Amazon and Walmart Battle for Retail’s Future
By Neil Howe, Saeculum
Research
The two firms are aggressively
scaling up and branching out:
Who will rise as the rest of retail sinks?
Who will rise as the rest of retail sinks?
Amazon turned heads last month when
it acquired
Whole Foods for $13.7 billion. On the exact same day, Walmart announced its own $310
million purchase of clothing e-tailer Bonobos. The timing is no coincidence: As
the de facto leaders of U.S. retail, Amazon and Walmart are each spending
heavily in an attempt to unseat the other. Which company has the advantage?
Amazon is a forward-thinking e-commerce heavyweight with many far-flung (if not
profitable) business lines. Walmart is unmatched in brick-and-mortar retail,
with a surging (if still small) e-commerce business. With the future headed
online, investors are betting heavily on Amazon—but is this a mistake?
The two retail giants have been
stepping on each other’s toes lately. Amazon’s Whole Foods deal has been widely
interpreted as a
defensive move against Walmart’s thriving grocery business. Amazon is also
playing offense: The company is going after Walmart’s predominately
lower-income customer base by
offering a discounted Amazon Prime membership to U.S. consumers
who rely on government assistance.
Walmart, meanwhile, has been even
more aggressive. It all started when Walmart bought e-commerce firm Jet.com for
$3.3 billion back in 2016. The company earlier this year rolled out free two-day
shipping for all orders over $35, and is testing a pilot program that pays workers
overtime for delivering packages on their commute home. Walmart is even barring
some prospective tech vendors from building apps and services on top of
Amazon’s cloud—and is telling its for-hire truck drivers that they cannot haul Amazon
goods on the side.
Each company has scored some direct
hits in this battle. But which one is positioned to win the war?
Amazon’s utter dominance of
e-commerce sets it apart in an era when ever-more sales are moving online. As
the leading e-tailer, Amazon has been the largest beneficiary of a massive shift
online: Nearly
half (43 percent) of all U.S. online retail sales take place on Amazon.com. One
key ingredient to this success has been Prime, which now tallies 66 million
subscribers—equal to roughly one in five U.S. consumers.
Arguably the company’s greatest
strength is its ability to build successful tech-enabled businesses seemingly
from scratch. Take cloud computing. In a few short years, Amazon has
transformed from a cloud newcomer to the unquestioned market leader: Fully 57 percent of survey respondents
say that their business is currently running applications in Amazon Web
Services, 23 percentage points ahead of Microsoft Azure. Meanwhile, Amazon Home
Services—a platform on which homeowners can find credentialed experts to carry
out a rebuild—is now competing with the likes of Lowe’s and Home Depot. (See 77: “Home Services, At Your
Service.”) In 2012, Amazon
even began renting out excess warehouses to create yet another profit stream.
But for all of its success, Amazon
has yet to generate much in the way of actual profits. Jeff Bezos is not
interested in growing the company’s profit margin, but rather in keeping prices
low in order to steadily gain market share—that is, grow faster than its
competitors. With a lofty P/E ratio of 187.8, Amazon is clearly benefitting
from investors who believe that the company will eventually focus on
profitability. Such a huge bet on deferred earnings is fraught with downside
risk.
So what’s the argument for Walmart?
First, it is still a much larger company, with revenues of nearly half a
trillion dollars—nearly four times Amazon’s. That scale alone enables it to put
a much bigger squeeze on suppliers than Amazon. Second, Walmart generates a
large profit—and generates it today. Walmart (P/E of 17.0) is a better value
proposition than the majority of the S&P 500 (average P/E of 21.6). The
company is also a reliable dividend machine: Walmart will pay out dividends
of $2.04 per share in 2018, marking the 44th consecutive year of dividend
growth.
Walmart’s main revenue driver is
its brick-and-mortar retail business, which continues to gain steam amid a
collapsing retail space. According to Credit Suisse, 2,800 U.S.
brick-and-mortar retail stores closed up shop in Q1 2017, a record full-year
pace. Commercial real estate firm CoStar reports that U.S. retailers must
eliminate 1 million square feet of brick-and-mortar space just to grow their
sales per square foot back to where it was a decade ago. In this low-margin
environment, cost efficiency is key—and nobody does cost efficiency better than
Walmart, a company that uses its clout
to negotiate
favorable deals with suppliers and finance its “Everyday Low
Prices.” While mall anchors like
Macy’s and
JC Penney continue to announce store closures, Walmart plans to add 10,000 retail
jobs and 59 new/renovated properties by the end of the fiscal year.
So what does the future hold?
