The flywheel

Tuesday 2 June 2020

Amazon is not just a player in the market – it is the market, growing in momentum every year. Now, anti-trust regulators are racing to catch up

Inside Amazon’s economy

You may not have heard of the Yorkshire Purchasing Organisation. Nor should you. But this local British procurement agency was behind Amazon’s largest-ever deal with a UK public sector body.

Jeff Bezos’s conglomerate signed a £400 million contract with the organisation last year to build a digital marketplace selling everything from paper clips to bandages to the county’s schools, care homes and emergency services.

Amazon won the contract uncontested.

YPO chose not to open the bidding up fully to competition because the Seattle-based goliath was “the only viable contractor currently operating in the market”, documents filed on the EU’s tenders database show. Under European law, public authorities can only forgo an open tender process in exceptional circumstances. (In 2018, YPO had asked other companies to provide short expressions of interest: it decided that only Amazon’s had been “compliant”.)

It’s not the only example of Amazon being treated as a special case.

Last month, British authorities accepted that the online retailer was the “only” company that could save Deliveroo, the fast-growing food delivery service. The competition and markets authority (CMA) set aside concerns that Amazon’s £400 million investment would stifle competition in the sector after Deliveroo’s financial advisers said that if Amazon did not invest, Deliveroo would fail.

Domino’s, a competitor to Deliveroo, argued in a scathing response that the CMA’s decision could “reinforce the dominance of Amazon”.

“Amazon could easily advertise Deliveroo to its large online user base (based on user location or history),” the pizza delivery service noted, adding that it could also “offer free delivery with Deliveroo orders for Amazon Prime or Amazon Fresh members”.

Much like the USA when it was the world’s unrivalled economic superpower, the United States of Amazon is, increasingly, not just a player in the market, it is the market. Yes, it’s creating many of the markets it dominates – but that won’t stop growing fears about the cost of its success – fears over competition and consumer choice, personal privacy, pricing power and public services reliant on Amazon.

All this year, as part of our Tech Nation series, we’re reporting on the world’s largest technology companies as if they were countries – not corporations. On Monday we dug into Amazon’s leadership and culture. Today we’re focusing on its vast economy.

Unlike Apple, which built its business around the iPhone, or Google around search, Amazon’s powerbase rests on a sprawling web of subdivisions that operate like state economies in a giant federalistic structure: the United States of Amazon.

In some of its larger territories, such as its web services division or its retail marketplace, Amazon not only acts as the biggest player on the field but the referee too; it owns and operates the infrastructure which its competitors depend on to survive.

In its smaller states, Amazon employees act as frontiersmen – tirelessly working to expand its borders and achieve supremacy in their particular category. Amazon is not just a retailer: it’s a marketing platform; a delivery network; a payment service; a credit lender; a book publisher; a film producer; a fashion designer; a hardware manufacturer; a digital security company, and an online advertising giant.

“Amazon has built an astonishing ecosystem, gathering data from one corner of your life to offer you services in another,” Jon Nordmark, a retail expert and a former seller on Amazon marketplace, told us.

Each of Amazon’s subdivisions is designed to create synergies with the others. Bezos calls this the “flywheel effect”, referring to the heavy revolving wheel used in some machines to increase momentum and stability. While a flywheel is difficult to start from a standstill, once it gets going its momentum is almost unstoppable. Each part of the Amazon federation functions to spin the flywheel a bit faster.

So on, lower prices encourage more sales, which in turn lure more third-party sellers onto its marketplace. More sellers allow Amazon to offer customers an even wider product selection, which acts as a competitive differentiator against other marketplaces like eBay.

Amazon’s Fire TV Stick – which allows you to stream HD movies – collects data on popular shows. This in turn allows Amazon to know better which projects to finance through its own movie studio. By giving away films free to Prime members, more people sign up to Prime. More Prime signups mean greater leverage in negotiating shipping and delivery costs. Lower costs mean a larger slice of profit for Amazon per sale.

How can it be that Amazon has so far avoided scrutiny from antitrust regulators, when its retail business collects almost 50 per cent of US e-commerce sales and its cloud computing division is almost three times as large as its nearest competitor?

The answer lies in how US antitrust laws are structured. Traditionally they’ve only applied if a company’s behaviour harms the consumer, with no wider focus on producers or on society at large. Amazon had argued – with some force – that its business can’t be harmful to the consumer when it gives them low prices and fast delivery.

Understanding Amazon’s true effect on competition means looking past price, Lina Khan, an antitrust expert, argued in an influential essay published in the Yale Law Journal in 2017. Regulators should instead take a step back to see the overall effect of all Amazon’s businesses on the 21st Century marketplace as a whole.

