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If you actually look at their reported profits, they have not done so well. They are selling an idea, that they will continue to grow, and they will have negative working capital.

This seems like a pretty tough claim to defend. Amazon earned $900 million after-tax last year, up from $650 million in 2008 and $480 million in 2007. It earned $300m in Q110, and is on pace to earn maybe $1.3 or $1.4 billion this year.

That is reported earnings after stock comp, and excludes working capital inflow. They've done this with generally negative tangible assets employed, excluding cash. These are pretty elite results. They may be selling an idea, but net income to common seems to be a big part of the idea. Incidentally, I think you could make a decent case that Amazon's earnings are higher than reported, given that they spent $1.24 billion on R&D last year. This is tough to confirm given inadequate Company disclosure, but it's a decent bet that a lot of this is being spent on Amazon's various cloud-whatever technology ventures. They allocate most of their R&D to the North America segment, which may just be crappy reporting, or may indicate that a lot of the spending is prospective.

I will discuss one I have been wrong on for years, Amazon. I’ve always thought Amazon was a bubble. They have no customer captivity. They don’t have enough scale, and it’s hard to replicate. They occupy a really big market, and they are not specialized at all.

I think the people who make for the most compelling interviews and speeches are not only smart, but are often willing to speak in hyperbolic versions of their ideas. It's not controversial to say that Amazon has "no customer captivity;" it's nuts. They plainly have some customer captivity. Familiarity, perceived reliability, stored shopping lists, personal recommendations, and memorized passwords could all count for something. Plus another bigger factor that I'll get to in a minute. I remember Bruce once wrote a Harvard Business Review article in which he claimed that Intel had customer captivity in part because its customers' customers preferred Intel due to the "Intel Inside" ad campaign. That seemed like a creative way of converting branding (supposedly not a competitive advantage) into captivity (one of the only three "genuine" advantages). The world doesn't ever seem quite neat enough.

elan mentioned the potential network-like effects of merchant-seller selection and reviews. I agree with this, and think these kinds of factors straddle the gap between customer captivity and scale. It may seem like Amazon lacks a scale advantage or would be easy to replicate (I think he actually said it is "not hard" to replicate) as a moderately sized retailer with no local advantages. But it appears that is the second biggest genuine online competitor at the moment (companies like EBAY, Dell,, and Apple are a bit bigger than Wal-Mart, but overlap less directly with Amazon right now for various reasons). did an estimated $3.5 billion sales in 2009. Amazon did $25 billion as reported, and probably more than $30 billion when you gross up third party sales. That is a pretty enormous difference for a business with a very centralized infrastructure.

When Overstock was in hyper-growth, Patrick Byrne would put up slides showing how they would be able to leverage fixed costs like G&A, marketing and R&D as they rapidly approached Amazon's scale (and previously Scott Blum from -- very recently sold for $250 million -- has made similar comments). Before eventually switching strategies, he certainly believed that scale differences mattered a lot in this business. Yeah, you can argue that many conventional retailers can piggy-back their underlying scale -- it is hard to know how this has been working out given the lack of good data on those outfits. Certainly, it wasn't a homerun for BKS. One obvious issue is that many online fixed costs may be incremental, such as R&D. And marketing could be incremental or worse, if it is seen a likely to be especially cannibalizing.

On of the bigger switching costs Amazon seems to have really bridges the gap between scale and customer captivity -- Amazon Prime. Yes, every retailer offers loyalty programs. I think I get more disgusted looks when I check out without a Kroger Plus card than when I forget my Passport at Customs. But notice that Amazon Prime program doesn't seem to have a lot of widely used analogs despite being several years old. Amazon has taken $1 billion of net shipping losses over the last several quarters. Its gross margins in the international business, which is less (but still) distorted by high margin revenue streams, are only 19%. It sure looks like Amazon has been managing to drive volume and absolute profits at the expense of underlying gross margins, in a good imitation of a scale advantage. Can much smaller competitors try to drive volume via pricing this way given higher relative fixed costs? Does it make sense for B&M retailers to do this if they are simultaneously cannibalizing? How much pain are they willing to take to get there? Trust me, if Wal-Mart has to guide down by 5 cents because of an investment in "online," Mike Duke doesn't sleep for a month. This seems like a good example of Amazon using its scale to create a bit more captivity (my Prime renews automatically and does make Amazon stickier for me). I'm not saying this advantage will last forever, but I wouldn't dismiss it.

Almost twelve years ago RJ Mason made a classic post arguing that Amazon could be duplicated for a fraction of its extremely frothy market cap. I admit it is surprising that someone hasn't gone harder after Amazonion scale in the interim. I think the Company benefited a bit from the timing of the internet bubble bursting, allowing it to survive but shutting down competitor funding for a while. And Amazon's big lead plus its strategy of being very price competitive makes it less attractive for to spend the money to reach scale today, only to still have to compete with Amazon. I wouldn't be surprised to see Amazon's business get more competitive at some point, but I think it's crazy to blow them off as some kind of marginally profitable negative working capital bubble.
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