How Amazon Makes Higher Profits Than Alibaba’s High-Margin Retail Business

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In the first part of this two-part article series, we discussed how Amazon (NASDAQ:AMZN) and Alibaba (NYSE:BABA) compare on e-commerce revenue and EBITDA growth. While Amazon earns significantly greater revenues than Alibaba, its expected growth in revenue and operating profits (EBITDA) is lower due to a larger base and a higher mix of sales in developed markets such as North America and western Europe.

However, the main difference is due to the different selling strategies, as unlike Alibaba – which is just an aggregator – Amazon often acts as the seller of goods on its website. Amazon purchases products at wholesale rates and stores the inventory at Amazon Fulfillment Centers and sells them as Amazon Verified Products. This helps in weeding out fake and counterfeit products from its listings – something that Alibaba has reportedly struggled with over the last few quarters. [1] Therefore, Alibaba’s operating profit margin is significantly higher than Amazon’s, since it does not maintain inventory and primarily acts as the aggregator between buyers and sellers.

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Over the last few years, the Chinese government has taken several measures to fuel growth in China’s e-commerce segment by incentivizing small and medium-scale businesses. The government subsidizes shipping and delivery charges via the government-owned China Post and encourages e-commerce players to set up subsidiaries and warehouses in locations outside the mainland. [2] As a result, the e-commerce industry in China has grown at an explosive pace, with the total Gross Merchandise Value (GMV) of all items sold on Alibaba growing at a CAGR of 36% from 2013 through 2015. Comparatively, the GMV of all items sold on Amazon’s platforms grew at 29% in the same period.

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Since Amazon’s business includes both first-party sales and third-party sellers, it generates more operating profits by selling the same amount of goods on its platform compared to Alibaba. As evidenced in the table below, Amazon sold roughly $24 worth of products on its websites to generate $1 of operating profit in 2015. In comparison, Alibaba had to sell merchandise worth $65 on its platforms to make the same $1 operating profit.

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Given the significant difference in sales channels and profitability metrics, comparing the margins of these two companies may not be a good comparison. This is because Amazon is able to convert about 50% of its GMV into revenues compared to just 3% for Alibaba. Therefore, despite a lower operating margin in 2015, Amazon was able to generate a higher operating profit dollar of goods sold on its platforms compared to Alibaba. amzn-43

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Notes:
  1. Why Alibaba’s Massive Counterfeit Problem Will Never Be Solved, Forbes, November 2015 []
  2. China To Stimulate E-Commerce In Push To Beat U.S. Sales, Forbes, November 2013 []