AMZN - Amazon.com Inc.

[frommi]

Ok after reading http://www.sitejabber.com/reviews/www.aliexpress.com i got a whole new view :). Looks like long order times and fraud/scam are real problems there.

 

 

[txlaw]

I guess trying to make people pay a premium price didn't work...

 

http://www.bloomberg.com/news/2014-09-08/amazon-offers-fire-smartphone-for-99-cents-with-at-t-contract.html

 

Yeah, it never really made sense to price the phone at a premium.

 

Now, the new pricing scheme is a lot more Amazon-like.  According to IDC, the materials cost for the phone is around $200.  Add in other COGS, R&D cost, marketing costs, the free year of Prime ($100 value), and an increased subsidy from Amazon (as opposed to from AT&T), it looks like Amazon is making slim to no profit on the phone.  They may even be taking a loss on the phone now.

 

Of course, the strategy is to onboard new folks into Prime (customer acquisition cost) and to get power users to spend even more on Amazon services.  So it still makes sense for them to continue offering this hardware to make sure they don't get cut out by GOOG and AAPL. 

[txlaw]

Amazon's new $2 billion credit facility:

http://www.bloomberg.com/news/2014-09-05/amazon-secures-2-billion-credit-line-as-it-invests.html

 

It's a two year facility with the possibility to extend another 3 years.  LIBOR + 65 bps.

 

Not bad at all, given the returns they are likely making on investment.

[Liberty]

So it still makes sense for them to continue offering this hardware to make sure they don't get cut out by GOOG and AAPL.

 

Don't you think that by competing directly with the platform-makers they are increasing their chances of being attacked, rather than decreasing them? How many amazon customers will be on amazon devices vs amazon customers on other people's devices anyway? A few percents if things go really really well? All that time and effort, taking management attention away from other things and alienating partners, for what? It would have made a lot more sense to deepen partnerships with AAPL and GOOG as a non-competitor instead, just like it didn't make sense for GOOG and MSFT to start making devices and compete against their hardware partners (the main reason they did, actually, is because their partners weren't doing such a great job, but that's another story..). It turned out to be just a money sinkhole and now other hardware makers see them as a threat rather than an ally...

 

Either you are a horizontal player who tries to be ubiquitous on all platforms and to partner with everyone, or you are a vertical one who adds value by controlling the whole stack. It's very difficult to be both at the same time because the strategies are not mutually compatible, IMO.

[txlaw]

So it still makes sense for them to continue offering this hardware to make sure they don't get cut out by GOOG and AAPL.

 

Don't you think that by competing directly with the platform-makers they are increasing their chances of being attacked, rather than decreasing them? How many amazon customers will be on amazon devices vs amazon customers on other people's devices anyway? A few percents if things go really really well? All that time and effort, taking management attention away from other things and alienating partners, for what? It would have made a lot more sense to deepen partnerships with AAPL and GOOG as a non-competitor instead, just like it didn't make sense for GOOG and MSFT to start making devices and compete against their hardware partners (the main reason they did, actually, is because their partners weren't doing such a great job, but that's another story..). It turned out to be just a money sinkhole and now other hardware makers see them as a threat rather than an ally...

 

Either you are a horizontal player who tries to be ubiquitous on all platforms and to partner with everyone, or you are a vertical one who adds value by controlling the whole stack. It's very difficult to be both at the same time because the strategies are not mutually compatible, IMO.

 

No, I don't think that competing with the platform makers is increasing AMZN's chances of being attacked.  It was and is a necessary defensive move.  Both GOOG and AAPL have shown that they are perfectly willing to go after AMZN's core businesses without any prodding because of their eminent position as a key distribution channel and the great potential of these businesses.  These guys are fierce competitors and chase opportunities when they see them.

 

For example, media -- books, music, video -- has been a core biz of Amazon's for a long time.  But the digitization of all of this has made it easy for companies like Apple and Google to insert themselves into the market.  Amazon has had to respond in kind. 

 

Further, given AMZN's tech chops, why would they concede future highly lucrative businesses to the likes of GOOG and AAPL?  Mobile advertising, augmented reality purchasing, mobile payments, wearables + data crunching/storage -- these are all potential multi-billion dollar businesses that AMZN has the ability to profit from.

 

I disagree with you on GOOG's strategy not having worked.  I think they did the right thing for the exact right amount of time.  They needed to bring in the hardware to help push forward their OS, which of course was a defensive move against the big dog, Apple.  And then when they got as much out of it as they could, they sold off most of the hardware biz.  It was a fantastic strategic move, IMO.  AAPL would be even more dominant today if that hadn't occurred, and GOOG would be less valuable today as a result.

