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PART III

Missionary or Mercenary? CHAPTER 9

Liftoff!

The fulfillment center dubbed Phoenix 3 on the east side of Arizona’s largest city assaults the senses. It’s the physical manifestation of the everything store, a vision that most Amazon customers could never even imagine and will never behold: a 605,000-square-foot temple to the twin gods of efficiency and selection. Products are neatly arranged but seemingly randomly stowed on shelves. Star Wars action figures sit next to sleeping bags; bagel chips next to Xbox video games. In one high-risk-valuables area, monitored by overhead video cameras, a single Impulse Jack Rabbit sex toy is wedged between a Rosetta Stone Spanish CD and an iPod Nano. Amazon stocks dissimilar products next to one another to minimize the possibility of employees selecting the wrong item, but that seems unlikely to happen. Every product, shelving unit, forklift, roller cart, and employee badge has a bar code, and invisible algorithms calculate the most efficient paths for workers through the facility.

The aisles of Phoenix 3 are a bustling hive of activity, yet the cavernous space feels quiet. The prevailing sounds come from 102 humming rooftop air conditioners and a chorus of beeping electric carts. One employee manages to project his voice through this acoustic dead zone. Terry Jones, an inbound support associate making twelve dollars an hour, pushes a cart through aisles with towering stacks of products on each side and shouts his arrival in honeyed tones to everyone in his way: “Cart coming through. Yu-up! Watch yourself, please!”

Jones says he is making his time at Amazon “joyful and fun” while complying with the company’s rigorous safety rules. And those same warnings could have been shouted to the world’s retailers in 2007: Amazon was coming for them.

Wall Street analysts first began to notice changes in the company’s financial numbers early that year. Amazon’s sales were accelerating while third-party sellers were reporting a surge of activity on the site and a corresponding decrease on rival platforms like eBay. Curiously, Amazon’s inventory levels were growing too. The company was keeping more merchandise in places like Phoenix 3, as if it confidently expected customers to start buying more.

Scott Devitt, then an analyst for the investment bank Stifel Nicolaus, spotted these shifts earlier than most and upgraded the stock from hold to buy in January 2007.1 He changed his rating on the same day a Merrill Lynch adviser offered the far more conventional analysis that Amazon’s margins were hopeless and that it could not make any money. “I was laughed out of portfolio managers’ offices,” Devitt says. “People were ripping apart every component of my investment thesis. At that point, they thought Amazon was some kind of nonprofit scam.”

Inside Amazon, the pain endured over the previous seven years was paying off. Prime, the two-day shipping service, was an engine spinning the company’s flywheel ever faster. 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 members bought more products across more categories, which in turn convinced sellers to let Amazon stock their merchandise and ship their orders from its fulfillment centers, since that meant their products qualified for Prime two-day shipping. Amazon was enjoying what analysts call operating leverage—it was getting more out of its assets, and its famously microscopic profit margins started to expand. (Although that was temporary—they would shrink again a few years later when Bezos started investing in new areas like tablets and streaming video.)

All of this became dramatically visible to the wider world for the first time on April 24, 2007, when Amazon announced surprisingly strong results from its first quarter. Quarterly sales topped $3 billion for the first time—a 32 percent jump in a year, well above its previously consistent 20-something percent annual growth rate and the 12 percent annual growth rate for the rest of e-commerce. That meant Amazon was stealing customers from other Internet players and likely even from the offline chains. During 2007, as investors came to understand the salubrious effects of Prime, Amazon’s stock jumped 240 percent—only to fall all the way back down again in the ensuing financial crisis and global recession.

At the same time that Amazon’s flywheel was accelerating, eBay’s was flying apart. The appeal of online auctions had faded; a customer wanted the convenience and certainty of a quickly completed purchase, not a seven-day waiting period to see if his aggressively low bid for a set of Cobra golf clubs had won the day.

But eBay’s problems went beyond the overripening of the auctions format. Amazon and eBay had taken diametrically opposite paths. Amazon endured the pain of disrupting its own retail business with its eBay-like Amazon Marketplace, which allowed third-party sellers to list their products on the company’s single-detail pages; eBay, which had started as a third-party auctions platform, recognized that many of its customers wanted a more Amazon-like fixed-price alternative but failed to self-administer the necessary bitter medicine in a single dose. It spent two years working on a separate destination for fixed-price retail, called eBay Express, which got no traffic when it debuted in 2006 and was quickly shut down. Only then did eBay finally commit to allowing fixed-price sales to share space alongside auctions on the site and in search results on eBay.com.2

Meanwhile, Amazon invested heavily in technology, taking aggressive swings with digital initiatives like the Kindle. Amazon also focused on fixing and improving the efficiency of its fulfillment centers. EBay executives searched for high-growth businesses elsewhere, acquiring the calling service Skype in 2005, the online-ticketing site StubHub in 2007, and a series of classified-advertising websites. But it let its primary site wither. Customers became happier over time with the shopping experience on Amazon and progressively more disgruntled with the challenges of finding items on eBay and dealing with sellers who overcharged for shipping. Amazon had battled and mastered chaos; eBay was engulfed by it.

In 2008 Meg Whitman passed eBay’s reins to John Donahoe, a tall and gracious onetime Dartmouth College basketball player and a former consultant for Bain and Company. One of Donahoe’s first trips in his new capacity was to Seattle, where he went to pay a courtesy visit to Bezos at Amazon’s headquarters. The executives talked about innovation, hiring, and how they got enough exercise and dealt with stress. Bezos was now working out regularly and was on a strict lean-protein diet.

