Amazon Deep Dive
Welcome to the twenty-fifth Pari Passu newsletter,
Today, in honor of Prime Day on July 11th and 12th, we are diving deep into Amazon.com and assessing the foundations of what made the company the technological, economic, and cultural juggernaut it is today. Founded in July 1994 by Jeff Bezos, Amazon is the largest online retailer, AWS is the market leader in cloud services, and Alexa is the most used voice assistant in the world. In this summary, we will overview Amazon's ethos and performance, detail the company’s history chronologically, and contemplate headwinds and tailwinds for Earth’s most customer-centric company.
This summary is dense, but each section can stand alone if you would like to divide up the reading.
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Overview - Ethos
Let’s start by reviewing the underpinnings of Amazon’s values and culture. The key four concepts include the Leadership Principles, the Growth Flywheel, Bezos’ first shareholder letter, and his Regret Minimization Framework.
Amazon’s Leadership Principles are a set of 16 values created by Bezos and other executives that guide every decision made at Amazon and define whether those decisions bear fruit.
Amazon lives these values in a way that no other company does; its commitment to this list across all functions and levels of the organization cannot be overstated
The initial five principles included “customer obsession,” “frugality,” “bias for action,” “ownership,” and “high bar for talent”
These principles will unlock long-term success for Amazon, which the company defines as being Earth’s most customer-centric company, best employer, and safest place to work
Bezos sketched the Amazon Flywheel on a napkin in 2001 to define the company’s enduring growth strategy to investors.
This positive loop states that greater selection will enhance the customer experience
An enhanced customer experience will drive more traffic to the website
More traffic to the website will attract a larger portfolio of sellers
A larger portfolio of sellers will offer a greater selection; the cycle continues
As the cycle continues, Amazon grows
As Amazon grows, the company adopts a lower cost structure
A lower cost structure unlocks lower prices for the customer
Lower prices also enhance the customer experience, reinforcing this cycle
In every annual report, Bezos attached (and Andy Jassy continues to attach) the first shareholder letter from 1997.
These are modeled upon Warren Buffet’s letters to shareholders
Bezos wrote that it is “Day 1” for the internet and for Amazon (if executed well)
Day 1 thinking is perpetually embraced by Amazon by maintaining a long-term focus, obsessing over customers and their needs, and boldly innovating to meet those needs
This is also where Bezos first articulates that in the long term, there is never misalignment between shareholder and customer interests
Bezos created his Regret Minimization Framework to structure his decision-making process both in founding and operating Amazon.
This framework asks you to consider which decision you will regret least when looking back
He created this as a D.E. Shaw employee when he considered leaving to start Amazon
A heuristic to this framework is to make the decision quickly/automate it if it is a two-way decision (can be easily reversed or remedied), as opposed to a one-way decision (hard to reverse, significant risk exposure)
Another heuristic to this framework is making the decision when you have enough data to justify it, not waiting until you have all of the data to prove it
Overview - Performance
Now, let’s explore Amazon’s financial, operational, and human capital performance.
Finance - Amazon’s market cap is $1.34tn, making it the fifth most valuable company in the world after Apple, Microsoft, Saudi Aramco, and Alphabet.
Revenue in 2022 amounted to $514bn (9% YoY growth), with $316bn coming from North America (13% YoY growth), $118bn coming from International (-8% YoY growth), and $80bn coming from AWS (29% YoY growth)
Cost of sales amounted to $289bn and operating expenses amounted to $213bn, bringing Amazon to $12bn in operating income; non-operating expenses amounted to $18bn (including a $13bn loss in Rivian) and Amazon’s income taxes totaled to a $3bn benefit, bringing their net loss to $3bn in 2022 (the first loss in seven years)
Amazon’s operating margin is 2.4%, with -0.9% for North America, -6.6% for International, and 28.5% for AWS
Operations - Amazon is broken up into three segments (North America, International, and AWS) and five divisions (Amazon.com, AWS, Alexa, Whole Foods, and Amazon Prime).
