Summary
- Amazon is getting a large profit boost from the AWS business.
- Explore Amazon’s strengths, weaknesses, opportunities, and threats.
- Amazon’s stock is poised to outperform over multiple years as a result of above average growth.
Amazon (AMZN) is the world’s largest online retailer. The company sells merchandise from vendors and third party sellers who benefit from Amazon’s extensive online exposure. Amazon manufactures and sells its own branded products like the Kindle readers, Fire tablets, Fire TVs, Echo devices, etc., while operating in three segments: North America, International, and AWS (Amazon Web Services).
Amazon also offers publishing services for independent authors to sell their books in the Kindle Store. Amazon’s Web Services [AWS] includes database, storage, and computing services. The company also offers the Amazon Prime membership service, which offers free 2-day shipping for select items & movie, TV, and music streaming.
Amazon is likely to grow at an above average pace over multiple years as the company continues to expand globally. The above average growth will help drive the stock to outperform the S&P 500 over the next five years.
Strengths
- Amazon has the strongest brand and earns the highest revenue among online retailers. Amazon has a wide selection of merchandise (over 562 million SKUs vs. Walmart’s (WMT) 75 million). The strong brand recognition and wide selection of merchandise make Amazon the go-to website for online purchases.
- The company has a low cost structure as a result of having less overhead costs as compared to standard brick and mortar retailers. This allows Amazon to offer low prices, which helps attract and retain customers.
- Amazon operates fast, efficient web pages with the ability to handle high volume using their own web services through AWS. They also have fast shipping services with their own delivery drivers. The company has a widespread network of fulfillment centers to get merchandise to customers quickly. The fast, reliable web pages, large network of fulfillment centers, and network of drivers provides great customer service & fast deliveries which fosters repeat business. The AWS business is the most profitable of Amazon’s businesses.
- The balance sheet has 1.27x more total assets than total liabilities for shareholders’ equity of $27.7 billion. There are also 1.04x more current assets than current liabilities. Amazon is also operating with positive operating and free cash flow. With continued strong positive cash flow, Amazon will be able to handle their debt payments.
Weaknesses
- Amazon depends largely on the AWS business for profitability. AWS comprises only 10% of Amazon’s sales, but it comprises over 58% of their operating income. The business of online sales has thin margins. Amazon’s operating margin and EBITDA margin are about 5% each.
- Amazon had a product failure with the Fire Phone. So, the company may not be able to compete in every product category that they attempt.
- Amazon has a small brick-and-mortar retail presence relative to retail giant, Walmart (WMT), which has over 11,700 stores. Amazon’s store presence was boosted by the Whole Foods acquisition (now 497 stores) and the cashier-less Amazon Go store concept. However, the company only has about 8 – 10 Amazon Go stores. Adding many more stores could add a lot of overhead and reduce margins. Not having brick-and-mortar stores could fail to attract potential customers who like to physically touch/inspect products and/or talk to salespeople in person before buying.
Opportunities
- Amazon should expand the AWS business since it has the highest margins. This will drive earnings growth for the company. Amazon did acquire multiple businesses related to AWS in the recent past to support AWS growth. Continued acquisitions in this space over the next 3 – 5 years will help drive growth for Amazon’s most profitable business.
- Amazon can expand into emerging markets and under penetrated markets to continue their growth. India has the potential for Amazon’s expansion, but it may be challenging due to Flipkart’s 40% marketshare and strict government regulations. Other potential expansion areas include: Indonesia, Thailand, Japan, and Latin America.
- The largest growth factor for Amazon might be for new acquisitions. Amazon has purchased other online retailers in the past. They could continue acquiring online retailers, but they could also look at acquiring more AWS related businesses with higher margins.
- There is the potential to increase the company’s brick-and-mortar presence. This could be an expansion of Amazon Go stores if they are found to be successful. It could also mean a strategic acquisition of existing brick-and-mortar retailers. This would attract customers that are more comfortable with in-person sales over online sales.
Threats
- Competition is a constant threat for Amazon. Walmart is now operating an online shopping site that is similar to Amazon.com, with their own merchandise and offerings from third party sellers. Other retailers have also boosted their online presence. High competition could lead to shrinking margins due to price wars.
- Hacking and cybercrime remain a threat for Amazon’s online business. Negative publicity from a security breach has the potential to have a negative effect on sales and the stock.
- Counterfeiting could also cause negative publicity and lead to customers not trusting the shopping site.
- Government regulations in specific countries could limit or challenge Amazon’s ability to grow in those regions. An example of this is in India where e-commerce rules were tightened.
Long-Term Investment Outlook
The strengths and opportunities outweigh the weaknesses and threats. Amazon is likely to grow at a strong pace over at least the next 3 – 5 years. Amazon can continue to grow in untapped international markets. The profitable AWS business will be another likely growth driver.
Amazon’s stock is likely to outperform the S&P 500 over the next 3 to 5 years as the company grows revenue and earnings at an above average pace over this time period.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: The article was written by David Zanoni with guidance from Kirk Spano.
Additional disclosure: The article is for informational purposes only (not a solicitation to buy or sell stocks). David is not a registered investment adviser. Kirk Spano is an RIA. Investors should do their own research or consult a financial adviser to determine what investments are appropriate for their individual situation. This article expresses my opinions and I cannot guarantee that the information/results will be accurate. Investing in stocks involves risk and could result in losses.
