ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
In addition to the factors discussed in the "Liquidity and Capital Resources" sections of this "Management's Discussion and Analysis of Financial Condition and Results of Operations" and in the Company's Annual Report on Form 10-K for the year ended December 31, 1998, the following additional factors may affect the Company's future results:
We Have a Limited Operating History
We incorporated in July 1994 and began offering products for sale on our Web site in July 1995. Accordingly, we have a relatively short operating history upon which you can evaluate our business and prospects. You should consider our prospects in light of the risks, expenses and difficulties frequently encountered by online commerce companies. As an online commerce company, we have an evolving and unpredictable business model, we face intense competition, we must effectively manage our growth and we must respond quickly to rapid changes in customer demands and industry standards. We may not succeed in addressing these challenges and risks.
We Have an Accumulated Deficit and Anticipate Further Losses
We have incurred significant losses since we began doing business. As of Sept ember 30, 1999, we had an accumulated deficit of $558.8 million. To succeed we must invest heavily in marketing and promotion and in developing our product, technology and operating infrastructure. In addition, the expenses associated with our recent acquisitions, and interest expense related to our outstanding notes, will adversely affect our operating results. Our aggressive pricing programs have resulted in relatively low product gross margins, so we need to generate and sustain substantially higher revenues in order to become profitable. Although our revenues have grown, we cannot sustain our current rate of growth. Our percentage growth rate will decrease in the future. For these reasons we believe that we will continue to incur substantial operating losses for the foreseeable future, and these losses may be significantly higher than our current losses.
Unpredictability of Future Revenues; Potential Fluctuations in Quarterly Operating Results; Seasonality; Consumer Trends
Due to our limited operating history and the unpredictability of our industry, we cannot accurately forecast our revenues. We base our current and future expense levels on our investment plans and estimates of future revenues. Our expenses are to a large extent fixed. We may not be able to adjust our spending quickly if our revenues fall short of our expectations. Further, we may make pricing, purchasing, service, marketing, acquisition or financing decisions that could adversely affect our business results.
Our quarterly operating results will fluctuate for many reasons, including:
o our ability to retain existing customers, attract new customers and
satisfy our customers' demands,
o our ability to acquire merchandise, manage our inventory and fulfill
orders,
o changes in gross margins of our current and future products, services
and markets,
o purchases of large quantities of toys, electronics products, home
improvement products and software particularly in advance of the
holidays for which demand may not materialize,
o introduction of our new sites, services and products or those of
competitors,
o changes in usage of the Internet and online services and consumer
acceptance of the Internet and online commerce,
o timing of upgrades and developments in our systems and infrastructure,
o the level of traffic on our Web sites,
o the effects of acquisitions and other business combinations, and related
integration,
o technical difficulties, system downtime or Internet brownouts,
o introductions of popular books, music selections, videos, toys,
electronics products, home improvement products, software and other
products or services, and our ability to properly anticipate demand,
o the mix of books, music, videos, toys, electronics products, home
improvement products, software and other products sold by us,
o our ability to prevent fraud perpetrated by third parties through credit
card transactions, Amazon.com payments transactions, and auction and
zShops transactions,
o our level of merchandise returns, and
o disruptions in service by common shipping carriers due to strikes or
otherwise.
The popularity of our auction and our zShops services, both of which permit anyone to offer merchandise for sale at Amazon.com, and of certain items offered through our auction and zShops services may vary over time due to perceived scarcity, subjective value, "fads" and consumer trends in general. If the popularity of our auction and zShops services or the items that are listed for sale declines, our revenues from these services will fall.
Both seasonal fluctuations in Internet usage and traditional retail seasonality may affect our business. Internet usage generally declines during the summer. Sales in the traditional retail book, music, toy, electronics and home improvement industries usually increase significantly in the fourth calendar quarter of each year. The fourth quarter seasonal impact may be even more pronounced in our toys and electronics businesses.
For these reasons, you should not rely on period-to-period comparisons of our financial results to forecast our future performance. Our future operating results may fall below the expectations of securities analysts or investors, which would likely cause the trading price of our common stock to decline.
