Amazon (NASDAQ:AMZN) has a problem: Too many companies are trying to sell products on its marketplace. Amazon counts over 2 million different sellers on its marketplace, many of which use its Fulfillment by Amazon service to qualify their items for Prime's two-day shipping. Over 50 million items are now eligible for free shipping on the program.

That makes it tough for merchants to stand out. Some have ponied up for advertising on Amazon's website, which has gained a lot of traction with smaller brands over the past year or so. But some have decided to split their inventory between Amazon and rival Wal-Mart (NYSE:WMT).

Walmart boxes coming down a conveyor belt.

Image source: Wal-Mart.

Surging online selection

Walmart.com's product selection has improved tremendously over the last year. In the first quarter of 2016, Wal-Mart had just 10 million items on its website. With its latest quarterly update, management said it has 50 million items for sale through its online marketplace.

The greater selection has been a huge boon for Wal-Mart's online sales, which were waning at the beginning of last year, with year-over-year sales growth sinking into the single digits. Last quarter, however, online sales increased a whopping 63%. While e-commerce acquisitions like Jet.com and Modcloth helped, management says the majority of growth came from Walmart.com.

Nearly all of that growth can be attributed to relatively small third-party sellers instead of Wal-Mart bringing in new wholesale vendors. Wal-Mart offers better financial terms for its third-party merchants than Amazon, which is somewhat ironic considering the retailer's reputation for being a tough negotiator with its suppliers. But considering it's still playing catch-up with Amazon online, it makes sense to be aggressive in courting third-party merchants.

Still missing high-end brands

If you do a search for Nike (NYSE:NKE) shoes on Walmart.com, all you'll find is a list of third-party merchants selling shoes at marked-up prices. Nike just signed a deal with Amazon to fix those kinds of problems, so it can exercise more control over its brand and gain access to Amazon's massive customer base. Despite Wal-Mart's size, Nike has neglected to sign a deal to distribute through Wal-Mart due to its low-value brand perception.

That's a challenge that will be tough for Wal-Mart to overcome. To that end, however, it's buying up high-end e-commerce brands like Bonobos and Moosejaw. Jet.com has also managed to attract some high-end brands.

But without big brands like Nike, Wal-Mart is missing out on a huge percentage of sales. What's more, customers unable to find the products they really want may abandon shopping on the website altogether. And the next stop for most of them (if they haven't checked already) is usually Amazon.com.

A quality problem

For Amazon, having so many merchants that it's hard to stand out in its marketplace is a high-quality problem. It's already benefiting in the form of increased advertising spending from its merchants. Amazon's other revenue, which is mostly driven by ad sales, increased 56% year over year last quarter.

Additionally, Amazon has the leverage to ask for a larger share of revenue from merchants as demand for its Fulfillment by Amazon program continues to grow. Third-party seller services revenue increased 36% year over year last quarter. So, while sellers are offering their products on Walmart.com, they're not abandoning Amazon, either. And with Amazon's 300 million active shoppers and tens of millions of Prime members, they'd be foolish to do so.

Meanwhile, Amazon can barely build out fulfillment centers fast enough to accommodate the influx of inventory from all of its merchants. The company built 23 fulfillment centers in the second half of last year alone. The increase in capital spending is weighing on earnings in the short term, but ought to pay off in the long run as third-party merchants continue to send products to Amazon.

Wal-Mart may be winning merchants over from Amazon's marketplace, but Amazon is still in the driver's seat as far as online retail and merchant services go.

Adam Levy owns shares of Amazon. The Motley Fool owns shares of and recommends Amazon and Nike. The Motley Fool has a disclosure policy.