The bidding game

When Internet clothes retailer boo.com went bust at the end of May, business commentators were quick to say: "Told you so". Amid the debacle of lastminute.com's flotation, hadn't they all said that buying and selling over the Internet is not economically feasible? Hadn't they warned us that the market is not ready, that there's no confidence in the security of credit card details and that sites are susceptible to hackers? But while the big-name consumer websites are under fire, businesses are taking a serious look at online trading with other businesses. In the jargon of the Internet, this is called B2B, which stands for business-to-business trading (in a similar fashion, business-to-consumer trading by companies such as boo.com, is known as B2C).

In particular, businesses are getting excited about a process called a "reverse auction". In simple terms, a reverse auction is where a tender is posted on a website and bidders are invited to join an online auction at a specified date and time. A time limit is imposed on the auction and when the time runs out, the lowest bidder wins the contract.

Along with the defence and aerospace industries, construction is taking the idea very seriously. While builders' merchants, materials suppliers and main contractors are all racing to develop B2B marketplaces, one company already peddling its reverse auction service is eu-supply.com.

Established in Sweden in June 1998, eu-supply.com is now trying to interest contractors in the UK. It is being led by former British-Gypsum-Isover marketing director Patrick Destang. He explains that contractors can make huge savings by using reverse auctions for tenders rather than traditional bidding methods. By using the Internet, contractors can reach suppliers all over Europe and, indeed, the world. This means greater competition and therefore lower prices, he says.

Destang says most contractors usually only invite six subcontractors or suppliers, whom they have worked with before, to bid for contracts. So there are a lot of high-quality suppliers who don't get a chance to bid. By including them, there is more competition and therefore greater scope for saving money. Part of Destang's job is to assess the quality of buyers and sellers, making sure they are reputable.

As well as cutting costs through greater competition, there are direct administrative savings too, insists Destang. The savings on photocopying and mailing out 100-page specifications are worth the commission fee alone, says Destang. Using the Internet also cuts out the risk of documents being mismanaged (pages falling out or being misplaced) or not reaching their targets, he adds.

How it works in practice is that a contractor posts an invitation to tender on the eu-supply.com website. The document includes the specification, so that bidders all have the same amount of information to bid on. It also includes a guide price, and a time and date for the online auction, which will also have a set time limit.

On the day of the auction, a graph is displayed on the website that records the auction. Bidders post their initial bids and, at first, the price comes down in very small increments very slowly, says Destang. As the auction nears completion (they typically last a couple of hours), bids start dropping by larger amounts and the frequency of bidding increases. At the end of the time limit, the lowest bid wins. Eu-supply.com takes 2-3% of the purchase price as a commission.

Investment bank Goldman Sachs says that B2B trading, which includes project intranets, can save between 5-35%. It estimates that aviationX – a B2B exchange run by the aerospace industry – saves £200m per year, which is about 10% per transaction. IBM reckons it has saved over £2bn in purchase costs of equipment and materials since it started trading on the Internet. It also reckons to have cut logistics costs by 24% and reduced procurement times by over 50%.

Goldman Sachs believes that B2B trading can work for the construction industry.

Cement manufacturer Blue Circle is planning to hold a reverse auction this month for about £100m of coal supplies, using its e-cement.com joint venture. It hopes that global competition will drive down costs. Others following Blue Circle's lead include a consortium comprising Laing, Bovis, Balfour Beatty, Amec and Kvaerner. These five contractors are setting up an e-marketplace that will cover tendering, ordering and invoicing. The opportunities for savings are enormous for the five contracting giants: by aggregating their buying power, they can squeeze manufacturers' margins by offering huge sales volumes.

If reverse auctions take hold of the industry, they will shake up suppliers. Small and medium-sized subcontractors and manufacturers will find it more difficult to compete with big national and international companies – unless they have a niche market. In 10 years' time, the supply of windows and doors might be dominated by three or four international giants, while small joinery firms turn out specials and low-volume regional orders, say industry experts.