Discover the advantages of connecting to partners in your industry via a third-party platform
Understand the major obstacles facing electronic exchanges
A dirty little secret exists in industry today: In this age of e-business, most business is not electronic at all. Most businesspeople still buy and sell goods via methods that have been around for decades. They write a contract and shake hands. They pick up the phone and send a fax. The truly enlightened might communicate via e-mail.
This is particularly true in the $507 billion North American chemical industry, where most companies have long-standing, contractual relationships with their suppliers. That’s why the founders of Envera, a Richmond, Va.-based startup, think their idea of providing an electronic hub through which chemical companies can forge links with each other will strike a chord in the industry.
Consider a typical transaction: After a bidding process, chemical companies generally enter into annual contracts to buy a certain quantity of chemicals at a certain price from a certain partner. A purchasing agent from the buyer then calls the seller’s toll-free number to confirm price and quantity and schedule the shipment of an order. The seller’s representative keys the order into his company’s system?perhaps making an error or two?and then faxes back the order acknowledgment. The method works, but it is hugely expensive. All told, it costs between $50 and $100 to process a single order.
Clearly, the way chemical companies conduct transactions is in need of an overhaul. The question remains whether a marketplace such as Envera?using XML as the linchpin?can provide the answer.
Looking for an Easier Way
Chemical companies have long searched for a way to automate the procurement of production goods. Twenty years ago, many pinned their hopes on electronic data interchange (EDI), which had been used successfully in the automotive industry, but that effort failed to catch on in the chemical industry for lack of standards. Along came the Internet. At the end of the ’90s, companies such as Ethyl began to build Web-based connections to many of their best customers. Using these private, company-to-company connections, the partners could obtain order information, submit orders, and find information on product descriptions and shipping details. The problem was, each connection took months and hundreds of thousands of dollars to build. There was no way companies could afford to create a one-to-one connection for each of their suppliers. Bob Mooney, then chief financial officer at Ethyl in Richmond, Va., an $843.7 million maker of petroleum additives, remembers thinking that a better way to go would be to create a central platform?an electronic clearinghouse or hub?that would link chemical companies’ back-end systems with those of all their suppliers. The hub would translate business documents such as a purchase order from a company’s ERP system into standard XML data and send it to the partner, where it would be translated into the format preferred by the partner’s ERP system. Having a centralized electronic hub would eliminate the need for companies to forge individual connections to every trading partner, in theory saving loads of time and money.
Last March, Mooney, Mike Giesler, then Ethyl’s CIO, and two other cofounders began knocking on colleagues’ doors, talking about creating an electronic hub for the chemical industry they called Envera (roughly translated from Latin, envera means “in truth”). Envera would differ from other electronic trading exchanges that were then making headlines, such as the chemical industry’s CheMatch.com and the auto industry’s Covisint, in that it would not attempt to match sellers with buyers. Rather, it would serve only as an electronic platform on which already-established business partners could conduct their transactions. Envera would not take a piece of each transaction that it hosted but instead would charge members an annual subscription fee of between $5,000 and $300,000, depending on company size. Mooney and Giesler got a warm reception from their peers, snagging funding from 11 companies. Things moved quickly after that. Giesler and Mooney left Ethyl in July and by the end of the summer Envera had hammered out XML document definitions for eight basic business processes in conjunction with an industry standards group. By the fall, the initial phase of Envera was up and running, with partners such as Lubrizol and Occidental Chemical beginning to conduct business online. To date, only a tiny number of transactions have taken place on Envera. Giesler expects business to jump once Envera’s 40 trading partners come online this spring.
Mooney, now president of Envera, likes to say Envera is “business for business” as opposed to the ubiquitous “business-to-business.” The theory is that companies of all sizes can come together on Envera without fear that the e-hub benefits only the largest companies. “The early exchanges were dominated by the big players. A lot of smaller companies were afraid [the large companies] would get together and try to drive down prices. Our philosophy is that this is a neutral site for all the other businesses, and the benefits get passed down to all members,” says Giesler, now Envera’s chief technology officer. Envera’s second phase, which launched in January, added links to service providers, among them two trucking companies and one rail company to move products traded on its exchange. By banding together, Envera members will be able to negotiate discounted prices on services, according to Giesler. Envera also plans to add services such as data warehouse capabilities and management of subscribers’ material safety data sheets, a legal requirement for chemical companies.