 

[muscleman]

Amazon's new $2 billion credit facility:

http://www.bloomberg.com/news/2014-09-05/amazon-secures-2-billion-credit-line-as-it-invests.html

 

It's a two year facility with the possibility to extend another 3 years.  LIBOR + 65 bps.

 

Not bad at all, given the returns they are likely making on investment.

 

What do you think is a fair price to buy AMZN?

 

I am curious why did AMZN acquire Twitch with cash instead of issuing stocks. That would only happen if Jeff Bezos believes that AMZN stock price is undervalued.

On the other hand, I still can't figure out why it is undervalued. Nygren wrote a letter about why he thinks AMZN is undervalued, but I think his calculation is wrong.

Did you buy AMZN in the past?

 

http://www.oakmark.com/Commentary/Commentary-Archives/2Q14--Bill-Nygren.htm?rf=dr

[Palantir]

I think right now is a decent price to buy. I will wait a bit in case it goes lower, as I'm already signficantly in AMZN.

[JAllen]

This is a must listen podcast about Amazon:

[saltybit]

Newest kindles and kindle fires refreshes announced.

http://phx.corporate-ir.net/phoenix.zhtml?c=176060&p=irol-news&nyo=0

 

 

[saltybit]

Mr. Bezos visits India (interview transcript)

 

http://www.thehindu.com/business/Industry/we-see-evidence-of-success-in-india-jeff-bezos/article6455062.ece

 

[muscleman]

This is a must listen podcast about Amazon:

 

We both agree that AMZN is a wonderful business, and the reason it is reporting 0 net income is because it expenses the technology development cost, instead of depreciating it.

The only question to me is what is the fair price to pay for this business?

I've been trying to figure out the true "owner earnings" for AMZN using the following approaches:

 

1. From the latest 10-Q, first half year Technology and content expense is $4.2 bn. I assume that the lifespan of the average software developed in AMZN is 5 years, then depreciation should be $0.84 bn. Then if I use 5 year straight line depreciation, the first half 2014 net income will become $3.18 bn. The 2nd half of the year should usually do better than the first half, so I assume there is a 10% increase in earnings in the 2nd half. Then 2014 whole year owner earnings will be $6.68 bn.

 

2. If we look at the cash flow statement, net cash burned in the first 6 months 2014 is $1.6 bn. Reverse the changes in "Changes in operating assets and liabilities:", and deduct stock based compensation, and we get $1.87 bn. We should not add back all of the depreciation item here. Assuming we can add back 80%, then we should deduct 20% of $2.1 bn from $1.87, and we get $1.4 bn. Then 2014 whole year could be $3.2 bn owner earnings.

 

Now the true P/E is between 22 and 46. Next year's forward P/E, assuming a 30% growth in business, should be between 17 and 35.

 

Am I missing something here?

I would be happy to pay a 10-12 forward P/E, but I am not sure about paying more than that.

Thoughts? :)

[ScottHall]

No comment on your calculations, Muscleman, but if you're only willing to pay 12x forward earnings for a business growing at 30%, you're engaging in some pretty hyperbolic discounting.

[Palantir]

No comment on your calculations, Muscleman, but if you're only willing to pay 12x forward earnings for a business growing at 30%, you're engaging in some pretty hyperbolic discounting.

 

This. By your calculations, we have a 4.7% earning yield. So if it grows by 20%, we get next years yield of 5.6%, then 6.8% then 8.1%. Do you not feel this outpaces the market?

[plato1976]

sir, it's growing at 30% instead of 20%

this makes a key difference

it's like bac at $15 or at $9

 

No comment on your calculations, Muscleman, but if you're only willing to pay 12x forward earnings for a business growing at 30%, you're engaging in some pretty hyperbolic discounting.

 

This. By your calculations, we have a 4.7% earning yield. So if it grows by 20%, we get next years yield of 5.6%, then 6.8% then 8.1%. Do you not feel this outpaces the market?

[rpadebet]

I did a more simplistic analysis on this and think the price is in a reasonable range given the growth prospects of the sector and company.

 

1. I adjusted the sales for the 60/40 1p/3p split assuming a 13% take rate on 3p transactions, same unit prices, 90B 2014 est sales and get to about 140B in adjusted sales for AMZN

2. Next I took the EBIT margin for WMT (which is a proxy for me for the steady state of AMZN business). EBIT margin for WMT has been between 5.5%-6%.

3. Then I apply a 25% cash tax rate to the EBIT to give me approximately 6B in "normalized earnings"

4. At a 150B approximate MC, I get a 25PE

 

Quantitatively this is trading in the reasonable range, so after this it is about the qualitative part

 

I have significant confidence in the e-commerce market growing at above average rates and AMZN within it is best placed to take more and more market share. From what I have read about Jeff Bezos, he does seem to invest pretty wisely. I like the long runway of reinvestment this business has and how Mr. Bezos is optimizing it by re-investing as much as he can as fast as he can. I think that is a very sensible approach to a fast growing market.

