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The Story of Jeff Bezos and Amazon.com
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Over the past 30 years, Amazon has evolved from a modest startup selling books online to a global frontrunner in both e-commerce and cloud infrastructure. Much of Amazon's meteoric rise can be attributed to groundbreaking innovations such as Amazon Prime, AWS, Alexa, and a remarkably efficient global logistics network. But how did a simple online bookstore transform into one of the world's leading tech giants? Let's explore this further and delve into the story of Jeff Bezos and Amazon.com.
The Story of Jeff Bezos
Throughout his academic journey, Jeff Bezos consistently excelled, culminating in a degree in computer science and electrical engineering from the prestigious Princeton University. By age 26, Bezos found himself at D.E. Shaw, a quant-driven hedge fund on Wall Street. Known for his unparalleled work ethic, Bezos was the kind of workaholic who occasionally spent nights at the office.
If one were to sum up Bezos in one word, many would choose "curious." This trait shone brightly during his time at D.E. Shaw where he consistently displayed qualities that he's still renowned for today. Always disciplined and analytic, Bezos never went anywhere without a pen and notebook, ready to capture fleeting observations as if they would otherwise disappear. His loud and frequent laughter was another defining feature.
While he thrived and was held in high regard at D.E. Shaw, his insatiable curiosity ensured he wouldn't stay there for long. He closely observed the explosive growth of the internet, or the World Wide Web. In the early 90s, the internet saw a staggering year-over-year growth of 230,000%.
This was the catalyst for Bezos to immerse himself in both entrepreneurship and the internet. He began brainstorming business ideas with his Wall Street colleagues and his interest increasingly leaned towards e-commerce. Bezos started by creating a list of 20 potential product categories for an online store, encompassing items like software, office equipment, and music.
He ultimately choose books, primarily because they represent a straightforward commodity. Consumers know exactly what they're getting: a book is identical regardless of where it's purchased. Bezos believed this would instantly foster trust among consumers and enable efficient warehousing. Furthermore, an online bookstore could quickly gain a competitive advantage over traditional brick-and-mortar stores like Barnes & Noble by offering a significantly broader range of SKUs. In fact, when Amazon was founded in 1994, books were the product category with the highest number of SKUs, and this is still true today.
In spring 1994, Bezos approached his boss, David Shaw, with intentions to leave the company and pioneer an online bookstore. Shaw was concerned and proposed a contemplative walk in Central Park. After two reflective hours, they decided Bezos would mull over the decision for a few days. Analytical as always, Bezos mentioned he'd devised a "regret minimization framework" to guide his choice. By the year's end, after four years of duty on Wall Street, Bezos stepped away to realize his vision of tapping into the potential of the internet. This vision evolved into what we now recognize as Amazon. Bezos later reflected on this pivotal decision in his life and the framework he used to make it:
"I wanted to project myself forward to age 80 and say, 'Okay, now I'm looking back on my life. I want to have minimized the number of regrets I have.' I knew that when I was 80 I was not going to regret having tried this. I was not going to regret trying to participate in this thing called the Internet that I thought was going to be a really big deal. I knew that if I failed, I wouldn't regret that, but I knew the one thing I might regret is not ever having tried. I knew that would haunt me every day. When I thought about it that way, it was an incredibly easy decision."
Online Stores & Third-party Sellers
Since its inception, Amazon's core business has revolved around e-commerce. This segment is split into two parts: its own direct-to-consumer (D2C) segment called Online Stores and its Third-party Sellers operations, where other companies are invited to sell their products on Amazon's platform.
Amazon initially focused on D2C. However, in 2000, they made the seemingly counterintuitive decision to welcome third-party sellers onto its platform, effectively allowing external companies to compete with them on their own turf. This strategy has since proven immensely successful, with third-party sellers now accounting for the majority of sales on Amazon.com. Yet, when it comes to Amazon's e-commerce revenue, about 60% still comes from its Online Stores, due to the fact that only a percentage (take rate) of the third-party sellers revenue reach Amazon's topline.
