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Good News for Amazon: Ad Prices Are Jumping

By Parkev Tatevosian, CFA – Sep 21, 2021 at 11:00AM

Key Points

  • Digital ad prices have been rising sharply as companies seek to reach out to customers.
  • That's certainly good news for Amazon's growing ad sales segment.
  • The division grew revenue by 83% in its most recent quarter.

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Amazon's advertising business is a not-so-surprising success.

You may be surprised to find out that (AMZN -0.77%) has a robust digital-advertising business. The segment is gaining steam, far outpacing the other parts of the company, such as retail sales, web services, and subscriptions revenue.

Let's look closer at the division's importance to the global e-commerce giant's overall business and how rising ad prices companies must pay to reach customers could boost Amazon's profits.

A person delivering a package to a homeowner.

Image source: Getty Images.

Businesses covet access to Amazon's customers

Amazon accounts for ad revenue in its "other" segment. Yet considering the rapid and accelerating growth of advertising, the company may want to rename the "other" segment accordingly.

In the most recent quarter, ad revenue made up just 7% of Amazon's overall revenue. However, over the previous five quarters, ad sales have increased 41%, 49%, 64%, 73%, and 83% consecutively -- taking ad revenue to $7.9 billion in Q2 2021, or nearly double what it was in the year-ago quarter.

Management is working hard to make it a success. Here's what they had to say on the company's Q2 2021 earnings call about the fastest-growing part of its business:

On advertising, advertising is, again, another part of our flywheel. We have traffic coming in for the consumer business. And if we do a good job with advertising, we'll make it an additive experience for our customers and our sellers and vendors. So that's what we work on is to make sure that it's a relevant experience and adds to your shopping experience and helps you find selection that perhaps you wouldn't have found otherwise or it would have been harder to.

Amazon continues to develop its capabilities in this area, making it more convenient for marketers to use its advertising services. So it's no surprise that businesses would want to advertise on Amazon -- and reach out to its 200 million Prime members who pay an annual fee for fast and free shipping. Those customers are ready, at a moment's impulse, to make a purchase.  

The price for attention is going up

Amazon isn't alone in enjoying this uptrend in ad pricing. In its latest quarter ended June 30, Alphabet (GOOG -1.24%) -- a giant in the world of advertising -- reported increases in both the price per click and price per impression. The price per click is what businesses have to pay the company when a potential customer clicks an advertisement. That cost was up 31% over the year-ago period. The price per impression is what businesses pay Alphabet to have an advertisement shown to a customer. That cost was up 63% year over year.

Interestingly, Alphabet runs an auction to determine the prices for these services, so an increase in the price of that magnitude could indicate a surge in demand. 

Investor takeaway 

Clearly, Amazon's advertising division is well worth watching. Though less than 10% of total revenue, it carries considerable weight -- and potential ahead. Amazon doesn't break out the unit's profit margins separately, but they are likely higher than for its North American and International retail sales (3.9% and 1.5%, respectively). Save for the resources needed to develop the technology, advertising sales come with few added costs. 

So if growth in its advertising business continues, it may well do wonders for Amazon and its historically narrow operating profit margins. 

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. Parkev Tatevosian owns shares of Alphabet (C shares) and Amazon. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), and Amazon. The Motley Fool recommends the following options: long January 2022 $1,920 calls on Amazon and short January 2022 $1,940 calls on Amazon. The Motley Fool has a disclosure policy.

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