Amazon Is a Canary in the Coal Mine for Profitless E-Commerce Stocks

Amazon‘s (AMZN -2.22%) first-quarter report made a few things crystal clear about the e-commerce industry. For starters, demand is basically at a standstill. Paid units, which includes items sold by Amazon and those sold by third parties on Amazon’s marketplace, were flat compared to the prior-year period. Online store revenue dropped 3%, and revenue from third-party seller services grew by just 7%.

While demand is flatlining, costs are not. Shipping costs still rose 14% year over year for Amazon, and operating income was more than cut in half. Amazon’s vast fleet of warehouses, distribution centers, trucks, and planes are no match for rising costs across the supply chain.

This is a huge problem for every e-commerce company that’s not Amazon

Amazon is a behemoth, and it will be able to wring out costs and boost productivity as it slows its pace of growth to better match demand. Other e-commerce companies that don’t have the same benefits are in for a rough ride.

Take furniture seller Wayfair (W -3.64%). Wayfair started feeling the pain of slumping consumer demand late last year; fourth-quarter revenue tumbled more than 11%. Booming demand during the pandemic helped the company turn a profit in 2020, but that brief period of black ink is now over. Wayfair posted a net loss of $202 million on $3.25 billion of revenue in the fourth quarter.

Wayfair has made some investments in logistics, but as Amazon’s earnings report showed, that’s not enough to escape rising costs. Wayfair’s gross margin dropped two percentage points in the fourth quarter to 27.2%, and the company expects a lower gross margin to be the norm for the time being. Analysts are expecting essentially flat sales for Wayfair this year, although that may prove optimistic considering Amazon’s report.

Pet products seller Chewy (CHWY -1.02%) is another e-commerce company that’s likely to face some serious headwinds. People were eager to adopt pets during the pandemic, but that trend will probably ease as the financial burden of a pet runs into a weakening economic environment. It also doesn’t help that a big part of Chewy’s business is shipping heavy bags of pet food.

Chewy managed to grow revenue by 17% in the fourth quarter to $2.39 billion, but gross margin dropped, and the company posted a substantial loss. Like Wayfair, soaring pandemic demand temporarily allowed Chewy to produce a profit. That’s no longer the case. Analysts are expecting 17% revenue growth from Chewy this year, at the cost of a much larger net loss than last year.

Packages on a conveyer belt.

Image source: Getty Images.

Bet on big-box retail instead

Companies like Wayfair and Chewy have no choice but to absorb the rising costs of shipping products to customers’ doors. Their business models are centered around convenience, and convenience is getting more expensive.

The best bet in retail right now might be a traditional retailer like Target (TGT -0.76%). Yes, part of Target’s growth story over the past few years has been e-commerce, but the company has far more flexibility than pure-play e-commerce companies. Target can ship products directly from its stores, minimizing shipping costs as much as possible and utilizing assets it already has, and it can offer curbside pickup and eliminate shipping costs altogether.

Target is still subject to rising costs involved in getting products to its stores in the first place, so the company isn’t completely out of the woods. But flexibility is worth a lot in this environment, and the investments Target has made in its digital business over the past few years have delivered exactly that.

E-commerce stocks have been hammered over the past few months, and Amazon’s rough earnings report isn’t going to help. A combination of slowing demand and rising costs is toxic for companies like Wayfair and Chewy. Ironically, it’s the traditional retailers that these e-commerce companies were aiming to disrupt that are in far better positions to weather this storm.