Amazon's B2B strategy. Is it coming after your business? Aivars Lode avantce

Amazon's Wholesale Slaughter: Jeff Bezos' $8 Trillion B2B Bet

This story appears in the May 26, 2014 issue of Forbes.

AmazonSupply chief Prentis Wilson. Photo: Rick Dahms for Forbes

Forget the delivery drones and TV deals. Jeff Bezos’ stealthy foray into the unsexy world of B2B distribution is likely his most disruptive move yet — and it has an $8 trillion swath of the economy running scared.

In recent months global Internet retail behemoth Amazon.com has green-lit six new original TV shows, announced an online streaming deal with HBO and tested same-day grocery delivery on the West Coast.

Up next? Possibly a smartphone. And, if billionaire CEO Jeff Bezos has his way, packages dropped off by unmanned drone.

But there’s one thing Bezos hasn’t been talking about: AmazonSupply, an e-commerce site targeting the unsexy but hugely lucrative wholesale and distribution market. His silence is especially surprising as the site has the potential to turn into the most important development in the company’s history since it started selling books. Yet Bezos has uttered only 28 words in public–ever–about AmazonSupply, describing it in passing as “an incredible category” during the company’s 2012 annual meeting.

“You can get industrial motors, flanges, valves, fasteners, materials, janitorial supplies,” he said. And that was it, before moving on to proudly tell shareholders that the world’s largest gummy bear, a 72-ounce sugary beast, was for sale on Amazon.com. Whether the lack of hype is a deliberate part of a stealthy rollout or Bezos just thinks selling rubber gloves to dentists lacks p.r. value, wholesalers are taking the threat seriously, and it’s easy to see why.

While U.S. retailers took in more than $4 trillion in revenues according to the most recent U.S. Census, wholesalers brought in $7.2 trillion selling everything from Bunsen burners to toner cartridges. Even better for Amazon: Of America’s 35,000 distributors, almost all are regional, family-run companies pulling in annual revenues of $50 million or less, and only 160 have more than $1 billion in sales annually. “The industry is largely ignored,” says Dirk Van Dongen, president of the National Association of Wholesaler-Distributors. “You can go your whole life without having a single thought about it.”

Amazon, meanwhile, booked more than $74 billion in revenues last year, selling everything from beds to server time with a viruslike strategy that values opportunity and disruption above short-term profitability. Almost identical to the company’s flagship website, albeit without ads for its ubiquitous Kindle e-readers, AmazonSupply.com launched quietly in April 2012 with 500,000 items for sale.

Two years later, with the site still officially in beta, that list of products has grown to more than 2.2 million–covering 17 product categories from tools and home improvement to janitorial supplies, stocking everything from 12-packs of Hawaiian Punch to schedule-40 stainless steel pipe. If 2.2 million products doesn’t sound like a staggering figure on its own, consider that the average wholesaler sells closer to 50,000 products online.

“The question is not whether AmazonSupply will be a threat,” says Richard Balaban, who has studied the site for management consulting firm Oliver Wyman. “Rather it is which customers, purchase occasions and categories will be attacked first.”

***

AmazonSupply’s genesis was in 2005, with Amazon’s acquisition of SmallParts.com, an online emporium that billed itself as “the hardware store for research & development.” The purchase price was never disclosed. “It was an opportunity for us to learn more about our business customers,” says Vice President of B2B and AmazonSupply Prentis Wilson. “As we evolved our selection, we launched AmazonSupply.”

He won’t say what Amazon is spending–and likely losing–on the venture, but overall the company, despite all those billions in revenue, estimates an operating loss of up to $455 million next quarter. This aversion to profits may be starting to turn off investors (the stock is down 9% since the announcement in April, though the market capitalization remains a staggering $142 billion), but it’s helped build a 125,000-employee logistics and data powerhouse that was able to process orders on 36.8 million items during peak Cyber Monday shopping last Christmas season–a staggering 426 items per second to 185 countries.

As impressive: The company earned the top score among 230 of America’s biggest companies in the University of Michigan’s annual customer service satisfaction index and has placed in the top ten for years. “We are comfortable planting seeds and waiting for them to grow into trees,” Bezos told FORBES for a 2012 cover story. “We don’t focus on the optics of the next quarter; we focus on what is going to be good for customers.”

