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Amazon: Is this compounder on sale?

Opdateret: 25. feb.


I like compounders, and I appreciate it when the CEO specifically mentions compounding, as he did in his first letter to shareholders. In that letter, he wrote, "Time is your friend when you are compounding gains." "Amazon is a large company with significant businesses, but we are still in the early stages of our development." Amazon has experienced significant growth. If you had invested $100 in Amazon 25 years ago, it would now be worth $3.561 even after accounting for a 90% loss in the share price during the dot-com bubble. In this analysis, I will investigate whether now is the right time to purchase Amazon stock.

This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.


Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.


For full disclosure, I should mention that I do not own any shares in Amazon at the time of writing this analysis. I do own shares in some of their competitors, such as Microsoft, and Alibaba is my largest position. If you would like to copy or view my portfolio, you can find instructions on how to do so here. Like most other consumers, I have frequently made purchases on Amazon, and I have consistently had positive experiences with the company. I also really like Amazon Smile, where I can support one of my favorite charitable organization. (please donate if you can). Nevertheless, as always, I will keep this analysis unbiased. If you want to purchase shares or fractional shares of Amazon, you can do so through eToro. eToro is very user-friendly and easy to get started with. You can start with as little as $50. Click on the picture below to get started.



Amazon is a multinational technology company based in Seattle. It primarily focuses on e-commerce, cloud computing, digital streaming, and advertising. They also manufacture electronic devices such as the Kindle, Fire tablet, Fire TV, Echo, and Ring. In addition, they also offer a subscription service called Amazon Prime. Meaning that Amazon is involved in various types of businesses. Amazon serves consumers through its online and physical stores, focusing on selection, price, and convenience. The company aims to offer customers low prices, fast and free delivery, easy-to-use functionality, and timely customer service. Amazon designs its stores to enable the sale of hundreds of millions of unique products by both themselves and third parties across dozens of product categories. When the products are sold by third-party sellers, Amazon earns fixed fees, a percentage of sales, per-unit activity fees, interest, or some combination thereof. Amazon has categorized all of its businesses into three segments: North America (61% of net sales), International (23% of net sales), and Amazon Web Services (16% of net sales). I believe that Amazon has a strong brand moat, as it consistently ranks among the top three most well-known brands in the world, and consumers trust the company.


The CEO is Andy Jassy. He became the CEO in July 2021 and took over from the founder, Jeff Bezos. Andy Jassy joined Amazon in 1997 and has held various leadership roles before becoming CEO. Most notably, he founded and led Amazon Web Services (AWS) from its inception in 2016 until he became the CEO. He has a BA from Harvard University and an MBA from Harvard Business School. When growing up, he was a competitive tennis player, which has taught him many lessons that he now applies as a leader. In an interview, he explained, "Tennis taught me what happens when you really work on something, and what happens when you don't." "You either win or lose based on how you perform in the moment." It was translated into his first memo to employees, where he emphasized the importance of acting swiftly, completing tasks efficiently, and working diligently to resolve customers' issues. Hence, it is safe to say that Andy Jassy expects a lot from his employees. However, he still managed to rank in the top 25% of CEOs compared to similar-sized companies in employee ratings on Comparably. I don't believe we have enough data to judge Andy Jassy as a CEO, but his work with AWS has certainly been impressive. I also appreciate how he emphasizes the importance of compounding in his letter to shareholders, as mentioned earlier.


I believe that Amazon has a strong brand moat. I also feel confident in the management's abilities. Now, let us investigate the numbers to see if Amazon lives up to our requirements for a strong moat. In case you want an explanation about what the numbers represent, you can refer to "MY STRATEGY" on the website.


The first number we will look into is the return on invested capital, also known as ROIC. We want to see a 10-year history, with all numbers exceeding 10% in each year. I was quite surprised to see that Amazon has only achieved a return on invested capital (ROIC) above 10% in 5 out of the last 10 years. It is also surprising that Amazon has delivered a negative Return on Invested Capital (ROIC) in two years in the past decade. On a positive note, it is nice to see that Amazon has managed to achieve an acceptable Return on Invested Capital (ROIC) from 2018 onwards, except for a very challenging 2022, during which macroeconomic factors impacted Amazon. ROIC isn't everything when investing, but I find the numbers a bit worrisome. It's something I would monitor moving forward if I were to invest in Amazon, to see if they can continue the positive trend since 2018.



