Word that Amazon Founder and CEO Jeff Bezos is buying The Washington Post might cause consternation in its newsroom, but uneasy journalists wondering about what lies in store might be reassured if they read the letters he has sent to shareholders since 1997. Most annual letters to shareholders are crammed with fatuous drivel. A few stand out. Warren Buffett’s commentaries on the performance of Berkshire Hathaway have long been compulsory reading for investors. Jeff Bezos’ reports on Amazon should be required reading—not just for the journalists who are about to become his employees—but also for anyone aspiring to build and lead a company.
Bezos has written his commentaries since Amazon went public. A chunk of each concerns the developments of the prior year and are a summary of the company’s performance. The reports are also tailored for shareholders in Amazon, rather than a journalist wondering what story to write, a VP wondering what it takes to become a great CEO or a youngster eager to start a company. Bezos, notoriously (and justifiably) secretive about many aspects of Amazon doesn’t reveal its inner mysteries—but that’s of little consequence. The message contained in these letters is how to think about building an astonishing company.
Bezos’ original 1997 letter, appended to every succeeding letter, is a succinct and clear yardstick against which all of Amazon’s activities can still be measured. “It’s all about the long term,” was the clarion cry of that letter and this remains the case. Many still fail to understand the essence of that remark and in his 2012 letter Bezos includes this hilarious remark from a half-witted ‘investor’, “Amazon is a charitable organization being run by elements of the investment community for the benefit of consumers”. Nobody running a retailer, cable company, carrier, online enterprise, payments clearing house, credit card network, book publisher, movie business or hardware manufacturer—to name just a few industries touched by Amazon—would subscribe to that view. The 1997 letter also trumpeted the relationships fostered with the leading companies of the day—Excite, Netscape, Geocities, Alta Vista, @home and Prodigy—all of whom have since fallen by the wayside because, unlike Amazon, they didn’t have what it takes to prosper and endure.
Read about Amazon’s aspiration for a business and you will quickly sense how the company prefers to pursue large opportunities rather than scads of small ones. In 1998 the dream was to become a company “Where customers can come to find and discover anything and everything they might want to buy online.” When the Kindle was introduced it was with the aim to make “Every book ever printed in any language all available in less than 60 seconds.” In both these cases and others such as Fulfillment by Amazon, AWS or international expansion the goals are audacious and inspirational and the management has had the stamina to pursue them and the patience required to make them succeed. (Compare the challenge of developing a $1B business internally to making an acquisition that immediately bolts on the same number).
It won’t come as a surprise that Bezos explains that pleasing, if not thrilling, customers is Amazon’s most important task. In his 2009 letter he provided a peek into the internals of Amazon explaining that of the company’s 452 detailed goals for the ensuing year, 360 had an impact on the customer, the word “revenue” was used just eight times, “free cash flow” only four times and “net income,” “gross profit,” “margin” and operating profit were not mentioned. Even though there is no line item on any financial statement for the intangible value associated with the trust of customers this is, by far and away, Amazon’s most important asset.
Leaf through these letters and you’ll discover that, like Apple under Steve Jobs, Amazon led by Bezos has sought to get rid of frustrations. For several years this approach was mainly applied to retail products with Amazon expanding selection, accelerating delivery and gradually whittling away at all of our other collective frustrations with shopping. Amazon has applied the same approach to its other major forays—services for small businesses (Fulfillment by Amazon), cloud computing infrastructure for companies (Amazon Web Services) and for book lovers (the Kindle).
One of Bezos’ most profound insights, all too easy to overlook, is the influence of technology on his business. In 1999 he noted that, “We have a market-size unconstrained opportunity in an area where the underlying foundational technology improves every day. That is notnormal.” (His emphasis.)
The thousands of programmers and architects working for Amazon are what provide the edge. While ordinary retailers use technology (largely bought from others) to reduce costs, most do not employ it to change and improve the experience of customers. Amazon can and does. Much of the 2010 letter was devoted to a celebration of how technology infuses every aspect of Amazon’s business and gives a glimpse of what the company has had to invent because no supplier could meet its special requirements.
