What is behind the financial success of eBay?

I think if you really go back to the essence of it, almost back to the origins, eBay was a fundamentally very different business. It was born of the Internet. It took advantage of the unique technology and a new communication medium — the many-to-many connection that was never possible before. But it applied to it a completely new business model.

So, unlike many other business, which were a transliteration of an existing business onto the Internet, before eBay you actually couldn’t do what eBay enables you to do.

What we’ve really created is a community commerce model. But in additional to that, this business model has some very unique characteristics. We have revenues that are very adaptable, because they are driven by the ingenuity of millions of entrepreneurs. We are a marketplace manager. It’s a very diversified revenue stream because we have thousands upon thousands of different business verticals represented on the site, and each transaction is just a couple of dollars. It’s a very predictable and resilient revenue stream.

On the cost side of the equation what’s remarkable about eBay is that we don’t have many traditional business costs. We have no inventory, no cost of goods, no warehouses, no inventory write-downs, no salesforce, no commissions, it’s actually a very clean business model. This has translated into high gross margins, high profitability, and high cash flow and that’s really what has made eBay stand out from the early days.

Beyond this business model, what makes eBay a financially well-engineered company?

Pierre Omidyar, founder of the company, recognized really early on that what we were building was a marketplace. Imagine that you are the owner of a small business, and you have a small store in some town. You are almost making a bet on eBay by putting your business there. What Pierre recognized is that it was very critical for this to be a profitable business because our customers expected it and needed that stability on which to build their businesses.

As we were building this organization, one of the things that Pierre did was hire people from very traditional companies. They were from the likes of Proctor and Gamble, Disney and McKinsey, and a whole range of very traditional companies where in fact the basic business rules have always applied.

Those basic rules are: You don’t grow your expenses faster than your revenues, in fact you focus on building a revenue base first. You really focus on building the kind of internal mindset in your business units and managers that ‘hey, profitability matters.’

In every business, to be successful, you need a constraint. Our constraint was that this was not investment for the sake of investment.

How much of eBay’s success can be attributed to the basic model and first mover advantage, versus the way you executed the model?

This is an interesting question. We did begin with some incredible advantages in terms of just the fundamental business model. But, back when I started with the company, eBay was actually one of many. We were very worried about competitors at that time. Yahoo! was a giant corporation that we were very scared when they announced a nearly identical product that was going to be free. It was a classic move by an entrenched competitor that wanted to wipe a company out.

There were some tremendous challenges early on. Even though we were there, we were not the first. A little company called OnSale had a bigger business when eBay started. When we approached the business we looked at it very analytically. We tried to understand the business from a seller standpoint — the number of users, the number of visitors, the activity of a user — and tried to build the analytics into the business as we were growing. In terms of competition we always remained focused on what we believed was our business rather than going off into a bunch of different areas. One of the reasons we didn’t go off into other areas is that we felt it wasn’t financially prudent to jump into new businesses. And that probably unwittingly protected us.

And as you have become bigger and more entrenched in the market, how are you balancing short term versus long-term strategies financially?

It is a constant challenge. One of the things we are faced with, with a business opportunity that is as big as the one we have, is enormous temptation to continue to diversify the business. But in fact we ask ourselves a few basic questions: Is this strategically relevant? Are there in fact strong synergies with the business we have created? Is it in keeping with the overall vision of this company? And is it financially prudent? We always apply the constraint of ‘does this actually pencil out in terms of dollars and cents.’

So we have to constantly create balance. Investors want two things. They want top line growth, but they also increasingly want bottom line growth. What we are aiming for is a balance — we don’t want to mortgage the long-term needs of the business just for the sake of providing near-term profitability.

In the long term what are the overall financial goals of the company?

What we have said is that the goal of the company is to get to $3 billion in revenue in 2005. We have also laid out a clear and explicit model for the profitability of the company — gross margins in the 80 to 85 percent range and an operating margin in the 30 to 35 percent range — which we expect to get to in advance of 2005.

