The very unscientific tale of how Amazon first set the price of Prime

The very unscientific tale of how Amazon first set the price of Prime

By Zachary M. Seward @zseward 36 minutes ago

Amazon Prime, the company’s two-day shipping service, has cost $79 a year in the United States since it was first unveiled in 2005. Now that Amazon is hiking the price by $20, it’s worth revisiting how the original fee was chosen.

Quite arbitrarily.

Putting a price on Prime was difficult because the company couldn’t predict how people would use it. Amazon didn’t expect Prime to be profitable at first, but didn’t want to hemorrhage money on it, either. Though it would come to be seen as a brilliant customer-loyalty strategy, shipping an unlimited number of packages for a flat annual fee was an untested idea.

Seventy-nine is, of course, a prime number. That’s not coincidental, but was mostly beside the point, according to people involved in Prime’s creation. The name actually referred to the “prime position” in Amazon’s warehouses for goods that were eligible to ship in two days at the flat rate, former Amazon executive Vijay Ravindran tweeted today.

It was “less about math cuteness,” he said.

Amazon considered pricing Prime at $49 or $99. Jeff Bezos, the chief executive, settled on $79 because “it needed to be large enough to matter to customers but small enough that they would be willing to try it out,” writes Brad Stone in his bookabout the company.

The idea for Prime first came from Amazon engineer Charlie Ward, through an employee suggestion program. Bezos was “immediately enchanted by the idea,” according to Stone, seeing it as an extension of other Amazon innovations that made customers happy, like 1-Click, which cut down the number of steps needed to order online.

“It was never about the $79,” Ravindran is quoting saying in the book. “It was really about changing people’s mentality, so they wouldn’t shop anywhere else.”

That certainly proved true, and Amazon kept the price at $79 even as it added streaming video and e-book rentals to the service. If it had kept pace with US inflation, Prime would cost $94.62 today. Perhaps the clearest sign that it isn’t about prime numbers is that Amazon chose $99 for the new price instead of, say, $97 or $101.

Amazon rolled out Prime to Japan, the United Kingdom, and Germany in 2007; France in 2008; Italy in 2011; and Canada in 2013. Prices vary along with benefits, but they aren’t generally prime numbers. In the UK, however, a recent increase brought the cost of Prime to £79.

Amazon’s Prime price hike may signal it finally wants to make money

By John McDuling @jmcduling 48 minutes ago

Amazon’s $20 price hike for Prime, its premium delivery and instant video service, is not as bad is it could have been. In January, the company warned that it could raise the cost of the service, which ensures deliveries of orders within two days, by as much as $40 a month, due to increased fuel and shipping costs and a dramatic increase in usage.

The move is highly symbolic because its difficult to remember the last time Amazon raised prices for anything.

Wall Street has been incredibly tolerant with Amazon’s relatively tiny margins and meagre absolute profits. CEO and founder Jeff Bezos has successfully sold investors on a business model built around reinvesting the company’s enormous cash flows into infrastructure—warehouses, data centers, drones—and low prices, rather than profits.

This is reflected in the fact that while the company’s revenue has been on a relentless upward march…

…its bottom line is very lumpy.

This model builds loyalty for Amazon. As Bezos explained to Bloomberg last year: ”We don’t do that [raise prices] because we believe—and, again, we have to take this as an article of faith—we believe that by keeping our prices very, very low, we earn trust with customers over time and that that actually does maximize free cash flow over the long term.”

What would it take for Amazon to focus on delivering profits, like most other businesses? Either Wall Street loses patience with the model, which is certainly not yet the case, or the company becomes so dominant (by capturing what’s known as its “total addressable market”) that it can afford to raise prices and or reduce its infrastructure spend. Perhaps we are seeing the beginnings of one of these today.

Cowen & Company estimates that there are 23 million Prime subscribers and the $20 hike will add $460 million in annual revenue, which in theory is pure profit for Amazon. Whether Amazon lets the incremental revenue flow through to its bottom line remains to be seen. But Wall Street is happy. Amazon stock is up 2.9% in the early going, having under-performed the broader market so far in 2014.