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Our view is that the evolution of firm strategy in the presence of elec-tronic innovations occurs in three distinct, but related, phases. We called this the intermediation-disintermedation-reintermediation cycle (or IDR cycle) in research that we did in the late 1990s (Chircu and Kauffman, 1999; 2000a). We will next describe the three phases in terms of the strate-gies and value propositions that we have observed in the marketplace.

The intermediation phase

Firms in this phase typically pursue pure electronic intermediation strate-gies. They identify a product, service or information flow gap that no traditional provider currently occupies. Then, through technological innovation, they become an Internet-only intermediary, and thus create value in the marketplace by delivering something that has not been avail-able there before. eBay has exemplified this kind of intermediation.

Never before was there such a large-scale solution for trading non-com-modity collectible items other than through occasional and fragmented, physical regional markets. The value proposition that eBay brought to its mar-ketplace was to give life and liquidity for non-commodity items – whether they were used cars, stamp collections, boating equipment or porcelain dolls. Indeed, eBay’s play in the market was to fill in a ‘blank’ for intermediation, a remarkable entrepreneurial insight, but one that was only possible with the techno-logical innovations associated with the World Wide Web.

The disintermediation phase

In this phase, as Internet-only intermediaries attract customers, their next logical strategic step is to disintermediate traditional middlemen, if they exist, and capture broader market share. By unbundling the financial advice from the trade execution, e-brokers such as E*Trade put tremendous pressure on full-service brokers, effectively disinter-mediating them in various segments of the market. The value proposition that E*Trade brought to the marketplace with its Internet-based retail trading solutions was to reduce the commission costs for trading stocks by nearly an order of magnitude for the typical retail brokerage customer.

We also have observed Internet-only players who choose voluntarily to disintermediate themselves. This occurred when Internet-only inter-mediaries realized that they could become IT providers to their indus-tries. They recognized that they could earn higher profits as providers of a technological solution or an emerging IT standard than if they were to continue to compete head to head with traditional players who invested in IT to make themselves Internet-able.

The reintermediation phase

In the final phase, the focus shifts to firms whose interests have been harmed by digital intermediaries entering the marketplace. The broad expectation in the marketplace in the early years of e-commerce was to see traditional intermediaries fighting back, making themselves

Internet-able. An example of this occurred when the large traditional bookseller Barnes & Noble’s Bookstores was beaten to the Internet market by the bold business strategies of Amazon.com. The former launched BN.com, an Internet-only company, in May 1997, in associa-tion with an equal investment from Bertelsmann AG. The value proposi-tion that BN.com, in combinaproposi-tion with the tradiproposi-tional bricks-and-mortar Barnes

& Noble’s Bookstores, delivered to the marketplace was to interact with customers through the new channel of the Internet, speeding product distribution through regional inventory maintenance, while maintaining the immediacy of the physi-cal shopping experience in lophysi-cal stores.

However, as the market capitalizations in Table 3.1 show (as of 27 May 1999), Amazon.com’s first-mover advantage was considerable, enabling the firm to amass a market value over 35 times that of BN.com.

At the time, the market’s perception of Amazon.com was that it had potential beyond just being a bookseller; it was viewed as a market mechanism for the digital sale of a variety of goods, such as CDs and other commodity-like products, whereas BN.com was merely an exten-sion of Barnes & Noble’s Bookstores’ physical bookselling operations.

Interestingly, in the ensuing years, the market capitalization gap between the two firms would grow dramatically. The value of BN.com’s stock fell below $0.50 a share in late 2002, and the independent firm BN.com was later bought by Barnes & Noble’s Bookstores’ physical bookselling company in the first and second quarters of 2004 for around $3.00 per share. The total market capitalization of BN.com and Barnes & Noble’s Bookstores was worth $2.211 billion in 1999 ($520.40 million for BN.com plus $1690.62 million for the traditional firm). So, with about $18.8 billion in market capitalization in 1999, Amazon.com was still worth more than 10.5 times that of Barnes & Noble’s Internet and physical stores. By mid-2006, the market capitalization gap between Amazon.com (at $11.219 billion) and the combined Barnes & Noble’s Bookstores (at $2.223 billion) narrowed considerably to 5.1 times, as Amazon.com’s stock price fell, and Barnes & Noble’s received renewed market interest. Clearly, Amazon.com continues to have a much higher market capitalization in absolute terms, based on the span of its busi-ness beyond bookselling towards more of an Internet-based selling intermediary. Its success is in part explained by its ability to combine the best steps of online and offline transactions, thus creating value for its customers by replacing offline experiences such as browsing through a book or inspecting a product with online photos, virtual tours and advanced searches, and adding offline conveniences such as picking up products in stores such as Circuit City (Chircu and Mahajan, 2007). Barnes & Noble’s has not been able to achieve this, in

spite of its earlier start in the bookselling business and its Internet capa-bilities. In view of its profitability and the present value of its future growth opportunities, our sense is that Barnes & Noble’s Bookstore will continue to experience challenges in becoming a bookselling-focused reintermediator and regaining its former place in the sector.

Of course, the developments have not stopped here. Recent past changes and other changes that are under way – such as in the electronic bond markets that we discussed earlier and the Internet-based book-selling sector – suggest that future changes in the market structure of industries will be impacted by the Internet-only strategies of new entrants and the Internet-enabling strategies of incumbents.