Behind the Toys 'R' Us-Amazon Spat


When Toys 'R' Us signed up Amazon.com to take over its Web-site operations, it was a landmark deal for both companies. With the August, 2000, agreement, Toys 'R' Us (TOY) fixed its persistent troubles with selling online in one fell swoop, and Amazon (AMZN) got a marquee customer for what has since become a highly profitable part of its business: providing e-commerce services to other retailers.

That's why few people expected Toys 'R' Us to sue Amazon for violating what the toy chain claims is its exclusive right to sell toys, games, and baby products on the site. The lawsuit, announced May 24, at first glance appears to be a big blow to a deal that once marked e-commerce's coming-of-age. But that deal may be a relic from a bygone era of the World Wide Web.

COMPARISON SHOPPING. The way consumers shop on the Web today, along with the way most retailers try to reach them, makes any attempt to limit the availability of merchandise a lose-lose situation for all parties. "People are looking for multichannel retailers," says David Fry, CEO of Fry Inc., an e-commerce services provider that has helped the likes of Eddie Bauer (SPGLA) and JC Penney (JCP) sell on Amazon's site.

And that means multiple channels online as well as in the physical world. As the Web increasingly provides consumers more and more leverage, exclusive agreements seem less advantageous. After all, consumers routinely search Google and its shopping site, Froogle, to compare product prices and features. They've been flocking to comparison-shopping sites such as Shopping.com, which recently filed to go public. They can even compare prices for the same product offered by Amazon and other retailers on the same Amazon page.

That, of course, is why Toys 'R' Us is steamed at Amazon. Over the last few months, says Greg Ahearn, vice-president and general manager of Toysrus.com, the number of toys and related products offered by other retailers on Amazon has risen from a few hundred to more than 4,000. Adds Toys 'R' Us General Counsel David Schwartz: "We're happy to compete with other vendors in these categories. We just don't want to pay for exclusivity we're not receiving."

THE eBAY OPTION. Major retailers seem to prefer having multiple channels online just as much as their customers do. While most outfits their own Web sites, they increasingly recognize the need to reach shoppers who won't type in their specific URLs. That's why retailers are spending so much on new channels, such as search engine Google, which plans to go public soon in a blockbuster $2.7 billion offering.

Google earned $106 million in profit on revenues of $962 million last year, in large part by selling targeted online ads to entice customers who are ready to buy. Other retailers and manufacturers are increasingly trying out eBay (EBAY) to sell both overstocked -- and in some cases -- brand-new merchandise. Amazon itself pays commissions to more than 1 million "associate" sites that send customers to buy books on Amazon.

That's not to say the Toys 'R' Us suit has no legal merit. It has charged that some 4,000 toys and related products are being sold by other retailers on Amazon's site, breaking the exclusivity guarantee for which the toy chain claims to have paid $200 million to date. Amazon contends that on its toy areas, it can offer products Toys 'R' Us doesn't carry. Identical toys and products are available from other merchants elsewhere on Amazon. Since the details of the exclusivity deal are secret, it's tough to tell which side would prevail in court.

TOO VALUABLE TO LOSE? Chances are it won't come to that. Analysts and other observers think the suit is an attempt by Toys 'R' Us to reduce the cost of the Amazon deal -- not to do away with it entirely. Indeed, Toysrus.com's Ahearn insists, "We've been happy with our relationship over the past four years. It's not a threat to leave Amazon at this point."

Setting up its own operation again would take at least four months to six months -- and a lot of expense, notes Fry. And even then, Toys may be back to potentially facing the same site and delivery problems that sent it into Amazon's arms in the first place. Sales in 2003 at Toysrus.com -- the Amazon-run site -- were $376 million, up 11% from 2002.

Some analysts think the lawsuit underscores how competitive e-commerce has become at Amazon. "Trying to do an online mall and helping branded retailers will increasingly clash," says Safa Rashtchy, an analyst with Piper Jaffray, who doesn't own Amazon shares.

For now, after turning in several consecutive profitable quarters, Amazon can afford to walk that narrow line much better than it could even a year ago. As of the first quarter of the year, it boasts 39 million customers, an increase of 26% from a year ago. "It has expanded our reach tremendously," says Jeff Berman, general manager of fulfillment operations at New York-based retailer J&R Electronics, which also sells products on Amazon.com. "It's an extremely solid, well-engineered platform."

Whatever happens with the Toys 'R' Us suit, it's a good bet that plenty of retailers will realize they need Amazon as much as it needs them. By Rob Hof in San Mateo, Calif.


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