For four hours on August 3, Amazon stock spiked to record highs, lifting the company’s value to $517 billion and making its founder and CEO Jeff Bezos the richest man in the world, ahead of Bill Gates. But Bezos’ wealth isn’t a cause for concern, Amazon’s value is. Not its absolute value, but the connection between its value – among the five companies with the highest market capitalizations in the world – and its business model.
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In the winter of 2000, at the height of the internet bubble when Amazon was the hottest share in the dot-com world before the crash, one of the smartest analysts in the United States predicted that it would all end with Bezos behind bars. Why? The company wasn’t profitable and its market value was driven by growth and digital dreams sold by the CEO. At some companies like that, the absolute dependence on rapid growth forces it into a business model of inflating revenues in creative ways.
If I had predicted that in 2017, Amazon would have quarterly revenues of $38 billion, a market value of half a trillion dollars, and its CEO would be the richest man in the world, you would have thought I was being a bit too giddy about the new millennium.
Indeed, many stock market mavens still sneer at Amazon’s figures; after all, its profit margins are razor thin. But these critics may be missing something far more troubling than Amazon and the possibility of inflated valuations for internet stocks.
Bezos is one of the best entrepreneurs and managers in modern business history. He inherited nothing, received no concession from the state, and the lion’s share of his company’s growth has been based on a skill set rarely found in one person. He’s a visionary entrepreneur who built an operations-based business that bucked many conventions in the management world. He leaped into areas that seemed unrelated and changed the way companies do business in a variety of industries.
Bezos is no showman like the late Steve Jobs. He isn’t an inventor and seller of gorgeous products like the iPhone. All he has is a store that sells products, most of them made by other companies. But he’s not far short of Jobs in managerial talent and vision.
Amazon’s extraordinary success is based on dozens of key decisions made over 20 years such as entering cloud computing, where the Seattle-based giant is now the biggest and most profitable player. But there’s one decision that Bezos made upon the company’s foundation from which he has never strayed: Growth and customer experience come before profitability.
The healthy instinct of every businessman, financial analyst and critical journalist is to steer clear of companies focused solely on growth and customers, companies that would sacrifice profitability for years. But Bezos was the first to realize that in the digital age, size, market share and especially being number one – by a mile – hinders the rise of competition.
The graph of Amazon’s revenues is a far cry from the norm in business; in fact, the growth is phenomenal. In the three years between 2011 and 2014, Amazon’s annual revenue increase averaged 23% – remarkable even for the tech industry.
But another graph shows the paradox: The company has never earned a serious profit. In eight of the last 20 years it lost money. That’s a paradox because unprofitable companies generally have a hard time engaging investors and lenders. If you don’t make profits, investors eventually dump your stock and somebody buys your company, taking it down a new road.
None of this happened to Amazon. At almost every point over the past 20 years, Bezos told investors, employees, partners and suppliers that profit didn’t matter, and they bought it.
Biggest and fastest-growing
Is the real story that customers matter more than profits? That Amazon can supply goods at lower prices? That the customer experience will drive Amazon’s growth much faster than the competition’s?
All that is part of a bigger story: Amazon’s dominance in online retail gives it a vast advantage. The really important figure in the company’s business model isn’t in its profit-and-loss statement, balance sheet or notes. It’s the company’s share of the U.S. online retail market: about 43%.
Its share in U.S. e-commerce growth last year was 53%. Amazon is the biggest player and the fastest-growing one, by a lot.
Just a few years ago, size advantage was reflected in clout over customers or suppliers, efficiency, entry into auxiliary areas, control of distribution channels, and the ability to invest in the brand and make it harder for rivals to build their brands. All that still relates to Amazon: It’s the dominant buyer in a range of industries and the only e-commerce player that can dictate terms to UPS, Fedex and DHL, threatening that otherwise it will set up its own logistics network.