 

Maybe I am being naive, but I happen to like this now. I would love it 20% below.

[link01]

I did a more simplistic analysis on this and think the price is in a reasonable range given the growth prospects of the sector and company.

 

1. I adjusted the sales for the 60/40 1p/3p split assuming a 13% take rate on 3p transactions, same unit prices, 90B 2014 est sales and get to about 140B in adjusted sales for AMZN

2. Next I took the EBIT margin for WMT (which is a proxy for me for the steady state of AMZN business). EBIT margin for WMT has been between 5.5%-6%.

3. Then I apply a 25% cash tax rate to the EBIT to give me approximately 6B in "normalized earnings"

4. At a 150B approximate MC, I get a 25PE

 

Quantitatively this is trading in the reasonable range, so after this it is about the qualitative part

 

I have significant confidence in the e-commerce market growing at above average rates and AMZN within it is best placed to take more and more market share. From what I have read about Jeff Bezos, he does seem to invest pretty wisely. I like the long runway of reinvestment this business has and how Mr. Bezos is optimizing it by re-investing as much as he can as fast as he can. I think that is a very sensible approach to a fast growing market.

 

Maybe I am being naive, but I happen to like this now. I would love it 20% below.

 

+1

I view amzn pretty much the same way, tho the 60/40 1p/3p split you mention might be more like 50/50 or even 40/60, as some analysts believe. in that case amazon's reported growth rates are significantly understated! its historical growth rate in sales have been understated due to the change in 1p/3p sales mix in favor of 3p over the last 5-7 yrs.

and when everyone & their mother harps on & on about amzn's inability to make more than the paltriest of profit over the last 10 yrs or more I think they miss the point: amzn may not have earned anything resembling a profit over that time but I believe they have substantially increased their profit potential when looked at thru the optics of 'normalized earnings' & margins you also allude to.

[muscleman]

I did a more simplistic analysis on this and think the price is in a reasonable range given the growth prospects of the sector and company.

 

1. I adjusted the sales for the 60/40 1p/3p split assuming a 13% take rate on 3p transactions, same unit prices, 90B 2014 est sales and get to about 140B in adjusted sales for AMZN

2. Next I took the EBIT margin for WMT (which is a proxy for me for the steady state of AMZN business). EBIT margin for WMT has been between 5.5%-6%.

3. Then I apply a 25% cash tax rate to the EBIT to give me approximately 6B in "normalized earnings"

4. At a 150B approximate MC, I get a 25PE

 

Quantitatively this is trading in the reasonable range, so after this it is about the qualitative part

 

I have significant confidence in the e-commerce market growing at above average rates and AMZN within it is best placed to take more and more market share. From what I have read about Jeff Bezos, he does seem to invest pretty wisely. I like the long runway of reinvestment this business has and how Mr. Bezos is optimizing it by re-investing as much as he can as fast as he can. I think that is a very sensible approach to a fast growing market.

 

Maybe I am being naive, but I happen to like this now. I would love it 20% below.

 

Yep. So your calculation is roughly in the same range as mine. The question boils down to whether you should pay a 25 P/E for a business growing at 25-30% per year.

I would say, this is obviously better than paying 10 P/E for a 10% growth.

Historically, when Buffet made the purchase of KO or Mcdonalds, did he pay a 25 P/E? I remember he paid something like 16 P/E.

[muscleman]

No comment on your calculations, Muscleman, but if you're only willing to pay 12x forward earnings for a business growing at 30%, you're engaging in some pretty hyperbolic discounting.

 

This is what I learned from Peter Lynch's book, right? Pay 5x PE for 10% growth. Pay 15 P/E for 30% growth.  :)

In the longer term, suppose AMZN's growth continues for the next 8 years. Then we get the owner earnings of 45 bn instead of 5 bn. If the business starts to have no growth to 5% growth from then on, then the market cap will be around 450-500 bn. That means a 3-4x of today's price in 8 years. That's acceptable but not super great. Just 15% annual return, right? Of course, I think my estimates are a little bit conservative.

[Palantir]

sir, it's growing at 30% instead of 20%

this makes a key difference

it's like bac at $15 or at $9

 

No comment on your calculations, Muscleman, but if you're only willing to pay 12x forward earnings for a business growing at 30%, you're engaging in some pretty hyperbolic discounting.

 

This. By your calculations, we have a 4.7% earning yield. So if it grows by 20%, we get next years yield of 5.6%, then 6.8% then 8.1%. Do you not feel this outpaces the market?

 

I realize that but I'm trying to show how even a smaller growth rate would also do quite well. That and the GP growth rate is slowing down, and I think it may drop below 30%.

