In digital advertising, particularly in the United States, there are two companies: Facebook (NASDAQ:FB) and Google, the Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) subsidiary. The two combine to take the vast majority of all digital ad sales in the U.S. (between 70% and 85% depending on who you ask) and an even greater share of the growth in digital ad spending.
But Amazon (NASDAQ:AMZN) may be a meaningful challenger to the duopoly. The company's advertising business is relatively small compared to the $73 billion of ad sales at Google and the $40 billion at Facebook. But the company could produce over $10 billion in global ad sales this year, according to Citi analyst Mark May. May also expects Amazon's ad business to grow to $50 billion by 2028.
May is certainly more optimistic than most. J.P. Morgan's Doug Anmuth, for example, expects Amazon to generate just $6.6 billion of ad sales in 2019. But Amazon benefits from an extremely valuable unique data set, a growing number of advertising opportunities across multiple platforms, and a growing core group of small business owners already doing business with its retail services. Those factors could combine into a rapid acceleration of growth for Amazon's ad platform.
Amazon knows how shoppers behave
The goal of any advertisement is to drive sales. And nobody in advertising knows sales like Amazon. The company sold over $25 billion worth of stuff to shoppers in North America alone during the third quarter.
Amazon also knows what people are looking for. About half of online product searches begin on Amazon.com. Google comes in second with about 36%. And Amazon is increasingly learning more about customers' interests through Alexa, its digital voice assistant found in just about every electronic device the company makes these days.
The company's acquisition of Whole Foods and the Amazon Go store opening give it more insight into in-store behaviors. The potential to connect Prime membership with Whole Foods rewards presents a great way for Amazon to connect individual user behaviors in store to their online accounts. Amazon Go takes it a step (or 10) further by practically tracking every single move a customer makes inside the store.
Not only is this data extremely valuable, it's data inaccessible to Google or Facebook. And Amazon has the breadth to make ad targeting work for small businesses. Amazon has over 300 million active customers. While that's short of Facebook and Google's billions of users, it's broad enough for advertisers to find new customers. In fact, over 80% of the U.S. planned to shop on Amazon.com during the most recent holiday season, according to Survata.
Amazon's growing ad inventory
The amount of shopping that takes place online continues to grow. The U.S. census bureau estimates that online sales are increasing at a rate of about 15% per year. But Amazon is growing even faster, taking a growing share of the market.
But the secular growth in online sales isn't the only thing opening up more avenues for Amazon's ad business. Amazon is also pushing to get its ads on web publishers' websites by providing better ad serving technology than Google. Whole Foods and its other physical store locations present an opportunity to expand beyond digital.
Amazon is also growing potential ad inventory through its electronic devices. The Echo smart speaker holds a commanding lead in the category. Amazon's Fire TV devices can get Amazon's ads on television. Kindle Fire tablets display ads to customers every time a user turns them on.
At the same time, Facebook is continually warning investors that its ad inventory is saturated. There's no more room to squeeze ads into its news feed, and management is actually taking steps to reduce the amount of time people spend on Facebook. As marketers look for alternatives, Amazon has plenty of new areas to explore.
Amazon's secret weapon
On top of unique targeting data and growing ad inventory, Amazon has yet another advantage many people are overlooking. Amazon has already established relationships with small business owners through its marketplace business. Third-party merchants account for about half of the units sold on Amazon.com, and the number of merchants is growing quickly. Total sellers using Amazon's Fulfillment By Amazon service increased 65% in 2014, 50% in 2015, and 70% in 2016.
These are exactly the types of merchants that can benefit from advertising with Amazon. Digital advertising is more attractive to small businesses because it enables them to target customers more specifically and manage smaller ad budgets. Both Facebook and Google generate the majority of their business from small and medium-sized businesses.
Facebook points to its 70 million pages as a major source of advertising customers. Amazon should be able to see similar benefits from its existing relationships with third-party merchants.
A $10 billion business?
Despite everything working in Amazon's favor, it's hard to see its ad business reaching $10 billion this year. Amazon lumps advertising into its "other" revenue, which totaled about $4 billion between the third quarter of 2016 and third-quarter 2017.
Management says advertising is the fastest-growing part of that line item, growing faster than the 58% year-over-year rate it posted in the third quarter. But even if advertising doubled in 2018 (a real possibility), it wouldn't reach $10 billion.
Still, Amazon's ad business presents a real growth driver for Amazon that's not to be overlooked. Advertising carries significantly higher profit margins than retail, so it doesn't have to be a $50 billion business by the end of next decade to make a meaningful impact on Amazon's bottom line.
John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Adam Levy owns shares of Amazon. The Motley Fool owns shares of and recommends Alphabet (A and C shares), Amazon, and Facebook. The Motley Fool has the following options: long March 2018 $200 calls on Facebook and long March 2018 $170 puts on Facebook. The Motley Fool has a disclosure policy.