Amazon's Growth Potential is "Undeniable"

Even with more retailers moving sales online, equity analysts believe Amazon will maintain its consumer proposition through other means

R.J. Hottovy, CFA 1 November, 2016 | 8:48AM
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Amazon (AMZN) has played a key role in the structural shift away from brick-and-mortar retail, and it may lay waste to many other retailers in the years to come. Without the cost burden of physical stores, Amazon can price below traditional rivals and drive recurring traffic online.

Amazon faces questions about monetising its growth

Even with more retailers moving sales online, we believe Amazon will maintain its consumer proposition through other means, including the convenience of Amazon Prime's expedited shipping and expanding digital-content library. Aided by the network effect inherent in more than 300 million global active users and recent fulfilment infrastructure, technology, and content investments, Amazon owns one of the wider economic moats in the consumer sector and is likely to remain a disruptive force in retail, digital media, and enterprise software.

Amazon's growth potential is undeniable. Key top-line metrics--including active users; a 19% compound annual growth rate the past five years, total physical and digital units sold; 33% annual growth, and third-party units sold; 42% annual growth – continue to outpace global e-commerce trends, suggesting that Amazon is gaining share while fortifying its network effect.

Nevertheless, with 2.1% operating margins in 2015 – 4.2% excluding stock-based compensation and amortization of intangibles, Amazon continues to face questions about sustainably monetising its growth.

We acknowledge that Amazon's margin expansion is less visible than its growth trajectory, given the potential for new investment cycles, including international fulfilment infrastructure and content deals, Amazon Fresh, tablets and other hardware, new delivery capacity and technologies, and international expansion. Admittedly, some of the company's capital decisions haven't always yielded strong returns.

However, we're optimistic that Amazon can reach 7% operating margins by 2020 (9% excluding stock-based compensation and amortization of intangibles) based on Prime memberships and fee increases, segment margins for Amazon Web Services pushing 30%, fulfilment centre scale – “getting closer to the consumer”, third-party sales, and early signs of profitable growth internationally.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Amazon.com Inc198.38 USD-2.22Rating

About Author

R.J. Hottovy, CFA  is a director of equity analysis with Morningstar.

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