INTRO: People generally don’t have a very positive
opinion of Amazon the business. They may love the service they offer and the convenience they offer,
but more times than not, people aren’t exactly fans of Jeff Bezos or how Amazon is run. The media
often portrays Jeff Bezos as someone who makes tens of billions while his everyday employees
break their backs for minimum wage. There is some truth to this narrative given that Jeff Bezos does
often make tens of billions every year, and his employees do have terrible working conditions.
Their drivers are infamous for peeing in bottles and their warehouse workers are often treated like
disposable robots. One nuance that’s rarely talked about though is the fact that Amazon
doesn’t actually make any money, and this has been the case much of their entire history.
A few years ago, they were able to achieve sustainable profitability with their retail
business for the first time, but with inflation skyrocketing, their retail businesses has fallen
back into the red by quite an amount. In the first 6 months of 2022, Amazon was able to achieve an
impressive $143.6 billion worth of sales in North America. But, to achieve this number, they had to
spend $145.8 billion meaning that they lost $2.2 billion. Things aren’t much better internationally
either. Outside North America, Amazon was able to achieve net sales of $55.8 billion, but it
cost them $58.8 billion to fulfill these orders meaning that they lost $3 billion internationally.
While Amazon’s executives like to play it calm when they talk to the media or shareholders,
there is some evidence that they’re actually scrambling internally. Likely the best example
of this is all the rumors that they’re going to hold a second Prime Day in October. Apparently,
they’re not gonna call it Prime Day though. Instead, they’re gonna call it “Prime Early
Access Sale”. Whatever they call it though, this is clearly a move to capitalize on the holiday
season and bolster their quarterly report. But, why is Amazon’s retail business losing
money again in the first place and can the retail business ever become sustainably profitable?
THE AMAZON DRAIN:
Fortunately for us, Amazon has been a public company for a long time meaning that all of their
financials for the past 25 years are all public. By far the largest category in which Amazon spends
money is actually acquiring the products the products that they sell. If it’s an Amazon
branded product like a Kindle or an Alexa speaker, this consists of directly paying suppliers for the
product and shipping it to their warehouses. If it’s a private label brand or third party seller,
however, this is the portion of the revenue that Amazon has to share with these parties. In the
first 6 months of 2022, this number came out to being $132.9 billion. This is not a bad thing
given that this is where you want Amazon to spend money. You want to them to spend it on acquiring
good quality products, and by the looks of it, they’re spending over half of their revenue on
acquiring products, but this is actually super misleading. You see, the variance in how much
Amazon has to share with their sellers is insane. When it comes to large brands like Apple, Amazon
has to hand over well above 90% of the revenue to Apple. But, when it comes to FBA sellers,
however, this number is usually closer to 20-30% if that. And this is what leads to
the vast discrepancy in quality across Amazon. Anyway, Amazon’s second most expensive category
is of course fulfillment. Shipping any product to any household in America within 48 hours if
not 24 hours is by no means a cheap endeavor. It takes hundreds of thousands of warehouse workers,
delivery drivers, pilots, trucks, planes, warehouses, boxes, packaging materials,
and who knows what else. Within the first half of 2022, fullfillment cost Amazon $40.6 billion
which works out to a little more than a sixth of their revenue during the same time period.
This means that on average, whenever you buy something on Amazon, roughly ⅙ of your purchase
price literally goes towards just getting it to you. Speak about expensive shipping. Moving on,
we have the technology and content category. This includes all of the licensing fees that Amazon
has to pay for Prime movies and music. This also includes development and maintenance expenses for
things like Alexa and Twitch. Within the first 2 quarters of 2022, these added up to $32.9 billion.
And that brings us onto our final major expense which is sales and marketing. Amazon is actually
rather conservative when it comes to running ads. Well technically, this category did add
up to being $18.4 billion. But, in comparison to their net sales, this is not even 10%. There are
a few other categories that Amazon spends money in like General and Administrative
and miscellaneous expenses, but these aren’t particularly notable. General and administrative
came out to $5.5 billion while miscellaneous expenses came out to $339 million. It’s really
the first four categories that really weight down Amazon’s bottomline. By the time, they’re
done paying for those categories, they either have little money left or they’re in the red.
THE AMAZON SAVIOR: If Amazon’s retail business is at best a low
margin business though, how did Amazon become a trillion dollar company in the first place. Well,
this is not a new question by any means. In fact, Jeff Bezos and his executive team were thinking
about this not 5 or 10 years ago, but 22 years ago. This is when the dotcom crash unfolded which
essentially wiped out Amazon stock. Amazon stock would crash 95%, but Amazon was actually one of
the lucky survivors. The vast majority of internet companies straight up went bankrupt and shut down.
