As we get close to Amazon.com's (AMZN) earnings report for Q1 2013, I decided to make public my own earnings and revenue estimates for this quarter. For this I'll explain my earnings model and its results.
Amazon.com reports on April 25 after the market closes.
Amazon.com's present earnings consensus evolved as followed, during the last 90 days.
As we can see, Amazon.com again saw a massive reduction in estimates. From the expectation of a $0.33 EPS, estimates have fallen all the way down to $0.09. This is nothing new, though, as Amazon.com has basically guided down powerfully in the last 8 quarters, to the point where estimates are really incredibly low for a $125 billion market capitalization.
Revenue consensus estimates for the quarter stand at $16.16 billion. These, too, were revised lower after Amazon.com missed revenue estimates for Q4 2012 by $1 billion. These revenue estimates still imply 22.6% growth in revenues, which makes them likely to be missed. Q2 2013 consensus revenues, at $15.94 billion and implying 24.2% growth, are also likely to be guided lower, because Amazon.com's revenue growth rate has consistently headed lower, and there is nothing at this point indicating re-acceleration of growth.
Amazon.com guided Q1 2013 revenues towards a range of $15.0 billion to $16.6 billion, implying year-on-year growth of between 14% and 26%. As we can see presently the consensus is over the +20% midpoint.
At the same time, Amazon.com guided operating earnings toward a range between a loss of $285 million and $65 million in operating profit, compared to $192 million in operating profit during Q1 2012. This constituted another massive guide down, though some of it seems to be sandbagging, as we will see.
The Model assumptions
I'll put forward 2 models. One of these models (model 2) will draw its gross margin from the relationship between GMV (Gross Merchandise Value, the value of goods sold by Amazon.com or third parties) and gross margin that Amazon.com has shown in the past. The other model (model 1) will draw its gross margin from the levels implied by the product gross margins, since Amazon.com's COGS (Cost Of Goods Sold) applies overwhelmingly to its product sales.
That said, the model assumptions were as follows:
A brief explanation of each of these assumptions:
- Growth 1P. This is the growth rate, year-over-year, that Amazon.com product sales are predicted to exhibit. This growth rate has been on a steep deceleration curve and that is expected to continue, given the effect of sales taxes' collection and scale. I optimistically assumed a +17% growth rate for Q1 2013. The 1P growth rate in the last 5 quarters (most recent first) was 18.5%, 23.1%, 25.3%, 29.3% and 30.5%. 17% implies less deceleration that what has been observed recently and is thus optimistic;
- Growth 3P. This is the growth rate, year-over-year, that third party sales are predicted to exhibit. This growth rate has been on a steep deceleration curve that's expected to continue given Amazon.com's scale, Ebay (EBAY) competition and commission increases. The expected deceleration is also consistent with the deceleration exhibited by ChannelAdvisor data. I optimistically assumed a +38% growth rate for Q1 2012. The 3P growth rate in the last 5 quarters (most recent first) was 42.7%, 48.3%, 57.9%, 69.3% and 79.6%. 38% implies less deceleration that what has been observed recently, is optimistic and consistent with the ChannelAdvisor reported deceleration;
- Growth Other. This is the growth rate, year-over-year, that Amazon.com's other initiatives, like AWS and advertising, are predicted to show. This growth rate was estimated to remain at a very strong 60%, in line with what it grew during Q4 2012 (+61.1%) and Q1 2012 (+60.7%), and stronger than during Q2 2012 and Q3 2012. Given the ongoing price war between Amazon.com and Google (GOOG) in the AWS segment, this might turn out to be too optimistic.
- Product Margins. This is used in model 1. It's an estimate of the gross margins Amazon.com has in its product sales. Amazon.com's reported COGS (Cost of Goods Sold) reflects just the costs sustained in selling its own products. AWS and 3P are carried at 100% gross margin. When we take this into account we notice that Amazon.com's product margins are actually very stable (and not growing strongly, as is usually implied). Except for Q4 2011, these margins tend to hover around 11% of product revenues. The last 4 quarters were 11.1%, 10.6%, 12.1% and 10.9%. I used 11% since it's close to what was observed in Q1 2012 as well as the most recent quarter.
