Amazon (AMZN) is the world’s largest retailer, providing online retail shopping services, cloud computing services, and advertising services. Shares of Amazon have underperformed in 2021, with gains of about 7% compared to gains of 24% for the S&P 500 (SPY). I am bearish on AMZN stock. (See Analysts’ Top Stocks on TipRanks).
I am worried that there are two major problems that this e-commerce giant needs to overcome, and it will not be easy to do so. I refer to a slowdown in revenue growth and profitability.
On its website, Amazon informs us about its core principles as a business: “Amazon is guided by four principles: customer obsession rather than competitor focus, passion for invention, commitment to operational excellence, and long-term thinking.”
I argue that the focus on customer obsession and neglecting the competitors may become the Achilles' heel for Amazon.
COVID-19 Boosted Its Financial Performance: What's Next?
The historic crash for the U.S. stock market in March 2020, when shares of Amazon fell to $1785 per share, created an investment opportunity for the bold investors who believed in the long-term future of this e-commerce giant.
Today, the stock price is hovering near $3500, representing gains of nearly 100%. For a company that is so large and mature such as Amazon, this return is phenomenal. However, it has pushed through to my analysis that its shares are overpriced now.
Amid pandemic-related lockdowns, 2020 was a great year of strong financial performance for Amazon. "Stay-at-home" stocks reached all-time highs as consumers shifted to online shopping and use of the Internet to spend their time and fill their buying needs.
Amazon's revenue in 2020 increased 37.6%, reaching $386.1 billion. Its EPS (diluted) increased 81.9%, reaching $41.83. What can the return to normality, even with COVID-19 still present, bring for Amazon in 2021 and beyond?
Third Quarter 2021 Results: A Miss after Five Consecutive Beats
Starting in Q2 2020, Amazon had a remarkable series of five consecutive quarters of its earnings per share (EPS) beating estimates.
For most of 2020, this strong EPS trend was attributed to the behavior of consumers amid the pandemic. The first half of 2021 was also a strong year of financial performance, as Amazon delivered better than expected EPS in both Q1 and Q2. Q3 2021 was a different story though.
The estimate for Q3 2021 EPS was $8.90, and the actual number was $6.12. In Q1 2021, Amazon reached its highest level of EPS, with a figure of $15.79 reported. Ever since, EPS has been trending down, presenting the obvious questions: has Amazon witnessed a peak in its EPS? Is a slowdown already present?
On October 28, 2021, upon the release of the financial results for its third quarter ended September 30, 2021, Amazon mentioned some key highlights.
First operating cash flow, free cash flow, operating income, and net income have all decreased in the third quarter. Especially net income, which “decreased to $3.2 billion in the third quarter, or $6.12 per diluted share, compared with $6.3 billion, or $12.37 per diluted share, in third quarter 2020.”
Revenue Growth: A Slowdown Is Evident
Quarterly sales growth for Amazon has been anemic in 2021. Q4 2020 showed a spike in its revenue growth of 30.6% to $125.6 billion. In Q1 2021, revenue reported was $108.5 billion, a decline of 13.6% from Q4 2020. In Q2, there was an increase of 4.2% to $113.1 billion, which was followed by a 2% decline in Q3 to $110.8 billion.
Analysts' consensus revenue estimate for Fiscal Year 2021 is $470.4 billion, or an increase of 21.8% compared to 2020. However, for the Fiscal Year 2022, the average estimate for revenue is $553.7 billion, an increase of 17.7%. Analysts believe that Amazon is in the business phase of economic slowdown, after the phenomenal 2020 year.
Fourth-Quarter 2021 Guidance: Too Conservative?
The fourth quarter of 2021 is expected to be a strong one for Amazon due to online sales supported by the Christmas shopping season.
The company itself has stated that “net sales are expected to be between $130 billion and $140 billion or to grow between 4% and 12% compared with fourth-quarter 2020. This guidance anticipates an unfavorable impact of approximately 60 basis points from foreign exchange rates. Operating income is expected to be between $0 and $3 billion, compared with $6.9 billion in the fourth quarter of 2020. This guidance assumes, among other things, that no additional business acquisitions, restructurings, or legal settlements are concluded.”
As it seems, Amazon also believes an economic slowdown in its operating income is present.
Legal Settlements: Another Risk?
Amazon is seeking to settle EU antitrust investigations. If a fine is imposed, revenue and profitability will take a hit, even if it's a one-time event. Amazon's valuation is also worrisome today.
Its forward P/E ratio is 85.7, representing a ~390% difference from the sector median figure of 17.5. Its forward price-to-sales ratio of 3.8 represents a 187% difference from the sector median figure of 1.3.
Can this premium for Amazon be in jeopardy if revenue and EPS growth decline due to operating expenses, global supply chain issues, and labor shortages? I believe the answer is affirmative.
Wall Street’s Take
Turning to Wall Street, Amazon has a Strong Buy consensus rating, based on 30 unanimous Buy ratings.
The average Amazon price target of $4,088.17 implies 17% upside potential. Analyst price targets range from a high of $4,500 to a low of $3,800.
Disclosure: At the time of publication, Stavros Georgiadis, CFA did not have a position in any of the securities mentioned in this article.
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