At the meeting, Donahoe paid his respects to the e-commerce pioneer. “I am always going to be less cool than you,” he told Bezos. “I have huge admiration for what you’ve done.” Bezos said that he did not view Amazon and eBay as fighting a winner-take-all battle. “Our job is to grow the e-commerce pie and if we do that there is going to be room for five Amazons and five eBays,” Bezos said. “I’ve never said a negative thing about eBay and I never will. I don’t want anyone to view this as a zero-sum game.”

That year, eBay’s stock lost over half its market value, and in July, Amazon’s valuation surpassed eBay’s for the first time in nearly a decade. Bezos had now accomplished many of his early goals, like turning Amazon into the primary storefront on the Web. The website was selling more kinds of things—and just generally selling more things—than ever before. Amazon reported $14.8 billion in sales in 2007, which was more than two of its earliest foes combined could boast: Barnes & Noble pulled in $5.4 billion that year, and eBay $7.7 billion.

That meant nothing, of course. Despite the teeming abundance of merchandise at Phoenix 3, Bezos still saw broad gaps in Amazon’s product lineup. “In order to be a two-hundred-billion-dollar company, we’ve got to learn how to sell clothes and food,” Bezos said frequently to colleagues during this time. That figure was not randomly selected; it referred to the magnitude of Walmart’s sales in the middle years of the decade. To lead the new foray into consumable goods, Bezos hired Doug Herrington, a former executive at Webvan, the failed grocery-delivery business from the dot-com boom. After two years of work, Herrington’s group started testing Amazon Fresh, a grocery-delivery service in Amazon’s hometown of Seattle.

At the same time that Bezos hired Herrington, he brought in veteran apparel executive Steven Goldsmith and acquired the luxury-goods website Shopbop to help Amazon learn the byzantine ways of the clothing business. Along with Goldsmith, Russ Grandinetti, as head of hard-lines, would lead the renewed charge into apparel.

In the midst of yet another retail expansion at Amazon, Bezos seemed to be trying to modulate his management style and keep his notoriously eviscerating assessments of employees in check. It was said he had hired a leadership coach, though the identity of this counselor was a closely guarded secret. “You could see the fact that he was getting feedback and taking it seriously,” says Diane Lye, then the director of infrastructure automation. During one memorable meeting, Bezos reprimanded Lye and her colleagues in his customarily devastating way, telling them they were stupid and saying they should “come back in a week when you figure out what you’re doing.” Then he walked a few steps, froze in midstride as if something had suddenly occurred to him, wheeled around, and added, “But great work, everyone.”

The S Team was working together more smoothly now. Familiarity had bred trust and apparently quelled the acrimony among the Amazon managers. Bezos had at this point worked with executives like Jeff Wilke, Jeff Blackburn, Diego Piacentini, chief financial officer Tom Szkutak, and general counsel Michelle Wilson for the better part of a decade.

But one beloved S Team member was no longer with the company. At an all-hands meeting at the Moore Theater in November of 2007, Jeff Bezos announced to employees that Rick Dalzell, his longtime right-hand man, was retiring. The senior manager of the company’s engineers, Dalzell had been trying to exit for a while.

He was fifty years old, he had gained weight, and he was ready to spend more time with his family. After Bezos made the announcement, the two men got emotional and embraced onstage. On Dalzell’s last day at work, his colleagues threw him a low-key going-away party at Jillian’s bar in South Lake Union.

Four months later, enjoying retirement, Dalzell decided to visit his daughter in college in Oregon. His wife chartered a private plane for her husband, herself, and Dalzell’s parents. Strangely, their driver took them not to their usual airport but to a private airfield down the street from Boeing Field. Dalzell finally started to notice something was amiss when the car pulled up to a familiar hangar sheltering a Dassault Falcon. When he walked into the airplane, he found it full of friends, colleagues, and Jeff Bezos, all of whom shouted, “Surprise!” They were going to Hawaii for a gala given in appreciation of Dalzell’s longtime service, just like the Shelebration for Shel Kaphan nine years before. Bezos and MacKenzie invited Andy Jassy and his wife, former colleague Bruce Jones, and a bunch of Dalzell’s family friends and army buddies.

They stayed in bungalows on a beach in Kona. Butlers were on call, and a sushi chef appeared at four o’clock every afternoon. Lengthy toasts were proffered over dinners, and one day they took an aerial tour of Volcanoes National Park, but in the jet, not a helicopter. “Jeff’s not a helicopter guy anymore,” says Bruce Jones.

Bezos worked his subordinates to exhaustion, supplied little in the way of corporate creature comforts, and allowed many key personnel to leave without showing any remorse. But he was also capable of deeply gracious and unexpected expressions of appreciation. Dalzell had performed heroically for a decade and kept the company on track in the gloomy days when the infrastructure was a mess and Google was poaching every other engineer.

Over the next few years, Dalzell watched Amazon from afar and marveled at how Bezos turned himself into one of the world’s most admired corporate chiefs. “Jeff does a couple of things better than anyone I’ve ever worked for,” Dalzell says. “He embraces the truth. A lot of people talk about the truth, but they don’t engage their decision-making around the best truth at the time.

