The Business of Fashion
Agenda-setting intelligence, analysis and advice for the global fashion community.
Agenda-setting intelligence, analysis and advice for the global fashion community.
NEW YORK, United States — In 2012, Amazon debuted its first fashion advertisement. It was reminiscent of an American Vogue spread and featured a dolled up Chanel Iman in a taut, alert pose. Printed across her shins was the phrase "Smart is Beautiful," a tagline still employed by the glossiest division of the e-commerce and cloud computing giant, which generated combined revenues of $107 billion in 2015.
Over the past five years, Amazon has made a series of moves aimed at the fashion market that go far beyond print advertising. Amazon founder and chief executive Jeff Bezos has long seen a presence in the fashion industry as critical to the company's long-term ambition to surpass $200 billion in sales. There was the company's Met Gala sponsorship in 2012 and the subsequent opening of large photo studios in New York and London in 2013 and 2015, respectively, which Amazon said would help the company add more than 500,000 images of apparel to its e-commerce sites every year. More recently, Amazon has sponsored New York's nascent men's fashion week and aired Season 3 of the CFDA/Vogue Fashion Fund reality television series "The Fashion Fund" on Amazon Prime. Amazon is also the title sponsor of India Fashion Week and, from October 2016, Tokyo Fashion Week will be rechristened Amazon Fashion Week Tokyo.
The announcement of Amazon Fashion Week Tokyo | Source: Amazon
Over the same period, Amazon executives have spent countless hours meeting with designers and brands across the pricing spectrum, trying to convince them to sell their products through the site. While some have agreed, many still feel Amazon will never be a fashion destination. Its front-end experience is not currently optimised for merchandising emotional products, while its association with discounting turns off luxury brands. Although practical items like socks and trainers might be top sellers on Amazon, many still question whether the site will ever be capable of conjuring the dream required to sell thousand dollar dresses and bags.
Even so, getting consumers to buy luxury products on Amazon.com is just one small piece of the company’s wider fashion strategy. Thanks to dozens of initiatives, both public and private, Amazon is close to unveiling something much bigger: Global Supply Chain by Amazon, a platform that’s set to disrupt the fashion industry like never before.
Taking the Long View
To comprehend Amazon's fashion play, it's essential to understand the long-term mindset of the company’s founder and chief executive Jeff Bezos. Speaking to Wired in 2011, Bezos explained his thinking: “Our first shareholder letter, in 1997, was entitled, ‘It’s all about the long term.’ If everything you do needs to work on a three-year time horizon, then you’re competing against a lot of people. But if you’re willing to invest on a seven-year time horizon, you’re now competing against a fraction of those people, because very few companies are willing to do that. Just by lengthening the time horizon, you can engage in endeavours that you could never otherwise pursue. At Amazon we like things to work in five to seven years. We’re willing to plant seeds, let them grow — and we’re very stubborn. We say we’re stubborn on vision and flexible on details.”
At Amazon we like things to work in five to seven years. We're willing to plant seeds, let them grow.
When a company like Amazon — which has all the cash and time in the world, along with a mindset that values rapid iteration — focuses on a goal, it will usually find its way. Amazon’s ambitions in fashion are no exception. The fashion industry obsesses over seasons; Bezos obsesses over decades. Amazon has been playing in the apparel space for a while. But Amazon’s existing fashion properties — including Amazon Fashion (a section of its main website), Zappos, Shopbop, Endless.com and East Dane — are just the beginning of Amazon's fashion aspirations.
The Power of Aggregation
Amazon's unparalleled grip on consumers is the first factor to consider when evaluating the company’s fashion position. Analyst Ben Thompson’s aggregation theory explains the shift in power from companies that control distribution to companies that excel at aggregating customers. Thompson writes: “No longer do distributors compete based upon exclusive supplier relationships, with consumers/users an afterthought. Instead, suppliers can be aggregated at scale leaving consumers/users as a first order priority. By extension, this means that the most important factor determining success is the user experience: the best distributors/aggregators/market-makers win by providing the best experience, which earns them the most consumers/users, which attracts the most suppliers, which enhances the user experience in a virtuous cycle.”
