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Bezos: Back on top

In an interview with CNET News.com, Amazon.com CEO Jeff Bezos explains how the company beat expectations and discusses the road ahead.

Jeff Bezos sounds like his old self again.

Hours after Amazon.com reported earnings that blew past analysts' expectations, the chief executive and founder of the Web's biggest retail site talked just like he did when he was spearheading the Internet revolution.

He declared that Amazon is unique to the retail universe, waxed on about the company's high-growth potential, and after all this time--after so many copycat businesses have gone kaput--he rejected the notion that the Internet-only business model he helped pioneer has been disproved.

"We are...totally focused on e-commerce," Bezos told CNET News.com on Tuesday. "You won't see us opening physical stores."

"What we want to be is something completely new. There is no physical analog for what Amazon.com is becoming," he said. "And our vision hasn't changed at all the last few years."

After a seven-year run of losses, Amazon on Tuesday posted a net profit of $5.1 million, or a penny a share, compared with a net loss of $545.1 million, or $1.53 a share, in the year-ago quarter. The profit was reported on a net basis and included all the unsightly costs that Amazon downplayed in prior earnings reports.

The announcement caught Wall Street--and critics--by surprise. Now the company that so many investors had written off is on the offensive again.

"The thing that's always been satisfying for us is that even our critics have been great customers," Bezos said, laughing.

But the celebration could be short-lived.

By reporting net profits, Amazon has handed investors a new yardstick by which to measure the company's performance and has soured them on talk of profits on a pro forma basis in the future. Amazon didn't indicate when it might post another profitable quarter, and it has yet to prove it can deliver high growth and profits simultaneously.

(Free shipping) is a big deal--very expensive for the company, a major investment on our part in the short term--but we think it will be an important driver of new business. Bezos talked with CNET News.com on Tuesday to go over just how the company beat expectations--and to discuss the road ahead.

Q: Now that Amazon has posted a profit, Wall Street will be expecting profits calculated under generally accepted accounting principles, or GAAP, instead of under pro forma profits, which exclude a host of expenses and charges. How will Amazon keep it up? Are you predicting future profit goals?
A: No, we are not setting any goals with respect to GAAP profits. In fact, it would be impossible for us to do so. GAAP profitability is not predictable for us because we have to mark euro converts to market, which is completely unpredictable. And second, because of the option exchange we've done with employees, if our stock price goes up, that generates a GAAP noncash charge against earnings. So we're not focused on any particular GAAP earnings number.

If those come, they will be luck.

Instead, we're focused on something that actually matters for our business, which is operating earnings and pro forma operating earnings. Now, more specifically, (we're focused) on another GAAP number called operating cash flow. So operating cash flow in this year is our big goal. We're going to have positive operating cash flow for the year as a whole. That's something that we can control. Going forward, we want to have significant, sustained, growing, free cash flow. That's what we'll be focused on--not GAAP earnings.

Since you announced last year that Amazon would reach a pro forma profit by the end of 2002, the pressure has been on to reach the goal. Standing here today, what would you say were the top five winning strategies for Amazon?
I would say that the No.1 reason is that we have stayed heads-down, focused on the customer experience. If you want to break that apart, there really have been two things: focus on selection and focus on relentlessly lowering price. There are two kinds of retailers. There are those who work hard to raise prices and those who work hard to lower prices. Both strategies can be successful, but we've made a firm decision to be in that second camp of folks who work every day, very hard, to lower prices.


Amazon posts a profit, but will it remain in the black?
Jeff Bezos, CEO, Amazon.com

Play clip
How much of the profits were derived from cost-cutting and how much from the margin of your sales?
It's some of both. The margins are up because of better inventory management. There is operational efficiency; we're doing things better. Margins are actually down because we lowered prices, and that was offset by operating more efficiently.

How has your outsourcing helped you cut costs?
If you look at every element of our business, we saw operating productivity. In our technology segment we saw strong productivity. We expect to be able to get productivity gains in the future.

In the earnings report, books, music and videos were responsible for ringing up revenue of $538 million in the fourth quarter. While sales growth in that area was just 5 percent, that's a significant jump from the third quarter, when Amazon reported a 12 percent decrease in sales for that area. How did you turn around your books, music and videos sector?
One of the key things was that by having so much operating efficiency gains, we were able to afford to share those gains and give them back to customers. Lowering price drove volume, and that helped us because a lot of our costs were fixed costs. And that's why we're doing the Super Saving Free Shipping. That, too, we hope, will drive significant volume and over time more than make up for the impact it has on margins, which is not insignificant.

Free shipping costs companies money and eats into profit margins. Is it a gamble to offer free shipping on orders of $99 or more?
It's absolutely a bet, but it's a very calculated bet. It's a bet that we have a lot of understanding about because of the work we've done understanding price elasticity on free shipping. We have some good understanding of how customers behave with free shipping based on earlier promotions.

Now, this is not a promotion. This is something we're going to do 365 days a year--a whole new class of shipping.

It's a big deal--very expensive for the company, a major investment on our part in the short term--but we think it will be an important driver of new business. We've always known that our business model works; we've always had lots of supporters. We've also had lots of critics.

How has Amazon evolved? Is Amazon still everything to everyone? Are you going to be a mall, an online host for other e-tailers?
What we want to be is something completely new. There is no physical analog for what Amazon.com is becoming. And our vision hasn't changed at all the last few years. We want to be a place where people can come to find and discover anything they might want to buy online.

Now, that's not everything to everybody. That's everything selection-wise. We are, for example, totally focused on e-commerce. You won't see us opening physical stores. We know how to do e-commerce.

What about competitors, like eBay and some of the large brick-and-mortar stores that are driving into your core businesses?
We welcome competition from wherever it comes. Our response will be the same as it's always been, which is to be absolutely heads-down, focused on the customer experience. We pay attention to competitors but we obsess over customers.

Do you feel vindicated? Can you tell the naysayers, "Hey, I was right"?
Well, we've always known that our business model works; we've always had lots of supporters. We've also had lots of critics. The thing that's always been satisfying for us is that even our critics have been great customers. We've always appreciated that. And 25 million people shopped with us in the last year, which was a tremendous amount of growth.

We also recognize that even though we are incredibly proud of this quarter, there's a lot to still do. We're very excited about step two, which is operating cash flow for the full year 2002. And we're very excited about step three, which is to go forward from there and have significant free cash flow.

How are the Amazon employees reacting?
People are very excited. I called our Europe office this morning and I have a call with our Seattle office tonight. People are going to raise a glass of champagne, and we're going to toast each other. But people are cheering and very, very happy that we set a goal a year ago--internally we set that goal 18 months ago. We met and exceeded that goal. We had enough operating profit to cover interest expense for two quarters, a half-year.

Most important of all, we're looking forward to the future.