A Prime misunderstanding: explaining Amazon Prime's success

Amazon Prime is the greatest and most misunderstood loyalty program ever created. This is a loyalty program with no point system. A loyalty program customers have to pay $99 a year to be a part of. Prime is not predicated on signing up for another credit card and getting a fleeting one-time discount on a purchase. Prime is not about free shipping or fast shipping. Prime is not about streaming video or music. Prime is not about discounts.

Prime, at its core, is about changing consumer behavior by reducing friction. Companies and brands of all types could learn a lot from Prime. But first, one has to understand how Prime actually works.

The birth of Prime

The most common understanding of Amazon Prime is that its core benefit is really fast shipping. This was true... back in 2004, when the program first came to fruition. According to Brad Stone's "The Everything Store," a fantastic look into all things Amazon, the company started investing in more efficient shipping methods in 2002. Amazon often had excess supply on its delivery trucks and decided to offer slower but cheaper shipping to fill this excess capacity. Super Saver Shipping was born.

Later that year, Amazon introduced a quicker shipping option to customers for an extra fee. Over the next few years, Amazon increased its efficiency and started to drive down the cost of faster shipping. In 2004, an engineer at Amazon opined that while Super Saver Shipping was great for cost-conscious customers, what about a program for time-conscious customers? Jeff Bezos, Amazon's founder and CEO, soon got wind of the idea and put it on a fast track to release, giving the team only weeks to launch the program. “This is a big idea," he said.

When executives were picking the starting price for Prime, there was little in the market to benchmark the program against. Bezos finally landed on $79 a year, which he deemed cheap enough to try out, but expensive enough to have an impact on a consumer's purchasing behavior. “It was never about the seventy-nine dollars. It was really about changing people’s mentality so they wouldn’t shop anywhere else" Vijay Ravindran, the director of Amazon’s ordering systems, told Stone. From the beginning, Prime was intended to effect purchasing behavior, not just offer faster shipping.

From Stone:

In many ways, the introduction of Amazon Prime was an act of faith. The company had little concrete idea how the program would affect orders or customers’ likelihood to shop in other categories beyond media. If each expedited shipment cost the company $8, and if a shipping-club member placed twenty orders a year, it would cost the company $160 in shipping, far above the $79 fee. The service was expensive to run, and there was no clear way to break even. “We made this decision even though every single financial analysis said we were completely crazy to give two-day shipping for free,” says Diego Piacentini.

What sets Amazon apart is its undivided focus on improving the customer experience, something Bezos has talked about at length. He is so committed to doing so that the short term financials of the company are free to suffer, as they did with Prime, which was bleeding money early on. But the short term didn't matter, since the long term behavioral effect—shoppers defaulting to Amazon—is so powerful that Amazon will be cashing in on this behavioral modification for decades. Prime latched on to the power of defaults, knowing that the result of a customer browsing first on Amazon would be immensely more profitable than the $79 membership fee, which has since been raised to $99.

Prime was not the first tool Amazon built that radically altered behavior. 1-click ordering, which is probably Amazon's most famous patent, had a similar effect on purchasing. The same goes for Super Saver Shipping, which encouraged customers to buy more since shipping was free when the shopping cart hit a specific level.

From Stone:

But Bezos was going on gut and experience. He knew that Super Saver Shipping had changed customers’ behavior, motivating them to place bigger orders and shop in new categories. He also knew from 1-Click ordering that when friction was removed from online shopping, customers spent more. That accelerated the company’s fabled flywheel—the virtuous cycle. When customers spent more, Amazon’s volumes increased, so it could lower shipping costs and negotiate new deals with vendors. That saved the company money, which would help pay for Prime and lead back to lower prices.

The focus on the customer relationship, long term financials and an intimate understanding of how Amazon's flywheel works, put Prime on the path to be an unwavering success. This did not happen overnight, and Amazon is no where near finished improving the program. But it's crucial to understand how and why Amazon built the program and why it's so successful. Amazon is keenly aware of the second-order effects of technologies like 1-click and programs like Prime—mainly the behavioral change—while many others focus on the first-order effects, such as Prime's seemingly unprofitable $79 price tag and faster shipping. It's crucial to look beyond the individual tactics of the program.

From Stone:

Amazon customers who joined Prime doubled, on average, their spending on the site, according to a person familiar with the company’s internal finances at the time. A Prime member was like a shopper who walked into a Costco warehouse for a case of beer and walked out with the beer plus an armful of DVDs, a nine-pound smoked ham, and a flat-screen television.

Prime changes a customer's shopping behavior by minimizing friction she is subject to. Less friction breeds more loyalty. Amazon's latest embodiment of this theory is Prime Pantry, which offers up to 45 pounds of household items for a flat shipping rate of $5.99. I recently placed an order for some Prime Pantry items, and the flat fee, along with a genius "your box is only 9% full" message, encouraged me to buy more to fill up the box, thus amortizing the $5.99 shipping fee. It wouldn't be smart to buy an item for $10 when shipping costs $5.99, so I gladly filled up my Prime Pantry box with five more items. This is the first time I've consciously felt Amazon's behavioral hacks work on me, and it was fascinating to realize this as I added more items to my cart.

Where fast shipping fits in

With all of this in mind, it's somewhat baffling to see the recent news that Walmart is trying to start a Prime of their own, focused on faster shipping. ShippingPass, as it's called, costs $49 a year and offers free shipping on one million items. The introduction of ShippingPass comes after Walmart announced late last year that they would pour over $2 billion into their ecommerce capabilities over the next two years.

Besides the fact that Amazon operates with a cheaper and more tailored cost structure than Walmart ever will, given the latter company's burdensome real estate footprint, ShippingPass's narrow focus on shipping misses the point of Prime. Fast shipping enabled Prime to offer near instant gratification for its members, which in turn tilted their shopping behavior in Amazon's direction. Fast shipping is merely a means to this end, not the end itself. Fast shipping is a tactic that enables the strategy of offering the best customer experience, which gets customers to default to Amazon. Fast shipping is not the strategy itself. Customers shop at Amazon because it's the best experience, and Prime led the way on this front.

What Prime means for loyalty

The biggest lesson to take from Prime is that loyalty is about behavior. It is not about a point system, coupons, discounts, branded credit cards or any other oversimplified projection of loyalty. Instead, loyalty is about nurturing behavior that defaults in a business's direction. Building the best customer experience is a guaranteed way to incite loyalty. With a true understanding of Prime, one can apply this mentality to other industries, including ones that don't rely on fast shipping. The key is to simply enable an experience that is so good it changes previous behavior. That's all loyalty is.

Companies that offer the best experience build strong relationships with their customers. For Amazon, loyalty is instant gratification (insanely quick shipping) and an endless selection (tens of millions of products). For Starbucks, loyalty is speed (quick checkout) and personalization (your coffee, your way). For Apple, loyalty is meticulously engineered products (just watch the Jony Ive videos) and a unrivaled attention to design (products, stores, ads). All of these examples lead to a better experience for customers, which breeds loyalty. Fast shipping is not a blanket answer, even in retail. Building the best experience, however, always applies.