Intense Competition
The online commerce market is new, rapidly evolving and intensely competitive. In addition, the retail book, music, video, toy, electronics, home improvement and software industries are intensely competitive. Our current or potential competitors include:
o online vendors of books, music, video, toys, electronics, home
improvement products and software,
o a number of indirect competitors, including Web portals and Web search
engines, such as Yahoo! Inc. and America Online, Inc., that are involved
in online commerce, either directly or in collaboration with other
retailers,
o online auction services, including eBay, Inc. and Yahoo! Auctions run by
Yahoo!,
o publishers, distributors and retail vendors of books, music, video and
other products, including Barnes & Noble, Inc., Bertelsmann AG and other
large specialty booksellers and media corporations, many of which
possess significant brand awareness, sales volume and customer bases,
o major store-based retailers of toys, other children's products and
electronics,
o major store-based retailers of home improvement products,
o major store-based retailers of software and
o traditional retailers and manufacturers who currently sell, or who may
sell, products or services through the Internet, mail order or direct
marketing.
We believe that the principal competitive factors in our market are brand recognition, selection, personalized services, convenience, price, accessibility, customer service, quality of search tools, quality of editorial and other site content, and reliability and speed of fulfillment.
Many of our current and potential competitors have longer operating histories, larger customer bases, greater brand recognition and significantly greater financial, marketing and other resources than we have. They may be able to secure merchandise from vendors on more favorable terms and may be able to adopt more aggressive pricing or inventory policies. They also can devote more resources to technology development and marketing than we can. We also expect to experience increased competition from online commerce sites that provide goods and services at or near cost, relying on advertising revenues to achieve profitability.
As the online commerce market continues to grow, other companies may enter into business combinations or alliances that strengthen their competitive positions. For example, (1) Bertelsmann purchased a significant interest in Barnes & Noble's online venture, barnesandnoble.com inc., and has launched online stores in several countries, and (2) CDNow, Inc. agreed to merge with Columbia House, the jointly owned music retail arm of Sony and Time Warner. We may not be able to compete successfully against these and future competitors.
Competition in the Internet and online commerce markets probably will intensify. As various Internet market segments obtain large, loyal customer bases, participants in those segments may use their market power to expand into the markets in which we operate. In addition, new and expanded Web technologies may increase the competitive pressures on online retailers. For example, "shopping agent" technologies, including our own "shopping agent" technology, All Products Search, permit customers to quickly compare our prices with those of our competitors. This increased competition may reduce our operating margins, diminish our market share or impair the value of our brand.
System Risks
Customer access to our Web sites directly affects the volume of orders we fulfill and thus affects our revenues. We experience occasional system interruptions that make our Web sites unavailable or prevent us from efficiently fulfilling orders, which may reduce the volume of goods we sell and the attractiveness of our products and services. These interruptions will continue. We need to add additional software and hardware and upgrade our systems and network infrastructure to accommodate increased traffic on our Web sites, increased sales volume and fully integrate our systems. Without these upgrades, we may face additional system interruptions, slower response times, diminished customer service, impaired quality and speed of order fulfillment, and delays in our financial reporting. In addition, our inventory management systems are not fully integrated with our financial reporting systems, and a significant amount of manual effort may be necessary to reconcile our inventory and other financial accounts.
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accurately project the rate or timing of any increases in traffic or sales volume on our Web sites and, therefore, the integration and timing of these upgrades are uncertain.
We maintain substantially all of our computer and communications hardware at a single leased facility in Seattle, Washington. Our systems and operations could be damaged or interrupted by fire, flood, power loss, telecommunications failure, break-ins, earthquake and similar events. We do not have backup systems or a formal disaster recovery plan and we may not have sufficient business interruption insurance to compensate us for losses from a major interruption. Computer viruses, physical or electronic break-ins and similar disruptions could cause system interruptions, delays, and loss of critical data and could prevent us from providing services and accepting and fulfilling customer orders.
We May Have Difficulty Managing Our Growth
We have rapidly and significantly expanded our operations and will further expand our operations to address potential growth of our product and service offerings and customer base. We will expand our product and service offerings and our international operations and will pursue other market opportunities. We need to successfully execute our announced distribution center expansion plan and continue to improve our transaction-processing, operational and financial systems, procedures and controls. This expansion will continue to place a significant strain on our management, operational and financial resources. Our distribution center expansion plan may not be completed in time to meet the increase in demand expected for the holiday season in the fourth quarter. Because it is difficult to predict sales increases and lead times for developing distribution centers are long, we may over-expand our facilities, which may result in excess inventory, warehousing, fulfillment and distribution capacity. We will also need to retain flexibility within our distribution and logistics network, including the ability to manage the operational challenges of shipping non-uniform and sometimes heavy products as part of the fulfillment of toy, electronics and home improvement orders. We also need to expand, train and manage our employee base. Our current and planned personnel, systems, procedures and controls may not be adequate to support and effectively manage our future operations. We may not be able to hire, train, retain, motivate and manage required personnel or to successfully identify, manage and exploit market opportunities, which may limit our growth.
