The company that people associate most with the incredible rise of online shopping wants to turn the retail industry upside down once again.
In this episode of
Also, the hosts take a look at the upcoming launch of DirecTV Now, the state of competing over-the-top television services, and how an AT&T (NYSE: T) and Time Warner (NYSE: TWX) merger (and other deals like it) might affect cable channels in the future.
A full transcript follows the video.
This podcast was recorded on Nov. 8, 2016.
Vincent Shen: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. It's Tuesday, November 8th, and I am your host, Vincent Shen. A nice surprise for this week -- joining me in studio today is Fool.com contributor Dan Kline. How are you doing, Dan?
Dan Kline: Very nice to be here, Vince! Thank you.
Shen: Correct me if I'm wrong -- this is your first time shooting in studio for Industry Focus, right?
Kline: Yes, absolutely.
Shen: How do you feel so far?
Kline: It's different. Usually I can't see you, which is a little bit harder to do. If anybody has watched these and sees me looking off in a weird direction, it's because I did not have a video feed when I'm at home doing these.
Shen: Yeah, I have to say, Sean, who does the energy show on Thursdays usually, with Motley Fool analyst, Taylor Muckerman, I'm very jealous of the fact that they always have two people in studio, riff off each other. It's a lot harder to do that when we're beaming in via Skype.
Kline: We'll try to make it a habit every now and then.
Shen: Yes, absolutely. We're covering a few different topics today. First one is the new release coming from DirecTV, which is their DirecTV Now service. Some details have leaked out, in terms of pricing, some of the channels that are available, how it will work. Can you give us a few details on that?
Kline: It's all a little bit sketchy, but it feels like it's between what Dish is doing with Sling. Sling is basically 20 channels for $20, and you can add $5 add-on packs. It's a little more than that now, but it's roughly that. Sony, which has pretty much a cable-like product starting at $39.99, going up to about $59-$69. It appears it's going to be about $35 for the basic AT&T DirecTV package, but we don't know what you're going to get. We figure you're going to get some of the channels you want. ESPN, TNT, TBS, CNN, and then you'll be able to add on other ones. So, it's kind of a mid-price product, and it's clearly a cord-cutter product. But I go back to what we talked about a lot. I still don't see who this is for. It's not that much cheaper than cable, and it's a lot less convenient.
Shen: I know that some of the initial reports indicate a package of as many as 100 channels, but that's not really what you're getting for $35, right?
Kline: Right, the 100 are going to be if you add on all the different add-on packs. I had a Dish subscription where I bought everything -- well, maybe not quite everything (I didn't get the Spanish language channels), but everything in a language I speak. And it cost maybe $60. You add HBO, and you're at $75. So, you're not that different from the roughly $106 or something that average cable bills come out at. So, this is a case of, if you are a cord-cutter who wants access to certain programming, you can get it, but it's not going to be the cheapest service. It's sort of a middling service, and local channels are going to be very sparse. There are some local market deals, just like Sony has, where maybe in New York you can get NBC, and in Los Angeles you can get Fox. Even then, there's a lot of restrictions on what programming you get -- like, maybe you don't get NFL games, or maybe local something is locked out.
Shen: From my understanding, a lot of these services, as you mentioned, in terms of those major local networks, thinking about CBS and NBC, ABC, it does kind of depend on what market you're in. Sometimes, if you're in a larger metropolitan area, you might get them, but otherwise...
Kline: In a lot of cases -- like with the Sony offering -- you get access to, let's say, NBC. I believe NBC is a partner. You get access to their prime-time shows, but you could get those through other means -- at least eventually. What you don't get is the local news. So you're still missing out on the weather. Not that you can't get the weather other places, but school closings, and some of the things that make a local TV convenient. Nobody has figured out how to put that into a digital package yet.
Shen: Sure. Another question, and another view into some of these services, the fact that with this DirecTV Now package, they can deliver some of the live content that maybe a lot of current viewers who are still attached to their linear cable packages have been hesitant to give up because of that live content. Do you think that is a differentiator? Or is that something that, again, is just not maybe enough of the value compared to that basic cable package?
Kline: This is a me-too product. Every cable operator has some sort of skinny bundle, digital streaming product, somewhere in the works. Maybe somebody doesn't, but most of them do. What hasn't been shown is consumer demand. It seems logical that a younger person who has never paid for cable, or a family that goes, "Oh my god, my bill is too big," would say, "I want to spend $35 and get my favorites out of here." The problem is -- and I've written about this for families -- as a family, I have a wife and a child, and we all watch different things. So, I can't get the $20 Sling TV. I have to get everything they offer. It's going to be the same thing with this. So, as one person, or just you and your wife, this might make sense, especially if you don't have cable, and you want to watch basketball on TBS, and your wife wants to watch a couple of other shows. But these seem to me like very niche products, and they're being developed for market that has not proven to exist yet.