The development of Amazon Web Services, which Bezos launched in 2006, says a lot about Amazon’s likely ambitions for AmazonSupply. Having developed the computer infrastructure needed to run Amazon.com, Bezos set up a B2B division that allowed other companies to use Amazon’s excess computing power. Web Services now dominates the cloud computing industry, hosting customers from NASA to Pfizer and ringing up an estimated $3.2 billion in revenue last year, thanks to an even faster growth rate than Amazon’s main storefront.

“If you think about where they’re making their money right now, it’s not in shipping you and me Crest toothpaste,” says Bruce Cohen, a senior partner at management consultancy Kurt Salmon. “It’s in cloud computing. It’s these vast servers. They’re not making money on the sexy part of the business–streaming video or delivering us boxes of cool stuff.”

Wilson is Bezos’ wholesale czar. The chiseled, dark-haired 43-year-old joined Amazon in 2011 from Cisco Systems, where he was responsible for sourcing materials and overseeing suppliers at the networking and data center powerhouse. Now based in Seattle, Wilson oversees industrial and scientific supplies across the whole of Amazon, as well as this new business. He wouldn’t disclose how many Amazon employees are currently working solely for AmazonSupply, but scan the division’s recruiting website and you’ll see how lofty the e-tailer’s ambitions are for its wholesale business. Under the heading “Our goal is to supply everything needed to rebuild civilization,” some 40 jobs are listed, including software-development engineers and “brand specialists” who’ll be expected to become experts on the tools of the trade for one particular manufacturer, be it a maker of plumbing or office supplies.

It’s definitely on its way. Most of the scientific and industrial equipment AmazonSupply lists for sale, for instance–items like centrifuges, micrometers and air cylinders–would otherwise be available only from specialist distributors. But few can compete with its vast inventory, not to mention the easy-to-navigate website and 24-hour delivery, all longstanding hallmarks of Amazon’s appeal. “If you have a lab scientist, someone with a Ph.D., trying to find the next cancer drug in a capital-intensive lab, any time they spend trying to find a new product is expensive,” Wilson says.

Nor can small fry compete with AmazonSupply’s infrastructure and deep cache of consumer data. The company won’t disclose any details, saying only that AmazonSupply “utilizes all of Amazon’s fulfillment and logistics capabilities.” In the U.S. that’s a network of 40 U.S. fulfillment centers–and growing. And while retailers like Home Depot and Lowes (and Amazon in its earlier days) are loath to stock products that don’t sell quickly, to gain competitive advantage AmazonSupply, with its vast financial resources, has been more likely to take on inventory that won’t necessarily fly out the door. Industry experts estimate the company stocks more than 50% of what it offers on the site at any given time. “I encourage my clients to become third-party fulfillers to AmazonSupply,” says Dick Friedman, a consultant who helps traditional distributors develop strategies to compete with AmazonSupply. “Why not? The only trouble is if it sells well enough, AmazonSupply will stock it and cut the little guy out of the picture.”

“The challenge of distribution is to have orders big enough to make money,” says Scott Benfield, a B2B consultant who’s been following the wholesale and distribution game for 20 years. “It’s a very thin-margin business: 2% to 4% for traditional businesses in this sector.” Amazon’s scale is ideally suited to compete in this kind of high-volume, low-margin operation. A Boston Consulting Group study found AmazonSupply’s prices to be about 25% lower than the rest of the industry on common items.

To woo manufacturers the company has also built in the ability to show off products in Web videos, post downloadable CAD drawings and draw from user reviews. Buyers, from 3-D printing specialists to auto mechanics, avoid the human interactions–which can either be pesky or irreplaceable, depending on the rep–that remain a feature of most wholesale and distribution deals.

“It’s a very consistent message, versus 500 different sales reps,” says Wilson. He added that manufacturers have reported an uptick in sales of products that were not quite as popular before. “Just getting the product available on Amazon, people know it exists,” he says. “We aren’t afraid to put inventory on an item. That has a lot of value. It builds confidence.”

***

If there’s one company standing in Amazon’s way, it’s Chicago-based industrial supplies giant W.W. Grainger. With $9.4 billion in revenues it’s definitely the business to beat, controlling an estimated 6% of the entire B2B market. With a robust e-commerce operation dating back to 1995, its site is slick and user-friendly; it offers 24-hour delivery on most items, user reviews and suggestions based on your previous purchases and searches.

Grainger has been selling tools for maintenance and repair since 1927; since then business has grown to more than 700 regional sales branches and 33 distribution centers. It still makes much of its money offline. In 2013 its e-commerce sales surpassed $3 billion, representing 33% of the company’s total revenues.

