Saturday, February 2, 2013

The Forest for the Trees

Note 1:
Note 2:
Technology & content expense = 2/3 maintenance, 1/3 growth


6.6% normal margin x Revenue of $61,093 Revenue = $4,032 normalized profit

Amazon's grown at 33% over the last ten years and 40% over the last five years. If Amazon grows at 10% for next ten years, the stock is worth $375.

Tell me this isn't a Buffett stock.


  1. Very interesting. Do you think the switch to charging sales taxes and adding more distribution centers for faster shipping will impair its core profitability? Or is it irrelevant with Amazon's share of mind as being the low cost, convenient option?

  2. Not sure the margins will normalize. It's the low margins that are driving all that revenue growth.

  3. If the low margins are driving the revenue growth then logically once AMZN matures the margins should normalize.

  4. 1. Sales tax is immaterial wrt to its profitability over the long term. It beats everyone in inventory turns, cost of capital, SKUs, convenience and customization. It can compete with anyone on price. Its runway is probably as big as that of any company we have come across in out lifetimes. It is GEICO and Walmart in one company.

    2. Amazon expenses some portion of its growth capex. Therefore, since debt is insignificant, its "owner earnings" are ~4 billion today. "Margins normalizing" can be seen in that context.

    3. The risk to Amazon is that it may be distracted by unimportant amarkets where it has no competitive advantage: distribution of bytes - music, movies, TV. In these markets, in the long term, all excess profits must flow to the copyright holders.

  5. This is definately interesting but I would question your assumed normalized margin. Given that wal-mart's net margin is currently around 3.5% - 3.75% i find it hard to believe that AMZNs economics are almost 2x better. The only major difference between the businesses is physical stores which are replaced with shipping...

    1. Amazon turns its assets over at twice the rate of Walmart. Since retail is about asset turns, I'd agree that the difference is major but I'd leave out the only.

      The above is silent wrt to margins: asset turns = revenue/net operating assets

      Wrt margins, the line item that has everyone's knickers in a twist is the rising expenditure on fufillment centers. There are 46 of them and 23 of them were built in the last 3 years. You tell me whether this is maintenance or growth expenditure.

      The problem with / opportunity in Amazon is that people look at the price and then rationalize why they hate it. Just as many value investors look at some low-multiple stock and then rationalize why they like it.

      The general idea behind investing is to assess the value of the business first, then assess the value of the stock, and then look at the price at which it is offered in the market.

  6. I am not sure if I am reading the same data you are reading. The Tech & content expense from 2012 annual report is close to 4.564B or 4.13B if you exclude stock based comp. If you add back 1/3 for growth, it should give you much higher operating margin. Also, how did you compute amortization of acquired intangibles? Is that stock based comp?

    I don't agree with your way of adding back growth based expenses in marketing mainly due to the fact that they are presumably spending that money to lock in customers for a longer time. So, if they spend $80 per customer this year to lock him/her in for lifetime to force habits or something, the next year they don't need to spend that much on the same customer. That same $80 could be spent on another potential customer. As they have been growing revenues, that line should more or less remain constant if that expense is spent on a different customer next year. But this line keeps on growing (granted, it might appear constant as a % of revenue, but actually they are spending more in dollars). Either their way of spending to lock in customers is not working as it should be, or they need to keep on that spending into future.

    Also, tech & content expense. Technology costs are deflationary in Jeff's own words and I agree with him. But that line keeps growing as well. The cost of replacing computers etc keeps going down but this line keeps going up.

    Just asset turns without any margins is meaningless. There should be some (albeit low) to make business sense. But margins don't exist (could it be competition?)

    I thought if you hire a few more people to run newly built fulfillment centers, then the labor costs go towards expense but the capex is depreciated over time. But you are saying that a lot of fulfillment expense is growth based? what am i missing?

  7. Well, the difference between growth and maintenance spend is whether that expenditure is focused an net new customers (or, strictly speaking, net additional revenue) or not, right? So you can judge for yourself how that marketing expense breaks down and whether it is likely that Amazon needs to spend proportionally more on maintenance marketing than Walmart.

    Amortization of acquired intangibles is presented in the 10K, note 4

    Not sure I'm grasping the point about turns without margins: I'm suggesting that Amazon's underlying margins are positive & fine.

    What would you say to Bezos if he told you that his long term strategy is to live on negative operating assets and a sub-2% margin? What are competitors' options in that scenario?

    re: fulfillment centers: rents, for example, are not capitalized but expensed.

    Amazon is either simple or complicated, either 26 separate businesses or a single idea. Either way, there's more to it than its GAAP P/E. Don't you think?