The charmed life of Amazon's Jeff Bezos

Jeff Bezos launched Amazon in 1995.

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(Fortune Magazine) -- The helicopter was out of control and Jeff Bezos, the dotcom billionaire who founded Amazon, was pretty sure he was about to die. He was pinioned in the front passenger seat as the pilot frantically tried to thread the cherry-red copter through a field of trees.

Bezos had been flying around the boondocks of West Texas to scout out a site for Blue Origin, a space tourism venture he'd long dreamed of starting. The helicopter ferried them to a remote area that a government report would later describe as "mountainous terrain next to a creek." After a brief look around, Bezos and two employees hopped back into the helicopter, and the pilot tried to take off. That's when things went bad.

"We had a full cabin, and a full tank of gas, so the helicopter was heavy," Bezos recalls, discussing the 2003 incident for the first time. "The way a helicopter takes off is to lift off a few feet, then the rotors tilt and it needs to get some forward momentum to generate lift." That didn't happen.

Instead, as the aircraft skittered along the field, its tail boom struck a tree, causing the aircraft to roll and zigzag crazily. "Finally, one of the sleds hooked into a mound of dirt, the helicopter flipped, and landed in a creek," Bezos says.

Does his life flash before his eyes? Does he think about all the things he might have done? Nope. "I thought, what a dumb way to die," he says. Then, just as he always does, he laughs his signature, Very Loud Laugh (VLL).

The close call with the chopper is a pretty good metaphor for the charmed life of Jeff Bezos and Amazon (AMZN, Fortune 500). He and his company were the original dotcom high fliers, with Amazon's stock hitting $361 just before its 3-to-1 split at the end of 1998. As it took off, so did the story of Amazon, and its brilliant founder. One day in 1994 Bezos, a Princeton-educated financial analyst, was sitting at his desk at the Manhattan hedge fund D.E. Shaw when he noticed a shocking statistic: The number of users of the newly commercialized Internet was growing at the rate of 2300% a year. On a cross-country trip with his new wife a bit later, he concocted a business plan for an Internet company that would sell books. With angel investments from family and friends, he launched his startup in 1995 from Seattle, evolving it from a bookseller to the world's biggest online retailer, period. Bezos himself soared on the publicity as the model of the new Internet mogul and was, fittingly, Time's last Person of the Year of the 20th century. (I should know: I wrote the piece.)

Then came the dotcom crash. Common wisdom pegged Amazon and Bezos as goners - Amazon.toast and Amazon.bomb were a couple of zingers making the rounds. It would never be profitable. And when heavyweights like Wal-Mart (WMT, Fortune 500) and Target (TGT, Fortune 500) finally put up credible Web sites, they would mop the floor with this upstart...

"But guess what?" says Citi Internet analyst Mark Mahaney, who's been following Amazon from the start. Long after all the big-box retailers got their sites up, running and debugged, "Amazon's share of online retail has only increased." Amazon now accounts for 6% of the $136 billion online retail market in the U.S. - up from 5.1% in 2006. At the same time, free cash flow grew an impressive 140%. Says Mahaney: "That's pretty dramatic."

By virtually any measure-market share, revenue, profit, stock price, customer satisfaction, international reach - Amazon Inc. is thriving. With $14.8 billion in revenue, Amazon is ranked 171 on the Fortune 500 (up 66 places from the previous year). It was the fifth-ranked company as measured by its 134.8% return to shareholders during 2007, putting it, surprisingly, two ranks above Apple. (Apple is number one on the 500 if you go by its 51% ten-year return; but Amazon is right up there with its 34% ten-year return, which puts it at number eight.) Along the way, Bezos has gotten enormously wealthy. One magazine lists him as the world's 110th richest man and estimated his worth at around $8.2 billion. And unlike so many other dotcom moguls, he didn't take the money and run - most of that wealth is tied up in his company's stock. He holds about a quarter of the outstanding shares.

So how did he avoid the fate that befell so many dotcoms and turn Amazon into a real business? It's easy to believe that Jeff Bezos is one of the great innovators. But that's not exactly the case. His rise into Fortune 500-dom actually has little to do with innovation and more to do with iteration. If anything, Amazon demonstrates how a cutting-edge Internet company - of all things - can succeed slowly. The trick is taking a million tiny steps - and quickly learning from your missteps.

By doing just that, Bezos has created one of the all-time great retail operations. But he wants Amazon to be more than that. Now he's trying to build his company into the Web's biggest seller of digital media - downloadable copies of books, music and movies - and turn it into a provider of the fundamental services that power business itself. He doesn't just want to be the Wal-Mart of the Web; he wants to be its Con Edison, too.