Amazon operates in 20 countries, with the highest-grossing being the US, Germany, the UK, and Japan
Amazon has 185 fulfillment centers, which are typically 800,000 square feet (the equivalent of 14 football fields)
Amazon’s global real estate totals 660mm square feet (93% of this is leased)
Amazon has an inventory of 300mm products and accounted for 37% of e-commerce dollars spent, compared with 6% for Walmart and 2% for Target
57% of Amazon’s sales come from third-party sellers
Amazon has 100 planes that fly to 60 destinations
Human Capital - Amazon employs 1.5mm full-time and part-time employees and has 300mm active customer accounts and 2mm worldwide selling partners.
This makes Amazon the seventh-largest retailer in the world
Amazon has over 200mm Prime members worldwide
History - Founding
Bezos ascended up the ranks of D.E. Shaw to become the fourth Senior Vice President at the firm and the likely successor to Shaw’s CEO position.
He was deployed to research and execute new financial technology projects, including an early E-Trade competitor, the first free email service on the internet, and an algorithm that uses the internet to match consumers who want to buy something and manufacturers who make that item
Bezos became particularly passionate about the last idea, which became known as “The Everything Store,” after reading that the number of web packets sent in 1993 increased by 2300 times (230,000%)
Bezos developed his Regret Minimization Framework to contemplate the decision to leave and received Shaw’s blessing (but no funding) to do so
In an early interview, Bezos explains that if you can do something with the existing/old paradigm, you should. However, when there is a new paradigm, like the internet, you should exploit the power of the new paradigm by finding things that you could not do in any other way.
His initial plan is to start with books
Books are perfect commodities
The customer experience is not impacted by the purchase location
The book market was fragmented, with Borders and Barnes and Noble holding less than 12% of the market each
There were two primary distributors, Ingram and Baker & Taylor; by forming relationships with these two companies, Bezos could unlock the vast majority of the book market
After building out the book category and establishing the customer brand, website, and traffic, he will continue this process with other retail categories to perpetuate the cycle
Bezos takes one year and sells a 20% stake in the company to raise $1mm from 60 meetings and 22 investors. He and his now-former wife, MacKenzie, elect to start their company in Seattle for tax, talent, and location incentives.
Bezos settles on the name Amazon, after considering Cadabra and Relentless, because of the alphabetic listing advantage of early portal and directory websites
Bezos and MacKenzie contribute $95,000, and Amazon’s first engineer, Shell Kaphan, contributes $5,000; Bezos’ parents offer another $100,000
Amazon was officially founded on July 5, 1994
History - Pre-IPO
John Wainwright, a computer scientist and friend of Bezos, made the first purchase on the Amazon website on April 3, 1995. The site was launched to the public on July 16, 1995, which garnered immediate success.
Amazon reached $25,000 in revenue in the first two weeks, which was also when they received their first inquiry from Yahoo
Within four weeks, Amazon sold to 50 US states and 45 countries, earning $20,000 in sales per week
They generated $500,000 in revenue in the second half of 1995 and $15.7mm in revenue in 1996
In 1995, 100,000 retailers made $324mm in sales on the internet
Bezos saw that he had the opportunity to nail a category and operational model that would allow him to dominate e-commerce sales forever
After growing out of Jeff and MacKenzie’s garage, Amazon rented their first warehouse in Seattle that was staffed entirely with temp workers filling packages on the ground
Amazon selects Kleiner Perkins to lead its initial round of funding and makes its first critical hire.
Amazon raises $8mm at a valuation of $60mm, bringing the total raised to $9.4mm
John Doerr, a prominent investor and the author of Measure What Matters, joins the board as a result
This round emboldens Bezos’ vision, and he creates the slogan “get big fast”
Bezos and John hire Joy Covey as CFO
Together, they create the tradition of reinvesting every dollar of profit back into the business
She famously states that when Amazon is forced to choose between optimizing the appearance of GAAP accounting and maximizing the present value of future cash flows, Amazon will always opt for cash flows
They work to portray Amazon as a technology company, not a retailer
Before going public, Amazon is reaching 15x YoY growth in revenue
History - IPO
Frank Quattrone and Bill Gurley of Deutsche Bank lead Amazon’s IPO on May 15, 1997, which raises $54mm at a market cap of $438mm and trades down from an initial share price of $17.
