Amazon Alexa: Getting Smart About Smart Homes
By: David Aideyan & Ilia Khairetdinov
The Ivey Business Review is a student publication conceived, designed and managed by Honors Business Administration students at the Ivey Business School.
In November 2014, Amazon was one of the first entrants into the smart home space with its voice assistant software Alexa powering Amazon Echo products. Smart homes are ecosystems where relationships exist between the hardware devices that are installed in homes, the software people operate, and the products they consume. Namely, smart home systems automate staple home functions such as heating, lighting, security, appliance control, and entertainment.
Five million Echo devices have been sold since Alexa’s introduction, and the software has been gaining increasing traction in the technology space. Emerging as a clear winner at the 2017 Consumer Electronics Show, Alexa support was built into nearly every device present at the event. Alexa’s sheer number of integrations with other smart devices is a result of its early market entry, and could provide a competitive advantage moving forward.
A Problem with Retention
An examination of utilization trends has revealed that Alexa’s adoption has not been as successful as originally thought. A study of Echo device owners shows a steep drop in the usage of almost all Alexa features since the time of purchase. On average, 62 per cent of people that have tried one of Alexa’s top six functions did not continue to use the feature regularly. In 2020, $7-billion of Amazon’s projected $11-billion Alexa-facilitated purchases are expected to come from voice purchases, which assumes that 50 per cent of Alexa users will buy five times a year. However, only 32 per cent of Echo owners in the study had made at least one purchase through their device, and only 10 per cent regularly used Alexa to add items to their Amazon shopping cart. Meanwhile, Apple’s Siri and Google Voice have ongoing usage rates of 52 per cent and 30 per cent, respectively. While Alexa has had integration success, its severe user retention problem will make it difficult to achieve a sustainable leadership position in the smart home market.
Lacking Functionality
Alexa’s low user retention rate can be attributed in large part to its lack of functionality. In its current state, Alexa acts as a simple voice-control system that is only able to issue direct commands to smart devices when explicitly controlled by the user. Because it cannot transfer data between devices to draw comprehensive insights, the consumer must be involved to make those links. For example, a smart fridge may know what the consumer is cooking for dinner, but because this data is withheld from the stove, the consumer needs to manually set the right temperature and cook time through the Alexa interface. Simply put, these devices are only as smart as the data they can access. Thus, an unconnected ecosystem restricts the full potential of automation in a smart home; if Alexa could bring these devices together, it would be able to reduce user intervention and significantly increase utility for the consumer.
The Importance of Winning in the Smart Home Market
Successful penetration of the smart home market is crucial to Amazon for several reasons. The first of which is an increase in subscribers for Amazon’s Prime service. While the average Amazon customer spends $625 on Amazon each year, the average Prime user spends $1,500. As more users sign up for Prime in order to use Alexa’s features, Amazon’s sales and consequently bargaining power with suppliers will increase. The second major opportunity is in increasing the sale of recurring households goods to Alexa owners. To put this in context, the average American household spends $2,244 a year on household products and Prime users spend 18 per cent of their budget for household goods on Amazon, which equates to roughly $405 per year. Alexa could be used to facilitate the automatic restocking of all household goods via Amazon, which presents an opportunity valued at $114-billion amongst Prime members in the U.S. alone. This powerful control over e-commerce buying decisions would be a great complement to Amazon’s expansion into the lucrative grocery business, which represents a $485.9-billion market solely for U.S. Prime members. If Alexa cannot achieve widespread adoption, Amazon’s core business will be susceptible to significant market share losses if the winner of the smart home battle pushes consumers to a different e-commerce medium.
Trends in Automation
Today, growth in e-commerce is heavily influenced by two Internet of Things (IoT) trends. Demand-side automation is reducing the amount of consumer involvement needed to acquire goods and services, and supply-side automation is reducing the amount of human involvement needed to distribute goods to the end customer. Amazon is a global leader in supply-side automation through its fulfilment centers and advanced logistics. Keeping products stored in its fulfilment centers has allowed the e-commerce giant to create a distribution network that offers consumers remarkably fast and predictable delivery. On the demand side, Amazon leverages its A9 product search engine and advertising technologies to understand exactly what a customer wants, and when they want it. A successful Alexa-enabled smart home environment will allow for significant improvements in demand-side automation for Amazon.
Success in Smart Homes
To be a leader in the smart home market, Amazon must have some form of control over hardware, software, and product. Alexa’s limited hardware penetration means it does not have the ability to close the ecosystem without its integration partners, making these relationships crucial to success. Alexa not only competes with numerous home automation softwares, such as those of Google, Apple, Microsoft, and IBM, but it also vies with the very devices it integrates with, as many come with software pre-installed. Samsung and Haier are among select hardware companies that are racing to not only build software into their own smart fridges, but also to establish them as smart hubs similar to Alexa. Product refers to the control over household goods in which purchases are enabled by the smart home. While Amazon is in a strong position in the product space, it is only an entrant in the hardware space and its software network has not been as progressive.