Risk of Entering New Business Areas
We intend to expand our operations by promoting new or complementary products, services or sales formats and by expanding our product or service offerings. This will require significant additional expense and could strain our management, financial and operational resources. We cannot expect to benefit in these new markets from the first-to-market advantage that we experienced in the online book market. Our gross margins in these new business areas may be lower than our existing business activities. We may not be able to expand our operations in a cost-effective or timely manner. Any new business that our customers do not receive favorably could damage our reputation and the Amazon.com brand.
Risk of Distribution Center Expansion
We are in the process of implementing our previously announced distribution center expansion plan. During the nine-month period ended September 30, 1999, we opened distribution centers in Nevada, Georgia, Kentucky, Kansas and North Dakota and announced plans to open new distribution centers in Kentucky, Germany and the United Kingdom. These distribution centers are or will be highly automated and we have no previous experience with automated distribution centers, as the two distribution centers in operation prior to 1999, in Washington and Delaware, were manually operated. The new distribution centers may fail to operate properly to ensure that customer demand is met, particularly during the fourth quarter of 1999.
If we do not successfully expand our distribution operations to accommodate peak volumes or if distribution centers fail to operate properly, it could significantly limit our ability to meet customer demand. Our distribution center expansion may cause disruptions in our business. We are not experienced in coordinating and managing distribution operations in geographically distant locations.
Risks Related to the Fourth Quarter
Because we expect a disproportionate amount of the our net sales to be realized during the holiday season in the fourth quarter of our fiscal year, we face significant risks in the fourth quarter. We may fail to accurately predict the optimal inventory levels at our distribution centers for the fourth quarter. If we do not sufficiently stock popular products during the fourth quarter and fail to meet customer demand, it could significantly impact our revenue. Because we have significantly increased inventory levels in anticipation of the fourth quarter, if we overstock products that are not popular with consumers we may be required to take significant inventory markdowns, most likely in the first quarter, which could reduce gross margins. A failure to optimize inventory at our distribution centers will negatively impact our shipping margins by requiring us to make partial shipments from two or more locations. In addition, we anticipate a negative impact on our shipping margins due to complimentary upgrades and split-shipments necessary to ensure timely delivery for the holiday season. Furthermore, if too many customers access our Web sites within a short period of time due to increased holiday demand, we may experience system interruptions that make our Web sites unavailable or prevent us from efficiently fulfilling orders, which may reduce the volume of goods we sell and the attractiveness of our products and services. Finally, our new automated distribution centers may fail to operate properly to ensure customer demand is met in the fourth quarter.
Risk of International Expansion
We plan to expand our presence in foreign markets. We have relatively little experience in purchasing, marketing and distributing products or services for these markets and may not benefit from any first-to-market advantages. It will be costly to establish international facilities and operations, promote our brand internationally, and develop localized Web sites and stores and other systems. We may not succeed in our efforts in these countries. If revenues from international activities do not offset the expense of establishing and maintaining foreign operations, our business, prospects, financial condition and operating results will suffer.
As the international online commerce market continues to grow, competition in this market will likely intensify. In addition, governments in foreign jurisdictions may regulate Internet or other online services in such areas as content, privacy, network security, encryption or distribution. This may affect our ability to conduct business internationally.
Risks of Business Combinations and Strategic Alliances
We plan to continue to expand our operations and market presence by entering into business combinations, investments, joint ventures or other strategic alliances with other companies. These transactions create risks such as:
o difficulty assimilating the operations, technology and personnel of the
combined companies,
o disruption of our ongoing business,
o problems retaining key technical and managerial personnel,
o expenses associated with amortization of goodwill and other purchased
intangible assets,
o additional operating losses and expenses of acquired businesses, and
o impairment of relationships with existing employees, customers and
business partners.
We may not succeed in addressing these risks. In addition, the businesses we have acquired, and in the future may acquire, may incur operating losses.
Rapid Technological Change
Technology in the online commerce industry changes rapidly. Customer functionality requirements and preferences also change. Competitors often introduce new products and services with new technologies. These changes and the emergence of new industry standards and practices could render our existing Web sites and proprietary technology obsolete. To succeed we must enhance our Web site responsiveness, functionality and features, acquire and license leading technologies, enhance our existing services, develop new services and technology and respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis. We may not be able to adapt quickly enough to changing customer requirements and industry standards.
