Amazon.com Inc. is best known for its online shopping website that engages in retail sales of a wide variety of products of other brands and their own. The website can be accessed directly through internet websites and applications that can be downloaded to one’s device. Competitive prices can be found on Amazon.com, but it is the convenience factor that draws many consumers. The company also offers other services, such as publishing, database offerings, subscription services and credit cards. Amazon is in the services sector while also residing the catalog and mail order houses industry, while also employing around 340,000 full-time individuals.
• Amazon Web Services: AWS has consistently increased revenue every quarter since its creation in Q4 of 2015. In 2015 AWS recorded $2.405 billion in revenue and as of Q2 of 2017 it has reached $4.10 billion. This is an increase of 41.34% in less than two years. This large growth has caused Amazon to rely heavily on AWS as this past quarter AWS provided 145.9% of Amazon’s operating income. AWS has also substantially increased segmented revenue, increasing from 8.1% in Q4 of 2016 to 10.8% in Q2 of 2017. Year-to-date that is an increase of 25%, making AWS the fastest growing and most profitable segment of the corporation. AWS also boasts a new grant by the U.S. Defense Department allowing Amazon the right to store the military’s most sensitive and classified data. This grant was approved on September 13th and only two other companies, Microsoft and IBM able to store the material. The cloud market is set grow 25% this year and AWS has 40% of cloud computing market share. This almost double that of Microsoft, Alphabet, and IBM.
• Grocery: After the Whole Foods deal was struck Amazon vowed to decrease the prices of their new grocery store chain. These price cuts brought a 25% increase in consumer traffic in the first two days compared to the same time one-week prior. One of the largest increases was in Chicago where the surge was as high as 35%. Amazon cut prices at Whole Foods by as much as 43%. For example, fuji apples were marked down from $3.49 per pound to $1.99. Amazon has had success selling Whole Foods brands through Amazon.com. Amazon placed 2,000 private labeled products on the site after the deal closed and sold out on almost all of them. Amazon collected $500,000 in the first week on Whole Foods branded items through web sales.
• The price drop has caused companies like Wal-Mart to invest billions of dollars toward lowering prices. Whole Foods has 470 stores in the U.S. and U.K. Amazon now has a way into the $192.6 billion in the U.K. and $800 billion grocery business in the U.S. and has already disrupted many large grocery chains, including Walmart, Cost Co. and Target. The companies saw an immediate drop in value when the acquisition was announced, Walmart declined by 6.76%, Cost Co. declined by 24.28% and Target decreased by 6.76%. 9 grocery chains lost $37 billion in one day. This merger has added significant market capitalization, $14.7 billion (3.1%) for Amazon’s and $4.2 billion. 38% of Whole Foods shoppers or 5 million households are not yet members of Amazon Prime, and it is expected that Amazon will be able to convert half of these shoppers by the end of 2019. Shareholder’s approved the deal on August 23rd and the Federal Trade Commission has stated that the deal would not hamper competition or provide any unfair advantages.
• Market Share: Amazon is so large that last year 43% of online retail sales went through amazon and the company is responsible for 53% of e-commerce growth for the year.
• Amazon has the means to expand: The firm issued $13.7 billion in bonds to acquire Whole Foods. The deal was approved in Q2 2017. According to Business Insider, Whole Foods customers have over $1,000 per month of disposable income and the data from these shoppers is valuable. Whole Foods also has a private label called 365. Amazon now runs eight private brands and each brand have private products, ranging from batteries to baby wipes. Private brands tend to have higher margins and create differentiation. The Motley Fool estimates there are over 80 million people on Amazon Prime. With the vast amount data available to Amazon, they can create models predicting what consumers want, and when.
• Internal Growth: This past “Prime Day” was the largest global shopping event for the company, with more new Prime members joining than any other single day. According to CNBC, Prime Day’s sales grew by 60% from the same 30-hour window in 2016. Purchases were up more than 50% in 2016’s Prime Day also.
o However, it is important to note that 2017 “Prime Day” was 30 hours long compared to 24 hours in 2016.
• Possible Hindrances:
o On June 16th, Amazon purchased Whole Foods in an attempt open new market opportunities. As Amazon grows larger the company has expanded its services to providing many different types of goods. Amazon’s acquisition of Whole Foods came at a cost of $13.7 billion, the biggest acquisition for Amazon so far. Acquiring Whole Foods now allows Amazon to focus on the grocery markets. Amazon is known for its convenience and is now considering delivering groceries and perishable food items directly to peoples’ doors. This could have a significant impact on brick and mortar grocery stores in the future.
o In 1999 Amazon patented 1-Click; the ability to store payment and address details of an individual so that all one needs to do is click one button to order a product. This creates friction-less shopping, and it is estimated that 1-Click is worth $2.4bn. However, the patent will expire the 12th of September 2017. Apple has been the only other company able to create the same level of friction-less shopping because the firm pays Amazon an undisclosed sum of money to use Amazon’s 1-Click patent. Amazon will have slightly more competitive competition in just a few days
Drop in February after Earnings Report 2/2/17 (Move A): Amazon’s share price dropped slightly after its quarterly report was released. Although earnings showed a positive 12.82% surprise, operating income was expected to decrease from $1.1 billion in 2016 to between $250 million and $900 million in 2017.
Increase in April after Earnings Report 4/27/17 (Move B): Amazon’s share price increased after an earnings report was released. The report showed a positive 36.78% surprise in earnings per share.
Increase in July after Anti-Trust Allegations 7/14/17 (Move C): U.S. lawmakers called for a hearing to discuss Amazon’s proposed acquisition of Whole Foods. Doug Kass, a hedge-fund manager has decided to short Amazon in the belief that anti-trust concerns will decrease its value. As Amazon expands so do concerns over possible anti-trust violations. Acquiring Whole Foods took effort and eventually Amazon closed the deal. However, in the future, the corporation may find it more difficult to make big acquisitions like the Whole Foods deal. Politics will likely play a significant role, as President Trump has a shaky past with the corporation. The President has been quoted saying that Amazon does “Great Damage” to retail companies; while also banning the Washington Post, a newspaper Amazon owns, from Press conferences calling the newspaper “dishonest” and “disgusting.” Similarly, U.S. Representative David Cicilline, a Democrat from Rhode Island, believes that Amazon has “decreased wages and resulted in gross inequality in the workplace.” Cicilline goes on to say that Amazon’s acquisition of Whole Foods “raises important questions (about)…how the transaction will affect future retail grocery stores” and saying, “we need to do some refreshing of our antitrust statutes.” Amazon will undoubtedly face opposition on both sides of the isle when attempting to expand any further. Many politicians worry Amazon could cause mass automation causing a significant loss of jobs. However, according to GlobalData Retail’s analysis Whole Foods has only 1.2% of the grocery market and Amazon has less than 1%, while Walmart has 14%. This means even if Amazon did heavily automate their grocery business it would not make a significant impact on job availability. It is important to note that when looking at online grocery sales Amazon has a much larger portion of market share, about 20%. Furthering the anti-trust issues, a Yale Law Journal has also published an article titled, “Amazon’s Anti-Trust Paradox”; stating that American anti-trust law is no longer equipped to handle large tech giants including Amazon. It is also important to note that Goldman Sachs issued a note questioning whether certain stocks are overpriced and if investors have overlooked the risk associated with the possible regulatory issues. If Amazon is affected by anti-trust regulation, then the company’s growth potential will decrease significantly causing the stock value to drop. Many politicians see Amazon as a hindrance. Nevertheless, despite the anti-trust allegations and the negative feedback from the federal government, I predict Amazon will be able to grow at its 5 year expect rate of 22.85%. That being said, profitability should decrease in the immediate future due to the price of acquiring Whole Foods. But, in the long-term, the corporation will have more data from valuable consumers increasing their ability to market affectively. Also, Amazon now has the ability to participate in the $700 billion grocery business creating numerous business opportunities, like delivery groceries to homes.
Drop in July after Earnings Report 7/27/17 (Move D): Amazon’s share price dropped significantly after an earnings report was released showing the company missed the estimated EPS. The surprise was negative 71.91%.
Increase in August after Amazon Issues Bonds 8/11/17 (Move E): Amazon has hired banks to arrange a series of bonds to help finance the $13.7 billion buyout of Whole Foods. Bank of America and Goldman Sachs have financed a bridge loan for $13.7 billion. Investors are confident since Amazon can now finance the Whole Foods agreement.
Historically Amazon has run negative, in attempt to make large investments that aim for bigger returns in the future. However, since 2015 Amazon.com, Inc. has turned the tide and started to make a positive net income as their investments payoff. 2017 acquisition of Whole Foods may mean Amazon will run a negative income once again, but investors seem optimistic that the company will continue to perform and grow.
Amazon’s ability to continuously expand their market shares and grow by expanding both vertically and horizontally are powerful indicators for future success. The sheer size of the company has allowed Amazon to buy air planes and warehouses allowing for quick and low costs shipping.
North America Segment
The net sales of this section reached $79.8 billion in 2016. $13.9 billion or 17 % came from media, $64.9 billion or 81.3% came from electronic and other merchandise sales, and $1.3 billion or 1.7% is categorized as other.
Net sales for this section reached $44.0 billion in 2016. $10.6 billion or 24.2 % came from media, $33.1 billion or 75.3% came from electronic a nd other merchandise sales, and $0.2 billion or 0.6% is categorized as other.
Revenue has grown steadily since 2014 for the company. This growth is largely due to the recovery from growth in expendable consumer income and growth in the economy. Low unemployment (4.3%) and higher wages allows consumers to spend more in the consumer discretionary sector. The revenue estimate for 2017 is $169.906 billion, $33.19 billion higher than 2016.
The past three quarters g ross margin has increased from 33.8% in December of 2016 to 38.2% in June of 2017. Currently the profit margin is 1.28%. Return on equity and has decreased slightly as in Q1 of 2017 it was 14.18 and in Q2 it dropped to 9.67. Similarly, return on assets has also decreased, going from 3.63 in Q1 to 2.51 in Q2.
Diluted EPS has been dwindling Q2 of 2016. Diluted EPS for Amazon was 38.22 in Q1 of 2017 and -77.53 in Q2 of 2017. The large earnings drop is due to negative operating income, -$51.13million in Q2 of 2017. Earnings have fluctuated significantly as Amazon claims they are transitioning from a typical e-commerce business to one that focuses on cloud computing. Q3 of 2017 will likely be another slow quarter for Amazon as they will be ramping up for the holiday shopping season. Next year the company is expected to perform well as they have no acquired Whole Foods and are set to have another large growth in cloud computing.
Currently Amazon has three outstanding loans with three separate facility purposes: $500,000,000 for stock repurchase, $3,000,000,000 for working capital, 13,700,000,000 for takeover
Grocery: After the Whole Foods deal was struck Amazon vowed to decrease the prices of their new grocery store chain. These price cuts brought a 25% increase in consumer traffic in the first two days compared to the same time one-week prior. One of the largest increases was in Chicago where the surge was as high as 35%. Entering a new market worth $800 billion.
Amazon Web Services: AWS has consistently increased revenue every quarter since its creation in Q4 of 2015. In 2015 AWS recorded $2.405 billion in revenue and as of Q2 of 2017 it has reached $4.10 billion. This is an increase of 41.34% in less than two years.
Business Supplies: One year after launching Amazon Business, the corporation has sold over $1 billion worth of goods and is growing 20% month-over-month. RBC Capital’s Mark Mahaney believes Amazon Business could create $3 billion in revenue this year alone.
Economic and Industry Analysis
U.S. GDP growth rose 2.7% in the first quarter of 2017, while rising 3% in the second quarter. That is better than the 1.9% estimated for 2016 and the same as 2015’s growth rate of 2.1%. The Bureau of Labor statistics states that an increase in the proportion of the population will be entering retirement age. The labor force will see a dip in participation. This economic growth is projected to generate 9.8 million new jobs between 2014 and 2024. That does not yet consider the impact of Trump’s possible policies. These are good news for Amazon that will see that their sales volume will keep constant during 2017 and it has some room for improvement. However, the uncertainty of Trump’s economic measures is a downside for the company that does not know what to expect from part of the president. In the meantime, the forecast for the year seems promising for Amazon.
94.6% of jobs added between 2014-2024 will be in the service providing sectors. Of the projected 9.3 million jobs added, 3.8 million will be added in the healthcare and social assistance sector. The fact that more people will be employed through 2017 is good news for Amazon who will have more possible customers. Currently the unemployment rate is 4.4% for August and the number of unemployed individuals is at 7.1 million.
On the other hand, the global economic overview seems promising for the foreseeable future. However, there is a wide speculation over what the next few years hold due to political leaders and macro and micro economic factors. Isolationist moves have become popular recently, events like Brexit and the threat of renegotiating trade deals. The fact that the world economy is improving, is highly promising for the company who could see and increase on users and sells volume globally. This would generate a substantial improvement on cash flows that could be represented on revenue and capitalization of their growth. Nonetheless, it is important to wait and see what could happen in the U.S. and the policies that they apply that could affect the global economy.
This forecast assumes of a changing policy mix under a new administration in the United States and its global spillovers. Staff now project some near-term fiscal stimulus and a less gradual normalization of monetary policy. This projection is consistent with the steepening U.S. yield curve, the rise in equity prices, and the sizable appreciation of the U.S. dollar since the November 8 election. This WEO forecast also incorporates a firming of oil prices following the agreement among OPEC members and several other major producers to limit supply.
It is possible that Amazon may not be able to sustain its large growth, (about 22.85% over the next 5 years) due to anti-trust road blocks. Many law makers already are skeptical about the e commerce power house. Bipartisan support is rare in today’s politics, but representatives on both sides of the aisle are concerned that Amazon may become too large and the competition will become unfair. Investors need to watch this aspect carefully because without the high sustained growth, Amazon will not be nearly as appealing.
Volatility of Spending
Amazon relies heavily on disposable income, and even though AWS continues to grow, over 70% of the corporation’s revenue comes from online sales. Changes in macroeconomic factors will likely affect Amazon’s performance negatively, causing a decrease on their sales volume and therefore a decrease of cash flows.
In early February, Amazon stated in a regulatory briefing that the company faces a new risk, “trade and protectionist measures.” This reaction from Amazon is due to President Trump’s belief that the United States’ current trade deals should be renegotiated. If NAFTA and other agreements are in danger shipping costs could increase drastically, as the corporation accrues over $43 billion in revenue from international markets.
Foreign Exchange Risk
Amazon obtained over $43 billion dollars in international revenue, or 32% of Amazons total revenue. As currency values fluctuate so does the costs of exchanging the revenue generated into U.S. Dollars. Amazon has both accounts receivable and payable in many different countries creating transaction foreign exchange risk. Amazon also has contingent exposure, when a firm bids for foreign projects, and negotiates directly with the foreign firm. Rates continuously change during and through the bidding of the company. Amazon recently acquired Whole Foods, and although the company was a U.S. corporation, in the future, Amazon may look to purchase other companies outside the U.S.
Amazon.com, Inc. is a part of the Consumer Discretionary sector, one that follows the market closely. Lately the economy has been rising continuously. Unemployment rates are falling and wages are finally rising. Average hourly earnings have risen 2.5% over the last year. Also, consumers are now able to reduce their debt allowing people to spend more on non-necessity items. Even though the Federal Reserve is likely to continue to raise interest rates, today they are rather low allowing for consumers to borrow more at lower costs.
The Electronic Commerce (e-commerce) industry is a fast growing professive sector in the economy. According to the U.S. Census Bureau, business-to-business transactions account for 90% of the total e-commerce sales with the best growth in manufacturing and retail. Currently, the largest driver of growth are the use of smartphones and other mobile internet devices that allow online shopping to be easier on the go. The best selling items in e-commerce include womens apparel, books and electronics. Apparel sales have a large growth potiential as brick-and-mortar stores are slowly declining.
Price Earnings Growth Model: The Peg Model incorporates the impact of a company’s expected earnings growth on its price to earnings ratio. This model describes how much an investor would need to pay to buy a company’s earnings, given the future growth opportunities. Amazon has vast growth opportunities in the future, which is why this valuation could be useful to determine the right value of the company. To conduct this valuation, I used a current stock price of $969.50; current earnings per share of $3.94; long term growth of 22.85% to arrive to a fair value of $1,072.88 with an undervaluation of 11.1%.
The Holt’s Model provides a relative valuation of Amazon as compared to the company’s closest competitor under pessimistic, moderate, and optimistic growth scenarios as well as the consumer discretionary sector. Amazon’s closest competitor is Alibaba. To compare Amazon to Alibaba I used a long-term industry growth rate of 22.85% and slightly varying P/E ratios to reach a better value. The model arrived at a fair value of $1,019.45 with an undervaluation of 5.15%.
Amazon has a significant portion of e-commerce sales. In fact, in 2016 43% of online retail sales went through Amazon, and the corporation is responsible for 53% of e-commerce growth for the year. This level of market power should not be passed up especially since Amazon is expanding to the grocery markets. This stock should be labeled as hold.