Visualize the Markets.
People are shopping online and buying everything from books to electronics. Amazon.com is the place that over 75 million people use to make their purchases each month.
Amazon.com provides a great service but what about the stock? We analyze the key fundamentals, growth rates, profit margins and relative valuations below.
Jeff Bezos the CEO of Amazon.com has surprised many over the years as he built (AMZN) into a major online retailer that is profitable and approaching $30 billion in revenue. In 2009, investors have gravitated to the stock which is now valued at over $56 billion dollars after a 170% run up year to date. See the dramatic market cap gains in the chart below.
Amazon.com Fundamentals
Let’s start with the fundamentals. Amazon is an amazing low cost online retailer. The investment thesis is often that they have a lower cost base due to the online focus. In reality, they operate on very thin margins just like every other discount retailer. See the income statement below. Revenue and expenses ramp but the thin margins do little to move net income up.
The Balance Sheet is strong and trending in the right direction. Amazon does operate with lower debt levels than more traditional retailers and they have paid down their long-term debt over the last decade.
Cash Flow from operations continues to improve. So, overall things are fundamentally sound for Amazon.com and as more people migrate their spend online Amazon will benefit.
Amazon.com Growth & Profitability
Amazon has impressive revenue growth for the category and is well above peers.
The question longer-term is how long can they continue to grow in the high 20% range year over year. In five years, will Wal-mart (WMT), Costco (COST), Target (TGT) be able to compete more effectively given their relative scale and pricing power? In addition, they are all building substantial online businesses.
AMZN Relative to Peers
We compared AMZN to Wal-mart and other large discount retailers for a reality check on key metrics. Wal-mart, Target, and CostCo were included in our analysis for relative valuation, growth and profitability comparisons. AMZN leads the pack in terms of top-line growth with ~28% YoY revenue growth.
Just keep in mind the relative scale of the companies. For example, Wal-mart is expected to generate $432 billion in revenue next year compared to Amazon.com at almost $30 billion next year. It will take just 25 and 1/2 days for Wal-mart to generate Amazons annual revenue.
Amazon.com generates profit margins in the mid 3% range consistently which is normal for discount retailers.
Amazon.com Valuation
Fundamentals, growth and profitability metrics are all positive. Let’s move on to valuation.
Price to Sales Multiple
Amazon trades at ~2.6 times sales and well above the peer set that trade ~.50 times sales. If AMZN were to trade at 2X its peers or 1X sales the market cap would be about 1/2 of the current $56 billion.
Earnings Yield vs 10 Year Treasuries
If you follow Buffett, you know that he often considers the earnings yield of buying the entire company vs 10 year treasuries. In Amazons case, you could buy AMZN and generate 1.31% or buy treasuries and generate 3.60%. The difference is significant on a $56 billion dollar investment. You also have to factor in the risk of each investment.
Analyst Consensus & YPEG Ratio
20+ analysts cover Amazon.com, average estimates are for AMZN to earn 1.88 per share in 2009 and 2.53 in 2010 or 35% EPS growth. Revenue estimates are 23.88 in 2009 and 29.84 in 2010 or ~25% YoY growth. Assuming the analysts are correct, if you calculate the YPEG ratio by taking the 2010 EPS of 2.52 x EPS Growth rate of 35% you get a price of $88. This is close to 50% below the current price level. In addition, you would expect the EPS growth rate to continue to decline as AMZN grows.
Conclusion
After looking at the run up in AMZN this year and the relative growth and valuation we would consider moving out of AMZN at these levels and potentially moving to more traditional retailers like WMT if you want exposure in retail. AMZN could fall 30%+ and still be considered overvalued at these levels.
