Amazon, Google & Big Tech’s Productivity Paradox

Whatever you may think of the multi-billionaire founders of Amazon and Alphabet-Google, [1] 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.[2] 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)[3]

	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

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[1] The original Google company was reorganised, and from October 2015 it became part of a conglomerate, Alphabet Inc. In September 2017, a shell company was set up, XXVI Holdings Inc. The Google segment of the business remains by far the largest component of the overall operation, and that will be the main subject of this article.

[2] For a fuller account of Alphabet-Google, see my previous blog review here.

[3] Business accounting definitions can be tricky to follow, but note that Operating Income is defined as Net Sales minus Operating Expenses minus Stock-based compensation and other items. Also, Net Income is defined as Operating Income minus Non-operating income/expense, Provision for income taxes and Equity-method investment activity, net of tax.

Economic Power and Corruption

In an aphorism often quoted, Lord Acton remarked that “Power tends to corrupt and absolute power corrupts absolutely”.[1] But what if it turns out that, in the world economy today, the greater the power, the less the corruption, and vice versa? Lord Acton was talking about the exercise of power in particular countries, but the inverse of his aphorism is more accurate today when one takes an international perspective. It should not be seen as a perverse result that richer, more powerful countries often tend to be less corrupt. Instead, it should be seen as a sign that these countries find that the capitalist economy works for them more straightforwardly, rather than their elite groups having to overly depend upon patronage, nepotism, bribery and gangsters. Richer countries also use such methods, but, according to common observation, not so much as the others do so domestically. They are happier to depend upon the laws of the capitalist market that they have made, and from which they benefit, although they are happy to engage in corruption when doing foreign deals.

Of course, power and corruption are difficult things to measure, if this is at all possible. Transparency International (TI), a non-governmental organisation based in Berlin, produces a commonly used index of corruption, a Corruption Perception Index (CPI).[2] While capitalist establishment organisations and companies fund TI, so its ‘independence’ might be questioned, its reports have also embarrassed many. For example, it argues that no country is corruption free and it cites cases where countries that look to be ranked highly in terms of having little corruption domestically are nevertheless the headquarters of corporations that are heavily involved in bribing other countries: “half of all OECD countries are violating their international obligations to crack down on bribery by their companies abroad.”

Research produced by TI suggests that richer countries are the ones least corrupt. Lord Acton was not suggesting that economic wealth or income was an index of (political) power, but there is some common sense logic to there being such a relationship. I have taken figures from the OECD for the median household disposable income in a country as a measure of ‘average’ income. The median level is where half the population are above and half below that measure of income, so the higher the median, the richer the people in the country.[3]

The chart shows a scatter diagram of the relationship between median income levels and TI’s corruption index. In TI’s index, a higher number means less corrupt, a lower number more corrupt, with the range from 0 to 100. Denmark has the highest score in its latest 2015 report, with 91, a decent amount below 100. I have standardised the income measures for 36 countries measured by the OECD in a 2015 report so that the one with the highest median income of $41,355, the US, gets an index number of 100, while Brazil, for example, with barely more than a quarter of that level gets an index number of 28.

For the statistically minded among readers, the correlation coefficient is positive and 71%. In other words, a higher income is very closely linked to a lower level of corruption. Correlation does not necessarily mean causation, but the long-established rich countries have a legal, political and business culture that is often not noticed, or taken for granted. That ‘good’ domestic business culture may not extend to outside dealing. Weaker countries are more easily corrupted by the economic power and influence of the stronger, something that, ironically, will also make the former countries look more corrupt than the richer ones.

This is perhaps a simplistic exercise, one that uses a flawed economic measure of well being against a measure of how corruption is ‘perceived’. This measure of corruption will also pay little attention to the influence and power of money in the media and in election campaigns (don’t mention the US!), and seems to be oriented to how ‘clean’ are the possibilities to engage in capitalist business. Such a perspective leaves out of consideration that a capitalist way of organising the world economy is, how to put it nicely, very far from ideal.

Country Household Income and Levels of Corruption, 2015

Note: 2 letter ISO codes identify the countries shown.

