One section of a 10-K is dedicated to the risks that management is worried about. Some of these risks are obvious, such as banks being worried about another financial crisis, and shipping companies being worried about higher gas prices or economic downturns, but some are things that investors should actually be worried about. Amazon.com, Inc. (NASDAQ:AMZN) is a company that many investors are obviously not worried about–given that is has a forward P/E ratio of around 3,000, investors are clearly willing to forgo earnings now based on the faith that what Amazon is doing will work. These are some things that Amazon.com, Inc. (NASDAQ:AMZN) is worried about that I think investors are not thinking about when they pay $255 for a share of Amazon based on the hope that the company will eventually stop spending and become highly profitable.
“Government Regulation Is Evolving and Unfavorable Changes Could Harm Our Business”
This is probably the risk that most who are bearish about Amazon focus on. Amazon currently pays states taxes in California, Texas, Washington, North Dakota, Kansas, Kentucky, Pennsylvania, and New York. South Carolina will collect taxes from Amazon in January of 2016, Nevada in January of 2014, Indiana in January of 2014, Tennessee in January of 2014, Virginia in September of 2013, and New Jersey in July of 2013. Amazon has sought to offset some of the costs of these new taxes by experimenting with one day delivery, but these new taxes will no doubt harm Amazon, which has long prided itself on offering the lowest prices on many products. Amazon is really concerned about this, as they have begun negotiating with some states for deals that would essentially trade jobs for not collecting taxes. For example, in my home state of South Carolina Amazon.com, Inc. (NASDAQ:AMZN) agreed to open a distribution center near Columbia that would employ 1,200 people in exchange for a five year exemption from the state collecting taxes. The South Carolina legislature rejected this deal, and Amazon countered with an offer of 2,000 jobs, which was ultimately accepted. So in the relatively small state of South Carolina, Amazon was willing to commit 800 perhaps-unnecessary jobs in exchange for not having to collect sales tax in a state with four million people.
“We Could Be Liable for Fraudulent or Unlawful Activities of Sellers”
I think that this is a particularly interesting risk that Amazon management is worried about. Amazon seller programs have little control over what is sold on Amazon, and under Amazon’s “A2Z” guarantee, Amazon.com, Inc. (NASDAQ:AMZN) reimburses buyers on purchases for things that Amazon sellers never shipped, or when the products shipped are “materially different from the sellers’ descriptions.” Amazon expects its marketplace program to grow, and with it, the cost of the guarantee program, even enough to impact operating results per the 10-K. In 2012, for example, animal rights groups found 147 products being sold by Amazon that contained illegal whale meat. As Amazon’s Marketplace continues to grow, I would expect that more and more headlines like this could start popping up and become a problem for Amazon.
“We Have a Rapidly Evolving Business Model and Our Stock Price Is Highly Volatile.”
Some risks listed are simply there because they have to be included, like this one. While the volatility is a risk for some investors, I would bet that most investors are bullish on Amazon.com, Inc. (NASDAQ:AMZN) because of their rapidly evolving business model, not in spite of it. I was short Amazon for a short period about a month ago, but because I enjoy my sleep, I covered my short. Amazon’s extraordinary P/E ratio is proof that many investors believe strongly in the company, and are not really worried about the risks–but I currently believe that there is more downside than upside to Amazon, at least for the time being. Shorting Amazon isn’t for the faint of heart, but I think that owners of the stock should be more worried about it than most are.
The Competition
One of the main reason I believe that investors have not priced these risks into Amazon’s stock price is that there is very little competition in the space. For example, do you think that Best Buy Co., Inc. (NYSE:BBY) could really take market share away from Amazon? And eBay Inc (NASDAQ:EBAY) is a good company, but it does not have nearly the same delivery system as Amazon.com, Inc. (NASDAQ:AMZN), and they are really not competing on the same stage.
Despite Best Buy Co., Inc. (NYSE:BBY)’s and eBay Inc (NASDAQ:EBAY)’s shortcomings, both have been working hard to take away market share from Amazon. For instance, eBay announced in March that they were reducing costs and introducing a new fee structure to incentive sellers on eBay not to switch over to Amazon’s marketplace. If eBay made a more concerted push to take away Amazon’s marketplace sellers, then it could hurt Amazon’s dominance in this sector. The biggest obstacle for eBay with this is that a third-party seller on Amazon is viewed as being more credible than on eBay. On Amazon you are more likely to be viewed as a legitimate business, while sellers on eBay Inc (NASDAQ:EBAY) may seem like people selling out of their garage.
This brings us to Best Buy. Best Buy Co., Inc. (NYSE:BBY) seems to think that it is not going to go the way of Circuit City, but the future doesn’t look great for the company. Every single brick and mortar retailer wants to expand its online sales, but getting there is the problem. While Amazon will have to succumb to state sales tax in the next ten years, I don’t believe this will give any retailers a chance to take market share away from Amazon. Amazon is already investing heavily in improving their delivery system and is working hard, racing against Wal-Mart to see who can establish same day delivery first. Best Buy doesn’t bring a lot to the table. Instead it is trying to create smaller stores that focus on wireless devices and the store within a store model. Amazon.com, Inc. (NASDAQ:AMZN) need not be worried by this, as RadioShack Corporation (NYSE:RSH) has already tried that model, and it hasn’t been working out great for them. Sure the stock is up a little bit, but would we really need two Radio Shacks in the world when there is barely room for one?
Amazon commands such a high stock price because analysts and investors do not see much competition for it. But as we have seen before, because a company has a near monopoly on what it does, in this case getting you essentially whatever you want cheaply and free two-day shipping if you sign up for Amazon.com, Inc. (NASDAQ:AMZN) Prime, internals and a changing regulatory environment can harm a company’s stock price as much as new competition can.
The article Amazon Is Worried-Should Investors Be As Well? originally appeared on Fool.com and is written by Christopher Drose.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