“The second thing is that he is not tethered by conventional thinking. What is amazing to me is that he is bound only by the laws of physics. He can’t change those. Everything else he views as open to discussion.”

Amid this renaissance of sales growth and continued category expansion, Amazon made very few acquisitions. The lessons learned from its early acquisition spree in the late 1990s were still felt inside the company. Amazon had impulsively spent hundreds of millions to buy unproven startups that it could not digest and whose executives almost all left. In the resulting retrenchment, Amazon became uniquely parsimonious in how it approached mergers and acquisitions. Between 2000 and 2008, it acquired just a few companies, among which were the Chinese e-commerce site Joyo (bought in 2004 for $75 million), the print-on-demand upstart BookSurge (bought in 2005 for an undisclosed amount), and audio-book company Audible (bought in 2008 for $300 million). These deals were paltry by the standards of the broader technology industry. During this span of time, for example, Google bought YouTube for $1.65 billion and DoubleClick for $3.1 billion.

Jeff Blackburn, Amazon’s chief of business development, said that Amazon’s bruises from the 1990s helped to create a “building culture” there. Every major company faces decisions over whether it should build or buy new capabilities. “Jeff almost always prefers to build it,” Blackburn says. Bezos had absorbed the lessons of the business bible Good to Great, whose author, Jim Collins, counseled companies to acquire other firms only when they had fully mastered their virtuous circles, and then “as an accelerator of flywheel momentum, not a creator of it.”3

Now that Amazon had finally mastered its flywheel, it was time to splurge. For Bezos and Amazon, the irresistible temptation was Zappos.com, the online footwear and apparel retailer founded in 1999 by a soft-spoken but unnaturally persistent entrepreneur named Nick Swinmurn. By all measures, Swinmurn’s unlikely idea—to let people buy shoes over the Web without trying them on first—should have drifted off with the other flotsam in the dot-com bust. But after getting turned away from a dozen venture-capital firms, Swinmurn finally solicited an investment from an equally tenacious entrepreneur named Tony Hsieh, the son of Taiwanese immigrants and a seasoned poker player who had sold his first company, LinkExchange, to Microsoft for $250 million in stock. Hsieh and Alfred Lin, a Harvard classmate and former chief financial officer of LinkExchange, placed a tentative $500,000 bet on the startup Zappos via their investment firm Venture Frogs, and Hsieh later joined it as CEO. In the grip of the dot-com downturn, Hsieh simply refused to let Zappos die, putting in $1.5 million of his own money and selling off some of his personal assets to keep it afloat. He moved the company from San Francisco to Las Vegas to cut costs and to make it easier to find workers for its customer-service call center.

In 2004, Hsieh attracted an investment from Sequoia Capital, the firm that had backed LinkExchange. Sequoia, which had rejected Zappos a few times before coming around, invested a total of $48 million in the startup across several rounds, and a partner, Michael Moritz, joined the board of directors. In Las Vegas, the company finally found its groove, and in the minds of Web shoppers, its name and website became synonymous with the novel idea of buying footwear online.

In many ways, Zappos was the Bizarro World version of Amazon; everything was slightly similar but completely different. Hsieh, like Bezos, nurtured a quirky internal culture and frequently talked about it in public to reinforce the Zappos brand in customers’ minds. But he took it even further. New employees were each offered a flat one thousand dollars to quit during the first week on the job, the assumption being that those who took the bounty were not right for the firm anyway. Employees were encouraged to lavishly decorate their cubicles at Zappos headquarters in Henderson, Nevada, and each department would rise in rowdy salute to the visitors who toured the offices. Hsieh felt strongly that everyone, even senior executives, should take below-market compensation to work there because of the great internal culture the company offered.

Like Bezos, Hsieh was obsessed with the customer experience. Zappos promised free five-to seven-day delivery on orders and aimed to surprise customers with two-day delivery in most major urban areas. The website’s users could return items at no charge for up to a year after their purchases, allowing a customer to order four pair of shoes, try them all on, and return three of them. Hsieh encouraged his call-center representatives to spend as much time as necessary talking to customers to solve their problems. Bezos, of course, treated phone calls from customers as indications of defects in the Amazon system, and he tried vigorously to reduce the number of customer contacts for each unit sold. In fact, finding the toll-free number on the Amazon website can be something of a scavenger hunt.

Zappos’ sales soared from $8.6 million in 2001 to $70 million in 2003 to $370 million in 2005.4 Hsieh and his cohorts had outflanked Amazon in a key part of the apparel market, establishing Zappos as a strong, flexible presence in customers’ minds and forging good relationships with well-known shoe brands like Nike. For the first time in years, Bezos had a reason to admire and closely track an e-commerce upstart that had the potential to expand and take away some of his business.

In August of 2005, Bezos e-mailed Hsieh and told him he was going to be in Las Vegas and would like to pay him a visit. The meeting was held in a conference room at a DoubleTree hotel a few blocks from the Zappos office. Bezos brought Jeff Blackburn. Hsieh brought Nick Swinmurn, Michael Moritz, and Alfred Lin, who had just joined Zappos as chairman and chief operating officer. Playing off Amazon’s famous two-pizza-team culture, the Zappos executives served two pizzas, one with pepperoni and one with jalapeño peppers, from a local restaurant. The meeting was brief and awkward. The Zappos executives suggested potential partnership arrangements, but Bezos politely said he would rather own the whole business. Hsieh replied flatly that he was set on building an independent company. Later, Amazon executives got the impression that Zappos could be acquired for around $500 million, but Bezos, who’d become a chronically frugal acquirer, imagined paying only a fraction of that amount.

