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DECEMBER 24, 2003
Why Big Shopping Sites Are Surging Thank the network effect, which lures sellers to where the most buyers are and buyers to where the most sellers are Economists call it the network effect -- the fact that certain things get more useful when more people use them. English is the most popular language to learn because it's the world's most widely spoken language. Ditto for the leading word processor, Microsoft Word. And now, the largest online shopping sites are benefiting big-time from the network effect. The emergence of a top tier of heavily trafficked sites is easy to explain: Sellers want to be where the most buyers are, and buyers want to be where the most sellers are. The network effect is working overtime right now, at the conclusion of the biggest cyber-selling season ever. Customers have been deluging the most popular places to shop online, such as auctioneer eBay (EBAY ), merchandiser Amazon (AMZN ), Web portal Yahoo! (YHOO ), search engine Google (and its shopping offshoot Froogle), and comparison-shopping site BizRate. FORCE FOR GOOD. Also booming are the sites where people shop for airplane tickets and hotel rooms for the holidays, such as InterActive Corp.'s (IACI ) Expedia, Saber Holding's (TSG ) Travelocity, and Orbitz (ORBZ ), which just completed an initial public offering of stock. On the whole, the network effect is a force for good. By matching buyers and sellers more efficiently than ever before, the big e-tailers are shaving untold billions of dollars from the annual cost to society of transacting business. Also thriving are people who figure out how to harness the power of the network effect. Take Adam Hersh, a 25-year-old graduate of Northeastern University who in a few years has become a major broker -- or "trading assistant" -- on eBay. "BIGGER MARKETPLACE." Hersh, who lives in Manhattan, takes goods on consignment from individuals and merchants, and auctions them (for a cut of the action) under the name of his company, Adam Hersh Auctions, which has a high customer-satisfaction rating on eBay. Things he doesn't want to auction himself are referred to other trading assistants for a separate cut. While Hersh declines to talk about how much money he's making, he lists about 1,500 items a week for auction. For others, though, the network effect is something to fear, because they're outside of it looking in. Bricks-and-mortar retailers have a harder time luring customers who are used to finding everything they want with a few mouse clicks while sitting at home with a hot chocolate. Smaller online shopping sites are easy enough to reach, but they're also losing share because so many potential buyers prefer the bigger sites with the most selection -- that network effect again. Of course, there's still room for small fry because doing business on the Internet is so cheap you don't need to be huge to make money. But it's getting harder and harder to be a serious player. "Everyone is competing in a bigger marketplace," says BizRate chief Chuck Davis. NOT SO CHEERFUL. The biggest losers from the network effect are companies that used to thrive in a splintered market by charging high prices to people who didn't know how to shop around. Airlines are the most prominent example. In the old days, customers twiddled their thumbs in the guest chair at the travel agency, looking at pictures of palm trees while some agent mysteriously produced expensive fares from a computer terminal connected to a mainframe somewhere. Now, services like Expedia make it possible for consumers to compare airlines head-to-head. More and more, when people think of flying, they think Expedia, not Delta (DAL ) or American (AMR ). Says E. Andrew Boyd, chief scientist of PROS Revenue Management, a Houston pricing specialist: "I'm not even sure the airlines are fully aware of what type of pricing pressures this is putting on them." The yearend holidays are said to be the happiest time of the year. But for companies that are getting squeezed by online shopping's network effect, it's anything but.  By Peter Coy in New York
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