I’ve spent $18,027.38 on Amazon

I’ve spent $18,027.38 on Amazon since 2017. Frankly, this is far less than I thought considering I could build a house with all the empty Amazon boxes I’ve collected. They’re known as “the everything store” - with over 45% of ecom purchases happening through Amazon. So how do startups take on a giant like Amazon? 

I’ve spent $18,027.38 on Amazon since 2017.  

Frankly, this is far less than I thought considering I could build a house with all the empty Amazon boxes I’ve collected.

They’re known as “the everything store” - with over 45% of ecom purchases happening through Amazon.

So how do startups take on a giant like Amazon? 

With EXTREME precision. 

Amazon Warehouse in New Jersey

 

There are only a few instances in which I don’t buy from Amazon: 

  • Personalization: This product is custom to me 💅 (e.g. Prescription glasses, high-end fitted clothing, medical prescriptions, etc.)
  • Education: Amazon sells all things, but they don’t sell all things well. They simply cannot be the most informed retailer on the entirety of their product catalogue, so when I want to be informed, I look elsewhere 🤓 (e.g. What is the best protein for my body type and lifestyle? What is the healthiest packaged food for my dog?)
  • Experience: Amazon has a great customer experience, but its increasingly becoming the standard for eCommerce today. I will prioritize a differentiated “white glove” experience when it makes sense 🥂.  

When taking on a giant, you have to pick your spots and do so with extreme operating precision. 

Today, we’re going to explore capital efficiency. The ability for a startup to take on giants and build a business system that can turn $1 into $100 or even $1,000, and how you can measure it. 

Let’s dig in! 

Today we’ll explore: 

  1. Selling for $3.5B in cash 🦄: How this company took on Amazon…and won
  2. The capital efficiency formula 📈: The art of turning $1 into $1,000 

Part 1 – Selling for $3.5B in cash 🦄: How this company took on Amazon…and won 

As of 2021, around 70% of the US households (or about 90.5M families) own pets while the industry expenditure has increased 2x over the past decade from $48B in 2010 to $103.6B in 2020.

This growing trend is greatly influenced not only by the increase in the quantity of our furry family members, but also the increase in the quality of life we aim to offer them. This is what Ryan Cohen, the founder of Chewy.com, set at the core of his company’s strategy. 

Ryan Cohen and, founding CEO at Chewy.com, and his dog, Tylee.


  • Mr. Chewy (later renamed chewy.com) was founded in 2011 by Ryan Cohen and Michael Day. FUN FACT: the duo was planning on launching an online jewelry store and pivoted one week ahead of launch! 💍 ➡️ 🐶
  • For the first 2 years, the company was bootstrapped and received hundreds of rejections from VCs and angel investors afraid to support the young founders that were “bound to lose to all-mighty Amazon” ⛔
  • In 2013, the company closed its Series A raising a $15M funding from Volition Capital (one of the VCs that rejected the company earlier) 💸
  • In a few years the company became the biggest animal food, toys, beds, and pharmaceuticals retailer, selling over 7M items at the highest level of convenience and customer service 🚀
  • In 2016, the company hit $901M revenue and was ready for an IPO when it got an acquistion offer from its brick-n-mortar competitors Petco and PetSmart 🙋‍♂️
  • In 2017, after 7 rounds of financing, Chewy was sold to PetSmart for $3.5B in cash, which was the largest e-commerce acquisition ever at the time 🤝🏼
  • In 2019, PetSmart spun Chewy off into a publicly traded company at a valuation near $9B 📈

Despite the massive sales success, Ryan, now the former CEO, refers to the closing of the first round of funding and what came after as “the most memorable” phase in the company's history. 

Why?

Because during the fundraising process, Ryan reached out to hundreds of investors and everyone single one of them said “no”. It was exhausting… 

The biggest rationale? “Because nobody can beat Amazon”.

So how did they do it? 

There’s only one way to take on Amazon: occupy a large niche AND create a differentiated customer experience.