Strong revenue growth, the dot-com mania, and the desire to test Amazon’s evolving leadership team convinced Bezos that it was time to go public
The Barnes & Noble founders sue Amazon days prior to the IPO, claiming that Amazon cannot have the largest selection of books if there is no store to make selections from
They also plan to build out their website to kill Amazon, which largely fails
Forrester Research writes a report called “Amazon.toast,” claiming that the company is poorly positioned to succeed
Despite the IPO flop, impressive earrings compel Wall St to shift course. Amazon does almost $150mm in revenue in 1997, compared to $15.7mm in 1996
History - Building Beyond Books
Bezos began recruiting aggressively in the late 1990s. He primarily solicits three groups of employees: Walmart employees to build out Amazon’s retail network, engineers to build out Amazon’s technology infrastructure, and MBAs to build out new categories.
Rick Dalzel was a Walmart executive who compelled Walmart to become the first American corporation to adopt technology
He joins Amazon and brings over a dozen other Walmart executives
Dalzel transforms Bezos’ fulfillment strategy from a singular warehouse (that merely stores inventory) to a network of distribution centers (that store inventory, process customer orders, and organize shipping logistics)
By 1998, Amazon has a network of six distribution centers across Washington, Delaware, Nevada, Georgia, and Kentucky, employing many of Walmart’s strategies (and being sued for stealing trade secrets) to do this effectively
Kaphan and his team of technologists enabled Amazon to evolve into a world-class technology organization, both in technology and practice
Commercial software companies could not operate at Amazon’s scale
Kaphan was forced to build most of the technology in-house, leading the pathway for AWS
One of his most impressive feats was the creation of a dynamic webpage generation system that functioned like cookies and sessions today, allowing customers to make accounts and return to their carts
The MBAs help Amazon grow in terms of breadth
Andy Jassy was responsible for music and CDs, Jeff Wilke was responsible for global operations, Victoria Pickett was responsible for boxed software, Jason Kilar was responsible for video, Harrison Miller was responsible for toys, Jeff Blackburn was responsible for business development, the list continues
Wilke evolves the distribution center, creating the fulfillment center
The fulfillment center does the work of a distribution center with unexampled speed, accuracy, and personalization
Amazon was processing unique, single-customer orders
These are a stark contrast to the fixed and approximate store orders that Walmart’s distribution centers were made for
Acquisitions are another key part of Amazon’s growth.
Blackburn takes the approach that Amazon should acquire any company that sells and ships something that it will not be able to efficiently in the short- to medium-range
For example, Amazon was not able to ship pet food efficiently, so they acquired pets.com
Amazon acquired a shopping comparison website called Junglee that is partially scrapped to make Google
eBay is a formidable force that came off of a $2bn market cap in their very successful September 1998 IPO
Bezos wanted to outpace eBay and acquires accept.com to create Amazon Auctions to this end
However, it never gets off the ground and is considered one of Amazon’s biggest failures
Two significant operating philosophies come about at this time.
Customers are very loyal up until the moment that there is a better way for them to solve their problems than buying from Amazon
Amazon will make bold rather than timid investment decisions where there is a sufficient probability of gaining market leadership advantages, even if some of these fail
History - Dot-Com Bubble Burst & Reaching Profitability
Amazon struggles to keep up with its capital demands, and board members start to worry about Bezos’ ability as a leader.
Barrons published its infamous “Amazon.bomb” article, which argued that increased competition from Walmart and direct sellers would destroy Amazon
Amazon’s stock price declined 71% in the two years following this story
Covey and her replacement, Warren Jenson, raise $2bn in convertible debt, which demonstrated how capital-intense the business is
Revenue continued to grow impressively, but they are nowhere near profitability
They do not pay this off until 2005
Board members install Joe Galli as COO after also considering Jamie Dimon and Bill Campbell
Galli clashes with Amazon’s culture, and Bezos understands that things need to change
He modifies the “get big fast” slogan to “get our house in order” and lays off 1,300 people in January 2001
Bezos declares that Amazon will be profitable by Q42021 through the development of its enterprise web system offerings and third-party selling.
Amazon begins to build out and polish the software they created to host their own website and manage customer data, eventually operating the web systems for Borders, Toys R Us, and Target
Amazon launches Marketplace in November, which allows customers to see all of the third-party sellers and the corresponding conditions and prices for a particular product
This move was inspired by eBay pitch to Amazon to manage third-party sales
Marketplace accounted for 15% of orders initially and accounts for 50% today
Amazon makes $5mm in net income in Q42021, and Amazon’s stock jumps 25%
In contrast, eBay does not come back in the same manner after the burst
History - Amazon’s Defense Against Google and Apple
As the internet grows, browsing becomes increasingly inefficient, and Google’s search technology is looking incredibly appealing.
