The Trouble With Amazon
Amazon is more powerful than ever. In June, the company’s stock hit a historic high of $1017.00, allowing Bezos to briefly replace Bill Gates as the world’s richest man. This peak stock price came on the heels of the company’s acquisition of Whole Foods for $13.7 billion, giving the firm a foothold in not only the food business, but also offering a new set of distribution centers (not to mention increased access to Whole Foods’ affluent customer base).
Today, Amazon is an original producer of television series, as well as an exclusive distributor (in new markets), of television content, owned by other producers. They earned the right to stream 10 games of the 2017 NFL season. Amazon also offers a full-service publishing arm (which puts out books in both Kindle and print), as well as a marketing wing (offering pay per click advertising to sellers, allowing Amazon to compete with Google and Facebook).
Amazon also generates billions of dollars each year, from providing cloud computing services to businesses (including competitors) ,through Amazon Web Services. The company owns 7 in-house fashion brands, distributed alongside clothing from other designers. They also offer small business loans (to Amazon merchants, who are also competitors, and many of whom have trouble qualifying for traditional financing), and issues consumer credit cards.
Of course, all of this is in addition to a massive retail operation, which sells everything from headphones to sweatshirts, televisions and washing machines. Amazon is the largest e commerce retailer in the United States, selling more than the next nine largest competitors combined. Amazon is not just a direct seller of goods, but also a marketplace, allowing other vendors (who are competitors), large and small, to sell on Amazon Marketplace, and make use of Amazon Pay to collect payment. Amazon, of course, then enjoys access to a range of data and analytics, on it’s competitors.
To complement it’s retail operations, Amazon has built a supply chain which is widely regarded as the world’s’ best. These services, known as Fulfilment by Amazon, is also available to and widely used by outside vendors (technically competitors), many of whom have come to depend on it.
All of this has allowed Amazon to thrive at a time when traditional, brick and mortar stores are closing at a record pace. While Amazon certainly isn’t the only factor contributing to this trend, it certainly plays a significant role. Investors in a range of industries have taken notice, with Amazon being mentioned in about 10% of US public company earnings calls earlier this year, thanks to what VentureBeat described as “the competitive threat from Amazon’s massive size, willingness to sell at low prices, and desire to push into a vast array of products and business lines.”
Amazon’s unprecedented success hasn’t gone unnoticed in Washington DC. After the Whole Foods acquisition was announced, House Representative David Cicilline (D-RI) called for an investigation into whether this proposed deal “…will affect the future of retail grocery stores, whether platform dominance impedes innovation and if the antitrust laws are working effectively….” Prior to Cicilline’s statement, during the 2016 presidential campaign, Donald Trump warned that Amazon founder Jeff Bezos has “got a huge antitrust problem, because Amazon is controlling so much of what they are doing.”
To assess the antitrust implications of Amazon, it’s helpful to briefly review the basics of American antitrust law, as applicable to this situation. Under the 1890 Sherman Act, any unreasonable “restraint of trade”, which is harmful to market competition (i.e. customer choice and prices),is forbidden. The Sherman Act does not restrict firms that have grown thanks to offering a superior product or service, or a better business strategy, but rather those, which have taken active efforts, to hinder competition, and develop a monopoly.
The Clayton Antitrust Act of 1914, further restricted monopolistic practices, including the use of price discrimination, if it helps create a monopoly. The Act also forbids those mergers and acquisitions which might function “substantially to lessen competition, or to tend to create a monopoly.” In considering mergers, it’s helpful to differentiate between horizontal mergers (between businesses which are in the same space and often compete directly), and vertical mergers (which combines two firms in different parts of the supply chain, in the same industry, like an auto manufacturer and a tire company).
In 1976, the Clayton Antitrust Act was amended, to include the Hart-Scott-Rodino (HSR) amendments. HSR requires firms involved in acquisitions involving a deal value in excess of $80.8 million, to file details of the proposed acquisition with the Federal Trade Commission, and the Antitrust Division of the Department of Justice. The parties involved must then wait for 15 or 30 days (depending on whether the deal involves purely cash, or includes debt financing), while the FTC and DOJ assess whether the potential merger violates antitrust laws.
If the FTC and DOJ believe that a merger is anti-competitive in nature, they will request another 15 to 30 day review period, to gather more information, after which they can ultimately reach a settlement with the parties involved (where the deal is restructured, to overcome concerns), or file suit in federal district court, to block the merger. Historically, under 3% of all mergers reviewed are challenged, although larger deals are more likely to draw scrutiny.
Writing in Slate, shortly after the announcement of the Whole Foods deal, law professor and antitrust expert Chris Sagers argued that Amazon was “now the most interesting and important problem in American antitrust law.” As Sagers sees it, Amazon has succeeded by selling goods in a cheaper, more effective manner, than it’s competitors. This doesn’t, on it’s face, violate antitrust law. Yet, Sagers argues that Amazon purchase of a brick-and-mortar store, given the company’s efforts to undercut retail in price competition, poses a unique threat, ripe for an antitrust challenge.
