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Retail unlocks the key to Amazon’s play for TV

Company 'building template' for future pay-TV services

In 2015, Amazon’s annual revenue passed the $100 billion mark for the first time. It ended the year having brought in $107 million across its retail and web services divisions. Despite the growing emphasis of investors and analysts on the Amazon Web Services (AWS) cloud computing division, the vast majority of Amazon’s revenue and growth is still grounded in its online retail business. In 2015, 93 per cent of Amazon’s revenue was retail-related, and just seven per cent was from AWS. In growth terms, retail is also still the key driver. Eighty-two per cent of Amazon’s $15 billion revenue growth in 2015 was derived from its retail business. AWS certainly forms a crucial part of Amazon’s future strategy, but retail remains the mainstay.

Amazon’s retail growth is underpinned by two core components: growing customer numbers and increasing average spend per account. An essential part of the increased spend has been the growth of Amazon Prime. Numerous studies illustrate the effects of upgrading to Amazon Prime on a consumer’s purchasing habits, with typical ratios indicating that Prime subscribers spend roughly twice as much with Amazon as customers without Prime. Ampere’s own research indicates that Amazon Prime customers spend nearly three times as much on digital content purchases with Amazon as the average internet user, and 50 per cent more than average on physical media purchases.

This increased spend, combined with Prime’s ever-expanding customer base, means that growth in Prime uptake has resulted in a large proportion of Amazon’s retail revenue being derived from Prime subscribers; 40 per cent in 2015, by Ampere’s estimates. The average Prime customer is now responsible for nearly $600 in revenue each year. While our calculations suggest that spend per account has fallen slightly since 2012 as the proposition has reached mass market, scaled up to the nearly 70 million Prime customers worldwide, it nonetheless translated to nearly $40 billion in annual turnover for Amazon in 2015.

This Prime-driven revenue growth is crucial for content groups as the physical media market continues to contract. While Amazon has been one of the few physical retailers to grow its media sales, the underlying market trend is finally catching up with it. Amazon’s international media revenue declined by eight per cent in 2015, offsetting growth from its North American division.

Amazon’s underlying margins are relatively low for a business of its scale and position. Operating income margins in 2015 were just four per cent in North America, and less than zero per cent internationally. Each Amazon account is therefore responsible for roughly $46 in incremental income per year. Prime customers are worth more. Not only do Prime subscribers spend more on purchasing products, meaning that retail income after sales/fulfilment per Prime subscriber is roughly $83 per year by Ampere’s estimates, but they also spend on the Prime subscription itself.

The result of this is that Amazon can effectively offset spending substantial sums to drive Prime subscriptions, against the incremental income resulting from customers upgrading. Ampere calculates that the incremental income effect of upgrading an existing customer to Prime is likely to range from $100-$130 per year for Amazon. Adding an entirely new customer to Amazon’s systems could be worth as much as $160. On this basis, if Amazon spends $1 billion on acquiring content for Prime, providing it is able to retain or add seven to eight million Prime customers as a direct consequence of this content spend, the net effect on its bottom line should be neutral.

Alongside Amazon’s acquired content, it has also begun to roll out its Streaming Partner Program (SPP), which was launched in the US in December 2015. The SPP is effectively a managed online video service platform for content owners and distributors, and customers opt to add the chosen services to their Prime bill.

So while Prime allows Amazon to subsidise content acquisition, the retailer is also slowly building out what could very well be the template for future pay-TV services.

By Richard Broughton, research director, Ampere Analysis