At this point, the competitive landscape must have looked to Bezos like the chessboards of his youth. The positions of the pieces in this particular game heavily favored his opponent. By law, manufacturers are not allowed to set retail prices, but they can decide whom they want to carry their products, and they make those decisions judiciously. Shoe brands like Nike and Merrell viewed Amazon as a dangerous discounter, a company that would very likely consign their new in-season products to the bargain bin in an effort to garner new customers and gain market share. As a result, the top brands were reluctant to supply Amazon with merchandise, and the website’s shoe selection was sparse.

Amazon had other disadvantages in the shoe business. The Amazon website was not well suited to products that had lots of variations, like a shoe that comes in six colors, eighteen sizes, and several widths. Amazon.com listed all these variations on a single shoe as separate products, and customers couldn’t perform searches for multiple variables, like both color and size.

Navigating through this complex matrix, Bezos came up with an unlikely gambit. He decided to build an entirely separate website from scratch, devoted solely to the categories of shoes and handbags. Bezos brought that plan to the members of his board, who braced themselves to make another costly and impractical investment at the same time they were betting heavily on the Kindle and Amazon Web Services. “How much money do you want to spend on this?” asked chief financial officer Tom Szkutak in the board meeting. “How much do you have?” asked Bezos.

The company worked on the new site for all of 2006, spending some $30 million to design it from scratch using the collection of Web tools known as AJAX, according to an employee who was on the project. Executives came close to calling it Javari.com, but then the owner of that URL reneged on a deal to sell it and demanded more money. The site finally launched in December as Endless.com. On its first day, Endless offered free overnight shipping and free returns. The deal ensured Amazon would lose money on each sale. But it would clearly apply pressure to a certain company in Las Vegas. The Zappos board members considered Amazon’s opening maneuver, gritted their teeth, and a week later matched it with free overnight shipping. The difference was that the new Endless.com, unlike its rival, enjoyed almost no traffic or sales volume and so lost little with its overnight-shipping offer; Zappos’ profit margins took a direct hit.

Over the next year, Endless made little progress as an independent retail destination. The site attracted brands like Kenneth Cole and Nine West and developed features such as a more flexible search engine and product photos that expanded when customers hovered over them with their cursors. But Amazon was walking an almost impossible precarious tightrope, trying to assuage the fears of brand-name companies with industry-standard pricing while also using Endless as a way to undercut Zappos on price. In early 2007, with apparel brands watching closely for any signs of discounting, Amazon added a five-dollar bonus to its free overnight shipping. In other words, a customer was given five dollars just to buy something on the site. It was a clever but transparent ploy, an effort to inflict further pain on Zappos. Employees who worked on Endless say that, naturally, this was Jeff Bezos’s idea. Yet Zappos still continued to grow. Its 2007 gross sales hit $840 million and in 2008 it topped $1 billion. That year, Bezos learned that Zappos was advertising on the bottoms of the plastic bins at airport-security checkpoints. “They are outthinking us!” he snapped at a meeting.

But inside Zappos, a big problem had emerged. It had been acquiring inventory with a revolving $100 million line of credit, and the financial crisis, which intensified with the collapse of Lehman Brothers in the fall of 2008, froze the capital markets. With consumer spending declining, Zappos’ inventory constrained by new borrowing limits, and the competition with Amazon cutting into the company’s profit margins, Zappos’ previously spectacular annual growth rate collapsed to a modest 10 percent. The company rolled back its free-overnight-shipping guarantee, and Hsieh reluctantly laid off 8 percent of his workforce.

In his bestselling book Delivering Happiness: A Path to Profits, Passion, and Purpose, Hsieh wrote that Amazon continued to make acquisition offers during this time and that Zappos’ investors were increasingly interested because they were impatient to see a return on their investment. Michael Moritz has a slightly different take. When he invested in Zappos, he wanted it to become an independent, public company “that provided every item of clothing for consumers from head to toe.” But he had watched Amazon destroy one of his portfolio companies, eToys, a decade earlier and knew that to compete with Amazon, Zappos needed more engineers and more sophisticated fulfillment capabilities. “We just didn’t move quickly enough,” Moritz says. “You could sense it was going to be much harder to achieve, and we were squandering the opportunity. The hiring was too slow, the engineering department was not good enough, and the software was inferior to Amazon’s. It was very frustrating, and the Las Vegas location, plus an unwillingness to pay competitively, made it even harder to recruit talented people. We were starting to compete with the very best in the business and they had a lot of arrows in their quiver to make life painful. The last thing we wanted to do was to sell. It was mortifying.”

Hsieh wanted to keep going but even he came to acknowledge that Amazon could be a good home for Zappos. One of the factors he considered was that Zappos employees in Las Vegas and near its distribution center in Kentucky lived at ground zero of the housing crisis. Many had seen the value of their homes plummet, and the only valuable thing they owned was Zappos stock. Hsieh saw that the acquisition could offer a sizable payout for employees at a moment when many desperately needed it. The Zappos board ultimately decided to sell to Amazon; the vote was bittersweet but unanimous.

