How Hard Should Amazon Swing?

Deena Maerowitz, a busy Washington lawyer, had no doubts about where to do

much of her holiday shopping this year.

When it came to buying gifts, including two Olivia the pig children’s

books, a bearded-collie calendar, Star Wars games, and two Angel Barbies, she

went straight to Amazon.com. A few clicks and $150 worth of presents were on

their way–no wrapping or waiting in line at the post office required. "I

had a great experience with Amazon," she says.

Plenty of holiday shoppers have that same satisfied glow. They snapped up

37.9 million items from Amazon.com and its merchant partners from November 9 to

December 21–22% more than last year, according to the company’s

Delight-O-Meter online tracking service. As a result, Amazon is expected to meet

or beat Wall Street’s revenue estimates of $1.01 billion in the fourth

quarter. More important, it should finally achieve the closely watched pledge of

founder and CEO Jeffrey Bezos to hit pro forma operating profitability.

So,

is Amazon out of the woods? Hardly. In its bid to reduce losses, it sacrificed

sales growth by cutting marketing expenses 17% last year. When the final numbers

come in on Jan. 22, 2001 revenues probably will be up just 9%, to about $3

billion, down dramatically from 69% growth in 2000. A major drag was its core

books, music, and video business, where sales dropped 5% in 2001. And unlike

Amazon’s pro forma numbers–real profitability remains far off. At best, it

isn’t expected until 2003.

The question is, can Amazon pump up its growth rate while still improving

profitability? That depends on whether it can make money off of its expansion

into new products, such as consumer electronics, and bolster its business of

managing other retailers’ online storefronts. If not, Amazon may end up as

just a niche merchant of books, music, and videos

The e-tailer is making some progress. Electronic gadgets such as DVDs, as

well as kitchen appliances and tools, flew out of its warehouses this Christmas,

making up 19% of sales this year, vs 10% in 1999. Still, investors don’t yet

know if it is cutting losses in these newer categories.

One

litmus test will be progress in consumer electronics. Those were a bright spot

in holiday sales this season. But unlike competitor Yahoo, which simply takes a

cut of the sales of merchants who market via its site, Amazon actually stocks

products. So it faces a tougher challenge in efficiently managing its

merchandising and fulfillment. Gross margins of 10% to 12% don’t allow room

for error. Another key area is the performance of Amazon’s increasingly

important business running online stores and handling order processing for

traditional retailers such as Toys ‘R’ Us. The unit brings in gross margins

of 60% and up for Amazon because the partners own the inventory. But it does

less for revenue growth, since Amazon books only service fees and a cut of

sales. Still, those service revenues were expected to increase 20% in 2001, to

$237.2 million, says Prudential’s Rowen. If that trend continues, fulfillment

deals could go a long way toward better utilizing Amazon’s expensive warehouse

investments. If not, Amazon may have to bite the bullet and shutter warehouses

and weaker businesses. But that would cut off its growth prospects. Even if the

company is on the right track, most observers expect slow, steady progress, not

the fireworks of past years. For Amazon, the holidays were fun. Now it’s back

to work.

By Heather Green in New York in BusinessWeek. Copyright 2002 by The McGraw-Hill Companies, Inc