Sagers thinks that Amazon’s acquistion of Whole Foods, will make it difficult for any online grocery store, to succeed in the future, which would violate provisions that forbid mergers “thwart technological or other developments that pose future competition.” Sagers sees Amazon’s acquisitions of Zappos and Diapers.com as both falling into this category, having prevented competition by startups which might have posed a threat to Amazon’s dominance in certain product categories.
This means that the Whole Foods acquisition, in addition to prior deals, have made Amazon so powerful, that it can actually force it’s suppliers to sell their goods at “subcompetitive” prices, and that Amazon possesses “economies of scope that no retail entrant could meaningfully challenge.” (Almost on cue, after Sagers’ article was published, Amazon announced that Whole Foods was slashing prices on a range of items). Sagers’ claim involves proving that this dominant position came about not through normal market competition, but rather, through actions that were monopolistic and exclusionary.
Lina Khan, a fellow at think tank New America, recently published a note in the Yale Law Journal, raising concerns over whether today’s application of antitrust doctrines, is sufficient to check Amazon’s market power. Khan notes that current interpretation of antitrust laws mainly assesses competition in terms of the “short term interests of consumers, not producers or the health of the market as a whole; antitrust doctrine views low consumer prices, alone, to be evidence of sound competition.”
Khan argues for a different, more dynamic approach, one which considers “the structure of a business and the structural role it plays in markets.” As part of such a shift, Khan suggests thinking about “whether a company’s structure creates certain anticompetitive conflicts of interest; whether it can cross-leverage market advantages across distinct lines of business, and whether the structure of the market incentivizes and permits predatory conduct.”
As Khan observes, from the beginning, Amazon has not focused on profits, and has incurred losses (largely through lower prices), in order to grow aggressively (although the firm has finally been profitable for the past 9 quarters, a first in it’s history). Investors have been willing to give Amazon much leeway, to pursue this goal.
As a result, Amazon accounted for 43% of all online retail sales in 2016, more than the next nine largest online sellers combined. What’s more, Amazon’s sales have grown by a greater percentage than the e commerce market as a whole, which means it is becoming only more dominant. Much of this success is driven by precipitous growth of membership loyalty program Amazon Prime (which half of American households could be part of by 2020). Yet, as of today, Amazon Prime is also a loss leader, rather than a source of profits.
Khan emphasizes that Amazon has expanded into so many different areas of business, that many of it’s competitors are actually it’s customers as well. For example, a retailer whose products compete with those sold by Amazon, might also use Amazon’s delivery services, or it’s cloud computing technology. Perhaps most of all, Amazon’s Marketplace offers a massive array goods for sale on behalf of Amazon, as well as competing sellers. This has made Amazon a “utility” which is “indispensable to e-commerce”, making it even more formidable to challenge. This is especially true, given the depth of knowledge Amazon has about these competitors, thanks to it’s data from Marketplace, and the dependence of both rivals and customers on this platform. Amazon confounds traditional antitrust analysis, where a firm just seeks to put it’s rivals out of business.
Amazon used below-marketing pricing as their growth strategy with Kindle, which is now the dominant platform for e books. Large discounts for books sold on a “platform based product” like Kindle, are used to lock users into buying e-books in the future, both since these books can’t be read in any other medium, and because Amazon can use prior customer preferences (the books already bought), to offer items of interest, at the click of a button.
Today, Amazon has not only gained dominance in the e book space, and also dissuaded prospective competitors. Similar platform effects likely apply in many of Amazon’s other markets.This is quite different from price discounts on physical items, sold at brick and mortar stores, where someone might buy something at a lower price today, with little ability to really guarantee that they’ll return to purchase tomorow.
Amazon also engages in predatory pricing to pressure and ultimately acquire promising rivals, after which Amazon often raises prices. Khan details how Amazon made an acquisition offer to fast-growing rival Quidsi (owner of Diapers.com and beautybar.com), which was declined. Amazon then set up a service to sell diapers and other baby products (Amazon Mom), and slashed prices on diapers and baby products (goods sold by Quidsi), often in responses to price changes from Quidsi.
Quidisi’s sales growth slowed, and the company eventually accepted an acquisition offer from Amazon. After completing this deal, Amazon went on to shut down new memberships to Amazon Mom, and raise prices. In March of 2017, Amazon shut down Quidsi.
Amazon’s approach runs counter to dominant thinking on predatory pricing, which was largely codified in Robert Bork’s The Antitrust Paradox. Bork believed that any efforts to use acquisitions to create monopolies, would be defeated by the entry of competitors into the space. However, as Khan sees it, with online retail, unlike opening a physical store, success will require “attempting to build a new online platform, or of creating a brand strong enough to draw traffic from an existing company’s platform….the practical barriers to succesful and sustained entry as an online platform are very high, given the huge first-mover advantages stemming from data collection and network effects.” Therefore, assessing a platform like Amazon, using traditional pricing doctrine, is not entirely effective.
