Flaws in the FBA Aggregation Business Model

This is the first bite-size insight into the FBA aggregator model that I promised in a prior posting. To level set everyone, let me give you the elevator pitch about the FBA aggregator model and then discuss in detail its first flaw. 

The FBA aggregator model is buying established, profitable online brands that sell primarily through Amazon's Fulfillment by Amazon (FBA) program. They are "established" by 1) a multi-year record of selling their products to customers; 2) rapid Year-Over-Year (YOY) growth of preferably > 20%; and 3) a large number of positive customer reviews attesting to the value of the brand's products. Ideally, these online brands demonstrate strong profitability (e.g., > 20%) in addition to their rapid YOY growth. 

The FBA aggregator model focuses on "FBA" brands instead of Fulfilled By Merchant (FBM) brands, which is sometimes called the Merchant Fulfilled Network (MFN) within Amazon, because FBA reduces the capital investment (and time) needed to fulfill customers orders; the brands can focus their time, capital and energy on growing their brand, its products and other core business details instead of the logistics of fulfilling customer orders. On paper, the FBA aggregator model looks genius because you sidestep the hard, messy work of figuring out what products customers want to buy, how to market those products, and so on. Essentially, the FBA aggregators are picking the winners out of the FBA marketplace. 

What looks like a genius feature on paper (i.e., sidestep the hard, messy work) is actually the first and biggest flaw in the FBA aggregator model. 

When an FBA aggregator buys a brand, through one mechanism or another the entrepreneurial founder(s) want or are asked to leave soon after their brand is acquired by the FBA aggregator. The hungry entrepreneur is replaced with hired guns who lack the hard-won knowledge that came from the hard, messy work of establishing and growing the brand. The problem is that hard, messy work you sidestep is essential to ''learning how to run'' the (or any) brand in the first place. It's actually rather trivial to ''buy'' a brand but it's super hard to ''run'' a brand. 

What does it take to ''buy'' a brand? Money. That's basically it. As an FBA aggregator you can use cash you raise through an equity raise or - ideally - you can use cash from debt financing to purchase the brand. No special skill is required. You prefer to use debt financing because it allows far greater leverage, and you pay the debt through a combination of the brand's profits and the equity you raise. Once you have the money for the acquisition you don't really need much additional skills (in contrast to - we shall see - actually running the brand). 

As an FBA aggregator, you find brands through three primary channels: 1) brokers who represent brands who want to sell, 2) trade shows and conferences dedicated to the aggregation business, and 3) direct conversations by approaching or being approached by a brand. During the go-go days you generally would pay somewhere between 5-7x of the brand's EBITDA with some minor variation based on macro-economics, your specific preferences and business strategy. That multiple has/will likely trend down since the FBA aggregator bubble has been deflating with the macro-economic situation (which started earlier when Thrasio first ran into trouble in running its acquired brands). So, pencil in 3 - 6x multiples depending on how attractive the brand is. To a large extent, your ability to grow is driven by how much money you have, and how big a multiple you're willing to pay versus another FBA aggregator. You might claim to have "a secret sauce" or some differentiator on how you purchase, but really it just comes down to how much money you have and how much you're willing to pay versus someone else. It's trivial.

What does it take to ''run'' a brand? Many different, interlocking skills and an entrepreneurial mindset (what Amazon calls Day 1 thinking). This is where you see the flaw from replacing the entrepreneur who put in the hard work of growing the brand and learned their approach through trial and error:

• Why do customers like ASIN B0123 so much?
• What type of advertising does well for the brand? Why? 
• What product variations should you introduce? 
• Which marketplaces are good fits for your product?
• How do the details of your product listing increase or decrease buying? What information should be in the ASIN's title? Summary? Product details?

The list of questions whose answer you must have mastered is endless. Compared to what you need to buy the brand (i.e., money and a willingness to pay more than the next person) running the brand is super hard work. But since the entrepreneur who gained that knowledge left with its acquisition, the most valuable part of your purchase leaves with the information in their head!

In place of the entrepreneur, the FBA aggregator substitutes its employees. Here is where the flaw is potentially compounded depending on the details of the FBA aggregator. If you look at this list of large FBA aggregators you will notice one very important detail about them: Almost none of them are backed by the major Silicon Valley VCs (except HeyDay who does have Khosla Ventures as a backer). I think that a company will usually reflect the tenor and personality of its backers... if you are backed by Silicon Valley VCs you will act like a technology company. If you are backed by Wall Street "financial engineering" VC types, you will act more like WeWork and less like Amazon (e.g., ponder WeWork's parade of backers to understand why the "paper" giant was actually a gnome who lost 90% of its value: Softbank, Fidelity Investments, Benchmark Capital, T. Rowe Price, Harvard Management Co., Wellington Management, J.P. Morgan Chase, and Goldman Sachs). 

In my next bite-size post, let's discuss why this compounds the problem of the brand founder(s) leaving with so much knowledge in their heads. 

Side note: If you can, bet against anything Softbank decides to back.

Part 2: FBA Aggregation Model: How to Make a Problem Harder

Part 3: Cheap Replaceable Products Don't Make for a Happy Aggregator!