AMZN Stock: Amazon Is Making a $1 Billion Content Gamble

by Jonathan Berr | January 23, 2014 2:58 pm

Give Amazon (AMZN[1]) an “A-plus” for media manipulation.

amazon-amzn-stockThe Wall Street Journal[2] recently reported that the most wildly successful unprofitable company in history was working on “a possible new online pay-TV service, in what would be a significant expansion of the company’s online video efforts.” This dovetails with a Bloomberg News[3] report that argued that Jeff Bezos and company “approached U.S. media companies to acquire rights for an online pay-television service.”

In response, AMZN, which controls its messaging with the efficiency of the National Security Agency, issued a statement to refute the stories saying, “We continue to build selection for Prime Instant Video and create original shows at Amazon Studios, but we are not planning to license television channels or offer a pay-TV service.”

But if you take a closer look at the statement, Amazon hasn’t really denied anything.

AMZN might not be developing a “pay television service” like Time Warner’s (TWX[4]) HBO, but it is interested in figuring out how to charge people for video content — in this case, people who spend $75 a year to be members of Amazon Prime Instant.

From what I have seen of Prime Instant on my new smart TV, it looks pretty good. Garry Trudeau’s political comedy Alpha House, its highest-profile show, has gotten some good reviews[5].

Still, Amazon doesn’t have enough time to create enough content on its own fast enough to gain enough scale to compete against rivals such Netflix (NFLX[6]) and Hulu. Perhaps Amazon will try to demand access to the media companies’ libraries and might try and co-sponsor some of the content on its channels such as comedy specials and concerts.

But one show doesn’t create a “network,” and therein lies the problem for Amazon.

The reason why Amazon says it’s not trying to license channels outright is because media companies would demand retransmission fees to access popular channels such as Walt Disney’s (DIS[7]) ESPN and Viacom’s (VIAB[8]) Nickelodeon.

Amazon’s strategy, though, isn’t going to be cheap to execute either. As the Journal notes, Cantor Fitzgerald analyst Youssef Squali estimates that AMZN spent about $1 billion on original content in 2013. If Amazon’s content dreams are as expansive as the media suggests they are, that’s a drop in the bucket compared to what Amazon would need to shell out to achieve those aspirations, and that would be a hefty weight on AMZN stock. Indeed, Netflix’s content bill is pegged at $2 billion annually[9], and that’s going to climb as well.

Unfortunately for Amazon (and Netflix and whatever other company dreams about being the next king of content), the media companies hold all the cards.

Content, which is valuable now, is going to become even more valuable in the years to come as more distribution channels for video content emerge. As a result, content costs that Amazon and other rivals are going to face in coming years will probably rise at exponential levels over their current levels in the years to come.

One reason why AMZN might decide to undertake this costly and potentially risky strategy is that it worked before. When Amazon first introduced the Kindle e-reader in 2011, it decided early on to sell the devices at a loss and make its profit on the sale of digital books.

The strategy has worked beautifully — to an extent.

According to recent market research data, digital books account for roughly half of all U.S. book sales[10]. Amazon’s share if the e-book market is about 60%[11]. But the price of market domination has been a steep one. AMZN hasn’t been consistently profitable since the Kindle was first introduced. (Not that AMZN stock has exactly suffered as a result.)

Now, I won’t repeat arguments about Amazon’s insane valuation or how the media gives the company a free pass for ideas it offers that might never happen, such as drone delivery. But one thing that even the most diehard of Amazon haters can agree upon is the company’s amazing patience.

Owner Jeff Bezos was willing to spend millions of his own money to buy the Washington Post last year with an eye toward reinventing it for the digital age. When that’s going to happen is anyone’s guess. Given Bezos’ track record, it isn’t a stretch to assume that he is willing to be as patient as he seeks to disrupt the television industry.

AMZN stock holders, who have seen shares surge more than 48% during the past year, better fasten their seat belts, because with a stronger foray into digital content, the company’s bumpy ride is about to get even bumpier.

My advice would be for investors not already in AMZN stock to sit on the sidelines until Amazon’s valuation becomes more realistic.

If you’ve already been holding … well, you clearly can handle the value issue.

As of this writing, Jonathan Berr did not hold a position in any of the aforementioned securities.

  1. AMZN:
  2. [Image]The Wall Street Journal:
  3. Bloomberg News:
  4. TWX:
  5. has gotten some good reviews:
  6. NFLX:
  7. DIS:
  8. VIAB:
  9. $2 billion annually:
  10. half of all U.S. book sales:
  11. is about 60%:

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