- Gross Margin on GMV. This is used in model 2. It's an alternate way to model Amazon.com's gross margins. This takes into account the fact that Amazon.com's gross margins exhibit a rather stable behavior when compared to its GMV (Gross Merchandise Value), that is, the value of everything Amazon.com sells, be it in its own name or the name of third parties. GMV is estimated by dividing 3P revenues by 11.5%, an estimate of the average commission Amazon.com gets, and then adding the result to 1P revenues plus other revenues. This way of calculating Amazon.com's gross margins has exhibited great stability over the more than 2 years where it's possible to calculate it. The last 9 quarters were as follows (most recent first): 13.2%, 13.3%, 13.8%, 13.0%, 12.1%, 13.3%, 13.9%, 13.7%, 13.2%. I used 13.3% for Q1 2013, which is higher than both Q4 2012 and Q1 2012 so rather optimistic.
- Marketing/GMV. This is used to calculate the "marketing" operating cost line. Amazon.com's marketing costs have been very stable when compared to GMV. Amazon.com pays for web traffic both for 1P and 3P sales, so this is no great surprise. These costs have recently been hovering slightly over 2% of GMV but were usually right around 2% of GMV. The slight increase was probably because of Kindle Fire media advertisements. I considered 2% of GMV in the models. Due to their link to GMV, these costs usually grow faster than revenues (much like gross margins do, for the same reason).
- Fulfillment/GMV. This is used to calculate the "fulfillment" operating cost line. Amazon.com's fulfillment costs have been very stable when compared to GMV. The last 9 quarters were as follows: 5.79%, 5.76%, 5.58%, 5.34%, 5.56%, 5.83%, 5.48%, 5.22%, 5.49%. Although recently these costs have been hovering slightly above 5.5% of revenues, I considered 5.5% because Q1 usually sees a slight dip in this metric. Due to their link to GMV, these costs usually grow faster than revenues (much like gross margins do, for the same reason).
- Technology/Other. This is used to calculate the "technology" cost line. A careful analysis of Amazon.com's past cost structure shows that technology costs are not linked to GMV. Indeed, they're linked to "Other" revenues, which are overwhelmingly AWS revenues. This is no surprise - AWS's costs are mostly all in this operating cost line. This line is a bit more variable than others, the last 9 quarters were as follows: 164.0%, 184.0%, 195.3%, 189.0%, 169.4%, 188.9%, 194.4%, 186.2%, 161.7%. I considered 183%, which would be an improvement from Q1 2012 and just a bit below Q3 2012, since these quarters are more comparable in terms of revenue run rate and cyclicality than Q4 2012.
- G&A/GMV. This is used to calculate the "G&A" cost line. An analysis of Amazon.com's past shows this cost to be rather stable when compared to Amazon.com's GMV, except for Q4, where the cost is diluted over a larger revenue base. The last 8 quarters were as follows: 0.60%, 0.88%, 0.96%, 0.83%, 0.62%, 0.91%, 0.97%, 0.81%. I used 0.85%, which would be similar to Q1 2012 and slightly lower than Q2 2012 and Q3 2012, which should be very similar to Q1 2013.
This is it. These are all the inputs the earnings model needs to produce its estimates. So let us see what comes out of it next.
The Model output
Using the assumptions I described, we get the following results (model 1 is using the product margins, model 2 is using gross margins calculated using GMV):
As we can see, model 1 yields an EPS of $0.08 and model 2 yields an EPS of -$0.03. Neither is very far from the earnings consensus at $0.09. After so many guide downs, Amazon.com is producing earnings near zero, and these are not incredibly hard to meet. On the other hand, the model also yields a revenue miss (20.9% revenue growth rate versus 22.6% expected), and there's even downside risk there since those are optimistic estimates. This also means that Amazon.com is likely to guide down for Q2 2013's revenues.
The model is consistent with Amazon.com having sandbagged its operating income, for while it predicts lower revenues than expected and EPS at or below consensus, the operating income is predicted to be between $55 million and $136 million, or between Amazon.com's high end of guidance or exceeding it by a cool 100%. Not that it matters much when, in the end, Amazon.com is showing revenues that are quickly slowing and earnings that can't leave the ground. But obviously if this happens, it can give the bulls a further reason to pump the stock even while this would still represent a drop in operating earnings from 2012's $192 million.
Amazon.com has increased 3P (Third Party) commissions on some products during Q1 2013. It has also increased such commissions during Q2 2013. This might provide some extra growth for 3P if it doesn't impact quantities right away. I might also improve margins.
Any of the segments (1P, 3P, AWS) might end up slowing down more than assumed. Margins might be hit by further price matching initiatives from retailers such as Best Buy (BBY).
The model is predicting Amazon.com earnings will be close to the present consensus. On the other hand, all the signs indicate that Amazon.com will miss revenue estimates and guide down revenues for Q2 2013.
These earnings continue not to be consistent with Amazon.com trading at a $125 billion market capitalization.