Why Amazon's private labels hurt consumers more than third-party sellers

In a paper published in the journal Marketing Science, Amaldoss and Fei Long of UNC Chapel Hill examined how the sponsored-ad slot on Amazon searches affects the platform’s and third-party sellers’ profits, as well as consumer welfare.

The researchers found that while the consumer is mostly hurt by the platform taking the prominent ad slot, some third-party sellers might actually benefit from it.

“Amazon earns commissions from third-party sales. They don’t want to compete aggressively with third party sellers,” Amaldoss said. “If there is too much price competition, then third-party sales commissions will decrease, hurting Amazon’s profits.”

Amazon brands: How private labels work

Imagine a grocery store like Whole Foods — they sell big brands like Tropicana, but they also have their own orange juice, sold under the "365 by Whole Foods Market" brand.

The same happens with Amazon, which marks its private labels as “Amazon Basics,” “Amazon Essentials,” or generically “featured from our brand.”

When Amazon sells its private label products, it profits from its sales margin. When it sells a third-party product, Amazon only gets a commission from the sale. The sales margin from its own product is higher than the commission it gets from third-party sales, Amaldoss said.

Amazon often features its private labels in prominent ad slots at the top of the search result page, but the research shows that it is not always lucrative for platforms to do so.

Why Amazon (sometimes) bows out of bidding wars

Third-party sellers constantly bid to win the top spots on Amazon searches. When consumers type “bath towels,” an automatic auction is instantly run by Amazon to assign the premium spot to the highest bidder.

“Most of the purchases happen on a smartphone,” Amaldoss said. “People don’t have much patience to scroll ‘below the fold.’ The top spots influence which product consumers pick.”

Winners get the “sponsored product” placement and are willing to pay significant money for the spot, Amaldoss said.

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When advertising on Amazon is very effective — which Amazon knows, because the bids are high, he said — the bidding competition for ad slots can create a win-win situation where Amazon actually earns more by stepping aside. If a third-party seller wins the top ad slot, Amazon earns both ad revenue and commissions on the product’s sales — potentially generating more profits than if Amazon had placed its own product in the prominent ad slot. 

“On the other hand, if the advertising on the prominent ad slot is less effective and the bids for the ad slots are low, it would be profitable for Amazon to take the prominent slot and earn more money from its private label products,” Amaldoss said.

Less competition, higher prices

According to industry research, up until 2020 Amazon’s own products secured the top ad slots in 20% of users searches.

While ecommerce platforms may contend that their products are often cheaper than third-party offerings, Amaldoss’ research found that even when this is true, consumers are ultimately hurt because the bidders who would have taken that slot would have lowered prices even further.

When third-party sellers win the bids for the top ad slot, Amaldoss said, they are willing to compete on price more aggressively than Amazon — which has less incentive to compete on price because Amazon also makes money from commissions on third-party sales.

“Even when the platform’s prices are lower, they may end up hurting the consumer. This is because when Amazon self-preferences its own private label for the prominent ad slot, a third-party seller loses the opportunity to feature in the ad slot and charge an even lower price” Amaldoss said.

Fighting for the wrong side?

Public calls of unfairness leveled against Amazon’s self-preferencing practice are usually focused on the damage it purportedly inflicts on third-party sellers.

However, Amaldoss believes that some third-party merchants may actually benefit when Amazon claims the top ad slot. 

When Amazon gives higher visibility to its own products, it only hurts the bidder who would have otherwise won the prominent ad slot, he said.

The research found that all the other third-party merchants may actually benefit from competing against Amazon, which is less motivated to lower prices because it also earns from commissions. As a result, third-party sellers can profit from the softened competition.

It’s the consumer, not third-party sellers, who bears the cost, Amaldoss said.

“The federal government has an obligation to protect vulnerable consumers,” he said.