We Depend on Key Personnel
We depend on the continued services and performance of our senior management and other key personnel, particularly Jeffrey P. Bezos, our chief executive officer and chairman of the board. We do not have "key person" life insurance policies. The loss of any of our executive officers or other key employees could harm our business.
We Rely on a Small Number of Suppliers
We purchase a majority of our book, music, and video titles from three major vendors, Ingram Book Group, Baker & Taylor, Inc. and Valley Media, Inc. Although we increased our direct purchasing from manufacturers during 1999, we continue to purchase a majority of our book, music, and video titles from these three suppliers. We do not have long-term contracts or arrangements with most of our vendors to guarantee the availability of merchandise, particular payment terms or the extension of credit limits. Our current vendors may stop selling merchandise to us on acceptable terms. We may not be able to acquire merchandise from other suppliers in a timely and efficient manner and on acceptable terms.
We Face Inventory and Forecasting Risk with our Toy, Electronics, Home Improvement and Software Businesses
The toy, electronics, home improvement and software businesses are difficult to manage and have inherent complexities that differ from those encountered in the book, music, and video businesses. Because we are a new participant in these markets, we do not yet have a basis to forecast product demand. Further, the acquisition of many of the toy, electronics, home improvement and software products that we offer involves a significant lead-time and up-front financial commitment.
We will be exposed to significant inventory risks as a result of seasonality and rapid changes in product cycles, consumer tastes and "fads" in the market for such products. In order to achieve success in our toy, electronics, home improvement and software sales categories, we must seek to predict these trends and attempt neither to overstock unpopular nor understock popular products. The demand for products can change between the time they are ordered and the date of eventual sale. We will be particularly exposed to this risk in the first year of operations in our toy, electronics, home improvement and software businesses, particularly in anticipation of the holiday selling season.
Our ability to negotiate satisfactory terms with manufacturers or suppliers so that we might stock certain "preferred" products or brands in the toy, electronics, home improvement and software businesses may be affected by our time of entry in such lines of business and the competitive positions of other physical stores and catalog and online retailers.
In order to provide customers with a high quality experience and minimize the risk of stocking-out, we will carry a broad selection and significant inventory levels of toy, electronics, home improvement and software products. In the event that one or more of these products do not sell through in sufficient quantities to consumers at anticipated prices or during anticipated selling seasons, we may be required to markdown some of our prices or write down inventory, which will reduce our revenues and gross margins.
We Are Highly Leveraged
We have significant indebtedness. As of September 30, 1999, we had indebtedness under senior discount notes, convertible subordinated notes, capitalized lease obligations and other asset financing totaling approximately $1.5 billion. We may incur substantial additional debt in the future. Our indebtedness could:
o make it difficult to make principal and interest payments on the
convertible subordinated notes and the senior discount notes,
o make it difficult to obtain necessary financing for working capital,
capital expenditures, debt service requirements or other purposes,
o limit our flexibility in planning for, or reacting to, changes in our
business and competition, and
o make it more difficult for us to react in the event of an economic
downturn.
We may not be able to meet our debt service obligations. If our cash flow is inadequate to meet our obligations, we may face substantial liquidity problems. If we are unable to generate sufficient cash flow or obtain funds for required payments, or if we fail to comply with other covenants in our indebtedness, we will be in default. This would permit our creditors to accelerate the maturity of our indebtedness.
Risks Associated With Domain Names
We hold rights to various Web domain names, including "Amazon.com," "Amazon.co.uk," "Amazon.de" and "zShops.com." Governmental agencies typically regulate domain names. These regulations are subject to change. We may not be able to acquire or maintain appropriate domain names in all countries in which we do business. Furthermore, regulations governing domain names may not protect our trademarks and similar proprietary rights. We may be unable to prevent third parties from acquiring domain names that are similar to, infringe upon or diminish the value of our trademarks and other proprietary rights.
