Amazon: Is this compounder on sale?

Amazon is a global leader in e-commerce, cloud computing, and digital advertising, with a business model built on scale, innovation, and operational efficiency. From its expansive online marketplace and Prime membership ecosystem to its high-margin AWS cloud division, Amazon has established itself as a dominant force across multiple industries. With continuous investments in AI, logistics, and advertising, the company is positioning itself for long-term growth. The question remains: Should this tech giant have a place in your portfolio?

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.

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. 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 a highly user-friendly platform that allows you to get started on investing with as little as $50.

The Business

Amazon is a multinational technology company headquartered in Seattle, operating across e-commerce, cloud computing, digital streaming, and advertising. The company serves a wide range of customers, including consumers, third-party sellers, developers, enterprises, content creators, and advertisers. Its business is structured into three main segments: North America, International, and Amazon Web Services. The North America segment, which accounts for 61% of net sales, covers retail operations in the U.S., Canada, and Mexico through online and physical stores. The International segment, contributing 22% of net sales, encompasses similar operations outside North America. Amazon Web Services, responsible for 17% of net sales, provides cloud computing services, including computing power, storage, databases, analytics, and AI-driven solutions for enterprises, startups, and governments. Amazon offers an extensive range of products, selling both directly and through third-party sellers on its marketplace. The company also develops and sells consumer electronics, including Kindle e-readers, Fire tablets, Fire TV, Echo smart speakers, Ring security systems, and Eero mesh Wi-Fi routers. It produces and distributes media content through Amazon Studios and Prime Video. To drive customer retention, Amazon offers Amazon Prime, a subscription service that includes benefits such as free and fast shipping, exclusive shopping deals, and access to digital content, including streaming, music, and cloud storage. The company also generates significant revenue through advertising, leveraging its vast e-commerce platform to provide targeted promotions via sponsored ads, display, and video advertising. Amazon has built a strong moat driven by multiple reinforcing advantages. The company consistently ranks among the most well-known and trusted brands globally, strengthening customer loyalty and engagement. Its customer-centric approach focuses on offering low prices, fast and free shipping, and a seamless user experience, resulting in high retention rates. Amazon operates one of the most sophisticated logistics networks in the world, allowing it to provide rapid delivery and cost efficiencies that are difficult for competitors to match. The integration of first-party sales and third-party sellers enhances product selection while generating additional revenue through commissions, fulfillment services, and advertising. Amazon Web Services is a dominant force in cloud computing, providing high-margin recurring revenue that funds further investments in retail, logistics, and technology. The company has created an interconnected ecosystem with Prime membership, Alexa-enabled smart home devices, Kindle e-books, and a growing advertising network, making it difficult for customers to switch to competitors. Amazon also leverages vast amounts of data and AI-driven insights to refine its recommendations, pricing strategies, and supply chain efficiency, reinforcing its competitive edge in both e-commerce and cloud computing.

Management

Andy Jassy serves as the CEO of Amazon, a position he has held since July 2021 after succeeding the company’s founder, Jeff Bezos. He first joined Amazon in 1997 and played a crucial role in shaping its technological and operational landscape. Most notably, he founded and led Amazon Web Services (AWS) from its inception in 2006 until his appointment as CEO. Under his leadership, AWS grew into the world's largest cloud computing platform, contributing significantly to Amazon’s profitability and overall business strategy. Andy Jassy holds a Bachelor of Arts degree from Harvard University and an MBA from Harvard Business School. Growing up, he was a competitive tennis player, an experience he credits with shaping his leadership philosophy. In an interview, he reflected on the sport’s impact, stating, "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." This mindset translated into his first memo to employees, where he emphasized the importance of acting swiftly, completing tasks efficiently, and working diligently to resolve customer issues. While Andy Jassy is known for setting high expectations for his employees, he has also earned recognition for his leadership, ranking in the top 25% of CEOs of similarly sized companies in employee ratings on Comparably. Andy Jassy has spoken about the importance of long-term thinking and compounding gains, a principle he highlighted 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." His approach reflects Amazon’s broader strategy of reinvesting in growth and innovation, reinforcing the company’s long-term vision. I believe Andy Jassy is the right person to lead Amazon due to his track record with AWS, which demonstrates his ability to scale a high-margin, industry-defining business. Given Amazon’s continued expansion into new areas, Andy Jassy’s leadership will be instrumental in navigating the next phase of the company’s growth.

The Numbers

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 above 10% in four out of the last ten years. It is also noteworthy that Amazon recorded a negative ROIC in one year over the past decade. On a positive note, Amazon has managed to achieve an acceptable ROIC from 2018 onwards, with the exception of 2022, when the company made substantial investments in infrastructure and logistics during a challenging economic environment. The significant increase in capital expenditures was primarily aimed at doubling its logistics footprint, which should be beneficial in the long term. Because of this, the one-year negative ROIC does not concern me, especially since Amazon has been able to return to a +10% ROIC in 2023 and further increase it to one of its highest levels in 2024. This is only surpassed by 2021, when COVID-19 stimulus boosted consumption.

