Amazon (NASDAQ:AMZN) is the global leader in ecommerce, cloud computing (AWS), and even entertainment with Prime Video, Kindle etc.
It is hard to believe that Amazon was founded just 28 years ago in 1994 as an online book seller. Now, the company is one of the largest in the world with a market cap of over $1.5 trillion.
Investing $10,000 in 2008 would have made you a whopping $570,000, this is a return of over 5,700%.
Is it too late to Invest in Amazon?
Although it may feel like you missed out on the Amazon rocket ship, in my opinion, it's still not too late to invest. From a fundamentals perspective, the revenues and profits are all going from strength to strength. It is also worth noting that 10 to 20 years ago, Amazon wasn't an obvious bet to all. The company was heavily criticized for "not making any money" and "waiting for the profits to come". The beauty now is those profits are starting to roll in, as the company is starting to fire on all cylinders. The lockdowns of 2020 accelerated all aspects of Amazon's business from boosting ecommerce, Prime members, and increasing the reliance on cloud computing.
Amazon Dominates Ecommerce
Amazon is the dominant market leader in online shopping, making up over 40% of online ecommerce sales in the USA, according to a study by Emarketer. This dominance leaves competitors such as Walmart (WMT) trailing behind with just a 7.1% share of US ecommerce sales and eBay (EBAY) with a 4.3% market share.
It is amazing to have watched the divergence between eBay and Amazon. They both were founded just one year apart and enabled ecommerce, but these days, eBay is worth just $34 billion compared to Amazon's $1.5 trillion market cap.
Amazon's US ecommerce sales had a stratospheric rise in 2020, growing at 44.1%, as the global lockdowns acted as a tailwind. This trend continued into 2021 as sales grew strong at 18% in North America.
Despite Amazon being the "Everything Store", the company is just getting started in areas with low ecommerce penetration. For example, the below chart shows areas such as Food/Beverages have minimal Ecommerce penetration (3.7%) and thus offer a potential runway for growth.
Amazon's grocery segment, Amazon Fresh acquired Whole Foods in 2017 and is now available in major US cities and many major cities around the world including, London, Berlin, Milan, etc. They offer an unbelievable deal for customers with free delivery on orders over $40 for Amazon Prime members. Thus it's no surprise that in 2021, Amazon Fresh was Amazon's fastest-growing segment with 24.7% revenue growth.
Apparel is also major area with less ecommerce penetration relative to other categories. This was Amazon's second-fastest growing segment in 2021, with a 21.4% growth rate. The company even opened Amazon's first-ever physical store for apparel called Amazon Style in Los Angeles. This store uses QR codes and machine learning algorithms to create tailored recommendations for customers. I personally see the convenience of this, but don't really consider Amazon as a fashionable company.
Prime is Growing Rapidly
Amazon Prime's membership ecosystem also continues to grow with over 200 million members globally. With close to 150 million Prime members in the US alone, this is just under 50% of the population.
Creating Amazon Prime was a risk originally and Bezos himself described it as an "all you can eat buffet" and the risk was "you always get one person who will eat lots". However, now that Prime has reached such a large scale, there is no doubt the consumer benefits are tremendous. In the US, Prime costs just $12.99 which gives access to unlimited same-day delivery, Prime Video, Amazon Music discounted, and even Kindle benefits.
Amazon's not so secret Weapon
Amazon operates with what former hedge fund manager Nick Sleep termed "Scale Economics Shared". Many businesses save money as they scale thanks to the "economies of scale"; however, very few companies reinvest these savings back to help the customer. Those that do create a flywheel of success. As the company passes savings onto customers, customers spend more and retention is increased, this increases revenues, profits, and market share. Amazon has mastered this business model.
(Image source: Nick Sleep Motivation 2 Invest)
Amazon Leads the Cloud Market
Amazon Web Services (AWS) is the market leader in cloud computing with a 33% worldwide market share. They are followed by Microsoft Azure (MSFT) with a 21% share and then Google Cloud (GOOG) (GOOGL) with a 7% share.
According to Statista, in Q4 2021, global cloud service revenues surpassed $50 billion for the first time, bringing the industry total for the year to $178 billion.
Cloud is the company's fastest-growing and most profitable segment with income growth of 38% from $13.5 billion in 2020 to $18.5 billion in 2021. This is approximately 74% of Amazon's profits and is surprisingly a much better business model overall, thanks to its high (29%) margins.
AWS also recently announced a partnership with Nasdaq to migrate the financial markets to AWS. This would create the first-ever cloud-based exchange. In addition, AWS is now the strategic cloud partner for Meta (FB), which owns Facebook, Instagram, etc. These large deals with established platform companies should offer some stability to Amazon's Cloud profits moving forward.
