Grappling with a giant

The hype surrounding the arrival of Amazon could be an opportunity for investors

With the launch of Amazon in Australia rumoured to be happening this month, it’s worth returning to the retail sector to understand whether the decimation of market capitalisations represents an overreaction and therefore an opportunity.

Estimates for Amazon Australia’s annual revenue range from $3 billion to $15 billion but even at $15 billion it would represent no more than 5% of total retail spending of about $312 billion. Take out Amazon’s $15 billion estimate, along with about $75 billion for Coles and Woolworths supermarkets, and there is still about $220 billion of revenue for retailers, suggesting they aren’t all at imminent risk of extinction.

While sales made at low prices still generate revenue, profit margins can be negatively impacted. Amazon’s arrival may do more to impact survivorship through pressure on prices than it will through capturing market share.

Another interesting dilemma for retail businesses, and their long-term investors, arises when one contemplates how leading brands might be forced to respond if their traditional distribution network of independent bricks-and-mortar stores become less viable. Currently large brands pay up to 50% of their margins to a retail store network to distribute their product. Amazon is offering to do the same online for 15%. It seems an obvious choice for the brands but remember what’s happened to brands that allowed the large supermarkets to control too much of their distribution.

With the list of US retailers falling into Chapter 11 bankruptcy growing by the day, can any Australian retailers survive Amazon’s assault on sales and margins?