Amazon.com (NASDAQ:AMZN) has built a $100-billion business on a simple principle: make life easy for your customers. The company has consistently invested in lowering prices, speeding up delivery, and improving the customer experience in other ways.
It's hard to argue with the advantages of e-commerce from a convenience standpoint. The ability to order one of millions of products at home or on your phone, and receive it a day or two later, saves people the time of having to go to a store. But there's one problem with this model: the actual delivery.
Despite Amazon's reputation for service, customers often complain that their packages arrive late, or not at all. Prime members, especially, complain about orders coming after the two-day window Amazon promises.
Delivery is the one major aspect of Amazon's business that it does not control, relying instead on a range of shippers including FedEx (NYSE:FDX), United Parcel Service (NYSE:UPS), and the Postal Service. On a Reddit thread, many complain that the Postal Service makes inadequate attempts to deliver packages, instead posting notices requiring customers to instead pick up their packages at the post office. One thread on Amazon's own site has 328 posts under the title: "Amazon, Quit shipping via USPS and btw, you suck."
Not only does this leave Amazon with frustrated customers and complaints, but the company often gives out credit for purchases or months of Prime membership as a form of compensation. Some customers have even become so frustrated with delivery headaches that they've sworn off the service.
As Amazon's business has grown, so has its demand for package delivery.
According to Bernstein Research, the company shipped close to 500 million packages last year, with USPS delivering about 40% of them. UPS owned 20-25% of the share, and FedEx 15-20%.
As its delivery needs have increased, Amazon has experimented with different tactics to meet them. It brokered a deal with USPS for Sunday delivery, and offers its own same-day delivery in select cities. The company has installed Amazon Lockers in retail spaces to help customers receive packages, and considered using an Uber-like service wherein everyday people would deliver packages using their own vehicles.
Most famously, the company has filed for permission to deliver packages via drone, recently promoting the concept it calls Prime Air with former Top Gear-host Jeremy Clarkson. While that technology may exist, there are still a number of complications preventing drone delivery from happening.
That's a lot of stamps
As Amazon Prime has become more popular, Amazon's shipping costs have ballooned. In 2015, net shipping costs, which take into account Prime membership fees and other shipping charges, eclipsed $5 billion, up 19% from the previous year. Shipping costs as a percentage of net sales have also been going up each year, hitting 11.6% in 2015, as the company spends more to speed up delivery. Controlling that figure may be one the easiest ways for the company to increase profitability.
Historically, package delivery has been a cyclical low-margin business, with FedEx and UPS hitting operating margins of 5-10% for most of the last 10 years. But for Amazon, developing its own logistics service could pay dividends beyond small profits, as a successful system would improve customer satisfaction and loyalty.
The last mile
Amazon has been quietly testing its own delivery service since 2014 when it launched same-day delivery, but it appears ready to ramp up the program, listing logistics providers as competitors in its recent 10-K report. On its earnings call, management stressed that the company was not intending to replace FedEx or UPS, but just complement their services, especially when the company is confronted with high sales volumes like during the holiday season.
Wall Street has been mostly suspicious about head-first dives into logistics, but Amazon Web Services, a similar experiment that began ten years ago, is now yielding bountiful profits. That idea, like logistics, began as a way for Amazon to meet its own needs, and expanded into a service to be sold to other companies.
Investing in a logistics service would be a major commitment, but Amazon has the data, the infrastructure, and the customer relationships to make it work. It's already developed its own processing system to get a deep discount on USPS shipping, and that experience has likely taught it a lot about making its own deliveries.
Amazon's consistent efforts to invent new ways to deliver show the company is anxious for a better delivery service, and the customer complaints show the need. It's ready to rise to the challenge.