Giant slayer: little-known GSI Commerce puts the hurt on Amazon.

There is no king in King of Prussia, Pa., but if there were it would be Michael Rubin, the 33-year-old wunderkind chairman and CEO of GSI Commerce. Headquartered in this nobly named 18th century city on the outskirts of Philadelphia, Rubin has played David to Amazon.com's Goliath over the past four years, battling for corporate clients who seek online sales and distribution capability.

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Both GSI and Amazon provide soup-to-nuts, integrated ecommerce solutions that spare companies from developing and managing their own Web sites. Both companies also offer downstream order fulfillment, inventory management and customer service. Despite being a fraction of Amazon's monstrous size, GSI deftly wields a mighty slingshot, besting its rival with a higher number of signed, major clients.

GSI has racked up 50 big name accounts, branded manufacturers, retailers and entertainment companies like Burberry. Estee Lauder, Comedy Central, NASCAR, RadioShack, HBO, Linens & Things, palmOne, Polo, Ace Hardware, kate spade and the Public Broadcasting System. Consumers who visit these companies' Web sites to buy something won't know that GSI is doing all the work behind the scenes--taking their online order, picking, packing and shipping the merchandise, handling their post-sale queries and, most importantly in the online world, analyzing their buyer preferences to craft individualized email marketing and advertising campaigns.

GSI and Amazon are the market leaders in the nascent ecommerce outsourcing business, selling a comprehensive suite of services that assist companies' online sales and distribution. While there are other such soup-to-nuts providers like Digital River, VCommerce and Escalate, GSI and Amazon are way ahead in terms of clients.

Both companies also compete with providers of piecemeal ecommerce solutions, such as IBM and ATG in the Web site development space; Submit; Order, FedEx and United Parcel Service in the order fulfillment/inventory management area; and Siemens and Avaya in the call center space. But when it comes to a "pure alternative," says Legg Mason vice president and senior analyst Scott Devitt, "there's really only GSI and Amazon, and that's not a bad position to be in." Amazon declined to comment.

Depending on the client's wishes, GSI will do all or part of the following: design and manage the company's online store using its own and partnering vendors' technology, fulfill customer orders from two 500,000-square-foot distribution centers in Kentucky (or drop-ship merchandise directly from the manufacturer to the customer's home), and provide customer service through its 87,000-square-foot, 350-person call center. Most GSI clients want the whole shebang, perceiving these tasks better left to someone else.

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In the past year, GSI has undergone a metamorphosis. It has refashioned its organizational structure to provide enhanced customer service, hired a co-president to share operating responsibilities with Rubin and brought in a new CIO to upgrade the range of data mining and analytics services provided to clients. Regarding the latter, GSI is working with leading CRM software developers like Epiphany and Omniture to extract more intelligence on customer buying behavior, giving GSI's clients greater range to up-sell and cross-sell their wares.

The emphasis at GSI is on growth. On June 1, the company closed a public offering that raised $80 million, and the cash infusion is earmarked to enhance its clients' ecommerce businesses and enrich the overall customer experience via internal technology development and acquisitions. GSI anticipates improving the features and functions, speed, navigation, search and usability of its clients' online enterprises, as well as the customer service, fulfillment and other services it offers in its ecommerce platform.

After losing money its first four years, publicly traded company GSI finally reported a full-year profit of $340,000 on revenue of $335.3 million in 2004, following the footsteps of rival Amazon, which reported its first full-year profit in 2003 after nearly a decade in business. GSI projects earnings this year in the $10 million to $12 million range on revenue of $390 million to $410 million.

Where GSI is leading, however, is in soup-to-nuts ecommerce solutions, a business concept Rubin says he conceived while vacationing in the Caribbean in 1998. Although tiny when compared with Amazon, whose 2004 fiscal year revenues were $6.9 billion. GSI was first to realize that retailers and manufacturers would prefer to outsource online sales, marketing, distribution and customer service than undertake these activities internally.

"I anticipated the bubble would burst and that would dampen companies' enthusiasm to venture online, given the cost of developing and maintaining Internet technology," Rubin says. "I also believed that the winners would be the big brands and retailers, not the upstart Internet companies. I figured more than 75 percent of ecommerce would be done by multichannel retailers." In his analysis, those companies saw the opportunity to generate some online sales revenue but also saw how they could push customers into their stores through innovative online and email marketing campaigns and to up-sell and cross-sell customers by analyzing their buying preferences and patterns.

