Free Kindle to Amazon Prime subscribers: good idea, but will it be profitable?

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TechCrunch broke the story of Amazon‘s plans to give a free Kindle to all Amazon Prime subscribers. I love the forward thinking by Steve Bezos. Cell phone companies have been doing this for years – free cell phone with a contract. Could he leverage a similar formula for his Prime subscription base?

There is one problem. Many of Amazon Prime subscribers are not avid book readers. Many like the various other products Amazon sells, from food to electronics. In fact, Amazon’s own sales record show they’ve already converted their heavy book buyers to digital already. Over the holidays, Amazon sold 6 e-books for every 10 print books that were available in both formats. Perhaps Amazon could send the Kindle for free to those who actually buy books, or perhaps bundle a subscription with the free Kindle to ensure usage.

And then there’s the problem of eBook profitability. Analysts estimate that Amazon LOSES $2 per $9.99 book sold. While prices are headed upward, the margins still don’t look too good for Amazon. Bezos is the king of monetizing a business model, so I have no concerns that he can right the eBook ship.

But there’s this nagging question I have. While cell phones have been loss leaders for many years, those come with an iron-clad contract that is NPV positive on day 1. Why hasn’t Apple given away the iPod to generate iTunes sales or the iPhone for app sales? Because that would be highly unprofitable: Purchased downloads pale in comparison to hardware purchases.

iTunes sales were only 27% of hardware sales, in 2009, and actually declined as a % from 2008. Digital music sales are roughly equal to physical formats (slightly ahead of where eBooks stand today), so even if the world went 100% digital, iTunes sales would still be way behind hardware sales. I wish I had similar figures for Amazon’s Kindle, but they don’t release that information.

At $259, the Kindle would need even more eBook sales to make up for the cost of the hardware compared to the average iPod price of $150. Assuming a $2 profit per eBook, Amazon would need to sell 130 eBooks to reach breakeven. Even the top 25% of readers don’t read a book a week, so it would take years to get to that point. And, these Prime customers would have likely purchased many of the books from Amazon anyway, cannibalizing those revenues. From a profitability perspective, the numbers don’t add up.

So as Amazon considers free Kindle giveaways, there must be something else at stake. This must be a market share play. The Kindle already has a 55% share of eReaders (roughly 3 MM Kindles), and Apple’s iPad looms. A free Kindle to the 4-5 MM Kindle subscribers would take this figure over 70% and seriously block Apple’s entry. If Amazon can solidify it’s market share position and control distribution (become the iTunes of books), this could be a wise investment.

It will be interesting to see if Amazon goes through with it and Apple’s response.

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