Amazon (AMZN -0.68%) CFO Brian Olsavsky set the focus of the company's first-quarter earnings call last week when he surprised investors by announcing the online retail giant's plans to move its Prime shipping benefit from a two-day guarantee to next-day shipping. Amazon will invest an extra $800 million in shipping and logistics capabilities in the second quarter in order to expedite the transition.
But Amazon is already capable of getting items to the doorsteps of its customers by the next day for 72% of the U.S. population, according to analysts at RBC Capital Markets. Over 99% of households in 12 states (mostly concentrated on the east coast) could receive shipments tomorrow if they ordered from Amazon today simply by relying on the company's existing infrastructure.
While Amazon is already well on its way to offering next-day shipping to everyone in the U.S., the last 28% of households will still require a massive investment from the company.
The 80-20 principle
Amazon spent the last four years building out its fulfillment network to make it possible to ship next-day to 72% of the U.S. population. If Amazon kept up the same pace of investment, it might take another four years to reach 100%. That's because of the 80-20 principle: You can get 80% of the results from 20% of the input.
Amazon's ramp up in spending to fuel its fulfillment network expansion will speed things up, but it doesn't necessarily mean it will cover 100% of the country by the end of the year. "This is still a big investment and [there is] a lot of work to do ahead of us," Olsavsky told analysts during the company's first-quarter earnings call.
Most likely, Amazon will roll out next-day Prime benefits to customers based on their primary location. The company has already been testing one-day shipping in some markets, and it's seen "good order trends" so far. As a result, most consumers, especially those in big cities, can expect to get their Prime deliveries the next day relatively soon (if they aren't already). Amazon might even advertise that fact in those cities.
But building out the fulfillment capabilities to guarantee next-day delivery for all Prime orders all over the country will certainly require much more than a one-time $800 million investment. The push will cost Amazon billions of dollars.
The impact on investors
The move to one-day shipping won't pay immediate dividends for Amazon. While it might see an incremental increase in orders in markets where it offers one-day shipping on most items, the investment won't really start having an impact on Amazon until it's attracting new customers to Prime and creating greater efficiencies in its warehouses. That's a long way down the road.
In the near term, the investment will have a negative impact on Amazon's profitability. The company guided for operating income between $2.6 billion and $3.6 billion for the second quarter compared to $3 billion last year. That's after it just posted a 129% increase in operating income in the first quarter, climbing to $4.4 billion.
Long term, Amazon's investment should pay off in greater Amazon Prime membership numbers, as well as more sales per customer. On top of that, the company ought to see improved efficiency in its warehouses as it sees greater inventory turnover. That could offset some of the fulfillment costs associated with building out the network and operating the day-to-day logistics.
Looking well out into the future, a larger and more efficient fulfillment network opens the door for Amazon to handle more of its own fulfillment, as well as move into offering fulfillment services for other businesses. That's something Olsavsky has hinted at and an area at least one industry insider is positioning his company to take full advantage of within the next five years. Offering shipping services to others could provide yet another relatively high-margin revenue opportunity for Amazon.
It's important investors maintain a long-term outlook for Amazon's investment in next-day fulfillment even though it seems like it's already very close to making it a reality in the United States. There's still a long way to go before it reaches the capability of fulfilling orders next-day to 100% of customers, and even longer before that investment pays off in greater order volume and efficiencies for the company. But it should all be worth the investment in the long term.