Rubin also realized that many retailers and manufacturers lacked expertise in shipping single orders to customers; their supply chains were organized instead around delivering large palettes of diverse merchandise to brick and mortar stores. "While retailers recognize the importance of ecommerce to overall strategy, the level of investment in technology, infrastructure and expertise to support ecommerce is high," he explains. "I felt retailers would be more interested in a partnered solution than going it alone."

His beach-side musings proved prescient. Many retailers and manufacturers, as it turned out, were eager to outsource their ecommerce activities. Like GSI, Amazon Services, the Amazon subsidiary that unveiled its ecommerce platform in 2001 via an agreement with retailer Toys 'R' Us, recently signed up a bevy of new customers, including Sears Canada, apparel retailers bebe and OshKosh B'Gosh, and leading U.K. retailer Marks & Spencer.

Rubin's timing also was perfect. While GSI scrambled to build an ecommerce outsourcing platform, the bursting of the dot-com bubble in 2000-2001 drained corporate investments in ecommerce. As companies reconsidered the Internet in 2003 and 2004, they now had options-outsourced solutions that were cost-effective, technologically sophisticated, robust and well-positioned to reap a share of growing online sales revenue.

After relatively flat Internet sales growth following the technology debacle, online merchandise sales, excluding groceries, automobiles and travel, were up 23.5 percent in 2003 to a record $69.2 billion in 2004, according to research firm Gartner.

Even more promising is the future of ecommerce. Forrester Research predicts online sales will grow at a 14.3 percent clip to reach $176.1 billion by 2010, and account for about 15.2 percent of total merchandise sales, compared with 8 percent in 2004. Why the surge? Consumers once wary of buying online because of security and reliability issues are now regular shoppers. "Roughly 90.5 million consumers purchased online in 2004, compared to 72.8 million in 2003," says Patti Freeman Evans, a retail analyst with Jupiter Research. "Technology innovations like broadband access have enhanced the ecommerce shopping experience."

Ecommerce is tantalizing for more than just online sales. Approximately 25 percent of offline purchases are currently shaped by online research, say Evans, who predicts this percentage will increase to 30 percent in the next five years. "Retailers are realizing they can drive traffic into their stores through the online venue," she asserts. "However, not many of them have the infrastructure or internal expertise to run an ecommerce business in-house."

Foot in the Door

Rubin got his first taste of business as a teenager back in the 1980s, repairing and selling skis out of his parents' garage, a venture that marked his entree to the sporting goods industry. In 1991, only 19 years of age, he launched KPR Sports International, an off-price sporting goods distribution business, which by 1997 had morphed into a company called Global Sports.

As he mulled over selling ecommerce solutions. Rubin targeted companies in the sporting goods industry, such as Modell's, Timberland, Dick's Sporting Goods and Sports Authority, that sold his merchandise and might want an online sales presence. In 1999, he approached these companies about setting up and running their ecommerce operations. When they signed on, he sold off Global Sports' traditional businesses to focus on ecommerce.

To downplay past associations with the sporting goods business. Global Sports became GSI Commerce in 2002. GSI today has three basic business models: (1) run a company's ecommerce business and own the inventory it sells, taking all the inventory risk and sharing in the revenue generated; (2) run a company's ecommerce business and sell the customer's inventory on a consignment basis for a fee, or (3) sell inventory it owns to clients who market it on their own Web sites. GSI then ships the items to customers through its two fulfillment centers or its network of 400 drop-shippers.

As it matured, GSI began to attract clients outside the sporting goods industry; today, only 15 of its 50 customers hail from that business. The company targets retailers and manufacturers within six broad categories of merchandise--health & beauty, sporting goods, consumer electronics, music & video, apparel and home--although like Amazon it continues to expand into other general merchandise categories.

Footwear manufacturer Timberland, a recent client, uses GSI for the front and back end of its ecommerce experience, which includes Web site hosting, marketing and customer service via a call center, says Troy Brown, senior director and general manager of Timberland.com, in Stratham, N.H. "We do the order fulfillment and inventory management through our own system."

Timberland.com signed with GSI, in part, to access the provider's technology, "GSI leverages its technology spend across 50 partners, which gives us best-of-breed, Internet-based software without investing in it internally," says Brown.

