Amazon's $2 trillion puzzle
Unpacking this stock is far from straightforward. Let's try.
I’ve mentioned Amazon a lot recently.
It also cropped up in my review of Netflix yesterday.
Let’s spend a few minutes reflecting on the importance of this $1.65 trillion behemoth.
Because it’s easy to forget just how many different sectors it competes in.
Streaming: Amazon has rapidly achieved 19% market share in US streaming, striking fear into Netflix investors.
Cloud computing: responsible for a large chunk of Amazon’s total valuation, AWS has an estimated 32% worldwide market share, well ahead of both Microsoft (21%) and Google (8%).
Artificial intelligence: Amazon’s Alexa and Google’s Voice Assistant are far ahead of Apple’s Siri and the rest of the competition when it comes to virtual assistants.
E-readers: an 83% share of the US e-readers market is not to be sniffed at.
Logistics: Amazon controls 21% of the US shipping market, bigger than FedEx and only 3% smaller than UPS.
Exercise equipment? Amazon is said to have an interest in bidding for the collapsed shares of Peloton.
Oh, and Amazon also sells physical books and many other things! Did I mention that? Its market share in US e-commerce is a staggering 41%.
A surprisingly successful business
One of the reasons I set up this newsletter was to focus on companies with extraordinary competitive advantages which allowed them to enjoy durably high market shares.
So it was only a matter of time before I got around to covering Amazon for you!
As you’ll notice from the above list, Amazon’s market share in most of its activities is very high.
This fact alone hints at the existence of very high synergies which cause special difficulties for Amazon’s competitors.
Of course, a sceptic could argue that the progress has been made only by delaying profitability. That if investors had demanded profits and dividends sooner, then Amazon would no longer be able to keep investing in growth.
I have sympathy for this point of view, but I’m not sure if it holds up under scrutiny.
For a start, here are some big picture numbers from Amazon’s cash flow statements (via SharePad).
I give you Amazon’s free cash flow to the firm, and its cumulative free cash flow to the firm:
A huge chunk of the free cash flow ($26 billion, to be precise), was generated in the pandemic year 2020, when online shopping was, in some circumstances, the only legal form of shopping. So yes, the company received an unfair financial boost that year.
But what’s not really in dispute is that the company was on a solid trajectory leading up to 2020.
2019 was a pre-pandemic year, for example, and it saw free cash flow of over $21 billion.
So while it’s true that the company has rarely been in a position to buy back its own shares, and has never paid a dividend, it’s not fair to accuse it of burning shareholder cash.
It has paid its own way over the years, and this is reflected in a share count whose growth has been, if anything, impressively slow:
You’ll note that I said it has “rarely” bought back its own stock.
In fact, there was a period from 2006 to 2012 when Amazon did buy back its own stock from time to time.
In Q1 2012, the company spent nearly $1 billion buying back its own shares, at an average share price of $181 (latest share price: $3,240).
In hindsight, that was a bargain price, but still generous compared to the sub-$100 price at which the shares traded until 2009.
Significantly, the company has only last month spent a fresh $1.3 billion on share buybacks.
While the amount of cash involved is not material at this market cap, it’s a very sweet signal for Amazon investors, and a delightful reward for any long-term investors now wishing to cash in their gains.
Keeping track of everything
Understanding Amazon’s varied operations is far from easy. Hopefully the new CEO Andrew Jassy can manage it!
The most sensible thing to do might be to focus mostly on the retailing and cloud computing elements, and to treat everything else as a bonus!
TV streaming, logistics, e-readers and artificial intelligence: all of these could be viewed as strategic assets which may generate important profits in their own right, but which also serve to boost the retailing efforts and provide a competitive advantage in that space
Retailing is currently loss-making in the face of rising fulfilment costs and inflation which the company is still adjusting to.
Cloud computing has just achieved 40% year-over-year growth, and now has a $71 billion revenue run rate. The operating margin is around 30%, giving a current operating income run-rate of $21 billion.
Guidance for Q1 2022 suggests that Amazon will achieve sales growth of 3% - 8%, and that operating income will fall to just $3 - $6 billion (versus $8.9 billion in Q1 2021).
But free cash flow for 2022 will be $38 billion, according to market consensus forecasts. This means that the free cash flow yield on the shares is currently 2.3%.
Hopefully this article has provided some ammunition which you might use in carrying out further research.
For my part, I’ve never experienced much regret about not owning Amazon. I’ve always felt that other huge winners of the bull market - Google and Apple, in particular - were more obviously going to succeed, whereas the success of Amazon, in my mind at least, was more uncertain.
Given the enormous market share it has achieved across so many important industries, it obviously can’t be ignored now - and I look forward to keeping you updated! But I still have no immediate plans to buy the stock.
All the best,