Amazon is reviewing whether it should buy exclusive rights to advertise on
MKT 301 Fall 2004
Amazon is reviewing whether it should buy exclusive rights to advertise on the front page of a social network search engine, Zignet. At the launch of the agreement, Amazon is expected to make an upfront payment of $15 million to Zignet. In addition, Amazon would spend an average of $15,000 per day on Zignet advertising for a full year. In return, Amazon’s brand would be featured exclusively and prominently on many of Zignet’s pages for one year. More specifically, Amazon expects to be present on 60% of Zignet’s 50 million pageviews per day. Based on industry estimates, Amazon believes that 0.25% of every pageview at Zignet would result in a visit to its own website for the entire year of this deal. Amazon’s own experience suggests that about 1.0% of the visitors to its site actually buy books and other merchandise. While the typical retention rate for Amazon customers is over 90%, management is concerned that customers coming from the Zignet site will have a retention rate of only 70%. The dollar amount of a typical order is $100. Amazon’s CFO was concerned that, with a 30% gross margin per order and 10% cost of capital, this deal may not be worthwhile. What is your recommendation? Assume customers acquired at the end of the year are worth the same as those acquired at the beginning of the year.