"The two ton drill press has worked out just fine," Bezos assures me during a visit to Amazon headquarters in Seattle. This is a bit of a private joke: Nearly a decade ago, I was with Bezos on the day he took possession of Tool Crib of the North, a popular hardware store and catalog company based in North Dakota. I wondered then about the "two-ton drill press" - how could Amazon make money shipping monsters like that?

But big ticket items weren't an issue, he says: "What turned out to be a problem was something like the household broom - inexpensive to buy, but expensive to ship." Who wants to pay $8 for a popcorn popper and $8 to ship it? Part of Amazon's success over the past few years, was figuring out how to make low-end sales like that profitable.

Now 44, Bezos is aging well - a tiny bit heavier than when I first met him, and what's left of his hair is starting to gray. He's also got four children now, three more than during his Man of the Year days, including a girl adopted recently from China. But his mood is unchanged: He's as upbeat as ever. When I try to bait him into trash talking Apple (AAPL, Fortune 500), which has become one of Amazon's main competitors (music and video downloads) he refuses. Won't even utter the word "Apple." Who your competitors are and what they're doing now, he insists, has little bearing on the fundamentals of running a business: "Whatever your set of competitors is today is transitory. You'd have to change your strategy all the time!"

For all of Amazon's ups and downs over the past 13 years, Bezos's strategy is one thing that hasn't changed. Customers want three things, he says: the best selection, the lowest prices, and the cheapest and most-convenient delivery. At Amazon, he explains, all decisions flow from those fundamentals. "What's not going to change over the next 10 years is incredibly important - you can build plans that are durable and meet important customer needs," he says, adding, "Ten years from now, customers will still want vast selection, low prices and fast, accurate delivery. In fact, it is impossible to imagine a world 10 years from now where customers will say, I love Amazon, but I just wish your prices would be higher."

He barks his VLL; everyone in the conference room cringes accordingly; he continues: "The trick is to position the company so even in a wide variety of scenarios you can pursue more fundamental things." In other words, have a good fall-back plan.

A good example of this is Amazon's decision to build some excess warehouse capacity. As Amazon started to grow its business in the late 1990s, some members of the management team argued in favor of building just enough of the giant, automated warehouses - four of the $60 million facilities - to meet projected demand. Bezos decided to build five. "From a financial point of view, we should have built four rather than five," says Bezos, pointing out that in 1999, when the centers were built, "for a company that only had $1 billion in sales, spending $300 million on fulfillment centers is a very big investment."

Instead, he was positioning the company to pursue "more fundamental things": that is, keeping Amazon's customers happy. Remember all the post-holiday news stories at the turn of the millennium about little Timmy and Janie not getting their presents on Christmas because some fly-by-night toy site couldn't handle the holiday crush? Amazon came out smelling like a 1-800-FLOWERS rose. "A lot of companies stumbled and we didn't," said Bezos. "We had an insurance policy against that huge burst of demand" - the fifth fulfillment center.

Bezos makes gut calls, too, of course, such as the creation of Amazon Prime, the company's express shipping program. (You pay $79 a year and get your stuff, no matter how much you order, within 48 hours of ordering it, no extra charge.) It was scary at first since, he says, "the one thing you do know when you hold an all-you-can-eat buffet, the heavy eaters show up first." But over time, the program caught on because it turns out that Prime customers tend to buy more than they would normally. In fact, it's working so well that the company expanded it late last year to the UK, Germany and Japan.

"A lot of decisions around consumers are like that," Bezos says. "When you do the math it's not clear what will happen." As far as customer happiness is concerned, this approach is working. More people shop at Amazon every year, and its loyalty rate is at an all-time high, according to the University of Michigan's annual American Customer Satisfaction Index. On that list, Amazon is way above Wal-Mart, and comes in higher than such beloved retailers as Costco and Target. It even beats Apple. In fact, the only company it doesn't beat across all industries is Heinz. Guess there's no arguing with ketchup.

So what mistakes has Amazon made? What would he like to do over?

"You're giving me a root canal now with no anesthesia!" he says with another VLL. "We were investors in every bankrupt, 1999-vintage, ecommerce startup. Pets.com, living.com, kozmo.com. We invested in a lot of high-profile flameouts. The only good thing is we had lots of company. It didn't take us off our own mission but it was a waste of capital."

