With a rein on costs, high-impact marketing, financial discipline and a focus on profitable merchandise, Scott Blum aims for a few points of Amazon`s market share.
By Lauri Giesen
There are any number of classical allusions that can characterize Buy.com: David vs. Goliath, the phoenix rising from the ashes, some would even say Icarus flying too close to the sun and falling to earth. But whether Buy’s David falls to Amazon’s Goliath or Buy’s wings fall off because it tried to soar too high, no one can say Buy.com didn’t try when it had the chance or that it didn’t cause a stir as it attempted its resurrection.
Once on its deathbed, Buy.com has strode boldly back onto the national retailing stage with the planned debut of a TV shopping channel, a catalog disguised as a magazine, well publicized free shipping in an effort to undercut Amazon’s free shipping with a minimum order, and low prices. While it’s far too early to tell if Buy.com’s strategy will succeed, its goal is nothing less than to redeem its reputation as a failed dot-com and regain part of the market share that it ceded to Amazon and others.
And in the process, it may show that operating and marketing enhancements, financial discipline, a focus on profitable merchandise and a dash of multi-channel retailing, in short, the same ingredients that make up any successful retailing strategy, can still be applied in the dot-com world to create a thriving company. “Our vision is to demonstrate a powerful model for the future,” asserts Scott A. Blum, founder and once-again CEO of Buy.com.
A TV star
Among Buy.com’s most notable moves was the announcement this summer that it would sell books at 10% below the prices of the company that wrote the book on online book sales—Amazon.com—and would beat Amazon’s delivery offer of free shipments on orders over $49, which Amazon subsequently lowered to $25. Buy.com will ship free regardless of purchase size. And, reflecting Blum’s pugnacious approach to winning back market share, Buy.com didn’t just quietly cut its prices or even take out a few small ads. It boldly challenged Amazon with a full-page ad in the Wall Street Journal that among other things proclaimed “Don’t get sold down the Amazon River without a paddle.”
But if its pricing moves took many in the Internet retailing industry by surprise, a more recent plan to sell its products via television, through the creation of Buy.com TV, comes as an even bigger shock. Buy.com is expected to announce the venture in mid-October.
The mastermind behind the aggressive strategy is Blum, a college dropout who also owns a holding company that invests in technology start-ups. Having started Buy.com in 1996, Blum left management of it in February 2000 after he took it public, selling 16.1 million shares at $27 each, and continued to own about 40% of the company’s shares. While he remained on the board of directors, Blum watched in dismay as the firm he founded expanded into product lines that he didn’t think made sense and grew an infrastructure too large to be supported by the company’s sales.
Then a year ago, Blum bought the company back at what many believe was a fire sale price. While the firm’s stock hit a high of $37.50 a share in the spring of 2000, Blum paid 17 cents a share just 21 months later, buying back the company that had had a market capitalization as high as $4 billion for $23.5 million.
After Blum bought back his company, he quickly began dismantling it. Then this summer, with the cuts in place and a new strategy in hand, he began rebuilding it.
25% sales jump
The first such moves were the free shipping offer and the aggressive pricing strategy. By announcing it is pricing books 10% below Amazon, Buy.com let consumers know it wanted to be a low-cost provider. And already there appears to be some long-term payback. Book sales skyrocketed by 800% during the first week after the price announcement. After the first month, book sales were still up 500% while total company sales were up 25%, from $1 million a day in the month before the cuts to between $1.2 million and $1.3 million a day in July. Publicity from the book sales spurred sales of electronics and other items, Blum claims.
But free shipping and the price cuts were just the beginning. Even more aggressive—and riskier—is Buy.com’s foray into television. It follows a move earlier this year to become a multi-channel retailer by publishing a “magazine” which functions more as a catalog that customers use to view products and then call in orders.
With television, Buy.com is taking a bigger risk than with the magazine—certainly undertaking a more costly venture. The company is negotiating to produce television programming that will combine talk-show-like interviews of artists, authors and movie stars with product demonstrations and sales pitches. “We’re trying to blend the Home Shopping Network with the Tonight Show,” Blum says. The programming will run most likely on cable networks.
