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Fulfillment gives Amazon yet another way to boost profits

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Fulfillment gives Amazon yet another way to boost profits

Amazon never ceases to astound. We’ve written before about Amazon Prime, and the company’s disruptive force wherever it goes. Today, we shine a light on a low-profile Amazon business that has quietly grown into a profitable juggernaut – Fulfillment by Amazon (FBA). It’s a vast, networked logistics platform for transferring merchandise from sellers to consumers.

The FBA program allows third party sellers to ship and store their inventory at Amazon’s fulfillment centres, and have Amazon handle everything from order processing and pick-packing through to delivery and returns.

Management has always discussed FBA in the context of driving the Prime flywheel; after all, FBA seller items are eligible for 2-day free shipping to Prime members, which greatly increases the selection available on Prime (over 50 million items and counting). Beyond that, Amazon’s filings make FBA sound like a humdrum back-end program offered to sellers to drive more sales.

Our recent research and conversations with industry experts have revealed that FBA is so much more than a support act. We had always suspected that FBA was breakeven – it wouldn’t make sense for Amazon to push this program and really drive strong FBA seller growth if it was losing money on every transaction. However, it turns out that FBA is profitable. Very profitable.

Amazon has disclosed that the substantial majority of FBA sellers experience at least a 20% uplift in sales after joining the program (and often more). For small to medium sellers, FBA seems like a no-brainer. In addition to the 20% or more uplift in sales, FBA will almost certainly be cheaper than the sellers’ in-house fulfillment due to Amazon’s vast scale and operational efficiencies. This means that Amazon can charge a hefty margin for its fulfillment services, yet small sellers can still save 10-20% on their fulfillment costs. Win-win.

For large enterprise sellers, FBA might be marginally more expensive than in-house fulfillment, but that incremental cost is more than paid for by the sales uplift. Additionally, Amazon’s package volumes are so high that FBA can save even enterprise-scale sellers 10-20% on shipping rates they could otherwise get from the carriers, and that’s after Amazon tacks on a double-digit premium. Also win-win.

In many ways, FBA is similar to Amazon Web Services (AWS), Amazon’s $12 billion cloud computing behemoth. Amazon built both services on its own from scratch, which allowed it to automate everything and tightly control costs. Like FBA, AWS is very profitable while also being cheaper for customers. If we throw Alexa, Amazon’s AI assistant, into the mix, a pattern begins to emerge: Amazon builds core competencies to serve its internal requirements, scales them up on its huge retail, logistics and cloud platforms, and then offers them for sale at a price no one can compete with.

Amazon founder Jeff Bezos likes to say “your margin is my opportunity”; but this wonderful business can profitably create its own margin opportunities.

Montgomery Global Fund and Montaka own shares in Amazon (Nasdaq: AMZN).

Daniel Wu is a Research Analyst at Montgomery Global Investment Management. Prior to joining Montgomery in June 2016, Daniel was an analyst in the investment banking divisions of UBS and Goldman Sachs, where he covered the Infrastructure, Utilities, Technology and Media sectors.

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This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564) and may contain general financial advice that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking advice from a financial advisor if necessary.

Comments

  1. How do you view Shopify’s emergence vs FBA, do you view them as a competitor or an enabler that will drive traffic to Amazon?

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