Shen: OK. Last question, and it's relevant to the very big announcement that AT&T had recently, regarding its $85 billion acquisition of Time Warner. How do you think, assuming that deal goes through and makes it through the regulatory hurdles, how does that play into this, in terms of their ability to offer some of that exclusive content from Time Warner? They have a pretty good portfolio, powerful networks and content.
Kline: I think the reality is, you can't make that much exclusive. Maybe you could take a specific artist you have under contract, and say, "We get a 90-day window on this." But it's not like you can take a cable network and say, "We're not going to sell it to the other 95 million cable homes." AT&T already has some of its own networks. It has the audience network, which has Dan Patrick and a couple of other shows. And it's nothing that would change your mind on getting a subscription. So, I think there's an advantage in that they can make favored nation deals for what they pay themselves, but probably a condition of that merger getting approved is that they don't do that, that if they're only going to charge themselves $1 for the channel for a digital subscriber, they're going to have to offer the same terms to Dish. They're not going to let AT&T-Time Warner strangle Sony, and Dish, and whoever else is coming down the pike.
Shen: My last question -- and this has to do with the bigger-picture view of this industry and where some of these packages and services are going. There was a Comcast-NBCUniversal deal. Now there's this potential AT&T-Time Warner deal. Do you feel like the fact that the distributors and the content creators coming together is eventually going to give them the ability to offer some of the a-la-carte packages that so many consumers have been begging for at this point?
Kline: I think we're going to see a lot of things go out of business. In the skinny bundle world, let's pretend I watch The Cooking Network, and maybe 200,000 people at prime time are watching it. But I'm not going to pay $6 a month to watch it. If you don't have to pay your $0.0005, or whatever the carriage fee is, to get it and not watch it, it's just going to go away. So yes, you might see some exclusive, really interesting content. But I think you're going to see more of the other edge as these things consolidate. Look at what's happening with ESPN. As less people subscribe, ESPN is going to spend less money on programming, or I'm going to pay more to get ESPN. At some point, they're going to lose some college deals, and things are going to spread out more. And it creates opportunity, but it's also going to put some stuff out of business.
Shen: OK, totally understood. For our next story, here, this news came out a week or two ago, and as additional details for the plans for the company we're speaking about, which is Amazon. It's with their physical stores that they seem to be interested in launching. I think they surprised a lot of investors and industry followers last year when they started dabbling, last year, in their first physical retail locations. The thing is, the company often tests and experiments with these new ideas in its home city of Seattle. First it was bookstores. The company has now launched small pop-up stores, think mall kiosks, several hundred square feet of retail space. Not very big, but enough to feature things like its Kindles, its Amazon Echo speaker.
So, a lot of these locations, it appears, have resonated with consumers. The company might be expanding that, and those efforts, during the holiday shopping season. But I think the bigger potential impact for the company, for its revenue, for its top line and bottom line, seems to be with groceries. This potential test they're doing with 20 grocery stores in cities like Seattle, Las Vegas, New York, Miami, and San Francisco -- it's called Project Como. What do you think?
Kline: It's peculiar to me. I understood the logic of launching stores where I sell you a Kindle or an Echo, because when you buy a Kindle, or Fire TV, or whatever it is, I then have a pathway into your living room. So, I can run that store at a loss, but I'm making money off of you buying content for the rest of time, or at least for a few years, until you have to throw the device away. Going into the small grocery store -- and these are going to be interesting models where you can order online and pick up, and maybe select some produce, and pick your fish, but not have to pick your cereal -- it's all, frankly, models that consumers have rejected, in terms of 10,000 different grocery delivery start-ups that have gone out of business.
I get it -- the goal is to build the distribution network, to make it more logical for Amazon to have a warehouse in your neighborhood. They're not just delivering to your house, they're also supplying this warehouse. They can move produce faster. But these are commodity items. It's not like Amazon can price broccoli dramatically better than Kroger can [laughs]. So, I don't see why I would go to it. Prime and getting deliveries to my house -- that makes sense to me. Having to show up to Amazon to get Lucky Charms, when they sell Lucky Charms at the Publix near my house -- it doesn't make sense.
Shen: I will counter that, to an extent, just to give some additional detail on what Amazon is looking at. The company is going to be testing a ton of different store formats. Some of the details that we do have: Some locations might be around 30,000 square feet, which is just a little smaller than you would see in your typical supermarket.
Kline: It's like a Whole Foods.
