Amazon drives sales from service fees
As Amazon has fueled sales and grown its percentage of marketplace sales, it has boosted its gross margins and gross profit and that will only continue, according to a note to clients emailed to Retail Dive from Instinet analysts, who maintained their "buy" rating and raised their target share price to $2,050.
Looking to 2022, the Instinet team, lead by Simeon Siegel, estimate that Amazon's advertising and co-branded credit card business will notch some 780 basis points in gross margins. Its AWS cloud services unit and its shift to more marketplace selling will each add about 590 bps, and growth in its Prime and subscription services should add about 270 bps. The e-commerce giant's marketplace now fuels 53% of goods sold, the company said last month.
There are some headwinds coming for the fourth quarter and beyond, however, including escalating labor costs after the company's recently announced wage hike and its recent waiver of shipping fees even for non-Prime members at the holidays, Instinet said.
Amazon isn't immune to competition: its holiday-time shipping fee waiver and its intense price competition inevitably hit margins. But the e-commerce giant is increasingly protecting those margins by raking in money from services like subscriptions, advertising and its massive Amazon Web Services unit, along with its collection of fees from its marketplace sellers.
AWS has long supported Amazon's retail operations. Last year, the cloud services business represented 10% of the company's sales but just over half (51%) of total earnings before interest and taxes, according to Instinet. But Amazon Marketplace is now emerging as a retail powerhouse.
"They seem to be using the marketplace as a way to balance some of the company's financial needs with the consumers' desire for selection and good prices," Keith Anderson, senior vice president of strategy and insights at Profitero, told Retail Dive in an interview last month. "The shift to 53% reflects some of the trends of the last couple of years."
In dealings with its third party sellers, the e-commerce giant collects fees for its fulfillment and warehousing, while the sellers do the merchandising and take on inventory risk. The second quarter last year was the first when Amazon sold more goods through third party sellers, and that's been accelerating recently, according to Instinet.
"And although every unit sold through 3P [whether or not Amazon collects fees through its Fulfillment By Amazon program], comes at lower reported revenue ... the collected fees flow through at much higher margin rates," according to Siegel's comments, meaning that Amazon's gross margin can grow despite the fact that it's selling fewer goods itself. "We believe the growth of [Amazon's] marketplace has been and stands to be a powerful contributor to [gross margin]," Siegel wrote. Amazon "is on a clear push to benefit from further growth in its high margin third-party seller services."
To further confound its retail rivals, Amazon's advantage isn't just in its cloud services or its marketplace, but also in its budding advertising business, the analysts also said, noting that, over the last several quarters, "growth in advertising has been a notable callout," along with a "material" contribution to gross margins. In a conference call with analysts last month the company noted strong interest in its advertising services from vendors, marketplace sellers and others keen on reaching customers.
Amazon has grown to the point where its investments aren't impeding margins as drastically as they once did, Instinet analysts also said. Its many fulfillment centers are closer to customers, which can, and have, tamped down shipping costs, they noted. As a result, "after several years of consistent deleverage, 4Q17 marked an inflection point, with shipping cost as a percentage of sales leveraging in each of the last three quarters, suggesting this theme is playing out," they said.
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