Copyright 2012 by John T. Reed

In a number of media articles, I have condemned Internet companies that have no business model that makes sense, citing in particular Amazon, Facebook, and Groupon.

Here are links to those articles:

Generally, recent media stories have to an extent proven that or raised similar or the same questions that I raised.


Groupon, which has a music major boy genius CEO/founder, after rejecting a $6 billion offer from Google, which I said was stupid at the time, now has a post-IPO market capitalization (total number of shares multiplied by current share price) of about $3 billion. Plus, Groupon seems to be in constant trouble for trying to mislead the market. My complaint about them was simply that their business model—helping small local businesses give away coupons with big discounts—is an ancient marketing technique except for their use of email rather than newspapers or flyers.

The main issue is Groupon has no patent, copyright, or secret formula to stop other companies from simply doing the same thing. Also, the novelty of it wore off. Merchants found that the new customers from the coupons tended not to become regular customers. And, as I pointed out, Groupon is in the spam business which is increasingly being more regulated, banned, and effectively screened out by various email programs.


Similarly, Facebook has no viable business model. They have no patent, copyright, or secret formula. Contrast Facebook with Coca Cola or Google. Each of those has a secret recipe, in Google’s case, a proprietary search algorithm.

I recently saw Internet companies being discussed on Fox Business by a panel of experts. One was asked why he left Facebook out of his discussion. “I can’t figure out what their business model is,” he said.

Me neither.

Do I use it? Yep, along with Linkedin and Twitter.

What’s wrong with their business model? It’s a free service. That’s not a business. It’s a charity.

Yes, they are trying to sell ads, but not very successfully. They are in constant trouble for violating privacy. Indeed, one article I saw said violating people’s privacy IS Facebook’s business model. Another guy said if you are at a web site that is a business and you cannot figure out what product they are selling, YOU are the product. That is the case with Facebook. You are what Facebook is selling, more precisely, the information you divulge about yourself there that you would not divulge elsewhere, namely who your friends are and their contact information, plus stuff like your “relationship status,” where you went to school, what you do for a living, and so on.

Facebook’s market cap has also fallen by about half since it went public on May 18, 2012. It seems to have about all the users it can get in the U.S. and is growing only overseas but will soon have gotten about all the users it could get there, too. Furthermore, foreign users are less valuable than U.S. users, especially in their current highest growth markets: third-world countries.

The world is moving to mobile. Facebook is set up for desktop. They are not finding it easy to move. Also, the world is moving to cell phone payments. Facebook is no pioneer in that.

They were the flavor of the year as a free fad service. They gross over a billion a year in revenue, but that is not the gross of a company worth its current market cap of $44 billion.

Facebook stock has a 113.77 price/earnings ratio. Nuts.

Google has a 19.82 price/earnings ratio. Normal.

The market is saying a dollar of Facebook profit is worth about six times as much as a dollar of Google profit. I’d like to hear why. Google is a real company with a secret recipe and a massive competitive advantage in server manufacturing and installed equipment. It has learned how to profit from its users. Facebook is just a popular free service that has lots of freeloaders. Big does not equal profit or stock price increase.


Then there’s Amazon. They also have no business model. No copyright, in contrast to companies like Microsoft or Apple. No secret formula, and only a few patents that are not key to their business or especially valuable to anyone.

They are essentially an old-time direct-mail company. You order something and they mail it to you. True, they use the Internet to receive the order, but so what? That is not a business model any more than Sears Roebuck starting to take phone orders when the phone became widespread was a business model.

They used to have a big advantage in not charging sales tax in most states. They should have originally located in a no-sales-tax state like Oregon so they could never charge sales tax. Lately I have been reading that they are having to pay sales tax in more and more states because they are building warehouse there.

Why, I wondered, would they build more than one warehouse in one no-sales-tax state?

I have since read Amazon wants to offer same day-delivery to put even more stores out of business.

Say what!?

That’s sounds like the world’s dumbest idea. Same day delivery requires that you have a warehouse containing each of your products within about a half day’s drive of every home in America. So how many warehouses is that? 40? That would mean you would have to have each product in some quantity at 40 different locations at a minimum. Who pays to ship them from the manufacturers to those 40 locations? Manufacturers are used to shipping to one location per customer. I am a manufacturer. When I was in the book stores, I shipped my books from the printer to PGW in Hayward, CA. They then shipped them to distributors like Ingram and Amazon who shipped them to book stores all over the U.S. That’s an awful lot of packing and shipping and repacking and reshipping. Stupid. And Amazon is going to make it worse by having 40 warehouses all over.

And Amazon has been the leader in pushing ebooks. Why would you need a warehouse to sell ebooks or music or videos? What is same-day delivery compared to instant delivery?

40 warehouses means 40 roofs, 40 warehouse managers, all sorts of duplication or 40-plication of everything. That costs a lot of money. How do you get customers to stay home waiting for their delivery? How is same-day delivery better than buy it at a local store? Is this seven-days-a-week same-day delivery? The stores are certainly open seven days a week.

Same-day delivery sounds like a pizza restaurant business model.

Amazon owns patents on Kindle. But I have said that ebook hardware will almost certainly become a commodity business like PCs. Indeed, today B&N announced it was cutting the prices on its Nook ebook readers. Ebook readers will be some cheap commodity made in Vietnam or somewhere else with super cheap labor.

Every time I write about Amazon, people say I’m wrong about their lack of a business model because the writer likes to buy stuff from them. Me, too. But not only is that not an indication necessarily of a well-run company. It may be, and is in this case, an indication of a company that sells dollar bills for 90¢ or a company that “buys the business” with ultra low prices and/or exceptional service which is nice if you are the customer but not if you are the shareholder.

For example, if you have $10,000, spend it on making a product and advertising it and delivering the products to the customers and when all is said and done you gross $10,000 in sales. You have “bought the business.” You would have been better off effor-t and time-wise if you had simply left the original $10,000 in the bank. The idea of investing $10,000 into a business is to get, say $11,000 or $12,000 or more back from the investment and effort. That is precisely what Amazon has never done.

Fundamentally, Amazon is a commodity middleman that uses the Internet to receive orders. Commodity businesses are only for the lowest cost producers. Can Amazon, a mere middleman, sell products at lower costs than others like the manufacturers themselves? By definition, no.

If that was their business model, they would need to operate out of the lowest cost location in America—one location, buy in huge quantities, and have a better customer list than anyone else. But they are so broad in what they sell now that their customer list is essentially the phone book of the entire nation. Everybody has a phone book. And an Internet connection. And a post office. Amazon has no economies of scale compared to manufacturers. They are not trusted more than the vast majority of the manufacturers whose products they sell. True, they have been around since 1994 and their founder is a billionaire. But they have no viable business model. They seem to continue only because a lot of their suppliers are mindlessly addicted to legacy distribution channels. One by one those manufacturers or new competitors of theirs will realize that they can simply imitate Dell computer and sell direct to users without stores or other distributors. Then who needs Amazon?

Amazon’s price/earnings ratio is 285.19. That means people will pay $285.19 to own a company that makes $1 per year off the use of their $285.19. That same amont of money in Google stock would buy you earnings of $285.19 ÷ 19.82 =$14.39 per year.

Fundamentally, the boy geniuses who created these three companies would be very poor if they did the exact same thing with their own money instead of stock market investors’ money. Then there would be no price/earnings ratio; only earnings. And if you earned this little money on such huge investments, your relatives would have a conservator appointed to handle your financial affairs.

John T. Reed