Over the next few months, Alfred Lin negotiated the deal with Peter Krawiec, Amazon’s vice president of corporate development. Bezos and Krawiec consummated the deal at Hsieh’s house in Southern Highlands, a luxury residential neighborhood built around a golf course. A journey that had started with two pizzas ended with Hsieh cooking burgers on his patio. A few weeks later, Bezos recorded an eight-minute video for Zappos employees while traveling in Europe. “When given the choice of obsessing over competitors or obsessing over customers, we always obsess over customers,” he said, reciting a well-worn and, considering the past few years of competition with Zappos, credulity-straining Jeffism. “We pay attention to what our competitors do but it’s not where we put our energy.”

Some of Amazon’s own executives were now shaking their heads in awe. Bezos had pursued and captured his prey, spending what one Amazon executive estimates was $150 million over two years on projects like Endless.com, which perhaps saved the company money, since it might have been a far more expensive battle or acquisition after the recession. Yet Hsieh, Lin, and Moritz had fought back fiercely, dueling Amazon to what might best be considered a draw. The acquisition price of around $900 million was higher than Bezos originally wanted, and the Zappos board wisely demanded that Amazon pay with equity instead of cash. By the time the deal closed, in November of 2009, the price of Amazon stock was once again zooming into the stratosphere, and Zappos executives, employees, and investors who had held on to their shares were lavishly rewarded. Amazon drew several lessons from its bloody battle with Zappos that it would tenaciously apply to its dealings with e-commerce upstarts in the years ahead.

The great recession that started in December 2007 and lasted until July 2009 was in some ways a gift to Amazon. The crisis not only drove Zappos into Amazon’s arms but also significantly damaged the sales of the world’s largest offline retail chains, sending executives scurrying into survival mode. Desperate to protect their profit margins, many retailers reacted by firing employees, cutting down their product assortment, and lowering the overall quality of their service, and this just as Bezos was investing in new categories and more rapid distribution. The economic crisis served as a kind of cloaking device, hiding Amazon’s evolution into a dangerous diversified competitor. Retailers were scared, but the bogeyman was the reeling global economy and declining consumer spending, not Amazon.

The brutal recession claimed the weakest national retailers and extinguished several historic brands. Circuit City was once the largest electronics retailer in the country. At its peak, the Richmond, Virginia–based chain had more than seven hundred stores and reported $12 billion in sales. Then, in the 1990s, a wave of changes undermined its commission-centered sales model. Companies like Best Buy, Walmart, and Costco ushered in a new age of self-service shopping and big-box stores. Customers could grab a television off the shelf and haul it to the checkout counter, aided (maybe) by an associate being paid a low hourly wage. Circuit City waited too long to drop its commission-based sales force. PCs became a major draw in electronics stores, but Circuit City was reluctant to bring a low-margin product line into its high-margin mix. In addition, its executives were also heavily distracted in the 1990s, spinning off the retail chain CarMax and spending more than a hundred million dollars on a DVD-rental system called DIVX, which quickly failed.

Then Amazon came along with the ultimate self-service model, and again Circuit City was frozen by a disruptive change. Circuit City allowed Amazon to operate its website from 2001 to 2005 but afterward it didn’t establish a strong Internet presence. The company had lost touch with what customers wanted and it never embraced, as Rick Dalzell put it with regard to Bezos, “the best truth at the time.” When the chain needed to finance a turnaround in the midst of the financial crisis, the capital markets were dry. So in 2009, Circuit City, a sixty-year-old company lauded in one of Bezos’s favorite books, Good to Great, liquidated its operations and laid off thirty-four thousand employees.5

A few years later, the book chain Borders traveled down the same dismal path.

Brothers Louis and Tom Borders had founded the company in Ann Arbor, Michigan, in 1971 after developing a system to track book sales and inventory. The brothers left in 1992 when the company was acquired by Kmart, which later spun it out. All through the 1990s, Borders churned out huge, multistory bookstores in shopping centers around the United States and in Singapore, Australia, and the United Kingdom, among other countries, growing from $224.8 million in sales in 1992 to $3.4 billion by 2002.

But like Circuit City, Borders had a narrow operating philosophy and repeatedly missed the changing tastes of consumers. It was obsessively focused on opening new stores and increasing same-store sales while fighting Barnes & Noble on all fronts and dutifully guiding and meeting Wall Street’s quarterly expectations. The Internet didn’t fit into this traditional calculus and thus didn’t get the company’s capital or its most talented executives. Like Circuit City, Borders allowed Amazon to run its online business so it could focus on its physical stores. One longtime Borders executive, who asked for anonymity, says the early perception of Amazon was that it “was just another catalog—a version of Lands’ End.” The executive suggests that this sentiment was now suitable for a bumper sticker.

In the last decade of its life, Borders was battered by rising online book sales, then by the Kindle, and then by the pullback in consumer spending after the financial crisis. Borders, like Circuit City, couldn’t cut costs fast enough because it was locked into fifteen- or twenty-year leases on its stores. At the time of its bankruptcy filing, half its stores were still highly profitable, according to its CEO, but the company couldn’t raise money to buy out the leases on its bad locations.6 Borders’ decline accelerated during the recession, and it went out of business in 2011, laying off 10,700 employees.7

Like some other chain stores, Target, the second-largest retailer in the United States, survived the downturn with layoffs at its Minneapolis headquarters and by closing one of its distribution centers.8 Target had outsourced its online operations to Amazon in 2001 but the relationship was far from perfect, with joint projects frequently falling behind schedule. “We had no resources to build infrastructure for Target,” says Faisal Masud, who worked on the Target business at Amazon. “It was all about Amazon first and Target next.”