Nevertheless, the pattern of countries being richer and also being less corrupt is clear from the chart. So, Russia (RU), Mexico (MX), Brazil (BR) and Turkey (TR), for example, are not far off the bottom (bad end) of the corruption index and also have among the lowest incomes, or less than half the US level. There are few surprises there, given recent media stories. By comparison, the rich Anglo countries are among the least corrupt, along with other rich Europeans. I have not detailed all countries, but the general pattern is clear and, for countries, contradicts Acton's observation.

Tony Norfield, 25 April 2016

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[1] See a fuller quotation at: http://history.hanover.edu/courses/excerpts/165acton.html. Also note that it is rarely mentioned, for obvious reasons, that, in this 1887 letter to an Archbishop, Acton said: ‘if what one hears is true’ then Elizabeth I and William III instigated murders and they should have been hanged!

[2] Transparency International Index available at http://www.transparency.org/cpi2015

[3] The median figure is less distorted than the mean by the very high incomes of the very rich. Figures are taken in terms of current US dollars at ‘purchasing power parity’ terms. OECD data are from its Better Life Index, 2015 Edition, http://stats.oecd.org/Index.aspx?DataSetCode=BLI

 

99% versus 1%? Or 50% and 40% versus 10%?

Does the phrase ‘the 99% versus the 1%’ make any sense? Firstly, it assumes that there is a clear dividing line of income, or perhaps ownership of wealth, between the bottom 99% and the top 1% in a particular society. Secondly, it assumes there is a difference of political outlook between those who are in the 99% and those who are in the 1%. Thirdly, users of the slogan mostly ignore the fact that there is a clear hierarchy of income and wealth among countries in the world, separate from whatever may be the distribution within a particular country.

Here I will present some information on the first of these issues. The second can be dismissed simply by noting that there is no necessary relationship between a person’s political outlook and their position in a country’s income and wealth tables. A more relevant fact is that masses of people in richer countries can be pro-imperialist, to the point of signing up for a war, even if they are not in the higher echelons of society. The third point has been examined in a number of other articles on this blog.

Statistics for rich countries commonly show that the very richest people have large multiples of everyone else’s income or wealth, so that it does indeed seem as if those at the top, the 1%, are a well-defined separate group. However, a closer look at the figures reveals a different picture.

The examples I will give are focused on the ownership of financial assets in the US and the UK. Not only the ‘rich’, but also millions of others own these assets, perhaps directly, but more commonly via savings plans, endowment policies and pension schemes.

US Census Bureau data for 2007 show the following:

- For US families in the 80-90th percentile of the income distribution, the median holding of equities was $62,000, and for families in the top 10% of the income distribution, the median holding was $219,000.

- By comparison, the median value of equity holdings for families in the 40-60th percentile was less than $18,000; it was less than $9,000 for the 20-40^th percentile.

The families counted were only those owning equities, however half of US households do, directly or indirectly, so the top 20% of these families will account for some 30 million and the top 10% are 15 million people in the US, based on a population of 300 million. These figures exclude other assets, such as bonds, property and pensions, which would substantially raise the sums, especially for the higher income groups.

A variety of UK data sources show the following facts:

- In 2005 there were some nine million people in the UK owning equities either directly or via mutual funds, some 15% of the UK population.

- At the end of 2010, UK individuals directly owned 11.5% of the value of UK equities, of £204.5bn worth, excluding any holdings via investment funds.

- Estimates of the net financial wealth of UK households in 2008-10, including cash savings, bond and equity holdings minus financial liabilities (excluding mortgages), showed a mean figure of £44,200.

- The latter distribution was skewed dramatically, and the median net household wealth was only £6,600, but it is instructive to note the details.

- Nearly a quarter of all households had zero or negative net financial wealth, 55% of households had from zero to £50,000 net financial wealth, 9% had from £50,00 to £100,000 and nearly 12% of households had more than £100,000.

These figures, as in the US case, also ignore the large exposure to equities and bonds that individuals have via pension funds, which in the UK case make up 39% of total household wealth compared to just 11% for financial wealth. Another 39% of household wealth is made up from property holdings, with 68% of households being owner-occupiers.

In conclusion, those who want to use a slogan like the ‘99% versus the 1%’ might consider revising it to ‘the 30% broke and the 50-60% doing all right versus the 10-20% rich’. Admittedly, it is not as catchy, but having to mouth it less often might allow some time to examine the realities of the imperialist world economy today.

Tony Norfield, 17 June 2013