Will The Sun Shine Again on This Giant?

Mohsin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

On the Jan. 29 the online retail giant Amazon (NASDAQ: AMZN) announced its 4Q12 earnings. Despite missing its earnings estimates, the company saw a 12% rise in share price during extended trading.

Amazon’s Earnings

The main reason behind Amazon’s share price surge was an increase in its North American operating margin, up 5% from 2.9% last year. Amazon’s earnings per share fell to $0.21 from $0.38 in 4Q12. Though the company’s revenue grew by 22% to $21.27 billion in the latest quarter, it didn’t meet its expectations. Analysts had estimated an EPS of $0.27 on revenues of $22.2 billion. Net income fell 45% from $177 million to $97 million.

The digital media revenues grew 8% in 4Q12 to $6.51 billion. In terms of media sales, Amazon’s the current market leader in the U.S. with an 8% market share. The EGM (electronics & general merchandize) revenue increased to $13.93 billion, up 28% from the previous year. In the case of e-books, Amazon’s sales increased 70% in 2012. According to Amazon, its Kindle Fire HD was its best selling item in 2012. Further, its Paperwhite sales have increased to such an extent that the company has fallen short of supply.

During the last year Amazon’s operating cash flows increased 7% to $4.8 billion, while its free cash flow decreased 81% to $395 million. ROCI decreased from 22% in 2012 to just 4% in 2013.

Valuation

Amazon’s trading at a forward P/E (1yr) of 72.80x and has a negative EPS of $0.09. It has a mean recommendation of 2 on the sell side and has a PEG of 4.34. Its high PEG clearly shows that it’s very overvalued at the moment amid high expectations from its investors. In short, it still doesn’t seem that attractive in the short run.

Competitors

Amazon’s biggest rival in the online retail business is eBay (NASDAQ: EBAY). While Amazon didn’t have a great year, 2012 was a solid one for the online giant. Amazon’s premium product PayPal yielded a revenue growth of more than 23% during the last year. Moreover, 40% of eBay’s revenue also came from PayPal. According to the company, “Bill Me Later” has also shown a lot of promise lately and is all set to become a major cash cow for the company in the years ahead.  Currently, eBay’s trading at a forward P/E (1yr) of 17.88x, clearly depicting the fact that it’s quite cheaper than Amazon. Moreover, it has an healthy EPS of $1.99. A far lower PEG of 1.43 shows that it’s a better bargain than Amazon at this stage.

On the other hand, Barnes & Noble (NYSE: BKS) has a negative EPS of $1.08 and a mean recommendation of 2.7 on the sell side, which doesn’t make it as attractive as eBay. At the moment, the bookstore chain company has around 689 locations in the U.S. As the customers are gradually moving towards e-books and online book purchases, the company has plans of reducing this figure to about 450-500. While Amazon’s Kindle sales rose in the holiday season, Barnes & Noble saw an 11% decline in its Nook sales from last year. Kindle was a major substitute to Apple’s iPad as well. After its arrival in 2011, Kindle has captured more than 17% of tablet market in the U.S. One of the core reasons behind Kindle being more popular than Nook is its reasonable prices for e-books. In some cases, BKS' e-books are selling at a price tag that is 7-8 times that of Amazon.  In order to capture this huge e-book market, BKS should revise its pricing strategy.

Conclusion

Amazon hasn’t met its earnings once again, but the stock keeps on doing well in the market thanks to its bullish investors’ expectations. Though the company doesn’t make any margins on Kindle Fire HD and Paperwhite sales at the moment, the bulls are of the view that the Kindle will eventually make its way out of this crisis. According to the bulls, the investments made by the company in the International markets in 2012 will start to pay off in the near future.

Amazon has finally started to mint some profits in the market, but it still needs more time before it starts making substantial money. A 5% operating margin in North America is proof that the company's long term strategy is on the right track. Amazon still doesn’t provide a sales figure for the Kindle, but it's an open secret that it had a great year. The company keeps on reminding the public that the Kindle would be a major channel through which it would increase its e-books sales. Amazon’s claim has finally started to show some potential as its e-books sales are increasing day by day. With Barnes & Noble cutting back on its stores, it sends the signal that the e-books are the next big thing. In fact, Amazon had realized this way before Barnes & Noble. But Amazon still needs more time before the sun starts shinning one again on the retail giant--at least 2 years. In short, we remain neutral on Amazon in the short run but it’s a great buy for the long run.


SmartEquity has no position in any stocks mentioned. The Motley Fool recommends Amazon.com and eBay. The Motley Fool owns shares of Amazon.com and eBay. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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