So, how did Amazon become such a behemoth within e-commerce? While industry growth plays a part, the intrinsic advantages of e-commerce have been pivotal. E-commerce offers consumers lower prices, an expansive selection, and unparalleled convenience. These benefits not only save consumers time and money but also present a vast array of choices. Furthermore, the business model is highly scalable and provides robust competitive advantages for market leaders. Amazon, having been one of the earliest entrants in the space, has reaped the benefits of this leadership position since its formative years.
Scalability is an interesting topic worth discussing more. In the context of products or services, scalability is defined by minimal to non-existent variable costs. When paired with a vast addressable market, this allows a product or service to reach countless consumers simultaneously without elevating costs or changing the core structures of the business as revenue grows. For example, while a shoe manufacturer experiences a notable variable cost by producing a pair for every new customer, a company like Meta can add countless additional users without meaningfully increasing costs.
The gross margin reflects the scalability of businesses in many ways. Some examples of scalable businesses are Alphabet, Meta, and Activision Blizzard – software and digital distribution in general. Amazon incurs an average delivery cost of around $4 per package, translating to a variable cost of $4 per purchase just for the logistics part of the equation. This positions Amazon's scalability at a level below the previously mentioned companies. However, this entails various advantages.
Certainly, what's intriguing isn't the cost per package delivered. Rather, I'm drawn to the inherent variable cost arising from the vast logistics networks, distribution centers, and supply chains that e-commerce relies upon, especially for its internally produced goods. It's this physical presence that carves out and reinforces a competitive edge. Take LVMH for instance; it exemplifies the benefits of not existing in a purely scalable industry, balancing between tangible production and a limited digital footprint. Contrary to popular belief, there are arguably numerous advantages in not being overly tech-centric.
E-commerce's physical component thus acts as a formidable shield against disruptive technologies. To carve out a niche in the e-commerce landscape, an entrant not only needs to establish its logistics network and distribution centers but also manage its production if it's focused on a D2C model. Such an endeavor is both time-consuming and capital-intensive. To put things into perspective, Amazon, which as of 2016 handled only 8% of its logistics, now manages over 70% of its logistical operations in-house. Replicating such infrastructure is undeniably challenging and costly.
It's hardly coincidental that the most prominent and valuable companies in South America and Asia, MercadoLibre and Alibaba respectively, along with Amazon being one the most valuable in the U.S, are first and foremost all online retailers. More aptly, these entities could be labeled as platform companies. They don't just participate in e-commerce; they own the infrastructure that powers it (which is where we find the primary competitive advantage).
The expansive supply on these platforms draws in the largest consumer base. And the larger the consumer pool, the more appealing these platforms become for new businesses. This creates a potent and self-reinforcing network effect that's challenging if not impossible to beat at a certain scale.
Remarkably, in the very year Amazon was founded, Jeff Bezos predicted that e-commerce would likely be dominated by a single entity or a select few. This insight came from recognizing the potent competitive advantage of economies of scale, which allow for the lowest prices, fastest deliveries (thanks to significant investment opportunities), and the widest product selection. Bezos drew much of this understanding from Sam Walton and Jim Sinegal, who had implemented similar strategies in the U.S. physical retail landscape with Walmart and Costco respectively.
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Amazon Prime
At the heart of Amazon lies Amazon Prime, a multifaceted subscription service. Not only does it offer free shipping on all items found on Amazon, but it also provides services for streaming music, movies, and TV. Additionally, members benefit from cloud storage, access to the Amazonfresh food delivery service, and exclusive discounts at the Whole Foods grocery chain.
In 2018, JPMorgan conducted an analysis, valuing the true worth of Amazon Prime at $785 annually. Yet, its current pricing stands at $14.99 monthly and $139 yearly, which is merely around 18% of JP Morgan's estimated value. Intriguingly, while Prime costs about the same as Netflix, the breadth of its offerings makes the comparison seem quite disproportionate. Although the price of Prime was hiked from $99 to $119 in 2018 and from $119 to $139 in 2022, its user base has continued to expand without any signs of slowing.
"We want Prime to be such a good value, you’d be irresponsible not to be a member."
