Is the Amazon Prime Price Increase Justifiable?

Amazon’s recent price increase for its Amazon Prime membership has frustrated some customers, but this was expected, and it’s far from a massacre. Over the long haul, this move should benefit Amazon and its investors.

Mar 20, 2014 at 2:00PM

As you probably know, Amazon.com (NASDAQ:AMZN) has increased its Amazon Prime membership from $79 to $99. If you're not familiar with Amazon Prime, membership includes free two-day shipping, unlimited streaming of video, and free book borrowing from the Kindle Owners' Lending Library on a Kindle device.

So what was the reason for the price hike? Three words, rising shipping costs. So let's find out if this move was justifiable and if it's likely to be a long-term positive for Amazon and its investors.

A justifiable move
Amazon Prime has been in existence for nine years and this is the first price hike over that time frame. Over those nine years, new services have been added and the number of available products has gone from one million to 20 million. So value has clearly been added. 

Furthermore, Amazon Prime members tend to spend more than non-Prime members. Therefore, it's likely that their savings on shipping will still greatly offset the cost of the price increase over the course of a year. And, of course, Amazon needed to make this move since investors were becoming impatient with the company's lack of bottom-line growth.

A long-term positive for investors
Amazon has been known to sacrifice profit in order to please its customers, but everyone knew the company would eventually have to deliver earnings if it wanted to continue its meteoric ascent. That time has come. While some Amazon Prime members aren't pleased with the price hike, other members are OK with it, and the backlash hasn't been overly significant.

The fact is that today's consumer wants speed and convenience, both of which Amazon Prime can offer. And as I said, membership savings should override the increased annual cost for most people. Eventually, this news should fade and Amazon should continue to deliver on the top line while improving its bottom-line growth.

If you're not a believer, then also consider recent news and trends at two of Amazon's biggest competitors.

The big-box shift
Wal-Mart (NYSE:WMT) is still the biggest retailer in the world, but with consumers moving online for their shopping needs, Amazon is a massive threat. Wal-Mart is fighting back by investing heavily in technology. It's also looking to grow on the ground by investing heavily in its small-box stores, with the intent of recapturing market share previously stolen by dollar stores.

These initiatives have potential for Wal-Mart, remember, it generated more than $23 billion in operational cash flow over the past year. All that said, Wal-Mart is experiencing declining traffic. This comes from its mostly low-income consumer base that has seen increased taxes, a reduction in food stamp benefits, and a lack of wage growth opportunities.

Then there's Target (NYSE:TGT), which attracts a higher-end consumer than Wal-Mart and is attempting to increase its online presence. However, Target still doesn't know what the total costs for its data breach will look like. Once this news comes out, then it might be time to consider Target as an investment option. Until then, there's a lot of uncertainty.

Fortunately, Target has invested $100 million in cybersecurity. With this move, Target should eventually be one of the safest shopping destinations in the United States. But it will take time for Target to win back consumer trust.

The point here is that while Wal-Mart and Target are both likely to be long-term winners, they're currently facing headwinds. Amazon might be struggling on the bottom line, but it has grown 273.8% on the top line over the past five years, whereas Wal-Mart and Target have grown their top lines 18.05% and 11.72%, respectively, over the same time frame.

The one catch is that Amazon is trading at 630 times earnings, whereas Wal-Mart and Target are trading at 15 times and 19 times earnings.

The Foolish takeaway
Amazon might be expensive, but its recent Amazon Prime price hike is likely to aid its bottom line without doing much damage to its top line. That's a good situation for Amazon as well as its investors. As always, please do your own research prior to making any investment decisions. 

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Dan Moskowitz has no position in any stocks mentioned. The Motley Fool recommends Amazon.com. The Motley Fool owns shares of Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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