Whatever you may think of the
multi-billionaire founders of Amazon and Alphabet-Google,
there would seem to be one undeniable fact about their companies: they have
massively improved productivity. Amazon has an e-commerce system that delivers
very efficiently; Google has revolutionised Internet search. Yes, there is
quite a list of undeniable negative facts too – poor working conditions
in Amazon ‘fulfilment’ centres, the hoovering up of personal data by Google,
how each company’s rise to power has upended the economics of other businesses,
and much else besides. But the productivity benefits of their services seem
unimpeachable. It lies behind Amazon’s increasing share of the consumer market
and Google is now used in around 90% of Internet searches. Nevertheless, a
closer look at these tech giants shows that all is not what it seems.
Productivity and the market
Being more productive is a good
thing, or at least it should be. It means producing with fewer resources – less
time spent working, travelling or waiting to get the same output, using raw
materials and other inputs more efficiently, and so on. In the framework of the
capitalist market, however, this can have all kinds of bad repercussions.
Rather than society being able to be better fed, in better health, with more
leisure and time to enjoy life, the burden of work for some increases while
others are made unemployed, lives are disrupted and the benefits of
productivity go to a few.
Apologists for capitalism may
accept this point, but would argue that the market system encourages all kinds
of innovation and, while there are some unfortunate side effects, in reality it
is only this kind of system upon which progress for society as a whole can be
built. That perspective leaves out many things, not least capitalism’s
propensity for wars and destruction, the monopolisation of the world’s
resources by a few powerful companies and governments, and the oppression of
hundreds of millions of people for whom being part of the capitalist world
economy more often means a ticket for the treadmill rather than a path to
progress.
But I will leave such damning
truths for now. I will also give insufficient attention to how invention is
most commonly a social phenomenon, even one backed by state resources, not a
bright spark from a lone genius. Or how innovation is ever more dominated by rich
capitalist companies that buy into ideas to help them build or sustain a
monopolistic position in the supposedly competitive market. I won’t even
discuss how the slump in Alphabet-Google’s and Amazon’s share prices since the
summer will give them problems with investors, since, like Facebook, they have
a policy of paying no dividends. Instead, I want to uncover the peculiar
features of productivity at two of the Big Tech giants.
Google’s advert stream
Despite Alphabet’s forays into
robotics, artificial intelligence and ride-hailing, the company’s business
still very much depends on advertising revenues from Google.
The non-Google business, termed ‘Other Bets’ in its accounts, generated barely
1% of sales revenues and made a loss of $3.4bn in 2017. By stark contrast, the
Google ‘segment’, including YouTube and other items such as cloud computing,
registered an operating profit of $32.9bn on revenues of $109.7bn in 2017.
Within the Google operation, the
importance of advertising revenues has fallen from around 99% of the total up
to 2007 to around 85% now. This reflects both the company’s increased
difficulties in boosting such revenues and how cloud computing, money from
selling apps and Google Play have become more significant. Even a monopolist
has to diversify! Google’s advertising numbers are nevertheless key for the
conglomerate’s business and are likely to remain so for years to come. Examining
these and other related data brings out important aspects of corporate
productivity – with all the caveats attached to that term indicated in the
previous section.
It is instructive to look at
Alphabet as principally a company that sells adverts. Its ‘output’ is then how
many adverts it sells.
This output can be assessed in
two ways: by simply looking at the advertising revenues and by counting the
adverts themselves. However, there are no figures available for the latter.
Instead, one has to adopt the philosophical view that something only exists
when it is experienced and, in this case, more specifically, when someone
‘clicks’ on the advert. Alphabet goes further than this and, as befits a
capitalist corporation, reports changes in the total number of clicks on the
adverts that a company must pay for. Annoyingly, it does not give totals, only
percentage changes, but it does also note the change in the ‘average cost per
click’, in other words, the average price it receives from the clicks that have
taken place.
Google's Clicks
I have trawled through
Alphabet-Google’s accounts and noted the annual changes in the total paid
clicks and the average cost per click since 2005. It was not necessary to go
back any further to bring out the main features, leaving aside the serious
threat to my sense of well-being that this would have entailed. The picture is
clear: a very big rise in paid clicks and a fall in the average cost per click.
So, a huge increase in ‘productivity’, as the volume of output has risen while
the unit cost has dropped.
