Amazon Will Stumble, Just Like Every Other Retail Company

Make 121% when Amazon (AMZN) announces the true cost of surviving the washout of 2008.

Circuit City (CCTYQ.PK) is really dead this time. They've had troubles in the past. In fact, they've threatened to go belly up most every time the economy stalls a bit. But this go round they have sold out down to bare walls, and then padlocked the doors.

You won't be able to get overpriced junk from the Sharper Image (SHRPQ.PK) anymore. Or cheap junk from Lillian Vernon for that matter. The recession has slain them both.

No more sheets and towels from Linens 'n Things. And possibly none from Bed Bath and Beyond (BBY), if things don't turn around soon: the country's largest home furnishings dealer just announced its fifth consecutive quarter of failing profits.

Fifth Avenue Heartache

Way over at the other end of the retail scale, that ultimate Fifth Avenue icon, Tiffany's (TIF), has confessed to a 35% drop in holiday sales at U.S. stores open at least one year. Squinting into 2009's cold winter headwind as best he can, CEO Michael J. Kowalski is looking to cut both Tiffany's profit forecast and any costs he can: "We believe these conditions will continue well into 2009."

New York City may be taking it on the chin this year, what with all the damage Wall Street has done to itself. But NYC millionaires and the folks who wait on them hand and foot are not the only ones hurting. A recent regulatory filing reveals that Dallas-based Neiman Marcus (NMG) is about to lay off some 3% of its workforce. It's just so damn hard to sell 35lb. diamond-encrusted watches when oil is at $45 a barrel.

Suddenly even the mighty, mighty Wal-Mart (WMT), the one company you couldn't short, the "recession-proof" champ of hard times, is coming up short and being downgraded by all and sundry.

Squinting Through One Eye in the Land of the Blind

Seems like most all these retail behemoths are stumbling about like blind men on the edge of a precipice. In fact, there is only one outfit in recent memory that has had any good news at all. Amazon claims that not only did it survive "Le Deluge," but this last holiday season was its "best ever!"

Now, I know that Amazon has certain advantages over other retailers. First off, it does not need to employ sullen English majors to stock display shelves or pay desperate mall managers rent, utilities and 10% of every sale.

It probably has the best "just in time" inventory system in the world. If sales slow down on an item, it simply back-orders and draws on the publisher's inventory. Heck, if it thinks a book is a total dog, it just resells used copies.

And Amazon's not just about books anymore these days. You can buy most anything from them, from fur coats to blenders to, well, 35lb. diamond-encrusted watches.

Which brings us to the nub of the problem. I don't care how well you control costs... selling stuff – any kind of stuff – for a profit in a recession this deep and this prolonged is a tough row to hoe.

The Cost of Survival

When Amazon floated their "best ever" holiday sales announcement, the company's shares skyrocketed. But I must say that I was rather puzzled. I don't doubt that Amazon knows its sales figures, what with the aforementioned stellar computerized inventory control and all. I just doubt whether they made but so much profit doing it.

I suspect that, when Amazon announces earnings on the evening of Jan. 29, we will discover that it was forced to purchase that volume with much lower margins. Current expectations hold that Amazon's annual sales will come in around $6.5 billion, making for a 15% increase over 2007. Now that's a mighty feat in a crappy year. But I expect earnings to come in down about 14% quarter-over-quarter.

Last I checked, Amazon was sitting on some $2 billion in cash, so they can afford to buy customers for a while, yet before they come up short. But Amazon's forward P/E is already somewhat ferocious at 35.54. What's more, that P/E presumes that Amazon will manage to maintain earnings growth.

When AMZN announces that earnings have stumbled, I expect shares to stumble some $10 to $20 as well. Needless to say, this makes them a candidate for either shorting or put options. Mid-dated at-the-money put options are currently featuring a delta of 0.39. A $20 drop would offer up 121% gains in short order.

Disclosure: no positions in any stocks mentioned.

Comments

[vassar:]

One issue with Amazon: They are relying more and more on third party vendors, with the end result of increased shipping charges and bogus merchandise. For example, I wanted to buy a compact flash card but the ones I found were only being sold by third parties. In reading the feedback, it was clear that these vendors were selling bogus (? Chinese look-alike) cards. Ended up buying at BHPhoto!

Jan 27 08:34 AM

[Jeff B.:]

You know, I seem to recall that during the height of the dot com bubble bursting masacre, there were a number of famous pundits, analysts & "experts" who predicted that Amazon would not be around much longer. They were doomed, so the story went.
Here we are years later, and Amazon is still around, gaining ground, and getting better all the time. What do they have that the other companies you mentioned do not? A few key things: An excellent shopping experience, the best prices around, a very wide selection, and so on. They are not perfect, but they are the best retail model around, and until somebody comes up with a better one (eBay just seems to get worse & worse...) Amazon will still be the leader. I think we are in the midst of psychological bashing orgy, where great companies like Starbucks, Amazon, and CAT are viewed as near the end of their rope. Just wait. They'll still be here in ten years, and all the pundits will hope the old negative articles get buried deeply somewhere.

Jan 27 11:07 AM

[Harry Tuttle:]

Bezos is a genius. He built the company with leverage and paid it back at the right time.

Amazon not only will survive, but will flourish in the new era of shopping away from the Mall.

I even think that the report will be decent enough to force some short-covering.

Long term, however, the stock price and the margins are unsustainable. Retail is retail.

Jan 27 03:22 PM

[Augustus:]

With the demise of the listed retailers, the survivors will have a larger share of a shrunken pie. That may help some.

Amazon has put out the same release about 'more sales" every year for the last 10 yrs or so. As noted, it is not a question of whether they sold more items, it is whether they generted a profit doing it. It is somewhat a miracle to me that AMZN is still in business. It is somewhat of a Ponzi scheme in its own right. for the real story, look at the book value growth. They always report earnings but where did it go?

Jan 27 07:17 PM

[netmargin15:]

On Jan 27 07:17 PM Augustus wrote:

> It is somewhat a miracle to me that AMZN is still in business.
> It is somewhat of a Ponzi scheme in its own right. for the real
> story, look at the book value growth. They always report earnings
> but where did it go?

Amazon's book value went from -$1B at the start of 2004 to +$2.5B at end of Q3 2008. Book value increased $3.5B even though Amazon spent $1B in cash to purchase it's own stock and make acquisitions.

Jan 27 10:21 PM

[Gabriel:]

What is it worth to have the best retail model around, the best cash flow generation and so on if ultimately the profits don't go to the shareholders? I have never seen any sell side report or any discussions commenting about how their restricted share plans is diluting the shareholders 2% every year. And they are using the shareholders money to buy back stock and prevent this dilution.

For me the business might be wonderful but investing in their stock for the long term is not that good, not with all this dilution and the management getting tens of millions of dollars every year in restricted shares.

Jan 28 04:01 PM

[seattleite:]

Hey Adam...sssssshhhhhhhhh...
As I have mentioned in many of my posts, too many Tom, Dick and Harry's are writing articles on seekingalpha... The site is going to the dogs.

People simply dont understand that while even Walmart is fighting to survive in this market, Amazon is thriving. Its a sign if a strong company, a sign that in 10 years this 25 billion company will be worth 200 billion.

Jan 30 10:10 PM