IMAGE SOURCE: EBAY
eBay (EBAY +2.13%) is going through a transformation process as the company is implementing a series of initiatives to accelerate growth and gain market share in the much promising e-commerce industry. Transformations are seldom easy, and they usually mean substantial uncertainty for investors. In this context, it's remarkably important to listen to what management has to say about the future of the business and what this means for investors in terms of growth and profitability going forward.
Living under Amazon's shadow
eBay is facing relentless competition from Amazon.com (AMZN 1.19%) in e-commerce, and this is putting considerable pressure on the company's growth rates. Amazon sells its products for razor-thin profit margins to gain market share versus the competition, and it's also investing massive amounts of money in areas such as technology, digital content, and its gargantuan distribution network.
This strategy is doing wonders for Amazon in terms of growth, the company produced $107 billion in total sales during 2015, with revenue growing by an impressive 26% in constant currency terms versus 2014. On the other hand, operating profit was only 2% of sales during the year, and Amazon reported just $596 million in net income for 2015, for an anemic net profit margin of 0.6% of revenue.
eBay operates as an e-commerce platform as opposed to an online retailer, and the company comes well behind Amazon in terms of revenue growth: eBay produced $8.6 billion in revenue during 2015, with sales growing by a modest 5% versus 2014 levels. On a more positive note, the business model has remarkably low capital requirements, and eBay doesn't need to worry about inventory risk or distribution costs. Because of this, eBay makes huge profit margins, in the area of 26% of sales at the operating level.
In a nutshell, Amazon and eBay have notoriously different strategies. Amazon is all about growth, even at the expense of operating with minuscule profit margins. eBay, on the other hand, makes impressive profitability, but the company is no match to Amazon in terms of revenue growth.
Betting on growth while taking care of margins
eBay is working on different areas to accelerate growth. The company is making product data more structured in order to generate more traffic from search engines, as well as building better catalogs to increase product discoverability and provide more relevant information to buyers.
eBay is also expanding its partnership with on-demand shipping and packing company Shyp to Los Angeles, this comes after consolidating successful alliance with Shyp in New York, Chicago, and San Francisco. When a sales a transaction is closed in eBay's marketplace, sellers can contact Shyp to pick up the items, professionally pack them, and mail the items straight to the buyer on the seller's behalf.
The main idea is making it easier for sellers to close a transaction without worrying too much about packing and shipping the product, and it also guarantees that buyers will go through a more uniform buying experience, receiving the product in the right way and at the right time. Shyp's pickup and packaging fees will be waived for eBay sellers through June 30 in order to promote the service and gain some initial traction.
eBay is working on multiple areas to make the platform more efficient and productive to both buyers and sellers, and this will probably mean increased expenses in the short-term. On the other hand, management has a clear vision for the company, and eBay still intends to generate above-average profitability over the long term, even if this means that it will lag Amazon in terms of growth. Speaking at the Goldman Sachs technology conference, CEO Devin Wenig explained how eBay is aiming for a middle ground in terms of growth versus profit margins.
In e-commerce, you can't talk about growth without margin. And there are two things that I'd say are relevant to us. One is that eBay is a mashup of consumer-to-consumer businesses, which has never grown at e-commerce growth rate. It's a very profitable business, but it's not a high-growth business. And the second thing is that we have, by far, the highest margin in our industry. So I suspect that somewhere between our growth rate now and the e-commerce growth rate is the efficient frontier of creating value, and we are trying to get somewhere around that.
Wenig is being quite clear and straightforward, eBay intends to accelerate growth, but the company is not willing to go into into a margin-destroying war versus Amazon to increase sales. This has some important implications for investors, eBay will most probably continue well behind Amazon in terms of revenue expansion, but the company will also retain its position as an exceptionally profitable operator in the industry.