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. These numbers are impressive, as Amazon has rapidly grown its equity over the last ten years. Even more remarkable is that Amazon has increased its equity every single year. In the past decade, there was only one year in which Amazon did not achieve a +20% increase, and that was in 2022, when the company faced a challenging economic environment and made substantial investments in infrastructure and logistics. What stands out even more is that Amazon has managed a +40% year-over-year increase in equity in seven of the past ten years. This aligns with what Andy Jassy emphasized in his letters to shareholders when he wrote that Amazon is still in the early stages of development in many of its businesses.

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 free cash flow turned negative in 2021 and 2022. Andy Jassy explained the reason behind this, attributing it to Amazon’s consumer revenue exceeding all growth expectations during the pandemic. The company experienced three years’ worth of projected growth in just 15 months. While this was undoubtedly a positive development in the long run, it created short-term challenges that impacted free cash flow. In his letter to shareholders, Andy Jassy wrote, "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." It appears that Amazon has successfully overcome these short-term challenges, as the company achieved its highest free cash flow ever in 2023, only to surpass it again in 2024, which is encouraging. I expect Amazon to continue prioritizing free cash flow growth, as founder Jeff Bezos has previously emphasized its importance as a key measure of a company's performance. In the short term, free cash flow may decline in 2025 and 2026 due to Amazon ramping up capital expenditures as it invests in AI for AWS and expands its fulfillment and transportation network to support future growth. The levered free cash flow margin was lower than usual in 2024, partly due to the increase in capital expenditures, though management expects it to rise over the long term. The free cash flow yield suggests that Amazon shares are currently trading at a premium valuation. However, we will revisit valuation later in the analysis.

Debt

Another important aspect to investigate is the level of debt, specifically whether a business has a manageable debt load that can be paid off within a period of three years. We assess this by dividing total long-term debt by earnings. After calculating Amazon’s debt levels, I found that the company has 0,89 years’ worth of earnings in debt. Given this, I don’t see debt as a concern when considering an investment in Amazon. In fact, Amazon has not had more than three years of earnings in debt since 2017, and nothing suggests that debt will become an issue in the future.

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Risks

Competition is a significant risk for Amazon due to the wide range of industries in which it operates and the evolving nature of the global marketplace. The company faces competition across multiple sectors, including e-commerce, cloud computing, digital advertising, logistics, consumer electronics, grocery, and even healthcare. Unlike businesses that compete within a single industry, Amazon must continuously navigate competitive pressures from various players that specialize in different areas. One of the key risks is that Amazon competes with both traditional and digital retailers, omnichannel businesses, and manufacturers that sell directly to consumers. Many of these competitors have established brand loyalty, extensive supplier relationships, and the ability to offer exclusive products. Additionally, some of Amazon’s competitors, particularly in e-commerce, can adopt more aggressive pricing strategies and leverage their physical store presence to create a seamless omnichannel shopping experience. In cloud computing, Amazon Web Services (AWS) faces increasing competition from well-capitalized tech giants such as Microsoft and Google. These companies are expanding their cloud offerings and investing heavily in artificial intelligence, infrastructure, and enterprise services. Some customers may also prefer multi-cloud strategies, reducing their reliance on AWS. Amazon’s digital advertising business competes with established platforms such as Google and Meta, both of which have extensive user data, strong advertiser relationships, and advanced targeting capabilities. Furthermore, the internet and e-commerce platforms facilitate competitive entry, enabling smaller businesses and new entrants to compete with Amazon more easily. Many emerging retailers use third-party marketplaces, direct-to-consumer models, and social commerce to bypass Amazon’s platform entirely. The rise of niche e-commerce platforms and brand-owned online stores further fragments the market, making it harder for Amazon to maintain its leadership position.

Macroeconomic factors pose a significant risk to Amazon, impacting both its short-term performance and long-term growth trajectory. As a global business operating in multiple industries, Amazon is highly sensitive to economic conditions such as inflation, interest rates, consumer spending patterns, supply chain disruptions, and broader market downturns. One of the primary risks is inflation, which directly affects Amazon’s operating costs. Rising utility expenses, transportation costs, and wage increases add pressure across Amazon’s fulfillment centers, logistics operations, and data centers. These cost increases can compress margins, particularly in Amazon’s low-margin retail segment, unless the company offsets them through efficiency improvements or price adjustments. However, raising prices in a highly competitive e-commerce landscape could weaken customer demand and erode Amazon’s competitive advantage. A slowing global economy or a potential recession also presents challenges. Consumer demand typically declines during economic downturns as individuals prioritize essential purchases over discretionary spending. Given that Amazon generates a significant portion of its revenue from retail, particularly in categories like electronics and apparel, a prolonged economic slowdown could reduce order volumes and weigh on revenue growth. Even subscription-based services like Amazon Prime could experience slower growth if consumers cut back on non-essential spending. Macroeconomic conditions also affect Amazon Web Services (AWS). Management has noted that economic uncertainty and cost-cutting initiatives by businesses have led to reduced cloud spending. As companies navigate financial pressures, they may delay or scale back cloud migration projects, leading to short-term slowdowns for AWS. While cloud computing remains a long-term growth driver, macroeconomic headwinds could temporarily impact AWS’s performance, which is significant given that it is Amazon’s highest-margin business.

