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Stock Analyst Update

Living.com Bites the Dust, Delivers Blow to Amazon

E-tailer's failure calls into question Amazon's strategy.

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The collapse of online home-furnishings retailer Living.com is a stark illustration of how badly a promising e-tailer can go wrong, and calls into question online giant Amazon.com's (AMZN) strategy of investing in such specialty online shops. Living.com's bankruptcy is the latest setback for Amazon shareholders, who should be prepared for volatility in this stock as bad news continues to roll in.

Living.com abruptly closed its doors Tuesday, laying off all 275 employees and announcing that it will file for Chapter 7 bankruptcy protection. As opposed to a Chapter 11 bankruptcy, which allows a company to reorganize its assets while keeping its debt, a Chapter 7 filing would cause the company's assets to be sold off to pay creditors and would put an exclamation point on one of the highest-profile e-commerce failures to date.

Earlier this year, Living.com was attracting deep-pocketed investors such as Michael Dell of Dell Computer (DELL), Howard Schultz of Starbucks (SBUX), and Jeff Bezos of Amazon.com. In May, it scored a coup when Amazon bought 18% of the company and agreed to add a Home Living tab to the Amazon home page that would direct shoppers to Living.com.

But there were signs of trouble later in May when Living.com laid off 13% of its workforce in an effort to contain spiraling costs. Apparently the problems were worse than they seemed. Now the company is just the latest in an increasingly long string of e-commerce failures, following hard on the heels of Value America's (VUSA) bankruptcy filing last Friday. As of Tuesday afternoon, the Home Living tab had been removed from Amazon's home page.

This spectacular crash shines a harsh spotlight on Amazon's strategy of buying equity stakes in online niche retailers, of which Living.com was one of the most prominent. The Amazon Commerce Network was supposed to allow Amazon to expand its product offerings through partnerships that would benefit both parties, but so far the result has mostly been a lot of red ink. Amazon's losses from its equity investees totaled more than $100 million last quarter--more than its operating losses from its own businesses.

Living.com's failure makes one wonder how many more of Amazon's partners will collapse before reaching profitability and whether people really want to buy things such as patio furniture or weed whackers over the Internet at all. Certainly, Amazon shareholders should be prepared for a bumpy ride in coming quarters as the company's business model is put to the test.

David Kathman does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.