(Corrects spending data in second paragraph of story that ran Aug. 20.)
Amazon.com Inc. (AMZN) is stepping up a warehouse building spree, signaling the urgency of getting products to customers more quickly amid rising competition from EBay Inc. (EBAY) and Wal-Mart Stores Inc.
Consider Amazon’s center in Chattanooga, Tennessee, which opened in 2011 after about 10 months, compared with as much as two years for older warehouses. Boasting more space and technology that makes it easier to find items, the building is part of Amazon’s almost $13.9 billion spending binge on fulfillment expenses -- including 50 new facilities -- since 2010. That’s more than the company spent on warehouses in its lifetime and brought the total to 89 at the end of 2012. Amazon has announced five more in the U.S. this year.
“We’ve standardized them in such a way that opening them and replicating them happens very fast,” Dave Clark, vice president of worldwide operations and customer service, said in an interview at the Chattanooga building.
The warehouse strategy carries risk. Fulfillment has become Amazon’s top operating expense, squeezing profit margins and contributing to a $39 million loss at the Seattle-based company last year. Yet Chief Executive Officer Jeff Bezos is under pressure to move more quickly as rivals including EBay and Wal-Mart (WMT) devise their own faster ways to deliver products.
“What Wal-Mart and EBay are working on is, can they be faster than Amazon,” said Matt Nemer, a San Francisco-based analyst at Wells Fargo & Co. “It might not be the highest margin sale in the world, but they can potentially get something to you in an hour.”
At stake is leadership in the growing market for products that can be ordered online and then delivered to a customer’s door or a nearby store within hours. EBay has rolled out same-day delivery in some cities. And Wal-Mart is increasingly moving its $482 billion in estimated fiscal 2014 sales online. The retailer has more than 4,700 stores across the U.S., most just a few miles from consumers’ homes.
Some competitors are either building their own delivery networks or relying on third parties, such as United Parcel Service Inc. (UPS) Amazon charges $3.99 and up for same-day and one-day delivery for users of its of Prime program, which includes unlimited two-day delivery for $79 a year. Non-Prime customers pay $8.99 and up.
So far, investors are giving Bezos the benefit of the doubt on the spending rampage. Amazon’s stock, which rose less than 1 percent yesterday to close at $285.57, has more than doubled since the start of 2010.
Amazon’s spending on fulfillment jumped more than 40 percent annually from 2010 to 2012, compared with 24 percent in 2009, according to data compiled by Bloomberg.
The spending is crimping Amazon’s margins. The company’s trailing 12-month operating margin of 0.95 percent lumps it in the bottom 3 percent of peers in the Standard & Poor’s 500 Index -- even though it ranks among the top 10 percent of that group by sales, according to data compiled by Bloomberg.
And the margin pressure is rising as the price tag associated with warehouses is set to increase. The company said last month that it’s adding more than 5,000 full-time jobs in 17 U.S. warehouses. Those new hires will join more than 20,000 employees. Amazon said it’s also bringing on 2,000 staff for customer service, including part-time and seasonal workers.
Amazon executives said the costs are necessary amid a crowded e-commerce landscape.
“As we get closer and closer to customers with fulfillment, we have seen growth,” Chief Financial Officer Tom Szkutak said on a July 25 conference call.
If Amazon can place fulfillment centers nearer to the top 20 U.S. metropolitan areas, the company could reach 50 percent of the U.S. population with same-day delivery, compared with 15 percent now, according to supply chain consultants MWPVL International. That would require only opening another 12 warehouses beyond those built and announced, the firm said.
Competitors still see flaws in Amazon’s delivery systems.
Instacart Inc. is an online grocery business that guarantees delivery of goods in less than two hours. That’s faster than Amazon’s grocery business in Seattle and Los Angeles, called Amazon Fresh, which doesn’t make that guarantee.
“We don’t have to build warehouses, lease a fleet of trucks or manage perishable inventory, which substantially reduces our operational cost,” said Instacart CEO Apoorva Mehta, who founded the startup after working at Amazon.
Amazon’s warehouse boom gained momentum in 2011, when it agreed to begin gathering online-sales tax in more states. The company previously avoided setting up facilities in some states because a physical footprint triggered collection of sales tax from consumers, which undercut Amazon’s cost advantage.
At the same time, Amazon worked to improve efficiency in new facilities. The earlier centers, which Clark dubs “generation one,” included more manual picking and packing of items from shelves into boxes. They also had more storage on the warehouse floors.
Amazon decided new centers would have multiple floor levels and dense rows of floor-to-ceiling shelves. The company has increased the height and square footage of the buildings, and is using more cubic space within each. “We now get about twice as much product in this building as we would have four or five years ago,” said Clark.
The company also about doubled the number of items it can ship weekly out of a center like the one in Chattanooga, Clark said. That’s because it improved a process called sortation, or how efficiently it can combine multiple items of different dimensions, which may be on opposite ends of the warehouse, in a box of the correct size.
This has become more automated in the past five years through internal software and “commodity material handling equipment” called Amazon Fulfillment Engines, Clark said. The engines decide what a worker will pick next off a shelf, where that order will be routed to in the facility and where it will be combined with other items that eventually arrive as a single shipment to the customer.
Amazon is now using cookie-cutter building designs too, speeding up how fast it gets each center to scale. It takes eight to 10 months to build and fill a center with shelves and people, down from a two-year process half a decade ago.
Under Bezos, Amazon is also aiming for new warehouses nearer to cities, a move set to drive up expenses because land near urban areas tends to be pricier. Those costs may decrease over time from savings in shipping rates, Szkutak said. Shipping was 4.6 percent of revenue in the second quarter, the same as a year ago, showing the effort isn’t yet at a scale that adds to profit.
The company’s fulfillment centers are set to change in other ways. The company last year acquired Kiva Systems Inc., which owns robots that slide under products and move them around warehouses, something it hasn’t significantly built upon.
It’s also adding refrigeration and a truck fleet to warehouses in Seattle and Los Angeles as it expands its grocery delivery service. That means the 2014 warehouse model might not look anything like this year’s.
“Every time we open a building, we take the lessons learned, we redo the design and open the next year’s,” Clark said. “It’s sort of like cars. We’ll very quickly incorporate what we learned this fall from the 2013 buildings and launch the 2014 model.”
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