Talking about Amazon as an investment today is a polarizing subject, where at when end participants believing in the positive outlook for the company site its ever-expanding market, strong moat, and ability to disrupt industries. The other end of the spectrum argues about the dizzying valuations and the company’s already having a trillion dollar market cap.
The idea in this analysis is not analyze the whether the company can continue to grow at a supernormal pace but is to understand that whether this growth if it does continue will translate into outsized returns for the investors. The goal here is to understand how the risks and rewards stack up for the investors.
To make outsized returns in the market the reality has to turn out to be better than the current perception.
Amazon is a great business led by one of the best business leaders of his generation. The company has since its inception gone on to disrupt many industries and in the process continued to grow its business by leaps and created outsized returns for its shareholders.
If we look at the situation currently Amazon continues to retain its agility, is firing all cylinders in terms of business growth and continues to invest heavily and become better by every passing year.
But the big questions are, who doesn't know that Amazon is a great company with a strong growth outlook? Do you expect the company to grow faster than the consensus?
An important thing to remember about the market is in order to beat the markets company has to perform better than the street expectations. You can make outsized returns only if the markets are overestimating the risks or are underestimating the business prospects.
Amazon today is the sure thing. Majority of the portfolios today have at least some allocation to Amazon. However, in order to beat the market, Amazon will have to beat the current long-term growth consensus.
Amazon has gained a lot of attention lately for its ability to disrupt industries single handedly, however its not just the analysts and the investors who have been been paying attention, the managements of some serious competitors are taking Amazon as a threat and have been making large investments to fend off Amazon. I’m not speculating that whether or not Amazon will be able to disrupt the whole retail industry or take over the whole cloud IaaS market, however with large and competent companies like Walmart, Costco, Microsoft and Google competing head on with Amazon, the future growth may not be as easy or as profitable as the markets expect.
Further as Amazon and the other tech companies get larger the avenues for growth for these companies are getting limited and their paths are converging more often and more directly than in the past.
Cloud business: Competition from Microsoft and Google
Amazon dominates the Iaas (infrastructure as a service) market with a market share of 33% which is largely same as last year growing at 49%. Where Microsoft’s Azure has come in at a distant second at 13% percent its share has increased from 10% last year with the revenues increasing by 93% YoY for the Q1 2018. Even though Amazon has maintained its lead in this market, competition has been heating up in the IAAS space and with Microsoft and Google gaining traction any future growth will be more distributed.
As per the 2018 CIO survey by right scale optimizing costs remains the top initiative for 58% users which has increased from 53% in 2017. With pricing being on top of CIO’s minds and rising competition, IaaS runs a risk of being commoditized.
The increased focus and investments from brick and mortar retailers
Walmart acquired a 77% stake in Flipkart India’s biggest online retailer with 54 million active users and Projected GMV in 2018 of $7.5Billion for $16 Billion.
Walmart’s Q2 2018 US e-commerce revenue grew by 40% to $3.5 Billion.
Target’s Q2 2018 US e-commerce revenue grew by 41% to $982 Million
Instacart a Grocery delivery company has tie up with Sam's Club, Costco, CVS, Albertsons, Kroger, Walmart, Whole foods and Aldi.
As Amazon gets larger it risks gaining unwanted political attention within the US markets which could cause regulatory roadblocks for the company going forward.
Also with the current global economic trend of the protectionism could lead to roadblocks for Amazon as countries try to promote and protect local companies and industries. This could especially be a problem since as the US markets mature the additional supernormal growth will be highly dependent on the international markets
Recently staff members from across the world have shared their experiences about the intense working conditions at Amazon Warehouses. This could turn out to be one of the biggest risks the company faces. Any problems related to labor could lead to regulatory as well as logistical issues for Amazon.
Focus on Long-Term Bets
Amazon is focused on long-term bets, as Jeff Bezos has clearly stated that the company is primarily towards the long-term growth of the company, even if it comes at the cost of short-term pain. Bezos likes to make big bets with enormous however infrequent payoffs. With the current high valuations, the stock is priced to perfection, any disappointment in the short-term financial performance of the company may lead to a sharp correction in the stock prices.
Trees don’t grow to the sky, and even if they do, they certainly don’t do it without testing your patience.
Even though Amazon is a great company that may see continued growth in its underlying businesses and continue to find good investment opportunities, the current investor behavior towards Amazon of it being a foolproof investment and underestimating its risks is a bit exaggerated, therefore Amazon today as an investment does not offer the investor adequate compensation for the risks it involves.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.