Ryan Spahr is a Philadelphia entrepreneur making a healthy income selling groceries, electronics and office products on Amazon through his company, Supply Tiger.
Ryan was still at university when he set up his online business. For the first ten years he sold a limited range through eBay and his online store, coping with the hard slog of building sales, managing warehousing, deliveries and returns. Dealing with everything in-house was tough, and sales and profits were slow to grow. Ryan was passionate about building his company, but his conventional business model was holding him back because of all the time needed to pick, pack and ship.
Then, in 2011, he started using Fulfilment by Amazon (“FBA”), Amazon’s out-sourced warehousing and delivery service. Suddenly everything changed. Freed from the struggle of managing warehousing and deliveries, Ryan’s sales expanded massively. “My business has grown ten times since then” Ryan reports. He now offers a range of over 3,000 products through FBA. As Ryan puts it;
The secret to FBA’s success is simple – ANYONE can set up as a virtual retailer, by letting Amazon manage the physical operations. You can run an online store without ever handling your stock – provided you follow Amazon’s processes and policies. FBA will open the door to undreamed-of potential for many Australian businesses and entrepreneurs.
The economics of FBA
Here’s how the numbers stack up, using a branded battery pack charger as an example. A store retailer might source this product for $40 and sell it for $60, giving a gross margin of $20. With operating costs of $12 (mainly store operations and supply chain), the retailer is left with a dollar margin of $8 to cover fixed costs. The percentage margin is 13.3% (8/60 x 100).
A retailer using FBA might source the battery charger for $48; a higher cost since it receives no volume discount. If the retailer pays Amazon $12 for warehousing and delivery, and incurs $2 of other costs – such as customer query handling - then total costs are $62. The battery charger sells online for $66, because customers will pay more for the convenience of home delivery. The FBA retailer is left with a dollar margin of $4 to cover fixed costs. The percentage margin is 6.1% (4/66 x 100).
Operating margin (before central costs) of store retail vs. FBA retail
Turning the traditional retail business model on its head, FBA has created the opportunity to operate a large-scale retail business with minimal resources. FBA retailers survive on a combination of wafer-thin margins and high volumes.
This works for them, because FBA shifts the measure of retail success from percentage margin to dollar margin. Most retailers focus on percentage margin. From this perspective, the store retailer does better – its 13.3% margin is more than double the FBA retailer’s 6.1% margin. In practice though, the FBA retailer is happier, thanks to explosive growth and $4 cash in the bank on every sale. They don’t mind losing the battle for percentage margin, because they are winning the war for dollar margin at high volumes.
What will FBA mean for Australian retailers?
When FBA is running, we’ll see entrepreneurial retailers (and Amazon itself) use it to cherry-pick high dollar-margin products that don’t require advice, such as replacement parts or high-value staple grocery items. Ryan currently does a great trade in one pound packs of long-life products like herbs and spices that customers stock up on in bulk – recently he has been selling huge quantities of cinnamon.
Retailers most at risk from FBA are those where customers self-serve high dollar margin products, without needing advice. They will have one of three choices:
(i) accept lower profitability.
(ii) lose the sale.
(iii) find a completely different way to serve customers, so they don’t switch.
Ryan’s advice to Australians looking to build businesses using FBA is to collaborate: