Amazon AMZN dominates its served markets, notably e-commerce and cloud services. It benefits from numerous competitive advantages and has emerged as the clear e-commerce leader thanks to its size and scale, which yield an unmatched selection of low-priced goods for consumers.The secular drift toward e-commerce is unabated, with the company continuing to grind out market share gains despite its size.
Prime ties Amazon’s e-commerce efforts together and provides a steady stream of high-margin recurring revenue from customers who purchase more frequently from the company’s properties. In return, consumers get one-day shipping on millions of items, exclusive video content, and other services. This results in a powerful virtuous circle in which customers and sellers attract one another. Kindle and other devices bolster the ecosystem by attracting new customers while making the value proposition irresistible to existing customers.
Through Amazon Web Services, Amazon is also a clear leader in public cloud services. Belt-tightening by customers has hit Amazon’s near-term prospects, and the company recently announced the closing of eight Amazon Go stores in addition to pausing construction on its second headquarters. Nevertheless, we still foresee healthy long-term growth.
Key Morningstar Metrics for Amazon
• Fair Value Estimate: $137
• Star Rating: 4 Stars
• Economic Moat Rating: Wide
• Moat Trend Rating: Stable
Economic Moat Rating
We assign a wide economic moat rating to Amazon based on network effects, cost advantages, intangible assets, and switching costs.
Amazon has been disrupting the traditional retail industry for more than two decades while also emerging as the leading infrastructure-as-a-service provider via Amazon Web Services. This disruption has been embraced by consumers and has driven change across the entire industry as traditional retailers have invested heavily in technology in order to keep pace.
The coronavirus pandemic accelerated the change, and given the company’s technological prowess, massive scale, and relationship with consumers, we think Amazon has widened its lead. We believe this will result in economic returns well in excess of its cost of capital for years to come.
Read more about Amazon’s moat rating.
Fair Value Estimate for Amazon Stock
Our fair value estimate for Amazon is $137 per share, which implies a 2022 enterprise value/sales multiple of 3 times and a 1.7% free cash flow yield. We think multiples are a little less meaningful for Amazon, given the ongoing heavy investment and rapid scaling that depress financial performance. However, we expect the company to significantly increase its free cash flow as it matures. We forecast total revenue to grow at a 10% compound annual rate through 2027. We model GAAP operating margin to rise from 2% in 2021 to 6% in 2027 as the company grows into its expanded footprint and optimizes its substantial investment in transportation.
Read more about Amazon’s fair value estimate.
Risk and Uncertainty
Our Morningstar Uncertainty Rating for Amazon is High. Despite being an e-commerce leader, the company faces a variety of risks. Amazon must protect its leading online retailing position, which can be challenging as consumer preferences change, especially as the pandemic eases (as consumers may revert to prior behaviors), and traditional retailers bolster their online presence.
Maintaining an e-commerce edge has pushed Amazon to make investments in nontraditional areas, such as producing content for Prime Video and building out its own transportation network. The company must also maintain an attractive value proposition for its third-party sellers. Some of these investment areas have raised investor questions in the past, but we expect management to continue to invest according to its strategy, despite periodic margin pressure from increased spending.
Read more about Amazon’s risk and uncertainty.
Amazon Bulls Say
Amazon is the clear leader in e-commerce and enjoys unrivaled scale to continue to invest in growth opportunities and drive the best customer experience.
High-margin advertising and AWS are growing faster than the corporate average, which should continue to boost profitability over the next several years.
Prime memberships help attract and retain customers who spend more with Amazon; this reinforces a powerful network effect while bringing in recurring and high-margin revenue.
Amazon Bears Say
Regulatory concerns are rising for large technology companies, including Amazon. Further, the company may face increasing regulatory and compliance issues as it expands internationally.
New investments, notably in fulfillment, delivery, and AWS, should damp free cash flow growth. Also, Amazon’s penetration into some countries might be harder than in the United States, in the case of inferior logistic networks.
Amazon may not be as successful in penetrating new retail categories such as luxury goods, given consumer preferences and an improved e-commerce experience from larger retailers.
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Dan Romanoff is senior equity research analyst for technology at Morningstar