But, while Amazon survived this bloodbath, it was clear to Jeff Bezos that they couldn’t just keep
betting on retail. If they truly wanted to become a leader in retail, he knew that they had to spend
decades building up logistics, fulfillment, and product diversity. And all of that would probably
leave the business in the red. In the 1990s, Jeff was able to use the hype surrounding internet
companies to raise extraordinary amounts of money and keep the money pit afloat. But, with the
dotcom crash, that was clearly no longer viable. So, the executives started brainstorming about
how they could sustain Amazon’s retail business. They didn’t want to spend a lot of effort entering
a completely different industry or inventing something new because that would just take away
from the retail business. So, they looked for ways in which they could leverage what they already
had. One of their first ideas was to create a service called merchant.com that could help people
create online stores. Amazon already had a lot of experience building an ecommerce business, so they
figured they’d be pretty good at helping others do the same thing. And given their reputation
within ecommerce, they were actually able to attract some high quality clients like Target.
But, very quickly, they realized that offering this service was more of a full time gig rather
than a side gig. So, they shut down merchant.com pretty quickly. Ironically, Shopify has since
started a full on business around this, and at the peak, they were worth over $200 billion.
But anyway, going back to the struggling Amazon, they had to find new options. Leasing out their
expertise wasn’t quite working, so they started thinking about what else they could lease out.
They could lease out their fulfillment service, and this is something that they would eventually
do, but as a startup, this was too big of an undertaking. Something that was easy to lease
out though was their computer infrastructure. They had plenty of servers, databases, and networks.
What if they just leased these out? And that right there marked the beginning Amazon Web Services or
AWS. Most people have never heard of AWS and will probably never buy an AWS offering. But,
this is the secret that his been keeping Amazon alive eversince it was launched in March of 2006.
BAILOUT: While Amazon’s retail margins aren’t
particularly impressive, the same cannot be said about their cloud business. In terms of revenue,
AWS doesn’t pull in all that much in comparison to Amazon’s total revenue. In the first 6 months
of 2022, AWS pulled in $38.1 billion which works out to roughly ⅙ of Amazon’s total revenue. But,
AWS carries a monstrous operating margin of 32% which leaves them with an operating income
of $12.2 billion. Now, compared to their total revenue, this is still not that much, but it has
been enough to bailout out their retail business for the past 20 years. Without AWS, Amazon would
have lost about $5.2 billion from their retail business within the first half of this year. But,
with AWS, Amazon ended up profiting just under $7 billion. Now of course, that’s just operating
income. After Amazon wrote off $15 billion due to losses from Rivian and other investments,
they were back in the red with a net loss of $5.8 billion. Also, we should mention that that’s with
a $2 billion tax rebate. Without this rebate, Amazon would have lost $7.9 billion. And if it
weren’t for AWS, that loss would have jumped up to over $20 billion. Ironically, that’s about how
much Walmart profited in the most recent 12 month period. So, clearly, Amazon’s retail business nor
their investments are performing especially well right now. But, can Amazon turn things around?
Well, it depends on how you define turn things around. If you define it as simply can Amazon’s
retail business become profitable again, then the answer is absolutely. As Amazon hikes Prime
membership fees and FBA seller fees, they’re essentially passing on inflation to customers
and sellers. And it’s just a matter of time until they’re able to squeeze back into the green. But,
if we define turn things around as becoming truly profitable, then things aren’t so clear. Margins
across the retail industry are generally just not that great. Walmart, for example,
has dominated North American retail for decades, but even Walmart is only able to achieve a 2.5%
net margin. Even at their peak, they weren’t able to cross a 4% net margin. A similar trend can
be seen with Target as well. Target was able to reach a peak margin of 6.5% during the pandemic,
but that’s already coming back down to their average of 4%. While Amazon doesn’t have to
pay for stores like these guys, Amazon ends up spending all that money on fast home shipping,
so it really doesn’t make a difference. While I don’t think Amazon’s retail business will
perpetually lose money forever, I also have a tough time ever seeing them cross even a
10% net margin. So, we’ll probably never see Amazon’s retail business reach the insane 20,
30, 40% margins of their FAANG peers. But, that’s just the reality of the industry that they’re in.
THE FATE OF AMAZON: Alright, boohoo, a massive corporation
doesn’t actually make as much money as you would htink. But, why does that even matter? Well,
the reason that that might matter is because of Amazon stock. Amazon stock has historically always
traded at a high PE ratio which is the ratio between a company's earnings and their marketcap.
Mature companies generally trade for a PE ratio of 10, but Amazon is trading for a PE ratio of almost
110. Historically, this was tolerated because Amazon was growing so fast. I mean, they have
yet to have a year over year decline in revenue, but at the same time, it’s also clear that they’re
starting to level out. This isn’t a bad thing, it’s actually just natural. But, it also raises
a lot of red flags as to whether Amazon should have such a high PE ratio anymore. Investors
are starting to become weary and this is already evident in the charts. Amazon was the only FAANG
company who’s stock didn’t go vertical during 2020 and 2021. Their stock has basically been going
sideways for over 4 years now. For perspective, Apple stock is up 175% since 2018 even after
accounting for the recent sell off. So, there’s no doubt that Amazon stock has stalled. The real
question is whether this is simply a pitstop or a sign of something much more bearish. Are you a fan
of Amazon? Comment that down below. Also, drop a like if you wish that this bear market would
just be over already. And of course, consider checking out our discord community to suggest
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