Updated on May 8, 2017
The Irony of Amazon
Amazon.com may well be the most innovative, best-run company on the planet. Their ability to anticipate technology and execute a strategic vision evokes the Jobs-era lineage of Apple: the first online bookstore; the largest online retailer; an electronics giant with the leading personal assistant device, Echo; the world’s largest provider of cloud storage services; a successful media development studio, garnering 11 Emmys and 3 Oscars; a nascent logistics and delivery business using drones, shipping, trucking and air freight; a grocery and convenience store business that eliminates checkout lines; artificial intelligence and machine learning services, applied across industries. Some analysts are predicting Amazon will synergize many of these technologies to marginalize brands, revolutionize the retail experience, and become the first trillion dollar company. Wow. See here:
At the heart of all this success is the brain of Jeffrey P. Bezos. This month he released his annual letter to shareholders, in which he outlines his strategy to keep Amazon a “Day 1” company, his metaphor for rapid innovation, agility, and execution. It’s a four-pronged approach: 1) Obsess over Customers; 2) Resist Proxies; 3) Embrace External Trends; 4) Implement High-Velocity Decision Making. A very interesting read (linked here: Amazon 2017 Letter to Shareholders).
In the 2017 letter, he re-prints his letter to shareholders from 1997, when Amazon truly was a Day 1 company, an online bookseller having just increased annual sales by close to 1000% to $148MM. What struck me was a single bullet point hiding in the middle of that 1997 letter: a list of eight long-term strategic partnerships to further stoke Amazon’s growth. It includes the names of a bygone internet era, like AOL, Excite, Netscape, and Prodigy. Being old enough to remember that era, the letter was like a trip in the Hot Tub Time Machine, reliving the scratchy lullaby of dial-up connections. From an investing standpoint, it was a reminder of the natural selection that occurs in business: amazingly, 20 years on, every single one of those eight strategic partners no longer exists as a stand-alone entity (if you include Verizon’s acquisition of Yahoo!, due to close later this year). In addition, every one of those eight companies has lost significant value from their valuation peaks. Let’s take a survey:
- America Online: Once a leading dial-up service and internet content provider, it merged with Time Warner in the largest-ever merger transaction. Its stock valuation declined significantly after missing the trend away from dial-up to broadband, leading to the spin-off of Time Warner. Re-imagined as a media brands and advertising technology company and sold to Verizon Communications for $4.4 billion in 2015.
- Yahoo!: The highest-read news and information website, with over 700 million visitors every month in 2016, with related web information services. Yahoo! nonetheless failed to translate their readership into profitability, agreeing in 2016 to sell their internet business to Verizon Communications for $4.8 billion, down from a peak valuation of over $100 billion.
- Excite: One of the most popular web portals and search engines in the 1990s, it merged with broadband provider @Home in 1999 to form Excite@Home. In 1999, Excite’s CEO George Bell reportedly turned down an offer to acquire Google for $750,000. Within two years of the @Home merger, its stock valuation had dropped 90% from a peak of $35 billion and the combined company declared bankruptcy in 2001.
- Geocities: The third most visited site on the web in 1999, it gained popularity for creating “cities” based on content, e.g., Hollywood for entertainment, that users could develop for free with its service. Acquired by Yahoo! in 1999 for $3.57 billion, the Geocities service was shut down within 10 years after Yahoo! changed the terms of service and scrapped the community theme.
- AltaVista: One of the most-used search engines in the late 1990s, it lost market share to competitor Google and unsuccessfully launched a web portal to compete with Yahoo!. AltaVista was acquired by Yahoo! in 2003, which changed the underlying search technology to its own and eventually shut down AltaVista altogether in 2013.
- @Home: A vanguard in broadband internet cable service, at its peak it provided internet service to 4.1 million subscribers. Merged with Excite in 1999, but following the dot-com bubble and the collapse of internet advertising, the combined company was bankrupt within 2 years and the broadband business was sold in bankruptcy liquidation to AT&T for $307MM, down from a peak valuation of Excite@Home of $35 billion.
- Prodigy: The first consumer online service to use a graphical user interface, the company morphed through the years into a dial-up internet and web hosting service, and ultimately a DSL service that by 2000 was the fourth largest connectivity provider with 3.1 million customers. Went public in 1999 but was taken private by AT&T in 2001; by 2005 AT&T was trying to sell the Prodigy brand and by 2011 had dropped support for all legacy Prodigy services.
From these examples, it’s not hard to conclude that technology is a brutal blood sport, an eat-or-be-eaten exercise in survival. Amazon has not only survived, but been crowned King of the Jungle on many technology fronts, and bears the fruit of this stature, having recently climbed to a valuation of over $430 billion (4th highest globally), a welcome outcome for its long-term shareholders. The other 8 partners? Not so much. And it’s not a technology anomaly. To point: on average, 22 companies on the S&P 500 are de-listed every year and over half of its constituents are different today than in 2000. It thus begs the question: what’s the trick in identifying the next Amazon, and avoiding the losers? The short answer: it’s very, very difficult. An infinite number of causes and conditions need to align for a company to achieve Amazon’s success: hiring and retaining the right people, gaining approval from regulators, making the right acquisitions/avoiding takeovers, creating the right capital structure, managing business line risk, investing in the right products and services, exceeding client expectations, avoiding the bureaucratic weight of largess, anticipating competitor threats, etc. It’s a daunting task to do all of them exceptionally well concurrently. To put an exclamation point on it: even with Bezos’s magic mix of corporate governance (now public for every other manager to try to emulate), Amazon will need all the same variables to break their way in the future to repeat their past success – and the current stock price already bakes in that probability! Does betting on Amazon being the next Amazon, continuing to be a dominant Day 1 company, sound a bit like gambling on number 9 at the roulette wheel?
But isn’t Bezos just different? Another takeaway might be “Don’t bet against Jeff Bezos”: he’s a genius, like Steve Jobs, Elon Musk, and Warren Buffett; I like investing in geniuses. Don’t be lulled into the assumption that intelligence equates to corporate success and can be easily repeated or prognosticated. To wit, Warren Buffett’s investment performance through his investment holding company, Berkshire Hathaway, underperformed the S&P 500 over the trailing 5 years in 2013, and it’s been very close over every 5 year period since 2011. Myron Scholes and Robert Merton were geniuses for a while until the collapse of Long Term Capital Management proved otherwise. The same can be said for Steven A. Cohen, Bill Gross, and Bill Miller: all had impressive returns for a period of time, followed by disappointment.
What makes much more sense for investors? Diversify. Don’t make big bets. Focus on the factors of return available in current capital markets, and capture them according to your risk tolerance in a tax-efficient, low cost manner. Let natural selection occur without obsessing over it, permitting the rising tide of capitalism to lift your boat [a diversified domestic large-cap stock portfolio averages an annualized compound return of around 10% over long periods]. Remember, there’s irony dripping from Bezos’s 1997 letter, given the ultimate fate of his chosen strategic partners (all of which were admired, industry-leading companies at the time). While some hit it big at the Amazon one-armed-bandit, over the long term it’s much better to be the casino, not the gambler at the slot machine.