–Jeff Bezos
According to a 2018 report from Business Insider, the average Amazon customer in the U.S. spends about $600 annually. In comparison, an Amazon Prime member shells out an average of $1,400 each year. This significant difference likely justifies the affordability of Amazon Prime; the company does profit, just indirectly. Over a decade, the spending of an average Prime member on Amazon increases tenfold.
Another fascinating aspect to consider is the psychological dimension of the purchasing process. Given that consumers trust Amazon and have a recurring cost associated with it, they are incentivized to make Amazon their primary online shopping destination whenever they need something.
"We get to monetize in a very unusual way. When we win a Golden Globe, it helps us sell more shoes. And it does that in a very direct way. Because if you look at Prime members, they buy more on Amazon than non-Prime members, and one of the reasons they do that is once they pay their annual fee, they’re looking around to see, ‘How can I get more value out of the program?’ And so they look across more categories – they shop more. A lot of their behaviors change in ways that are very attractive to us as a business. And the customers utilize more of our services."
– Jeff Bezos
Amazon Web Services (AWS)
AWS, Amazon's counterpart to Microsoft Azure and Google Cloud, operates within the infrastructure as a service (IaaS) domain. By Q2'23, AWS reported impressive revenues of approximately $22 billion, establishing it as the uncontested global leader in this space – a figure roughly three times higher than that of Google Cloud.
A popular narrative exists that Amazon came up with the idea for AWS by considering the sale of surplus data processing capacity left over after the heightened demand of peak trading days like Christmas Eve, Black Friday, and Cyber Monday. This peak demand would naturally result in excess capacity during quieter periods. However, many Amazon insiders challenge the authenticity of this story.
The rise of AWS raises some obvious questions. How did an e-commerce company diversify into such a distinct and different domain? I contend that it's no coincidence that Amazon pioneered both the cloud vertical and the API concept. Innovations like AWS, Alexa, and Amazon Prime have all emerged from the trained minds of Amazon employees, underlining a company culture deeply rooted in innovation and visionary thinking, largely shaped by Jeff Bezos himself.
As testament to this commitment, every senior leader at Amazon is mandated to read "Black Swan" by Nassim Nicholas Taleb, a book that profoundly challenges conventional thought patterns. Moreover, Bezos has experimented with myriad management models in pursuit of fostering innovation and optimizing group dynamics. While many were deemed ineffective and discarded, the principle of operational excellence – akin to the Japanese concept of Kaizen – has been incrementally refined. These tweaks gradually push Amazon closer to its ideal organizational structure, which, in turn, serves as the bedrock for its thriving corporate culture and success.
The synergy between AWS and Amazon's broader operations is evident, aligning perfectly with Amazon's forward-thinking investment strategy. With AWS being more profitable than Amazon's e-commerce arm, its revenue significantly bolsters further investments across Amazon's diverse ventures.
The domain of cloud computing, deeply intertwined with artificial intelligence and algorithms, is complex, and there's a notable global shortage of specialists. Currently, those skilled in AI and web programming are highly sought after, perhaps like never before. This deficit in specialized expertise further cements the supremacy of powerhouses like AWS, Microsoft Azure, and Google Cloud. As these entities handle more data, they continually enhance their AI prowess, indicating that leading the cloud industry offers a significant competitive advantage. Clearly, these behemoths are shaping the world's transition into an AI-driven future.
Prominent names like Spotify, Netflix, Twitter/X, Disney, Meta, Baidu, and Adobe are just a few of the many customers that rely on AWS. Notably, significant sectors of the U.S. government, including entities like NASA and the CIA, are customers of AWS as well.
Whole Foods
It's widely recognized that companies with a substantial physical footprint are increasingly embracing digital transformation. However, the inverse – digital-first companies delving into the physical realm – is rarer and offers a more intriguing analysis. Consider the 2017 acquisition: Amazon, an internet-born giant, acquired Whole Foods for $13.7 billion. Whole Foods, which holds approximately 2.5% of the massive $800 billion U.S. food market, stands as an unconventional choice for a rapidly growing digital company. This move into a relatively stagnant market, coupled with the acquisition of significant real estate (even if many of Whole Foods' locations are leased), is indeed noteworthy.
