First it was the $9.99 (the $8.99, $8.98) hardcover books, now it is $9.99 DVDs. Wal-Mart’s started the price war with a very low price on pre-orders for hardcover books and DVDs. Almost immediately Amazon.com was forced to match Wal-Mart’s price and so did Target. When the three retailers wage this war, customers stand to benefit while shareholders will see value destruction.
The value lost is not uniform for all three retailers. According to WSJ that quotes a JP Morgan analyst, Wal-Mart makes less than 1% of its revenues from its online channel WalMart.com while Amazon.com it is 100%. Online revenue from books and DVDs is even smaller portion of the total revenue. I do not have numbers for Walmart.com but Amazon.com makes 58% of its total revenue from media sales ($11 billion annual, granted that includes music CDs as well).
The all new low price is offered only on 10 new titles, so their share of total online revenue is low but even a fraction of the 58% is a larger share of total revenue than that of 1%. Wal-Mart may not gain much from this price war but stands to hurt Amazon.com a whole lot more. That is an effective price war.
It is effective not because it added to Wal-Mart’s profit but it forced Amazon.com to respond. There really was no reason for them to match the price. Let us do back of the envelop math. Let us assume the low price was offered only for a quarter, the new books and DVDs constitute 10% of the media sales and the margin for Amazon.com is 10%. The price cut is about 30% of their total price, all of which is lost profit. That is a total loss of $82.5 million (11*(1/4)*10%*30%)
Even if we assumed the worst so that Amazon.com’s new book and DVD sales would be completely wiped out had they not matched Wal-Mart’s price cut, their loss would total to just $27.5 million (11*(1/4)*10%*10%). Clearly, retaliating is not a profitable option for Amazon.com and by doing so they only helped make Wal-Mart’s initial attack effective.
Meanwhile Wal-Mart is only happy to reap the benefits of free publicity from its low cost price war that hardly puts a dent on their profits while damaging their competitor’s profits.