At a recent Berkshire Hathaway shareholder meeting, Warren Buffett indicated that he made a mistake in underestimating the business brilliance of Amazon founder and CEO Jeff Bezos. Buffett has since lavished praise on Bezos, calling him the greatest businessman alive. Bezos’ leadership over Amazon has been so great that John Malone has described Amazon as the “death star” approaching every business industry in the world for eventual destruction.
I have long been interested in the steps that business leaders take to ensure continuity, or in other words, plan their own obsolescence. The best business leaders set aside the ego gratification that would come upon the subsequent generation’s failures to step into their shoes and instead take efforts to “institutionalize” the business so that it would continue to prosper even if the brilliant founder were no longer running the show.
When Amazon purchased Whole Foods, Jeff Bezos indicated that he was aware of the troubled history of grocery stores in particular and retail stores in general, with many rising and falling between the generations.
I suspect he was aware of the rise and fall of A&P, which had grown so powerful by 1956 that not only was it the largest grocery chain in the United States, but 1 out of 2 Americans shopped there at least once per month. Now, A&P no longer exists, with the only surviving remnant the Eight O’Clock Coffee brand that is now owned by Tata Global Beverages.
A&P fell because it was no longer the low-cost grocer. The entire history of the grocery industry specifically, and the retail industry in general, hinges upon the dominance of being the low-cost provider for at least a plurality of shopping items. People don’t go to Wal-Mart because they have brand loyalty to buying things at Wal-Mart. They go to Wal-Mart because it only has a 3.5% profit. For Target, the profit margin is only 4.2%, and if you have a coupon, you can get some items cheaper than Wal-Mart. And if you’re willing to completely abandon any expectations about the shopping experience and don’t mind the stale-ish taste of food, you can go to Aldi and get your groceries even cheaper.
The question that Bezos faced is: How can Amazon inoculate itself from the fate of A&P, stacking the odds that Amazon will still be standing a century from now?
The answer can be found in Jeff Bezos’ recent revelation that Amazon has more than 100 million customers that are Amazon prime subscribers. This service costs $99 per year, though there are certain student and low-income household discounts available, suggesting that Amazon is bringing in somewhere around $8 billion annually in subscription income from this service.
Customers are getting something in return–namely the promise of two-day delivery for a majority of available items and access to certain streaming perks and discounts.
But not everyone uses Amazon. There are probably millions of individuals with Amazon prime subscriptions that do not order anything from Amazon each year, or are low-volume purchasers that only buy a few items each year. To the extent these customers exist, Amazon has money coming that serves as a pricing cushion against competitors.
Put another way, over the coming decade, as Amazon builds out its logistical platform, it will have a firehose of $100 billion in Amazon Prime income coming in that Amazon can direct for more competitive.
If, somehow, a competitor developed widespread logistical capabilities that could undercut Amazon, the only thing Amazon would need to do is tap into the cushion provided by Amazon Prime subscriptions to lower its price further and maintain the preference of its customers. It is an incredible defense mechanism. A&P did not have this type of fall-back option when its operational capabilities were surpassed.