Amazon (NASDAQ:AMZN) has shown its prowess by building a new revenue generating segment in a very short time. The smart speaker segment was developed by AMZN. The company has been able to grow its market dominance despite the entry of new competitors. The growth trajectory of this segment and Amazon’s leadership should help the bullish sentiment towards Amazon stock.

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The recent CIRP report mentions that the smart speaker installed base has expanded from 36 million to 66 million in the last year. Currently, Amazon Echo has market share of 70%, Alphabet‘s (NASDAQ:GOOGL) Google Home has 24% and Apple’s (NASDAQ:AAPL)HomePod has 6%. 

The report also mentions the growing trend of multiple smart speaker within a single household. There is also a high degree of brand loyalty which should allow Amazon to improve its market share while the overall market size increases. As the market saturates, Amazon could move towards higher priced products.

This is a mini “iPhone moment” for Amazon. The company will be able to report rapid growth in revenue and bottom line as new devices are added to the smart home portfolio. Investors should look at the long term potential of this segment to gauge the growth possibility in Amazon’s stock.

Explosive Growth

The last few quarters have seen tremendous growth within the smart speaker market. Customers seem to be attracted to this new device with increasing usage for various queries, shopping as well as listening to music and video. This segment was practically started by Amazon.

Reports have suggested that the company was working on smart speakers as early as 2010 in its Lab126. Hence, it is not a surprise that Amazon has been able to keep its momentum in this segment by launching new devices which are useful for customers.

Fig: Increase in smart speaker market over the last few quarters. Source: CIRP

Fig: More customers are choosing multiple speakers for their homes. Source: CIRP

In the last year, the installed base has increased by 83%. One of the reasons for this growth is that customers are opting for multiple devices within the same household to give better coverage in different parts of the house.

This trend has increased the total addressable market size for this device. Instead of looking at only 125 million households in US, Amazon can try to have multiple devices per households.

It should be noted that Amazon Echo had a slight disadvantage in this market compared to its competitor Google Home which has a much better search algorithm due to its core search platform. However, Amazon Echo has been to negate this disadvantage by offering better Alexa options and also seamlessly linking the Echo with Amazon’s retail operation.

The ability to maintain segment leadership while competing against giants like Google and Apple is highly favorable for Amazon stock.

Impact on Top Line 

We can see from CIRP’s chart that the installed base of Amazon’s smart speaker has increased by 20 million in the last one year. Assuming an average selling price of $60, the top line contribution of Echo devices would be $1.2 billion.

Amazon has also launched these devices in almost all the international markets where it has a presence. These markets should also provide good contribution to overall sales.

As the market continues to expand, the incremental sales of Echo products could easily increase to over 50 million annually. Further increase in ASP of these echo devices to $100 should add incremental revenue of $5 billion from the domestic market alone.

After adding the sales from international market and addition of new devices to this segment, Amazon should be in a position to report $10 billion worth of sales by FY 2021 from this segment. This would be a big boost to the top line of the company which is showing signs of a slowdown.

Bottom Line and Amazon Stock

However, the bigger impact of Echo sales would be on the bottom line. There is already a trend towards more premium smart speaker products. Both Amazon and Google have launched their premium smart speakers. Amazon’s Echo Plus is available for $150, Echo Show is priced at $230 while Google Home Max has a price of $350.

After saturating the lower tier we should see both Amazon and Google increase the pricing in the next generation of these devices. An iPhone-like margin is still far away, but a gradual increase in prices should certainly improve the margins of these devices. Rapidly increasing revenue base and margins from smart home devices should help in growth of EPS and drive Amazon stock higher.

Improvement in the ecosystem should also make these devices a must-have product. This ends up increasing the pricing power of Amazon. Echo owners also shop more on Amazon due to the seamless integration of its ecommerce platform with Echo.

This reduces the price comparison which shoppers do before making a purchase. Hence, a growing number of Echo users who shop on Amazon should give the company greater pricing power for the goods sold on its platform. We should see better margins and operating income in Amazon’s ecommerce segment due to this trend.

Investor Takeaway

Amazon’s Echo sales are growing rapidly. The company holds market leadership in a segment which is growing in domestic as well as international markets. We should see more premium products in this segment in the next few years. This will improve the margins and revenue for Amazon.

Echo devices also improves Amazon’s ecosystem which should allow the company to launch new smart home devices and new services.

Wall Street is concerned about slowing sales momentum in the company which has impacted Amazon stock. But the company should be able to deliver new revenue streams through the growth of new devices in smart home segment. Overall improvement in margins will also improve the bullish sentiment around Amazon stock. I have a strong buy rating for the company.