Shen: Exactly. Those would be the larger establishments. Then, they would have small convenience-store setups, and some of these pickup-focused locations that would be 10,000 square feet. Another caveat for access and the market size for this opportunity is, The Wall Street Journal is reporting that for initial testing of these locations, they will actually be exclusive, potentially, to current AmazonFresh members. So, recently, it seems like the company has seen a little bit more success in terms of profitability with that. They've lowered the price from $300 a year to about $15 a month. That has been encouraging for the company. What do you think about the potential exclusivity?
Kline: It becomes a bit of a Costco model. We've talked about this a hundred times -- Costco makes roughly 75% of its revenue from membership fees, so it encourages you, whether it's Prime, or Fresh, or whatever Amazon calls the membership, it gives you more incentive to join, which has been a driver for sales. I see the logic of that. But 2,000 stores built around groceries? If they targeted to the market, and they said, "This store is going to have groceries, this one is going to sell products, this one's going to have books..." But, it seems like a very specific offering.
We just did a story that the overrun between Amazon and Costco is really high. A lot of people have memberships to both. So, once again, I don't know. You have the bottom-line numbers. It's not that big of a revenue swing for the company.
Shen: Just to give everybody a little bit of details, you mentioned 2,000 locations -- based on the current planning, if the tests are successful, the company sees...
Kline: And this is wildly speculative, in terms of where we are.
Shen: Yeah. The company sees a potential rollout of 200 store openings per year, eventually reaching that network of 2,000 locations that you mentioned. Again, you touched on this earlier: The idea is they get supply through some of the innovation they've seen in the distribution centers, the expansion of that network. The company is constantly perfecting that part of the logistics.
Kline: Everything they do makes the math better on their distribution network. So, they can use one warehouse to supply trucks, drones, grocery stores, blimps that throw fruit at you, whatever it is. Obviously, everything costs less.
Shen: The thing is, the size of the opportunity, if they were actually able to get it out to that kind of scale, thousands of locations, it is sizable in the fact that the grocery business makes up about 20% of consumer spending in this country. It's like an $800 billion industry -- pretty large. Right now, with their current Fresh model with the delivery, that's like a sliver, like 2% of that market.
Kline: Do you do the grocery shopping in your house?
Shen: My wife and I do it together.
Kline: Do you go to the grocery store?
Shen: Yes, we absolutely go to the grocery store, because we prefer that experience, being able to pick our produce and things like that.
Kline: My wife and I split the shopping, and we go to two different grocery stores: the one that's closest to our house, and the Whole Foods that's second closest. If an Amazon opened, even though I'm a devoted -- I buy from Amazon almost every day, I have an Echo, I use a Kindle, I have Fire TV -- if Amazon opens half a mile down the road from Whole Foods, I would go there twice a year as a novelty.
Kline: I think that's the model for grocery stores. Unless you can be an Aldi, or something that's a really different shopping experience, am I really going to drive farther?
Shen: Yeah, but isn't the potential there, if there's a company that can really gather the data on what people want, and potentially curate the product offerings so people are like, "This is really a place I want to go; it has everything I need."
Kline: Amazon does have patents on knowing what you're going to order before you've ordered it. You've already picked your Christmas gift -- I don't even have to order it.
Shen: I have an interesting excerpt, here. GeekWire managed to get ahold of planning documents. They describe how one of these new retail operations might operate. I think it's really interesting, I want to share it with the listeners.
It says, "When placing an online order, customers will schedule a specific 15-minute to two-hour pick up window. Peak time slots will sell out, which will help manage traffic flow within the customer parking adjacent to the building. When picking up purchased items, customers can either drive into a designated parking area with eight parking stalls where the purchased items will be delivered to their cars or they can walk into the retail area to pick up their items. Customers will also be able to walk into the retail room to place orders on a tablet. Walk in customers will have their products delivered to them in the retail room." So, a lot of different options there.
Kline: I mean, it's very smart, but there's a lot of customer education.
Shen: This kind of reminds me, frankly -- maybe not the pick-up aspect, but the tablet order, for example -- of the new small-format stores that Whole Foods have launched with their 365. They've integrated a lot of technology into those locations. In terms of the handful of locations that are currently open, it seems like early results are quite positive. So, maybe that is a proof of concept, to an extent, for what Amazon sees, here.
