Amazon’s Decisive Competitive Edge

Being able to Keep it and facing some future threats

Part 1

By Eli Schragenheim and Henry F. Camp.

Having a great idea, which would generate immense value to many, is a necessary starting point for building a big successful business.  But it is far from being sufficient.  Eventually, in order to truly succeed in a consistent way, there is a need to make sure that the whole set of necessary and sufficient conditions apply.  The idea will fail if even one necessary condition doesn’t apply.  Thus, it is usually easier to learn from failures, rather than from big successes. Yet, learning the essence of predicting the perceived value of a new offering to the market and how to connect it to the strategy from successes can be highly valuable.

In this article, we try to understand better some critical points in the success of Amazon.  The benefit is to be able to better assess the potential of ideas, hopefully also point to some of the other necessary elements for ensuring success. We also like to check how the Theory of Constraints (TOC) insights and tools support shaping the ideas leading to identification of the other necessary elements for success.

An important tool, developed by Dr. Eliyahu Goldratt, is the Six Questions, originally for assessing the potential value of new technology.  We use them to assess the potential value of new ideas for products or services.

The Six Questions are:

1. What is the power of the new technology?
2. What current limitation or barrier does the new technology eliminate or vastly reduce?
3. What are the current usage rules, patterns and behaviors that bypass the limitation?
4. What rules, patterns and behaviors need to be changed to get the benefits of the new technology?
5. What is the application of the new technology that will enable the above change without causing resistance?
6. How to build, capitalize and sustain the business?

Another important insight by Goldratt is the concept of the ‘decisive competitive edge,’ which he defined as answering a need of a big enough market to an extent that no significant competitor can, while being on par with the competition on the other important aspects. To maintain the decisive competitive edge, delivering the value must be difficult for potential competitors to imitate or just counterintuitive to their business perception.

Jeff Bezos had a long-term, very ambitious vision of becoming BIG, and he made it happen.  Offering the market a decisive competitive edge is initially a must, in order to grow.  Today, Amazon is so big that its size itself is a decisive competitive edge, because it answers the need for security both for the payment and for receiving the goods on time, which are significant concerns of buyers from any e-tailer.  This decisive competitive edge is on top of the usual advantage of the economy of scale.

So, in retrospect, what was the secret that made Amazon such a giant?

We have to go back in time and visualize the decisions taken at the time and speculate the rationale of Bezos that he saw and others didn’t.  The frequent mantra all Amazon key people cite, “we focus on the customers”, is hardly an insight.  Too many others, much less successful than Bezos, thought they did exactly that.

A non-trivial question is how should any organization consider what their clients want?  Is asking the clients, either directly or carrying out a market survey, the best way?  Do clients know how to answer questions about something they have never encountered?  More, it is obvious that to stay way ahead of all competitors one needs to develop a somewhat different approach and predict what the potential clients want before they know they want it.  How to do that, and what is the risk of being grossly mistaken?

Back in 1995, when Amazon started to sell books through the Internet, not too many people felt it answered a need.  Well, at least not those who lived fairly close to a Barnes and Noble, or Borders, store. So, what’s the big deal? 

This is what made the decision so far-sighted.  Books are easy to purchase through the Internet.  You see clearly enough what’s for sale; the possibility of buying the wrong item is relatively low.  One advantage of a virtual store is the ability to order whenever one finds information on an interesting book.  The chance of finding the specific book at a physical store is definitely less than 100%, but if the virtual store is well-managed, the chance is quite high. 

This ability to quickly trigger a purchase, without having to invest time and effort, is the key limitation vastly reduced by the virtual store.  The technology of providing the 1-Click method for quickly making a purchase was certainly an improvement.

However, answering a need by reducing the current limitation is not enough.  The third and fourth questions must be answered as well.  At the time, the norm was to drive to a store and buy, or call the store over the phone, when such a service was offered.  Speaking over the phone is bound to result in mistakes – misunderstanding the title, author or the shipping address.  A way to bypass the limitation is to write down a shopping list to be used when someone from the family goes to the mall.