Amazon certainly has the look and feel of a winner in the digital age. The
company epitomizes a blue-zone, mold-breaking, Silicon Valley mindset. Its leaders
aren’t afraid to spend big today to solve tomorrow’s problems. Walmart, on the
other hand, was founded in the deep-red, lower-middle class Bentonville,
Arkansas (where it still keeps its headquarters) and built upon the paradigm of
penny-pinching—hardly the type of company that inspires effusive praise as a
forward-thinking leader.
But this line of thinking may be
off the mark. For one, both companies acknowledge that tomorrow’s retail likely
will be a blend of online and brick-and-mortar. As TechCrunch columnist Sarah
Perez puts
it, “Amazon wants to become Walmart before Walmart can become Amazon.” And the
fact is that it may be easier—and cheaper—for Walmart to become Amazon. Walmart
has already shown that it is willing to spend big on top tech talent. It would
be a lot tougher, on the other hand, for Amazon to pour enough concrete to
become a brick-and-mortar powerhouse while still maintaining the company’s
culture.
The assumption
that Amazon is far ahead in the court of public opinion is also untrue. Decades
ago, Walmart was panned for decimating communities with bargain-bin
consumerism. But today, Amazon
is reviled by many consumer advocates who say that its e-commerce
dominance—powered by its robot-filled warehouses—is killing retail jobs. In an
era when consumers pride themselves on buying local to support their community
(see SI: “The New
Localism”), Amazon represents a faceless global entity without roots.
Even Millennials,
who at first glance should be overwhelmingly pro-Amazon, show strong support
for Walmart. According to YouGov BrandIndex, Walmart ranks as the fifth-favorite
brand among Millennial consumers—just one spot behind Amazon and ahead of
brands such as Netflix (#6) and Apple (#8). Why? Community-oriented Millennials
likely realize the value of a company that creates 1.5 million U.S. jobs—and are won
over by its ultra-low prices.
Both companies may
very well outperform the broader market in the years to come. But don’t be
surprised if Walmart eventually emerges on top. And even if the homely
Bentonville retailer does no more than stick around, that makes it a big
long-short winner relative to its Seattle-based rival.
TAKEAWAYS
- Take notice: The Amazon-Walmart
rivalry will determine the future of retail. Each firm is making moves in
the other’s area of expertise: Amazon bought Whole Foods to scale up in
the grocery business, while Walmart is ramping up its own e-commerce
capabilities. Which company has the upper hand? Conventional wisdom points
to Amazon, which has a dominant foothold in a surging e-commerce space and
owns a reputation as a forward-thinking market leader. But the future of
retail will likely be a blend of online and brick-and-mortar—which favors
Walmart. Why? It may be easier to acquire tech capabilities (i.e., buying
talent) than a physical footprint (i.e., building thousands of stores).
- Keep in mind that market
“duopolies” can save consumers money. Look at Coca-Cola and PepsiCo,
two companies that together control
roughly three-quarters of the soda market. Their duopoly
status has helped to keep prices lower: The CPI for carbonated beverages
has risen less than half as quickly as the CPI for all food since the
early 1980s. Similarly, it’s easy to see how the Amazon-Walmart price wars
are already benefitting consumers. In February, shoppers had to buy $49
worth of Amazon goods to qualify for free shipping. Today, that same perk costs just $25.
Walmart.com shoppers
can now save up to 5 percent on more than 1 million items through
in-store pickup.
- Expect Amazon and Walmart to
continue to play hardball with suppliers. All of these discounts come at
a price—to vendors. Walmart
recently told suppliers that it wants to offer the lowest
price on 80 percent of the products that it sells—a feat that would require
some suppliers to shave 15 percent off of their rates. Amazon is equally
notorious for its tough negotiations. The company often threatens to boot
unprofitable products (known as “CRaP,” short for “can’t realize a
profit”) from its virtual store shelves if the vendor won’t budge on
prices. Insiders suspect that this is why all Pampers products
mysteriously disappeared from Amazon.com earlier this year.
- Keep tabs on the hotly
contested grocery market. Today, Walmart
controls more than one-quarter of the U.S. grocery
market—more than double the share of its closest competitor (Kroger). But
an influx of competition, especially from abroad, threatens this market
share. German discount chain Lidl
recently opened its first U.S. outposts, and its fellow
German competitor Aldi is planning
a $5 billion, 900-store U.S. expansion. Amazon’s Whole
Foods acquisition will further turn up the heat on Walmart—though the move
may be far more damaging to Target, which has been trying to get into the
fresh grocery game for ages.
Suggested Reading
- Jason Del Ray. “Amazon and Walmart are in an
all-out price war that is terrifying America’s biggest brands.”
Recode. March 30, 2017.
- Neil Irwin. “The Amazon-Walmart Showdown That
Explains the Modern Economy.” The New York Times. June 16, 2017.
- Sarah Perez. “Amazon wants to become Walmart
before Walmart can become Amazon.” TechCrunch. June 16, 2017.
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