Worried about Amazon.com? Don’t be

Growth on track despite latest quarter

Amid all the chatter about Amazon.com Inc.’s sharp profit decline in the second quarter reported on Thursday, the stock only fell slightly the next day.

Yes, the online retailing giant posted a 77 per cent drop in quarterly revenue, North American and international operating margins contracted, and Q3 operating income guidance was significantly lower than expected, but Amazon’s revenue of US$38 billion (up 26 per cent) beat expectations by a significant margin as growth continues to accelerate across most segments.

It all leaves investors with a similar taste as three months ago: Growth is on track, the company is stepping up its investments, but near-term profitability is lower. But does anyone care about profit when Amazon is capturing more market share?

“Amazon has more major growth opportunities to invest into than any company we cover,” said J.P. Morgan internet analyst Doug Anmuth.

That includes fulfilment centres, data centres, video content, marketing, India, Prime, grocery, and many others.

Given the accelerating growth and Amazon’s long runway in both retail and the cloud, investors would be wise to look past its lower near-term profitability. However, Anmuth believes this negative could cap some of the short-term upside in the stock.

The lack of visibility on margins also raises the risk profile of Amazon shares, as margin pressure is now a two-quarter trend, and the company has returned to the 2014-15 trend of guiding break even or negative operating income.

“That said, investors don’t seem to mind as Amazon continues to be the ‘black hole’ of retail, hoovering up market share incessantly,” said Michael Graham, a New York-based analyst at Canaccord Genuity.

While the market may be wondering why Amazon needs to push forward with another investment cycle, a quick glance at the company’s total addressable markets answers that question quickly.

Amazon’s two key endmarkets are retail and cloud computing. Its penetration in both of those remains just 10 to 15 per cent, and as RBC Capital Markets analyst Mark Mahaney points out, the competitive moats are only getting deeper.

“Amazon remains arguably the single best play off three of the biggest tech trends today — cloud, artificial intelligence and voiceactivated internet,” Mahaney said. “We don’t see dramatic near-term valuation upside, but we believe a reasonable sum-of-the-parts approach… does show reasonable upside.”

Eventually, Amazon will generate dramatic profitability from these segments, particularly Amazon Web Services, the analyst added.

Amazon’s track record with investments is well documented. That success, coupled with the ongoing growth acceleration, justifies its investments.

As a result, long-term investors should have no reason to alter their case for owning the stock, at least not based on this latest round of quarterly results.