Of course, selling more adverts
at a lower cost is not what a normal person would call being more productive.
But this is the capitalist market view, not an assessment of what may be good
for society. That view means discarding social values in favour of market
values, where the magic of the market is also responsible for downward pressure
on the prices charged for the adverts. Fortunately for Alphabet-Google, the
result of the more adverts/lower costs trend has been a strong growth in total
revenues from adverts, reaching nearly $111bn in the year to end-September
2018, compared to around $50bn five years before. Unfortunately for the
company, the pace of this revenue growth has faltered in recent years and there
are other metrics more commonly followed by capitalist markets that do not
augur so well for it.
Take another type of
productivity measure, one that compares revenues or operating profits with the
property and equipment assets the company holds. Such assets are the fixed
capital needed to generate the returns, and one would expect that a larger
volume of investment would lead to increased revenues and profits. They do, but
at a slowing pace. This can be seen in how the ratios of revenues and profits
to fixed assets have fallen, as illustrated in the next chart.
At the end of 2006,
Alphabet-Google held $2.4bn in property and equipment assets. Ten years later,
at end-2016, that had multiplied to $34.2bn. By the end of September 2018, less
than two years later, it was more than 60% higher again at $55.3bn. Total
revenues and operating income grew much more slowly, so the lines in the chart
show a fall. A similar picture holds for revenues and income compared to the
company’s expenditure on research and development. Alphabet-Google’s R&D is
very high, at close to $20bn in the year to end-Q3 2018, taking up 15% of
revenues and measured at 76% of operating income. But the R&D expenditures
have also risen much faster than either revenues or income.
Google's Operating Income & Sales Revenues versus Fixed Assets
Amazon’s anomalies
My previous review of Amazon’s
business (
here) noted that it had surprisingly
little profit for a burgeoning tech giant, and that much of its growth in sales
revenues and profits had come from its cloud computing arm, Amazon Web Services
(AWS), not from its widely known e-commerce operation. I must admit to
wondering why Amazon had continued to expand outside North America, given
persistent and widening losses. However, the latest data show that these International
losses have finally begun to narrow. They were a little over $2.4bn in the year
to the end of the third-quarter 2018, down from a $3bn loss in 2017. That may
be enough to keep in place Amazon’s ambition to take over the e-commerce world,
although the parcel delivery operation outside the US has so far looked more
like an expensive branding exercise for AWS’s dramatic growth.
Amazon’s operating income
(loss), 2015-2018 ($ million)
|
2015
|
2016
|
2017
|
Year to Q3 2018
|
North America
|
1,425
|
2,361
|
2,837
|
6,708
|
International
|
(699)
|
(1,283)
|
(3,062)
|
(2,419)
|
AWS (Amazon Web Services)
|
1,507
|
3,108
|
4,331
|
6,473
|
Total
|
2,233
|
4,186
|
4,106
|
10,762
|
Amazon’s latest figures show a sharp rise in sales
revenues and operating income. These are mainly from North America, and were
boosted by Amazon’s purchase of Whole Foods Market in August 2017. At the same
time, revenues and income from AWS are continuing to grow very rapidly. It
could also be that the international e-commerce business will finally benefit
from Amazon’s big investments. It will need to in order to turn around what are surprising trends in operations from a company that would
otherwise appear to be the epitome of cost cutting.
Take Amazon’s ‘fulfilment
centres’, for example. These are the enormous warehouses of goods, not only
staffed by low paid workers, but also full of amazing technology and robotics
to optimise selection, packaging and delivery, together with algorithms to
minimise the paths taken. One would expect that the costs of running these would
increase as the sales business expands. But, at the same time, these costs
should not rise as quickly as sales, since economies of scale would kick in.
Nevertheless, Amazon’s accounts show that the costs of these fulfilment centres
have risen faster than Amazon’s net sales. In 2009, fulfilment centre
costs were $2bn, which was 8.4% of net sales that year. The proportion had
risen to 14.2% by 2017, when such costs were $25bn, and it was higher still in
2018.
It would be difficult for a new
entrant into this market to outcompete the Amazon machine. Yet the rising ratio
of costs to net sales revenues raises questions about how productive these
centres really are. Is their efficiency exaggerated in the minds of those who
only see the robots, the disciplined workforce and the smooth running system,
and who ignore what all this costs?
