Amazon completed its $US14 billion takeover of Whole Foods last month and immediately cut prices, put in new products from its own line up, and American analysts, media and many in the retail sector wet themselves.
And that saw an outbreak of the ’sky is falling, Amazon is coming’ commentary in Australian media (http://www.afr.com/business/retail/fmcg/amazon-cuts-whole-foods-prices-by-43-per-cent-on-first-day-20170828-gy62es) as the ignorant took charge of the panic shop again.
In the US though the outbreak of Amazon mania (a bit like tulips?) has seen the appearance of two reports in recent weeks that challenge the idea that Amazon is going to damage retailing forever.
The first is from Moody’s Ratings group’s chief retail analyst compose and the second is from US research company, BCA. Both reports knock much of the henny penny panic abut how Amazon is going to destroy retailing as we know it right on the noggin.
In fact both mount a real case that its fear and loathing and nothing more – that the reality for Amazon is much tougher than popular opinion credit.
Charlie O’Shea, a Moody’s vice president and lead retail analyst said in his report that many of the forecasts and stories about Amazon are overblown especially in retail food in the wake of the Whole Foods deal, appliances and other sectors, while the estimates of its Prime club are wildly overblown.
He says that Amazon is the subject of a number of myths regarding its size and clout that mask the reality of its position compared with rivals like Wal-Mart Stores Inc and Costco Wholesale Corp, and far from dominating the retail sector, Amazon is actually the weakest of the big US players in the sector.
“That potential is overshadowing the superior real-time operating performance of Amazon’s key retail competitors,” O’Shea wrote. “The emphasis on stock performance is, in our view, forcing brick-and-mortar competitors toward managing more irrationally for short-term performance just when they’re confronting secular change.” He cites as an example office products group, Staples Inc.’s which is selling itself to a private equity buyer as a way to boost shareholder value. O’Shea sees that as an overreaction.
The perception that Amazon is poised to take over the grocery business via its acquisition of Whole Foods is another myth.
“Online sales still account for only about 10% of overall U.S. retail sales, with a much lower percentage in the grocery segment, leaving the big brick-and-mortar retailers, led by Walmart, still really formidable competitors in the industry,” he wrote.
Amazon is also far from controlling U.S. food sales, which come to about $US800 billion a year. Wal-Mart Stores Inc alone sells more than $US200 billion in food, or over 25% of the total, according to O’Shea’s report. Kroger Co sells about $US130 billion in food, while Safeway parent Albertson’s sells food worth about $US60 billion annually and Costco sells about $US50 billion. “We believe it’s a big stretch to say Amazon will dominate the U.S. food retail business in the next two years,” O’Shea said. “Even with Whole Foods in its basket, its food sales still amount to less than $US20 billion annually.”
In the same could be said about Australia where Woolworths, Coles and Metcash, face more danger from Aldi and Costco than they will from Amazon. Add in Aldi and the quartet are selling around $A110 billion of grocery and associated products (such as alcohol) a year, which is considerably more than Amazon alone was doing in the US and will sell now that it owns Whole Foods.
And then there’s the appliances sector – which has been a special source of paranoia from analysts, investors and company managements (and no doubt some employees) in Australia as they have fingered Harvey Norman and especially JB Hi Fi as victims of Amazon’s advance.
O’Shea says it is simply not true that Amazon has destroyed the appliance sector in the US. He says the perception that as soon as Amazon enters a product category, it immediately wins is also flawed. While Amazon is clearly disruptive, it does not dominate any category in which it operates. In consumer electronics, for example, Amazon has about a third of the share of Best Buy Co. Inc which sells $US40 billion of products a year inside the US and internationally.
“When it announced that it would enter services, we think it received way more attention than it deserved,” said O’Shea. “Best Buy has Geek Squad embedded with its customers, and 20,000 employees will be difficult to tackle, especially when considering the added advantage of the store base to support this effort.”
Several months ago Amazon did a deal with the struggling Sears chain adding Sears flagship Kenmore brand to its line up of white goods (large appliances)/ O’Shea is dismissive despite the excitement that news of its cooperation with Sear initially raised among investors. “We think this is largely a non-event and looks like any other third-party relationship,” said the report. “If anything, we think that struggling Sears has entered this agreement to help with its sagging public-relations image.”
