Third Party Sales on Amazon

Recently Ben Evans wrote about the Amazon.com business model and why the company manages to grow and, apparently, thrive without posting profits. In his article he discussed Amazon’s approach to third-party sales within their business model; that discussion is our focus here.

Evans describes the logistics and commerce infrastructure of Amazon.com as a platform for multiple smaller businesses. These businesses include internal Amazon businesses within the company itself and the businesses of third party sellers who depend on Amazon.com infrastructure to sell their own physical products. Third-party product sales via the Amazon.com platform now comprise 40% of the company’s unit sales, and Amazon.com earns fully 20% of its revenue from the fees it charges third-party vendors for the use of its infrastructure.

So, third-party sellers set their own prices. They may be strong, established sellers or they may be new to the market and struggling. You might find sellers with high profit margins and you may find third-party vendors selling at a loss. But none of these things are under Amazon.com’s control. All they do is take their margin and fulfill and ship orders.

How does this fit into the Amazon.com business model and revenue reporting scheme? When it comes to third-party sales, Amazon.com reports the revenue it receives from the services it provides. This means that it shows the revenue from its shipping, fulfillment, and payment fees, but not from the sales of third-party goods themselves. On the one hand this is intuitive; Amazon isn’t making that money from those sales. On the other hand, this is a little misleading, as Ben Evans explains.

It is misleading because third-party sales tend to have a higher unit value, which Amazon.com does admit. So in reality Amazon.com handles about twice as much merchandise as they report in terms of value. And while the company reported a rise in gross profits from 22.4% in 2011 to 27.2% in 2013, Evans confirms that this really isn’t representative of the real numbers.

Think of it this way. If Amazon lets third-party sellers handle the higher value items while Amazon.com sells lower value merchandise, the company is able to avoid the selling process completely for high-ticket items, take a percentage of the cost anyway for doing the same fulfillment tasks they would do even for a low-value item, and avoid taking in more revenue, keeping their bottom profit line at zero (which is, as Evans explains, their plan). Someone has to sell the high-value items, and it makes the most sense under Amazon.com’s business model — which needs to show low profit and end up as close to zero as possible — for third-party sellers to do it.

The result is that at the time of this writing the Amazon.com platform is home to more than two million third-party seller accounts, not to mention dozens of Amazon businesses. Each of these businesses uses Amazon fulfillment services. And the entire network is part of the overall Amazon.com business model, conceived of by Jeff Bezos, which is designed to net out as close to zero as possible each quarter. According to Evans the company does this not because it isn’t working or because it isn’t profitable (although in that technical sense it isn’t), but because it pours all of its financial resources into expansion and growth, all of the time.

The bottom line? So far this plan is working, and not just for Amazon.com. Third-party sellers like the platform and there is no sign of a drop off in third-party users. And analysts like Ben Evans seem to think that the model is working — at least for now.