Just because Envera has made it out of the starting gate is hardly a guarantee of its eventual success. Like all electronic trading exchanges and hubs, Envera faces enormous obstacles (see “Due Diligence,” this page). For starters, it has new competition: a similar online exchange for the chemical industry dubbed Elemica. Elemica, a Philadelphia-based e-marketplace that went online in a test phase this past January, is also based on an XML platform, and it is backed by 22 of the largest chemical companies, including BASF, Dow Chemical and DuPont. With Elemica in the picture, Envera may find it harder to sign up more companies as subscribers.Whether Envera can grow beyond its initial image as an extension of Ethyl presents another challenge. The e-hub will succeed only if industry companies see it as a neutral platform that exists for the benefit of all companies. The fact that the nine Envera owners are also its users could become a problem down the road.
Despite the uncertainty surrounding electronic exchanges, Envera has earned modest praise from some industry watchers. The chemical industry already has its share of trading exchanges, such as CheMatch.com and ChemConnect, that seek to match up buyers and sellers for spot buys of excess inventory. Emphasizing connectivity between established business partners is a fresh approach, according to Leif Eriksen, research director for AMR Research in Boston. Envera’s strategy requires a great deal of independence, however.
“No [single] company must be allowed to dominate the platform,” says Eriksen. If the balance of power were to tip in favor of one member company, fewer and fewer companies would use the hub, perceiving it to benefit the dominating company. That’s always a danger, given that the four founders came from Ethyl, and Envera is located in Ethyl’s hometown of Richmond. Mooney doesn’t believe it’s likely Ethyl will dominate, since it is the smallest company so far to invest in Envera. “There’s no way from a business point of view that Ethyl will have too much influence,” he says. “None of the partners can invest beyond a certain level. And each equity partner has one vote on the board.”
So far, the strategy is working, says Eriksen, who cited Envera’s quick launch with a minimum of interference from its board members as proof. But hard choices lie ahead, and corporate governance can get ugly very quickly. Eriksen believes Envera will have to go public one day or bring in capital from disinterested third-party investors if it is to succeed long term because there is too much of a chance that the equity investors will use their voting power to make decisions that benefit them at the expense of the community platform. For example, Envera may need to spend a lot more money in the coming years sprucing up the platform’s capabilities in order to attract more participants. But if the equity partners are satisfied with Envera as is and decline to invest more money, that could hurt the hub’s chances of acceptance in the industry as a whole. “To be truly independent, you can’t have owners that are users,” says Eriksen.
Others are not convinced that Envera is pursuing the right strategy. John Moore, vice president at ARC Advisory Group in Dedham, Mass., says the funding model practiced by ChemConnect is preferable. “Envera has an open equity situation?take one, take all,” he says. “How do you rotate the board when there are more investors? They don’t seem to have that very well thought out.” ChemConnect’s 31 equity partners have no voting rights, something that Moore thinks is in the best interest of the exchange. Giesler acknowledges that these are legitimate concerns and says Envera is working toward converting its board to be 100 percent independent. This may prove difficult or impossible to do. “I don’t know that they can go back now and try to take away the investors’ votes,” says Moore.
AMR’s Eriksen has been watching Envera since its inception and believes it is further along than any other e-hub in its space. “I tend to be very skeptical about exchanges, but what they have done is much more, much faster than anyone else has. They’re the leaders in this industry,” he says. For Eriksen, however, corporate governance issues remain the huge dark cloud on the horizon?for all consortium trading exchanges, including Envera.
Where huge companies come together, governance gets awfully hazy, and it’s tough to get even simple things done, never mind tackle hard issues like industry standards. With its three CEOs, the auto industry’s Covisint is a case in point: Envera got up and running before Covisint, which was announced more than a year earlier.
The XML Question
The fate of XML is an especially big question. The standard markup language represents a breakthrough in one sense by giving companies a common language to use to transmit data over the Internet. This is a huge advantage over EDI, which requires participants to rent bandwidth on a costly private network. EDI failed to take hold in the chemical industry, unlike in the auto industry, for at least two reasons. First, chemical sales tend to be large on average (about $20,000) and often require more oversight than EDI allowed. Second, there were so many interested parties given the chemical industry’s fragmentation that it was nearly impossible to agree on data standards. The Chemical Industry Data Exchange (CIDX) was formed in the late 1980s to work on the issue but was unable to garner enough clout to make a difference. “The standards they arrived at were lots of standards, which is effectively no standards,” recalls Mason Moore, vice president of technology of Envera.