The first shows are expected to air in the fourth quarter. Blum expects to purchase time on cable networks that cater to Buy.com’s prime audience—young men fascinated by technology. Channels that Blum says he is looking at include E! Entertainment, MTV, and Tech TV. Sources say Blum is planning to spend $12 million—mostly his own money—to get Buy.com TV off the ground. Blum won’t confirm that figure.
But Blum wants his television sales to do more than just bring in a few extra dollars. He is confident that it will help Buy.com become more than a pure Internet player. “If all goes right, only about 25% of our sales will come from the Internet within three years,” Blum says. The remainder will come from mail order and television. Today, about 95% of sales are Internet-based with only about 5% coming from mail order.
Blum’s TV plans are part of a belief now common in the retail world that Internet-only players can’t cut it. “Any single-channel retailer faces great challenges,” says Duif Calvin, vice president of retail practice for Scient Inc., a New York-based consulting firm. “They just can’t get enough volume to get the best discounts from the distributors.”
A media company
Blum agrees that an Internet-only approach is not enough, although he believes the Internet will always account for a significant portion of Buy’s sales. That is why he characterizes what he’s doing as “building a media company, not an Internet company.”
While industry observers say the television venture will give the Internet site much needed exposure and drive consumers to the site, the benefits are not without considerable risk.
“Right now, Buy.com has trouble getting people to its web site. The site can’t reach out and grab people. TV can get people’s attention and get them to go to the web site and it should generate a lot of traffic for Buy.com,” says Ken R. Cassar, senior analyst for New York-based Jupiter Research. But at the same time, Cassar notes that TV is certainly costly and risky. “It’s too early to tell whether the benefits will outweigh the risks in this situation,” he says.
Adding to the risk is the fact that the Buy.com model for mixing entertainment and commerce is untried. While others have mixed the two before, Buy.com appears to take the use of entertainment farther than what industry veterans such as the Home Shopping Network, QVC or infomercial producers have done, Cassar says.
Finally, Cassar questions whether Buy.com has the financial and other resources to pull off such an ambitious venture. Not only is TV expensive, but it also requires investments to be made well in advance of receiving any revenues. “This is not a public company so it is hard for me to tell how much financial resources are at Buy.com’s disposal. However it appears that the ability of Buy.com to fund these innovations comes down to Scott Blum’s personal ability to fund them,” he says. That said, Cassar is quick to add, “Scott Blum is not afraid to take a gamble.”
In addition to moving into new sales channels, Buy.com may expand its product offerings—but cautiously. Blum doesn’t want to make the same mistakes prior management made of moving into products that don’t fit with existing ones or meet the needs of the current Buy.com customer. And he expects to make greater use of partners in product offerings. “I’d like to see us get into travel items, such as luggage,” he says. “But if we got into something like ticketing, it would have to be with a partner that was already established in that business.”
Serious belt-tightening
The aggressive pricing and potential expansion of products and delivery channels come after some serious belt-tightening at the company. Blum characterizes the company he bought back as bloated and ill-managed. It had 650 employees; he reduced the number to 125. Part of that reduction came as the result of getting rid of warehouse operations and internal order fulfillment. “We rely on our partners and we make sure we partner with the best rather than try to do everything ourselves,” Blum says.
For example, rather than try to keep an inventory of popular books in warehouses, Buy.com relies on Ingram Book Group, one of the nation’s largest book distributors, to keep the items in stock and ship as requested. While some experts believe that inventory in a retailer’s own warehouse assures that items will be available upon request, Blum says he can get guaranteed delivery without the cost. “More than 98% of our orders ship the same day we receive the order,” he says. “Ingram knows its stuff better than we ever can. Why should we think we can do it better?”
Still, some observers note that the TV venture could present a different kind of challenge to Buy.com’s partners. “While Internet sales have their peaks and lulls, overall, the sales are somewhat evenly spaced out,” says Jupiter’s Cassar. “But with TV, the vast majority of your sales come within a half-hour of your broadcast. It’s important that you have partners that know how to handle those challenges. HSN and QVC have developed the internal capacity to handle that type of customer demand.”
