/Inside Amazons struggles with record inflation

Inside Amazons struggles with record inflation

  • Record inflation is roiling Amazon’s retail business, adding a jolt to an already volatile post-pandemic business environment.
  • Amazon is seeing steeper margin declines, slower-than-expect demand, and surging employee attrition driven by below-inflation raises.
  • Frustration over rising inflation has even riled up Amazon’s founder Jeff Bezos, who vented on Twitter this week.

The day after Amazon reported disappointing first-quarter financial results, on April 29, the company’s SVP of Global Delivery Services John Felton shared mixed feelings in an email to his team.

“First, I want you to know that I look back at Q1 as an overall success and am very impressed at what was done and how it was done the right way,” Felton wrote in the email, obtained by Insider. “But, like you, I was also disappointed with what we reported in earnings.”

High labor costs and capital investments were a drag on overall performance. Productivity is improving, but still needs to find the right balance, he wrote.

And the “unpredictable inflationary environment,” Felton added, is making things harder.

“The inflationary environment is not something I would have predicted, but I continue to be impressed with how the teams pivoted and have continued to focus on managing costs even with some uncontrollable headwinds,” Felton wrote. “We are going to continue to have cost challenges in front of us until we are able to grow into our capacity.”

The uncertainty over rising costs and consumer prices shows even Amazon, a $1.1 trillion company obsessed with meticulous attention to detail, can be roiled by the rising inflation around the world — adding an unwelcome jolt to what has already been a volatile business environment since the pandemic started more than two years ago.

Internal documents and employees who spoke to Insider shed light on the challenges Amazon has faced in the current inflationary environment, now running at a 40-year high in the US. They show the retail business’s dwindling margins and reliance on ad profits, consumer demand that fell short of internal expectations, and surging employee attrition that many attribute to below-inflation pay raises. These people spoke on the condition of anonymity because they’re not authorized to speak to the press.

Amazon’s spokesperson didn’t respond to a request for comment.

An Amazon warehouse in Peterborough, England, in 2017, with dozens of rows of boxes visible

An Amazon warehouse in England.

Chris J. Ratcliffe/Getty Images

Frustration over rising inflation has even riled up Amazon’s founder Jeff Bezos, who rarely engages in political discourse over social media. In the past week, Bezos tweeted several times about high inflation, calling out the Biden administration’s “misdirection” and “failed” attempt at controlling the current economic environment.

“In fact, the administration tried hard to inject even more stimulus into an already over-heated, inflationary economy and only Manchin saved them from themselves,” Bezos tweeted, referring to the Democratic Senator Joe Manchin, who voted against the $3.5 trillion stimulus bill. “Misdirection doesn’t help the country.”

Advertising is saving profit margins

Rising costs are the most immediate fallout of inflation, which is a “big topic” internally, according to a person familiar with the finances team. 

Those costs, which include everything from higher gas prices, shipping fees, and employee salaries, have a direct impact on Amazon’s operations. 

In the first quarter, Amazon saw $6 billion of incremental costs related to inflation, lower productivity, and over-capacity issues, CFO Brian Olsavsky said during last month’s earnings call. Overseas shipping costs more than doubled compared to pre-pandemic rates, while fuel prices jumped 1.5-times from a year ago, he said. 

As a result, Amazon reported $3.7 billion in operating income during the first quarter, 32% below investor expectations. Sluggish sales and rising costs disappointed Wall Street, driving down Amazon’s stock by 14% on the day after its earnings last month, the biggest one-day drop since 2006.

Amazon's stock price chart

Amazon’s stock price this year

Markets Insider

But it could have been worse, if not for Amazon’s rapidly-growing, high-margin advertising business, according to internal documents reviewed by Insider.

An internally-tracked figure called “North America Established,” which represents revenue from the North American retail business excluding such segments as ads, groceries, and digital products, had $2.9 billion in operating losses last quarter, one of the documents shows. But when ad sales were included in that segment, it turned an operating profit of $1.6 billion. 

The same goes for “International Established,” which includes Amazon’s most mature overseas retail markets, like Germany, the UK, and Japan. That category would have lost $653 million in operating income last quarter without ads. Instead, by including ad revenue, it reached $755 million in operating profits, the documents show.

