Amazon's Content Conundrum - TheStreet

Amazon's Content Conundrum

The online retailer has a more practical reason to keep listing controversial products.
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Amazon.com

(AMZN) - Get Report

may be stuck between a rock and a hard place -- and operating margins may again be a key factor.

Despite a planned lawsuit from the American Humane Society, Amazon announced Thursday that it would not stop selling magazine titles about cockfighting like

Gamecock

and

Feathered Warrior

.

The Humane Society has alleged that Amazon is profiting from violating the federal Animal Welfare Act.

This isn't the first time Amazon has faced criticism for offensive content. Last summer, the company agreed to remove a DVD titled

Hood Fights 2

from its listings, although a check of the company's Web site by

The Associated Press

on Wednesday found the listing had reappeared (although Amazon spokeswoman Patty Smith was quoted as saying the videos in question would be removed).

And Amazon continues to list DVDs such as

Ghetto Brawls

,

Ghetto Fights Presents: Wildest Street Brawls, Vol. 1

, and

Ghetto Fights Presents Wildest Street Brawls, Vol. 2

, a check by

TheStreet.com

revealed.

Such products seem to run counter to a company whose public face is permanently sunny founder and CEO Jeff Bezos. Removing the items would almost seem like an easy decision, even if it weren't for the lawsuit and all the potential negative publicity.

But Amazon instead is taking the line that refusing to sell products because they offend is tantamount to censorship, according to the

AP

. "The customer is the best judge of what is and isn't appropriate for their reading habits," Amazon's Smith said.

There are several disquieting things about this (not the least of which is that many customers apparently find

Feathered Warrior

magazine appropriate for their reading habits).

But for Amazon, it highlights another conundrum: The high-margin media products that were initially the company's staple are now playing a diminishing role in the mix of overall sales, giving way to lower-margin consumer electronics goods instead.

And this in turn is battering the company's closely watched operating margins, which continued to slip last quarter despite the company's strong revenue growth.

Despite its public posture as a free-speech guardian, the company may be more worried that buckling to the pressure to stop selling controversial items could set a dangerous precedent and limit the already diminishing high-margin media inventory it is able to move.

This is especially important in the face of increasing pressure from

Wal-Mart

(WMT) - Get Report

, the retail behemoth that is moving aggressively into selling media products online -- and whose own stringent requirements regarding the content it sells mean that Amazon could seek an edge in more questionable material.

During Amazon's most-recent fourth quarter, the sales mix for media products dropped to 63% from 67% the year prior; electronics and other general merchandise grew to 35% from 30% over the same period.

It also was the first time that Amazon's revenue in non-media products grew faster than that of media products. At the same time, the company's operating margin dropped to 4.9% in the quarter from 5.5% a year earlier.

The pressure on the company to pull more-profitable media products also comes at a time when Wall Street is growing testier about Amazon's operating margins. The company has put off promises to boost margins -- even at the end of a fiscal year when the company was supposed to stop sinking dollars into technology and content investments.

"I know that 2006 was an investment year, and I think a lot of investors, including us, were hoping for some leverage in 2007," said Goldman Sachs analyst Anthony Noto in the company's fourth-quarter conference call for investors. "But now it appears that your operating income margins will be down in 2007 at the midpoint vs. 2006 after an investment year."

Compounding Amazon's predicament is that the solution to one of its problems may actually exacerbate the other. The company is banking on the growth of third-party sellers on its site to expand margins.

Having more third-party sellers, who pay Amazon a fee while reducing the company's need to buy inventory, will help increase margins as well as volume, according to management.

"Certainly, the third parties will help us expand margins, as well as get better prices as our volume gets bigger with many of these suppliers," Amazon CFO Tom Szkutak said in the company's conference call with investors.

But Amazon will have less control over those third-party suppliers, and company spokeswoman Smith told the

AP

that Amazon won't be able to prevent certain titles from being listed on the site.

As odd as it seems, it's a tough decision for Amazon. On the one hand, it needs high-margin media items and third-party sellers more than ever. But a few high-profile missteps could tarnish the enormous brand and goodwill the company has worked so hard to build.