“Amazon controls key critical infrastructure for the internet economy,” Khan noted. “In ways that are difficult for new entrants to replicate or compete against. At a basic level this arrangement creates conflicts of interest.”

On, for instance, the company not only sells products in its own right but also those of more than two million third-party retailers. Sellers either pay Amazon to showcase their products or, for a higher fee, to store and deliver them to customers (this full service is called Fulfilled by Amazon). Amazon extracts more money by charging sellers to advertise their products – often against their own stock.

For many, Amazon’s digital marketplace is a saviour. Buying space in the world’s most incredible shopping store has offered many small businesses a lifeline. So popular is the marketplace that third party sellers now make up 58 per cent of all Amazon’s retail sales.

But concerns are rising that Amazon is abusing its position as the controller of this platform, safe in the knowledge that sellers have grown too dependent on it to leave.

Last month, for instance, Bezos told sellers that Amazon would no longer accept goods into warehouses unless they were “essential”. The measure – designed to maintain key supplies during Covid-19 – left thousands of businesses with stock they could not sell and suppliers they had to pay.

In this volatile environment, you might expect sellers to transfer their business to competing marketplaces, if only to de-risk their operation. But that didn’t happen, according to Joe Kaziukenas, chief executive of Marketplace Plus, an e-commerce tracking firm.

“There was no significant increase in sellers joining eBay or Walmart marketplace,” he told us. “It shows how much they depend on Amazon. This pandemic is showing the incredible moat the company has built [around online commerce].”

Amazon may obsess about its customers, but its relationship with its third-party sellers is more equivocal. If an Amazon investigator makes a decision a seller disagrees with, such as suspending his account for posting fake reviews, the seller cannot take the company to court. The site’s terms and conditions limit him to arbitration – and usually he will not even get that. An entire cottage industry of lawyers has sprung up dedicated to navigating through Amazon’s opaque “appeals process”.

“They haven’t coped with the massive expansion of the marketplace,” one former Amazon fraud investigator told us, referring to how Amazon investigates potential seller infractions. “It’s all incredibly murky.”

Amazon told us that it provides guidance to any sellers who is warned or suspended. It said more than 8,000 employees were dedicated to taking swift action against sellers who violated its policies.

On a more structural level, multiple sellers have claimed that Amazon uses data from its third-party marketplace either to help it buy the same products more cheaply from manufacturers, or to enable it to launch its own versions of the product under its Amazon Basics label.

Jason Boyce, a former Marine Corps officer, began selling sports products like basketball hoops on Amazon in 2003. He alleges that several Amazon staff working in its third-party sports division, with whom he interacted, then moved onto its “first party” team, where they were in a position to use data garnered from his business and others to buy sporting goods directly from the manufacturer.

“It begs the question,” Boyce told us. “Why wouldn’t we go somewhere else? We were listed on Sears, on Walmart, Rakuten, all of them. If you added up all those other marketplaces, we did 10 percent of what we did on Amazon.”

Anti-trust regulators have belatedly opened investigations into Amazon’s dual role on Marketplace. In July last year the EU announced an investigation into whether the company uses “sensitive data from independent retailers who sell on its marketplace” to unfairly promote its own goods, or to create imitation products. Many of the sources we talked to had already handed information over to one regulator or another.

Concerns over Amazon’s retail dominance have only been heightened by the pandemic, which has seen thousands of bricks and mortar stores close. By the end of April, according to Earnest Research, total offline sales in the US were down by more than 20 percent year on year (Amazon’s rose 26 percent over the same period). The company’s reassuring refrain – that it represents only a tiny proportion of the overall retail market–- is starting to sound strained.

Meanwhile, the marketplace continues to generate huge returns for Amazon and its shareholders. Last year, the company collected $53.7 billion from commissions and fulfillment fees from third party sellers.

The jewel in Bezos’s crown, at least in profit terms, is Amazon Web Services, a cloud computing giant run (almost) like an autonomous operation which now hosts 18 per cent of the world’s largest websites, including Netflix, Instagram, National Geographic and Spotify.

AWS is by far the most dominant player in the $266 billion cloud-computing market. In return for providing more than one million small, medium and multinational companies’ remote computing power, it collected $9.95 billion in sales last year – up 37 percent on the year before. It has grown by between 30 and 50 percent every single quarter since 2017.

So phenomenal is its growth that AWS is expected to be worth $1 trillion by 2023 – making a single division of Amazon more valuable than almost any company in existence today. It is, in many ways, a better business proposition even than Whereas someone can switch to Walmart or Target at the click of a button if they spot a lower priced product, it is in practice almost impossible for a multinational to migrate to another cloud service.