The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most important of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. This is much more reassuring, as Amazon has rapidly grown its equity over the last 10 years. And even more impressive is that Amazon has significantly increased its equity every year. It is certainly reassuring to see numbers like these, especially when compared to the underwhelming return on invested capital (ROIC). It aligns with what Andy Jassy mentioned in his letters to shareholders when he wrote that it is still the early stages for many of the businesses in which Amazon is involved.



Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. I use levered free cash flow margin because I believe that margins offer a better understanding of the numbers. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. Free cash flow appeared strong until 2021, remaining positive each year and consistently increasing year over year in most instances. However, it is disappointing to see that the free cash flow was negative in 2021 and 2022. Andy Jassy explained the reason behind the negative free cash flow in 2021, attributing it to their consumer revenue exceeding all growth expectations during the pandemic. This was due to experiencing three years' worth of projected growth in just 15 months. While it is undoubtedly a great thing, it also created some short-term challenges that had an impact on free cash flow. Quoted from the letter to shareholders: "We spent Amazon's first 25 years building a very large fulfillment network, and we had to double that in the last few months to meet customer demands." And it seems like Amazon has managed to overcome these short-term challenges as they have achieved their highest free cash flow ever in 2023, which is very encouraging.



Another important aspect to investigate is the level of debt, specifically whether a business has a manageable debt that can be paid off within a period of 3 years. We do this by dividing the total long-term debt by earnings. Upon calculating on Amazon, I found that Amazon has 1,92 years' worth of earnings in debt. It is within the acceptable range, and I don't see debt being an issue when investing in Amazon.



As with all other investments, there are also risks involved if you decide to invest in Amazon. Macroeconomics. Different macroeconomic factors could harm Amazon in both the short-term and long-term. Management mentioned that factors such as high inflation, increased interest rates, global supply chain constraints, and the global economic downturn have directly and indirectly impacted their results. One example is the increase in operating costs due to higher utility costs, increased transportation costs, and higher wage rates. Recessionary fears have also impacted customer demand. Management also expects that macroeconomic factors could result in short-term headwinds for AWS, as companies are more cautious in their spending. Regulations. Amazon will be the target of antitrust/anti-monopoly regulations. One example is the American Innovation and Choice Online Act. If the bill is passed, it will prohibit dominant tech platforms like Amazon from offering preferential treatment to their own services in the marketplaces they operate. The bill has only just been introduced, and it is uncertain whether it will pass both chambers. We might see more regulations in the future, in addition to this bill. Martin Lau, the president of Tencent, has previously stated that the internet regulations observed in China are likely to occur in other regions of the world as well. Furthermore, the Chairperson of the Federal Trade Commission is Lina Khan, and it is no secret that she is a strong proponent of more regulations, as evidenced in her book titled "Amazon's Antitrust Paradox." Competition. In its annual report, Amazon mentioned that it faces intense competition. Amazon is facing competition in all of its segments from some great companies. When your competitors include companies such as Google, Microsoft, and Alibaba, competition will always be a risk factor. Hence, I believe it is a risk factor that one needs to monitor moving forward, especially their AWS business, as it is a high-margin business for Amazon.


