Amazon: "We've Never Said We Had to Do It All"
On any other day, it would've been big news. Pressured to show a path to profits after years of losses, Amazon.com Inc. (AMZN ) was to announce that discounter Target Corp. (TGT ) would open an online store on Amazon's home page this fall. Target would pay the e-tailer to sell products such as apparel and jewelry, and would hire it to run the Target Web site. For Amazon, the timing seemed perfect since the deal promised millions in high-margin business. Just one problem: The news crossed the wires at 8:39 a.m. September 11, six minutes before the first hijacked jet crashed into the World Trade Center.
Far from getting a boost from the scarcely noticed deal, Amazon now finds itself deeper in the soup. Fears that the tumbling economy will send consumer spending into a slump have prompted most analysts to cut Amazon sales estimates for the just-ended third quarter to less than $650 million, nearly flat vs. a year ago. Worse, many increasingly question whether the e-tailer will earn a promised fourth-quarter pro forma operating profit. Investors have knocked down Amazon's stock by nearly 60% since mid-July, to around $7 a share, on concern that Amazon could run out of cash early next year. Says Safa Rashtchy, an analyst with U.S. Bancorp Piper Jaffray: "They have to show the Street they can make money."
Analysts now say Amazon could still earn the $6 million fourth-quarter operating profit most had expected before September 11, especially if the benefits from the Target and other similar deals start to kick in. Even if they do pay off, Amazon won't be off the hook. For the company to remain independent, founder and Chief Executive Jeffrey P. Bezos needs to scale back his oversize ambitions. By its own definition of pro forma operating profits, Amazon earned $39 million selling books, CDs, and videos in the second quarter. But that was wiped out by the $41 million in domestic losses from trying to sell everything from drill presses to KitchenAid mixers. So, Amazon increasingly aims to get other retailers to sell their wares on the Amazon site. "We want to be the place for people to find and discover anything they want to buy online," says Bezos. "But we've never said we had to do it all."
Maybe so. Still, it's a big comedown: Amazon is attempting to become less of an online department store and more a retailing back office. The upstart many people thought would knock off brick-and-mortar giants now aims to be their best friend. These days, servicing other retailers using its existing logistics, customer service, and Web-site operations looks like a surer route to profits than selling lawn furniture. Says Jupiter Media Metrix Inc. analyst Ken Cassar: "Amazon has come to the realization it can't be the dominant force in retail it once hoped."
Bezos, no doubt, wouldn't quite put it that way. But, truth is, Amazon is well into the process of discarding the sell-everything retailing concept. Last year, it inked a deal to take over the Toys `R' Us (TOY ) online site, running it as a store on Amazon and handling fulfillment. Earlier this year, Borders did the same, online travel provider Expedia (EXPE ) began offering products on Amazon's site, and Circuit City (CC ) said it will start selling on the site in November. In July, AOL Time Warner Inc. (AOL ) bought a $100 million stake in Amazon and will use its technology in AOL's shopping areas. All told, services deals are expected to total sales of more than $200 million this year.
HIGH IMPACT. With gross margins of 60% and up, more than double Amazon's overall gross margins, such deals have an outsize impact on earnings. In the second quarter, $4.3 million in services profits were enough to tip the entire U.S. business into the black. In the fourth quarter, Rashtchy reckons the Target and Expedia deals alone will bring in up to $7 million in operating profit--potentially enough to produce that promised companywide profit.
At just 7% of sales, services remain small potatoes. They alone probably won't get Amazon over the hump. Bezos will also have to slash costs. One worry: If a sales slump persists, Amazon could run out of cash as bills for holiday inventory come due in January. So, Bezos may do best to ditch money-losing items, such as kitchen products--and the sooner the better. "He's got to do a deal with the top category leader in each area," says Patricia B. Seybold of market researcher Patricia Seybold Group Inc.
The question is whether he can do enough of them, fast enough, for Amazon to survive on its own.
By Robert D. Hof in San Mateo