“Once you’re using a cloud service, there’s a term called vendor lock-in,” Sharone Zitzman, a respected commentator on open source software, told us. “It’s very difficult to lift and shift complex business critical services.”

In Ready Player One, the 2018 science fiction adventure film directed by Steven Spielberg, a shadowy global conglomerate called IOI aggressively attempts to take control of the world’s communications and internet.

“I always compare Amazon to IOI,” Zitzman said. “Everyone is jacked in. They are going to take over everything.”

Thanks to AWS, the Amazon machine hosts huge quantities of data belonging to some of its closest competitors. Netflix signed a deal with AWS before Amazon launched its Prime Video service and now “couldn’t migrate even if they wanted to”, Zitzman said. Its servers are now “fully reliant” on AWS, the company has said. Waze, the navigation app bought by Google seven years ago, still runs on AWS despite Google offering its own cloud computing solutions.

A competitor’s reliance on Amazon’s data centers might be seen as the corporate equivalent of dollarization, whereby a country switches to the US dollar in place of its own currency. For all the benefits in stability, the process involves a loss of autonomy. It is the US Federal Reserve, not the country, which will determine its monetary policy from now on.

What benefits might Amazon get from hosting this enormity of data?

Experts told us that it would be possible – at least in theory – to sneak a peak into the workings of some of the world’s most powerful companies. Hosting data means you can determine website speeds, what features are installed, the volume of traffic and what apps are running. Many larger companies working alongside AWS go further, allowing an AWS client representative access to more intimate information.

It’s telling that big retailers such as Walmart, Target and Gap do not use AWS, perhaps fearing that Amazon might use such insights to further its own commercial ends. Walmart goes so far as to require that any technology firms they partner with also reject AWS.

For its part, Amazon maintains it does not use data inappropriately, and that AWS is a separate business with a different customer base, different services and a different leadership team.

AWS has been accused of aggressive tactics familiar to other parts of the Amazon empire. It has caused anger among open source software advocates for allegedly crowbarring free software tools into its commercial offering without “giving anything back” to the coding community.

“Google is a very good citizen when it comes to open source,” Zitzman told me. “It offers open source projects to its competitors, like Android or Kubernetes. Netflix and Facebook have also contributed back. With AWS, I can’t think of one significant open source project they have created. They are very much an outlier.”

Last December Bloomberg reported that US investigators at the US Federal Trade Commission had been asking software companies about its practices. Amazon maintains that it does contribute significantly to open source projects and that its customers can migrate off AWS with no long term commitment.

Jon Nordmark ran an apparel business called EBags that in the naughties became one of the first 10 companies to sell on Amazon’s Marketplace. In his current role as head of consultancy, Nordmark provided us with a map of Amazon’s ecosystem which hints at its possible future shape.

The data shows how – in the last few years – Amazon has acquired or invested in a protein-based sweet maker, an electric car producer, a mesh-wifi maker, and a company offering interactive voice lessons to students. The company has spent around $4 billion on AI-orientated start-ups, according to the calculations, and employs around 7,000 AI specialists to help it harness the increasingly huge quantities of data collectively generated by its products.

For Nordmark, AI is the currency around which the nation of Amazon will increasingly be structured.

“Amazon is implanting Alexa into more and more consumer products,” he told us, highlighting two products released by Amazon last year: Echo Frames (glasses with Alexa) and Echo Loop (an Alexa-enabled smart ring).

“It has millions of listening and watching devices in your home and on your body. Imagine a Western government listening to everything you say – and watching you inside your home and your yard. Yet Amazon is doing it and consumers are embracing it.”

What are the implications for privacy of the company owning nine different types of cameras, Nordmark asked, ranging from those embedded in the company’s Ring doorbells to the multiple cameras tracking consumers in Amazon’s Go stores? He showed us evidence that smart camera technology is now able to detect facial expressions, while thermal sensors can predict shopper emotions in real time.

Ring Inc, the smart security company bought by Amazon in 2018, has partnered with 1,200 law enforcement agencies across the US as well as multiple British police forces. The company has not yet incorporated facial recognition, but in April leaked documents handed to the Ars Technica website appeared to show that it was evaluating the feature for potential future use.

According to Ars, beta testers of Ring were asked for feedback on “faces detection” software that could identify both “familiar” and “unfamiliar” faces.

In a January 6 letter to Congress, Amazon was unapologetic that facial recognition could be added to its products if customer demand warranted it. “If our customers want these features in Ring security cameras, we will release these features only with thoughtful design including privacy, security and user control,” Amazon added.

Proof, if more was needed, that to Amazon, the consumer is always king.


Reporters: Alexi Mostrous

Editors: Basia Cummings and James Harding

Graphics and design: Chris Newell

Additional reporting: Imy Harper and Ella Hollowood

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