The rise of showrooming is an under-appreciated example of Amazon's grasp of this theory. Showrooming is when a customer visits a physical store to evaluate a product but buys it online because it’s cheaper and more convenient. Showrooming has devastated the consumer technology market, where stores like Best Buy and Circuit City struggled to match Amazon on price and convenience. When Amazon introduced Prime, for example, which offers free 2-day shipping and returns on millions of products, customers happily transferred their business to the site, thus driving the company’s “virtuous cycle.” Amazon Prime currently has over 63 million members worldwide and is possibly the greatest loyalty programme ever created — one with no point system and for which consumers have to pay.
Amazon's masterful understanding of aggregation is critical to its fashion strategy. When trends change at a rapid clip, staying relevant is challenging for both brands and retailers, since customer relationships predicated on individual products are fleeting. But because Amazon's relationship with customers is established across millions of products — meaning consumers will continue to visit the site regardless of what’s in or out — the company is much less vulnerable to shifting trends.
Amazon’s stronghold of customer data compounds this advantage. Entering shipping and credit card information is one of the biggest obstacles to online conversion. Amazon’s 285 million active customer accounts — second only to Apple, which has close to one billion — are priceless. Because of these accounts, Amazon is often the first place many consumers will search for a product. This default-to-Amazon dynamic is immensely powerful.
Data-Driven Private Label Products
Owning the customer relationship also produces a huge amount of data. This data runs the gamut from which products are selling to which products are faltering to what trends are driving these results. The power of this information is so important that Amazon even built an affiliate marketing program, which rewards lead generation, solely to gather purchase data. Amazon might not care if it makes money from the program since the data is so valuable.
Traditionally, this data informed what third-party products Amazon bought and featured. But it's even more powerful now that Amazon is making its own products. The company has been experimenting with private labels since 2009 under the banner of AmazonBasics, a sub-brand that sells batteries, paper shredders and other household items. As of April 2016, over 900 products carried an AmazonBasics label, 284 of which launched in the last year, according to a Bloomberg report. In June 2016, the company began selling private-label perishable goods.
Amazon's private label Lark & Ro | Source: Amazon
Private labels allow for the experimental approach that makes Amazon successful: rapid iteration regardless of failure. If a specific private label product doesn't work, Amazon stops making it and few people notice. That said, Amazon’s data operation has made its failure rate historically low. Once a product gains traction, Amazon negotiates the lowest prices from suppliers given the immense scale that comes from having relationships with hundreds of millions of customers, leading to even cheaper products. This benefits customers and commoditises suppliers.
Amazon's private label focus recently expanded into fashion and apparel, using the same unparalleled data backbone and iterative mindset that is powering its foray into consumer-packaged goods. Amazon's fire hose of data outmatches any other entity; it simply knows what is happening at any given moment.
"Amazon has been able to compile an informational 'nuclear' database by finitely tracking all of the gazillions of transactions that have taken place online," wrote retail veteran Robin Lewis. "In real time they know what's hot and what's not. They can then quickly find the 'white spaces' — styles, price points not being served."
Amazon recently rolled out its first seven private label apparel brands to fill these white spaces, with names such as Franklin & Freeman, Scout + Ro and Society New York. At a time where retailers are overrun with inventory, Amazon has a significant advantage.
Forgetting About ‘Margin Drivers’
Retailers promote private label merchandise because it allows them to fill holes in their offerings and eliminates the need for a wholesaler or distributor, generating higher margins. But in one of the biggest differences between Amazon and the fashion industry, Amazon doesn’t care about margins. Instead, it’s all about cash flow.
