2018 was a good year for Amazon, who ended the year with share price up 25%. Its Asian rival, however, Alibaba had a year to forget — its share price was down 25% for 2018. At the time of this writing, Amazon is the world’s biggest e-commerce company by market cap at USD800 bil, while Alibaba is twice as small.
Both are leaders in their respective markets (Amazon in the U.S. and Alibaba in China) and are quickly expanding their empires into new businesses such as groceries and cloud. However, the difference is that Chinese consumption presents an opportunity for tremendous growth thus, investors see Alibaba as a proxy for it.
Both Alibaba and Amazon’s business models aim to provide ease of transacting and connecting consumers and merchants. However, both have unique methods in which they go about executing this strategy because of the different environments in which they operate.
E-commerce revenue for Amazon includes online and physical stores, third-party seller services, subscription services, and advertising. For Alibaba, revenue includes core commerce, digital media and entertainment, and innovation initiatives. Both companies are investing in new segments like online subscription services (streaming music and video) that have yet to make profits but are fast-growing businesses with big potential for the future.
Both companies have their own ecosystem and a web of businesses that complement their core operations (eCommerce). However, in this article, the aim is to understand how different these 2 eCommerce giants operate and why they are unlikely to impact each other. Therefore, I will only discuss the eCommerce segments of these businesses.
Amazon’s competitive edge is Fulfillment and Delivery. One of the ways that Amazon edge over its competitors is focusing on the capital intensive, less attractive parts of eCommerce. These are the warehouses, distribution centers and trucks that deliver the merchandise to the consumer.
Amazon’s direct sales business is equivalent to an online supermarket – buy low, sell high – and generates sales commission through its third-party seller services. Unlike the basic marketplace business model of Alibaba, products sold on Amazon by third-party sellers are either Fulfilled By Merchant (FBM) or Fulfilled By Amazon (FBA). FBM goods are stored in the third-party seller’s inventory, and shipping and customer service are handled by the third-party merchant. FBA goods are stored in Amazon’s fulfillment centers, and shipping and customer service are handled by Amazon. The infographic below created by Eric Frazier shows Amazon’s supply chain.
It is no secret that Jeff Bezos’ long-term goal is to build the world’s most customer-centric company. In terms of pricing, delivery and customer support, Amazon has been outstanding and trusted by consumers as a reliable and efficient. Amazon is focused on creating its own network as it wants to ensure the best service for its customers. The company created its own supply chain to ensure smooth and efficient delivery for its end users.
When Amazon first started in the mid-90s, Bezos had a tough time convincing large retailers to join Amazon’s marketplace. To the extent that Amazon became a direct retailer itself. The company began with books and eventually invested capital to develop a unique fulfillment strategy — and the rest is history.
Alibaba, on the other hand, created a business model that is surprisingly different from Amazon’s…
Unlike Amazon which operates as a single unit, Alibaba is divided into three core businesses: Alibaba, Taobao, and Tmall. These websites provide a platform for various types of consumers and merchants to transact products, making Alibaba as one of the largest middleman in China’s e-commerce industry.
Alibaba’s Taobao division is where they make the vast majority of their money, is responsible for more than 80% of Alibaba’s sales and consists of two main segments:
- The Taobao Marketplace (similar to eBay) – allows consumers and small businesses to list merchandise for sale.
- Taobao Mall is similar to Amazon. It’s a B2C platform that allows larger businesses and brands to sell directly to consumers.
Alibaba acts as a middleman between buyers and sellers online and facilitates the sale of goods between the two parties through its extensive network of websites.
Taobao’s sales make up more than 80% of all online purchases in China.
Unlike Amazon, Alibaba operates with an asset-light model and merely facilitate transactions. They manage the marketplace and charge a small commission, but don’t hold – or sell – any merchandise themselves. This allows them to operate as a fee-free marketplace where neither sellers nor buyers have to pay a fee on transactions. Rather, the nearly 7 million active sellers on Taobao pay to rank higher on the site’s internal search engine, generating advertising revenue for Alibaba that mimics Google’s core business model. Only after Taobao reached scale did Alibaba begin to shift its focus to fulfillment and logistics.
While Taobao appeals more to smaller merchants, Alibaba also has a dedicated segment for larger retailers. Tmall is the eCommerce site that caters to well-known brands, including Zara, Nike and Hugo Boss. Despite its smaller network of active sellers, Tmall is able to generate revenue from deposits, annual user fees and sales commissions charged to retailers utilizing the site.
China’s consumer economy only began in the early 2000s, and it was also in that period when Alibaba came into existence. As the economy was still in its primitive stage, there weren’t many established retailers, distribution networks were inefficient, and household income was low by global standards. In addition, competition was low, which meant that it was easier for Alibaba to create a new ecosystem of eCommerce retailers by providing them with a platform to offer goods.
Alibaba and Amazon have each own unique strategies to dominate its respective markets and both have varying e-commerce business models. Alibaba is a marketplace, which dominates the China consumer retail industry. They do not own the inventory of the merchandise sold and merely connects buyers and sellers together. On the other hand, Amazon’s core business is they own the inventory and supply chain of its merchandise and sell directly to the customer.
Today, we are beginning to see the effects of Alibaba’s dominant and superior business model. Its eCommerce segments have a vastly higher operating margin, a far lighter supporting infrastructure, and is less capital intensive. Furthermore, with such a model, Alibaba is able to list more products than Amazon, giving consumers a wider variety of choices. Expansion into new markets is relatively quick and easy, without the need to build up infrastructure. Thus, generating greater excess returns and ROIC. As such, my preference over the long run would be in Alibaba.