The Amazon Iterative Innovation Playbook

We look at Amazon's 2021 Shareholder Letter and Learn about Amazon's "Iterative Innovation Playbook"

Hey Everyone! This year the Amazon shareholder letter was written by Andy Jassy and I wanted to go over parts of it and provide my perspective on Andy and Amazon.

When the pandemic started in early 2020, few people thought it would be as expansive or long-running as it’s been. Whatever role Amazon played in the world up to that point became further magnified as most physical venues shut down for long periods of time and people spent their days at home.

We see that Amazon being an online business v/s being physical only, provides additional resiliency for businesses during tough times. I think this is incredibly bullish for discretionary e-commerce and D2C(Direct to consumer businesses) that are pursuing a hybrid approach.

AWS played a major role in enabling this business continuity. Whether companies saw extraordinary demand spikes, or demand diminish quickly with reduced external consumption, the cloud’s elasticity to scale capacity up and down quickly, as well as AWS’s unusually broad functionality helped millions of companies adjust to these difficult circumstances.

We learn that AWS, which is the backbone of a lot of SaaS businesses has sufficient scale and elasticity to sustain rapid demand. This is bullish for SaaS businesses in general as they have infrastructure durability and elasticity that provides their businesses with additional resiliency and not suffer outages etc. during demand shocks.

This growth also created short-term logistics and cost challenges. We spent Amazon’s first 25 years building a very large fulfillment network, and then had to double it in the last 24 months to meet customer demand.

I love that Amazon likes to invest in CAPEX and to power differentiated customer outcomes. This investment by Amazon is unmatched and I have mad respect for them as they are investing in physical assets, whereas, in our era, most people want to build asset-light businesses and choose the easy street.

It’s not normal for a company of any size to be able to respond to something as discontinuous and unpredictable as this pandemic turned out to be. What is it about Amazon that made it possible for us to do so? It’s because we weren’t starting from a standing start. We had been iterating on and remaking our fulfillment capabilities for nearly two decades. In every business we pursue, we’re constantly experimenting and inventing. We’re divinely discontented with customer experiences, whether they’re our own or not. We believe these customer experiences can always be better, and we strive to make customers’ lives better and easier every day. The beauty of this mission is that you never run out of runway; customers always want better, and our job is both to listen to their feedback and to imagine what else is possible and invent on their behalf.

Here we see Amazon's "Customer-Led" experimentation, iteration, and innovation focus and how it has helped them be resilient in the toughest of times. While I am not a huge fan of "Iterating Innovations" and my bias is towards "Disruptive Innovations", I think Amazon is the best playbook to follow for businesses who innovate by iterating on products.

People often assume that the game-changing inventions they admire just pop out of somebody’s head, a light bulb goes off, a team executes to that idea, and presto—you have a new invention that’s a breakaway success for a long time. That’s rarely, if ever, how it happens. One of the lesser known facts about innovative companies like Amazon is that they are relentlessly debating, re-defining, tinkering, iterating, and experimenting to take the seed of a big idea and make it into something that resonates with customers and meaningfully changes their customer experience over a long period of time.

We see Andy highlighting the importance of their "Iterative Innovation" process again.

In the early 2000s, it took us an average of 18 hours to get an item through our fulfillment centers and on the right truck for shipment. Now, it takes us two. To deliver as reliably and cost-effectively as we desire, and to serve Amazon Prime members expecting shipments in a couple of days, we spent years building out an expansive set of fulfillment centers, a substantial logistics and transportation capability, and reconfigured how we did virtually everything in our facilities. For perspective, in 2004, we had seven fulfillment centers in the U.S. and four in other parts of the world, and we hadn’t yet added delivery stations, which connect our fulfillment and sortation centers to the last-mile delivery vans you see driving around
your neighborhood. Fast forward to the end of 2021, we had 253 fulfillment centers, 110 sortation centers, and 467 delivery stations in North America, with an additional 157 fulfillment centers, 58 sortation centers, and 588 delivery stations across the globe. Our delivery network grew to more than 260,000 drivers worldwide, and our Amazon Air cargo fleet has more than 100 aircraft. This has represented a capital investment of over $100 billion and countless iterations and small process improvements by over a million
Amazonians in the last decade and a half.

I love how Andy gives us data about how they have improved their operations significantly by doing CAPEX of over $100 billion. We see that in a span of 18 years(let's use approx. 2 decades) Amazon has been able to increase its fulfillment centers from eleven(all over the world) to 410. This is an investment of 37 times over their initial investment. I think this massive fulfillment network is their core competitive advantage, that will enable Amazon to leverage economies of scale for decades to come. I don't think anyone else will be able to match this CAPEX investment for a long time providing them significant barriers to entry.