He could have mentioned, but didn't, a couple other misfires. A9, for instance, was the retailer's bid in 2004 to take on Google for product search. It didn't work and mostly faded into Amazon's infrastructure. A more famous example is the Kindle, an e-book reader that got mixed reviews when it launched last year - in numbers small enough to immediately sell out. (All the better to iterate.) While the device does have a clever, always-on connection to a high-speed data network, enabling users to download books on demand, the design isn't so different from Sony's e-book reader, which has gone nowhere.

Bezos may have better luck with another work in progress: Music downloads. Music is as much a part of what we think of as Amazon.com as its book-selling business - the company sells more CDs than any other online retailer. Last year, Amazon became the first site to sell unlocked digital tunes - meaning that, unlike with iTunes, you can copy and re-copy your purchases ad infinitum - on behalf of the four major labels.

So how's it doing? It's still a small part of their business. Bill Carr, Amazon's VP of digital media, would only say that the MP3 downloads business is "going very, very well." But the music industry folks I talked to say they like what they see, both in terms of sales volume and, even more important, the way Amazon sells digital music. One exec I know at a big label, who asked to remain anonymous, says he's excited by one trend in particular: At Apple's iTunes store, two thirds of the music sold is single tracks and one third is albums. But at Amazon, two thirds of the music sold is albums and one third is tracks. "It's fantastic," he says. "We make a bunch more money from albums than if you buy one track at a time."

My friend said his label's experience with Amazon could well point to some relief for the music industry down the road: "As soon as we wise up and realize that online albums are worth about $5, the music industry will be fixed."

Retail is Amazon's biggest business by far. But the company is also starting to make significant money from third-party retailers that range in size from mom and pop stores to Target. That business accounts for a third of all unit sales. The company makes money here in two ways: By taking a percentage of the sale, and, in some cases, by charging a fee to fulfill orders. That is, merchants can pay Amazon to hold onto their inventory, and ship direct from an Amazon facility.

Aside from the sheer sales volume of Amazon's retail business, analysts like how geographically diversified it is: 50% of Amazon's revenue comes from international sales, says Mahaney, with Germany, the UK and Japan each accounting for 10%. With Amazon's third-party seller program rolling out internationally only a year ago, he sees this as one more area where Amazon can continue to expand.

Clearly, Amazon's retail business - both direct to consumers and on behalf of other sellers - is working well. But that doesn't mean he's resumed his late-1990s can-do-no-wrong status with Wall Street, which despite last year's run, still views him somewhat warily.

Why? Two words: Operating margins. Amazon has long shown a willingness to cut prices, and plow money into R&D - taking less profit now, that is, to drive sales over the long term. Critics say there's no reason the company can't grow while maintaining healthier margins. For instance, in 2007 Amazon's operating margins were 4.4%; by comparison, Wal-Mart's were 5.8%. (Wal-Mart's fiscal year ended on January 31.)

Mahaney points out that when you chart Amazon's stock over the past decade, it closely maps to the ups and downs of those margins. From 2004 to 2006, when the company invested in R&D to improve the user interface, he said, margins came down - and so did the stock. When margins started to climb at the beginning of 2007, so did the stock. That may not be fair to Bezos's long-term vision, but, says Mahaney, "so what? Amazon's revenue growth has been remarkably sticky over time. The only real delta has been the way the margins are going because we count on continued revenue growth."

Of course, one great way to guarantee fat margins is to sell a product that costs virtually nothing to ship. Like music downloads, for instance - if those really take off, that stream of revenue could make a big difference. But there's another are Amazon has been exploring that could prove very lucrative some day: Amazon Web Services. Simply put: It's trying to become a one-stop shop for your company's information technology needs - processing power, databases, and storage. Think of it as a digital utility company for businesses.

With so many big companies starting to offload commoditized parts of their businesses, the idea has a lot of upside - assuming it works. The idea is that companies wouldn't need to invest much in expensive hardware and big, messy software installations for their back offices. In fact, Amazon has been aggressively signing up large companies, ranging from NASDAQ to SanDisk to the New York Times. Bezos said that around 300,000 developers already use Amazon Web Services.

Don't look for any surge in revenue from Amazon Web Services in the near term. Mahaney says that thus far, this new business unit is immaterial to Amazon's bottom line. It will take time to get customers to trust the service. Or not: On April 8, Google (GOOG, Fortune 500) launched a competitor, dubbed AppEngine - and, in its typically disruptive way, it's giving its service away for free to low-volume users.

It's not so easy being an iterator. Too many innovators out there trying to eat your lunch. But whether it's Google or Apple or anyone else, don't expect Amazon to shift direction. Jeff Bezos has every intention of just doing what he does, taking a million little steps until he gets where he wants to go.