The relevancy of Goldratt’s fourth question is revealed once the idea of the virtual bookstore is understood.  In 1995, when Amazon started to sell books through the Internet, not everyone had computer access and knowledge.  The phones of that time didn’t have access to the Internet.  So, the offer and the reduced limitation were directed at those people with computers, preferably at home.  Even then, the market of people that had easy access to computers was big enough for a good start.  Whenever there was a wish to buy a book, the user had to enter the website, find the specific book and complete the sale by providing valuable personal information, like name, address and credit card.  This is a frightening procedure for many people even nowadays, definitely back in 1995 when Amazon started selling books.

Security of financial data is a critical concern that could easily be a source of resistance, which is what the fifth question is all about.  Another concern is the assurance that the order will arrive on time and in good shape.  To reduce doubts and resistance, the whole mechanism of accepting orders must be easy and super friendly, plus an effective logistics system must be established that gets a copy of the ordered book(s), ships quickly and securely to the user.

Back in 1995 for Amazon, the answer to the fifth question was: We must build trust with potential customers.  The vast majority of the resistance to purchasing through the Internet, even today, is based on mistrust!  But once trust is built and maintained – it opens the door for more and more new offerings.

Selling through the Internet requires excellent operations.  Technology can attract early adopters, but the test is the ability to deliver.  The choice of selling books was right from the perspective of clients looking for professional books, which means books that are far from being bestsellers, books that are not easy to find even at the largest bookstores. 

Maintaining inventory is a challenge.  However, it is not mandatory to actually carry every book in the catalogue at the warehouse, if the supply from the publisher is fast and reliable.  It is best to keep most of the desired books in stock and being able to replenish very quickly.  Ordering very small quantities from a publisher was a challenge, as the low-price/big-batch culture was strong in book printing.  Of course, once the store is huge, certainly like Amazon today, it can dictate replenishment terms.  The point is – it is tough for a young virtual shop to ensure the required agility from publishers.

Another challenge is logistics – shipping to the clients.  The challenge for a small company is huge, even in a geographically small area, and Jeff Bezos was insistent on shipping to any point on the globe.  Many virtual shops use the logistics services of third-party partners, which serves a variety of similar shops.  The challenge is that from the customers’ perspective the shop is responsible, and when problems occur from the customer’s perspective, then trust is eroded.

Goldratt’s sixth question raises the issue of the strategy, especially facing three key needs: building the operational capabilities, the marketing and sales capabilities, and keeping operational performance perfect when sales surge.  Evaluating the strategy to reach such a vision, it becomes clear that the only way to truly succeed is to become BIG, so all the parts of technology, operations and business are managed in perfect synchronization and then, and only then, the company can become truly profitable.  It is not surprising at all that it took Amazon six years to become even somewhat profitable. On the way to becoming big, losing money served to deter potential competitors from taking the same route of accelerated growth.  This left Amazon as the only truly big e-tailer until the emergence of Alibaba, making the competitive edge truly decisive.

Expanding the offering to other products, like CDs and video games, was quite natural.  The characteristics were similar to books: standard products that don’t allow much room for mistakes, plus the advantage over physical stores due to the huge number of items that even very large stores cannot always have on hand.  The decisive competitive edge of a truly reliable virtual store, providing an unbelievably wide choice, was kept intact.  

Every decisive competitive edge is limited by the time it takes competitors to copy the idea and even improve on it.  Being the first to answer a need might carry some value for a little, but competition will eventually catch up.

The introduction of Amazon Prime, in 2005, added substance to the operational commitment of Amazon and can be viewed as an additional decisive competitive edge and a barrier to competition.  The reduced limitation (Question 2) for customers that consider buying frequently from Amazon is getting any item within two days.  The extra commitment is given for an annual subscription price but then Amazon provides free delivery of two days and lower charges when the customers need next-day shipment. 

