Bezos is stepping down and Amazon is in a great shape

Arguably few have made headlines this week more than Jeff Bezos, the founder and current CEO of Amazon. The company announced yesterday that Bezos was stepping down in Q3 this year and is going to be replaced by Andy Jassy, the boss of AWS. While it is surprising, I hardly find the news shocking. Bezos hasn’t been on the company’s earnings calls for years. He appeared in front of Congress last year, showing that he didn’t know in details the company that he founded and is still running. To be clear, I don’t blame him. If he doesn’t spend much time in the office yet rather spends it on other projects that interest him and the company still does exceptionally well, why not? In his letter to the whole company, Bezos said:

I’m excited to announce that this Q3 I’ll transition to Executive Chair of the Amazon Board and Andy Jassy will become CEO. In the Exec Chair role, I intend to focus my energies and attention on new products and early initiatives.

As much as I still tap dance into the office, I’m excited about this transition. Millions of customers depend on us for our services, and more than a million employees depend on us for their livelihoods. Being the CEO of Amazon is a deep responsibility, and it’s consuming. When you have a responsibility like that, it’s hard to put attention on anything else. As Exec Chair I will stay engaged in important Amazon initiatives but also have the time and energy I need to focus on the Day 1 Fund, the Bezos Earth Fund, Blue Origin, The Washington Post, and my other passions. I’ve never had more energy, and this isn’t about retiring. I’m super passionate about the impact I think these organizations can have.

Source: Amazon

If you’re more interested in the strategic direction of the company and side projects, why not giving opportunity to someone else who is hungry for the top job and to manage the day-to-day operation. Plus, I don’t imagine he enjoyed being called to testify in front of Congress, especially when the regulatory scrutiny on big tech companies has intensified. And I think Amazon is in a great shape to continue to grow with the new CEO. Here is why:

Amazon recorded $125 billion in sales in Q4 FY2020, making its four-quarter rolling average revenue now almost $100 billion. For Q1 FY2021, Amazon’s guidance is to generate between $100 and $106 billion in revenue. More impressively, the quarterly revenue grew at least 37% YoY each. In terms of major business segments, North America is still the biggest piece of the pie, yet it still outgrows International and AWS. The latter is now a $45 billion run-rate business. Looking deeper at the business lines, Online Stores, 3rd Party Marketplace and AWS are still the three biggest, but the fastest growing is Advertising, which stands at the run rate of $21 billion. In terms profitability, Amazon used to run in the red with International. Not any more. International has been profitable for the last 3 consecutive quarters, making all three major business segments of Amazon profitable.

Furthermore, Amazon in Q4 FY2020 posted $31 billion free cash flow TTM, which is only slightly less than 50% of their operating cash flow TTM. It implies a heavy CAPEX back into the business. Also, Amazon, on average, spends about $15 billion a quarter on shipping costs, which constitutes around 23% of the combined sales of its Online Stores and 3rd Party Marketplace. While it’s a lot of money, if it helps Amazon achieve great services and customer satisfaction in multiple markets, it will be a tough challenge for anyone who wants to compete with them.

In my view, the results that Amazon boasted are nothing, but highly impressive. The company has a stellar reputation with consumers and owns the relationship. That’s why it can sell advertising, subscriptions, its own goods and goods of other parties. There are still a lot of room to grow. Not only can it still gain market share in the retail market in the US, but it can also expand internationally into more countries and continue its current profitability overseas. AWS can still grow, especially when Covid-109 has spurred companies to become digital. The brand, the scale and the infrastructure that Amazon put in place are gigantic advantages that aren’t easy for challengers to overcome. The culture that Bezos has instilled in the last 27 years is still there and even though he is passing the CEO torch, he is still around to take actions, if necessary.

