Amazon.com
Note: Georgetown MBA candidates Sarah Knight, Harry Kobrak, and Paul Lewis prepared this case study under the direction of Professor Michael R. Czinkota; © Michael R. Czinkota. In addition to interviews with Amazon.com personnel, use was made of company reports and media coverage of Amazon.com.
Amazon.com opened its virtual doors in July 1995 with a mission “to use the Internet to offer products that educate, inform, and inspire.” In early 1999, Amazon.com was the largest Internet-based seller of books and music and operated one of the most frequently used web sites on the Internet, offering over 4.7 million discounted books as well as CDs, DVDs, computer games, audio books, and videotapes. The company had an 85 percent share of online book sales, with over 6 million customers in more than 160 countries.
Customers use Amazon.com’s interactive web site both to select and to purchase products. Specifically, customers are able to use the site to search for titles, browse selections, read and post reviews, register for personalized services, make a credit card purchase, and check order status. Most orders are shipped to customers directly from Amazon.com’s warehouses, usually within 24 to 72 hours. If a customer needs to return a product, complimentary return postage is provided to the customer.
Amazon.com communicates with its customers electronically throughout the order process. A confirmation e-mail is sent to the customer when the order is received, and another when the order has been processed. Customers can then track the delivery status of orders online by using a key code number. Customers who prefer not to use a credit card on the Internet may fax or telephone in the credit card number using Amazon.com’s toll-free numbers.
Amazon.com’s headquarters are located in Seattle, Washington, with distribution facilities in Seattle, Delaware, Nevada, the United Kingdom, and Germany. In 1999, the firm had over 2,100 employees and was expanding rapidly. Since May 1997, Amazon.com has been publicly owned, with common stock shares traded on the NASDAQ National Market exchange in the United States. Despite persistent operating losses, Amazon.com’s stock was trading at $209 a share, or 23 times its initial public offering price of $9 in December of 1998.
Major Events and Players
in Its Development
Culture Defined
The most significant player in Amazon.com’s short history is its founder and chief executive officer, Jeff Bezos. With a background in computer science and finance, including fund management at Bankers Trust, Bezos decided in 1994 that the Internet could provide customers with services unavailable through traditional retailers, including discounted prices, wider selection, and greater product information.
In a November 1998 interview with The Washington Post, Bezos explained that he sees the success of electronic retailers as depending on their ability to analyze each customer’s tastes. “If we have 4.5 million customers, we shouldn’t have one store,” he said. “We should have 4.5 million stores.” Using its proprietary personalization technology, the Amazon.com web page greets customers by name and, through mathematical formulas that analyze a customer’s purchase history, provides instant recommendations for other products to consider for purchase.
Bezos oversees seven vice presidents, a chief financial officer, chief information officer, and chief logistics officer. The CLO, Jimmy Wright, was hired in July 1998 after retiring from Wal-Mart. Wright is responsible for all global supply-chain activities, including management of distribution centers, product purchasing, distribution, and shipping.
Since its founding, Amazon.com has undergone frequent and significant changes to maintain its leadership position as an Internet firm. Among the most notable developments are:
May 1997Initial public offering of 3 million shares of common stock. The capital generated from going public was used to pay existing debts and make future systems investments.
July 1997Multimillion-dollar advertising and promotional agreements finalized with America Online and Excite. Similar agreements have been made with Yahoo!, Netscape, @Home, GeoCities, and AltaVista.
June 1998Expanded product line to include music. Amazon.com now offers more than 125,000 CD titles. Through its web site, Amazon.com’s customers can listen to song samples before
purchasing. As of December 1998, Amazon.com stood as the Internet’s largest music retailer.
August 1998Purchase of Junglee Corporation for its comparison-shopping technology and PlanetAll, an address book and scheduler program for customers, for $270 million.
September 1998Amazon.com established local Internet presence in Germany and the United Kingdom by purchasing two existing online book companies. In just three months, Amazon.com became the leading online book-seller in these markets.
Sales and Profit Record
In its four-year existence, Amazon.com has experienced explosive sales. In 1998, sales jumped to just under $610 million, a 312 percent increase from 1997 sales of $147.8 million (see Table 1 for details). Amazon.com’s customer base has been building at a similar rate. In 1998 customer accounts stood at 6,700,000, a 343 percent increase from 1,510,000 in 1997.
Despite rapidly growing sales, Amazon.com continues to generate multimillion-dollar operating losses ($111.9 million in 1998, compared with $32.6 million in 1997). According to the company’s 1998 10-K: “the company will continue to incur substantial operating losses for the foreseeable future and these losses may be significantly higher than our current losses.” These persistent losses are due primarily to low product gross margins. The company is also making significant investments in its technological and distribution infrastructure, as well as on building brand recognition.