Before their first round of financing, Larry Page and Sergey Brin have dinner with Bezos and MacKenzie at their Seattle home
Bezos and MacKenzie invested $250,000 of their personal money into Google, which equates to about 1%; Bezos owns 17% of Amazon for reference
Google is one of the most immediately cash-generative businesses of all time and makes Bezos and MacKenzie individually wealthy
Amazon recognized that it cannot make a search product to compete with Google, but it can ensure that Amazon’s search engine for Amazon.com is superior to Google for Amazon.com (eBay’s inability to do this fueled its decline)
Amazon’s search is bolstered by its review system and personal data that Google cannot access, like demand data and intent data, which further strengthens the engine
These searching abilities also create Amazon’s advertising business, which generates $40bn in revenue today with margins of almost 100%
Bezos is also in-tune with developing technology for music consumption, including the MP3 player and Apple’s iPod, and recognizes that there is no equivalent for books.
Martin Eberhard and Marc Tarpenning start a company called Nouveau Media that builds Rocketbook, the first electronic book reader
They met Bezos in Seattle who wants to fund the Rocketbook’s development in exchange for exclusivity
Nouveau Media goes with an investment from Barnes & Noble and Cisco instead, sells their company for $200mm, and starts Tesla Motors
Bezos noticed that Rocketbooks’ LCD display consumed a lot of battery and could not be used outside
He launches Lab126 in 2004, a secretive research and development hub in Sunnyvale, CA to compete in Silicon Valley
Lab126 creates the Kindle in 2007
In addition to this being a significant hardware advance, it introduces electronic ink technology and improves wireless Wi-Fi capabilities
Lab126 also creates Fire Tablets, the Echo, Fire Phone (Amazon’s other significant failure), Fire TV, Prime Video, and Ring
History - Strengthening its Retail Moat
To continue to insulate their retail advantages, Bezos and Wilke create Amazon Prime. Prime initially offered unlimited two-day delivery on one million items for $79 per year, initially marketed as “all-you-can-eat express shipping.” Amazon Prime is $139 in the US today.
Prime enables Amazon to transform the customer experience from a variable cost to a fixed cost and leverage scale economies to improve operations
Prime also enables Amazon to better collect customer information about purchase history and personalized recommendations
Prime is largely inspired by the lessons of Costco and Jim Sinegal, specifically to focus on margin dollars over the life of a customer, not the percentage
Today, Amazon makes $20bn per year in revenue from Prime memberships
Amazon’s limited inventory model is generating impressive cash returns from their e-commerce operations.
Amazon can wait to pay suppliers two-to-three months for products that they receive instant payment for from customers
Amazon also receives massive amounts of up-front revenue from Prime subscriptions
This gives Amazon a lot of free cash to invest back into the business, building more fulfillment centers and growing and improving the customer experience; this also, however, makes Amazon’s ability to pay its liabilities dependent on growth
In the meantime, Bezos’ cash from his Google investment gives him the freedom to explore more eccentric opportunities, like Blue Origin
Amazon also acquires Kiva Systems in 2012 to create robotic technology for its fulfillment center operations, a key enabler of Prime’s delivery speeds
History - Further Diversification and Growth
Some of Amazon’s most recent expansions include the following:
Amazon expanded into new countries, including China in 2004 and India in 2013; Luxembourg became Amazon’s EU headquarters in 2010
Amazon opened its first physical store in Seattle in 2015 and has 600 retail locations today (these are primary Whole Foods and Amazon Fresh supermarkets)
AWS eclipsed revenue of $2.6bn and net income of $604mm in 2016, its tenth year in operation; AWS moved to dominate data infrastructure for the largest commercial and governmental organizations in the world
Amazon acquired Whole Foods in 2017 for $13.7bn, marking its entry into the third-largest category of American expenses
Amazon opened its second headquarters in Arlington, VA in 2018 and built out a prominent labor force in Nashville, TN
Amazon Care is launched in 2019 as the company’s first soiree into the healthcare space; this was scrapped with the acquisition of One Medical in 2023 for $3.9bn
Bezos steps down as CEO in 2021, promoting Andy Jassy to the position; Amazon takes a renewed focus on sustainability and safety
Amazon acquired MGM Holdings in 2022 for $8.5bn to expand Prime Video content offerings and boost Amazon’s advertising business
Contemplating the Future - Opportunities
The most exciting opportunities for Amazon include the continued dominance of AWS and the ability for Amazon to become a key player in new industries quickly.
