Analysis: eBay's hot -- in more ways than one

From Beanie babies to assault rifles? That pretty much sums up the range of items for sale on the Web site of overnight Internet sensation eBay Inc.

From Beanie babies to assault rifles? That pretty much sums up the range of items for sale on the Web site of overnight Internet sensation eBay Inc., the zero-to-hero IPO that was selling for $18 only six weeks ago and these days is trading for north of $115.

California-based eBay Inc. (Nasdaq:EBAY) runs the most popular - and rapidly growing - auction site on the Web. Wall Street has fallen in love with the stock because the company is not only one of the few Web IPOs that was already profitable when it went public, but also because its business model offers 90 percent-plus gross margins that promise an ever-rising river of profits for years into the future.

A disclaimer in eBay's IPO registration statement points out that the company does not monitor what is actually for sale on its Web site - which is why the company is able to boast such enormous gross margins in the first place. Instead, a staff of some 130 manage an almost totally automated auction operation in which more than 900,000 items are listed for sale and more than 41,000 change hands every day. eBay simply manages what amounts to a flea market in cyberspace, bringing buyers and sellers together and taking an average 5 percent cut on each successfully completed transaction.

What's going on?
But a close second-look at what in fact is actually for sale on the eBay Web site reveals an utterly stupefying array of apparently illegal, contraband, and gray-market merchandise - exactly the sorts of goods that should not be offered for sale on the Web or anywhere else. Items range from hollow-point ammunition to switchblade knives, from burglars' tools to the skins and ivory of endangered species. A simple search of offerings listed on the Web site on Nov. 11 and 12 revealed the following: two cases of hypodermic needles, five sets of Kevlar body armor, 33 AK-47 semi-automatic rifles, four lots of "Talon" flesh-shredding ammo, one box of contraband Cuban cigars, 11 lots of brass knuckles, 148 lots of federally banned switchblade knives, six UZI submachine guns, one Mas 49/56 sniper rifle, three night vision rifle scopes, one $3,500 pair of Leopard skin pants, a CDRom containing the text of The Anarchist's Cookbook as well as instructions for how to build cable signal descramblers, how to obtain Microsoft software for free, and how to get college degrees for free, 27 lots of drug accessories and head-shop paraphernalia, and 1,217 lots of ivory items including a "bag of elephant ivory dust." (Microsoft is a partner in MSNBC.)

Just the beginning
"That just barely scratches the surface of what's available on that site," says Nick Wagner of Valparaiso, Ind., a knife dealer who says that while checking out the eBay site he spotted what appeared to him to be an illegal knockoff of a German-made knife for sale on his own Web site. Wagner says he complained repeatedly to eBay but never received a response.

eBay's corporate counsel, Brad Handler, says the company in fact knows that at least some of what is offered for sale on its site is illegal. But maintains Handler, the company can't "pre-screen" items offered for posting without incurring legal liability as a publisher - a risk the company apparently regards as greater than the liability it might incur from actually facilitating the trafficking in illicit and dangerous goods.

Action promised
As a way out of the problem, eBay's senior manager of customer support, Keith Antognini, says the company relies instead on its 1.2 million users to identify the questionable items, and that once having been alerted to them, eBay takes "quick and decisive action." Penalties can range from warnings to expulsion from the site. Antognini says his company has recently set up a "proactive legal buddy" system in which organizations that see suspect items listed for sale can also complain.

When asked if eBay would permit weapons such as AK-47s to be offered for sale on his site, he answered without hesitation, "That would be an example of an illegal item that we would not allow on the site."

When asked if switchblades would be permitted for sale, he said, "We've received no complaints. I'll have to investigate the matter further."

Though individually vetting all items listed for sale on the site would obviously be time-consuming and costly, it doesn't seem an extraordinarily burdensome task to identify simple categories of goods that should be flagged for a closer look. But when asked why eBay doesn't do even that, Handler answered that such a limited "proactive" gesture would itself create liability as a publisher, and that the "legal buddy" system is the route the company has chosen to follow.

Apparently the buddy system leaves something to be desired. Title 15 of the United States Code, Sec. 1243, says, for example, that anyone who "manufactures, sells, or possesses any switchblade knife, shall be fined not more than $2,000 or imprisoned not more than five years, or both."

Is it illegal?
eBay, of course, doesn't actually "manufacture, possess, or sell" any of the items listed on its site. But at least in the case of switchblade knives, that may not be good enough, for Title 15 of the U.S. Code further stipulates that the penalties also apply to anyone who "knowingly introduces, or manufactures for introduction, into interstate commerce, or transports or distributes in interstate commerce, any switchblade knife." Further and separate penalties apply for the advertising of such knives to the public as well.

It is hard to see how eBay can claim it doesn't know this sort of trade in switchblade knives is taking place on its site since the site currently lists 148 separate lots of such knives, at prices ranging from $6 to $266 per knife. Many appear to be manufactured in Italy. One knife, offered by an individual in Tucson, Ariz., carries the limp and utterly meaningless exculpatory stipulation that the buyer must "be responsible...and know the laws," and "be 18 years."

Eleven states, including New York, currently make possession of hypodermic needles a criminal offense. But on Nov. 12, the eBay site listed three separate lots of hypodermic needles for sale at prices from $9.99 to $17.50 per lot. The listing for one lot, from a Texas seller with the e-mail alias of "chemtrader," carried the caveat that the item was being offered as "a medical collectible only..." was "not intended for use..." and should be "kept away from children."

Weapons trade
Vast amounts of deadly ammunition and weaponry are available on the site. For the most part this trade appears to be perfectly legal, though it is hard to see in what way it is a socially desirable activity.

Federal law allows anyone over 21 years of age to purchase hollow-point "cop-killer" exploding handgun ammunition through the mail. As of Nov. 12, four separate lots were available on the eBay Web site. One lot, from a Texas seller, carried the following description: "This is the last of the good stuff, get it while you can." Another lot, from a Florida seller , featured a photograph of a box of Finnish-made, hollow-point bullets, and carried the following description: "Equivalent for Winchester law enforcement SXT ranger ammo."

Federal law requires anyone who makes their living buying or selling the guns themselves to have a federal firearms license. The law also covers so-called hobbyists who offer guns for sale in interstate commerce. And, according to an official at the Center For Prevention of Handgun Violence in Washington, D.C., the so-called Brady Bill law requires such individuals to conduct background checks on anyone wanting to buy a weapon from them.

But according to Det. Darren Edwards of the firearms licensing division of the Connecticut State Police, the law does not cover individuals who claim they are not professional gun dealers and who traffic in weapons only intrastate. This in turn has spawned a flourishing traffic in guns from unlicensed dealers at local flea market gun shows. The eBay trade in guns suggests this business is now migrating to cyberspace.

The federal Endangered Species Act has banned the importation and trade in elephant ivory, tortoiseshell, and other such products. But according to Simon Habel, the director for the World Wildlife Fund's program that monitors trafficking in endangered species, the law does not cover commerce in such goods that were already inside the United States when the ban was enacted in 1989. The eBay site lists nearly 2,000 ivory items alone, but a sampling of individual lots turned up nothing to indicate whether the goods were in fact legally saleable.

eBay's Antognini said the World Wildlife Fund would be a good candidate for eBay's "legal buddy" system. "We have a safe harbor for trade here," he insisted.