“Percentage margins are not one of the things we are seeking to optimise,” Bezos told the Harvard Business Review in 2013. “It’s the absolute dollar-free cash flow per share that you want to maximise, and if you can do that by lowering margins, we would do that. So if you could take the free cash flow, that’s something that investors can spend. Investors can’t spend percentage margins.”
Here's an example of Bezos' reasoning. A fashion brand might make a t-shirt for $10 and sell it for $50, yielding an 80 percent margin. Maybe the brand will sell 100 or 1,000 shirts. If the shirts don’t sell, the brand might mark them down. But the damage is already done because the brand already paid to produce the clothing and the consumer already decided not to purchase the shirt.
Conversely, Bezos would rather make a t-shirt for $5 and sell it for $6.50 to start, yielding a 23 percent margin. If $6.50 doesn't work as a price point, Amazon will raise and lower the price, constantly evaluating price elasticity until it lands on a value that maximises sales. Amazon has built its entire business on figuring out price elasticity at scale. A recent study by Boomerang Commerce found that Amazon changed the prices of its products 9.2 times on average, compared to Macy's and Kohl's adjusting prices 2.1 times and 1.5 times, respectively.
On a margin basis, Amazon's pricing structure is much worse. But Amazon would likely sell tens if not hundreds of thousands of these shirts, yielding infinitely more free cash flow. Yes, this requires immense amounts of capital and scale to squeeze a bit of margin from each shirt, but this is Amazon's emerging business model. In the second quarter of this year, Amazon's retail operating margin was 2.09 percent, which was a 181 percent increase over the same quarter a year ago; first quarter operating margin was a mere 1.73 percent. This might seem minute, but Amazon's business model is a very small tax on the massive scale that moves through its platform, which is fundamentally different from a traditional retail model aimed at maximising margins.
Amazon’s obsession with finding the right price point enables them to maximise free cash flow and stay away from oscillating between over-pricing and then over-discounting. Some brands have been turned off by this constant testing, given the pricing inconsistencies it yields and the impact on brand perception, especially in the luxury sector where price is often an indicator of perceived quality and exclusivity.
Fashion ‘Cool’ vs Technology ‘Cool’
Amazon's pricing strategy — and fashion brands' negativity towards it — is emblematic of a larger fissure between the two parties: the fashion industry and Amazon have very different definitions of what it means to be "cool." Coolness in the fashion industry is based on experiences, feelings, emotions and aesthetics. Coolness for Amazon, and the technology industry more broadly, is based on building, learning and scaling quickly. Bezos wrote a memo in 2011 called "Amazon.love" where he listed 24 things that he finds cool. There is almost no overlap between what Bezos finds cool and what fashion finds cool.
The fashion industry's biggest rebuttal to Amazon's fashion efforts is that the company doesn’t understand its definition of cool. The issue, though, is that most businesses can be either cool by the fashion industry’s definition or massive. Coolness is often tied to scarcity. Businesses that thrive at scale are not scarce. Bezos is likely fine with this.
Amazon will capture all of the massive but uncool parts of the apparel industry, reaping the company tens of billions of dollars in revenue. If Amazon sees a hole in the market for women's tops sizes 6 to 12 in fall colours, it can instantly spin up a private label brand and fill the gap. While this might seem uncool to the fashion industry, these products alone could do tens of millions of dollars in sales. To Bezos, this is incredibly cool.
Disruption at the Low End… and Beyond?
Amazon's seemingly stealth moves are already wreaking havoc in the apparel space. A recent report from Cowen and Company suggested that Amazon will displace Macy's as the number one US apparel retailer sometime in 2017. Recent estimates from Morgan Stanley are even more bullish, pegging Amazon's market share at 7 percent of all US apparel sales, projecting it will reach 19 percent by 2020. The same report states that Amazon is the second biggest apparel retailer in the US, behind Wal-Mart. "Amazon has such a selection advantage over everyone," says John Blackledge, a managing director at Cowen and Company. "A lot of these players are going to get passed by."