Amazon doesn’t publicly disclose these numbers. Without the profits from its advertising business, Amazon would have lost roughly $3 billion in operating income in the first quarter, the documents show. 

To counter some of these concerns, Amazon recently increased its Prime membership fee by 17% to $139 a year in the US. Fulfillment costs increased several times in the past two years, and starting last month, Amazon added a 5% fuel and inflation surcharge for sellers using its logistics network. Still, Amazon guided operating income in the range of a loss of $1 billion to a profit of $3 billion in the second quarter, far below last year’s $7.7 billion.

“Macro today is about as challenging on the cost side as at any point in Amazon’s history,” Evercore’s analyst Mark Mahaney wrote in a note last month.

‘Prioritize within the limited resources’

Inflation is slowing demand too.

Amazon grossly overestimated the demand it would see this year, leading to missed goals and excess capacity across its warehouses and workforce.

Signs of a slowdown were already apparent in the holiday quarter. One of the internal documents shows that package volumes were “light” in 80% of the weeks in the fourth quarter of last year compared to internal expectations. In the European market, total packages in the fourth quarter were almost 15% lower than internal estimates, while “peak” period packages were 19% to 24% lower than expected, according to one of the documents.

Olsavsky, the CFO, acknowledged during last month’s earnings call that Amazon over-expanded during the pandemic, leaving the company with more resources than it needed.

That’s leading to cut backs across the retail business.

The retail team is scaling down on hiring targets this year until “business accelerates” to reach certain growth targets, as Insider previously reported. Amazon also plans to significantly curb the growth of its third-party delivery partners this year, following a two-year ramp-up period, Insider previously reported.  Though Olsavsky said customer demand remains “strong,” Amazon announced it would stop expanding its “physical and staffing capacity” for now.

“We fully understand that this is not ideal and the teams have to make some tough choices to prioritize within the limited resources,” Gokul Dakshina, VP of finance and CFO for Amazon’s North America consumer business, wrote in an email to his team last month, reviewed by Insider. “Please adjust your hiring ramp accordingly.”

Third-party sellers, who account for more than half of the products sold on Amazon, are learning to adapt as well. Shipping and fulfillment costs have increased significantly in the inflationary environment, causing sellers to raise prices or accept lower margins, according to Juozas Kaziukenas, CEO of research firm Marketplace Pulse. Consumer prices for online shopping jumped over 10% since June 2020, data from Profitero shows.

“It ultimately means shoppers are paying more for the same goods,” Kaziukenas said.

Other large retailers are facing similar problems. Walmart and Target both reported weaker-than-expected quarterly earnings this week that showed huge increases in costs. Both of their stock prices plunged, driving down other retail brand shares as well.

Higher ‘regretted’ attrition driven by low pay

There is concern around wage inflation and employee turnover.

Amazon is known for its relatively low pay compared to its peers. And with its stock price lagging — down 36% this year — employees are finding less reason to stay put, as Insider previously reported.

To address the issue, Amazon made some improvements to its pay structure this year. But many employees told Insider that most pay raises have been far below current inflation rates, prompting them to seek other opportunities.

In fact, Amazon is already seeing a huge spike in “regretted” attrition, or the portion of employees it didn’t want to lose, according to internal data obtained by Insider. Amazon’s regretted attrition rate hovered around 5% from 2016 to mid-2021. But from June 2021 until last month, the average regretted attrition more than doubled to 12.1%, the data show.

Competition for talent is forcing Amazon to hand out more employee stock awards — an increase in its cost. Olsavsky said last month that Amazon was on pace to spend a record $6 billion on stock-based compensation expenses in the second quarter, the highest quarterly amount ever spent on employee stock awards and a 66% jump from the same period last year.

Felton, the SVP of Global Delivery Services, ended last month’s email to his team on a more positive note, highlighting performance improvements. Navigating all these issues, however, will require a “pivot” from growth and expansion to finding the right balance, he wrote.

“Keep working on it because the opportunity is there,” Felton wrote. “We need to get the right balance of safety, quality, speed, and costs.”

Do you work at Amazon? Got a tip? Contact reporter Eugene Kim via the encrypted messaging apps Signal or Telegram (+1-650-942-3061) or email (ekim@insider.com).

Original Source