The cost of international growth

With Amazon in the news this past week, the idea of growth at the expense of margins came to the fore again. Amazon’s financials over the last several years look like this:

Amazon financial summary - long term

Amazon is clearly prioritizing growth at the cost of margins. This is reflected in its massive investment in infrastructure to support its three major businesses: fulfillment infrastructure to support e-commerce, content delivery infrastructure to support video and other digital content businesses, and server farms and data centers to support its AWS business. What’s interesting is, in order to grow its core business in particular, Amazon has to invest a huge amount in physical infrastructure — not just in individual countries but, as in the case of large countries, even specific regions within those countries to deliver the services its customers expect. It simply cannot grow in a country without expanding this infrastructure at significant cost, and entering a new country means building infrastructure first.

That got me thinking about the cost to grow and enter new countries for other major businesses in the consumer technology market. These businesses aren’t necessarily as infrastructure-heavy as an online retailer like Amazon, but they still do have to invest before they can have a big impact in a country. So what does infrastructure look like for other big businesses? And what implications does that have for those companies’ ability to continue to grow and expand internationally? That infrastructure comes in four major forms for these businesses: Distribution, Localization, Data Centers and Support.

Distribution

For physical goods such as Apple’s hardware products and Microsoft’s packaged software, retail distribution is critical. For Apple, Samsung and other smartphone vendors, carriers are a particularly important channel and they have had to invest in continually expanding the number of carriers and the number of countries which carry their phones. For both Microsoft and Apple, third party retailers are also incredibly important for selling their physical goods, and setting up supply chains to provide goods in a timely manner and keep inventories at the right levels is critical. Apple also has an increasingly expansive network of its own retail stores (427 stores in 16 countries as of the end of June), which are important showrooms and retail channels for its products.

Other than first-party retail stores, however, much of the “investment” in distribution is in time rather than money and the investment here is certainly on a smaller scale than Amazon’s investment in fulfillment, where it’s doing so much of the distribution itself. Apple spends less than a billion dollars a year on store-related capex, compared with over a billion dollars a quarter in capex for Amazon.

Much of Apple’s growth over the last several years, driven by the iPhone, has come from expanding distribution. But it has now reached most of the major countries of the world and almost all of the biggest mobile operators, including NTT DoCoMo and China Mobile in the past year. Distribution in China remains a major driver of growth for Apple over the next couple of years, but increased distribution will no longer be the major driver of iPhone revenues as it has been in the past. Microsoft has always had incredibly broad distribution and, although it’s critical to its success, it’s not a major driver of growth. For online businesses such as Google and Facebook, however, distribution is a non-issue both as a barrier to and a driver of growth, at least historically. However, as they look to extend penetration in emerging markets, both companies are now investing in efforts to increase internet access in those countries, so there may be an increasing cost of distribution even for these online service providers.

Localization

Localization takes a number of forms. Language support is perhaps the base level, as it’s very hard for any software product to do well without support for its user’s primary language (and yes, this even includes local flavo(u)rs of English!). That doesn’t just mean written text, but also increasingly speech recognition and text-to-speech capabilities such as those in Siri, Google Now and Cortana. It also means allowing for forms of input other than a keyboard for calligraphic languages. Other forms of localization include high quality local maps and directories, local content support, and support for local services such as search engines. Apple has been particularly strong in its support for local content. iTunes is an important part of the appeal of the Apple ecosystem, as shown in this chart of the number of countries where these major players make different kinds of content available:

Content availabilityAmazon is predictably very strong in books, but much less so in TV, movies and music, while Microsoft is particularly strong in apps. Another aspect of localization often overlooked is respect for local customs and practices – an excellent example is the new Chinese version of Microsoft’s Cortana, which takes on a very different persona from the American version.

Localization can be expensive – it means lots of translation and development time, acquiring databases and content for distribution in each country, and so on. But it’s a critical element of expanding into new countries, and it’s one that applies across the board with all consumer technology companies, whether it’s those selling hardware or those providing online services. All the major companies could do more work to expand in this way, and in some cases their lack of local support is a barrier to expansion in to particular countries, but increased localization is rarely a major driver of growth by itself.

Data Centers

Amazon’s investment in data centers is mostly US-based, as AWS is mostly a US product for now. Its competitors, Microsoft and Google, are investing heavily in data centers in the rest of the world and such investment is critical to growth for cloud-based services. There are two parts to this: for performance reasons, servers need to be near the users accessing the data and services stored on them, but the other is many countries (and likely an increasing number going forward) require data for cloud services to stay in-country rather than crossing international borders. As such, all the companies providing cloud services, whether consumer or business-focused, need to invest heavily in international data centers to support their customers overseas. The amount of investment required however, varies greatly between hardware-centric and software-centric companies: Google’s data centers are much larger than those required by Samsung, which has just a few, little used, cloud based services.

Support

Local support is closely related to localization, but it’s different in it actually requires investment in human beings rather than just software. Call centers, online support and retail stores are all part of this picture, and although the first two don’t have to be in-country, it certainly helps if they are and, at the very least, they need to provide support in the local language. This is a relatively small part of the overall investment needed to support international expansion, but it’s not an insignificant one. Like the previous two elements, it’s not a huge driver of growth, but its absence can be an inhibitor.

International growth costs more for some

To go back to where we started, international expansion is much more expensive for a very infrastructure- and distribution-driven company such as Amazon than it is for others which rely on third-party retailers such as Apple or Samsung. Online services companies such as Google and Facebook only have to invest in server infrastructure and localization, with little investment in either distribution or local support. As such, the costs of international expansion vary on a spectrum, with Amazon at one end, having to invest heavily for each additional country it wants to serve, and Google and Facebook at the other, being able to serve potential users in almost any country at a basic level with minimal investment.

But that also means the barriers to entry for competitors to companies like Amazon can be far greater, and the upside for Amazon to expand internationally is far greater too, hence its announcement of its intention to invest heavily in India in the coming years. For the other companies, barriers to invest are lower, but as such the upside is smaller — Apple, Microsoft, Facebook and Google already operate in almost all the countries of the world, and there is less to be gained from increased investment in new countries. The cost of growth may be higher for Amazon, but the potential payback may well be bigger too.

 

Published by

Jan Dawson

Jan Dawson is Founder and Chief Analyst at Jackdaw Research, a technology research and consulting firm focused on consumer technology. During his sixteen years as a technology analyst, Jan has covered everything from DSL to LTE, and from policy and regulation to smartphones and tablets. As such, he brings a unique perspective to the consumer technology space, pulling together insights on communications and content services, device hardware and software, and online services to provide big-picture market analysis and strategic advice to his clients. Jan has worked with many of the world’s largest operators, device and infrastructure vendors, online service providers and others to shape their strategies and help them understand the market. Prior to founding Jackdaw, Jan worked at Ovum for a number of years, most recently as Chief Telecoms Analyst, responsible for Ovum’s telecoms research agenda globally.

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