Alison Porter, Portfolio Manager on the Global Technology Team, discusses Amazon’s latest foray into the delivery and healthcare sectors and its implications for investors.

Amazon recently announced that it is accelerating a partly a defensive move into logistics and offensive disruption of pharmacy and healthcare. These are examples of how Amazon is coming up with new ways to invest for long-term growth.

Delivery

Amazon is developing its long-term position as an ‘AWS for logistics’ with Amazon Delivery Service Partners. The concept of public cloud for information technology needs was introduced by Amazon via Amazon Web Services (AWS). In AWS, Amazon invested heavily in computer power and storage infrastructure, allowing other enterprises and new companies to rent capacity, hence lowering start-up costs and increasing flexibility.

With Amazon Delivery, entrepreneurs are invited to form small delivery companies of 20 to 40 vans – with up to 100 drivers – to help build more shipping capacity. Amazon will provide access to delivery technology and shipping capacity. This service differs from Amazon Flex where ‘delivery partners’ are paid an hourly rate to deliver Amazon parcels, working flexible hours via the app.

Amazon Delivery aims to enable not one individual but a small group of drivers to in effect form a small business startup, providing training, tax and payroll guidance, fuel discounts, vehicle leases and insurance. Amazon has said it will set minimum standards for pay.

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It will be interesting to see how these startups evolve and if they are used exclusively for Amazon contract delivery. It is an evolution of Amazon’s existing delivery infrastructure and follows the company’s other ventures into leasing its own cargo planes and drones. This delivery capacity will be used for future growth of Amazon’s deliveries, while the company intends to maintain strong relationships for its existing deliveries with incumbent couriers such as UPS, United States Postal Service (USPS) and FedEx.

Potential implications

• Amazon is effectively lowering barriers to entry into the delivery business by using scale to lower prices on large expenses such as vehicles and insurance. This may have a long-term impact on companies that are building models around scale of delivery and logistics.
• While Amazon Delivery may be expensive and raise costs in the near term, it has the potential to lower delivery costs in the long term. In the shorter term it could help ease cost negotiations with existing delivery providers (such as USPS).
• Amazon should be able to capture and leverage data collected for miles driven and logistics capability/mapping.
• The announcement is an example of how Amazon is also helping small and medium-sized enterprises (SMEs), challenging perceptions that the company is detrimental to small companies. Amazon has been criticised for degrading the high street. The scheme will also provide qualifying US military veterans with a $10,000 reimbursement to get started.

Healthcare

There has been long-term speculation over the extent of Amazon’s interest in healthcare. This interest piqued on the  announcement of the Berkshire Hathaway and JP Morgan joint venture on managed care in 2017 (See: Amazon’s customer focus and investing for long-term growth should pay off).

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A second recent Amazon announcement concerned the $1 billion purchase of PillPack, an online pharmacy that mails consumers prescriptions sorted by dosage. According to a ConsumerReports.org survey, 55% of Americans regularly take prescription medication. The market is worth around $400 billion in the US with around 80% of that market being particularly well suited for ecommerce given the prominence of recurring prescriptions for chronic illnesses. The PillPack acquisition gives Amazon a pharmacy license in every US state except Hawaii and Puerto Rico, as well as relationships with all the major pharmacy benefit managers (third-party administrator of prescription drug programmes for commercial health plans). Additionally, Amazon will gain valuable data on historical medication purchase patterns.

Unlike other areas of ecommerce, direct to home mail order prescriptions have actually fallen over the last decade with many early stage disruptors acquired by incumbent pharmacy benefit managers and retailers. Amazon’s entry is likely to spur a new era of disruption for pharmacy customer service delivery.

Potential implications

• Amazon could use pharmacy delivery as an additional service offering for Amazon Prime – adding value to existing Prime members and addressing an older demographic that is less well penetrated. The average PillPack user used to be someone in their mid 40s but has crept up to the mid 50s over recent years.
• The frequency of delivery/regularity for pharmacy requires logistics and distribution expertise and scale, which is another means for Amazon to leverage its developing logistics capability.
• PillPack could also be incorporated into the Whole Foods (acquired in June 2017) retail structure, which currently does not have a pharmacy offering.

Short-term overreaction in healthcare, but long-term risks increased

The market’s initial reaction has been less positive to the full pharmacy food chain, with distributors, pharmacy benefit managers and prescription managers negatively assuming Amazon will fully move into all of these areas. On the Janus Henderson Global Technology Team we believe this to be a classic hype cycle overestimation in the short term but a significant threat in the long term. The opportunity on the consumer-facing side is large enough for Amazon to focus on direct to consumer for now.

Further moves into distribution or pharmacy benefit management (disintermediation) will be a long regulatory learning curve and may not be something Amazon can do organically,  whereas in food it can start with small steps followed by acquisitions later. Amazon will need ongoing cooperation from the rest of the healthcare supply chain to scale up in the short term.

Conclusion

Amazon’s further investments into delivery and healthcare represent more examples of technology disruption and innovation. As long-term investors, we are confident that these investments are building on Amazon’s long-term barriers to entry and its own technology ‘fly wheel’ that is increasing the company’s momentum and ability to take market share.

The increasing mix of high margin businesses in the Amazon portfolio (AWS and advertising) are facilitating investment in disruption at an accelerating rate. However, we are also mindful that these investments will bear higher costs in the short term, potentially dampening near-term profitability, while extending Amazon’s long-term growth trajectory.