Amazon's CEE Move Will Address Profit Margins

Global e-commerce company, has gained approval to build a logistics centre in Doborviz in the Czech Republic, 7km outside Prague. The company is also planning on opening a second Czech site near Brno, the second-largest Czech city, as well as three more in Poland between mid-2014 and mid-2015. BMI views these moves as a method to increase Amazon's presence in Central and Eastern Europe, while also addressing concerns about the company's profitability.

These five new sites means that Amazon will operate a total of 25 distribution sites in seven countries across Europe, with a cost "north of EUR100mn" (US$136mn) to build each centre and hundreds of millions of euros more on equipment, landscaping and staff training, according to Tim Collins, Amazon's European Director of Operations. The centres are used for processing customer orders including sorting, packaging and shipping and are due to cover an area of 95,000m 2. Amazon already operates a smaller centre for goods returning from Germany opened in 2013 and we believe these additional centres in the Czech Republic will enhance its business in Western, Central and Eastern Europe.

CEE To See Retail Growth
Total Household Spending Per Capita (US$)

Customers in the CEE must currently order from Amazon websites in German, French, Spanish, English and Italian. Furthermore, the lack of local distribution centre means that shipping costs are higher than for its more developed markets, with these two factors deterring a number of potential users. Amazon does not disclose detailed figures for its geographical breakdown of revenues, referring to just North American sales and International sales. This makes it difficult to determine how quickly its CEE business is growing but the move fits with its investment strategy of international expansion, to establish the brand as the largest global retail company.

The central location of Poland and the Czech Republic, gives the company an advantage with transportation links to markets in Western Europe, as well as Austria, Slovakia, Hungary and eventually Russia and Ukraine. The company cites the availability of qualified workers in these two countries as other determining factors to the investment in new distribution centres. BMI forecasts total household spending to rise in the CEE over our five-year forecast period to 2018, with Poland and Russia set to be among the fastest risers.

We also highlight Amazon's limited profitability as a further reason for establishing these new distribution centres in Poland and the Czech Republic. Net sales have increased rapidly since 2008, from US$19.166bn to US$74.453bn in 2013, as Amazon aggressively expands into new product lines, evolving from an online superstore, to become a hardware manufacturer, video distributor and content producer, among others. While sales have exploded, a similar rise in the company's profits has not occurred, with the profit margin falling from around 3.4% in 2008 to 0.4% in 2013. Amazon cites its continued investment in new products and distribution centres in new geographic locations as the reasons behind this and recorded net losses in Q213 and Q313 as a result of its push into Czech Republic and Poland.

Explosion In Sales At Expense Of Profitability
Amazon Profit Margin, 2008-2013

By investing in these new centres, the company will also be able to serve its Western European operations at a lower cost than at present, and should therefore provide a slight boost to its profitability margin by around mid- to late-2015. Amazon traditionally has not sought cost hikes to its customers in order to improve profitability, but instead looks to cut the cost of its suppliers and workers. During Q413, German workers in Leipzig and Bad Hersfeld went on strike in an attempt to demand higher wages from Amazon. By outsourcing these jobs to Poland, for example, Amazon will be able to save itself expenditure from higher wage countries such as Germany and contribute to its profitability.

The company alleges that it could drive up profitability instantly by halting its investment approach but instead chooses to operate a strategy of persistent growth into new geographical and product markets, to establish a dominant presence and strong revenues, with the idea of profitability a long-term goal further down the road. BMI doesn't believe Amazon will opt for this anytime soon as investors continue to drive up the share price despite profitability concerns. Expanding into the CEE is a positive move for the company, and will encounter little competition from local players. However, a potential showdown in Russia with Chinese e-commerce giant Alibaba could be in play over the long-term, as both companies eye up a population of 143.5mn.

This article is tagged to:
Sector: Consumer Electronics, Retail
Geography: Europe, Austria, Czech Republic, Germany, Hungary, Poland, Russia, Slovakia, Ukraine

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