But just providing a standard language is not enough?syntax is needed too. For XML to be truly useful requires the definition of standard documents, such as a purchase order, to be used within the industry. And once those business documents have been defined, they must be widely adopted. In the chemical industry?as everywhere?multiple groups with multiple agendas are pursuing multiple standards. Envera has made quick progress on its eight initial XML documents, but a potential battle looms with competitor Elemica.
XML has an obvious advantage over EDI in that it leverages existing infrastructure (such as the Internet) and is therefore not expensive to adopt. And it does have some technical advantages. “In XML everything is defined by tags, and you can extend the document by adding more tags,” says Envera’s Moore. “Two partners can agree to a specific extension of a purchase order. That gives much more flexibility. You can also drop an XML stream on a piece of paper and read it. That’s not true for EDI,” which is only machine readable. But in the standards department, XML is no different from EDI. “There’s no guarantee that it will succeed. It will face the same problems EDI did,” says Eriksen.
“EDI was not a smashing success in the chemical industry because we did not come together around standards. We’re trying to learn a lesson from that,” says Johnnie Foster, vice president and CIO of Solutia, a $2.8 billion chemical manufacturer in St. Louis. Solutia invested “several million” in Envera in part because it believes in XML’s potential to succeed where EDI failed.
This time around, there are hopeful signs. Envera has agreed to share its eight initial XML document definitions for use with CIDX for use by any company in the industry. However, the ability of competitors to coalesce around standards was immediately tested when Elemica announced last summer that it too was working on XML document definitions for a purchase order and an order acknowledgment, among others. Representatives from Envera and Elemica gathered around the bargaining table and hammered out common definitions for the good of all. For their part, Mooney and Giesler say they’ll do what’s necessary to work out a common standard or arrange for Envera to map to different standards, as needed.
But one wonders how long the congenial atmosphere will last. It’s hard to cooperate when others fail to follow suit. Chuck Gruber, vice president of Elemica, emphasized that his group worked with CIDX, not Envera, on the initial documents. “We feel working with [Envera] would dilute the concept of what we’re trying to do,” he says. So, in effect, Elemica and Envera are working at cross-purposes, at least as far as Gruber is concerned. That’s bad news for the industry as a whole, especially since the Federal Trade Commission has said that it will look especially closely at any proposed trading exchange that attempts to limit interoperability with other exchanges.
Private Versus Public
Even if XML works like a charm, Envera may have a hard sell on its hands, at least when it comes to convincing companies to shift the majority of their transactions its way. Although it never adopted EDI to any great degree, Occidental Chemical (OxyChem), a $3 billion chemical manufacturer, saw the benefits of linking electronically to its partners. More than a year ago, OxyChem’s OxyVinyl division built an ERP-to-ERP connection to PolyOne Corp. (then called Geon Co.), one of its largest customers. “As a result, all the resin products that OxyVinyl supplies to PolyOne are hands-free, with no human intervention,” says Charles Clark, former vice president of e-business for OxyChem in Dallas. “We saw significant value in terms of increased efficiency of operations. We’ve reduced the amount of inventory we were carrying.”
But, much like the experience at Ethyl, Clark couldn’t imagine building what amounts to a private exchange for every one of its customers, only for the cream of the crop. “We were looking for a one-to-many solution where the idea is you connect only once,” he says. OxyChem was one of Envera’s first equity partners. The $4 million investment OxyChem made in Envera was easy to justify for a company of its size, according to Clark.
Clark likes what he has seen so far from Envera. But he doesn’t expect the platform will supplant all of OxyChem’s other ways of doing business. In the next five years, Clark hopes, up to 40 percent of OxyChem’s transactions will go through Envera. The rest will be homegrown private exchanges like the one OxyChem built with PolyOne, EDI and good old-fashioned techniques like phone and fax.
That a huge corporation like OxyChem will continue to endure the pain and effort of creating private exchanges with its most prized customers does not surprise ARC’s Moore. “None of these marketplaces will ever get 100 percent of the spend,” he says. “[Electronic exchanges] all have grand dreams of being able to take over all of their transactions for all their partners. It won’t happen. Some companies may not want their most sensitive purchases logged on an online marketplace?no matter how bulletproof the promised security measures.” Even DaimlerChrysler is setting up an exchange?separate from Covisint?to source its strategic goods, according to Moore. An AMR Research report estimates that as much as 75 percent of the consortium revenue opportunity over the next two years could go to private exchanges that leverage the Internet.
For the moment, at least, Envera can be forgiven for savoring the fact that it has done what it promised in this early phase, which is uncommon in the exchange arena. “We set our goals and made our business plan. These haven’t changed. We want to earn our trading members’ trust,” says Mooney.