In the early days of AWS, people sometimes asked us why compute wouldn’t just be an undifferentiated commodity. But, there’s a lot more to compute than just a server. Customers want various flavors of compute
(e.g. server configurations optimized for storage, memory, high-performance compute, graphics rendering, machine learning), multiple form factors (e.g. fixed instance sizes, portable containers, serverless functions), various sizes and optimizations of persistent storage, and a slew of networking capabilities. Then, there’s the CPU chip that runs in your compute. For many years, the industry had used Intel or AMD x86 processors. We have important partnerships with these companies, but realized that if we wanted to push price and performance further (as customers requested), we’d have to develop our own chips, too. Our first generalized chip was Graviton, which we announced in 2018. This helped a subset of customer workloads run more cost-effectively than prior options. But, it wasn’t until 2020, after taking the learnings from Graviton and
innovating on a new chip, that we had something remarkable with our Graviton2 chip, which provides up to 40% better price-performance than the comparable latest generation x86 processors. Think about how
much of an impact 40% improvement on compute is. Compute is used for every bit of technology. That’s a huge deal for customers. And, while Graviton2 has been a significant success thus far (48 of the top 50 AWS
EC2 customers have already adopted it), the AWS Chips team was already learning from what customers said could be better, and announced Graviton3 this past December (offering a 25% improvement on top of
Graviton2’s relative gains).

We see Andy's understanding of how AWS differentiates itself by offering a broad variety of developer services and reducing compute costs by 55% overall over 3 generations of their Graviton CPUs. Again this is where we see their core competitive advantage, leveraging economies of scale by bringing down costs of services and compute making them an essential partner for any Digital business which focuses on reducing costs over time.

Further, we see Andy highlighting the core components of Amazon's success, I am going to call these "The Amazon Iterative Innovation Playbook"

The Amazon Iterative Innovation Playbook

Hire the Right Builders

We disproportionately index in hiring builders. We think of builders as people who like to invent, who look at customer experiences, dissect what doesn’t work well about them, and seek to reinvent them. We want people who keep asking why can’t it be done? We want people who like to experiment and tinker, and who realize launch is the starting line, not the finish line.

Organize Builders into Teams That Are as Separable and Autonomous as Possible

It’s hard for teams to be deep in what customers care about in multiple areas. It’s also hard to spend enough time on the new initiatives when there’s resource contention with the more mature businesses; the surer bets usually win out. Single-threaded teams will know their customers’ needs better, spend all their waking work hours inventing for them, and develop context and tempo to keep iterating quickly.

Give Teams the Right Tools and Permission to Move Fast

Speed is not pre-ordained. It’s a leadership choice. It has trade-offs, but you can’t wake up one day and start moving fast. It requires having the right tools to experiment and build fast (a major part of why we started AWS), allowing teams to make two-way door decisions themselves, and setting an expectation that speed matters. And, it does. Speed is disproportionally important to every business at every stage of its evolution. Those that move slower than their competitive peers fall away over time.

You Need Blind Faith, But No False Hope

This is a lyric from one of my favorite Foo Fighters songs (“Congregation”). When you invent, you come up with new ideas that people will reject because they haven’t been done before (that’s where the blind faith comes in), but it’s also important to step back and make sure you have a viable plan that’ll resonate with customers (avoid false hope). We’re lucky that we have builders who challenge each other, feedback loops that give us access to customer feedback, and a productdevelopment process of working backwards from the customer where having to write a Press Release (to flesh out the customer benefits) and a Frequently Asked Questions document (to detail how we’d build it) helps us have blind faith without false hope (at least usually).

Define a Minimum Loveable Product (MLP), and Be Willing to Iterate Fast

Figuring out where to draw the line for launch is one of the most difficult decisions teams must make. Often, teams wait too long, and insist on too many bells and whistles, before launching. And, they miss the first mover advantage or opportunity to build mindshare in fast-moving market segments before well-executing peers get too far ahead. The launch product must be good enough that you believe it’ll be loved from the get-go (why we call it a “Minimum Loveable Product” vs. a “Minimum Viable Product”), but in newer market segments, teams are often better off getting this MLP to customers and iterating quickly thereafter.

Adopt a Long-term Orientation

We’re sometimes criticized at Amazon for not shutting much down. It’s
true that we have a longer tolerance for our investments than most companies. But, we know that transformational invention takes multiple years, and if you’re making big bets that you believe could substantially change customer experience (and your company), you have to be in it for the long-haul or you’ll give up too quickly.

Brace Yourself for Failure

If you invent a lot, you will fail more often than you wish. Nobody likes this
part, but it comes with the territory. When it’s clear that we’ve launched something that won’t work, we make sure we’ve learned from what didn’t go well, and secure great landing places for team members who delivered well—or your best people will hesitate to work on new initiatives

You can use the above 7 components to build a customer-focused iterative innovation business. I would say, use this as a checklist to identify if the "Iterative Innovation Focused" businesses you own deserve to be in your portfolio.

You can check out the Letter here.

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Thanks, take care.
Chet @ Modern Growth Investing

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