Kline: It is. And McDonald's has had great success in Europe moving to a tablet ordering model. It does take people out of the equation, so these become cheaper stores to run. If you can manage the parking lot, you don't need as big of a parking lot, so your rent becomes lower. So in theory, you start to have significantly less overhead, and maybe you can put that into pricing. But, once again, it's solving a problem that might not be there. It's not that hard to get groceries. Non-perishables, Amazon can deliver me. I don't know that I want to get my produce or my meat without touching it or looking at it. And we've seen a lot of rejection of that model. So, I get it, New York, Seattle, there are going to be markets where convenience is key. But in suburbia, where people are already driving to places, it just seems like a very niche focus. And a 30,000-square-foot store is not a small store. These are not 1,500 square foot hyper-focused warehouses. They're still pretty big footprints.
Shen: Yeah, that requires a lot of planning, in terms of finding the right locations. It's expensive to develop larger stores.
Kline: They have picked a good time to be in the real estate business. There are a lot of Sears that are now available. [laughs]
Shen: [laughs] True. So, a somewhat related topic around in-store pickup, and how some of the more traditional big-box retailers are leveraging this, I want to touch on this, again, related to the growing popularity of this delivery method for customers.
About 20% of Americans, in a PwC survey, say they use in-store pickup on a regular basis, which really surprised me. About half of the survey respondents use in-store pickup occasionally. So, some of these traditional big-box retailers -- think Wal-Mart, think Target -- they have to deal with a lot of the challenges of integrating ship to store, in-store pickup capabilities into their established retail layouts. So, thinking of, how you optimize your staffing, how you store your inventory, how you separate your work spaces. But, I would argue that Amazon has an advantage, here, in that they're building their stores around this concept.
Kline: They are. The chief person for this is either the person who feels their product is going to get stolen if it's delivered to their door, or, in the case of where I've used pick-up in-store at Target, when my wife wanted to pick up the sheets at our vacation condo, but have me pick them up. So, she ordered them in Connecticut, I picked them up in Florida, same day.
Now, what Target's doing to facilitate this is, they're going to have dedicated personnel, at least for the holiday season, devoted to doing this, because the problem with pickup in-store has been, it's a bit like when you go to Panera Bread and they have the Order Ahead, yet no two stores do it the same way, and you never know where your bagel is [laughs]. So, you walk into Target, and basically, you were a pioneer doing something that the person behind the counter didn't necessarily know the procedure for. Maybe it was in the layaway area, maybe it was in the set-aside area, maybe they had to go pick it off the store shelves. So, absolutely, they have stepped up how they do this, but I do think it's something that...the holiday season, it makes a lot of sense. You need things faster, you want gifts when you want them. If it's the hot TV, you want to make sure you have already ordered it so you don't go to the store and have it be out. But is there really a huge demand for this in August?
Shen: OK. So, you mentioned some of the potential top- and bottom-line impact. Jeremy Bowman, one of our Fool.com contributors, he has a really interesting piece on some of these developments that we've discussed at Amazon. He dug a little deeper into the numbers to estimate what the potential financial impact a 2,000 store network could have for the company. He uses some comparable metrics and numbers from leading grocery chain Kroger. The idea is, 2,000 locations, assuming about 30,000 square feet of retail space, and what Kroger can generate per square foot, currently, in sales -- it's about $40 billion of grocery revenue. So, I think, in the last 12 months, Amazon has had about $120 billion in revenue. So, that's significant. Granted, this would be over many, many years in order to get to that.
Kline: And what's the margin on that?
Shen: Exactly. That's, I think, the point that Jeremy really hits -- significant addition to the top line, but in terms of those razor-thin margins, think 2%-3% for the grocery industry overall. That's adding less than $1 billion to the bottom line while using those benchmark figures. So, you see, it is not going to be this huge profit driver for the company. But, even if it doesn't scale to that thousands of locations, it's just part of Bezos' strategy to get Amazon to be a bigger and bigger part of your life.
Kline: The question comes down to, how can they leverage their user base? I'm a Prime member, so [are] about 25% of all Americans. If they can message to me and get me into that store, where perhaps I'm going to pick up my groceries, maybe I'm going to get a new Kindle, and maybe they can sign me up for an AWS account, all at the same time, while providing the ability to return without putting it in a box. If they can leverage all of those things, I see convenience. But that's not cheap. One of the reasons Amazon is cheaper is, they don't have the customer service expense of a physical store, because it's all automated. If you want to do a return, you click return and it sends you a shipping label, and you send it back, and a robot puts it away. So, I can see how it would work, but it does seem like a lot of effort for nothing. I would rather see 2,000 bookstores.
Shen: OK. I think that's all the time we have for today, but thanks a lot for joining me today, Dan, it's awesome having you in studio.
Kline: Great to be here.
Shen: You can continue the conversation with us and the rest of the Industry Focus crew on Twitter @MFIndustryFocus, and you can send us any questions or comments via email to
John Mackey, co-CEO of Whole Foods Market, is a member of The Motley Fool's board of directors.