Grainger and some of its specialty competitors–Cardinal Health, for example, in the area of medical supply–are well-established in the back offices of corporations and hospitals, where the business is deeply rooted in their processes. At the Nebraska Medical Center, for example, Cardinal picked up the initial tab for $4.5 million in inventory, freeing up financial resources for the hospital. Then it took over the center’s entire supply chain, from loading-dock workers and the accounts-payable department to administering all contracts with suppliers and tracking distribution from the truck to the bedside. Cardinal bills the hospital based on usage. “Companies have written over processes to them,” says Cohen. “Just as some organizations outsource their entire IT departments.”

But just a couple years into the game, AmazonSupply has already beaten Grainger in sheer volume of online inventory, with its 2.2 million products for sale dwarfing the latter’s 1.2 million. AmazonSupply may cut into Grainger’s high-volume, low-margin business if it hasn’t already. It’ll sell truckloads of beakers, for example, or copy paper. These are what the industry calls “replenishment items,” and they’re the lowest hanging fruit for Amazon. A pound of Gorilla Glue high-strength superglue costs $159 on AmazonSupply. On Grainger’s site the same bottle is priced at $173.25.

Grainger’s take on AmazonSupply? CEO Jim Ryan declined requests for an interview, but a spokesperson says: “While we don’t comment specifically on other companies, it’s important to note that Grainger’s multichannel business model and our target customers differ significantly from how online-only retailers serve the market.”

Not everyone buys Grainger’s nonchalance. “They’re planning, and they don’t want Amazon to know what they’re thinking,” says Barry Lawrence, program director of industrial distribution at Texas A&M University. He expects the company to make it easier to do business with Grainger through technology like mobile apps for purchasing managers and stronger loyalty programs–just like United Airlines uses frequent-flier programs to discourage you from using Expedia. “Grainger’s going to build some firewalls up against Amazon,” he says.

***

But that’s Grainger. For the rest of the 34,000-plus wholesalers and distributors with revenues and infrastructures who deal in millions, not billions of dollars in sales each year, the future competing with a fast-growing AmazonSupply could be bleak. Providing high-touch, value-added services to customers–the kinds of things humans attuned to their field excel at–is one defense.

And industry insiders seem to take some hope from the idea that Amazon can’t–and indeed won’t want to–tackle every customer’s needs in a complex, highly segmented part of the economy. Last year management consultancy firm Oliver Wyman studied Amazon’s encroachment into wholesale. Interviewing 25 CEOs of billion-dollar distribution businesses over the course of a few months, Wyman’s Balaban found that a third were skeptical that e-commerce competition will hurt their business in part “because their product is too difficult for a new entrant like Amazon to warehouse and ship.”

For instance, will Amazon want to handle industrial gases like carbon dioxide for pubs and bars and McDonald’s soda pumps? Amazon can sell gloves and goggles, but it’s much more expensive to deliver big, ugly tanks of acetylene or 55-gallon drums of acetate.

“Businesses with products that are dangerous, exotic or require specialist handling will be slower to be vulnerable to Amazon,” says Balaban, who co-wrote the Oliver Wyman report. “Amazon won’t take business away for drills or dentists’ chairs. But dentists also have drawers full of mouthwash, dental floss, paper towels, latex gloves and those bibs that go around your neck.”

To fight back some companies are adding services they hope AmazonSupply can’t–or won’t–duplicate. Take Valin Corp., a 40-year-old San Jose, Calif. distributor that once specialized in selling computer chips. Since 2010 the company has focused on the fast-growing oil and gas sector, handling and measuring output at surface oil wells among other relatively new assembly and manufacturing revenue streams. “Amazon is never going to get into servicing oilfields,” says Benfield, the B2B consultant. “They’re not sending out engineers.”

So are they right? Like everything else about AmazonSupply, Wilson is cagey about what services it’ll leave to the competition and which ones it may attempt to provide. Would it start selling tanks of oxygen? Or transport lumber to construction sites? “We would explore any item to ensure that we’re able to fulfill it,” is all Wilson will say.

Besides, you don’t need to do everything to carve out a hell of a big business in a sector of the economy as large as wholesale. Rivals, Balaban says, should expect the worst. “If your business does not yet have a credible plan to survive and thrive in the new ecosystem,” he says, “there may be less time than you think.” Just ask your local bookstore.