Amazon's Sales Mix Tips Away from Media. It's the Kindle, Baby

Last Updated Jul 29, 2010 3:09 PM EDT

When Amazon (AMZN) when it released its second quarter earnings yesterday, investors gave it a less than kind reception because the company is spending freely to expand. However, there's a different story if you look through the numbers.

For the second quarter in a row, Amazon's electronics and other general merchandise net sales, both worldwide and North American, have surpassed its corresponding media sales. Last quarter, even international media sales were larger than electronics and other general merchandise by only $151 million, or not even 11 percent. By next quarter, the changeover will be complete. And one big driving force is the Kindle.

According to Amazon, several factors helped drive growth:

  • faster growing product categories in electronics and other general merchandise
  • price promotions, including free shipping and the Amazon Prime shipping program
  • acquisition of Zappos for North American sales
  • increased product selection
However, for North American sales, another big factor was accounting rule ASU 2009-13. If that doesn't sound familiar, it's the same rule that Apple applied to immediately recognize most of the revenue for the iPhone. In Amazon's case, it applied to the Kindle.
Under the prior accounting standard, we accounted for sales of the Kindle ratably over the average estimated life of the device. Accordingly, revenue and associated product cost of the device through December 31, 2009, were deferred at the time of sale and recognized on a straight-line basis over the two year average estimated economic life.

As of January 2010, we account for the sale of the Kindle as three deliverables. The revenue related to the device, which is the substantial portion of the total sale price, and related costs are recognized upon delivery. Revenue related to wireless access and delivery and software upgrades is amortized over the average life of the device, which remains estimated at two years.

Because we have adopted ASU 2009-13 prospectively, we are recognizing $508 million throughout 2010 and 2011 for revenue previously deferred under the prior accounting standard.

In other words, prior to January 1, 2010, Amazon split Kindle revenue evenly over a two-year span. Now it recognizes most of the revenue up front. Given that the effects of the accounting change were large enough for Amazon to consider it a significant factor in the quarter's growth of North American sales, it suggests that a significant part of the electronics and other general merchandise product sales consists of Kindles, even if e-media sales, despite their growth, don't contribute to revenue growth to the same degree.

Interestingly, Amazon still apportions wireless access revenue over the two years -- understandably, but it might leave you with the question of how the company can afford "free" wireless for book sales for units kept longer. The answer is that Amazon double-dips. On one hand, the customer pays for wireless as part of the Kindle's price. And yet, even with the price drop of the Kindle, Amazon isn't hurt because either it pays publishers only 35 percent of the listed price or Amazon pays publishers 70 percent of the listed price but charged 15 cents per megabyte of file size -- a rate that works out to $30 for 200 megabytes in a month, or double what AT&T charges its wireless customers on its more expensive-per-megabyte smartphone data plan. Given that Amazon has probably negotiated a better deal, content delivery becomes a profitable activity.

The Kindle remains smart business. Even at a lower price, it drives important revenue growth, and it has helped Amazon begin the transition to electronic media and, with less physical warehousing and merchandise handling, maybe higher media profits in the long run. The question is to what degree the device sales can continue in the face of the Apple (AAPL) iPad and any Windows-powered competitors.

The question becomes a bit more confusing when you realize that AT&Tactivated about 900,000 other connected devices, including Kindles, Barnes & Noble (BKS) Nooks, and 850 other devices, but not including the iPad, and Kindles require a cellular connection. Maybe that's why Amazon has to thank Apple for increased e-media sales.

Image: Flickr user nugunslinger, site standard license.

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    Erik Sherman is a widely published writer and editor who also does select ghosting and corporate work. The views expressed in this column belong to Sherman and do not represent the views of CBS Interactive. Follow him on Twitter at @ErikSherman or on Facebook.