As the CFO of an Internet company, what parameters and metrics do you constantly monitor, inside and outside the company?

This is an incredibly data rich business. One of the things that we’ve had to be careful about is ending up with complete information overload — so much data that you can’t make much sense of it. One of the things that we insisted on very early was to try to focus on information that was actionable and meaningful.

We capture a whole host of metrics. We actually have a team that is dedicated to just capturing the metrics of the business across the company on a global basis. We track metrics over time to incredible detail. We watch those very carefully.

We also watch general patterns, such as what’s happening with the overall adoption of the Internet, the amount of e-commerce revenues in the United Sates and globally, and what’s happening to some macroeconomic indicators.

Given your past experience in sales and various other areas, what in your experience do you dig in the most to help with you current work?

It’s not different. It’s all about resource allocation, the value of different investments, and making the right choices. The right choice is as much about saying no as it is about saying yes. We are blessed by the fact that we have so many opportunities. We have to be careful about chasing the wrong ones.

So far we’ve been really lucky in that we’ve been very disciplined. If you think about the heady days of 1999 and 2000, we didn’t go out and make tons of acquisitions in unrelated businesses or equity investments in unrelated businesses, which, for many other companies came back to bite them.

What is the riskiest investment that eBay has ever made?

We haven’t made any risky investments. We don’t decide to go in and build the Taj Mahal at the drop of a hat. We have a “toe in the water” approach where we try something out on a small scale, see if it works and then incrementally build it. We really look to see what’s working before we jump in. One of the advantages we have is that we have an enormous amount of experimentation and risk taking going on by the sellers on the site.

Two years ago if you had asked me which business categories I thought we were going to be in, I don’t think that I would have ever thought that we would be in aviation, autos, golf tee times, home and garden or photo-electronics. And that’s because people are innovating constantly trying to build a business with micro investments. We watch to see what they do and what works well, and we invest in that area. So we have been allowed to be quite careful.

And how do you view technology investments and infrastructure investments as a CFO?

Very simple. Technology is the infrastructure on which this company is built. It is absolutely essential to the growth of this company, and as with everything else it has to be balanced with relative choices. So we have a choice to make. For example, whether we are going to invest in an internal data warehouse capability, which will help us analyze the data better, or do we spend the money to build out a new business category? And it’s always a relative decision about which is ultimately going to meet the needs of the company better, which will actually help us grow revenues.

What we look at are some fairly traditional financial ratios. We look to see what the payback is going to be and what the return on investment is going to be, the total investment, the certainty of success, the size of the market, and intangibles such as strategic fit and relevance. You can’t view it with a purely quantitative lens. You have to view it in the broader context. If you view it completely quantitatively you end up making the wrong decision.

How do you juggle the needs of Wall Street, versus your senior management, versus your employees versus your customers?

We’ve come to realize that if you focus on what’s right for the company, Wall Street will take care of itself. You cannot get overly crazed and focused on trying to look good. If you do that you run the risk of running a bad company.

What you have a huge responsibility to do is that once you’ve made your decisions you have to communicate them with great clarity. What I’ve found is that every time we’ve clearly communicated what we intended to do, Wall Street understood.

Was eBay ever involved in the crazy “dot-com culture” that backfired in 2000?

I really think not. Obviously this is based on what I read in the press about what the culture was like at other companies, but from the very beginning we knew we were building something big. We knew we were building a company and a concept that would be far-reaching. We were aiming to create a business that in our view was going to be built to last. We never moved into fancy offices, didn’t build a huge campus, didn’t get buildings with our name plastered on the side, it was very low key and very much in keeping with the management of the company.

How does that translate into numbers?

I think it translates into numbers in a very subtle, but very fundamental way. A new manager that joins us, recognizes within minutes (and if he doesn’t recognize it he doesn’t last here very long) that this is actually about building a profitable company. This is about building revenues with constraint, and that constraint is profitability.