Amazon.com's (NASDAQ: AMZN) advertising business is one of the fastest growing revenue sources for the company, and it's turning out to be its next big growth product. The company recently took a major step toward growing the business by opening its self-service platform and certain ad inventory to a wider group of brands and agencies. The company has been testing its self-service platform for over a year, according to Digiday, but it's now pushing into more automated ad bidding.
Self-serve platforms are the key to scaling an ad business. There's a lot of focus on Snap's (NYSE: SNAP) self-serve platform, which many investors see as the most important catalyst for increasing ad revenue for the company. Amazon's self-serve platform could do the same for its burgeoning ad business, helping it compete with Facebook (NASDAQ: FB) and Alphabet's (NASDAQ: GOOG) (NASDAQ: GOOGL) Google for ad dollars.
Continue Reading Below
Bringing in more businesses and helping them buy more ads
Amazon's self-serve platform makes it easier for brands and agencies to manage campaigns directly. That could allow for faster feedback on advertisements across Amazon.com, IMDB.com, other Amazon-owned properties, as well as the publishing partners that work with Amazon.
In June, the company launched Advertiser Audiences, a self-serve platform that allows businesses to upload a list of customer's contact information and anonymously match them to Amazon shoppers. Facebook and Google each offer similar features, including the option to target lookalike audiences based on similar behavior across their various websites, just as Amazon does.
Self-serve platforms allow for more advertisers to buy more ads without the need for a sales representative to place orders. It also opens the door for smaller businesses to buy ads, since the self-serve platform costs practically the same amount for Amazon to run for a business buying $100 in advertising or $1,000,000 in advertising. The same principle has allowed Google and Facebook to attract millions of advertisers, and it's the same kind of success Snap is hoping for from its own self-serve platform.
Amazon's ad business is already bringing in as much as $2.5 billion, according to an estimate from WPP's Sir Martin Sorrell. Other estimates put it well within the 10-figure mark. But as Snap and Twitter have shown it takes a lot more than direct sales to get past that level.
Opening up ad inventory to new buyers
Another big change Amazon made to its ad business this summer is opening headline search ads to brand owners. The banner ads that appeared above search results were previously exclusive to vendors (i.e., brands that sell directly to Amazon). These ad units are some of the most effective on Amazon, and opening them up to more brands should enable Amazon to fetch a higher price for some and sell more units overall.
It also provides another way for third-party merchants to stand out on Amazon's marketplace. That's a big problem Amazon has had recently, as third-party merchants have started splitting inventory between Amazon and other online marketplaces. Combined with the self-serve ad targeting platform, opening the new inventory to smaller merchants can help those willing to invest the time and money to create effective ads and target audiences stand out in the crowded marketplace.
The value of a growing ad business
Amazon's overall operating profit margin is about 2%. Its retail operations in North America take about 5% of revenue in operating income, and that's about the ceiling for its retail business. But advertising carries a much higher operating margin.
Facebook reported a 45% operating margin last year. Google's operating margin was 31%.
If Amazon can manage just 30% operating margin on its advertising business, it could provide a serious boost to its bottom line. Considering Analyst Brian Nowak believes Amazon's ad business could reach $5 billion next year and $7 billion in 2020, that presents a $1.5 billion to $2 billion opportunity in operating income. For reference, Amazon's operating income in 2016 was $4.2 billion.
As the self-serve platform comes online and Amazon attracts more ad buyers and opens more ad inventory, it could provide a significant boost to its bottom line.
10 stocks we like better than AmazonWhen investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now... and Amazon wasn't one of them! That's right -- they think these 10 stocks are even better buys.
Click here to learn about these picks!
*Stock Advisor returns as of August 1, 2017
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Adam Levy owns shares of Amazon. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon, Facebook, and Twitter. The Motley Fool has a disclosure policy.