Amazon’s big bet on 1-day delivery is costing more than expected and cutting into profits

Amazon is spending big on a new one-day shipping delivery initiative. (GeekWire Photo / Kurt Schlosser)

Turns out that trying to promise 1-day delivery to tens of millions of customers costs a lot of money.

Amazon announced plans earlier this year to shift its free-two day shipping program for Prime members to one day, speeding up delivery times for the company’s most valuable customers. It forecasted an $800 million expense for the second quarter as it began to roll out the initiative.

On a call today with reporters following its Q2 earnings report, Amazon CFO Brian Olsavsky said that while customers are responding well to 1-day shipping, costs came in slightly above his earlier estimate. He cited “additional transition costs” such as adding inventory and moving it closer to the customer.

“Essentially, productivity was off a bit in our warehouse and transportation networks as we were expanding capacity pretty quickly,” Olsavsky said.

Amazon lowered expectations for its operating income in the current quarter, down as much as $1.6 billion from last year, suggesting that the company is spending big on new initiatives such as 1-day shipping.

Amazon package
An Amazon package at the company’s fulfillment center in Kent, Wash. (GeekWire Photo / Kevin Lisota)

Amazon fell well short of profit expectations for the second quarter and its shares fell in after-hours trading Thursday.

But the Seattle company isn’t too worried about investing heavily now for something it hopes will drive more revenue down the line — a strategy embedded in Amazon’s DNA since it launched more than two decades ago. “It’s all about the long term,” Amazon founder and CEO Jeff Bezos wrote in the company’s 1997 shareholder letter.

Olsavsky echoed that sentiment on Thursday. “We’ve been down this road before,” he said, citing times when Amazon rolled out similar fulfillment shifts such as adding non-media products to its retail catalog, or when Amazon implemented the initial free 2-day shipping Prime benefit.

“It does create a shock to the system,” Olsavsky said on a later call with analysts. “We are working through that now and we expect we’ll be working through that for a number of quarters. But when the dust settles, we will regain our cost efficiency over time.”

Amazon will focus on rolling out 1-day shipping for more products first in North America and then internationally. The company is hoping that the strategy adds more value to its $119/year Prime memberships and increases the amount of purchases customers make on Amazon versus elsewhere — including physical retailers.

“What you’re seeing is a lot more products enter the consideration set for our customers,” Olsavsky said. “The things that maybe they can’t wait two days on, they can wait one day. It lights up a whole separate usefulness for the Amazon site. I’ve noticed it personally myself — with 1-day shipments, it’s here before you know it.”

Amazon’s push for faster shipping has reshaped the retail industry, with many competitors such as Target and Walmart offering two-day delivery options. Ebay on Thursday announced a new delivery service to speed up shipments between buyers and sellers on its own e-commerce platform.

Now Amazon is upping the ante as others have caught up.

“Customers are responding to Prime’s move to one-day delivery — we’ve received a lot of positive feedback and seen accelerating sales growth,” Amazon CEO Jeff Bezos said in a statement. “Free one-day delivery is now available to Prime members on more than ten million items, and we’re just getting started. A big thank you to the team for continuing to make life easier for customers.”

The company’s shipping costs have ballooned in recent years as it aims to speed up delivery. During Q2, Amazon spent $8.1 billion on shipping, up 36 percent. In 2018, Amazon spent $27.7 billion on shipping, an increase of $6 billion or roughly 27.6 percent over the prior year.

Analysts are still bullish, despite the near-term impact on margins.

In a note to investors earlier this week, RBC listed a 12-month price target of $2,300 — Amazon stock was trading at $1,973 Thursday — with an “outperform” rating. It estimates Amazon accounts for roughly 20 percent of U.S. online retail sales, “but the company’s strong mobile positioning and infrastructure advantages facilitating next-day and same-day delivery should allow Amazon to continue to take share,” according to the note.

Some see even more growth ahead. An analyst with Piper Jaffray told CNBC that Amazon stock could be “on the cusp of a major breakout” with a “clear path to an all-time high of $2,700.”

Amazon said it had more than 100 million Prime members in April 2018; it has not provided an updated number since then. In addition to fast free shipping, members also get benefits including cloud storage, streaming movies and TV shows, discounts at Whole Foods, and other perks. 

A report last week from Consumer Intelligence Research Partners said Amazon had 95 million U.S. Prime members, with year-over-year membership growth slowing.

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