[rpadebet]

I did a more simplistic analysis on this and think the price is in a reasonable range given the growth prospects of the sector and company.

 

1. I adjusted the sales for the 60/40 1p/3p split assuming a 13% take rate on 3p transactions, same unit prices, 90B 2014 est sales and get to about 140B in adjusted sales for AMZN

2. Next I took the EBIT margin for WMT (which is a proxy for me for the steady state of AMZN business). EBIT margin for WMT has been between 5.5%-6%.

3. Then I apply a 25% cash tax rate to the EBIT to give me approximately 6B in "normalized earnings"

4. At a 150B approximate MC, I get a 25PE

 

Quantitatively this is trading in the reasonable range, so after this it is about the qualitative part

 

I have significant confidence in the e-commerce market growing at above average rates and AMZN within it is best placed to take more and more market share. From what I have read about Jeff Bezos, he does seem to invest pretty wisely. I like the long runway of reinvestment this business has and how Mr. Bezos is optimizing it by re-investing as much as he can as fast as he can. I think that is a very sensible approach to a fast growing market.

 

Maybe I am being naive, but I happen to like this now. I would love it 20% below.

 

Yep. So your calculation is roughly in the same range as mine. The question boils down to whether you should pay a 25 P/E for a business growing at 25-30% per year.

I would say, this is obviously better than paying 10 P/E for a 10% growth.

Historically, when Buffet made the purchase of KO or Mcdonalds, did he pay a 25 P/E? I remember he paid something like 16 P/E.

 

Would Buffet have been better off paying 25 PE for KO/MCD 10-20 years before he actually purchased them?

 

Even if he had bought at 25PE when he did, would his IRR since then be significantly different now?

 

Initial PE is your entry yield, if you hold it long enough, your IRR should tend towards the ROE of the business.

[Palantir]

Why do you keep mentioning KO as the benchmark? I don't get it...

[dwy000]

Muscleman - a couple of cautions with your calculation:

 

- the Technology & Content wouldn't all be capitalizable costs.  The majority of these would be ongoing costs for running the business and providing the content they give away.  To take the $4.2bn in 1H 2014 and turn it all into capex depreciated over 5 years would be way overstating earnings. 

 

- if you capitalize those costs over 5 years, you should also magnify the depreciation number substantially because that expense will be the cumulative result of all the amounts similarly expensed instead of capitalized.

 

- consistent with that, if you capitalized all that expense, yes, the operating earnings would grow substantially but so would your capex costs (the free cash flow would be unchanged). 

 

- net cash burned of $1.6bn is just operating cash flow.  If you subtract out the $2.4bn of expenses they actually did capitalize, the actual cash burn during 1H 2014 was just over $4bn.  This would be unchanged regardless of whether they "over expense" or capitalize the costs.

 

I don't want to head down the rabbit hole again because you either believe it or you don't but it all comes down to whether these expenses are truly one time growth numbers or have to continue to be spent over time to maintain the product and service level.  To consider the current PE to be 22-26x is accurate only if you assume the company can eliminate expenses without impacting growth or service.  Something that they have never done in 20 years.  And more importantly, something they have very explicitly stated they don't intend to do for a while.

 

[muscleman]

Muscleman - a couple of cautions with your calculation:

 

- the Technology & Content wouldn't all be capitalizable costs.  The majority of these would be ongoing costs for running the business and providing the content they give away.  To take the $4.2bn in 1H 2014 and turn it all into capex depreciated over 5 years would be way overstating earnings. 

 

 

There is a note that contents such as Amazon instant video is not part of the expense in Technology & Content. So I am not sure how much of the "Technology & Content" is over expensed. But clearly Amazon instant video content is part of the expense that does not fit your explanation here for "ongoing costs for running the business and providing the content they give away"

[dwy000]

Muscleman - a couple of cautions with your calculation:

 

- the Technology & Content wouldn't all be capitalizable costs.  The majority of these would be ongoing costs for running the business and providing the content they give away.  To take the $4.2bn in 1H 2014 and turn it all into capex depreciated over 5 years would be way overstating earnings. 

 

 

There is a note that contents such as Amazon instant video is not part of the expense in Technology & Content. So I am not sure how much of the "Technology & Content" is over expensed. But clearly Amazon instant video content is part of the expense that does not fit your explanation here for "ongoing costs for running the business and providing the content they give away"

 

That's true - and some of that content would be in COGS as opposed to here.  Unfortunately there's not enough to disclosure to get a decent breakdown - and ultimately it all gets washed through the cash flow statement whether it's expense or capex.  The question is really can they stop spending it and still maintain growth/service. 

[yadayada]

So best guess, in 10 years time, what kind of FCF will this thing throw off very roughly?