Also as part of the staff reduction, Blum cut overhead at the top. “Prior management had 27 vice presidents and 60 directors,” he says. “That’s too much leadership. Now we have two vice presidents.” In addition to Blum as CEO, Robert Price is president. Price oversees the day-to-day side of the business at its headquarters in Aliso Viejo, Calif., while Blum charts the strategic direction of the company most of the year from his home in Jackson, Wyo.
Blum’s final act in the reduction plan was to get rid of product lines that didn’t fit with the type of goods Buy.com was selling; jewelry and office supplies were the first to go.
With the cost cuts completed, Buy.com showed a slight profit for the first time this year. While not revealing specifics, Blum said the company made “a couple hundred thousand” for the first two quarters of this year on sales of nearly $90 million a quarter.
With his $23.5 million purchase, Blum maintains he got an incredible deal. “Most good technology companies are valued at 1.8 times sales and even average companies should be worth one times sales,” he says. “At one times sales, this company should be worth $400 million.”
But not everyone thinks he got a great deal. “This is a more challenging environment than it was even a year ago,” says Scient’s Calvin. “The multi-channel providers have become so much more powerful with their online offerings, it will be hard for companies like Buy.com to compete.”
Buy.com has focused its product line along items that consumers want to purchase online and that can easily be fulfilled—books and small electronics being the biggest examples. However, that strategy also creates a problem in that Buy.com’s products then are similar to those of many other online retailers and traditional retailers with online outlets, Calvin says. The real challenge, she says, is to find products that are not already commonly sold online that consumers are likely to want to buy online or from television. And that, she argues, is not easy.
Other observers caution that Buy.com’s pricing move may not hold up. “Long term, I’m not sure that Buy.com’s economic model is sustainable,” says Geoff Wissman, vice president of Columbus, Ohio-based Retail Forward Inc., a consulting firm. “Even more than pricing below Amazon, the free shipping regardless of order size doesn’t make sense. If you offer free shipment, you at least want to keep a minimum-order size to encourage customers to buy more.”
But Blum takes exception to the notion that he can’t sustain the current prices. “We were always about 10% on average below Amazon,” he says. “It’s just that some books were priced as much as 16% below Amazon while others were a little higher than Amazon. By pricing at a consistent 10% below, we could promote the fact and still not see a decline in profitability.”
Blum claims he can charge less than Amazon because he does not have to support warehousing and order fulfillment. Additionally, while Amazon.com has to pour much of its operating cash into paying off long-term debt (see accompanying story), Blum notes that Buy.com is debt free.
But while Wissman agrees that Amazon’s debt adds significantly to its cost of doing business, he doesn’t believe Buy.com overall can operate that much cheaper than the competition. Additionally, he points out that Amazon is not Buy.com’s only competition. Particularly, in the electronics business, it has to take on Best Buy Co. Inc. and Circuit City Stores Inc., which also have strong Internet sales channels with the added convenience of store pick-up of orders. More importantly, these companies’ costs of securing product are likely to be much lower than Buy.com’s because they can purchase in larger volumes. “This is a business where size matters,” he says. “There are competitors that have a lot more resources so it will be a difficult road for Buy.com to travel.”
Indeed, other experts say that even in books, Buy.com may have a hard time sustaining the title of being the low-cost provider. Calvin points out that while Buy.com makes a big deal of pricing below Amazon, her research shows that Buy.com is still higher on many books than WalMart.com, another big player in the online book world. The low-price hoopla, she says, was just a way to get consumers’ attention. “Buy.com needed people to look at its offering and it needed to do something drastic to accomplish that,” Calvin says. “This got it a lot of press and people who hadn’t shopped there before started to look at Buy.com.”