AWS is the fast-growing and most profitable segment of Amazon (Andy Jassy was the CEO of AWS before becoming CEO of Amazon).
The cloud computing market is sized at $678bn and is poised to grow to $2.4tn by 2030, a CAGR of 20%
The leaders include AWS with 32%, Microsoft Azure with 23%, and Google Cloud with 10%
Beyond cloud computing, AWS is also a leader in AI/ML, blockchain, augmented/virtual reality, and blockchain
AWS holds the most established position in one of the most important industries for our future
Amazon has recently taken steps to expand into the pharmacy and healthcare spaces, as well as bolster its presence in industries in which they have not yet achieved market dominance.
Amazon acquired One Medical in February 2023 and launched Amazon Clinic, an online platform for the treatment of common medical conditions, and Amazon Pharmacy, a prescription delivery service for a flat, low-cost fee
These endeavors are likely to succeed because of Amazon’s existing infrastructure
Robust AWS data systems ensure that patient information can be stored safely and virtual provider-patient interactions are reliable and intuitive for both sides
Amazon’s distribution network and international operations position the company to quickly fulfill urgent prescriptions and better navigate shortages
This existing infrastructure can be advantageous in any growing industry and is not dependent on the stability or growth of the industry itself; similar tailwinds exist for Amazon’s fashion and advertising businesses
Contemplating the Future - Challenges
The most pressing challenges for Amazon include a wide portfolio of uncontrollable risks and monopolistic concerns by developed governments.
Let’s explore key elements of Amazon’s risk portfolio.
Geopolitical: AWS may be limited from supplying to Chinese companies in the future; Amazon’s plans to expand internationally are expensive and challenging given initial investment requirements and dislocations in brand perception/labor practices/laws/etc
Supply Chain: Amazon relies on external partners to supply goods, technology, and content sold to customers and needed for operations; fluctuations and uncertainties can be exacerbated by Amazon’s volume
Labor: Amazon’s warehouse labor challenges are well-cited, including sky-high attrition, labor union threats, and workplace safety violations; retention and recruiting challenges are also prominent on the corporate side at 70-80% across all seniority levels
Data Privacy: The prominence of AWS means that any data infringement could have a crippling ripple effect on all aspects of the business; it currently holds position #2 for the largest data fines levied by the EU’s General Data Protection Regulation (GDPR) at $888mm
Amazon’s tradition of execution efficiency and market dominance has created the empire that we know today.
Amazon is a top player in almost every industry it operates in:
Amazon.com is the largest internet retailer
AWS is the market leader in cloud computing
Alexa is the most used voice assistant
Amazon Prime is the second most popular video streaming service and sixth most popular streaming music service
Whole Foods is the tenth-largest grocer in the US
Most companies compete with Amazon in one industry. It is challenging to isolate a company that can compete with Amazon across industries, and there is no company that boasts the same multidimensional excellence. While this has turned Amazon from the “everything store” to “the everything company,” it has also garnered intense governmental scrutiny.
Amazon faces an FTC investigation that claims third-party sellers are punished for not using Amazon’s logistics services
Amazon Prime faces another FTC investigation for sign-up and cancellation policies
AWS faces another FTC investigation for antitrust practices
The list continues
Fun fact: FTC Chair Lina Khan wrote a 96-page report as a law student at Yale entitled “Amazon’s Antitrust Paradox”
It is plausible to think that Amazon may one day be broken up into component divisions or component companies
In Amazon’s first shareholder letter, Bezos estimates that 15% of all retail transactions may move online. That fact has been realized, and 90% of Americans have internet access. This begs the question of whether it is still Day 1 for the internet and for Amazon and if Amazon is still well-positioned to succeed financially, operationally, and technologically in the long term.
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Our primary sources for this summary include Ben Gilbert and David Rosenthal’s Acquired podcast and Brad Stone’s Amazon biography, The Everything Store.
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