Sir Martin Sorrell, chief executive of the world's largest ad group WPP, estimates Amazon (NASDAQ: AMZN) generated about $2.5 billion in ad revenue last year. To put that in perspective, Twitter (NYSE: TWTR) -- still one of the world's largest digital ad companies -- generated just $2.25 billion in ad revenue last year.
Amazon's advertising business is seen as a big growth driver for the company's bottom line. It's another high-margin product that's supported by Amazon's main retail operation, and it could have a similar impact as Amazon Web Services, the company's cloud-computing business. Meanwhile, Alphabet (NASDAQ: GOOG) (NASDAQ: GOOGL) subsidiary Google can't be happy about Amazon's growing advertising business.
A look at the numbers
Amazon doesn't offer exact numbers for its advertising business. Instead, it lumps it in with a few other small revenue generators like its co-branded credit cards. Last year, this "other" category generated $3.4 billion of revenue between Amazon's North American and International segments.
Without knowing exactly what goes into Amazon's Other line item, it's hard to say whether Sorrell's estimate is accurate. As the head of WPP, he certainly has a lot of insight into who's winning share of the digital ad market. And it's feasible Amazon did indeed sell $2.5 billion worth of ads last year based on its financial reports.
That said, it's by far the biggest estimate for Amazon's ad business. eMarketer estimates Amazon's ad business will bring in about $1 billion in 2017.
By comparison, Twitter's ad business started stalling last year, bringing in just $2.25 billion, up just 12.5% from the $2 billion it brought in in 2015. What's more, ad revenue ought to decline this year after the company pulled back on some of its direct-response ad products. That opens the door for those ad dollars to find a new home. And Amazon provides a great opportunity for lots of those direct-response ads.
Google's worst nightmare
Amazon's ad products have so much potential for the same reason Google ads are so valuable. More and more people are searching Amazon for products every day, broadcasting their intent to buy a trinket or doodad. If a trinket maker can get his product to the top of Amazon's search results, he stands a better chance of making a sale.
In fact, purchase intent is even stronger on Amazon than for the same searches on Google, since Amazon is a shopping platform. That means Amazon ads ought to be more appealing to marketers than Google ads. And as Amazon opens more ad inventory, it could be taking sales directly out of the hands of Google.
The trend gets stronger considering more and more people are beginning their product searches on Amazon. 55% of online shoppers now began their product search on Amazon.com last year. That's up from 44% the year before. Meanwhile, traditional search engines took just 28% of product searches last year, down from 34%.
Considering those trends, it's not too far-fetched for Amazon to catapult to one of the biggest digital advertising companies in just a few years. It has a growing trove of extremely valuable ad inventory, and it's only just started to capitalize on it.
Amazon risks hurting smaller third-party retailers, who are already getting squeezed out of its increasingly crowded marketplace. Increased advertising could create a scenario where the rich get richer and a smaller business with little to no ad budget can't win any sales. Amazon's competitors are already capitalizing on that scenario, but its third-party merchant sales remain as strong as ever. Still, management needs to balance ad inventory with it marketplace business as it continues to ramp up ad sales.
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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 and C shares), Amazon, and Twitter. The Motley Fool has a disclosure policy.