The electronic commerce marketplace continues to grow, as more consumers prefer the convenience of purchasing goods online. Several companies, both large and small, have embraced the advantages of combining brick-and-mortar locations and supplemental internet-based storefronts to meet the vast majority of consumers’ needs.
Amazon (AMZN) has become a notable player in the market by operating through an online presence alone. Amazon is a massive retailer for both new and used goods.
Amazon’s Business Model
From a relatively simple single-sided eCommerce platform, Amazon has grown into a complex digital ecosystem. The Amazon business model is not a single entity but rather a portfolio of business models.
Amazon has rapidly changed, adapted, and established itself as one of the biggest companies in history. Along with AWS, Amazon has a global reach and distribution capability offering both digital and physical products.
Often touted as the largest online retailer globally, Amazon operates a business model with many moving parts. First and foremost, the company sells goods directly. A percentage of products are offered to buyers through Amazon’s online storefront with a small markup, and inventory is kept in the company’s large network of warehouses. Most consumers visit the company’s site assuming its products are less expensive and readily available for purchase and shipping.
In addition to direct sales, Amazon provides a platform for other retailers to sell products to buyers. Products sold through Amazon’s partner retailers are often less common items or those with a higher purchase price, allowing Amazon to avoid holding slow-moving inventory that could dilute profit. While Amazon does not assess a fee for its retailer partners to list items for sale, the company does retain a portion of the sales price as commission.
Amazon also maintains a subscription-based business model through its Amazon Prime service and a small electronics product line. Under a Prime account, customers pay an annual fee to secure free two-day or same-day shipping on eligible items and have access to streaming media, such as digital music or movies. Amazon also generates revenue from selling its e-reader, the Kindle, and the e-book and mobile application purchases offered to Kindle owners.
Amazon Business Model: Revenue Streams
Amazon has a diverse revenue model.
- The primary source of revenue for Amazon is the commissions and fees that it obtains by making the borrowers and sellers meet. Amazon doesn’t sell a lot of stuff on its own. It just provides a marketplace guaranteeing a standardized experience for both the buyers as well as the sellers.
- Amazon also derives a huge chunk of its revenues from affiliate programs. Amazon provides affiliates with stores within their sites. It then charges a larger commission on their sales.
- Amazon also sells advertising space on its website. The Amazon site is one of the most visited pages in any region. Hence, sellers can expect to boost sales by advertising on it. This is a minuscule portion of the revenue that is generated by this company but is nonetheless significant.
- Amazon also makes a huge chunk of money from the Kindle marketplace. Amazon has developed and sold a device called Kindle. It can be used to read books in electronic format. Thanks to this device, Amazon has a 75% market share in the eBook market. Also, this market is highly profitable for Amazon. Books sold by this model do not have to be published or transported. Amazon, therefore, pockets the share of the publisher as well as the logistics firm. Amazon gets close to 70% of the revenue generated by selling eBooks on Kindle.
- Lastly, Amazon has also developed subscription-based business models via its Amazon Prime service. For a fixed subscription, users get two benefits. Firstly, users can stream movies and other video content via the internet. Secondly, Amazon Prime members are entitled to lightning-fast delivery of the products purchased from Amazon.
The revenue model of Amazon is therefore dynamic. It has repeatedly been venturing into newer areas. Technology is also the backbone of these newer sources of revenue that many retailers had not thought about earlier.
Amazon Business Model: The Financial Results
This is a short break-down of what is included in each of the net sales results.
- Online stores. Includes product sales and digital media content where we record revenue gross. We leverage our retail infrastructure to offer a wide selection of consumable and durable goods that includes media products in both a physical and digital format, such as books, music, videos, games, and software. These product sales include digital products sold on a transactional basis. Digital product subscriptions that provide unlimited viewing or usage rights are included in “Subscription services.”
- Physical stores. Includes product sales where our customer’s physically select items in a store. Sales from customers who order goods online for delivery or pick up at our physical stores are included in “Online stores.”
- Third-party seller services. Commissions and any related fulfillment and shipping fees, and other third-party seller services.
- Subscriptions: Annual and monthly fees associated with Amazon Prime memberships, as well as audiobook, digital video, digital music, e-book, and other non-AWS subscription services. Amazon’s standard Prime subscription rate is $119/year, which would translate into a revenue of more than $17.8 billion, although the company offers discounted memberships for students and others.
- AWS: AWS includes global sales of computing, storage, database, and other services.
- Other: primarily includes sales of advertising services and sales related to our other service offerings.
Amazon Business Model – Channels
Amazon spends a good deal of money on ads. Advertising and other promotional costs to market products and services cost Amazon $6.3 billion, $8.2 billion, and $11.0 billion in 2017, 2018, and 2019.
In their SEC filings, Amazon state that the aims of their communications strategy are (unsurprisingly) to:
- Increase customer traffic to our websites
- Create awareness of our products and services
- Promote repeat purchases
- Develop incremental product and service revenue opportunities
- Strengthen and broaden the Amazon.com brand name.
Amazon Partnership strategy
As Amazon grew, it developed partnerships and has strategically acquired businesses that fit either its core business model or a future strategic goal.
