What Makes Amazon.com, Inc. (NASDAQ:AMZN) Attractive?
What makes Amazon.com, Inc. (NASDAQ:AMZN) attractive in the first place? The company recently missed Wall Street’s earnings target in the most recent quarter and issued not-so-strong guidance for the current one. Amazon is a compelling company not because of what it reported, but the efforts it is making to ensure long-term growth and profitability. The question investors should be asking is the probability those efforts have a chance to pay off further returns from the current price.
The present low penetration of e-commerce, ongoing infrastructure investments and diversification into cloud computing are some of the potential tailwinds for Amazon. However, adverse forex movements, spending on content acquisition and construction of more fulfillment facilities come as headwinds to the top and bottom lines, albeit in the near-term.
This Amazon analysis examines the company’s growth efforts to highlight their potential impact on revenue and profits. But first, here is a brief overview of Amazon’s last quarter earnings report.
Although Amazon missed consensus earnings and revenue expectations for 4Q2015, the company reported its largest quarterly profit on record. Profit of $482 million more than doubled from a similar quarter a year earlier. Revenue also jumped 22% YoY to $35.7 billion. Operating cash flow increased 74% to $11.9 billion for the trailing twelve months, compared with $6.8 billion for 2014. Free cash flow (excluding lease and principal repayments) increased to $7.3 billion for the trailing twelve months, compared with $1.9 billion for the trailing twelve months for 2014.
However, the gains in profit and revenue weren’t strong enough to meet the inflated Wall Street estimates. Amazon’s EPS of $1.00 fell short of $1.56 that analysts were looking for on average. Revenue of $35.7 billion missed the consensus estimate at $35.9 billion, but was within the company’s guided range of $33.50 to $36.75 billion.
Amazon is looking for 1Q2016 revenue in the range of $26.5 to $29 billion. The internal sales guidance contrasts with the consensus estimate of $27.68 billion.
The chart below depicts Amazon’s quarterly revenue trend over the last five quarter and the guided revenue for the current quarter.
Potential growth catalysts
Secular shift to online shopping
Amazon.com, Inc. (NASDAQ:AMZN) continues to benefit from the secular shift to online shopping from brick and mortar shopping. The low penetration of e-commerce in itself indicates huge growth headroom for Amazon. The one particular advantage of Amazon in the shift to online shopping is that the company already leads in the e-commerce space.
The company is taking advantage of its market leadership to deepen ties with consumers and third-party vendors, thus using scale it to transform into an even more powerful online retailer. Amazon is using a combination of strategies that include speedy delivery services and a wider selection of items to build a loyal base of customers to pave the way for long-term growth.
Faster delivery system
Amazon is aware that every other legacy retailer is thinking about increasing online presence, because that is the future. That is why the company continues to invest in efforts to differentiate its online retailer offerings. For example, Amazon has figured out that getting items to customers faster is one of the greatest ways to stay in the hearts of online shoppers and keep them coming to you for items. As such, the company is investing in faster and more efficient delivery systems.
More fulfillment centers: Amazon is in the process of adding more fulfillment centers to its portfolio to expand coverage and reduce the time to deliver items to customers. Additionally, the company is expanding its fulfillment facilities to ensure that they can handle more inventory so that it can accommodate more goods from third-party vendors. By accommodating more third-party items at its warehouses, Amazon also gets the opportunity to ship more of them through its channels, thus boosting its commission revenues. Third-party items come with better economics as Amazon charges fees, and collects the money in advance before paying vendors.
Internal delivery system: Amazon is trying to take control of the delivery of its items. As such, the company is in the process of acquiring cargo planes to initially complement the third-party delivery efforts and hopefully gradually transition to its own delivery systems over the long-term. Owning the delivery system not only allows Amazon to reduce risks in the delivery channel, but is also likely to lower delivery costs, thus paving way for higher margins and profits. Amazon is also testing drone delivery system, which it hopes can significantly reduce delivery time, allowing it to one day make 30-minute deliveries of some items.
Robust delivery system is a key differentiator in the retail space and Amazon is trying to lead on that front, partly to defend its share of the e-commerce market and partly to expand that market share. The scale of the ecommerce juggernaut allows it to expand its competitive advantages with these maneuvers over the long term.
Amazon.com, Inc. (NASDAQ:AMZN)’s Prime membership program is a key competitive advantage. The $99/year program has the benefit of building a loyal base of customers. Those who sign up for Prime membership benefit from free two-day delivery service, unlimited photo storage in the cloud, online video streaming and host of other added benefits.
Amazon reported that Prime membership in the U.S. increased 47% YoY in 4Q and global Prime membership rose 51% in the same period. That shows how Prime is gaining traction abroad, which is good news because Amazon is in the process of expanding in and into more global markets including India. While Amazon does not release figures, Consumer Intelligence Research Partners (CIRP) believes that Prime is now in 46% percent of American households. Other estimates put that figure at 41 percent. At the end of 2015, CIRP believes Amazon had 44.7 million Prime Subscribers.
The reason Prime membership is a big deal for Amazon is that those members tend to spend more on average buying goods on Amazon than non-members. That means that Amazon is able to extract more value from Prime members than those who are not signed up to the program. Perhaps that explains why Amazon is using all manner of incentives to get more customers hooked up to Prime program. Among other things, Amazon is adding more exciting shows, some of them original programing, to Prime video to increase its appeal and encourage more customers to sign up for the service.
The ease and quick shipping of Prime entices members to always check whether Amazon has an item before making an e-commerce purchase elsewhere.
Amazon.com, Inc. (NASDAQ:AMZN) is in the process of diversifying its revenue streams. While online retail business remains the core operation, Amazon is already a leader in renting cloud computing power. Through Amazon Web Service (AWS), the company renders cloud computing and the business is not only growing rapidly, but is already generating profits. AWS revenue rose 69% to $2.4 billion in the latest quarter. The segment generated operating income of nearly $1.9B in 2015, on net sales of $7.8B, a powerful business in its own right.
With AWS, Amazon is able to cut reliance on e-commerce, thus allowing it to generate more sustainable revenues and profits. To defend and widen its share in the cloud computing space, Amazon continues to enrich the AWS platform. The company added 722 new features to AWS in 2015, thus giving existing users more reasons to stay put and showing those who haven’t got in to join the AWS bandwagon.
Amazon.com, Inc. (NASDAQ:AMZN)’s efforts are geared towards long-term growth. While that is great, the challenge is that margins will remain under pressure in the near-term as the company reinvests in growth. That means that profits might be erratic before the ongoing investments start to pay off. As such, Amazon comes across as a long term play. The company remains aggressively valued under most metrics but Jeff Bezos and Amazon are just as aggressive in their pursuit of growth and new endeavors.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.
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