But in 2006, Target came to the realization that it did not have the in-house capabilities to develop its own website, and, incredibly, it renewed its agreement with Amazon for another five years. After the new deal was signed, Jeff Bezos returned to Minneapolis to meet with Target executives Robert Ulrich and Gerald Storch and to give a presentation that was open to any Target employee who wanted to attend. Dale Nitschke, the executive running Target.com at the time, recalls that to fill the auditorium, he had to personally implore employees to attend. “These guys are going to be world-class competitors, you have to keep tracking them,” he told colleagues.

Target knew it had to master its own Web presence and wean itself away from a dangerous dependence on a competitor. In 2009, it belatedly announced it was leaving Amazon, and it finally ended the relationship when the contract expired two years later. It was a rocky breakup. The retailer’s new website, built and managed with the help of IBM and Oracle, went down a half a dozen times during the 2011 holiday season, and the president of its online division resigned.

No one had more to lose from Amazon’s ascendance than the folks in Bentonville, Arkansas. Despite years of being beaten by Amazon in the realm of e-commerce, Walmart had smartly resisted the temptation to outsource its website, and yet its Internet operation, established in 1999 in Brisbane, north of Silicon Valley, made little progress cutting into Amazon’s lead. After the recession, Walmart too began to view the Internet with renewed urgency.

In September of 2009, I wrote a lengthy story for the New York Times entitled “Can Amazon Be the Wal-Mart of the Web?”9 The headline apparently hit a nerve in Bentonville. A few weeks after it appeared, Raul Vazquez, then the chief executive of Walmart.com, told the Wall Street Journal, “If there is going to be a ‘Wal-Mart of the Web,’ it is going to be Walmart.com. Our goal is to be the biggest and most visited retail website.”10 In the e-commerce equivalent of a preemptive military strike, Walmart then lowered prices on ten new books by high-profile authors, such as Stephen King and Dean Koontz, to ten dollars each. Amazon matched the price on those same books within a few hours. Walmart.com then lowered its prices again, to nine dollars, and Amazon matched it again. It was just the kind of price pressure from Walmart that Amazon executives had always worried about—but it came ten years too late to do Amazon any harm. Now Amazon was large enough that it could easily withstand such losses.

Over the next month, the tit-for-tat price war spread like a brushfire. Target joined the fracas, and all three companies cut prices on DVDs, video-game consoles, mobile phones, and even the humble Easy-Bake Oven, a forty-five-year-old toy from Hasbro known for heating up small cakes, not tensions between billion-dollar corporations.11 With all three retailers now offering steep discounts on a range of hardcover books, the American Booksellers Association, a trade group of independent bookstores, wrote the U.S. Department of Justice to complain that “the entire book industry is in danger of becoming collateral damage” in a war among giants.12

They hadn’t seen anything yet.

In February 2009, Amazon took over a basement auditorium in New York’s Morgan Library and Museum to prepare for the announcement of the Kindle 2. The sequel to Fiona, the Kindle 2 (code-named Turing, after a castle in The Diamond Age) sported a thinner profile, a simpler and more intuitive layout, and none of the design excesses of the first device. Amazon had fixed its chronic manufacturing problems, but the company had yet to master the art of the product launch. In tension-filled rehearsals the night before the event, Bezos tore into his communications staff over a number of miscalculations, including the fact that the large screen behind the podium obscured his slides. “I don’t know if you guys don’t have high standards or if you just don’t know what you’re doing,” he said, sighing heavily.

If the original Kindle transformed Amazon and repositioned it for a digital future, then the Kindle 2 could fairly be considered the device that revolutionized the publishing business and changed the way people around the world read books. With instant brand recognition and broad availability, the new Kindle was coveted by customers and finally fulfilled Bezos’s vision of a mainstream electronic reader at an affordable price. With the Nook and the iPad yet to be introduced, Amazon had a commanding 90 percent of the digital reading market in the United States.13

For the big book publishers, Amazon’s dawning monopoly in e-books was terrifying. As suppliers had learned over the past decade, no matter the category, Amazon wielded its market power neither lightly nor gracefully, employing every bit of leverage to improve its own margins and pass along savings to its customers. If the company didn’t get what it wanted, the reaction could be severe. When the Kindle 2 became available, Amazon UK was no longer selling some of the most popular books of French publishing giant Hachette Livre, part of a protracted and bitter dispute over the terms of the Amazon/Hachette relationship. Customers could buy these Hachette books only from third-party sellers on the Amazon website.14

Publishers remained particularly troubled by Amazon’s $9.99 price for new releases and bestsellers. They were living the nightmarish reality of every manufacturer—this was the reason that, for example, Nike refused to supply shoes to Endless.com. Amazon, the publishing executives felt, was consigning their in-season products (new books, rather than shoes) to the bargain bin immediately upon their release. The lower price arguably reflected the decreased costs of printing and distributing digital books. But it neglected the new costs publishers faced in making the digital transition and also put enormous pressure on other retailers, particularly independent bookstores, and helped Amazon consolidate its control of the market. Publishers considered several ways to extricate themselves from this mess. In the early fall of 2009, two publishers, HarperCollins and Hachette, experimented with windowing select e-books—that is, delaying e-books’ release until the hardcover versions had been out for a few months. But consumers reacted badly and gave these titles withering reviews on Amazon.