Amazon’s partnership strategy can be viewed as ‘try before you buy (invest then buy), pure partnership, and an ecosystem approach.
Amazon Business Model: Invest then Buy
Amazon has invested heavily in its future strategy through targeted acquisitions. Often it has moved from initial investment through to full acquisition and integration into Amazon. The acquisitions give a good indication of the future of Amazon as it’s strengthening its capabilities and enters new markets.
Ecosystem of Sellers
Amazon has an estimated 8 million third-party sellers; Amazon is one of the world’s largest online marketplaces. In 2019, sellers on the Amazon marketplace sold $200 billion worth of products.
Affiliate networks and programs
Another critical element of Amazon’s business model has been built upon a network of publishers. Often blogs earn a commission for any referrals that lead to a sale. This is the basis of affiliate marketing and helps build the overall Amazon ecosystem and drive traffic to its website.
Amazon’s Supply Side
Given such a staggering amount of categories, let alone individual items, the question arises where do all these products come from? It’s not just the storage and logistics but also inventory costs, especially for low-frequency items. Here are the most common sourcing models:
Amazon uses three approaches for the fulfillment of books but also several other categories. The following three approaches are typical of Amazon’s (though it is more complex than illustrated):
- Standard inventory: hold only the most popular stock in their fulfillment centers.
- Just-in-time inventory: arrangements with the producers (rather than wholesaler) to ship the stock to either Amazon or (depending on several factors) directly to the customer when an order comes in.
- Third-party sellers: this is another case of inventory not owned by Amazon and sold through Amazon Marketplace. These can be other professional sellers or other users who want to sell their used items. In most cases, the inventory would be held and shipped by the 3rd party unless they use fulfillment by Amazon and/or Shipping with Amazon services.
Like many other platforms (e.g., Uber), the Amazon business model increasingly relies on Artificial Intelligence.
It is used to maximize profits through dynamic pricing, bundling products, and personalized promotions and recommendations.
These are some of the classical marketing levers to drive volume and growth.
The Amazon business model depends on offering the lowest pricing and offering pricing that rapidly reflects market changes and pricing changes. Amazon tracks pricing across the web to identify its price point and that of its competition.
As is the practice for many online retailers, the lowest prices are for the most popular products, with less popular products commanding higher prices and a greater margin for Amazon.
- Price dynamism: Amazon makes millions of price changes every day. Some estimate, they change the pricing of 15-20% of their products per day. Dynamic pricing, also called surge pricing, demand pricing, real-time pricing, or algorithmic pricing, is where the price is flexible based on demand, supply, competition price, subsidiary product prices.
- Price perception strategy: One e-commerce service company points out that Amazon’s “[…] consistently low prices on the highest-viewed and best-selling items drive a perception among consumers that Amazon has the best prices overall”.
- Demand/supply pricing: It is presumed that inventory levels (supply) and demand influence the dynamic pricing. For example, when demand for a product spikes within a short period, say that this may lead to surging prices due to a promotional campaign. Some accounts state that Amazon keeps surplus profits on a Marketplace product for themselves rather than passing it onto the merchant.
- Competition monitoring: Here is an example of how prices change for popular items change within one day as each retailer constantly checks their competitor’s prices and reacts algorithmically.
- Seasonal prices: up to 30% of annual sales are concentrated in the period between Black Friday and Christmas, with some categories being trendy in this time frame.
- Bundling/recommendations: Another tactic is bundling (sometimes with discounts), whereby Amazon suggests similar products for you to buy, e.g., under “customers who bought this item also bought.”
The Amazon business is built on delivering an exceptional customer experience. Despite its size, any complaints are dealt with quickly and its response times but many other industries, e.g., banks, to shame.
How Amazon Optimizes the Customer Experience
There are many ways to center a business. You can be competitor focused, you can be product-focused, you can be technology-focused, you can be business model focused, and there are more. But in my view, obsessive customer focus is by far the most important. Even when they don’t yet know it, customers want something better, and your desire to delight customers will drive you to invent on their behalf.
The Amazon business model puts the customer experience at the center of everything it does. Some key points:
- Amazon’s services are so tailored and streamlined that it’s difficult to consider shopping elsewhere! From 1-click checkout to prompt delivery, everything about Amazon’s services is designed to make shopping completely streamlined, efficient, and convenient.
An insight into Amazon’s UX strategy can be viewed below:
Amazon’s Business Strategy
Jeff Bezos the Vision
The latest report includes a great vision for Digital Agility.
We will continue to focus relentlessly on our customers.
We will continue to make investment decisions in light of long-term market leadership considerations rather than short-term profitability considerations or short-term Wall Street reactions.
“Relentlessly focus on customer experience by offering our customers low prices, convenience, and a wide selection of merchandise.”
“We work to earn repeat purchases by providing easy-to-use functionality, fast and reliable fulfillment, timely customer service, feature-rich content, and a trusted transaction environment.
Who Amazon Sees As Competition
In the 2019 sec filing Amazon
Competition continues to intensify, including with the development of new business models and the entry of new and well-funded competitors, and as our competitors enter into business combinations or alliances and establish companies in other market segments expand to become competitive with our business.
