Drinking the Kool-Aid
August 2, 1999
While Amazon.com Spends Like Crazy, Its Customers Begin to Trim Their Expenditures
By Mark Veverka
Either you're a believer or you're not.
There's no middle ground. You either are convinced that Jeff Bezos is building Amazon.com into the mother of all e-tailers or you aren't. It's that simple. "The opportunity for investors here is to look beneath the cover," Bezos told a room full of the converted recently. "Amazon.com is not a book company...we're a customer company,"
Okay. For the sake of argument, let's give Bezos and his flock the benefit of the doubt. The visionary says he's building a customer company (although I must admit I'm not exactly sure what that is). He's hiring top-shelf talent, expanding into food, drugs, toys, electronics and other commodities at warp speed and is putting up high-tech distribution warehouses all over the globe. All, one day, to sell tons of stuff and services to loyal Amazon customers. Presumably, at a profit. Forget about, for now, the company's mounting losses, swelling inventories, soaring expenses and other trends that traditionally would be construed negatively, which have been adroitly examined by my colleague Jacqueline Doherty.
For the moment, consider yourself a believer. Sip from the company water cooler in Seattle, if you will, and look through Bezos' prism. After all, fundamental equity analysis on 'Net stocks went out the window quarters ago, and the concept of valuation is of little concern for those who truly believe.
In fact, if you listen to Amazon and its acolytes, the primary thing that bears watching is the top line. "It's a revenue story," they chant. And until this year, Amazon's quarterly revenues grew at a 30% sequential clip.
But in the first quarter, revenue growth slowed to 16%; and in the second, it crawled to 7%. Naturally, holiday shopping is likely to pick up some of that slack during the critical fourth quarter. What's more, as Amazon's annual revenues approach $2 billion, it's going to get a lot tougher to rack up 30% average quarterly rises based on the pure heft of the numbers alone.
But here's the thing that even the most ardent believers must be starting to lose sleep over: revenues per customer are sliding. On average, even though Bezos is expanding his merchandise mix by leaps and bounds, his customers appear to be buying less. And that's a problem, points out Eric Von der Porten, who runs Leeward Investments, a small hedge fund in Silicon Valley.
"Their model is that they are going to spend on marketing to build a customer base so that they'll be profitable over time. And I believe, to be profitable over time, they're going to need to see rising revenue from their regular customers," Von der Porten contends.
"It raises serious questions about the long-term viability of their business model," he adds.
Von der Porten doubts that the impressive customer base Amazon is amassing will ever deliver the goods. For instance, Amazon's revenue per "ending" customer -- meaning sales divided by those total customers tallied at the end of a quarter -- plunged about 20%, to $29.26 per shopper, in the second quarter compared with $36.67 for the year-ago quarter.
So, as a believer -- if you buy into Bezos' strategy to build a giant customer base first and worry about profits later -- you at least want to make sure that people are buying stuff. As in the physical world, Amazon shareholders should expect to see repeat customers eventually turn to the e-tailer for more merchandise. Building customer and brand loyalty are key tenets of retailing whether you operate an apple stand or a Website.
The reason Bezos is pumping Amazon's digital dollars into other online retail ventures, such as the recently public drugstore.com, Pets.com and HomeGrocer.com, is so that he can sell more stuff to loyal Amazon customers. The more stuff and services he can sell, the more he's able to leverage what it costs him to acquire customers.
The trouble is existing customers seem to be spending less, which implies that Amazon regulars are buying fewer books and CDs -- or worse yet, are shopping elsewhere. Von der Porten's estimated "revenues-per-existing-customer" figures support this notion. The company's revenues-per-existing customer were $26.06 for the second quarter, down about 19% from the same quarter last year, according to Von der Porten's extrapolations from Amazon's quarterly press releases. An Amazon spokeswoman said the company does not disclose revenues-per-existing customer. Bezos also would not grant an interview for this column.
Wall Street analysts liken
"existing-customer" revenue
comparisons to "same-store sales"
figures that are used to measure retail
performance in the old
brick-and-mortar world. Same-store
sales figures take new-store revenues
out of the mix, making it easier to
determine if sales are growing because
the company is doing a good job. Rest
assured that if the Gap reported
disappointing same-store sales, their
shares would most assuredly get
whacked.
And while Internet stock prices seem to be driven more by hyperbolic press releases than by the 'Net metric du jour, revenues per-existing-customer is one measurement that investors should begin to rely on as a key benchmark for electronic retailing performance.
Merrill Lynch 'Net analyst Henry Blodget, whose career has catapulted since he presciently predicted that Amazon's shares would double, agrees that revenues per-existing-customer is a telling indicator. What's more, his existing customer calculations are identical to those of Von der Porten.
However, the Amazon bull is a little more generous in his interpretation of what the figures say about the company's performance. "I think looking at these numbers might make you recoil, but it's too early to draw hard-and-fast conclusions," Blodget says. "In a year or so, we will have a much better picture."
In other words, if you're a believer, be patient and at least wait to see how customers react to two recently added merchandise lines: toys and electronics. With more to choose from, Amazon's customers will start buying more. Or so the optimistic thinking goes.
If and when this starts to happen, "Amazon will capture 'wallet share,' "Blodget says, and "that is critical."
For his part, Von der Porten isn't convinced that Amazon's core book
customers are going to cross over and start buying Palm Pilots and Barbie dolls from the Website.
"I have a hunch that part of Amazon's problem over the past year has been that rather than selling [music] CDs to their book customers, they've only added CD customers who buy just that, CDs," he adds.
To say nothing of the thorny subject of profit margins from CDs, toys and electronics, which Blodget expects to be thin. But margins and price competition are worthy topics of debate for another time.
For now, believers should keep their eyes fixed on the third and fourth quarters to see if any of these negative customer trends begin to reverse themselves. In particular, if Amazon's existing bibliophile customers don't start lapping up portable CD players and action figures during the critical holiday shopping season, even the devoted may have to wonder if Bezos' creative and bold business model will, in fact, work.
"This game is in the early innings," Bezos said recently. But will the believers go the distance?
--------------
Copyright 1999 Barrons.
All rights reserved. Do not copy, paste, or otherwise rip off Barrons (unless you're already a customer, in which case I guess we don't want to offend you, so go ahead and share this with your friends). :-) |
