Question

Case Study: this is the only information I was given to answer the 3 questions below. Thank you for your help! I always leave a review.

Since its inception, Amazon has relied on third-party shippers, such as UPS and FedEx. In 2013, Amazon experienced a wave of last-minute orders and bad weather left UPS and other shippers unable to deliver Amazon’s packages. Amazon issued apologies and $20 gift cards to customers, but its reputation suffered from the unhappy customers who were without gifts on Christmas Day.

Since the 2013 Christmas shipping problems, Amazon has contracted with alternate shipping services and has rolled out its own trucks in some cities in an effort to decrease its reliance on UPS and FedEx.

Shipping costs are a large expense for Amazon; according to Amazon’s third quarter 2015 Form 10-Q, its shipping costs were 14.0% of product sales. The same quarter in 2014 saw shipping costs as 12.1% of product sales, so shipping costs have been increasing.

Amazon has also been experimenting with faster shipping options, such as same-day delivery, two-hour delivery, and even one-hour delivery.

In late 2015, rumors emerged that Amazon is experimenting with operating its own air cargo operation based in Wilmington, Ohio, codenamed “Aerosmith.” In Wilmington is the Wilmington Air Park, which started out as a military base until it was decommissioned in 1972. It has been used by various shippers since that time, including by DHL US Express from 2003 to 2008. The Air Park has two large runways which can accommodate large aircraft landings. It also has over 1.1 million square feet of warehouse space, including extensive conveyer belt systems and sorting buildings. Amazon’s freight service would compete directly with FedEx and UPS.

Discussion Questions

1. What costs are relevant when Amazon is considering whether to start its own cargo freight service?
2. Would the expenditures related to Amazon’s freight service be capitalized or expensed by Amazon?
3. What tools might Amazon use to analyze the decision to operate its own cargo freight service?

Answer 1

A relevant cost (also called avoidable cost or differential cost)^[1] is a cost that differs between alternatives being considered.^[2] In order for a cost to be a relevant cost it must be:

• Future
• Cash Flow
• Incremental