more foolishness:
Subject: DG and Amazon selling ads
Number: of 5019
Author: Rimpinths
no profile | no interview
Date: 7/23/98 3:53 AM (ET)
David Gardner's argument regarding Amazon selling high-margin advertising is nothing new. He's
started saying this last October in a Fool Portfolio Report:
A primary bearish argument involves stating that the company's average-looking gross
margins (the gross profits as a percentage of sales) are going to drop as price wars set in and
Amazon's business becomes commoditized. But we believe strongly, and state emphatically,
that Amazon will incorporate advertising revenues into its future business model. This will
increase margins beyond what you'd expect in the traditional bookselling business. Because
it's not yet "visible," this expectation cannot be gleaned from any reference to past numbers,
for those investing using a rear-view mirror. But driving forward using the rear-view mirror
-- or should I say, shorting forward using the rear-view mirror -- seems a hazardous modus
operandi.
Indeed, Amazon should earn HIGHLY TARGETED, high "CPM" advertising rates. It
presently earns zero dollars this way, now. But as the guys in Seattle continue to gather more
information about repeat customers like me, and continue to make their site THE place to
buy books (as they clearly have -- and then eventually, I think, other stuff), you'll find a
higher-margin new-world business model evolving out of what many skeptics seem to regard
as a dull, low-margin, commodity business.
fool.com
Of course, nine months later, Amazon has still not made any announcements regarding selling
advertisements. Since then, they only new thing that's evolved out of Amazon's "dull, low-margin,
commodity business" is an even lower margin commodity business, music.
The best response to David's argument was made by a poster named "MarkRogo" who earned the
post of the day on 10/31/97 (when TMF only existed on AOL). As for me, I'm off to bed,
MarkRogo will be taking over for the rest of this post:
First of all, I'm glad David and Tom know that Amazon will have advertising as part of its
business model when the company has not announced they will.
Second of all, I don't think David and Tom are fully in tune with the trends in Internet
advertising, particularly banner ads.
Currently, banner ads are sold for $20-40 per thousand on most well-known sites. Some are
sold up to $70-80 per thousand. Typically, volume deals with price-sensitive advertisers (i.e.
companies not named Intel and Microsoft) are in the $20 range.
In the meantime, FlyCast, AdBot and others are wholesaling out excess inventory (by the
way, no advertising-based site is selling anywhere near half its inventory) at prices as low as
$1 per thousand.
Information coming from every site but the necessarily biased Internet Advertising Bureau
indicates that banner ads are very ineffective with very low awareness ratings and very low
clickthrough ratings.
Because of this, many people in the business believe banner ad rates will fall as much as
50-90% from today's prevailing standards in the $20-30 range.
Even if this is not true, let us say Amazon will sell 1 million impressions per day at $20 per
thousand, for $20,000 of daily revenue. Over a year, this will be worth $8 million in sales.
These sales are high margin but hardly costless. If they are 75% margin, they would be worth
about .33 per share at some point in the future when they could sell that much advertising,
which is something on the order of what ESPNet sells right now (a huge, almost totally
ad-based site that sells advertising as its business model).
No matter how targeted, there are a finite number of impressions on Amazon to begin with
and a very finite ability to sell those impressions for high dollar figures. Not to mention the
possible backlash among Amazon's users from being bombarded by mutual fund ads,
Microsoft ads, Gatorade ads, and Lord-knows-what-else ads.
Even if Amazon could do $1 per share in ad revenue in 2002 (five years hence), there is no
doubt that declining prices paid for books will further squeeze margins on Amazon's primary
source of revenue: book sales. The cutthroat competition between Barnes and Noble and
Amazon (and to a lesser extent CUC's book biz) is going to worsen immensely when Borders
enters the market... This doesn't even figure in the countless smaller online bookstores that
will go niche to survive among the giants. Let's say this money losing company eeks out $1
per share in profit from book sales in 2002. Again, this strikes me as very optimistic.
Total earnings in 2002, $2 per share. At a multiple of 30, the stock should be worth about
$60, 5 years from now. Paying for some mythical earnings that may materialize in the future
and paying for them today, without any discounting, is ludicrous. This stock is a sell on price
alone -- it is fully valued for the foreseeable future. It is almost certainly a short for
speculators (although David's notion of not shorting what he calls "open situations" is a
good one; I got killed on Yahoo not following that advice).
If the stock continues to trend higher, it becomes a more likely short, however. The release of
shares into the market from insiders and the bursting of the speculative bubble will doubtless
bring the price back a bit closer to earth. Here, the discussion of the Netscape situation is
particularly valuable. [Indeed, ask yourself why Amazon is valued at about 1/2 Netscape's
valuation right now when all of Netscape's revenue has huge gross margins and
Netscape has 3x the revenue of Amazon.... I really Netscape has much higher development
costs, but much, much lower production costs.]
I can see holding the stock here only on the belief that Amazon will eventually become the
dominant consumer bookseller on the planet, selling more total books than a Barnes or
Borders.
No position, but baffled,
Mark |