Governmental Regulation and Legal Uncertainties
At this time, we face general business regulations and laws or regulations regarding taxation and access to online commerce. For example, expanding our distribution center network or other aspects of our business may result in additional sales and other tax obligations. Regulatory authorities may adopt specific laws and regulations governing the Internet or online commerce. These regulations may cover taxation, user privacy, pricing, content, copyrights, distribution, electronic contracts and characteristics and quality of products and services. Changes in consumer protection laws also may impose additional burdens on companies conducting business online. In addition, many states currently regulate "auctions" and "auctioneers" in conducting auctions and may regulate online auction services. These laws or regulations may impede the growth of the Internet or other online services. States may also regulate consumer to consumer fixed price online markets, like zShops. This could, in turn, diminish the demand for our products and services and increase our cost of doing business. Moreover, it is not clear how existing laws governing issues such as property ownership, sales and other taxes, libel and personal privacy apply to the Internet and online commerce. Unfavorable resolution of these issues may harm our business.
Risks Related to Auction and zShops Services
We may be unable to prevent users of our auction and zShops services from selling unlawful goods, or from selling goods in an unlawful manner. We may face civil or criminal liability for unlawful and fraudulent activities by our auction and zShops users. Any costs we incur as a result of liability relating to the sale of unlawful goods, the unlawful sale of goods, the fraudulent receipt of goods or the fraudulent collection of payments, could harm our business.
In running our auction and zShops services, we rely on sellers of goods to make accurate representations and provide reliable delivery and on buyers to pay the agreed purchase price. For our auction and zShops services, we do not take responsibility for delivery of payment or goods to any users of our services. While we can suspend or terminate the accounts of users of auctions or zShops who fail to fulfill their delivery obligations to other users, we cannot require users to make payments or deliver goods. We do not compensate users who believe they have been defrauded by other users except through our guarantee program. In addition, we are aware that governmental agencies are currently investigating the conduct of online auctions.
Risks Related to Fraud and Amazon.com Payments
Although we have developed systems and processes to mitigate fraudulent credit card transactions, failure to prevent such fraud may impact our financial results. In addition, fraudulent activities by our auction and zShops users, such as the fraudulent receipt of goods and the fraudulent collection of payments, may create liability for us through our guarantee program. We guarantee payments made through Amazon.com Payments for both buyers and sellers and we may be unable to prevent users of Amazon.com Payments from fraudulently receiving goods when no payment will be made to a seller or fraudulently collecting payments when no goods will be shipped to a buyer. The law relating to the liability of providers of online payment services is currently unsettled. Our liability risk will increase as we encourage or require sellers to use Amazon.com Payments. Any costs we incur as a result of liability because of our guarantee of payments made through Amazon.com Payments could harm our business. In addition, the functionality of Amazon.com Payments depends on certain third-party vendors delivering services. If these vendors are unable or unwilling to provide services, Amazon.com Payments will not be viable (and our businesses that use Amazon.com Payments may not be viable).
Risk of Uncertain Protection of Intellectual Property
Third parties that license our proprietary rights, such as trademarks, patented technology or copyrighted material, may take actions that diminish the value of our proprietary rights or reputation. In addition, the steps we take to protect our proprietary rights may not be adequate and third parties may infringe or misappropriate our copyrights, trademarks, trade dress, patents and similar proprietary rights. Other parties may claim that we infringed their proprietary rights. We have been subject to claims, and expect to continue to be subject to legal proceedings and claims, regarding alleged infringement by our licensees and us of the trademarks and other intellectual property rights of third parties. Such claims, whether or not meritorious, may result in the expenditure of significant financial and managerial resources.
Risks of Year 2000 Noncompliance
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Our Stock Price Is Highly Volatile
The trading price of our common stock fluctuates significantly. For example, during the 52-week period ended September 30, 1999 (as adjusted for the 3-for-1 split of our common stock on January 4, 1999 and the 2-for-1 split of our common stock on September 1, 1999), the reported closing price of our common stock on the NASDAQ National Market was as high as $105.0625 and as low as $42.75 per share. Trading prices of our common stock may fluctuate in response to a number of events and factors, such as:
o quarterly variations in operating results,
o announcements of innovations,
o new products, services and strategic developments by us or our
competitors, or business combinations and investments by us or our
competitors,
o changes in our operating expense levels or losses,
o changes in financial estimates and recommendations by securities
analysts,
o performance by other online commerce companies, and
o news reports relating to trends in the Internet, book, music, video,
toys, electronics, home improvement products, software, auctions,
consumer to consumer fixed price online markets, or other product or
service industries.
Any of these events may cause our stock price to fall, which may adversely affect our business and financing opportunities. In addition, the stock market in general and the market prices for Internet-related companies in particular have experienced significant volatility that often has been unrelated to such companies' operating performance. These broad market and industry fluctuations may adversely affect the trading price of our common stock regardless of our operating performance.