“Although Amazon’s share price is outperforming retailers, conventional methods of evaluating operating performance, such as operating margin or any profitability measure, suggest that Amazon is actually the weakest of the large retailers, excluding sales growth,” they write.
The Moody’s report continues: “And even based on that measure, one could argue that Amazon has been ‘buying’ sales for the past 15 years, considering profits have not been its primary focus — unlike other retailers.”
Additionally, brick and mortar retailers are narrowing the gap with Amazon when it comes to online shopping, O’Shea says in "Amazon.com, Inc. — The online giant is still a long distance from ruling retail." Amazon’s stock has been outperforming that of other retailers based largely on the promise of further expansion and potential expense reductions, but aside from sales growth, the company doesn’t perform as well as the largest US retailers.
Much of Amazon’s value is based of its rapidly growing cloud computing and data business called AWS (Amazon Web Services). The Whole Foods deal has cost Amazon a big customer in AWS – the Target retail chain, America’s second largest after Wal Mart which is off to find cloud computing services from one of Amazon’s rivals.
Finally O’Shea says claimed reports that Amazon’s Prime club has 85 million members is simply too high (Prime membership qualifies a person to lower priced products and services from Aamazon and free shipping on many products). His report says “Prime membership estimates are seriously overstated” and points out that Amazon has never disclosed the precise number of Prime members.
“Given the company’s incessant push into new markets and products, it’s easy to understand temptations to overestimate. However, when estimates start hitting 85 million, we think it’s time to pause.”
That report’s calculations put the number closer to 50 million, which, it pointed out, still pales in comparison to Costco’s Costco’s roughly 85 million members (half a million or so are in Australia). It doesn’t look like Amazon is going to dominate the grocery space anytime either, at least according to the Moody’s report.
And then there’s the foundation businesses of Amazon – books and music where ebook sales (dominated by its Kindle) have fallen now in 2015 and 2016 and in the early months of this year as ebook prices have risen. CD sales are falling and Amazon is now into streaming music (Amazon Music Unlimited) to try and compete with Spotify, Pandora, Apple Music and some smaller services.
Not all book stores have been driven out of business by Amazon (though iTunes and now music streaming have damaged music retailers. Now some radio stations are trying to match the streaming services).
The BCA comes to similar conclusions. As reported in the Financial Times (https://ftalphaville.ft.com/2017/09/05/2193164/is-amazonification-real/) this report is based on findings from US consultancy Bain & Company from December 2016, that e-commerce sales have been slowing thanks in part to two factors overlooked by investors. These are:
- Not everyone wants to buy everything online. Many consumers still want to see and feel products in person before they make a purchase, especially when it’s a first-time purchase (new clothes, new accessories, new furniture).
- E-retailer cost savings versus traditional bricks and mortar stores aren’t necessarily that great.
“Bain claims that many e-commerce businesses struggle to make a profit, the FT reported.
"The information technology, distribution centers, shipping, and returns processing required by e-commerce companies can cost as much as running physical stores in some cases. E-tailers often cannot ship directly from manufacturers to consumers; they need large and expensive fulfillment centers and a very generous returns policy.
"Moreover, online and offline sales models are becoming blurred. Retailers with physical stores are growing their e-commerce operations, while previously pure e-commerce plays are adding stores or negotiating space in other retailers’ stores.
"Even Amazon now has storefronts. The shift toward an “multichannel” selling model underscores that there are benefits to traditional brick-and-mortar stores that will ensure that they will not completely disappear.”
The BCA report also points out that Amazon’s finances remain hazy and hard to understand or see through. And its costs are rising faster than sales, especially labour
“Couple that with Amazon’s growing capital intensity, especially as expressed by the amount of sales generated per employee, and you begin to see the problem. Between 2010 and 2016, the number of employees (excluding contractors and temps) has gone up almost 10 fold while sales have increased only by four times as much.
"All of this means if share price appreciation was ever to abate, the true cost of the company’s salaried expenses could prove to be much higher than anticipated. Employees who expect a continuous boon from share allocations are, after all, much more likely to work for lower salaries.
"More worryingly, if the share price ever were to stop rising, Amazon’s overall capacity to maintain positive cashflow could be grossly impeded too.
All things considered, it’s hard to see how a company so dependent on share-price appreciation and employee growth can be responsible for wider deflationary effects, let alone the sort of positive supply shocks that come about from increased productivity.”