Amazon's approach to apparel is mapping very well to the kind of low-end disruption that Clayton Christensen famously laid out in “The Innovator’s Dilemma.” As his theory implies, a modular provider such as Amazon can start off by serving the low end of a market such as apparel. But as its technology, processes and prices improve, the same modular provider slowly moves up market. Then, once its products are “good enough,” everyone currently buying high-end products will stop because they are only marginally better yet more expensive.
Fast fashion followed the same path and cut the middle out of the apparel market. Amazon is about to take an even bigger bite, given its unmatched scale and resources. The company is relentlessly focusing on utilitarian clothing and the middle of the market — there is plenty for the taking.
From Apparel to Fashion
Apparel is one thing, but fashion is another. Fashion consumers do not buy out of necessity. Rather, it’s an emotionally-driven process. The common refrain from the fashion industry is that Amazon’s visual aesthetic and tone, despite sometimes quality photography and sparkling copy, are currently devoid of the sophistication that the fashion industry expects. “Nobody goes to Amazon for its beauty,” says Sucharita Mulpuru, an analyst at Forrester Research. “They go because of functionality and ease.” Unlike most successful fashion retailers, some believe that Amazon also lacks a curatorial point of view. “Lack of curation is one of the issues brands have with Amazon,” Blackledge says.
These observations are certainly true today. However, Amazon has built one of the highest performing shopping sites in history, with key innovations like one-click ordering and insanely fast shipping. It’s much easier to work backwards from Amazon’s incredibly high conversion rates towards good aesthetics than it is to take an aesthetically pleasing website and boost its conversion. Slowly but surely, Amazon will continue improving its aesthetics.
Amazon also has one of the strongest brands — ranked number 10 in the world, according to Interbrand — and is trusted by hundreds of millions of customers. Yes, the brand is currently more utilitarian than luxury, but the gap could close as Amazon learns. Remember, not long ago, Amazon only sold books and Bezos is very good at surrounding himself with the best people who collectively will figure out how to cater to cool brands in due time. Until then, there’s the rest of the apparel market to capture.
A New Global Supply Chain
While Amazon evolves its luxury strategy, the company will undoubtedly dominate other areas of the fashion industry. Most profoundly, it wants to own the critical parts of the logistics stack. The company is building out capabilities in cargo and freight (airports, cargo planes, ocean freight licenses), fulfilment (warehouses, Fulfilled by Amazon), last mile delivery (Prime Now, drones) and much more.
Amazon's Prime Air cargo plane | Source: Amazon
The culmination of these efforts will be called Global Supply Chain by Amazon. From a Bloomberg report this year: "The new business will locate Amazon at the centre of a logistics industry that involves not just shippers like FedEx and UPS, but also legions of middlemen who handle cargo and paperwork associated with transnational trade. Amazon wants to bypass these brokers, amassing inventory from thousands of merchants around the world and then buying space on trucks, planes and ships at reduced rates. Merchants will be able to book cargo space online or via mobile devices, creating what Amazon has described as a 'one click-ship for seamless international trade and shipping.'"
There is a crucial element that guarantees Global Supply Chain will work: Amazon is building it for itself. The first and biggest customer will always be Amazon, just like Amazon Web Services, its cloud-computing offering, which allows software businesses to scale easily and cheaply. Amazon needs platforms such as Global Supply Chain and Amazon Web Services for itself, which, in turn, ensures their success.
Just as Amazon has threatened the existences of department stores and big-box retailers, Global Supply Chain will have devastating effects on current logistics suppliers such as UPS, USPS and FedEx, which already rely on Amazon for a large chunk of their business. Amazon will not replace them entirely, but it will heavily supplement existing carriers, commoditising their business and forcing them to operate at Amazon's whim. In the UK, Amazon handles 50 percent of its own shipping because it exceeds the capacity of the Royal Mail.
While many fashion brands may not want to sell their goods on Amazon.com, they may be eager to rewire their broken infrastructure by taking advantage of Amazon’s streamlined supply chain offering. As more physical goods businesses migrate over to Amazon's platform, the company will collect a percentage of all the money that passes through its ecosystem.