Most management teams are, in the argot of the financial universe, terrible “allocators of capital.” They will engineer stock buybacks at the worst possible time, embark on dilutive acquisition binges and plough money into quests that never have a chance. Like every great company, the Amazon team has had its share of disappointments. Bezos’ 2000 letter opened with a four-letter word, “Ouch!” Amazon’s stock was down 80% and the company had written off its minority investments in Pets.com and Living.com. Some acquisitions have failed to perform as projected and are growing far below Amazon’s overall growth rate; in China Amazon is being badly outrun by 360Buy and Alibaba*; international sales have slowed and the content business is absorbing large amounts of capital. Yet Amazon is enormously clever about the way it manages its cash. Bezos’ 2004 letter is a nice tutorial about the importance of free cash flow rather than GAAP accounting and the importance of maximizing free cash flow per share with high rates of return on invested capital.
One fact, not disclosed in any of these letters, is the extraordinary cash generating power of Amazon’s business and its zealous protection of shareholders. In 1997, Bezos wrote that one chief measure of “our success will be the shareholder value we create over the long term.” While critics fasten on the company’s skimpy operating margins, or the fact that the company has generated just $1.9B of net income since inception they should turn their attention instead to the cash flow statements and the shareholder base of the company. It isn’t too much of an exaggeration to say that Amazon’s entire business has been financed by vendors and customers: book-sellers who collect their invoices slowly; consumers who stump up money for Amazon Prime in advance of receiving deliveries; or companies that pay in advance for guaranteed capacity on AWS. In Los Angeles customers who pay $220 up front for Amazon Fresh, the company’s home delivery grocery service, get ‘free’ shipping on orders above $35. It might be “free” but Amazon has their cash. Customers and vendors have helped Amazon build its 90 fulfillment centers, which now enclose about 65 million square feet. That should be enough to make the managements of FedEx and UPS tremble.
Since inception Amazon has generated $20.2 billion from operations almost half of which ($8.6 B), has been used for capital expenditures such as new distribution centers, which improve life for the customer. In the past ten years the share base has only increased by just over 10% while the company has grown twelve-fold. For shareholders it doesn’t get better than that.
The term ‘shareholder value’ has been much maligned in recent years. Asset strippers, masquerading behind the title ‘private equity’, use the phrase to describe the way they enrich themselves at the expense of others and managements employ it to camouflage bad news. Little wonder that young entrepreneurs often think of ‘shareholder value’ as a term of opprobrium. In the right hands, especially a Founder who owns a large part of his company (Bezos owns nearly 20% of Amazon) it is a reflection of doing many things right—and this starts with pleasing customers. Companies do not increase shareholder value over the very long-term unless they have happy customers.
Most companies will excel at one or two things—engineering, customer service, cost cutting, inventing products, financial management – and wind up with two or three functioning cylinders function but an unbalanced engine. While I’m sure insiders at Amazon will readily point to snafus or inefficiencies, this is a company that somehow has managed to marry Google’s engineering excellence with Walmart’s cost-cutting zeal. Eliminating defects, trimming pennies from activities, engaging in “root cause analysis”—a term normally associated with semiconductor or light bulb manufacturers means that, as the years have gone by, Amazon has been able to compete on not just selection and convenience but also price. Think: ten cents pared from the cost of delivering a package to 50 million customers equates to savings of $5M.
One of the most powerful aspects of Amazon’s business model is the “self-service” feature tucked into so many portions of its products. One example, now considered mundane but at first controversial, are user reviews. Fulfillment by Amazon and Kindle Direct Publishing are more powerful examples of the amplifying powers of a “platform.” The first provides all sorts of services for merchants selling on Amazon while the second allows authors to be entrepreneurs. Any company with a service that others can build upon by themselves—think Microsoft Windows or Google AdWords—is in a fantastic spot.
Bezos also tucks in some anecdotes about the expectations the company has for new hires (seeking to ensure that a fresh recruit will raise the average effectiveness of the group they are joining) and in 2005 he devoted his letter to a different subject: the importance of data and math. He says that at Amazon much of ‘the heavy lifting is done by math’ but warns against slavish infatuation with numbers, which can lead to doing dumb things more efficiently. His message about what he calls “judgment-based decisions” versus “math-based decisions” is worth pondering.
About the only thing that Washington Post journalists might find suspicious in these letters is the signature with which they end. Everyone’s signature changes over the course of two decades. All of Bezos’ look suspiciously like carbon copies. Perhaps Woodward and Bernstein should investigate.