INTRO:Amazon just posted their first loss in 7 years of $3.8 billion.
This caused Amazon stock to tumble 14% in a single day which is their biggest one-day drop since 2006.
This drop itself paints quite a bleak picture, but if you zoom out on Amazon stock, you’ll see that the stock has been struggling for quite some time now.
It’s not that Amazon has crashed 50 or 70% like Netflix or PayPal. However, they’ve just been going sideways for roughly 2 years.
This doesn’t sound that bad until you consider that all of their peers were going parabolic till the start of this year.
For example, since the start of 2019, Google has outperformed Amazon by 80%, Microsoft has outperformed Amazon by 120% and Apple has outperformed Amazon by 230%.
To make things worse, Amazon just broke down from it’s sideways channel which has resulted in nearly a 40% sell off from their all time highs.
And given the size of Amazon, this sell off correlates to a $745 billion loss in market cap.
I don’t think Mr. Bezos is a big fan of this move given that he is personally down $50 billion year to date.
So, what happened to Amazon?
LACK OF GROWTH
Starting with the most notable concern regarding Amazon, we have underwhelming growth figures.
In their last quarterly report, Amazon projected that second quarter revenue would only grow 3 to 7% compared to last year.
Not only is this a smaller growth percentage than even the S&P 500, but more importantly it’s lower than what analysts estimated. Analysts were hoping for a $125.5 billion Q2, but with only 3 to 7% growth, we’re looking at closer to $116 to $121 billion.
This marks the slowest growth for Amazon since the dotcom crash way back in 2001. And at this rate, it won’t be long before Amaon ends up posting a full year of single digit growth figures.
Aside from nearly non-existent revenue growth, it seems like Amazon is also struggling with prime member growth as well. This is really not that surprising given that basically everyone who wants prime already has it. Also, this isn’t some new phenomenon either.
Prime users have been leveling off for many years now, and it looks like it’s just gonna slow down even more. Amazon hasn’t really made this issue much better given that they’ve been constantly hiking prices.
For example, you might’ve recently heard that Prime subscriptions are going up to $140 per year. But, for a significant number of Prime members, this price hike is even more painful.
You see, that $140 number is for annual subscription holders, but the thing is, 52% of subscribers pay for a monthly subscription. And the monthly subscription actually costs $15 per month or $180 per year.
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Now, personally, I don’t think we can really blame Amazon for this fee increase given the rampant inflation we’ve been experiencing, but that doesn’t really matter.
Whether Amazon’s price hikes are justified or not, their membership cost is simply becoming unaffordable or not worth it for many people. And this is extremely bad news for Amazon given that their a growth company.
I think a lot of people forgot about this given all of the hype surrounding Tesla stock and it’s sky high PE ratio. But, before Tesla stock went to the moon, Amazon was by far the biggest growth company in the world.
After all, Amazon has regularly had a PE ratio of 100 or higher for most of their history. It wasn’t till the last few years that Amazon’s PE ratio has consistently come in at less than 100.
But, even now, Amazon’s PE ratio stands in the mid 50s which is extremely high for a company as mature as Amazon. And given their poor growth forecasts, it’s very possible that Amazon is even more mature than we originally thought.
Amazon is literally posting growth numbers that are worse than Apple, Google, and Microsoft, yet their PE ratio is more than 2 times higher than any of these companies.
By this logic, Amazon stock could drop another 50% and it would still be more richly valued than the other FAANG companies. And unless, Amazon is able to get their growth story back on track, it’s likely that Amazon’s pain has just begun.
Usually, companies like to substitute for a lack of revenue growth with strong growth in profits, and that’s what Amazon was trying to do as well.
Till the end 2017, Amazon’s net income was a laughable amount compared to their revenue given that their net margin was literally less than 1%.
This is because, Jeff Bezos preferred to reinvest all of their excess income back into the business, but in late 2017, he had a change of heart. He finally decided to turn on the profit switch and Amazon’s net income went through the roof until now.
Now, the most astute of you point out that Amazon wouldn’t have even lost money this quarter if it wasn’t for their $7.6 billion write off on Rivian. And while this is absolutely true, even if we ignore this, their bottom line isn’t looking that great.
If we take a look at their quarterly report, we’ll see that total net sales jumped from $108 billion to $116 billion from Q1 of 2021 to Q1 of 2022. Yet despite this, their operating income over halved from $8.8 billion to $3.6 billion.
And it’s not like this reduction can be attributed to any one factor either. Rather, we’re seeing Amazon’s operating costs increase across the board. Also, it’s not like these increases are that substantial either.
We’re looking 10% in one category and 15% in another, but given Amazon’s single digit net margin, these increases add up quickly. And the worst part is that most of this is not under their control.
For example, their cost of sales increased from $62.4 billion to $66.5 billion. If you’re not familiar with cost of sales, it’s basically just the cost to produce a given product or service.
And given that the prices of raw materials and semi conductors are increasing substantially, this is not that suprising.
Similarly, Amazon’s fulfillment costs rose from $16.5 billion to $20.2 billion.
Likely one of the biggest factors driving up this category is skyrocketing oil prices. Moving onto their next category, we see a very similar story. Technology and content rose from $12.48 billion to $14.8 billion. This can also likely be attributed to rising chip costs which have resulted in more expensive databases and servers.
In the end, Amazon is basically getting screwed by inflation like all of us, but just on a much bigger scale.
As a business, their long term goal would be to pass on these costs to customers, and that’s likely what they’re trying to do, but it’s a pretty fragile balance between maintaining customers while increasing costs.
Fortunately, Jerome Powell continues to insist that we’re gonna have a soft landing and that the worst of inflation is behind us.
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The market doesn’t quite believe him, but Jerome being right would not only be great for Amazon but for all of us. So, hopefully, he’s right, but even if he is right, it would take a few quarters for stabilizing inflation to reflect in Amazon’s bottom line.
So, Amazon will likely have to deal with rising costs till atleast the end of this year.
Aside from all these internal problems Amazon has been facing, they’re also facing a major external problem which is physical retailers.
For decades, physical retailers weren’t much of a threat for Amazon. In fact, it was usually the other way around.
Physical retailers were scared of losing market share to Amazon as they navigated the retail apocalypse. And this was just made worse by the pandemic and stay at home orders.
However, as things return to normal, it seems like the innovative physical retailers are rising stronger than ever before. In fact, online retailers lost ground to physical retailers in 2021 and I have a full video about this phenomenon if you’re interested.
But, the main explanation for this shift is that physical retailers have learned to offer the best of both worlds.
Historically, physical retailers were trying to compete head on with Amazon by simply creating their own websites and home delivery services which were usually subpar to Amazon’s.
However, the innovative retailers have since learned to leverage their locations to offer something that Amazon can’t.
This includes convenient returns, curb side pickup, no delivery fees, knowledgeable customer service, and a much more interactive shopping experience. Aside from all of these factors, many customers have also become quite weary of Amazon’s quality.
The truth is that the vast majority of the products on Amazon are just highly marked up items from AliExpress/Alibaba.
And usually the quality is just not that great especially compared to items that you can find at physical retailers. Personally, I’ve found this issue to be most prevalent amongst cheap electronics and specifically dongles.
Since the start of 2021, I’ve gone through 3 USB C dongles and 3 Display Port to HDMI convertors all from Amazon. They simply stop working within 3 to 6 months.
Considering all this, it no longer seems like online retailers are just going to completely wipe out physical retailers. Rather, it seems like they’ve reached some sort of balance and that things are going to be relatively stable moving forward.
And while this is great news for physical retailers, this is terrible for Amazon.
AMAZON’S DARK HORSE
Up until now, we’ve mainly discussed Amazon’s retail business, but the truth is, a significant portion of their business has nothing to do with retail.
While 84% of Amazon’s revenue does come from their retail business, virtually all of their profits come from their cloud business, AWS.
In fact, last quarter AWS accounted for 100% of Amazon’s operating income given that Amazon.com was a net loss both in North America and internationally.
This is really nothing new given AWS has been holding up Amazon since it was created in 2006.
But, over the past few years, it did seem like Amazon was finally starting to become independent of AWS as they posted their first profitable quarters. However, all of that progress was wiped out with rising costs.
And this leaves us with a serious question, how long can AWS just keep propping up Amazon? Using AWS to fund Amazon’s growth was a genius strategy in the early 2010s. But, it’s starting to get old now that we’re 16 years in.
Fortunately, it doesn’t seem like AWS revenue is slowing down yet, but it’s only a matter of time until any business starts to stagnate.
And Amazon’s continuing dependence on AWS isn’t the most assuring of characteristics.
Despite all these concerns, I’m personally still optimistic about Amazon’s future. Here’s the thing, Amazon has decisively won ecomerce and yes they’re a monopoly.
56.7% of all e-commerce sales happened on Amazon in 2021, and while online retailing is starting to stabilize, I don’t think Amazon will be losing their dominance within this sector anytime soon.
Something else to note is that Amazon just announced a 20 to 1 stock split and this would be their first stock split since 1999.
At current prices, Amazon’s post split price would be just over $100.
And though, stock splits don’t actually change anything fundamentally about the company, I think a stock split could attract a lot more retail investors.
I know some of you will argue that the introduction of fractional shares has made stock splits completely useless. And technically this is true if we just focus on stock returns, but I mean who actually wants to own a quarter or a third of a share.
Also, trading derivatives on Amazon is currently unreasonably expensive for most retail investors. A stock split will substantially help with derivatives pricing.
Combine this new retail interest with a fundamental recovery from Amazon and I think it’s just a matter of time until Amazon recovers to its all time high and makes new all time highs.
I liked Amazon stock when it was $2900 per share, so I really like it now, but that’s just what I think and it’s definitely not financial advice. Would you guys invest in Amazon right now? Comment that down below.
Also, drop a like if you’re hoping that this stock market pain ends soon.