The Amazon.com Business Model
The Amazon.com business model creates value for customers by offering:
1. Shopping convenience (from home or office)
2. Decision-enabling information
3. Discounted pricing
4. Ease of purchase
5. A wide selection
6. Speed, and
7. Reliability of order fulfillment
No single aspect of Amazon.com’s business model is sufficient to create a competitive advantage. Locational shopping convenience, ease of purchase, and wide selection are clearly not sources of sustainable competitive advantage. Customers have long been able to order books from wide selections through catalogs or by telephone. Furthermore, decision-enabling information is available at a plethora of online sites and most public libraries. Finally, speed and reliability are clearly superior at a “real” bookstore, where one can receive the product immediately (as long as it is in stock). Thus, it is the combination of some or all of these characteristics that comprise Amazon.com’s competitive advantage. As a pure retailer, which does not engage in the physical customization of the products it sells, Amazon.com creates value for customers through a series of information services and logistical processes.
Logistical Processes as a Source of Competitive Advantage
Maintaining and improving operational efficiencies is absolutely essential for Amazon.com. The ability to offer a wide selection, discounted prices, speed and reliability are all tied directly to the company’s logistical competencies.
In a bid to simultaneously improve its margins and increase price discounts, Amazon.com is attempting to purchase more product directly from publishers. The firm hopes to increase the mid-40 percent discounts received from wholesalers to the mid-50 percent rates available from publishers. Circumventing wholesalers would also enable the company to shorten shipping times.
Between 1996 and 1998, Amazon.com increased its Seattle warehouse space by 70 percent and built a new warehouse in Delaware. It also began leasing a highly mechanized distribution facility in Fernley, Nevada. These recent investments in material handling systems, together with the increases in warehouse capacity, are expected to result in a six- to eightfold improvement in throughput within one year. Currently, Amazon.com ships 20 percent of books on the day they are ordered and aims to raise that rate to 95 percent. This is a staggering logistical challenge as the company stocks over 700,000 copies of approximately 200,000 titles.
Despite Amazon.com’s focus on improving operational efficiencies, industry analysts are sharply divided on whether the company’s logistical processes are truly competitive. J. Cohen at Merrill Lynch Capital Markets observed that:
[Amazon.com] is not large enough (in terms of order volumes and distribution infrastructure) to generate the economies of scale necessary to compete effectively with large physical-world retail chains. At the same time, Amazon.com is far too large in terms of the cost structure (associated with its proprietary inventory and distribu-
tion systems) to compete effectively with companies that forego that structure and provide a linkage with existing
distributors.
Amazon.com’s disadvantages in scale relative to traditional booksellers, such as Barnes and Noble, are apparent. It is important to note that in 1998, Internet book sales accounted for approximately $300 million, slightly less than 1 percent of the U.S. market. Despite the expectation that Internet book sales will double in 1999, national retailers will retain massive scale economies. Furthermore, both Borders and Barnes and Noble have web sites, which are expected to grow with the market
(or faster). Barnes and Noble, which formed a strategic alliance with the German media conglomerate Bertelsmann, has direct relationships with some 20,000 publishers and distributors. In addition, Barnes and Noble’s state-of-the-art distribution center has roughly 750,000 titles available for same-day shipping.
Building Brand Equity
Amazon.com has steadily increased its spending on advertising and promotion both in absolute terms and as a percentage of revenue. Between 1996 and 1998, Amazon.com spent roughly one-quarter of its sales on advertising and promotion. The company invested in promotional relationships with both the domestic and international sites of America Online, Excite, and Yahoo!.
Amazon.com’s efforts to build brand equity through its extensive advertising and promotion have received mixed reviews from industry analysts. One Merrill Lynch analyst criticized Amazon.com’s attempt to develop brand equity, questioning its value for the distributor of commodity products, such as books:
We do not believe that online commodity product sales produce the sort of brand equity generated by the distribution of proprietary information or media products. The implication here is that while it may make economic sense for Yahoo! to lose money while building a user population, it probably does not make sense for Amazon.com to follow the same path.
Although advertising and promotion are extremely important to a growing business, it is doubtful brand equity alone will be enough to gain new customers and retain old ones if competitors with superior logistical systems and identical products enter the market. This increases the importance of Amazon.com’s value-added information services to customers.
Value-Added Information Services
Amazon.com is strongly focused on achieving value-added differentiation through customer-oriented information services. Perhaps the most important information service Amazon.com provides is a comprehensive online catalog, which enables customers to search for books or CDs. Amazon.com’s proprietary software will also track individual customer orders and subsequently recommend titles of a similar genre or related subject matter. Thus, Amazon.com’s site provides automated customization for users. Jeff Bezos, the founder and CEO, has a vivid vision for how this technology will be used:
Personalization is like retreating to the time when you have small-town merchants who got to know you, and they could help you get the right products. The right products can improve your life, and the wrong products detract from it. Before the era of mass merchandising, it used to be that most things were personalized. The promise of ...
customization is ... you get the economies of mass
merchandising and the individuality of 100-years-ago
merchandising.
