Amazon: Sales Taxes And Getting Cozy

| About:, Inc. (AMZN)

Amazon (NASDAQ:AMZN) recently began collecting sales tax in California in addition to other states such as New York, Pennsylvania and Texas. At first glance, Amazon's collecting sales tax appears to be a disadvantage. However, collecting sales tax enables Amazon to build its distribution centers closer to its customers, having the effect of reducing shipping costs and delivery time.

In Amazon's Q2 2012 earnings call held on July 26, 2012, the company noted its shipping costs were lower as a percentage of sales and indicated a contributing factor to reduced shipping costs was due to getting geographically closer to its customers. So, after Amazon begins collecting sales taxes in a state, a purchase from the company may be less attractive to residents of the state, but it allows the company to get closer to its customers, which thereby reduces its shipping costs.

In the second quarter, Amazon reported revenue of $12.83 billion, which represented revenue growth of 29%. North America revenue grew 36% to 7.33 billion, and international revenue grew 22% to $5.51 billion. For the third quarter, the company forecast revenue between $12.9 billion and $14.3 billion representing growth of between 19% and 31%.

Amazon noted its smartphone and tablet related business is doing well and has been a significant tailwind for the company. Amazon has announced plans to open 18 new fulfillment centers for this year and has opened eight so far. The company also indicated its third party business is doing very well.

In its Q2 earnings press release, the company noted its Kindle Fire product remains the #1 best selling product on its website out of the millions of items available for sale.

Amazon's stock price has been down and up over the last year and has currently retreated to the $255 range, off from its peak price around $264 as shown below:

With Amazon's recent pullback, its earnings release in the dust bin of history, and its bright outlook, a bull-put credit spread is considered for the company. A bull-put credit spread may be entered for a net credit by selling one put option and purchasing a second put option further out-of-the-money. The goal is for the price of the stock to be greater than the strike price of the sold put option at expiration such that the sold and purchased put options expire worthless and the initial net credit is retained as profit.

Using PowerOptions, a variety of bull-put credit spreads for October 2012 expiration are available as shown below:

The Amazon 2012 Oct 230/235 bull-put credit looks attractive with a potential return of 7.1% (117.2% annualized) and a separation between the stock price and the $235 strike price of the short put option of 8.4%. The trade may be entered for a net credit of $0.33 by selling the 2012 Oct 235 put option for $1.12 and purchasing the 2012 Oct 230 put option for $0.79.

Amazon Bull-Put Credit Trade

  • Sell 2012 Oct 235 Put at $1.12
  • Buy 2012 Oct 230 Put at $0.79

A profit/loss graph for one contract of the Amazon bull-put credit spread is shown below:

For a stock price above the $235 strike price of the short put option at expiration in October, the position will return the full 7.1% return (117.2% annualized). For a stock price below the $230 strike price of the long put option at expiration in October, the position will sustain a total loss, however, the position should be rolled prior to realizing a loss.

A management point of $244.50 is set for the position. If the price of the stock drops below $244.50, the position should be managed for a roll or an exit.

Look forward to hearing your comments below!

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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