While smart hub softwares are attempting to bridge hardware and product, it has been difficult because the value created by integrating smart devices together is still undefined amongst industry players and unclear to customers. It has been incredibly difficult to reach a consensus on how to aggregate data amongst hardware and software developers. This means a winning strategy must give Alexa strategic leverage with manufacturers so their hardware is not only Alexa-compatible, but also more effective and useful when used with Alexa. Additionally, a strategy that leverages Amazon’s strong supply side competencies will create a barrier that would cost competitors significant financial and human resources to match. Involving the product in the strategy will begin to shift household norms from buying consumer packaged goods (CPG) in-store to buying CPG online, and ultimately through Amazon.
Driving Change
Alexa struggles to maintain an ongoing presence in the households of users; most Alexa users do not use Alexa features regularly and are hesitant to order through voice. To combat this problem, three steps must be taken to develop a hardware ecosystem that is fully integrated and truly smart. This will help Alexa better predict purchasing needs and intercept the traditional buying process with automated purchases, creating significant new value for both consumers and Amazon.
Create a Two-Way Ecosystem
To increase usability and device options for the consumer, Alexa must be shaped into an interpreter of data and distributor of insights rather than a simple voice-control system. The opportunity lies in creating an ecosystem where smart devices feed information to Alexa, who translates raw data into insights which can be used to perform autonomous functions via smart devices, learn consumer patterns to make purchasing predictions, and identify opportunities for time and cost savings for the homeowner.
One step to achieving this is to create a universal language that devices can use to send data to Alexa and read insights about the consumer that they, in turn, can use to take action. For example, a security system can collect data on how many people are in each room of a house at any given time. Through an Alexa-enabled ecosystem, localized lighting and heating can be automatically adjusted based on this data. A network router can also collect data on the identities of individuals based on the IP addresses of their phones, which can be combined with the data from the security system to make entertainment and purchasing decisions based on the preferences of specific people.
Mirroring Apple’s App Store strategy, toolkits will be used to simplify the process of developing use cases for device manufacturers based on Alexa’s insights. Companies like LG and Whirlpool are building smart devices without trying to develop their own hubs, and inclusion in the dynamic Alexa ecosystem would provide a competitive advantage for their products. By using a universal language, Amazon will be able to create unique insights about the consumer buying patterns that were never previously available.
Make the Product Smart
The second element of Amazon’s strategy is to integrate CPG products within the ecosystem to innovate on demand-side automation. Alexa should be paired with a stand alone sensor technology that can be placed in fridges and cupboards, which will be able to detect the presence of Amazon Prime products in the home using radio-frequency identification (RFID) technology. RFID tags placed on Prime products in Amazon’s fulfilment centers will have unique identifiers for each product stock keeping unit (SKU), and one sensor will be offered to Prime users for free with the purchase of an Alexa device. When the connection to a product is lost, Alexa will suggest the stock of the item has been depleted and prompt the user to repurchase the product or add it to their shopping cart to buy later. Giving Alexa inventory data of the consumer will close the loop in predicting purchasing needs. Ultimately, this technology will enhance the consumer’s lifestyle by significantly reducing stock-outs, and recommending stock based on insights from Alexa integrated devices.
Pair Insights with Purchasing Needs
Finally, Amazon must recommend relevant purchases for the home early in the buying process. This will increase Amazon’s share of wallet for its existing customers by intercepting the traditional buying process. Additionally, consumers will be able to set up automatic purchases, saving them time and helping Amazon suppliers by eliminating the opportunity for competing products to promote a brand switch in-store. Amazon will have more control over suppliers as they will have to compete on price to be promoted for automated purchase. In accordance with Amazon’s founding strategy, more selection and lower prices drive a better customer experience, leading to more traffic. Understanding purchasing patterns and buyer behaviour will allow Amazon to capture a huge piece of the market before competitors can enter, and will also put up entry barriers.
To execute this strategy, Amazon should run an advertising campaign that offers a free Echo Dot with the purchase of a new Prime membership and an Echo Dot at-cost of $50 to existing Prime users. Every percentage increase in the share of household expenditures amongst Prime customers will create an additional $1.4-billion of revenue for Amazon. In similar fashion, every additional percentage increase in Prime subscriptions as a result of Alexa will produce $1-billion in revenue for Amazon. To put this in context, the immediate impact of a 10 per cent increase in the share of household product expenditure in combination with a 10 per cent increase in the percentage of customers on Prime would bring Amazon $27-billion in additional sales. Amazon’s 15 per cent commission on these sales translates to an additional $4-billion in annual gross revenues.
The advent of smart home technology is slowly creating a world where fridges will know when the homeowner is out of milk and automatically restock itself. Smart homes will be able to identify friends and family and suggest movies, music, and TV shows based on each individual’s preferences. The home will not only know when the family is present, but also that they are hosting book club next Tuesday, and adjust security, lighting, heating, and recommend snacks for one-touch purchase. Through the implementation of these recommendations, Amazon will leverage its unique competencies to become an integral part of the household and increase its penetration in the home goods segment.