Amazon is taking over the world. You might have not noticed yet, but they're going for it, and they're actually on the right track. Yes, last week's earnings release was dismal and yes, the stock seems to be expensive right now. In fact, many are actually screaming bubble and looking at the calendar to check if we're back in the year 2000, calling the short a no-brainer.
But are you sure you want to follow this risky bet?
The P/E dilemma
The main argument the bears are bringing up, again and again and again, is P/E: the stock sits at, almost, an all-time high, while earnings are just not there: EPS for fiscal year 2012 was one tenth of the EPS for fiscal year 2010. This, according to them, makes the stock a bubble.
No, it does not: what would make the stock a bubble was if sales were dramatically slowing, maybe even crunching, if the company was taking more debt than it could repay while burning more cash than it can produce, and so on. This (correct me if I'm wrong) is not happening: that's why, from a valuation stand point, I think it would be actually more meaningful to use another measure instead of P/E (which has been meaningless for the last two years): the Price/Sales ratio. Since the stock bottomed in 2008, the Price/Sales ratio and the price of the stock itself have been moving (and growing) consistently together (see chart for reference).
If you look at the chart, it turns out that, from this perspective, the stock has actually never been cheaper than now. You can see that while price has steadily increased, the Price/Sales ratio begun to fall in late 2011 and has since moved sideways: that's because sales growth has in fact been higher than price growth.
Jeff Bezos: investing for the future
Then again, you might have all the revenues in the world, but if you're not able to squeeze some profit from them, the stock is going to go down eventually. That's absolutely true, but, at the same time, it is exactly what the market is placing its bets on: Amazon (NASDAQ:AMZN) is currently investing heavily in the company itself exactly for being able, in a matter of a few years, to squeeze the aforementioned profit from what is expected to be a non-stopping growth in revenues.
Amazon is showing that it is willing to sacrifice short-term bottom-line growth in order to grasp the bigger opportunity it confidently expects from the future. Look at it as "suffer now, rejoice later". And it is actually nothing new: in a Q&A dating back to 1999 with Bloomberg Businessweek, CEO Jeff Bezos said:
Our strategy is very, very clear: We're focused on long-term returns for investors. […] as long as we have lots of opportunity, we're going to continue to invest commensurate with that opportunity in a very disciplined and methodical way, but in a long-term context. To do anything else, we believe, is irrational.
So Wall Street knew it in 1999, and they know it now, more than ever. Investors know that the company is focused on longer term growth.
Someone may say that it's taking longer than forecasted, that by now earnings should be already there: well, here comes in action Amazon "+ factor": Jeff Bezos himself. Bezos, during the years, has proved countless times what a great entrepreneur he is, and investors do acknowledge this: they trust him. That's not only a plus, it is a huge plus: look at Apple (NASDAQ:AAPL), as soon as confidence in the leadership started to dim, at the same time shares started to tank.
For a company, having a CEO who is fully trusted and who appears confident of how the company is executing appears to be fundamental in today's markets. And Amazon.com, on this matter, nails it once again.
Taking over the world
But how is Amazon supposed to turn those revenues in profits anyway? Personally, if I had a massive amount of revenues to turn into profit, I'd probably come up with these two strategies and choose one (never mind if they're both terribly difficult to put in practice):
- plan a: drive out of business your mightiest peers, than raise your prices
- plan b: offer your clients such an amazing service that they'll be willing to pay more, if needed, in order to keep getting it
Turns out, Amazon is trying to do both.
Just to cite a few examples, Borders had to file for chapter 11 and be acquired by Barnes & Noble (NYSE:BKS), which is not faring well by itself. Best Buy (NYSE:BBY) - which has infamously turned into the showroom for gadgets that are later (or immediately) bought on Amazon.com - and Radioshack (NYSE:RSH) are the shadows of the behemoths they used to be: they saw their margins shrink so much, while striving to counter Amazon's offers, that their current negative EPS is almost a third of the stock price. In Europe, French retail colossuses Darty and Fnac are, now more than ever, struggling to keep their stores open since Amazon landed on the old continent.
And, on the other side, revenues are continuing to soar because the company is focusing 1000% to offer users the best experience they can get, and customers really love their services. Once you have no more real competition, and your customers are actually hooked on the services you're providing them with, upping prices won't be a problem.
However, even if I tried to make the bear case look as shaky as possible, and I wouldn't short the stock even it they gave me the money to do it for free, we have to be reminded that the future of the company might not be as rosy as Bezos is trying to shaping it to be:
- sales taxes might put Amazon's margins further under pressure (even though there's data pointing in the opposite direction)
- Best Buy's turnaround story might effectively prove to be successful, and hinder Amazon's future possibilities of expansion
- further competition on the e-commerce scenario by current brick-and-mortar-only vendors might actually lead to a shrinking if Amazon's sales (if they actually prove to successfully bring customers away)
All that said, the odds are all against Amazon's peers, and I wouldn't want to bet my chips on the imminent demise of the company or the stock.