One compelling reason for Amazon's acquisition is its strategy to continually enhance the Prime offering. Amazon recognizes that these additions are likely to create value for a broad spectrum of consumers, a factor I find particularly worth discussing. Bezos' thought-provoking words further illuminate this perspective:
"I very frequently get the question: ‘What’s going to change in the next 10 years?’ This query is both intriguing and common. Yet, I'm seldom asked: ‘What’s not going to change in the next 10 years?’... [He then emphasizes building a strategy rooted in constants like low prices, fast delivery, and vast selection.]"
In essence, Amazon not only leads the world in research and development spending but also invests heavily in what they believe to be timeless assets and trends. How do you compete against such a company?
One of the most significant expenses and challenges for online retailers is the cost of deliveries. Amazon's increased physical presence, such as through Whole Foods, might be a strategic response to this challenge. For instance, Whole Foods could serve as Click & Collect centers, allowing customers to enjoy reduced prices while Amazon simultaneously cuts logistics costs. Moreover, this expanded physical network could facilitate easier product returns by customers, resulting in additional cost savings.
Amazon has long been committed to pioneering drone deliveries. It's conceivable that Whole Foods locations could double as 'drone hubs,' strategically reducing delivery distances. However, before this vision becomes a reality, there's a need to revisit drone legislation. Numerous challenges, including privacy concerns from onboard cameras, potential threats to public safety, and other societal considerations, must be addressed.
The primary motivation behind Amazon's acquisition of Whole Foods seems to be its strategy to bolster Prime, fortifying its competitive advantage and broadening its ecosystem. However, I contend that there's a deeper rationale to this deal. Time will tell as its true success will become more evident in the future. Currently, Amazon grapples with significant expenditures, notably salaries and delivery costs. Yet, its relentless refinement of the logistics chain, coupled with increasing automation, suggests a promising trajectory towards substantial margin enhancements in the future – whereas Whole Foods potentially could play a large role in.
Jeff Bezos Net Worth
While the ownership structure might not typically be a focal point for a behemoth like Amazon, it's intriguing to note Jeff Bezos's pivotal role. As the founder and Chairman, Bezos holds significant influence, owning roughly 10% of the company. This stake, valued at approximately $130 billion as of 2023, crowns him one the world's wealthiest individuals. Beyond Bezos's substantial holding, the company's broader management collectively owns about 4%.
Warren Buffett, the world’s most famous investor, initiated a stake in Amazon in the latter half of 2019 and has owned Amazon ever since. Renowned for seeking firms with pronounced competitive edges, it's noteworthy that Amazon comprises merely around 0.5% of Berkshire Hathaway's portfolio. I'm keenly interested in tracking Berkshire Hathaway's future engagements with Amazon.
Concluding Thoughts
Throughout its existence, Amazon has faced relentless scrutiny over its perceived lack of short-term profitability, a challenge Jeff Bezos has addressed for decades. Yet, this narrative persists, even as Bezos and Amazon consistently demonstrate the long-term value of strategic investments aimed at solidifying its competitive edge.
The preoccupation of many is with immediate cash flow and profit. However, it's crucial to recognize that present lower cash flows, a byproduct of aggressive investment, often presage increased cash flows in the future. To highlight Amazon's commitment to innovation: it leads global spending on research and development, outlaying a colossal $82 billion in the past year – an amount comparable to the combined expenditures of tech behemoths Microsoft and Apple.
While the industry often zeroes in on business models, the broader strategic vision often remains overshadowed. To truly grasp Amazon's ethos, one must refer to Bezos' first shareholder letter. Rather than detailing the business model, this letter delves into Amazon's strategic intent. It encapsulates a vision of longevity, underscoring market expansion and relentless customer focus over short-lived earnings. This foresight has been instrumental, propelling Amazon from its humble beginnings as a bookseller to its stature today as one of the world's most valuable companies by market capitalization in just 30 years of existence.
Because of our emphasis on the long term, we may make decisions and weigh tradeoffs differently than some companies. Accordingly, we want to share with you our fundamental management and decision-making approach so that you, our shareholders, may confirm that it is consistent with your investment philosophy:
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