Regulation is a significant risk for Amazon, as the company operates in multiple industries that are subject to evolving legal and regulatory frameworks. As a global business, Amazon must comply with a complex web of laws governing e-commerce, digital services, cloud computing, advertising, artificial intelligence, logistics, healthcare, and financial services. Regulatory scrutiny has intensified in recent years, with governments and lawmakers seeking to impose stricter oversight on large technology companies, particularly those with significant market influence. One of the primary regulatory risks Amazon faces is antitrust and competition law enforcement. Authorities in the U.S., Europe, and other regions are increasingly examining whether Amazon’s marketplace practices provide it with an unfair competitive advantage over third-party sellers. Investigations have been launched into Amazon’s use of seller data, its fulfillment network, and whether it favors its own private-label products over those of independent merchants. If regulators determine that Amazon is engaging in anti-competitive behavior, the company could face significant fines, operational restrictions, or forced changes to its business model, which could impact its marketplace and AWS cloud services. Beyond existing regulations, new laws targeting large technology companies remain a growing possibility. Policymakers worldwide are exploring measures to impose stricter controls on how dominant online platforms operate. While the specifics of these regulations remain uncertain, any new laws that limit Amazon’s ability to integrate its various services, restrict how it interacts with third-party sellers, or mandate structural changes to its cloud computing division could materially impact its business model and long-term growth prospects.

Reasons to invest

Amazon's e-commerce business remains a compelling reason to invest in the company due to its continued focus on selection, price, and convenience - three factors that have consistently driven customer engagement and sales growth. The company's ability to expand its product offerings, enhance its fulfillment network, and improve cost efficiencies positions it well for long-term success in the retail space. A key advantage for Amazon is its extensive selection. The company continuously expands its product range. This broad selection not only attracts new customers but also keeps existing shoppers engaged by offering a wide range of options across various price points. Third-party sellers play a crucial role in this expansion, contributing 61% of total units sold in 2024 - the highest annual mix of third-party sales Amazon has ever recorded. The growing influence of third-party sellers enhances Amazon's marketplace model, diversifies its revenue streams, and reduces inventory risk. Pricing remains a major draw for customers, and Amazon continues to reinforce its reputation as a cost leader in e-commerce. For the eighth consecutive year, Amazon had the lowest online prices among major U.S. retailers, averaging 14% lower than its competitors. Maintaining competitive pricing strengthens customer loyalty and increases purchase frequency, reinforcing Amazon’s dominance in online retail. Amazon Prime remains a key growth driver, offering significant value beyond just free shipping. For $14.99 per month, members gain access to an extensive range of benefits, including exclusive shopping events, Prime Video content, ad-free music streaming, prescription discounts, grocery delivery, and fuel discounts. Compared to other subscription services that typically offer just one benefit, Prime’s broad offerings make it an attractive value proposition, driving strong membership growth and retention. Efficiency improvements in Amazon’s fulfillment network further strengthen its e-commerce business. The company has reduced its global cost to serve on a per-unit basis for two consecutive years, despite expanding delivery speeds and selection. Investments in robotics and automation are enhancing warehouse productivity and lowering transportation costs.

Amazon Web Services (AWS) remains a compelling reason to invest in Amazon, as it is not only the company’s most profitable segment but also a key driver of future growth. AWS continues to expand its leadership in cloud computing, demonstrating strong revenue growth, increasing adoption of artificial intelligence, and ongoing innovation in both infrastructure and software services. AWS’s ability to maintain high operating margins while investing in new technologies reinforces its importance as Amazon’s most valuable business. One of AWS’s key strengths is its role as the backbone of enterprise cloud computing. Companies across industries continue to migrate from traditional on-premises infrastructure to the cloud, benefiting from AWS’s extensive range of services, including computing power, storage, databases, analytics, and AI capabilities. AWS remains the market leader in this space, securing major contracts with new enterprise customers. The continued expansion of AWS’s client base provides long-term revenue stability and growth opportunities. A major growth driver for AWS is artificial intelligence. Amazon sees AI as a transformative technology, much like cloud computing was in the past. AWS is positioning itself as a leader in this shift by providing the tools and infrastructure companies need to develop and integrate AI into their businesses. To support this, AWS is investing in specialized computer chips, such as Trainium and Inferentia, which are designed to handle AI workloads faster and at a lower cost. These custom-built chips help companies train and run AI models more efficiently. Beyond hardware, AWS is expanding its AI-focused software offerings to make AI adoption easier for businesses. SageMaker, its AI development platform, allows companies to build, test, and deploy AI models while reducing costs and improving efficiency. AWS Bedrock, another key service, provides businesses with ready-made AI models that they can customize without having to build complex AI systems from scratch. Although AI is still in its early stages, Amazon believes its long-term potential is enormous.