Looking at the fashion industry through the lens of Global Supply Chain also makes sense. Bezos spoke specifically about his fashion interests with the New York Times in 2012: "Amazon's decision to go after high fashion is about plain economics. Because Amazon's costs are about the same whether it is shipping a $10 book or a $1,000 skirt, 'gross profit dollars per unit will be much higher on a fashion item,' Mr. Bezos said."
Global Supply Chain, like most infrastructure, is a fixed cost. It costs Amazon the same amount of money whether a pencil or an Hermès bag moves through its logistics system. Higher value items are more profitable. (Note Bezos specifically didn't say higher margin.) When factoring in other percentage-based fees Amazon charges for its services, such as credit card processing, marketplace listing and fulfilment services, an explosion in gross merchandise value means skyrocketing revenues.
Another interesting but rarely talked about part of Amazon's business-to-business strategy is Amazon Lending, which extends loans to qualified Amazon sellers. Amazon is going after the factoring companies — widely used by cash-strapped fashion brands to produce collections — by competing on interest rates and approval criteria. From a piece in the Wall Street Journal: "Merchants who spoke to The Wall Street Journal said they were offered loans ranging from $1,000 to $38,000 apiece, with interest rates from less than 1 percent (for one of them) to 13.9 percent (for most who were interviewed). Small-business credit-card interest rates typically range from 13 percent to 19 percent."
According to the article, Amazon sends out emails with pre-qualified offers and extends favourable terms to big sellers on Amazon. Amazon's robust data operation affords them airtight risk analysis. Amazon underwrites loans that it has near certainty will be repaid since it has access to the financials of the merchants selling through its platform. With Amazon Lending, in addition to its fulfilment services, Amazon will continue to win over more merchants, which will take a big chunk out of the factoring industry. Old factoring money will be more expensive, less attractive and their underwriting will be riskier.
What Amazon’s Moves Mean for the Industry
There are two ways to look at Amazon's moves: optimistically or pessimistically. As frightening as this might seem, Amazon’s game plan could open up the next great frontier for building physical goods companies, especially fashion brands.
In the age of aggregation, Amazon could leverage its sheer scale to own the production and selling of all basics and commodities. What this leaves open, though, is the opportunity for fashion start-ups to fill design-driven niches and build physical goods companies incredibly quickly on top of Amazon’s backbone. With Amazon drastically lowering the barriers to mastering supply chain, logistics and securing distribution, many of the burdensome aspects of running a physical goods business might evaporate.
This could lead to a gold rush of new small businesses — built entirely on Amazon's platform — that can quickly scale to a few million dollars in sales. A new age of entrepreneurs might selectively use platforms like Amazon to raise capital, source and produce products, and sell to consumers in quicker and more efficient ways. Yes, running an entire business on Amazon’s platform gives the company an immense amount of power and data. But if a fashion brand tries to control every detail of its operation, it will never have time to focus on its strengths.
Amazon’s moves to democratise physical goods businesses in sectors such as fashion will lead to the inception of more multi-million-dollar companies. This outcome is economically better for both consumers and creators, as success will no longer be restricted to companies who have the capital and expertise to master supply chain and logistics. Instead, strong, design-driven brands might thrive. This could be the best thing to ever happen to the fashion industry.
Amazon declined to make an executive available to comment for this piece, though a spokesperson for the company said: “Offering an expansive selection, using technology to innovate the shopping experience and guaranteeing the best customer service are all part of our vision to become a fashion destination that brands and customers love. We consider ourselves only a handful of years into a very long-term investment. Every day, we say it's still Day One."
Editor's Note: This article was revised on September 7, 2016. A previous version of this article misstated that Amazon tests different price points with different groups of shoppers. They do not. While Amazon constantly tests and optimises prices, all consumers get the same price at any given time.