Is Amazon a Broken Stock?

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After 14-plus years as a public company, it appears valuation finally might matter for Amazon (NASDAQ:AMZN). The stock has fallen sharply in the wake of Tuesday’s earnings miss, leading to rumblings that it is no longer worth a triple-digit multiple.

The debate about Amazon’s valuation has raged for years: The bulls say it’s destined to become the online Wal-Mart (NYSE:WMT); bears see it as just a glorified, overvalued retailer. The truth probably lies somewhere in the middle. But the more important question right now is whether the Amazon story is broken — and its valuation is an important piece of the answer.

This earnings season has seen the collapse — or continued collapse — of a number of high-fliers that have missed earnings or reported bad news. Most notable among these are Netflix (NASDAQ:NFLX), Green Mountain Coffee Roasters (NASDAQ:GMCR), Crocs (NASDAQ:CROX) and Research in Motion (NASDAQ:RIMM). All are classic “broken” growth stories now, where shares are down 50% or more and the chances of recapturing their past glory — and rich valuations — seem slim. On the other side of the ledger, we have Apple (NASDAQ:AAPL) and IBM (NYSE:IBM), which have held up well after missing earnings thanks to investors’ continued confidence in their management and business model.

The challenge is to determine in which of the two categories Amazon should be placed.

It might be too early to call Amazon a broken stock, as it held both its long-term trend line and its 200-day moving average on the post-earnings sell-off. From a fundamental standpoint, the 44% sales growth that headlined the report shows AMZN still is in its rapid-growth phase. Still, the days of putting Amazon in the same class as the Apples and Googles of the world appear to be over — at least for now.

Here’s why: After reporting sharply rising costs, Amazon now is a “show-me” stock. And not just any show-me stock, but one that’s still trading at 63 times 2012 estimates and with a PEG of 4.4. With this report now behind us, we enter a long wait-and-see period until the next report in mid-January. In the meantime, Amazon’s sales tax issue again is threatening to make headlines. Holding such a richly valued stock when it has something to prove, and when it has the potential to take a hit from additional negative news flow, is a dicey proposition.

The issue of whether the higher costs will turn into a long-term positive, as they have in the past for Amazon, also is a matter of debate. AMZN is taking a hit on its Kindle Fire tablet, losing money on each sale on the hope that the tablet will provide a higher revenue stream for digital content down the road. Bulls cite the company’s past success in its decisions to take short-term earnings hits for longer-term gains, particularly its investment in distribution infrastructure and its transition from being a bookseller to a broader retail company.

This time, however, the investment is in a product that puts Amazon in direct competition with Apple. This is far from a sure thing, which makes investors less willing to give the stock the benefit of the doubt with valuations still in the stratosphere.

Further, the next earnings report will include the holiday sales results of the Kindle Fire. If the product indeed proves to be a hot gift idea at the fire-sale price of $199, and the company is losing $50 on each sale, the outlook remains cloudy as to how bad the next report might be.

Finally, the company is in a box in the sense that it must choose between cutting costs — and thereby reducing investment in future growth initiatives — or raising prices. As we saw with Netflix and Bank of America (NYSE:BAC), the latter course isn’t going over well in the current economic environment.

With Amazon’s valuation still so high, these factors point to a stock that is broken — at least for the time being. Given the uncertainty that now hangs over its shares, AMZN looks like a stock to avoid in the three-month waiting period until its next earnings report.

As of this writing, Daniel Putnam did not own a position in any of the aforementioned stocks.


Article printed from InvestorPlace Media, https://investorplace.com/2011/10/is-amazon-amzn-a-broken-stock-tech-stocks/.

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