Activity: Participate in a Case Study, Managerial Problem: Amazon's Delivery Services (P&B, pp. 191 & 221)

Amazon has a problem: It's too successful. It controls 44% of the U.S. e-commerce market, has well over $200 billion in annual sales, ships more than 1.2 billion packages a year, and has more than 100 warehouses, 7,500 truck trailers, and 40 airplanes. However, its rapid growth has made quick and inexpensive delivery of packages crucial to its operations. In 2017, it spent nearly $22 billion on shipping globally or about 12% of its overall revenue.

1. To which market structure belong Amazon? Explain your answer.
2. Amazon has relied on shipping using United Parcel Service (UPS), FedEx, and the U.S. Postal Service (USPS). Amazon worries that these delivery services are relatively expensive and have trouble delivering on time, especially during heavy shipping near the December holidays. Consequently, Amazon says that it needs to develop its delivery services. One option Amazon is considering is Shipping With Amazon (SWA), a form of vertical integration. It requires a significant investment initially, with a payoff in the future. This investment cannot pay unless its present value is positive.
3. Amazon's new venture requires a large, up-front investment that may even be large enough to cause total profits to be negative in the year the investment is made. The payoff comes in year 2 when profits are higher than they would have been without the initiative. For this case study, you can use inflows to the firm (payoffs) of -$100,000 in year 1, of $100,000 in years 2 to 4, and $500,000 in year 5.
4. Show formally (theory) using an equation involving interest rates (i) to explain your answer on the relationship between profits assuming two periods. Please refer to interest rate as i and net payoff in a year as P: P₁ and  P₂ in periods 1 and 2, respectively. If interest rates rise what happens to the present value (PV) in the 2 periods? What does this mean for the firm undertaking this investment?;
5. Use an Excel sheet to assign figures to your theoretical answer to a. In the Excel sheet, use 1%, 2%, 3%, 4%, 5%, 6%, 7%, 8%, 9%, and 10% interest rates. Hint: follow Q&A 7.2, pages 208-209 in the textbook; and
6. Please note that the U.S. Federal Reserve has been hiking interest rates from 2022 to 2023 to reduce inflation, now running at 5% yearly measured by the growth rate of CPI, which is much larger than the 2% target inflation monitored by the U.S. central bank. Check for the current value of effective federal funds rate (DFF) in FRED dataset https://fred.stlouisfed.org/series/DFF and indicate the most appropriate valuation scenario using your spreadsheet in b. Given current U.S. interest rates, which i would you use to discount future cash flows in today's conditions? What would be the PV of this project under the current level of U.S. interest rates? Explain.

 

 

 

Resource:

Jeffrey M. Perloff and James A. Brander. 2020. Managerial Economics and Strategy (3rd ed.). Pearson. ISBN-13:  9780134899671. (P&B)