Amazon sec filing January 2020
Amazon describes the competitive environment for its products and services as intense. It views its main competitors as:
- Physical, e-commerce, and Omnichannel retailers, publishers, vendors, distributors, manufacturers, and producers of the products we offer and sell to consumers and businesses.
- Publishers, producers, and distributors of physical, digital, and interactive media of all types and distribution channels.
- Web search engines, comparison shopping websites, social networks, web portals, and other online and app-based means of discovering, using, or acquiring goods and services, either directly or in collaboration with other retailers.
- Companies that provide e-commerce services include website development and hosting, Omnichannel sales, inventory, supply chain management, advertising, fulfillment, customer service, and payment processing.
- Companies that provide fulfillment and logistics services for themselves or for third parties, whether online or offline.
- Companies that provide information technology services or products, including on-premises or cloud-based infrastructure and other services.
- Companies that design, manufacture, market, or sell consumer electronics, telecommunication, and electronic devices.
- Companies that sell grocery products online and in physical stores.
Based on this, we can pull out the main themes:
- Amazon has its sights on Grocery – household purchases.
- Amazon is focused on expanding AWS and its offer, e.g., AI as a service.
- Amazon will expand its range of consumer electronics for the home and smart devices to complement Amazon Echo.
- Amazon will continue to invest in entertainment and media, e.g., Amazon Music and Prime Video.
Amazon’s generic corporate strategy can be described as concentric diversification.
This strategy is based on harnessing technological capabilities and following a cost leadership strategy to offer the maximum value for its customers at the lowest price. The strategy involves a customer-centric focus where Amazon becomes the go-to portal for their online shopping needs.
Apart from this, Amazon’s strategy is driven by its sources of competitive advantage:
- Economies of scale.
- Leveraging efficiencies between external drivers and internal resources.
- Use AI to drive supply-side efficiencies and demand-side insights and growth.
Experimentation and testing at Amazon
Amazon writes in the blog that it’s a safe space to fail. It’s about more than the typical test, fail, repeat cycle that many companies can claim. It’s understood at Amazon that it’s OK to unwind a wrong decision and try again with a different decision.
One area where I think we are especially distinctive is a failure. I believe we are the best place in the world to fail (we have plenty of practice!), and failure and invention are inseparable twins. To invent, you have to experiment, and if you know in advance that it’s going to work, it’s not an experiment. Most large organizations embrace the idea of the invention but are not willing to suffer the string of failed experiments necessary to get there.
Amazon annual report 2018
Business models are all about experimentation. The Amazon business model approach is no different. The brand isn’t afraid to experiment with potential flops, like the Fire Phone, Amazon Auctions, and WebPay. Through failure, Amazon ultimately succeeded with the super-successful Amazon Kindle, Amazon Prime, and Echo.
What is Omnichannel retailing? In fact, the goal for Amazon, most retailers/retailers, is to sell to customers at the time of need through any device and any channel.
Omnichannel retailing is a fully-integrated approach to commerce, providing shoppers with a unified experience across all channels or touchpoints.
Expansion into New Markets
Prescription drug spending is $500 billion in the US alone. The business model is horribly antiquated and ripe for disruption. Who needs nine thousand Walgreen’s locations when you can ask Alexa to refill your prescriptions and have them delivered the next day?
Amazon popped up on the health-care sector’s radar in 2017 for its rumored interest in pharmacy and drug distribution. Health-care executives were forced to address the Amazon factor so often that mentions of “Amazon” eclipsed mentions of “emergency room” in both the third and fourth quarters of that year. ”Amazon could be both a competitor in some areas and a collaborator in others,”
As an example, Amazon is moving into the $3 Trillion health care market. Amazon announced that it is partnering with Warren Buffett’s Berkshire Hathaway and JPMorgan Chase JPM to get into the health care business. Before the collaboration, the company acquired online pharmacy PillPack for nearly $1B.
The impact on the stocks of leading pharma companies after the announcement of the PillPack purchase. Source: AlphaStreet.
Its investment into cancer detection company GRAIL was a vote of confidence in genomics, which with its massive data and processing needs, will be a major area for computing.
Amazon expanded geographically with its acquisition of souq.com, a Middle Eastern e-commerce site. Expect more acquisitions that consolidate its presence in developing economies.
More Retail – Groceries and Household Supplies
Notably, Amazon’s $13.7b purchase of grocery chain Whole Foods shook up the grocery industry, highlighting Amazon’s increasingly deep push into brick-and-mortar retail.
Amazon began a program called Amazon Fresh to stock and ship groceries — including vegetables and refrigerated and freezer products — that it used to stay competitive with traditional big-box retailers like Walmart and Target and Uber-like logistics newcomers like Instacart. The company now sells its own line of meal kits through Fresh to rival ready-to-cook options from companies like Blue Apron and Plated.
Amazon Business Model the Future
The trends highlighted earlier will make it interesting to watch as the pace of change and technology rapidly evolves. In turn, this will create exciting opportunities for Amazon to break into new markets with new business models and disrupt incumbent players.