Khan ultimately argues for a more comprehensive view of antitrust enforcement. She believes that a narrowly defined conception of “consumer welfare” which only really considers outcomes (i.e. prices), is flawed. Rather, Khan argues for looking at “process and structure”, that is, a deep analysis of “whether power is sufficiently distributed to keep markets competitive.” She notes that the focus on prices is misguided, in that it will only result in intervention when a monopolistic power has already gained enough power to shift prices, rather than as the process of monopolization occurs.
Khan wants antitrust enforcement to reflect how platform economics allows companies like Amazon to sell goods below cost, for years on end, in order to achieve market dominance. She suggests that whenever goods are sold for a loss, through a platform which controls a large share of the market (around 40%), a presumption of predatory pricing (with some exceptions, for example, for new and untested products), ought to be introduced. In such a situation, antitrust laws would look to whether a company was leveraging it’s platform and financial resources, in order to illegally weaken competition.
Khan also suggests introducing greater scrutiny when assessing vertical mergers, particularly those mergers which allow a firm to gain access to data of competitors (such as Facebook’s acquisition of Whatsapp and Instagram). Khan also advocates applying strict limitations on vertical integration by platforms which have “reached a certain level of dominance” in a given area, in order to prevent conflicts of interest. Under this framework, Amazon’s role as both a direct retailer, as well as a platform for third party retailers (through marketplace), poses conflicts, and ought to be restricted. Khan argues that Amazon’s crucial role in the “infrastructure of the Internet economy” poses some major risks, in terms of handing the firm unchecked power in the marketplace.
Khan offers the excellent suggestion of regulating platforms like Amazon, as public utilities, just as railroads, telephones, water, power and gas have been regulated over the years. Such a framework would acknowledge that these entities function like monopolies, and would instead seek to regulate it’s power.
She offers several requirements that ought to be imposed, of which the most relevant to Amazon, is a requirement of nondiscrimination, which forbids Amazon from offering preferential treatment to it’s own products, or discriminating between various parties who are users of it’s services (for example, deliberately disadvantaging a seller on Amazon Marketplace, who also happens to be a competitor). Amazon would also have “common carrier obligations” which requires that a platform “ensure fair and open access to other businesses”, similar to the requirements which net neutrality imposes on Internet service providers.
Khan also argues for application of the “essential facilities” doctrine, whereby any company which has a natural monopoly in a market should not be allowed to deny access to the “critical facility” to rivals in other markets. This doctrine sees difficulties in breaking up and dividing a facility amongst several different owners, since that could destroy “important efficiencies”, in Amazon’s case, the convenience of online shopping.
Thus, a monopoly is allowed to exist, with regulations on conduct. In the past, this doctrine was typically applied to physical infrastructure (like bridges and highways), as well as telephone networks, rather than retailers. However, given Amazon’s gargantuan role in today’s economy, Khan suggests exploring it’s application here.
Khan acknowledges the challenges in implementation of both the public utility and essential facilities doctrines, including increasing judicial skepticism towards anti-monopoly enforcement, as well as political hostility to “the very concept of public utility.” Challenging the legitimacy of Amazon as currently constituted, wont’ be easy.
Yet, Khan correctly observes that “competition in platform markets” online has slowed, in no small part due to Amazon’s dominance, achieved in large part through predatory pricing, and integration across a range of business lines. More broadly, the US corporate environment has become increasingly uncompetitive.
A 2015 Wall Street Journal article noted that in nearly 1/3 of American companies are in markets which are considered “highly concentrated” based on current antitrust standards, while another Wall Street Journal piece, also from 2015, argued that American corporations need more competition, with low rates of new business formation (at a multi decade low) being a possible product of (as well as a potential cause) market concentration. A 2016 analysis in The Economist found that 2/3 of American industries have become more concentrated since just 1997, thanks in large part to a wave of mergers, with record corporate profits likely a product of a minimally competitive environment.
Ultimately, the best way forward, is rigorous, broadly focused antitrust enforcement. This requires an expansive, macro approach, which does not view competition and consumer interests, solely through the narrow lens of pricing, but rather, in terms of it’s overall market and economic effects.
Antitrust attorneys of the future must fuse the sophisticated analysis of future competition and monopolistic behavior advocated by Sagers, with Khan’s understanding predatory pricing and platform economics, and the ways through which the utilities and essential facilities approach, offer a way forward. While it might not be neccessary (or effective), to break up Amazon, competition is the basis of a thriving economy, and it has been considerably weakened in today’s market. Amazon is Exhibit A of this reality. Corrective measures must be taken, so that as Amazon, or any other online company, becomes even more wildly succesful, they do so through vigorous market competition, rather than monopolistic practices.
