Let’s be honest: Amazon’s (AMZN) stock price doesn’t exceed $500 because the company is wildly profitable. It’s not. One quarter it might make $100 million, the next quarter it might lose $400 million. CEO Jeff Bezos is perfectly content to trade profits for market share, then crank up profitability later.
But that strategy hasn’t always played out perfectly in every aspect of the business. Right now, AMZN has neither market share nor profits in what should be a very lucrative product category: tablets.
In the fourth quarter of 2014, research firm IDC reported that AMZN accounted for just 2.3% of the tablets shipped that quarter, trailing the likes of ASUS at 4%, Lenovo (LNVGY) at 4.8%, Samsung (SSNLF) at 14.5% and Apple (AAPL), which led at 28.1%.
AMZN would like to change that dynamic. So much so, in fact, that it’s plotting on releasing a 6-inch, $50 tablet in time for this holiday season, according to the Wall Street Journal. The only question is: In a heavily competitive tablet environment, have consumers written off Amazon entirely, regardless of its rock-bottom pricing?
And even if it sells well, is this a sustainable business strategy?
Amazon’s Luxury
I hate to break it to those of you who own AMZN stock, but this $50 tablet isn’t going to add to the company’s bottom line. It’s far more likely that the low-end tablet experiment will actually cost Amazon money. After all, the cheapest Amazon-made tablet right now is the 6-inch Fire, which goes for $99 with advertisements, or $114 without ads — and Amazon already has made no bones about not turning a profit on hardware.
So, unless Amazon was able to source materials at literally half the cost of the $99 model, this newest product will further eat into Amazon’s slim profits. That is, if Amazon decides to splurge for decent materials and not go for the cheap stuff.
On the other hand, if AMZN cuts corners on inputs, it could reduce the ding to the company’s bottom line … but effectively not capture as much market share as it’s looking for. Still, one has to wonder if Amazon’s attempts to go down market are in vain. After all, $99 for a tablet — even a 6-inch one — is a steal. Will a $50 price tag really make much of a difference?
Amazon has tried to go high end in the electronics market … but the results were disastrous. Last year, AMZN tried to muscle its way into the smartphone business with the Amazon Fire phone. Forgetting for a moment that it didn’t have the pricing power that Apple and Samsung do, the device started at $650 off-contract, or $200 with a two-year contract.
That experiment ended with two-year contracts running for 99 cents and AMZN taking a $170 million write-down.
Today, AMZN knows who it is. It sells things, like the upcoming $50 Amazon tablet, on the cheap. Rock-bottom margins are a victory and breaking even or taking a loss has become the norm.
There are two reasons Amazon is willing to do this:
- For Amazon, there’s other money to be made than on just the sale of the tablet. Shopping on Amazon.com is made extraordinarily easy on its devices, and once you start shopping … well you may as well buy a Prime membership for a mere $99/year.
- Because it can. Amazon has the luxury of experimenting in low-margin realms, increasingly because of Amazon Web Services, its wildly popular cloud-based enterprise data services division. AWS mints money, and was the driving force behind its surprise second-quarter profit. Despite accounting for just 7.9% of revenue, AWS made up 36.4% of AMZN operating income.
The fact that the $50 Amazon tablet will almost certainly lose money on paper isn’t actually that worrisome. AMZN can afford it, and should be able to make up for its losses via Prime memberships and additional revenue.
But if the $50 tablet is a flop? Well then, we might see some more write-downs in Amazon’s future.
As of this writing, John Divine was long shares of AAPL stock. You can follow him on Twitter at @divinebizkid or email him at editor@investorplace.com.
