The results had bears scratching their heads.
But looking more deeply into Amazon.com, Inc. (NASDAQ:AMZN)’s situation, it’s clear the company has been naive in ways that could impact results in the longer term, and cause the stock to fall hard one day.
The Cash Flow King
The Amazon.com, Inc. (NASDAQ:AMZN) story is really about cash flow. The company has been steadily increasing the free cash flow it generates, and last year it had $4.18 billion of it.
CEO Jeff Bezos manages the company based on this figure. He husbands cash flow in the Christmas quarter, then spends it. The $4.18 billion figure, which was the net for his full year, was actually the number achieved in the fourth quarter of 2012.
The importance of cash flow is not a secret. It’s the headline in each Amazon earnings release.
Thanks to the miracle of cash flow, Bezos doesn’t have to take on much debt to fuel the company’s rapid growth – which was over 20% from a base of $48 billion in 2012, about $13 billion. Long-term debt at the end of the first quarter was just half the company’s cash on hand. Bears will note this was slightly less than the $14 billion sales gain from a year earlier, but the previous year’s nearly 40% gain in sales was achieved with just a $10 billion sales gain. That’s the law of large numbers – the bigger they get the harder they are to raise.
Other critics call Amazon.com, Inc. (NASDAQ:AMZN) a black box because it doesn’t break out sales figures from physical goods, downloaded products and cloud services. Cloud, for instance, is part of “other” in the figures, which was $892 in the second quarter. It should easily break $4 billion in revenues this year, and since Google Inc (NASDAQ:GOOG) is valued at 6 times its sales volume, a value of $24 billion isn’t unreasonable.
Take that off the market cap, and you’re paying $114 billion right now for an online retailer that should achieve sales of $75 billion this year. That’s high, but less unreasonable than it was a year ago, when the ratio was closer to 2:1.
What Happened?
The problems that Amazon.com, Inc. (NASDAQ:AMZN) experienced in the most recent quarter have a one-word answer: Europe. The company barely broke even in the last quarter in Europe, yet it continued investing that cash flow and running at about break-even. The widely reported loss was $7 million, on revenues of $15.7 billion – basically a rounding error.
Amazon is going to continue to build out a global infrastructure, and global cloud footprint, in order to maintain its high market share in both its key market segments. After hammering the stock in after-hours trading, analysts accepted the explanation and began bidding it back up – most have price targets in the $350/share and up range.
More disquieting was what happened with the federal government, where its $600 million contract to provide a cloud computing platform to the CIA, for analyzing global web caches and phone records for potential threats to national security, is getting immense pushback from loser International Business Machines Corp. (NYSE:IBM). The company felt obliged to sue over the CIA’s reactions to a negative GAO report on the deal.
The fear is that the contract might become a money-loser due to fights created by other stakeholders in the industry. It’s a reasonable fear. IBM is an experienced bureaucratic infighter, Amazon.com, Inc. (NASDAQ:AMZN) has never played in the political realm, and it’s likely that the company under-bid on the CIA deal, when the cost of all this legal and political wrangling is taken into account. If the company is to expand its government footprint, it has to learn to adapt to these kinds of setbacks in its bids, or it will lose money it can’t afford to lose due to simple naivete.