Long term, however, Calvin says Buy.com will face a bigger challenge. “Buy.com might be able to price lower than Amazon, but it will be very difficult for it to be able to beat the prices of the high-volume retailers like WalMart.com and even Barnes & Noble. They can buy the books so much cheaper than either Buy.com or Amazon because of the volume discounts they get by selling the books both online and in their stores.”
Not a big threat
Others scoff at the notion that Buy.com will be more than a small irritant to Amazon. In a recent research report on Amazon, Safa Rashtchy, an analyst with Minneapolis-based US Bancorp Piper Jaffray, described the Buy.com pricing move as “overblown” and said it shouldn’t hurt Amazon. Still, immediately after Buy.com’s pricing announcement, Amazon’s stock declined more than 5%, or 91 cents, to $16.60.
And while Blum publicly took on Amazon in his ads, he admits it is unlikely that Amazon will feel his moves too severely. “They’re eight times our size,” he says. “Even if we took an aggregate 2% of their sales from them, it would be a huge difference to us while they would hardly feel it. Unlike what you read in the newspapers, we’re not trying to put Amazon out of business, we’re just trying to increase our own market share and show that we’re in this business for the long run.”
While Blum concentrates on taking Buy.com in new directions, he also has to contend with setting the course of a separate group of seven other companies that are part of ThinkTank, a holding company he owns. Blum has poured $20 million of his own capital into ThinkTank in order to get new technology companies off the ground. Blum’s interest in each of these companies ranges from 33% to 80%.
One interesting aspect of ThinkTank is that one of the partners with Blum in a ThinkTank company is Japan-based Softbank. Softbank is a venture capital firm that was one of the largest shareholders in Buy.com before Blum bought it back. As such, Softbank lost a huge sum in Buy.com. The company that Blum and Softbank are co-investors in is AqueDuct, a provider of technology used to plan, design and manage an Internet-based sales organization.
A Softbank executive declines comment on Buy.com, but Blum says there is no lingering resentment between the two. “Everyone wishes their investment had worked out, but it didn’t,” he says. “They didn’t have to sell when they did. But they got disillusioned and didn’t believe in the model anymore. I, on the other hand, never lost faith.”
Faith in his companies comes naturally to Blum, who started his first company when he was 19—Microbanks, a technology firm that sold product enhancements for Macintosh and IBM computers. Blum sold that company for $2.5 million when he was 21. Then he started an optical and recordable CD technology company called Pinnacle Micro, which he ran for nine years before selling for $150 million.
Having left Pinnacle in 1995, Blum spent a couple of years working on an Internet sales model before founding Buy.com.
And now—Professor Blum
Throughout all his company formations, Blum hasn’t had a lot of time for formal education, having dropped out of college after two years. He points out that many leaders in technology never finished college—Bill Gates being the most obvious. “There is nothing you can learn in school that will teach you how to run a company,” he says.
Still, the man who dismisses higher education actually teaches a course on entrepreneurship at a local college. But he is quick to point out his class is relevant in today’s business climate and adds, “They didn’t have classes like that when I was in college.”
If Blum is teaching students today what he has learned from Buy.com, those lessons are likely to include the need to stick to your beliefs while maintaining enough flexibility to move with changing markets. And he is likely to encourage students to be daring and innovative.
But Blum has yet to demonstrate whether those lessons work in the real world
of retail—and whether he can pass his own big final exam.
Lauri Giesen is a Chicago-based freelance writer.
Profitability may be Amazon’s biggest defense
against Buy.com’s assault
By Paul Demery
After several years of painfully forgoing profits in hopes of hitting an Internet
gold mine, Amazon.com is finally showing some positive numbers, posting operating
profits of more than $1 million in each of this year’s first two quarters. With
sharpened efficiencies cutting costs and new revenue streams and aggressive
marketing tactics boosting its income, Amazon appears to have hit its stride
toward success. “They are doing a lot of the right things,” says Derek Brown,
analyst with investment firm W.R. Hambrecht + Co. “They have been able to really
tighten their expense structure, and at the same time re-ignite revenue growth.”