But in recent years, Amazon has been gradually building one barrier much higher than all these traditional defenses against market entry: the enormous amount of information it collects on its hundreds of millions of customers: their buying habits, preferences, price sensitivity and countless features of the products of the manufacturers and suppliers that use its site. Amazon is no longer a market player – it also manages and operates the market wearing many hats; sometimes it’s the sales platform and sometimes it’s the manufacturer itself – the only manufacturer with access to the vast database of consumer preferences.
Amazon’s extraordinary market value, despite its low profitability, might be another bubble. But I’m not convinced. Most of the vast premium on Amazon stock indeed seems to lie in investors’ belief in Amazon’s new type of size advantage: controlling information on consumers’ preferences and behavior.
If Amazon rules the roost in so many areas, why haven’t the U.S. antitrust authorities done something?
There could be two reasons. One is that American antitrust oversight has become feeble in the past 30 years. Studies are piling up showing American business becoming more and more concentrated. The second reason matters more: Antitrust law isn’t equipped to handle digital platforms like Amazon, Google, Facebook and Apple.
One reason Amazon earns so little is that in some categories, at certain times, it’s willing to sell at a loss. Antitrust authorities usually assume that predatory pricing is short-term. But maybe in the digital world it can persist over time, especially if the company persuades the market that it makes sense for the long run.
Most companies abuse their power to raise prices or erode their service quality, but Amazon isn’t doing either. It often creates tremendous value for its customers in price, service and quality. It isn’t abusing its market clout – increasingly based on the exclusive information it possesses – to hurt consumers, it’s simply further entrenching its dominance. The ones paying the price for that dominance are the competitors.
If the American and global antitrust authorities continue to pick consumer welfare as the main parameter for intervening in markets, then digital platforms such as Amazon, Google and Facebook will probably continue to gain market power, crush competitors and accrue information that stymies competition.
Deterring competition and invading privacy
The fear of such a scenario is twofold. First, these companies may use their power to suppress competition and entrepreneurship and soften entire markets while lulling consumers and regulatory authorities to sleep. Second, at some point, these companies will use their vast data on consumers to invade privacy in ways often hidden to consumers.
I began this story with Amazon precisely because it’s managed so amazingly, and because it so creatively supplies fantastic service to its customers. But the threat implied in the power of its platform applies even more to Google and Facebook, and less to Microsoft and Apple. All are admired because they supply terrific products and services, two of them “for free.” So why should the authorities worry about their dominance?
But it’s an illusion. The dominance by Facebook and Google isn’t expressed in prices and service, but in their ability to deter competition. Their market share shouldn’t be reflected in revenues, but in the time users spend on their platforms. With market shares of 70% to 100% in most countries, Google and Facebook translate that dominance into increasing control over advertising and commerce. In the first stage, their ability to use their information is translated into bolstering their dominance over users through great products and services. In the second stage, they knock out competition and enter more and more areas.
The value of Google, Facebook or Amazon shares doesn’t reflect their growth potential because they are the market. Their growth is the growth of the digital market. Their huge value stems from investor assessments that these are monopolies really hard to compete with.
These monopolies are smart and sophisticated, and they have breathing room and a long-term outlook. So they focus mainly on the welfare of their consumers. It’s hard to criticize companies that have so significantly improved the lives of hundreds of millions or even billions of people.
But we have to realize that their new kind of monopoly has the potential to damage markets, competition and our freedom in new ways. Their leaders know they’re playing a completely different game. In recent years they’ve begun to cooperate among themselves.
But their resources and do-good image bring over many who might ask questions about their dominance. Stories about startups, entrepreneurs and competitors that get stomped on by the digital monopolies have been relegated to the margins. Instead, journalists focus on the exciting developments at these companies, how fun it is to work there, and what a beautiful world we’d all have if we just let their great engineers invent.
That’s partly true, but it’s time to change the mix of stories and look at their market power, dominance and political power, both overt and covert. Reports that Mark Zuckerberg is considering a presidential run could be speculative drivel, and there’s no sign that Bezos is using The Washington Post, which he bought four years ago, to advance his business goals. But when it comes to the digital behemoths, their control over information could translate very fast into political power. And that’s disturbing.