Amazon’s aggressive ambitions to deliver products faster and cheaper to consumers has FedEx and UPS investors taking notice and contemplating what the future holds for e-commerce distribution, according to a recent report by Barclays Equity Research.
However, it questions the need for Amazon "to devote the significant capital required to operate a stand-alone time-definite air network," considering it likely that this would be "less impactful in the long run relative to local fulfillment network build out."
The report estimates that by the end of 2016, Amazon is likely to operate over 100 U.S. fulfillment and/or distribution centres. This would create a nationwide network with meaningful scope and enable inventory placement closer to consumers in most metropolitan areas, it argues.
"We genuinely believe the intention of Amazon is not necessarily to replace FedEx or UPS but rather drive faster and lower cost package delivery to consumers, albeit potentially with other carriers,” Barclays wrote.
"Nonetheless, it appears the strategy intends to ‘zone skip’ most of the linehaul and sortation infrastructure present in the FedEx and UPS networks. Zone skipping is likely to create increased demand for ‘last mile’ delivery services which we view as much more commoditized relative to the legacy high cost but high service nationwide time-definite package services offered by both integrators."
The report goes on to underline that over the years, one of the keys to Amazon’s success and one of the key pillars of their strategy has been to continually build out their distribution infrastructure.
“As they have been able to push more product closer to where individuals live, the cost to ship goods, on average, has come down (shipping as % of revenue has moved up in the past few years, but that is more of a function of company strategy on shipping and the growth in Prime, we believe). This has allowed them to compete at an advantage against almost every ecommerce alternative and to distance themselves from brick and mortar retail as well. We expect them to continue to drive leverage in shipping as a core strategy.
"Why ship $50 of product on an expensive air or ground journey costing upwards of $8-14? As Amazon attempts to become the retailer of choice, a cheaper and faster distribution channel appears paramount to match the relatively low opportunity cost of the average U.S. consumer purchasing everyday items through traditional brick and mortar options. We see the opportunity cost of driving to a store as roughly $3-5 for most consumers, relative to current FedEx and UPS national ground delivery rates of $7-8 or even more for nationwide 2-day ‘air’ service of $13-14.
"Through ‘zone skipping’, we think Amazon could potentially reduce shipping costs by $2-3, pressuring yields for FedEx and UPS. By reducing the need for FDX and UPS to sort and move individual shipments in a high cost linehaul network, we think Amazon can lower package distribution costs by $2-3 relative to current ground package prices. By moving from national or regional distribution to local solutions, we see competitive barriers eroding for FedEx and UPS.
"Operating a time-definite national U.S network with guaranteed service to every zip code from any location requires a significant amount of capital and immense technical operating experience. Over the years this has proved a material competitive barrier for the incumbent U.S. integrators. However, with ecommerce deliveries originating closer to consumers, we think future lower cost delivery solutions which do not require the overhead of national distribution and sortation could lead to a proliferation of alternative ‘final mile’ options."
Turning to the potential development of an Amazon air network, the Barclays report considers it likely that this would be "less impactful in the long run relative to local fulfillment network build out."
It adds: "Air transportation, especially of goods, is an expensive proposition. FedEx Express remains the market leader in terms of domestic US air shipments, but financial returns have remained stagnant (beyond recent fuel and pension cost reductions) for over a decade.
"However, for Amazon, we view the potential launch of an air operation at the old DHL hub in Wilmington, Ohio, as a likely experiment or ultimately small network designed to meet very specific high value product inventory requirements for the company. Further, with only limited financial returns and plenty of existing air capacity during non-peak periods in the incumbent package networks, we question the need for Amazon to devote the significant capital required to operate a standalone time-definite air network."
