- At the end of July, Amazon announced disappointing financial results for Q2 2014 driven by a drop in AWS revenues.
- Two weeks after the earnings call Amazon, announced a new mobile payment service named Amazon Local Register to compete with Square and PayPal Here.
- By offering mobile payment service, Amazon could be present in the brick-and-mortar stores and leverage that to future partnerships and further income from complementary services.
At the end of July, e-commerce giant Amazon (NASDAQ:AMZN) reported its Q2 2014 financial results with EPS lower than analysts’ expectations and slightly higher revenues than expected. As shown in chart 1 below, Amazon showed seasonal net sales figures with a 2% drop QoQ, similar to the 2% QoQ drop the company presented in Q2 2013 and 3% drop in Q2 2012. At overall company levels, the total net sales figure in Q2 2014 fits the seasonal trend; however, looking at the quarter-over-quarter change in each segment can tell a different story.
Chart 2 below presents the QoQ change in the different revenue streams of Amazon from Q2 2012 to Q2 2014. As seen in chart 2, Q2 2014 sales in Media segment and Electronics and Other General Merchandise segment have a similar QoQ change as Q2 2013 and Q2 2014. However, change in the Other segment, which is dominated by revenues from Amazon Web Services (AWS) is not following the seasonal trend and saw a 3% QoQ. The change in the Other segment is highlighted in yellow in the diagram below to highlight a drop in Q2 2014 compared to the QoQ change in Q2 2013 and Q2 2012. In Q2 2014 conference call, Amazon’s CFO Tom Szkutak mentioned that price reductions that ranged from 28% to 51% drove the reduction in AWS revenues and translated into a decrease in the segment revenues, even though usage grew 90 YoY.
Mr. Szkutak also mentioned in the earnings call that AWS is undergoing a change, hiring more employees and announcing some new services. New services include Amazon Cognito for identity management, Amazon Web Analytics for app usage data visualization, and Amazon Zocalo to securely store enterprise data that allows users to share and gather feedback.
Even though AWS announced many new services and features to help boost their future sales, an announcement that came out two weeks after the Q2 2014 earnings release is far more exciting and could have a bigger impact on the company’s financials. Amazon announced a new credit card reading service, named Amazon Local Register, which offers local retailers a quick and easy swipe for credit and debit card transactions. Amazon has tried for the last few years to break out of the e-commerce market and become a major player in the real world, first by offering cloud and storage services, then by launching the Fire Phone, and now by offering transaction services for brick-and-mortar businesses.
Currently, credit card transaction services operated by mobile devices are dominated by PayPal Here and Square, which offer in-store payments, online invoicing, and easy-to-use interfaces to small businesses. While trying to penetrate the mobile payment market, Amazon faces two main problems. The first problem is that local retailers consider Amazon as an e-commerce giant that threatens their business and will not rush to do business with the company. By contrast, Square and PayPal are considered as mobile payment services that brick-and-mortar stores are not intimidated by. The second problem Amazon faces is the dominance of Square and PayPal in the mobile payment market. Both of these companies have a strong brand in that market, a wide ecosystem, and years of experience, and they will do everything they can to defend their bread-and-butter services.
In order to penetrate that hard market, Amazon offers lower fees than its competitors. As seen in chart 3 below, Amazon Local Register offers an almost one percent point lower transaction fee than Square and PayPal in order to gain a substantial market share through low prices.
Amazon offers low transaction fees as it is probably not looking to make money on mobile payments in the short term but to gain access to physical stores. In the long term, Amazon could use its relationships with local retailers to integrate Amazon Local Register with its current available services. For example, Amazon could integrate the new services with its Amazon Fresh service for grocery delivery or include merchandise from local retailers in its same-day delivery service. Furthermore, Amazon could drive complementary AWS services to retail chains to offer a broad service package. In order to expand its services from the web to the traditional stores, Amazon needs to be present in these stores, and Amazon Local Register can be the first step in that direction. The new service should start yielding profits quickly as joining the service is fairly easy, and the transaction fees are very competitive. In its Q3 2014 guidance, Amazon expects revenues to range between $19.7 billion and $21.5 billion with a mid-range of $20.6 billion that reflects a 7% QoQ increase that is slightly lower than the 9% QoQ growth in Q3 2013 and the 8% QoQ revenue growth in Q2 2012. It will be interesting to see how much revenue Amazon can generate from one month of offering this new service. The full impact of Amazon Local Register should be reflected only in Q4 2014 financials.
After slightly disappointing revenues figures led by a drop in the Other segment, Amazon tries to access the traditional local retailers and offer a mobile payment service named Amazon Local Register. In order to compete with market leaders Square and PayPal, Amazon is offering comparatively lower fees. Amazon is most likely not looking to make money from the new service in the short term. However, its presence in brick-and-mortar stores should enable the company to offer these stores complementary services and future partnerships in other Amazon services. There is not enough information to assess the impact on Amazon financials; however, as I mentioned above, this move is considered a long-term move and its impact should be quantified in a few quarters. For now, this should not affect a buy or sell order for Amazon, but should be added to Amazon’s investors' watch list for the next earnings calls.