April 20, 2018

Breakingviews: Amazon – Priming the Pump

by Breakingviews.

Amazon’s hefty shipping subsidy is Prime for growth. Chief Executive Jeff Bezos revealed on Wednesday that more than 100 million people are members of the e-commerce giant’s free shipping club. The annual fee of $99 in the United States would have to double for the company to break even on deliveries, Breakingviews calculates. But the investment helps keep the business motoring.

Bezos dropped the Prime number in his annual letter to shareholders, which also quoted a handstand coach who preached the virtue of patience. It puts a figure on one of Amazon’s formidable loyalty-inducing tools for the first time since it was introduced 13 years ago.

That loyalty has a price, though. Prime is grouped with Amazon’s overall subscription revenue, which includes other services like digital music. Take reported numbers for the third and fourth quarter of last year and double the total, and annualized subscription fees are running at about $11 billion. Those 100 million Prime members brought in about $10 billion. On these back-of-the-envelope calculations, Prime represents just under 90 percent of all subscription revenue.

Meanwhile, shipping costs total some $26 billion a year, annualized on the same basis. Amazon once broke out related revenue, which contained a portion of Prime fees, but it doesn’t any more. Breakingviews estimates Prime made up a bit over 60 percent of this shipping revenue, using data reported for the second half of 2016. Extrapolate that, and delivery-related revenue could be running at an annual $16 billion. Assuming non-Prime shipping breaks even and – to simplify this calculation – that all Prime revenue can be attributed to deliveries, Amazon is subsidizing Prime members to the tune of $10 billion.

Kicking up the cost of Prime membership to $200 would cover the difference. But that’s not really the idea. Bezos said back in 2005 that Prime would be expensive. Yet it brings benefits. Free shipping encourages members of the club to buy more from Amazon more often, to continue subscribing, and to be less directly sensitive to price – things Amazon’s algorithms surely capture. The subsidy is equal to just under 6 percent of sales, stripping out subscriptions, Amazon’s cloud business and other revenue, annualized the same way again. Net-net, it may easily pay for itself.

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