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To: dpk who wrote (241)	3/29/1999 1:02:00 AM
From: Chuzzlewit	Respond to of 419

Thank you for your thoughtful comments. You have raised far too many points for me to answer them all in one post, so let me try with two points: First, you said:By the way, I don't think the SKU point you make is quite correct. ... Amazon does not stock all the books it supplies, it depends on the large book distributors which are its suppliers to do so. I don't believe the books it sells are drop shipped. I understand that many books are special orders, but that still requires unpacking, breaking an order and repacking. In other words, I believe that it is a very labor intensive operation. The issue is not who holds the inventory (it should be obvious from amazon's 10-K that it holds very little inventory) -- but rather the labor costs required to handle the inventory. On your other point regarding metrics for measuring value, an EBITDA multiple for a company, either on its own or in comparison with the multiples of those in its class may be a good way to think about a company's valuation (cable companies have been valued this way by many analysts), but it has two shortcomings. Agreed. The idea was not to value a company based on EBITDA (I thought I sidestepped that issue) but simply to use it as a surrogate for economic profit. The advantage to using EBITDA is that it matches costs to revenues and it eliminates some non-cash charges. The disadvantage is that it does not include sinking funds for capital expenditures. Perhaps if it were added that would make it more acceptable. I agree that in theory using the PV of FCF is the proper way to go, but the gross mismatch of revenues and expenses makes this approach dangerous. I'm somewhat tired right now, and undoubtedly will say something silly if I try to respond to the crazy economics argument, so I' defer that for a later post. Thanks again for your thoughtful comments. TTFN, CTC

To: dpk who wrote (241)	3/29/1999 7:14:00 AM
From: Chuzzlewit	Respond to of 419

dpk, first, let me say that I am far from expert in the field of e-commerce. My posts were simply an attempt to give some concrete form to thoughts I have had over past year or so. I am hoping for that epiphany that will allow me to say "I understand". So far it eludes me. You said However, there are a couple of considerations that may justify the crazy economics. First, some of these companies claim that they do not mind losing a little bit of money on each retail transaction in the early stage of the game because they are trying to build net brands. And second, the advertising revenue they are/will be able to generate more than offsets the small loss on each etail transaction. Clearly, the veracity of such claims is difficult to confirm, as only time will tell whether net brands are defensible and what the value of brand equity is in the net world. And as you mentioned even Amazon.com is not yet profitable despite being in business for a relatively long time in net-years. I think we need to distinguish cases. Portals are clearly different from e-tailers. e-tailers may be able to generate a certain amount of cash through advertising, but they must carefully balance rewards with risk. For example, when it was discovered that Amazon was highlighting certain books because it was receiving payment from the publishers it quickly abandoned the practice for fear of losing credibility. I think there is also the possibility of saturating your site with so much extraneous advertising that focus is lost. Analyst Alan Braverman seems to think that branding is important in cyberspace. I think he is only partially correct, because I don't think this effort at branding is lasting in the same sense that we think of famous brand identities such as Kleenex, Scotch Tape or Frigidaire. Do consumers really care at which store they cybershop? Furthermore, as traffic on the internet grows, so will the cost of advertising. So while Braverman talks about scalability he seems to ignore the fact that scalability implies variable costs rather than fixed costs. In other words, there are few economies of scale to be had. One key financial driver for the e-tailer is the substitution of variable costs (for example servers and web content) for fixed costs (for example leasehold improvements and rent). Braverman makes an argument I find particularly odd. He claims that Amazon's new 300,000 square foot distribution center will lower the cost of product by getting popular items direct from the source, and not through distributors. If Braverman is correct it would seem to me that Amazon is abandoning one of the leitmotifs of cyberspace: abhorrance of inventory. And if that is true, then their cash flow will be constrained by the necessity of having to carry significantly more inventory. TTFN, CTC