Amazon.com (AMZN -2.44%) has long functioned as a website where third-party businesses can list their products for sale and benefit from the e-commerce giant's consumer reach. Amazon does not mind offering this capability because more items on its site attract more customers.
More recently, however, Macy's (M -1.42%) has adopted this strategy as well. For several years before the pandemic, the department store operator was having difficulty finding areas of growth. Shoppers were increasingly moving online, and that was harming sales for the brick-and-mortar retailer. Management shifted course and is now more intent on developing its digital sales channel, and that's where the Amazon strategy is working well for Macy's.
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Embracing the marketplace
Here's how it works.
In its most recent quarter, Amazon showed revenue of $25 billion in providing third-party seller services, including commissions it receives when businesses sell products through Amazon.com. Offering this service can be profitable because Amazon essentially acts as a middleman, bringing customers and businesses together and earning a commission for the service.
What's more, it feeds Amazon flywheel of growth. Businesses are willing to list their products on Amazon.com because they want access to the hundreds of millions of shoppers who visit the site. When third-party sellers join Amazon and add products, it increases the selection of products and attracts more customers. Without the participation of third-party sellers, Amazon could not possibly offer this kind of selection. The investment in inventory would be burdensome.
Observing the success that Amazon is having with the policy, Macy's decided to adopt the same idea. Macy's calls it vendor direct, and it accounted for 17% of digital sales in its most recent quarter. The shift could also be contributing to Macy's sales from owned inventory. Indeed, Macy's digital sales are up 45% from the same time in 2019, a better comparison than 2020 because of the pandemic disruption.
Of course, businesses are not as enthusiastic about listing on Macy's.com as they are about Amazon.com. The latter attracts much more purchasing power than the former. And Amazon boasts 200 million Prime members with their payment information on file and access to fast and free shipping with no minimums, making them more likely to make a purchase. That's compared to the $25 minimum purchase required for free shipping at Macy's.com.
What this could mean for Macy's
M Inventories (Annual) data by YCharts
For one, increasing vendor direct sales as a percentage of overall sales could reduce Macy's inventory expenses. If third parties are bringing products to the Macy's site then that's less inventory that Macy's needs to manage. That frees up much-needed capital from warehouse management to allocate in other high-need areas such as debt repayment, store upgrades, and adding more of its popular discount stores.
Additionally, the proliferation of vendor direct sales could increase Macy's profit margins. Taking a commission on a sale comes with a near 100% gross profit margin, whereas over the last decade, Macy's averaged a gross profit margin of 40%.
Finally, as this area of its business grows, the risk will decrease for Macy's. When it buys inventory to resell, Macy's runs the risk of that product staying on its shelves if customers dislike it. Then it has to mark down the product to get it off the shelf. By welcoming third-party sellers, Macy's is moving that risk to them.
Still, the shift may not be all positive. Customers are likely unaware that a product they buy from Macy's.com came from a third-party seller, and even if they were, they might still blame Macy's if the product has defects. In that sense, Macy's is giving up some control over the customer experience on its website, which could backfire.
For now, the move is working well and could be one reason Macy's management felt confident enough to raise its long-run adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) margin target higher.