Amazon Prime cannot be delivered worldwide.  While Amazon serves customers all over the globe, committing to two days delivery has been confined at first only to the US.  Later, Amazon extended the Prime offer to many more countries.  The commitment by Amazon to fast delivery for Prime customers has increased and, in some places, it is now two hours.

Diving into the third question reveals that without the Prime service the customers prefer to reduce their shipping costs, which are detrimental to purchasing online, by combining several items into one order. But this sometimes delays the customer until they have enough items within one order.

The advantage of ordering whenever you like and getting it fast, without extra cost, provides a considerable benefit for customers and a different benefit for Amazon.  From the customer perspective there is no financial advantage combining different purchases, so every item can be ordered in isolation.  From Amazon’s perspective, as other virtual shops don’t offer such fast response for free, other than the annual subscription fee, then many items, which customers might have preferred to purchase elsewhere, go to Amazon.

The cost of Prime membership is probably the only reason to resist the offer.  It triggers a tendency to habitually buy from Amazon, rather than from another virtual shop that is more specialized.  Thus, significantly capitalizing on the decisive competitive edge.  Amazon’s technology and its excellent delivery performance make sure they can sustain the growth, which completes the answer to the sixth question.

Another key decisive competitive edge launched by Amazon was the appearance of the Kindle and the related popularization of eBooks.  Reading books from the screen of a computer was known long before.   Theoretically eBooks offer a decisive competitive edge by allowing the storage of a huge number of books without the space that printed books require.  However, reading a book from a laptop is not particularly engaging.  Developing a dedicated light electronic book reader reduced the limitation of having to sit at a computer, and the special E-Ink developed for the Kindle allowed reading even in sunlight.  This offered a somewhat similar experience to reading a printed book, sitting at any convenient spot, with a special advantage for comfortable reading on a flight.  The Kindle had to compete with the iPad that came about two years later.  The Kindle deserves a more detailed value analysis for itself.  Strategically, it established Amazon’s status as the one place to turn for books, printed or in Kindle format.

On top of becoming a giant e-tailer, Amazon looked to other markets.  One of the most valuable of Goldratt’s insights was: “segment your market – don’t segment your resources.”  The logic is that capable resources with excess capacity can serve more than one market.  Furthermore, from an uncertainty management standpoint, diversifying markets add stability.  Amazon was developed as a technological enterprise, whose business is aided by a state-of-the-art IT system.  So, why not capitalize on it and offer valuable IT services to other businesses as well as governments?

Amazon identified two key needs, not addressed at the time, for a wide spectrum of organizations.  First, the need to store huge amounts of data that is consistently growing and, secondly, the need for more computing power.  Both raised the concept of the ‘cloud’ as a major new IT service.  The fear of cyber-attacks, which have become a serious threat, and providing quick access to data from any point on the globe, added substance to the new offering.  The need for computing power, without having to rely on a growing number of private servers, was a need seeking a safe and stable answer.

Goldratt’s first four questions have straight-forward answers when a giant, like Amazon, offers cloud services, mainly storage and computing power.  The fifth question, looking for possible resistance, raises the issue of safety from two different perspectives.  One is the dependency on the security service of a third-party, big as it is, to keep the data safe and prevent hacking it by professional hackers, for whom penetrating the cloud is an especially desirable target.  The other angle is security from Amazon itself, which surely has the technical ability to penetrate into the stored data of its competitors, when it lies on its own servers. 

Amazon may make much more money from its Amazon Web Services (AWS), but its reputation lies with being a giant e-tailer, where it has only Alibaba as a huge competitor.  Practically, it seems to us that Amazon and Alibaba are not truly head-to-head competitors.  However, when it comes to AWS, two other giants, Google and Microsoft, are direct competitors, offering similar answers to the same need, and a whole array of smaller, yet big enough, cloud services providers have appeared as well.