Another attraction is that GSI concentrates solely on its ecommerce whereas it's just one line of business for Amazon. "We wouldn't have gotten that kind of customer-focused culture at Amazon," says Brown. "When you're that large, you become dictatorial and want customers to listen to what you say, rather than the reverse."

Major League Baseball has bought the whole kit and caboodle of services from GSI, as have 80 percent of its clients. "We own the inventory, but GSI runs our online store from a technical and services standpoint," explains Noah Garden, senior vice president of ecommerce at MLB.com, the New York-based interactive media division of Major League Baseball. "We purchase the inventory and send it to GSI's warehouses, where they do all the picking, packing, shipping and fulfillment."

Despite the financial muscle of baseball team owners, the cost of building and running an ecommerce platform internally was deemed too high. "We don't want to hire 100 technology professionals, build warehouses and a call center," says Garden "GSI already has that and more."

Garden says he conferred with Amazon about its ecommerce platform, but selected GSI because of concerns over Amazon's direction. "I felt outsourcing wasn't really their core competency," he explains. "I just didn't get a comfortable feeling that we would succeed with their platform. They've evolved to a point where I just don't know who they are anymore."

Analysts argue that Amazon is conflicted by being a seller itself and having multiple sellers on its platform. "If I'm J. Crew and I want to develop a partnership with Amazon, I will sometimes have to compete on their site and on the same page with a competitor," says Adam Sarner, a research analyst with Gartner. "If you call up Toysrus.com, right next to that company's name is Amazon.com. You can click on other stores from that page that have nothing to do with Toys 'R' Us, including stores that sell competing products."

This competition presents other concerns. "One can argue that the information and intelligence Amazon collects from its client base will be used to improve its own distribution," says Devitt from Legg Mason. "GSI can make the case to a potential customer that by going with Amazon they could possibly be feeding a competitor. And they wouldn't be far off."

On the plus side, Amazon's incredible distribution system, dense traffic and enormous customer base are unparalleled in the online world. "They've got 46 million 'active' customers, which means that many people made a purchase in the last 12 months," Devitt notes. "They're like the anchor tenant in a shopping center, drawing traffic to all the other stores. The difference is this anchor tenant is actually able to strategically improve its own business by the data it gathers from the other tenants."

The Financial Challenge

From an investor's perspective, GSI is not free of risk. The company's brief operating history and low market visibility give pause, as does an accumulated deficit of $177.3 million, racked up through years of no profits. Lack of sufficient cash requires funding ecommerce operations primarily from the sale of equity securities, hence the newest offering. Of even more concern is ever changing consumer preferences and their impact on GSI's clients. With 62 percent of last year's revenue coming from just five customers, losing even one would spell trouble.

Countering these risks is the company's investments in online marketing services and other enhanced customer services, such as its licensing of best-of-breed CRM software from vendor Epiphany and analytic software from Omniture. "We can see who purchased what or who clicked on which emails to gain insight into what customers are doing," says Jeff McCall, GSI vice president of one-to-one marketing. "The idea is to build interactions--to create a cycle of engagement with customers. Repeat behavior is the holy grail here.

"Say someone goes on katespade.com, one of our partners, to buy a high-end purse, but when they see a category for notecards, they spend a long time on this page," says McCall. "We also find that other people do the same, and we now infer that maybe these people are looking to buy a relatively inexpensive gift." They can then create a marketing campaign that drives those customers back to the site to buy the notecards.

GSI also provides low-tech services like monogramming, gift wrapping and greeting cards, but its mainstay is innovative technology. Last year, it developed a customized boot sales campaign for Timberland.com that allows consumers to select from 15 components, including color and materials. GSI is currently working on syndicating Timberland's ecommerce platform to enable the same functionality on portals like Yahoo! and sites demographically suited to Timberland's customers.

Rubin says the Timberland ventures are not atypical. "We will sit down with our partners' strategy teams and work to build a five-year plan that includes a host of good ideas," he adds. "Our strategic direction is to find as many incremental ways as possible to add more value to our partners' business. They come to us because they believe we will make them more money than they will make on their own. So far, we've had a great track record." Indeed, a track record that makes them sleepless in Seattle.

GSI: Growing Fast

Net revenue in $ millions

1999     $5.5
2000    $42.8
2001   $102.6
2002   $172.6
2003   $241.9
2004   $335.3
2005E  $405 to $420

Source: Company reports

Note: Table made from bar graph.