:Ben Metcalfe Blog

Maybe Zappos wasn’t the amazing shiny business bundle of joy it was made out to be?

I’ve always found Zappos’ exuberant approach to customer service and employee perks somewhat peculiar. Masterminded by its CEO, Tony Hsieh, I’ve seen him speak several times on the subject and read countless stories in the media and blogosphere on how amazing it all is.

Don’t get me wrong, it’s great that you can call them up and order a pizza and every employee gets to decorate their cubes.

But I’ve never been convinced it really converts into increased profits in a mainstream, volume-orientated, retail vertical selling commodity products like shoes.

As much as I want to believe in it all, we’ve never seen the hard numbers on sales because Zappos has always remained a private company. Yes, they revealed they did $1bn in sales in 2008 but that doesn’t mean anything – that could be against $1.2bn in costs at which point they’d be operating at a loss. And I don’t see the point of cheerleading an established company that has never turned a profit.

So it was interesting to read a somewhat bitter-sounding Tony Hsieh reveal some insight to Inc. Magainze on the operations of his company and why he sold to Amazon.

The two juicy nuggets I found interesting:

1) Even with $1bn in sales, Zappos was trading on a $100m line of credit

By 2008 we were doing more than $1 billion in gross merchandise sales annually

At the time, Zappos relied on a revolving line of credit of $100 million to buy inventory. But our lending agreements required us to hit projected revenue and profitability targets each month. If we missed our numbers even by a small amount, the banks had the right to walk away from the loans, creating a possible cash-flow crisis that might theoretically bankrupt us. In early 2009, there weren’t a lot of banks eager to give out $100 million to a business in our situation.

In other words it doesn’t appear Zappos was even making $100m/year profit on that $1bn/year in sales (a rather poor 10%) – if it was, presumably it would pay off the debt that was leaving it in such a precarious position. Given that Zappos has never competed with other retailers on price, and thus been able to maintain healthy margins, one has to wonder whether all that amazing customer service and employee benefits have been proven overly expensive?

2) Zappos’ Board had no confidence in his corporate culture methodology and just wanted to exit

Although I’d [Tony Hsieh] financed much of Zappos myself during its early days, we’d eventually raised tens of millions of dollars from outside investors, including $48 million from Sequoia Capital, a Silicon Valley venture capital firm. As with all VCs, Sequoia expected a substantial return on its investment — most likely through an IPO. It might have been happy to wait a few more years if the economy had been thriving, but the recession and the credit crisis had put Zappos — and our investors — in a very precarious position.

Some board members had always viewed our company culture as a pet project — “Tony’s social experiments,” they called it. I disagreed. I believe that getting the culture right is the most important thing a company can do. But the board took the conventional view — namely, that a business should focus on profitability first and then use the profits to do nice things for its employees. The board’s attitude was that my “social experiments” might make for good PR but that they didn’t move the overall business forward. The board wanted me, or whoever was CEO, to spend less time on worrying about employee happiness and more time selling shoes.

Despite controlling the common stock, Tony was at risk of being ousted as CEO at any time and replaced with someone more traditional. In other words it appears he sold out to Amazon not because it was a match made in heaven but really just to eject the board and keep his position safe. And Jeff Bezos had the check waiting.

Conclusions

I don’t have any firm conclusions right now as I’m still digesting the rest of the article (an excerpt from his book) but it’s pretty frank and telling. I’m actually very surprised Tony has given such a revealing account given he is still the CEO.

But I do think this indicates a friction between the much lauded Zappos corporate culture and the realities of establishing a profitable business – specifically that Zappos failed to prove it.

While everyone working at Zappos was able to pick up a solid pay check while working in nice conditions and customers could call up the helpline and talk about whatever they wanted, it appears that Zappos hasn’t become the business success many have drunk the kool-aid over.