There was another reason for publishers’ mounting anxieties at the time. That year Amazon introduced Encore, a program that allowed authors to publish their new or out-of-print books in the Kindle store and reap 70 percent of the sales. The service was widely interpreted as Amazon’s first step into direct publishing; for the moment, it was just unknown writers, but perhaps, one day, it would be giants like Stephen King.

Similar efforts from other retailers had worried book publishers in the past. Barnes & Noble had once had its own publishing program too. But Amazon alone had the tools to cut the major houses entirely out of the bookselling process: a dominant position in e-books, via the successful Kindle, and an on-demand publishing unit called CreateSpace that could print a physical book when a customer ordered it on Amazon.com. Amazon seemed to be cultivating its relationships with agents and authors, and the company hired a former Random House executive named David Naggar to join the Kindle team. It all seemed to point toward Jeff Bezos’s outsize ambition to control every square on the publishing-industry chessboard. “Amazon is in a great place to carry out their program to almost any conceivable scale,” blogged Eoin Purcell, a Dublin-based book editor, after the introduction of Encore. “Aside from what the author and their agents can grab, Amazon with Encore has successfully placed itself in control of the entire value chain.”15

Publishers believed their necks were being fitted for the noose. This view, widely discussed in publishing circles at the time, accounts for what happened next: a sprawling, dramatic, multiyear imbroglio that would be laid bare in the thousands of pages of legal documents and weeks of courtroom testimony resulting from antitrust actions brought against the book publishers by the European Union and the U.S. Department of Justice.

Over the course of 2009, the chiefs of the six major U.S. publishing houses—Penguin, Hachette, Macmillan, HarperCollins, Random House, and Simon and Schuster—gathered, allegedly to discuss their shared predicament. They communicated over the telephone, via e-mail, and in the private dining rooms of upscale New York City restaurants, and the DOJ later claimed that they took steps to avoid leaving evidence of these discussions, which might be construed as collusion. Publishing executives say the meetings were not held for the purpose of talking about Amazon and that they involved other business issues. But the U.S. government believed the executives were specifically addressing Amazon and its deleterious e-book pricing strategy, or, as the publishers termed it (per the court documents), “the $9.99 problem.”

According to the Justice Department’s filings, the publishing executives believed the only way to alter the balance of power with Amazon was for their industry to act, wielding the leverage that came from producing what amounted to 60 percent of the books Amazon sold. Court documents show that they considered a variety of options, including launching their own joint e-book venture. Then, in the fall of 2009, a white knight appeared in the form of Apple and its cancer-stricken leader, Steve Jobs.

Jobs had his own reasons to combat Amazon. He knew firsthand that Amazon could use its dominance in e-books to transition into other kinds of digital media—Jobs himself had used the iTunes monopoly in digital music to expand into podcasts, television shows, and movies. At the time Apple began reaching out to publishers, Jobs was preparing for the introduction of what would be his final masterstroke: the iPad. For Apple’s precious new invention, he wanted every kind of media available—including books.

The publishing executives negotiated that fall with iTunes chief Eddy Cue and a deputy, Keith Moerer (ironically, a former employee of Amazon), and the resulting arrangements with Apple would solve the publishers’ $9.99 problem, relieve some of the pressure on physical bookstores, and allow Apple to enter the e-reading space without having to match Amazon’s subsidized pricing on bestsellers and new releases. In the new e-book model, publishers themselves would officially become the retailers and could set their own prices, typically in the more comfortable (for them) zone of between thirteen and fifteen dollars. Apple would act as the broker and receive a 30 percent commission, the same arrangement it had for mobile applications on the iPhone. As part of this shift to what was known as the agency model, Apple received a guarantee that other retailers would not undercut it on e-book prices. According to the DOJ, that meant publishers would have to force Amazon to adopt the same model. In his internal e-mails and to his biographer Walter Isaacson, Jobs proudly referred to this as an aikido move.

The CEOs of the publishing houses all said that, independently, each of them considered the costs of Amazon’s dominance as well as what was known of the ruthlessness of its corporate character, and then decided to move to the agency model. It was not a painless choice. By giving retailers a 30 percent commission, the publishers would actually make less money per e-book than they would if they stuck to the traditional wholesale model, in which they generally collected half of the list price. “Although agency was more costly in the short term, the strategic advantages were so compelling that we felt—independently—that this was the right way to go,” one publishing chief told me.

There was one holdout: Markus Dohle, chief executive of Random House, worried that the economics of agency pricing were unfavorable and that he would be better off maintaining the status quo. Random House, alone among the six major publishers, decided to stick with the traditional wholesale model for the time being, so Apple declined to sell Random House’s books in its newly christened iBookstore.