There is also plenty of potential for Amazon moving forward. Amazon Web Services (AWS). AWS contributes to 16% of Amazon's revenue and has been the fastest-growing segment since 2016. It is expected to continue being the fastest-growing segment in the future. It is interesting that the operating margin of AWS in 2023 (27,1%) is much higher than the operating margins of the other segments: North America (4,2%) and International (negative). AWS has a global market share of 31%, making it the largest cloud services provider in the world. The global cloud infrastructure market is expected to grow at an 11,8% CAGR until 2030. Hence, Amazon Web Services is a high-margin business that is expected to grow faster than the other segments in the future. Management has mentioned that their customer pipeline remains strong, as existing customers are renewing larger commitments over longer periods, and migrations are growing. This indicates that Amazon is likely to become more profitable in the future. Digital Advertising. Most people might not know this, but Amazon has become the third-largest digital advertising company, trailing only behind Google and Meta. This business is experiencing rapid growth. In 2023, the revenue reached approximately $47 billion, marking a 26% increase compared to the previous year. The global digital advertising market is expected to grow at a CAGR of 15,5 % until 2030. Amazon has the potential to grow even faster, considering they currently only hold a 13% market share. Amazon has not disclosed the margins on their digital advertising business, but it is typically a high-margin venture. This could potentially boost Amazon's profitability in the future. Amazon Prime. Loyalty programs are beneficial for businesses because they establish an emotional connection between customers and the business. Additionally, they provide valuable customer insights that can enhance personalized marketing efforts. Moreover, loyalty program members tend to spend more per purchase compared to regular customers. Prime members undoubtedly spend more on Amazon than non-members. The average spending rate of Prime members is $1.400 a year, compared to $600 a year for non-members. Amazon currently has around 230 million Prime members worldwide, with approximately 167 million in the United States. This indicates that the number of Prime members has more than doubled since 2018. If Amazon can continue to increase the number of Prime members, it should result in greater profitability in the future.



Now it is time to calculate the share price of Amazon. I perform three different calculations that I learned at a Phil Town seminar. The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 2,90, which is from the fiscal year 2023. I have selected a projected future EPS growth rate of 15%. Finbox expects EPS to grow by 30,4% over the next five years, but I only use 15% as the highest. Additionally, I have selected a projected future P/E ratio of 30, which is double the growth rate. This decision is based on Amazon's historically higher price-to-earnings (P/E) ratio. Finally, our minimum acceptable rate of return has already been established at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $87,00. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Amazon at a price of $43,50 (or lower, obviously) if we use the Margin of Safety price.


The second calculation is known as the Ten Cap price. The rate of return that a company owner (or stockholder) receives on the purchase price of the company essentially represents its return on investment. The minimum annual return should be at least 10%, which I calculate as follows: The operating cash flow last year was 84.946, and capital expenditures were 52.729. I attempted to analyze their annual report in order to calculate the percentage of capital expenditures allocated to maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 36.910 in our calculations. The tax provision was 7.120. We have 10.383 outstanding shares. Hence, the calculation will be as follows: (84.946 – 36.910 + 7.120) / 10.383 x 10 = $53,12 in Ten Cap price.


The final calculation is referred to as the Payback Time price. It is a calculation based on the free cash flow per share. With Amazon's free cash flow per share at $3,12 and a growth rate of 15%, if you want to recoup your investment in 8 years, the Payback Time price is $49,25.


I find Amazon to be an intriguing company, and I have confidence in its management. I found some interesting things while researching Amazon. I am quite underwhelmed by the return on invested capital (ROIC) that Amazon has generated, despite its recent improvements. Amazon will be affected by macroeconomic factors in all of its segments, but these effects are typically short-term as macroeconomic conditions are expected to improve over time. Competition will always pose a risk for Amazon, especially for AWS, as Amazon has been losing market share in cloud services. Due to its size, Amazon will always be a target for regulations. Therefore, it is essential to continuously monitor regulatory developments when investing in Amazon. I really like Amazon's high-margin AWS business. Even though Amazon has been losing market share, the growth in the sector should compensate for it and enhance Amazon's overall margins over time. Amazon also continues to grow its advertising business, which should further boost profitability for the company. Finally, Amazon continues to attract customers to its Prime membership, as it is also experiencing growth. Prime Video is included in the Prime membership. Although I did not discuss it in this analysis, management has indicated that they are increasingly confident that Prime Video has the potential to be a large and profitable business on its own. I believe there are many things to like about Amazon, and my calculations are very conservative based on the expected EPS growth. Hence, I will buy Amazon if it reaches $106, which is the intrinsic value of my Ten Cap calculation.


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My personal goal with investing is financial freedom. It also means that to obtain that, I do different things to build my wealth. If you have some extra hours to spare each month, you can turn a few hours a week into a substantial amount of money in a few years. If you are interested to know how to do it, you can read this post.


I hope that you enjoyed my analysis. Unfortunately, I cannot do a post of all the companies I analyze. I am available to copy but if you do your own trades, you can follow me on Twitter instead, as I tweet when I buy or sell anything.


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