If you were to look at the stock market's reaction to Amazon's (AMZN) 3rd quarter earnings report last week, you'd think the results were pretty good. The stock rose from its pre-earnings close of about $223 on Thursday all the way up to $238 by the end of Friday. Wall Street appeared encouraged that the company's net operating loss for the quarter came in lower than expected but the rest of the numbers don't nearly support the investor enthusiasm for this stock.
Amazon reported $13.81 billion in top-line revenue for the quarter which is an impressive 27% year-over-year gain for the online retailer. The street however was expecting a number of $13.91 billion. The company also reported a loss of $0.23 per share which was way below the street estimate of a loss of $0.07.
I understand that the company is sacrificing short-term profitability for bigger revenue growth. If that is indeed the case then Amazon needs to hit or exceed its revenue targets. It did not. The fact that the stock traded significantly higher following a revenue miss like this is almost unexplainable.
The investment in LivingSocial was a clear mistake and the company is using that as a scapegoat for its disappointing report. Just a couple short years ago, investors and consumers alike were on board with the potential of companies like LivingSocial and its rival Groupon (GRPN), but the viability of these business models has long since been exposed. It may be a relatively small investment in the big picture for Amazon but it's a loss nonetheless.
The key valuation metrics for this stock are almost incomprehensible. Consider the following graphic.
You can use almost any key metric for the company right now and have a difficult time justifying its current valuation. Amazon's forward P/E ratio and price-to-book measures are almost off the charts. You can justify higher ratios if the company is experiencing explosive growth but for a company the size of Amazon that just missed on its revenue forecasts you have to wonder if those growth numbers are sustainable in the future.
Again, we know that Amazon is sacrificing some profitability to grow the business but I see reason for concern with the operating and profit margins. Wal-Mart (WMT) is generating an operating margin that is six times that of Amazon. Even if Amazon is able to cut back some of its costs and add to the bottom line I have a hard time believing that they can even approach the numbers that Walmart is producing.
Target (TGT), Costco (COST) and eBay (EBAY) compete with Amazon at different levels but those companies also compare favorably. eBay just narrowly missed on 3rd quarter revenue numbers but showed solid growth from PayPal and is testing same day delivery. Costco just beat estimates on same stores sales. Target disappointed somewhat on 3rd quarter revenue numbers but same store sales also improved and it plans on offering Target Redcard customers a 5% discount on purchases in order to drive holiday revenue.
Ratios like Amazon's also mean that there is a lot of good news already priced into the stock. When that's the case there's almost zero room for error. Amazon missed on revenue and growth forecasts and those results should have deflated the company's valuation but for some reason it didn't. They may be on the road to generating a meaningful profit in 2013 and forward but even considering that I have a difficult time justifying Amazon's current valuation.
If I'm investing in a megacap retailer, I'm leaning toward Wal-Mart. The big box store has been able to generate a massive amount of free cash flow and will continue to for the foreseeable future. When compared to Amazon, Wal-Mart generates 8 times the annual revenue at 1/9th the earnings multiple. It generates solid operating margins and those margins are forecasted to grow throughout 2013.
If Amazon's slowing growth is a longer-term trend then multiples should start coming back down to earth. The company's better than expected operating loss shows that the company may be doing a better job than we thought at controlling costs and turning toward profitability but even if that is case it's tough to see a lot of value in Amazon stock at $230 per share.