Apple introduced the iPad on January 27, 2010, at the Yerba Buena Center for the Arts in San Francisco. It was one of Jobs’s last public performances and a spellbinding swan song from an iconic entrepreneur—someone Jeff Bezos clearly admired and viewed as a primary rival. After the event, Wall Street Journal columnist Walter Mossberg asked Jobs why anyone would buy e-books from Apple when Amazon sold them at a lower price. “The prices will be the same,” Jobs said, carelessly raising a giant red flag for antitrust regulators by suggesting that the companies had all acted in concert. “Publishers are actually withholding their books from Amazon because they’re not happy.”16

While other publishers informed Amazon of their new arrangements via e-mail or phone calls, Macmillan CEO John Sargent flew to Seattle to personally deliver the news of his company’s shift to an agency pricing model. In a tense twenty-minute meeting with Kindle executives that included Laura Porco, Russ Grandinetti, and David Nagar, Sargent offered Amazon the right to stick with the old terms and wholesale pricing, but at the cost of getting e-books several months after their publication. That clearly did not go over well. Amazon reacted to the agency move with overwhelming force, pulling the Buy buttons from Macmillan’s physical and electronic books on the website. Customers could still buy Macmillan’s print books on Amazon, but only from third-party sellers. The Kindle editions completely disappeared and remained unavailable for an entire weekend that January. For those unaware of the tense history between Amazon and publishers—the tortured “cheetah and gazelle” negotiations and so on—the sudden outbreak of hostility seemed shocking. “I think everyone thought they were witnessing a knife fight,” Sloan Harris, codirector of the literary department at International Creative Management, said at the time. “And it looks like we’ve gone to the nukes.”17

A few days later, under a barrage of criticism for making authors and customers collateral damage in the fight, Amazon relented. Bezos and his Kindle team collaborated on a public message, which they posted on an Amazon online forum: “We have expressed our strong disagreement and the seriousness of our disagreement by temporarily ceasing the sale of all Macmillan titles. We want you to know that ultimately, however, we will have to capitulate and accept Macmillan’s terms because Macmillan has a monopoly over their own titles, and we will want to offer them to you even at prices we believe are needlessly high for e-books.… Kindle is a business for Amazon, and it is also a mission. We never expected it to be easy!”

Ironically, the shift to the agency model made the Kindle business more profitable, since Amazon was forced to charge more for e-books, and Amazon held a near monopoly on e-book sales. That helped Amazon sustain the gradual decrease in the price of the Kindle hardware. Less than two years later, the cheapest Kindle e-reader would cost seventy-nine dollars.

But Amazon wasn’t sitting back or letting others dictate their own terms. Over the next year, Amazon responded forcefully in several ways. Russ Grandinetti, who had moved over to Kindle from apparel, and David Naggar, the new hire from Random House, made the rounds of midsize publishers like Houghton Mifflin. According to several executives at those firms, they were warned that they did not have the leverage to move to an agency pricing model and that Amazon would stop selling their books if they did. Amazon also intensified its focus on its own direct-publishing business, which would cause another wave of distress for publishers in the years ahead.

In trying to loosen Amazon’s grip on the e-book market, the publishers and Apple created a significant new problem for themselves. A day after the standoff with Macmillan, according to court documents, Amazon sent a white paper to the Federal Trade Commission and the U.S. Department of Justice laying out the chain of events and its suspicion that the publishers and Apple were engaged in an illegal conspiracy to fix e-book prices.

Many publishing executives suspect that Amazon played a major role in provoking the legal brouhaha that resulted. But antitrust investigators likely didn’t need much nudging. Incredibly, even though Steve Jobs passed away in the fall of 2011, his earlier comments dug the legal hole deeper for Apple and the five agency publishers. In the biography Steve Jobs, Walter Isaacson quoted Jobs as saying, “Amazon screwed it up… Before Apple even got on the scene, some booksellers were starting to withhold books from Amazon. So we told the publishers, ‘We’ll go to the agency model, where you set the price, and we get our 30%, and yes, the customer pays a little more, but that’s what you want anyway.’ ”

Jobs’s patronizing statement was potentially incriminating. If publishers had engaged in a joint effort to make customers pay “a little more,” that was the foundation on which antitrust cases were built. The Justice Department sued Apple and the five publishers on April 11, 2012, accusing them of illegally conspiring to raise e-book prices. All the publishers eventually settled without admitting liability while Apple alone held out, claiming that it had done nothing wrong and that its intent was only to expand the market for digital books.

The case against Apple was heard the following June in a Manhattan courtroom and lasted for seventeen days. District judge Denise Cote then found Apple liable, ruling that it had conspired with the book publishers to eliminate price competition and raise e-book prices and had therefore violated Section 1 of the Sherman Antitrust Act. Apple vowed to appeal the verdict. A hearing on damages was pending at the time this book went to press.

The e-book battle played out publicly in both the courtroom and the marketplace. But despite the case’s visibility in the media, it was a sideshow to the larger rise of Amazon at the time, an ascent interrupted by the great recession that resumed with renewed vigor afterward.

Beginning in 2009, as the fog of the economic crisis lifted, Amazon’s quarterly growth rate returned to its pre-recession levels, and over the next two years, the stock climbed 236 percent. The world was broadly recognizing Amazon’s potential—the power of Prime and of Amazon’s mighty fulfillment network, the promise of AWS, and the steady gains seen in Asia and Europe. In part because of the e-book pricing war, investors began to understand that the Kindle could grab an outsize share of the book business and that the device had the potential to do to bookstores what iTunes had done to record shops. Analysts en masse upgraded their ratings on Amazon’s stock, and mutual fund managers added the company to their portfolios. For the first time, Amazon was spoken in the same breath as Google and Apple—not as an afterthought, but as an equal. It had blasted off into high orbit.