Amazon was a pioneer in establishing internet based e-commerce. Now, in their second act, they look like they are trying to blaze a similar trail in the sale of digital goods. Today, in line with those efforts, Amazon announced they will buy spoken word (audiobook) publisher Audible for $11.50 a share in cash.
At the $11.50 a share price Amazon is paying a 24% premium over Audible’s Wednesday closing price of $9.33 a share. Two months ago Audible traded upwards of $14 a share. Last quarter they did sales of $27m and lost $192k. Those metrics may make the purchase look like a bargain (and it probably is), but views on that are likely to be divergent. Part of the reason: last month, Audible’s largest shareholder, Apax, signaled a lack of confidence in the company when they (and affiliates) began selling off their 23% stake in the company.
Probably the best near term gauge for valuing this deal as an Amazon shareholder lies in measuring the strategy it reflects rather than the approximately $300m purchase price.
•Amazon as Digital Retailer
For the past year, Amazon has been aggressively moving forward with the sale of digital goods including video, music and software. Accessibility, ease of use, and solutions that are both consumer and merchant friendly, have been at the core of their plans.
Video is where they started. In September 2006, Amazon became the first DVD retailer to get into the movie download business with the launch of Unbox. In February 2007, they fortified that business by partnering with TiVo to make movie downloads more accessible. In July, they took the requirement for PC involvement out of the equation and made it even easier. Come September: they added a content deal with NBC Universal. November: they partnered with AOL to further enhance the offering.
Amazon’s MP3 Music store was step two. The store launched in September and has quickly become the front runner among would-be iTunes rivals. The primary reason: Amazon has signed deals making theirs the only music store with a fully licensed catalog of DRM-Free MP3 music from all of the Big 4 record labels (Sony BMG, Universal, Warner Music and EMI). And being DRM-Free, all of the several million songs in the store will play on any device from iPods to Zunes, and any desktop player. (By last count, more than 500 devices are supported). Neither Apple nor eMusic can boast the same kind of depth in portable music. Apple’s DRM-Free catalog, in fact, includes tunes from only one of the four (EMI). (Apple does sell many of the same songs but they remain locked with copyright protects (DRM) that restrict them to iTunes and iPods).
Software sales, the third prong in Amazon’s digital retail efforts, began with a baby step earlier this month. At the start of January Amazon quietly began selling software downloads. The storefront is only providing Tax software for now but a more comprehensive downloadable software selection is rumored to reveal later this year.
Amazon’s original start was with book sales. It’s fitting the acquisition of Audible will add a similar brick to the foundation of Amazon’s digital product sales efforts. Even though the digital book market is relatively small (Audible had Fiscal 2006 revenues of about $80m and $27m last quarter) Audible is among the larger publishers in the space. They have more than 80k programs totaling near 200k hours of content from 520 content partners. Their staff numbers 175 employees (160 at their Newark, NJ headquarters).
One of the strengths of Audible’s content offerings is their portability. Like music from Amazon’s MP3 Store, Audible’s content will play on PCs, iPods, and other devices. It’s easy to access and approachable. Steve Kessel, Amazon’s sr. VP of Worldwide Digital Media noted in a statement: “Audible.com offers the best customer experience, the widest content selection, and the broadest device compatibility of the industry.” That’s directly in line with Amazon’s apparent digital mission.
While adding audible clearly expands Amazon’s product catalog, it also comes with some other benefits, three of which are:
a. Support for Kindle – Amazon recently launched their Kindle eReader platform and it includes an MP3 player. Given the product is aimed at technophile readers, a large in-house audio book publisher could help support the platform with complementary product.
b. Expansive Industry Relations - Audible’s content comes from more than 520 Partners. Those industry relationships, mixed with Amazon’s, could enhance future product partnerships and offerings.
c. New Customers Acquisition - Audible had 446k subscribers (at the end of September). All of those can be qualified as potential Amazon customers who are i. comfortable with technology including MP3 players and ii. Previous buyers of digital content. They represent a sizable opportunity for cross-selling and cross promotion.
Pricing by the Numbers: If Amazon was paying solely for these customers, a price of between $600 to $700 a head in customer acquisition costs (e.g. the purchase price divided by subscribers) might be too rich. When that price is discounted to account for the value of content library, these customers may be coming very inexpensively.
As an over simplified example, imagine if each hour of Audible’s content averaged across the portfolio has a lifetime value of $1,000. (That is the equivalent of selling the hour to 1,000 customers for just $1). Using those numbers, the library has a value of $200m or two thirds the present purchase price. If the lifetime value of each content hour were to rise to $5,000, that’s $1b in revenue that was bought for $300m.
Another benefit of particular note, Amazon’s acquisition of Audible could hurt Amazon’s digital rivals including iTunes and eMusic (which began selling audio boosk in September). iTunes, in fact, has been one of Audible’s largest customers. In Q3 2007, iTunes accounted for 27% of Audible’s revenue. When distribution contracts expire, owning Audible could give Amazon exclusivity on content that otherwise had been featured at rivals.
• Market Pressures and the Future
The purchase comes at a time when Amazon’s under increasing performance pressure. Prior to releasing results yesterday, the company was trading at about 46x forward 2008 earnings. That’s a substantial premium over similarly classified retailers. In most cases it is more than double. To justify that price, Amazon will have to perform at unusually high level and sustain growth in a maturing core business. Margin pressures are looming there (Amazon forecast operating income below Wall Street expectations).
Increasing the volume of digital product sales seems to be part of how Amazon plans to sustain growth. Further evidence: six of the enumerated “highlights” in their earnings press related to digital sales or their web services business.
To put it frankly, it looks like Amazon is betting part of their future on digital product growth. It is an approach hinged on a deep content library, portability, and effective pricing. Audible fits right in to that, even as just a small niche component. We’re seeing Amazon e-Commerce 2.0; Amazon’s second act.
The acquisition will close in the second quarter of 2008 subject to standard closing conditions. Regulatory approvals should not pose any issue.
•Amazon signs Sony BMG for DRM-Free Music
•Amazon Unbox on Tivo
•Amazon Kindle: First Looks
•eMusic to Sell AudioBooks
•Amazon MP3 Store Launches
•Amazon’s Book Archive and the e-Leo Da Vinci Archive