Where some of it happens ...
One reason for the increase in
costs compared to sales revenues is due to Amazon opening lots of extra
fulfilment centres worldwide – see the information on these centres
here. This will incur costs before they are fully
operational and generating extra sales. Another reason lies in the distinction
that must be made between a physical, productive efficiency and the value of
the goods delivered. Unfortunately, Amazon provides only sporadic details on
this topic, as on others, so a view cannot be properly verified from data in
their accounts. Nevertheless, the information available suggests both that the
volume of throughput at fulfilment centres – the number of items, parcels, etc,
per day – has risen sharply, and that the cost per item or parcel has fallen
steadily. So, physical productivity has increased, as one would have expected.
That has not been translated
into higher net sales revenues when measured against the costs of these
centres, not only because of the rapid expansion in the number of these
centres, but also because Amazon has reduced the average prices of the goods to
its customers. This might seem a strange thing for a capitalist company to do,
but it is an explicit part of Amazon’s strategy of building volume and
increasing its share of the market.
An example to support the view
that average prices have fallen is that in 2017 the value of consolidated net
sales rose by just over 30%, to $178bn. In the same year, shipping costs rose
by 34% in 2017. The volume of deliveries likely rose by even more than 34%,
given that Amazon continues to pressure delivery companies to cut their fees.
Amazon passes on the costs
This price cutting strategy is a
risk for Amazon’s profits, but that risk is reduced if it can pass on the
pressure to its suppliers! This is something it has been very effective at
doing.
Amazon's Costs as a Percentage of Net Sales
Most of the expenses that can be
measured against net sales – such as the investment in technology, fixed assets
or administration – have been rising, just like those for the fulfilment
centres. One item has not: the cost of sales. This number is principally made
up from what Amazon pays the suppliers of the consumer goods it sells and is
the largest expense item. The cost of sales was $112bn in 2017, 63% of the
total value of consolidated net sales of $178bn. That percentage has fallen
steadily from nearly 78% in 2010, dropping to just 58% in the third quarter of
2018.
This rapid fall in the cost of
sales relative to total sales has kept Amazon’s e-commerce show on the road.
The gap between the two numbers represents Amazon’s gross profit, from which it
can fund other things. It reflects Amazon’s power as a platform for selling
consumer products, a power that has grown dramatically in recent years and
which allows it to force other companies to deliver its goods more cheaply.
Productivity and
profitability
Investing more and undertaking
R&D is what one would expect a productive capitalist company to do. What
Alphabet-Google and Amazon may not have expected is that this would go
alongside an increasing difficulty in producing extra revenue and profits. The
two companies work in different ways, but the trend for each is similar. Their
‘output’ costs per item (of adverts or shipped goods) have fallen, but the
scale of necessary investment to bring this about has risen faster than sales
revenues and profits. It is perhaps stretching the interpretation of company
accounts a little too far to see in this a tendency for their rate of profit to
fall as the company multiplies up the scale of investment. Nevertheless, the
figures for Alphabet-Google do show a distinct drop in both operating income
and total revenues compared to its fixed assets.
Amazon's Sales and Operating Income vs Fixed Assets
A similar picture is true for
Amazon (see the previous chart). Between 2004 and 2008, its net sales were more
than 20 times the value of its fixed assets. By 2015, the ratio had fallen to
just five times, hitting a low of 3.6 in 2017. There has been only a minimal
recovery since as Amazon’s sales revenues have jumped by just a little more
than the jump in fixed assets held. In the case of operating income versus
fixed assets, there has also been a trend decline for Amazon. The ratio was 1.8
in 2004, falling to 0.6 in 2010 and 0.1 in 2015. That ratio has also recovered
a bit in the most recent period as profitability improved, but was still only
around 0.2.
Each company is a Big Tech
giant, though Alphabet-Google’s business machine sells advertising slots while
Amazon’s started out only selling more efficiently what others had produced.
Each has tried to diversify operations, using the vast resources made available
to them by their respective monopolistic positions. Each brings out the
peculiar manner in which capitalist corporations boost ‘productivity’, one that
is anti-social, given the effects on society at large. They are part of the
imperialist world market and play a role in its domination of society, but,
unfortunately for them, they cannot escape the constraints on profitability.
Tony Norfield, 21 November 2018
Posts
