A viable alternative to Amazon’s (NASDAQ: AMZN) Prime subscription shipping program is  the biggest threat to the e-commerce giant and to Amazon stock. Amazon has painstakingly worked to provide new services to its Prime members, thereby increasing the value proposition of the service.

Prime has grown very rapidly in recent quarters.  In the second quarter, Amazon’s revenues from subscriptions jumped 55% year-over-year to $3.4 billion.

Walmart (NYSE: WMT) is now focusing on its online sales. It is also emulating Amazon’s playbook by looking to sell e-books. Walmart has recently started selling e-books in a partnership with Rakuten Kobo, the digital book division of Japan’s biggest e-commerce company.

According to Bloomberg, Walmart is also looking to compete with Amazon’s streaming business. Although Walmart is far behind AMZN when it comes to e-commerce, WMT can still leverage its store base and mammoth sales to create a  viable subscription service. Such a service would be the biggest challenge Prime has faced in a few years.

Why Is Prime So Important for Amazon Stock?

The importance of Prime subscriptions to Amazon stock cannot be overstated. In Q2 of 2016, Prime generated $1.4 billion of revenue. In Q2 of this year, revenue from Prime reached $3.4 billion.

Strong subscription service growth reduces the pricing pressure on Amazon.  If Prime’s growth trend continues, Amazon’s subscription revenues could reach $30 billion by 2020. If Prime becomes that popular, it will become a large moat for Amazon and enable it to easily enter new growth segments.

The “Amazon effect” which the news media often mentions has not been created by its growing
online sales,  but by the enormous Prime membership base which AMZN has created.

Although the huge subscription revenue generated by Prime is a big positive, Prime also allows Amazon to enter segments in which it does not have the best products or skills. We saw that scenario play out with Prime Video.

Currently, there is no other player in the market which can provide similar benefits to those of Prime. Walmart wants to change that by adding new partners and providing new services like e-books and video streaming to its members.

Is Walmart a Strong Underdog?

Walmart entered the subscription arena relatively late. Its initial steps were also not very aggressive.

Only after WMT acquired Jet.com in 2016 has it started allocating greater resources to building a strong subscription business. The fact that WMT recently reported that its online business grew 40% year-over-year shows that some of its initiatives are yielding positive results.  Meanwhile, Walmart can leverage its gargantuan revenue and huge number of stores to build a stronger subscription service.

Walmart’s recent entry into the e-book and audio book market provides the biggest signal of its intention to strengthen its subscription offerings. The retailer’s partnership with Japan’s Rakuten will provide it with a foothold in this segment which sparked Amazon’s growth in the 90’s. Amazon has an iron grip on this segment. It has sold 75% of the 400 million e-books purchased and close to 95% of the 50 million audio books bought.

The e-book market is not very big. AuthorEarnings shows that U.S. customers annually spend
close to $3 billion on e-books and another $2.1 billion on audio books. So the market will not move the needle for Walmart. But it does give WMT a great way to build a thriving subscription business. Such a business, in turn, will enable WMT to reach millions of customers.

Walmart is also looking to enter the streaming business which will put it in direct competition with
Prime Video.

Netflix (NASDAQ:NFLX) has already shown that this business requires a huge investment and produces negative cash flow. Netflix’s free cash flow, or FCF, over the last year was -$1.78 billion. On the other hand, Walmart has over $18 billion of FCF. In the last twelve months, WMT spent $5.6 billion on buying back its own shares. Now that WMT stock is gaining ground, WMT can reduce its buybacks and use more of its cash to build a stronger subscription ecosystem.

Partnerships Give Walmart an Edge

In the past few quarters, Walmart has shown surprising agility. It has entered into a partnership with Tencent (OTC:TCEHY), China’s biggest social media group and Alibaba’s (NYSE: BABA) main rival. WMT has also been expanding its partnerships with Microsoft (NASDAQ: MSFT) and Alphabet (NASDAQ: GOOG,NASDAQ:GOOGL). It signed a five-year cloud deal with Microsoft and is looking to create new retail payments options with the tech company.

Meanwhile, WMT has a stake of over 10% in Chinese e-commerce company  JD (NASDAQ:JD) and has established a close operational partnership between its China-based stores and JD. Walmart has also boldly bought a big stake in Amazon India’s biggest competitor, Flipkart, for $16 billion.

Some of the biggest players in retail, tech, banking, healthcare, and other sectors fear Amazon. Walmart is an ideal partner that can help them compete with Amazon.

The potential launch of a strong alternative to Prime by Walmart  and Walmart’s  growing partnerships with Amazon’s rivals are the biggest challenges faced by Amazon. However, this is not a zero-sum game so Amazon and Walmart could both have very strong subscription services and e-commerce businesses.

But in the short term, owners of Amazon stock should also keep an eye on the growth of its
subscription segment. If Walmart closes the gap with Prime in the next few quarters, Amazon stock could underperform the market.

Bottom Line on Amazon Stock

Walmart is ramping up its subscription business to challenge Amazon on its home turf. It has
recently entered into a partnership with Japan’s Rakuten to sell e-books and audio books. Meanwhile, if Walmart starts offering video streaming, its ecosystem and the value proposition of its subscription business will be strengthened.

Additionally, partnerships between Walmart and Amazon’s rivals could become a problem for the e-commerce giant and for Amazon stock.

Amazon’s subscription segment is quite lucrative and enables the company to easily enter new sectors.  As long as Amazon’s subscription segment continues to grow quickly, AMZN stock will still have strong momentum. However, if the growth of Amazon’s  subscription segment slows meaningfully,  Amazon stock would face a major threat.

As of this writing, the author did not own stock in any of the companies mentioned.