Amazon recently published its Q1 2020 Earnings Report. The report posted positive results for Q1, with the anticipation of high expenses in Q2 as Amazon responds to COVID-19 impact.
KEY TAKEAWAYS FROM AMAZON’S Q1 EARNINGS REPORT
Read Kaspien’s Assessment of Amazon’s Q4 2019 Earnings Report.
Amazon’s results in Q1 would surely have been stronger if the coronavirus had not hampered the global economy; however, the results are still positive, indicating that Amazon will remain a key component of any successful online strategy.
However, while Amazon managed to push through strong results in Q1, the journey was not entirely smooth. Brands were repeatedly, and often adversely, impacted by Amazon’s unilateral decisions as it struggled to respond to COVID-19‘s impact on its operations.
Amazon’s fulfillment and distribution infrastructure buckled under the sudden and dramatic increase in online purchases. In response, Amazon restricted which types of products it would accept to its fulfillment centers. Brands that were in non-essential categories were left out to dry as Amazon’s overloaded fulfillment centers raced to fulfill orders. Amazon’s capacity was so overloaded that they began hiring for 175,000 new jobs.
Kaspien’s partner brands were able to recover from the restrictions, but the fact that Amazon restricted shipments in the first place is cause for concern. Brands unable to respond quickly enough could see significant harm to their business stability caused by the decision, however necessary it was.
Although stay-at-home orders were issued across the nation in mid-March, online sales remained steady in most categories, regardless of whether they were labelled essential or non-essential.
While the category restrictions have been lifted and new recruitment is underway, we do not anticipate that Amazon will have resolved the issue by the end of Q2. In fact, we’ve seen a new restriction arise: Amazon is capping the number of units that brands can keep in their fulfillment centers. At Kaspien, we’ve seen one brand’s monthly storage limit be reduced to 3,000 units, despite typically selling through 10,000 units per month.
Amazon has not clearly communicated the reason for the unit restriction, but there are two probable causes:
1. Amazon’s processing centers are still overloaded and will likely remain so for several more months.
2. Storing fewer units is more efficient for Amazon because it helps reduce the financial risk of storing stagnant inventory that does not generate profits.
For sellers, this change means that their sales forecasting and lead time prediction models need to be highly accurate so that they can optimize inventory turn rates. If sales remain steady but Amazon limits the unit volume, sellers will need to move smaller numbers of units more frequently in order to maintain sales capacity.
These back-to-back restrictions indicate that Amazon may not always be a reliable fulfillment partner, at least not in the near future as it responds to COVID-19. Brands may need to explore supplementary options, such as Fulfilled by Merchant (FBM) or third-party logistics providers like Deliverr, to support their Amazon business.
Dropshipping also proved to be an extremely beneficial tool for brands that were impacted by the category restrictions. As Amazon’s shipping times for non-essential items grew, dropship-enabled products even began to win the Buy Box against FBA offerings. Kaspien saw triple digit YoY growth in dropship orders while the category restrictions were in effect.
Amazon expects net sales to grow between 18% and 28% compared to Q2 2019. However, operating income is expected to range from -$1.5B to $1.5B, compared to $3.1B in Q2 2019. Amazon provides this guidance with the plan that they will spend approximately $4B in Q2 for coronavirus testing, revised safety policies, increased pay for hourly workers, and other measures. As Amazon explicitly notes, the above expectations are only that – expectations – and are subject to change due to a number of factors.
Although Amazon may expect their operating income to be negative in Q2 due to COVID-related expenses, experts predict that this quarter may be one of the strongest in Amazon’s history. This prediction is based on several factors, but the two biggest are related to the government’s stimulus package and pervasive, lasting changes in consumer buying behavior.
Amazon has and will continue to benefit from the stimulus checks the government began distributing in April, with experts predicting that Amazon will capture a leading share of consumer purchases made with the stimulus money. Some forecasts estimate that April will see approximately 50-60% growth YoY in the North American Retail segment, due in large part to consumers spending their stimulus checks on Amazon.
The fact that Amazon has captured the majority of stimulus purchases is a positive sign for brands on the marketplace. While brick & mortar stores have been hard hit by stay at home orders across the nation, brands are still able to capture sales and provide for their customers by listing online.
In addition to capturing a large share of the stimulus package, Amazon also stands to gain from pervasive shifts in consumer buying behavior. More shoppers than ever before are buying online, and even after the stay-at-home orders are lifted, we expect to see a lasting impact in where and how shoppers purchase.
While Q2 may be one of Amazon’s best, at least by some metrics, advertising revenue is unlikely to be among them. Ad revenue has been one of Amazon’s fastest growing segments in recent years, but experts predict that their advertising revenue growth rate will dip in Q2, a trend that Kaspien has seen in our own data.
The average cost-per-click for Amazon Sponsored Product ads has decreased by 6% YoY, compared to a 38% increase in 2018 to 2019. This shift from rising costs to falling costs suggests a reduction in competition as more brands pull back their advertising budgets. This reaction is likely a mistake, but you can read more about why in another post. For Amazon, brands pulling back ad spend will diminish their advertising revenue growth rate.