After years of kneeling at the altar of long-term thinking and bold experimentation, Amazon (AMZN +0.55%) finally seems to be getting religion on the bottom line.
The company is cutting costs like never before, taking an ax to formerly promising new ventures like Amazon Care and announcing its first major round of layoffs, dismissing 10,000 corporate employees. A sizable portion of those layoffs are coming from the company's Alexa and Devices division, where, according to Business Insider, the company is losing $10 billion a year on the voice-activated technology.
The revelation that Alexa has become a financial quagmire begs the question of what else Amazon is wasting money on. Its international business seems like one target for savings. The division, which is mostly made up of e-commerce operations outside of North America, loses money in most years, and has posted an operating loss of $5.5 billion through the first three quarters of this year.
Another division that seems deserving of more scrutiny is Prime Video, which Amazon doesn't directly account for on its financial statements. With the exception of a la carte spending on streaming rentals and sales, Amazon doesn't directly monetize Prime Video, using it instead as a perk to attract Prime members.
The company spent $13 billion on video and music content in 2021, and video spending was estimated to increase to $15 billion in 2022, including sports. That's more than all of its peers, including even Netflix (NFLX 0.91%), which was expected to spend $13.6 billion on an amortized basis this year.
Since video is only loosely connected to online shopping, investors should be asking if that $15 billion is money well spent.
Image source: Getty Images.
Prime-o-nomics
Unlike peers like Netflix or Disney (DIS 0.59%), Amazon keeps its subscriber metrics close to the vest. Last April's shareholder letter said the company now has 200 million Prime members globally.
Amazon charges different prices for Prime around the world, but if you assume every one of those members paid $139 a year, that would bring in $27.8 billion in annual membership fees. That's close to the $34.1 billion it brought in with subscriber fees over the last four quarters, which comes from Prime and other subscription businesses like Kindle Unlimited, Audible, and Amazon Music.
Based on those numbers, $30 billion in Prime revenue seems to be a fair estimate. That means Amazon is spending half of its Prime membership revenue on Prime Video, leaving only $15 billion to be allocated toward other Prime benefits like two-day shipping and free returns, the biggest driver of membership. Amazon also spent $82.4 billion on shipping costs over the last year, and at least some of that is allocated to Prime.
Of course, the argument for spending on Prime Video is that signing up new Prime members and incentivizing existing ones encourages them to do more online shopping on Amazon. Explaining the company's differentiated approach to Hollywood, founder Jeff Bezos once said: "When we win a Golden Globe, it helps us sell more shoes."
That line of thinking also explains why the company is shelling out $1 billion annually on Thursday Night Football, which it said led to a record number of Prime sign-ups in a three-hour period.
However, there are likely diminshing marginal returns to spending on Prime Video at this point. Anyone who is a frequent online shopper has probably already joined Prime, which has been around since 2005. The relationship between video streaming and online shopping is also tangential. If Amazon has $15 billion to spend to improve Prime benefits, would it not be better off spending it on faster delivery, better customer service, or lower prices?
There's nothing magical about the relationship between Prime Video and online shopping.
NASDAQ: AMZN
Key Data Points
The streaming reality
Amazon is ramping up video spending at a time when nearly all of its competitors are tightening their belts. Netflix has had two rounds of layoffs. Disney said it would prioritize streaming profitability over subscriber growth, implying that layoffs were a possibility, and Warner Bros. Discovery (WBD 0.04%) has also announced layoffs.
The competitive dynamics in streaming, in other words, are undergoing a correction. Too many companies have entered the field, and they're not charging subscribers enough to offset the costs of content.
Netflix Co-CEO Reed Hastings may have said it best in his company's recent shareholder letter: "Our best estimate is that all of these competitors are losing money on streaming, with aggregate annual direct operating losses this year alone that could be well in excess of $10 billion, compared with our +$5-$6 billion of annual operating profit."
Amazon is clearly one of those competitors losing money no matter how you account for the $15 billion in content spending. Throwing even more money at video at a time when the rest of the streaming industry is realizing the economics aren't so favorable seems like a losing battle.
Amazon should be held accountable here, just like its streaming peers are. Now that the massive losses in Alexa have been revealed, investors should demand more transparency on how the company spends money, including justifying the $15 billion video budget.
The good news here is that there's significant opportunity for improvement. Amazon has a number of high-margin profit machines, including Amazon Web Services, advertising, and its third-party marketplace, and the company could be much more profitable than it is today.
For Amazon, being conservative with Prime Video spending only makes sense given what's happening in the industry, and padding the bottom line at a time when the stock has been cut in half would almost certainly earn a round of applause from investors.
As the company realizes there are limits to its money-losing ventures, Prime Video deserves a thorough examination.
