EC and I% 'ro/ects La! an appropriate foundation for anal!sis #ith !our vendor"

and then conduct !our &O) Conduct a good research on metrics and validate them

Justif! and document the cost and benefit assumptions ocument and verif! all figures used in the calculation o not leave out strategic benefits 3e careful not to underestimate cost and overestimate

benefits

+a/e figures as realistic as possible and include ris/ anal!sis Commit all partners" including vendors and top management


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+ethods and *ools for Evaluating

and Justif!ing E-Commerce )nvestments

O**ortunities and Revenue

.enerated #y EC Investment 8 major difficult! in assessing the EC value

is the measurement of possible benefits that

drive EC investment

:ome of these are opportunities that ma! or

ma! not materiali'e" so there is onl! acertain probabilit! for return on the EC

investment /no#n as the opportunity matrix


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)ethodological 0s*ects of Justifying

EC Investments*!pes of costs

istinguish bet#een initial @up-frontA costs and

operating costs

irect and indirect share costs

)n-/ind costs


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%raditional )ethods for Evaluating EC

Investments&O) method

;a!bac/ period


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Net 'resent 1alue +N'1-3usiness &O)

*echnolog! &O)

ROI calculator

Calculator that uses metrics and formulas to

compute &O)

)nternal rate of return @)&&A


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3rea/-even anal!ses

total cost of onershi* +%CO-

8 formula for calculating the cost of o#ning"

operating" and controlling an )* s!stem


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total #enefits of onershi* +%BO-

3enefits of o#nership that include both

tangible and intangible benefits

Economic value added$sing several traditional methods


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0dvanced )ethods for Evaluating I%

and EC Investments


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Eamples of

E-Commerce ;roject Justification

E"'ROC(RE)EN% E-procurement encompasses bu!ing and selling"

selecting suppliers" submitting formal re9uests for

goods and services to suppliers" getting approval

from bu!ers" processing purchase orders" fulfilling

orders" delivering and receiving items" and

processing pa!ments

*he diversit! of activities involved in

e-procurement" the metrics used to measure the

value of e-procurement must reflect ho# #ell each

process is accomplished


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Eamples of


Customer $ervice and eCR)Onl! a small percentage of companies have

demonstrated a significantl! positive &O) for

their eC&+ investmentsC&+-based EC applications are most

effective #hen the! are part of a compan!?s

overall business plan and not just an ECinvestment


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Eamples of



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Eamples of


Justifying a 'ortal*he fundamental business case should be

made from the internal and eternal

perspectives of the business*he internal pa!off must result in

productivit! improvements" #hereas

revenue generation determines the eternalvalue


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Eamples of


Justifying E"%raining 'ro/ectsEnd-user training that helps emplo!ees

ac9uire or improve their EC and )* s/ills

pla!s a /e! role in ensuring the smoothoperation of organi'ations in the information

econom!


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Eamples of


Justifying an Investment in )o#ileCom*uting and in RFIDJustif!ing the cost of mobile computing ma!

be difficult due to cost sharing andintangible benefits

*hese calculations are helpful6&eturn on the #ireless #or/force

&eturn on outsourcing mobile devicemanagement

Cost of the #ireless net#or/s


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Eamples of


Justifying $ecurity 'ro/ects+ore than 57 of viruses enter business

net#or/s via e-mail. Cleaning up infections

is labor intensive" but antivirus scanning isnot

Emplo!ee securit! training is usuall! poorl!

doneCalculating the Cost of the $ar#anes"

O2ley 0ct


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*he Economics of E-Commerce


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Reducing 'roduction Costs ;roduct cost curves

average"cost curve +01C-

3ehavior of average costs as 9uantit! changes generall!"

as 9uantit! increases" average costs decline

*roduction function

8n e9uation indicating that for the same 9uantit! of

production" Q" companies either can use a certain

amount of labor or invest in more automation


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agency costs

Costs incurred in ensuring that the agent performs

tas/s as epected @also called administrative costsA

transaction costs

Costs that are associated #ith the distribution @saleA

or echange of products and services including the

cost of searching for bu!ers and sellers" gathering

information" negotiating" decision ma/ing"

monitoring the echange of goods" and legal fees


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Increased Revenues&each versus richness

Other #a!s to increase revenues


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Reducing %ransaction Friction or Ris&Organi'ations can increase the value of

their products or services b! using the

uni9ue capabilities of EC to reduce ris/s toconsumers" such as those involving

ps!chological relationships" 9ualit!

concerns" dela!s" and financial transactions


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Facilitating 'roduct Differentiation*roduct differentiation

:pecial features available in products that

ma/e them distinguishable from otherproducts. *his propert! attracts customers

that appreciate #hat the! consider an

added value


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EC Increases 0gility agility

8n EC firm?s abilit! to capture" report and 9uic/l!

respond to changes happening in the mar/etplaceand business environment

)ar&ets versus E")ar&ets Even if the flo# of ph!sical goods does not

decrease" the information provided in e-mar/etsbetter informs participants and" therefore" allo#s

them to ma/e better decisions


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*hree most common valuation methods6

1. *he comparable method

2. *he financial performance method

%. *he venture capital method


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Factors that Determine

E"Commerce $uccess

Categories of EC $uccess;roduct characteristics

)ndustr! characteristics

:eller characteristics

Consumer characteristics


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Factors that Determine

E"Commerce $uccess

%he 3evels of EC )easurement+etrics var! based on #hether the level of

measurement is6 8n individual EC customer 8n EC firm

8n EC-enabled process

*he EC value chain


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Opportunities for :uccess in

E-Commerce and 8voiding


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+anagerial )ssues

1. o# do #e measure the value of EC investment4

2. 0hat complementar! investments #ill be needed4

%. )s a shift from tangible to intangible benefitsnecessar!4

(. 0ho should conduct a justification4

5. :hould #e use the &O) calculator provided b! avendor #ho #ants to sell us an EC s!stem4

,. o# does one /no# if the valuation of EC companies

is justifiable4. )s it possible to predict EC success4

economics and justification of ec

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