In addition to retaining customer preferences, the system retains customer purchase information, eliminating the need for repeat customers to reenter the same address and billing information. This is an extremely powerful tool and may represent a strong incumbency advantage. For example, in the fourth quarter of 1997, Amazon.com’s automated system captured information for over 1.5 million customers, including e-mail address, mailing address, credit card number, and the products they purchased (including various classifications such as genre or topic). Unless a customer objects, Amazon.com reserves the right to utilize—or even possibly sell—this information.
Repeat customers account for approximately 60 percent of Amazon.com’s orders and this proportion appears to be growing. This statistic may indicate a high level of customer satisfaction. However, it could merely indicate customers’ lack of awareness of Amazon.com’s new online competitors, such as barnesandnoble.com. In the Barnes and Noble and Bertelsmann joint venture announced in late 1998, both companies pledged to invest $100 million in expanding barnesandnoble.com’s U.S. sales (compared to $20 million for the Barnes and Noble superstores). This will lessen the incumbency advantage of brand awareness. Amazon.com will be under pressure to provide a higher level of value-added differentiation in customer service. Ultimately, Amazon.com’s market success depends on its ability to maintain and grow its customer base by knowing and serving its customers better than its competitors.
International Activities
Amazon.com began direct exporting almost immediately after its inception in 1995. Preliminary exports could be described as reactive, as the company’s first international customers sought out Amazon.com rather than vice versa. Early on, international orders were more concentrated in nonfiction technological and computer-oriented publications, although that customer base soon diversified. Amazon.com’s international orders now follow a similar pattern to domestic orders, with customer interest in a wide range of subject matter.
Amazon.com currently sells to over 160 countries and is aggressively pursuing international sales through direct exporting as well as local overseas presence. In 1998 Amazon.com established a local presence in the United Kingdom and Germany by purchasing two existing
online book companies, Telebook and BookPages. Amazon.com is currently the largest online retailer in these markets. The European subsidiaries have been set up to serve the entire EU market and have currency and shipping procedures in place. These efforts, as part of Amazon.com’s international strategy, appear to be paying off; in 1998, about 20 percent of Amazon.com’s sales were from international customers.
Despite the fact that Amazon.com exports to such a high number of countries, the company is still in the process of establishing an international presence. Amazon.com is continually increasing its efforts to reach out to international customers. As the company explained in its 1997 annual report:
[Amazon.com] has only limited experience in sourcing, marketing, and distributing products on an international basis and in developing localized versions of its Web site and other systems. The Company expects to incur significant costs in establishing international facilities and operations, in promoting its brand internationally, in developing localized versions of its Web site and other systems, and in
sourcing, marketing, and distributing products in foreign
markets.
Amazon.com’s use of regional interfaces adds a third layer to its international business activities. The cornerstone of Amazon.com’s approach to international business is to leverage its existing systems and routines to serve all of its customers, regardless of location. The regional interfaces allow most of Amazon.com’s customers to use their own language. Standardized algorithms and routines provide the same automated personalized services to international customers.
Continuing to expand local overseas operations, according to CEO Jeff Bezos, is the only way Amazon.com can stay competitive in the face of growing international competition. As in the U.S. market, Amazon.com has strong, albeit relatively new, competitors in the international marketplace. This competition increased considerably when in the fall of 1998, Bertelsmann agreed to purchase half of the interest in barnesandnoble.com for $200 million. Both Bertelsmann and Barnes and Noble plan to invest heavily in expanding barnesandnoble.com’s international business.
The partnership between Bertelsmann and Barnes
and Noble thus far does not appear to be hurting Amazon.com’s international or domestic sales. Nonetheless, Media Metrix, a company that measures traffic on the Internet, calculates that the number of people visiting barnesandnoble.com’s site is skyrocketing. As research shows that online customers like to browse for six months or longer before buying, Barnes and Noble is hoping that its domestic and international sales will soon pick up.
Amazon.com uses global merchant agreements with other Internet-based companies to promote the company internationally. In September 1998, Yahoo! Inc. agreed to place Amazon.com merchant links on its international sites, including those in Asia, UK and Ireland, France, Germany, Denmark, Sweden, Norway, Canada, Australia and New Zealand, Japan, and Korea. According to David Risher, senior vice president at Amazon.com: “This agreement with Yahoo!, combined with our local presence in Germany and the United Kingdom, strengthens our position around the world as a leading global book merchant.” Similar agreements have been established with other popular Internet web sites including Netscape, @Home, GeoCities, and AltaVista.