Amazon's revenue and YoY growth
Figure 1 – Amazon’s 4-quarter rolling average in Revenue and quarter YoY Growth
Amazon Business Segments' Revenue
Figure 2 – Amazon’s Business Segments’ Revenue
Amazon's business segments' revenue
Figure 3 – Segment Revenue
Amazon's Operating Margin
Figure 4 – Amazon’s Operating Margin
Figure 5 - Amazon's Free Cash Flow TTM
Figure 5 – Amazon’s Free Cash Flow TTM
Amazon's Shipping Costs
Figure 6 – Amazon’s Shipping Costs

Though AWS slowed in growth, Amazon didn’t

Amazon continues to amaze me with another blow-out quarter in Q3 FY2020. Their total net sales increased by 37% compared to the same period a year ago, reaching $96 billion, while Operating Income increased by 96% from $3.2 billion in Q3 FY2019 to $6.2 billion this quarter. It’s an extraordinary growth for a company that generated more than $1 billion a day in net sales this quarter. Their gross margin in general didn’t change much from a year ago, but their operating margin increased by almost 200 basis points from 4.5% in Q3 2019 to 6.4% in Q3 FY2020. While the high level margin doesn’t look impressive, the devils are in the details if we look closer at their segments.

If we look at Norther America, International and AWS, all three were profitable this quarter with International, traditionally a money loser, being in the black for the second quarter in a row. AWS continues to be responsible for most of Amazon’s operating income as it carries a sweet 30% operating margin, compared to a meagre low single-digit from the other segments. Interestingly, AWS’s growth was the slowest among the three segments, recorded at 29%, compared to 39% of North America and 37% of International.

Source: Amazon

If we look at the results at a deeper level, specifically at the breakdowns into Online Stores, Physical Stores, AWS, 3rd party marketplace, Advertising and Subscriptions, the only area with negative growth in revenue is Physical Stores. 3rd party marketplace, Advertising and Online Stores notched the biggest growth, in that order, followed by Subscriptions and AWS. Regarding Subscriptions, Amazon reported that Prime now has 150 million subscribers with the service coming to its 20th country in Turkey.

Internationally, the number of Prime members who stream Prime Video grew by more than 80% year-over-year in the third quarter, and international customers more than doubled the hours of content they watched on Prime Video compared to last year.

Source: Amazon Q3 FY 2020

Even though Amazon is the master of operating at scale, innovating and squeezing efficiency from every step, I do think the expansion of Prime internationally helps with the increased performance of the International segment which has been profitable in two consecutive quarters. Of course, the decision makers at Amazon have data to see which markets can be improved by launching a high-margin subscription that makes customers stick around longer and shop more. So I wouldn’t surprised if Prime played a role in bolstering the profitability of Amazon’s International segment. So far, there are only 20 countries where Amazon Prime is available. When that number gets bigger, I predict that Amazon will be even bigger and more profitable than it already is; which is both admirable and scary.

When it comes to Amazon, advertising is unlikely the top 3 or 5 services that come to mind. Nonetheless, the segment brought in almost $5.4 billion this quarter, at the growth rate of a whopping 51%. To put that in consideration, neither Pinterest, Twitter nor Snapchat recorded even $1 billion in revenue in the most recent quarter (all of these companies reported results this month). Even Microsoft’s search advertising revenue this quarter was at only $1.8 billion, down from about $2 billion from the year before. As Amazon has an excellent relationship with customers (in general) and customers, when searching, already have intention to buy, this advertising business will not stop here. In fact, I do think it will continue to grow nicely in the future. A short while ago, I wrote about Amazon Shopper Panel, a new initiative by Amazon. The service will compensate shoppers if they send the company 10 eligible non-Amazon at-store receipts every month. This initiative, if done well, will empower Amazon with an unparalleled understanding of consumers, down to even the line items of a receipt. This understanding will bolster their advertising machine even more.

Source: Amazon

Amazon admitted that 2020 has been a big year for capital investments. The company aims to grow its fulfillment and logistics network by 50%, plowing around $12-13 billion in CAPEX this quarter or over $30 billion so far in 2020. That is an extraordinary amount of money allocated in growing assets. Not many companies even have that kind of numbers in revenue, let alone CAPEX. On top of that, Amazon reported that its shipping costs reached $15 billion this quarter. Fulfillment and shipping are hard as they are resource-intensive and require a mastery in operations to achieve the necessary efficiency. Any competitor that wishes to challenge Amazon needs to have a pocket deep enough to absorb these expenses; which constitutes a competitive advantage for the biggest e-Commerce player in the US. In the end, how many companies in the world could claim they generated $55 billion in trailing 12-month (TTM) Operating Cash Flow or $29 billion in trailing 12-month free cash flow?