Amazon has incredible infrastructure, established relationships with customers and suppliers, and endless capital. But Chewy wasn’t the first company to take them on – Ryan saw other companies, including Zappos (later acquired by Amazon for $1.2B) and Wayfair (market cap. $14.9B), find success in specific product categories with MASSIVE market sizes like footwear and furniture.

Chewy’s dedication to customers was unprecedented at the time. Here are a few exapples:

  • Make it easy – subscription offerings on ecom websites are common now, but at the time Chewy’s Autoship product was at the forefront of offering this convenience by automating the purchasing process.
  • Customers come first – there are countless examples like this of Chewy’s customer support reaching out proactively to customer reviews to offer top-notch service and no-questions-asked refunds.
  • Going above and beyond – one man’s dog passed away shortly before the owner received a $70 bag of dog food in the mail, so he simply asked if he could return the bag. What happened next truly surprised the man. Not only did Chewy offer a full refund and tell him to donate the dog food instead of returning it, he also received this this oil painting in the mail with handwritten card. 

 

Chewy nailed the first two criteria for getting into the fighting shape to take on Amazon 🥊 

  • A specific product category with a large market size ($103B pet industry expenditures in 2020)
  • A differentiated customer experience (how sweet is that painting?!)

But the Chewy team didn’t stop there, which leads us to part 2…

Part 2 – The Capital Efficiency Formula 📈: The art of turning $1 into $1,000 

First, Chewy invested diligently into marketing, enabling them to acquire the right customers at the right price.

The company invested almost exclusively in direct response ads, meaning every advertising dollar could be tracked – they weren’t going to fall into the trap of spending millions of dollars on a Super Bowl commercial with no way of tracking whether it was driving value. The company had a laser focus on free cash flow. Sales more than doubled from $205M in 2014 to $423M in 2015.

Next, Chewy tackled operations. 

It was already growing at 300% annual rate, had $15M cash in the bank account and a massive market to tackle. E-commerce as a business category largely relies on scale and to win in the unit-economics game, Chewy needed to improve its in-house warehousing and fulfillment processes. 

In the summer of 2014, Chewy opened up a 400,000-square-foot logistics facility in Mechanicsburg, Pennsylvania and hired top-notch pet-loving talent (some also former Amazon employees). 

All these efforts were to increase the capital efficiency making other investors more comfortable and confident to pour money into the company. In 2014 alone, Chewy raised two rounds of funding worth $30M and $41M, respectively. 

So, what is Capital Efficiency and why did investors care about it before investing? 

Put simply, capital efficiency is the ratio of the company revenue and the expenses to generate earnings over the course of set time. It’s also called Return on Capital Employed (ROCE). In other words, the ratio shows how well the company utilizes its capital to operate and grow:

Let’s look into Chewy’s ROCE between 2014 and 2018. Over the 4 years, the company burned only $134M in free cash flow + approximately $750M on marketing while growing revenue to over $3.5B. So, in 2018 the company efficiency ratio was 3.5B:885M or 3.9x. 

As an investor, you need to know this number (and of course the higher it is the better) to evaluate how well the team will manage your money to generate the highest possible income for the company and, ultimately, for yourself. 

While it is solely based on historic data and has no projective nature, capital efficiency can help an investor evaluate the startups based on the founders’ ability to make quality decisions. 

But don’t get confused here. Raising big rounds doesn’t mean more efficiently deployed capital. This is where the Venture Capital Efficiency Ratio (VCER) comes in to define the highest amount of equity return generated by the capital invested:

By the time Chewy.com IPO'd in 2019, it had raised $451M in total and was valued at over $14B, making the company's VCER 31x. Enterprise cloud provider Veeva, on the other hand, raised only $7M between 2007 and 2008, went public in 2013 reaching a $4.49B valuation at a phenomenal 641x VCER!

With this being said, the biggest takeaway you should have as an investor is to avoid investing in companies that don’t need the capital but raise it just because they can. 

Go for those that bootstrap as long as it is possible before raising a fund to accelerate growth. 

Go for those that don’t rush into the next round until they burn all the cash responsibly. 

These companies minimize delusion while maximizing equity value and these are the teams that will take your money and give it back to you 10x. 

I’ll see you next week!✌️