Shoppers are flocking to Amazon.com. But it may be time for Amazon to pull out its own wallet. That would be a good way for the online retailer to take advantage of its high-flying stock price. Amazon’s price-to-earnings ratio has been trading above 70 times 2007 earnings for much of this year. Its boss, Jeff Bezos, should use his levitating share price as currency to snap up another company.
To justify its multiple, Amazon needs to find a way to boost its sales growth well above the 22% annual average it has managed over the past five years. And it needs to act fast lest the window of opportunity created by its soaring stock—which has tripled in the past year—slams shut.
So what should Bezos buy? Is this a chance to bulk up in cyberspace by snatching rudderless Yahoo? Or should it expand its books business by buying ailing Borders Group? Perhaps it should step back by purchasing a bricks and mortar retailer? There’s something to say for all these ideas. But it’s likely that such a deal would reward the sellers more than it would boost Amazon’s fortunes. Instead, Amazon should stick to what it knows and build on what it does best.
And that means focusing on online dynamic, consumer-driven retail. But what, exactly? Well, high-speed Internet access looks set to make online video a big potential growth driver for media retailers. Amazon is already a major player in DVD sales. But it may make sense to buy an online purveyor of video to complement that. The ripest takeover target is Netflix. It is well known, but affordable, and it won’t be able to easily wriggle out of an Amazonian bear hug. A combination could complement Amazon’s DVD business and give its consumers the choice of buying or renting videos. It could also strengthen Amazon by giving it access to Netflix technology that facilitates renting and watching movies online.
The timing couldn’t be better. Netflix’s stock has been beaten down by a bruising market share battle and price war with Blockbuster. Selling just above $17 (Rs686.8) a share, near its 52-week low, Netflix has a market capitalization of less than $1.2 billion, which means it’s trading at just 25 times 2007 earnings. If Amazon offered a 30% premium, it could buy Netflix for roughly $1.5 billion in stock. And that premium pays for itself, because Netflix has $380 million in cash on its books. So Amazon would gain control of a valuable, Web-centric brand—the likes of which are easier to buy than build—for a song. And Netflix desperately needs a partner of Amazon’s heft to counter Blockbuster’s recent moves. Its rival is offering online customers a free movie if they return an online rental to one of its stores. This has hurt Netflix so much that last week, for the first time, it announced a sequential quarterly decline in the number of its customers. The 1% drop reduced its subscriber rolls to 6.8 million.
Given Amazon’s marketing expertise, $32 billion market cap and vast reach, Blockbuster would face a far tougher competitor if Amazon snapped up Netflix. And Blockbuster is already under pressure. Its executives are talking openly about curtailing its aggressive marketing programme because it is racking up big losses. Netflix would position Amazon as the leader in a rental market projected to grow from 8.8 million online subscribers at the end of last year to more than 20 million over the next five years. And since the company excels at cross-selling, these would all be potential buyers of Amazon’s other wares. DVD sales may follow the trajectory of CD sales, which have been eroded by music downloading. If so, Netflix’s technology could give Amazon the technology it needs to remain a leader in the video business.
Given the benefits of a combination, it may not be long before investors catch a glimpse of Amazon and Netflix waltzing down the aisle together. The maxim on Wall Street is buy low, sell high. By acquiring Netflix with Amazon shares, Bezos could do both at once.