In short, the business looks to be in a fantastic shape with amazing growth at a massive scale. Plus, there is plenty of room to grow for Amazon in the future with International expansion, Prime in more markets and advertising. Jeff Bezos is now a $200 billion man. I won’t be surprised if he reaches $300 billion in net worth in the future.

Amazon’s Quarterly Earnings

On that FY2019 Q2 earnings by Amazon…

Revenue

In the last 90 days, Amazon recorded $63 billion, meaning that it took the company less than 36 hours to make $1billion. An extraordinary rate. Compared to last year’s Q2, revenue rose by 20% with Services (31%) outperforming Products (12.5%). Nonetheless, gross margin slipped as this quarter’s figure is at 4.8% compared to 5.6% last year.

Source: Amazon

AWS

Among Domestic, International and AWS categories, the latter continues to lead the way in terms of YoY growth. AWS’s revenue in the last 90 days is $8.3 billion, a rough equivalent of about $32 billion annually. It’s pretty impressive for just a segment of a company. Not many standalone companies can generate that much revenue in a quarter. It’s even more telling when we put AWS next to GCP. Google announced last week that GCP’s annual run rate is $8 billion, meaning that AWS is approximately 4 times bigger than its rival from Google.

Despite making up only 13% of Amazon’s revenue, AWS is responsible for about 69% of the company’s operating income.

At 37%, AWS’ YOY growth is the lowest recorded in a long time, but the law of big numbers should be taken in account here as the division is not as small as it used to be. If broken down into more strategic categories, AWS isn’t the segment with the biggest YoY growth (Excluding FX) in the company. It’s Subscriptions. Subscription memberships, especially Prime, play a crucial role in Amazon’s ecosystem. The fact that it notched the biggest growth, ahead of AWS, is very positive for the company.

Advertising

As can be seen above, advertising slowed down significantly after a hot streak just 12-15 months ago. YoY growth decreased noticeably compared to the 3-digit growth just a while ago. Still, it contributed $3 billion to the company’s top line.

Free Cash Flow and Shipping Costs

Amazon’s free cash flow this quarter is truly insane with 65% YoY improvement in Operating Cash Flow and a 3-digit growth in Free Cash Flow.

Source: Amazon

Shipping costs continued to rise with 36% YoY difference compared to previous second quarter’s. It’s worth noting that none of the Online Stores, Physical Stores and 3rd Party Seller Services have the same growth (all grew at a slow pace than shipping costs)

Sometimes, it’s hard to believe that a company founded roughly 25 years ago can be this powerful and big. A segment responsible for only 13% of its revenue is the dream of so many and it continues to deliver at an impressive rate.

Take-away from Amazon’s Financials & Earning Call

Amazon released their quarterly earnings today. I took a stab at trying to derive insights from the numbers. Here is what I learn:

AWS is the driver of their operating margin

AWS’ revenue and operating income grew impressively year over year

Meanwhile, North America operating income grew even more impressively year over year, making up for the International segment

Q1 2019 saw the shipping cost growth slow down and the explosion of growth in free cash flow

Across segments, YoY revenue growth decreased quite a bit, especially in the subscription and advertising. AWS makes up 13% of Amazon’s revenue

Net Income as % of Revenue Increased Sharply

Other take-aways

  • Amazon announced intention to turn a two-day shipping Prime into a one-day shipping Prime, though it admits that the endeavor will take time
  • The company said that they signed up more members for Prime in 2018 than any other year. Except the 100 million figure mentioned in the past, there was no other revelation in the earning call today
  • The company refused to comment on the acceleration or deceleration of advertising business
  • Little was mentioned about groceries. The word appears once in the press release and 4 times in the earning calls