Strong Financials
Amazon has produced some solid financials for the full year of 2021, here is a brief overview. The company's sales increased by an incredible 22% to $470 billion in 2021, compared with $386.1 billion in 2020.
From the chart above, a clear upward trend can be seen in the revenues and analysts estimate revenues to surpass half a trillion by 2022 and over $600 billion by 2023.
Amazon's profits are also accelerating thanks to the cloud business, with net income increasing 57% from $21.3 billion in 2020 to $33.4 billion in 2021. From the chart below, you can see a major jump in earnings per share for Q4 2021.
Operating cash flow did decrease by 30% to $46.3 billion from $66.1 billion in 2020. This was due to an increase in purchases of property and equipment. However, the company does have a solid balance with an incredible $96 billion in cash and a current ratio of 1.14 which is OK for a company of this size.
Is Amazon Undervalued?
To value Amazon stock, I have plugged the latest financials into my advanced valuation model, which uses the discounted cash flow method of valuation.
I have estimated 15% revenue growth for the next 5 years, which is less than the prior 22% growth. I have predicted margins to increase by 2.5% thanks to the growth of the company's higher margin Cloud business.
I have also plugged in the company's effective tax rate of 12.5% and even capitalized the businesses R&D expenses for greater accuracy.
From this model, I get a fair value of $3,747/share, the stock is currently trading at approximately $3,000/share and thus is 20% undervalued. This discount offers a margin of safety.
Risks
The Exit of Bezos
There is no doubt that the founder of Amazon Jeff Bezos has been a vital driver in the company's success. Bezos created a unique culture, such as banning PowerPoint presentations and instead encouraged the writing of one page memos to explain ideas. However, the key part of the culture which has resulted in Amazon's obvious success has been his style of "experimentation" and making a series of "bets" but not bet the company bets.
Not all of these experiments and bets paid off, for example, the Fire Phone was a disaster. However, this culture resulted in Amazon Web Services, which was created much earlier than traditional computing companies such as Microsoft. As mentioned, AWS now makes up 74% of the company's profits.
Bezos stepped down in July 2013 and the new CEO is Andy Jassy who previously led AWS. Although, Jassy is a very smart and experienced guy, I still believe the founder leaving is a negative and may cause the company to become complacent in the future.
Regulation
Big Tech is a target for anti-trust regulation. The European Commission opened an antitrust investigation against Amazon in 2019, which investigated the company's usage of sensitive data from independent retailers. Then, in 2021, the attorney general for the District of Columbia, filed another lawsuit of a similar flavor.
Amazon has been regularly criticized for how it handles data from independent sellers and has been accused of crushing the competition. Third-party sellers on Amazon have accused the company of manipulating the prices they sell products for. For example, if a seller lists an item at a lower price on their own website, Amazon can choose "not to highlight" their products as not competitively priced. Independent sellers say this forces them to have to raise their prices and thus are being controlled by Amazon.
Worker Conditions
Amazon now employs over 1.6 million people worldwide and has faced a series of scandals and bad news reports regarding working conditions. These include the monitoring of warehouse employees through sensors, to not allowing bathroom breaks for delivery drivers. These scandals have, of course, damaged the company image and also deter others from wanting to work for Amazon in the future, which could mean labor constraints.
However, Amazon has been responding proactively with a WorkingWell Program, "Make Every Day Better" program and even a FamilyFlex program to help with child care.
Competition
Amazon is now competing with other companies on multiple fronts. On the commerce side, we have competitors such as Walmart, Costco (COST), and every global commerce store. In cloud, AWS is competing with Microsoft and Google. Then, we also have Amazon Prime Video which is competing with Netflix (NFLX) and Disney Plus (DIS). Oh and let's not forget Amazon Music is competing with Spotify (SPOT).
The issue with being an "everything store" and really an everything company is the business may lack the focus, innovation and flexibility of competitors which could be an issue moving forward.
Final Thoughts
Amazon is a tremendous company and is a market leader in multiple areas from ecommerce to cloud computing. The company's scale and culture offer a strong competitive advantage. This has allowed the company to make strategic bets, which are now paying off with huge profitability such as AWS. The Prime member ecosystem is expected to provide a "stickiness" for customers and allows the cross selling of services, which is a further competitive advantage.
The company has faced a series of headwinds from worker condition scandals to antitrust lawsuits, but it has seemed to have handled these much better than other FANG stocks such as Meta. Amazon is currently undervalued intrinsically and offers growth at a reasonable price (GARP) for the long-term investor.
This article was written by
Deep Tech Insights
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Senior Investment Analyst for Hedge Funds. Interviewed Hedge Fund Managers and CEO's. Investment Strategy: Focus on Deep Dive Valuation, G.A.R.P (Growth at a Reasonable Price). Masters in Equity Valuation, 755+ Companies Analysed.
Disclosure: I/we have a beneficial long position in the shares of AMZN either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
 (2024))