Amazon's advertising business is a strong reason to invest in the company, as it has become a significant revenue driver with high-margin potential. Amazon is now the third-largest digital advertising company, trailing only Google and Meta, and its advertising revenue continues to grow at an impressive rate. In 2024, Amazon generated $69 billion in advertising revenue, more than double what it was just four years ago. One of Amazon’s biggest strengths in advertising is its ability to seamlessly integrate ads into its e-commerce platform. Sponsored Products, which represent the largest share of its ad revenue, continue to perform well and have room for further growth. Since these ads appear at the point of purchase when customers are actively searching for products, they are highly effective for advertisers and generate strong returns. Unlike traditional digital ads that rely on third-party cookies, Amazon's ads leverage its vast first-party data from millions of daily shoppers, making them more relevant and valuable to brands. Beyond e-commerce, Amazon is also expanding its presence in digital and streaming advertising. The introduction of ads on Prime Video marks an important milestone, and early results suggest strong engagement. As Amazon continues to grow its streaming offerings, including live sports content, its advertising business has the potential to reach a much broader audience beyond its marketplace. Streaming ads not only provide another revenue stream but also strengthen Amazon’s overall advertising ecosystem. Advertising is also an important contributor to Amazon’s overall profitability. While Amazon does not disclose the margins of its advertising business, digital advertising is typically a high-margin segment. As this business continues to scale, it has the potential to meaningfully boost Amazon’s overall profitability and further diversify its revenue streams.

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Valuation

Now it is time to calculate the share price. I perform three different calculations that I learned at a Phil Town seminar. If you want to make the calculations yourself for this or other stocks, you can do so through the tools page on my website, where you have access to all three calculators for free.

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 5,53, which is from the year 2024. I have selected a projected future EPS growth rate of 15%. Finbox expects EPS to grow by 22,4% over the next five years, but 15% is the highest number I use. 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 $165,90. 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 $82,95 (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 115.877, and capital expenditures were 82.999. I attempted to analyze their annual report 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 58.099 in our calculations. The tax provision was 9.265. We have 10.593 outstanding shares. Hence, the calculation will be as follows: (115.877 – 58.099 + 9.265) / 10.593 x 10 = $63,29 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 $3,13 and a growth rate of 15%, if you want to recoup your investment in 8 years, the Payback Time price is $49,41.

Conclusion

I find Amazon to be an intriguing company, and I have great confidence in its management. While Amazon has had years of underwhelming ROIC due to significant investments, it achieved one of its highest ROIC levels ever in 2024. The company prioritizes free cash flow, delivering its highest free cash flow in the past two years. Competition remains a risk as Amazon operates across multiple industries, facing strong rivals in e-commerce, cloud computing, digital advertising, and logistics. Established competitors with brand loyalty, aggressive pricing strategies, and alternative platforms challenge Amazon’s market position, while new entrants and evolving consumer preferences further fragment the marketplace. Macroeconomic factors such as inflation, rising operating costs, and higher interest rates can pressure margins, particularly in its retail segment. Economic downturns may reduce consumer spending and business investments, potentially slowing growth in both e-commerce and AWS. Additionally, regulatory scrutiny is intensifying, with antitrust investigations and potential new laws that could impose fines, operational restrictions, or forced changes to Amazon’s business model, impacting its marketplace, AWS, and long-term growth prospects. Despite these challenges, Amazon’s strengths in e-commerce, AWS, and advertising make it an attractive long-term investment. Its e-commerce business benefits from a strong focus on selection, price, and convenience, driving customer engagement and sales growth. With an expanding product range, increasing third-party marketplace dominance, competitive pricing, and fulfillment efficiencies, Amazon continues to strengthen its retail position. AWS, the company’s most profitable segment, is a major driver of future growth, leading the cloud computing industry with strong enterprise adoption, high-margin revenue, and increasing demand for AI-driven services. Meanwhile, Amazon's advertising business has become a high-margin revenue stream, leveraging its vast first-party data to deliver highly effective ads across e-commerce and streaming. I believe Amazon is a great company, and buying shares at $132, which provides a 20% discount to its intrinsic value based on the Margin of Safety price, presents a compelling long-term investment opportunity.

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