Now that Amazon is breaking out revenues from its cloud computing business, we have a clearer picture of how its core retail business is performing — and this is what we found: It might be profitable, but heavy investments in Prime are taking a toll.
“We are making great investments for the long term, and that’s reflected in the operating results,” said Amazon’s CFO Tom Szkutak, during a phone call with analysts. “Over the last several quarters, we have been investing heavily in the business because we like what we see and Prime is growing so dramatically globally, after being in it for so long. It’s a great platform to feed.”
In the first quarter, Amazon reported a North American operating profit of $517 million on sales of $13.4 billion, resulting in a 3.9 percent margin. Overall, the company’s first-quarter revenues beat analyst expectations, although it returned to a loss after reporting a strong holiday quarter.
More than one Wall Street analyst commented during the call on how thin margins were, especially since net sales also include some smaller businesses, like advertising. That could suggest the retail business is only breaking even if those other units are more profitable.
In response to multiple questions, Szkutak said the margins have to do with heavy investments being made in Prime, but justified the spending because of the strength of the two-day shipping program. Over recent years, spending has swelled as the 10-year-old program has expanded to include other perks, such as music, video streaming and original content.
In the past, Amazon’s CEO Jeff Bezos has called Prime a “one-of-a-kind, all-you-can-eat, physical-digital hybrid.” In 2014, Amazon disclosed it paid “billions of dollars for Prime shipping and invested $1.3 billion in Prime Instant Video.”
But so far, the evidence suggests the high costs are paying off. Even after raising the price of Prime to $99 a year from $79, customers continued to sign up, with a 50 percent increase in members in 2014. And, third-party estimates believe Amazon Prime members spend $1,500 a year on average, compared to non-members who spend about $625 a year.
Szkutak did not disclose specifics, but gave one example on how all of the Amazon Prime perks are intertwined. Often times, he said customers first discover Prime through a free trial in order to watch video content, and then they also become hooked on the convenience of two-day shipping. “We bring in new customers through the video pipeline, who then end up with similar purchasing patterns as customers who come in through other pipelines,” he said.
Another investment that Amazon is working fast to deploy is Amazon Prime Now, which allows customers to receive packages within an hour or two of ordering them. Today, the service is live in seven cities, but Amazon promised it will be rolling it out quickly to more markets.
“We are in seven cities today, and there will be more to come,” Szkutak said. “We haven’t said how many, but we are very excited to do that.”
Still, it is this extreme level of investing that often makes investors pause and wonder when it will ever stop — and when will Amazon start reaping the rewards of all its efforts.
Szkutak: “We think we have the opportunity to improve margins over time, but you’ll have to stay tuned to see what it looks like.”