But Amazon, even with steady growth of over 20% in online sales, hitting $806
million in the second quarter of this year, still faces large challenges to
turn its small operating profits into steady net profits. A major obstacle is
a $2 billion debt load that played a key role in turning its second quarter
operating profit of $1.47 million into a net loss of $93.55 million.
Still, its recent momentum appears to be setting Amazon on a long-term course
more profitable than its experience up to this year, analysts say. The world’s
largest e-retailer is scoring significant gains in a number of key areas, including
steadily increasing sales in several product categories, growth in international
markets and operating efficiencies in such crucial areas as shipping.
When Amazon released its second quarter earnings report, founder and CEO Jeff
Bezos lauded the company’s advancements in its new as well as its traditional
markets. “I’m especially pleased with the outstanding job our U.S. Books team
is doing, posting another quarter of 20% year-over-year book unit growth,” he
said in statement that accompanied the earnings release. He noted that revenues
also grew in Amazon’s newer categories of electronics, tools and kitchen products
even “as we lowered prices and expanded electronics selection to over 60,000
items.”
It’s also becoming far more than an online purveyor of goods. Leveraging three
vital assets—its customer database of 30 million, its e-commerce infrastructure
and its fulfillment capabilities—Amazon is branching out as a service provider.
“They’re becoming a shopping mall, an enabler of other retail web sites,” says
Safa Rashtchy, an analyst with U.S. Bancorp Piper Jaffray. He notes that providing
online selling services to other retailers is helping boost Amazon’s gross profit
margins to more than 25%. “They just book commissions, so they get better margins,”
he says. In the second quarter, Amazon’s third-party transactions accounted
for 35% of North American orders, up from 18% a year ago. In that vein, Amazon
and Office Depot Inc. in September announced the arrival of an Office Depot
store at Amazon.com (see p. 5).
Fulfillment costs falling
Moreover, says Duif Calvin, vice president of the retail practice at consultants
Scient Inc., Amazon’s strength is in providing a platform for handling large
amounts of sales transactions, particularly well-suited for commodities in a
high-growth market. Its forte is not, she says, as a merchandiser with expertise
in moving goods in a way that caters to the fickle whims of consumers in a competitive
market. “The Amazon platform is not well-suited for cross-sells, particularly
of the type retailers offer with fashion apparel,” she says.
International sales, from Amazon’s web sites serving the United Kingdom, Germany,
France and Japan, are surging. In the second quarter, they grew 70% over Q2
of last year, to $218 million. “International expansion has been a real revenue
driver for them,” Brown says. Although Amazon probably won’t maintain a 70%
growth rate overseas, he adds, “There’s clearly more room for them to run internationally.”
While Amazon has been increasing the amount and scope of its sales, it has
also been cutting operating costs. Although fulfillment operations—which it
also handles for part of Target’s operations—account for 40% of operating expense,
Amazon is learning to use its clout in the market to demand better terms from
distributors. “Shipping continues to get better and better,” Rashtchy says,
noting that the company can be expected to continue reducing fulfillment costs
as a percent of net sales. That ratio fell to 10.6% in the second quarter, down
from 12.8% a year ago.
This should also enable it to continue posting quarterly profits even as it
continues aggressive campaigns such as free shipping on orders of over $25 for
popular items like books and apparel, Rashtchy adds. “The issue for Amazon is
not so much the operations, which are pretty much in control,” Rashtchy says.
Its biggest challenges ahead, other than its $2 billion debt load, he says,
will be maintaining growth amid any downturn in consumer activity. Until now,
Amazon has been immune to fluctuating consumer demand because of the overall
rapid growth of e-commerce, Rashtchy says, but if the rate of increase in e-commerce
growth levels off, “more and more Amazon will be subject to broader retail patterns,
the upturns and downturns.”
But with plenty of cash on hand ($270.4 million among total assets of over
$1 billion) along with operating efficiencies and market expansions, Amazon’s
continued growth is a certainty, analysts say. “The question is at what rate
that growth will continue to happen,” Rashtchy says.
paul@verticalwebmedia.com
