Amazon's Value Is Fading in the Age of Apple

ipad vs. kindle
ipad vs. kindle

Change has been kind to (AMZN). The rise of the Internet and e-commerce turned up a big, fertile field for Amazon to plant its innovations in. The bumper crop that it harvested is well known: $25 billion a year in annual revenue after 15 years in business and an 8% share of the retail market for books, music and other media products.

But change is sweeping the way we buy media once again, and this time Amazon isn't doing so well. It's losing ground to Apple (AAPL). Amazon's confrontations with Apple aren't just apparent in high-profile clashes, such as the battle over pricing best-selling books. Apple has emerged as a threat to the one area that has always been Amazon's strength -- its control over online sales of media.

Amazon Bulls' Optimism Starting to Crumble

Amazon has been one of the most resilient tech stocks, rebounding quickly from the market crash of late 2008 and rising to a record high of $143 last April. But something has shifted, and the longtime, dauntless optimism of Amazon bulls is starting to crumble. The stock has lost nearly a third of its market value since that April high point.

During Tuesday's market sell-off, Amazon fell 8%, twice as much as the Nasdaq. Just as bearish was Amazon's performance Wednesday, when its initial rally of 4% from Tuesday's closing price wilted. Amazon closed Wednesday up only 0.6%.

What's going on? Amazon has fallen under the shadow of Apple. This has been going on for some time as more songs, videos and now books are simply digital goods that can be bought in the cloud, not packaged in traditional formats and shipped from warehouses. Despite Amazon's appeal as the trusted, go-to store for low prices of music CDs, it has had trouble gaining traction in downloaded music and its mp3 store.

Every year, music consumers buy fewer CDs and more music online. The iPod was a big force driving that shift, and because of the device (and later the iPhone), iTunes became the go-to place for digital music. Amazon controls one-eighth of the digital music market, a fraction of Apple's two-thirds share.

Death of the Kindle?

Now, that same dynamic seems to be playing out in e-books. Amazon saw the future of bookstores involved electronic books, and it put a lot of thought and resources into the Kindle e-book reader. Despite the Kindle's debut price of $399, it sold out after only five hours. But then came the iPad, ushering in predictions of the Kindle's death.

Amazon responded with a Kindle for iPad app, but it didn't salve rising concerns about the e-tailer's future growth. Analysts began urging investors to sell Amazon and buy Apple because the Kindle was becoming a niche product. Amazon responded in turn by cutting the Kindle's price to $259 and again last week to $189, making it even cheaper than the discount price Barnes & Noble put on its Nook e-reader.

If that move was meant to ameliorate concerns, it backfired. Analysts said it made Amazon look scared. Then earlier this week, Marianne Wolk of Susquehanna downgraded Amazon to neutral, from positive, citing rising competition from Apple's iPad and its iBook app, as well as Google's (GOOG) recent move into distributing electronic books.

Worry Over Thin Margins

Wolk's discouraging note accompanied Amazon's decline this week. In the short term, such a sudden, downward move shouldn't discourage investors. But with Amazon, it marks a change in the overall sentiment surrounding the stock: Instead of being a tech bellwether that came through broader market downturns better than others, Amazon now seems weaker than its peers, somehow more vulnerable in the Age of Apple.

Market share is a crucial concern for Amazon because its strategy of offering low prices depends on high volume. Smaller share means less volume, and that means weaker margins for Amazon. The potential inability of Amazon to maintain its already slim margins (operating profit was 5.5% of revenue last quarter and 4.6% in 2009) will worry the Amazon bulls and encourage the bears.

CEO Jeff Bezos' response seems to be to put Amazon's Kindle books on any platform readers want them, or as he puts it "buy once, read everywhere." It could work because of the loyalty of Amazon's customers and its dedication to finding new ways to keep book prices low.

But for the first time in more than a decade, Amazon has one serious rival in media sales (Apple) and quite possibly a second (Google). How it responds to that formidable competition could determine its stock's fate.