Boasting over 200 million Prime memberships, Amazon (AMZN) needs no introduction. The world's fourth most-valuable company, with a market capitalization of over $1 trillion, is without a doubt on most investors' watchlists.
The company is expected to surpass the $600 billion annual revenues threshold by the end of next year, thus becoming the world's largest company in terms of revenues. The title has been held by Walmart (WMT) for a long time, whose annual revenues average around $570 billion.
With Amazon's global reach expanding at a dramatic rate over the past decade, its stock had been one of the most celebrated in the market up until recently. The company's performance was, in fact, boosted during the COVID-19 pandemic amid increased demand for home deliveries, resulting in Amazon reporting record profits of $33.4 billion last year.
However, the market's sentiment towards the stock has shifted lately, with the currently tough macroeconomic environment threatening the company's growth and profitability prospects. Shares of Amazon have declined by nearly 40% year-to-date, significantly more than its mega-cap peers. The lack of confidence in the stock is also reflected in the absence of revitalized investor interest in it despite its recent 20:1 split.
Stock splits usually ignite confidence in stocks, as they improve liquidity and are overall a net positive for investors' psychology. In the case of Amazon, the stock split also allowed for increased retail investor participation amid the stock's, previously for many, unapproachable price levels.
Yet, shares have declined further since the event, pressured by the market's general sell-off and increased concerns over the company's profitability prospects.
I am neutral on the stock.
Strong Profitability HeadwindsAmazon's Q1 results came in rather weak, while management's soft guidance for Q2 combined with a very volatile macroeconomic environment continued to inflict fear on investors. While net sales increased 7% to $116.4 billion in the first quarter, operating margins declined from 8.2% to 3.2%. Accordingly, Amazon's operating income for the period declined 58.4% to $3.7 billion.
What's really worrying about Amazon's operating income is that it's currently solely supported by AWS. The segment grew 37% year-over-year or 34% annually over the last two years, in the first quarter, as AWS has been critical in supporting companies to weather the pandemic and move more of their workloads into the cloud.
Following economies of scale, AWS's operating margin expanded from 30.8% to 35.3.% for the quarter, contributing to an operating income of $6.5 billion.
However, Amazon's core business, excluding AWS, is now losing money. Specifically, both Amazon's North American and International divisions lost money, reporting operating margins of -2.3% and -4.5%, respectively. Unfortunately, the current headwinds affecting Amazon's core operations do not seem to be a temporary phenomenon.
Management expects the company to post net sales between $116.0 billion and $121.0 billion in Q2, suggesting growth between 3% and 7% compared to Q2 2021. This implies further deceleration on a quarter-over-quarter basis. Further, the operating income (or loss) is expected to be between a loss of $1.0 billion and a gain of $3.0 billion, compared with a gain of $7.7 billion in Q2 2022.
This does not only imply further erosion from Q1's operating income of $3.7 billion, but it also means that the company will almost certainly lose money on a net income basis when we account for all other non-operating expenses (e.g., interest expenses on debt).
In addition, it's quite likely that ongoing headwinds will endure beyond Q2, as the current macroeconomic turmoil should keep persisting in the coming quarters.
Firstly, amid elevated inflation levels, consumers' purchasing power on discretionary goods could decline moving forward, as they have to prioritize spending on necessities such as rent and utilities, whose rates are on the rise. This could result in lower revenues for Amazon, which matches the ongoing slowdown in the company's revenue growth trajectory.
Simultaneously, Amazon should also be suffering from rising costs. Gasoline and diesel prices hover at record highs, which means that shipping goods to customers should be more expensive, at least during the next few quarters. Following further increases in shipping costs compared to the previous quarter, it's only natural to assume that operating margins will come out increasingly disappointing, going forward.
In any case, inflation is set to affect Amazon's bottom line on multiple fronts. Chartering rates for containers to be loaded with goods, for instance, also remain at sky-high levels. Therefore, Amazon's operating income may be maintained at negative levels until these headwinds soften, resulting in continuous pressure on the stock price.
Wall Street's TakeTurning to Wall Street, Amazon has a Strong Buy consensus rating based on 36 Buys, one Hold, and one Sell rating assigned in the past three months. At $178.66, the average Amazon price target implies 74.6% upside potential.
TakeawayWall Street's love for Amazon shares has faded out lately, with its latest results, guidance, and future profitability prospects all appearing quite weak. The AWS segment's performance remains robust, but alone, it may not be able to offset the losses from Amazon's core business.
The ongoing macroeconomic turmoil is likely to endure moving forward, making it hard to tell how long it will take for Amazon's profitability prospects to resume to strong levels. Therefore, there may be more room for shares to correct.
After all, the stock is currently trading at 38 times the company's projected Fiscal 2023 net income, which is an expensive multiple in the first place, considering the circumstances.
A report from Jefferies analyst Brent Thill, which was released over the weekend, has made some investors nervous about Amazon (AMZN) stock.
Now before getting to the details, it bears emphasizing: Thill actually likes Amazon stock. Indeed, he recommends buying the stock, and thinks the shares, which cost less than $103 apiece today, are actually worth more like $163 -- and will hit that price within a year.
However, according to Thill, online traffic to the Amazon.com website declined 6% year-over-year in both April and May, which represented "a substantial slowdown" from the 15% web traffic growth Amazon enjoyed back in 2020 for example. And as Thill observes -- unsurprisingly -- there's "a strong historical correlation" between how much web traffic Amazon gets, and how much money gets spent on Amazon.com.
It's not a one-to-one correlation, fortunately, but in Thill's view, these continued 6% declines in web traffic are probably going to work out to no better than flat sales at Amazon in its next quarterly earnings report. This could disappoint investors because, currently, Wall Street consensus estimates have Amazon growing its sales 4% year over year in the year's second quarter.
Granted, it's true that Amazon is not alone in experiencing weakened traffic. As Thill notes, "a return to in person shopping, difficult comps, and a shift in consumption to other discretionary spending buckets (travel/dining) has contributed to declining traffic across the largest ecommerce sites, including Walmart.com and Target.com." In Thill's view, this is evidence that Amazon is not losing market shares to its rivals (i.e. Walmart and Target), but rather just suffering beside them from "shifting consumer behavior."
That will be small comfort to Amazon shareholders, however, if their shares get hit after reporting a sales miss next month.
Nor are sales Amazon's only problem. Thill notes that wage inflation is at a 15-year high, which is likely to take a bite out of Amazon's profits this quarter. Indeed, according to the analyst, Amazon's operating income could remain "muted" throughout this year, as Amazon's profits will be doubly hit -- first, by higher wages for its employees, and second, by the fact that the number those Amazon employees collecting those higher wages has doubled since the pandemic.
Long story short, Thill still likes Amazon for the long term, and indeed he believes conditions could start improving for the company as early as H2 2022. The remainder of Q2, however, could still be a rough ride for Amazon. (To watch Thill's track record, click here)
Overall, AMZN has a rare bullish outlook according to the Street. TipRanks reveals that in the last three months, the stock has received 36 Buy ratings vs. just 1 Hold and Sell each -- giving it a Strong Buy analyst consensus. Meanwhile, the $178.66 average analyst price target translate into ~75% upside potential from the current share price. (See AMZN stock forecast on TipRanks)
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Disclaimer: The opinions expressed in this article are solely those of the featured analysts. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.