Amazon (NASDAQ:AMZN) has taken a 10% dip. After a disappointing earnings release on July 25, Amazon stock has dropped from $1973.82/share to $1,765.13/share.
Despite 20% growth in sales year-over-year, earnings failed to meet consensus. While operating income was within guidance, the company missed consensus earnings per share of $5.54 by $0.32. Despite this short-term stumble, Amazon.com Inc. continues to be a cash-generating machine.
The company’s operating cash flow for the trailing twelve months is up 65% from the prior year. Long-term, Amazon has the dry powder to fund their continued domination of e-commerce (and beyond).
With this in mind, what’s the play with AMZN? Should you buy the dip? Or should investors practice caution, as much of the upside is already priced into shares? Read on to see what is the next move for Amazon stock.
A Closer Look at Amazon Stock
Even as the company reaches more than $250 billion in annual sales, AMZN continues to scale up at a strong clip. With the company dominating the ecommerce space, Amazon is looking for new ways to move the needle.
One of these avenues is the rollout of one-day shipping for Amazon Prime members. This initiative, which is tagged to cost $800 million, is a long-term growth driver. Even though Prime has reached critical mass (100 million members), with one-day delivery households may start to allocate more of their spending to the Amazon platform.
That’s not to say that one-day delivery will be seamless. Building out the infrastructure and developing a defined process takes time. There will be short-term headwinds, perhaps additional short-term stumbles in earnings growth. But Amazon is willing to roll the dice to gain long-term market share.
Another area of upside is the Amazon Web Services (AWS) unit. This unit makes up just $30.2 billion of annual sales, but it generates the majority of the operating income for Amazon. Revenue for the AWS unit is up 37% year-over-year.
Amazon’s international business is another potential growth area. However, this unit is not yet profitable ($601 million quarterly operating loss). Sales growth is not setting the world on fire, either. International sales were up just 12% from the prior year’s quarter, although this current performance could be merely growing pains.
Building out its global infrastructure could pay off big. Amazon could potentially build an overseas unit on par with its North American retail powerhouse.
With all three AMZN segments in mind, there are many ways the company can grow long term. But how much of this is already priced into the stock? Let’s take a look at how the current valuation of Amazon stock stacks up to peers.
Valuation: AMZN Still Pricey
With shares trading at a forward price-to-earnings (Forward P/E) ratio of 74.5, high expectations continued to be priced into Amazon stock. The company’s Enterprise Value/EBITDA (EV/EBITDA) ratio of 27.3 is in line with other ecommerce powerhouses such as Alibaba (NYSE:BABA), which trades at an EV/EBITDA ratio of 27.7. However, Amazon’s valuation is a substantial premium to traditional retailers such as Walmart (NYSE:WMT), which trades at an EV/EBITDA ratio of 11.5.
Of course, comparing Amazon.com Inc. to Wal-Mart is not apples-to-apples. Despite Wal-Mart building an ecommerce infrastructure of its own, Walmart remains tied to the declining brick-and-mortar space. But does the presumed ascendancy of AMZN justify the current valuation? Or could shares tumble if growth does not meet expectations?
While Amazon has locked up nearly half of all online sales, they only have a market share of 5% of all retail sales. This leaves plenty of room for Amazon to sustain growth, perhaps dwarfing Wal-Mart’s $515.6 billion in annual sales within a few years. With this in mind, the current valuation of Amazon stock may be justified.
Bottom Line: The Amazon Story Isn’t Over
The ecommerce revolution is far from over. There are plenty of “real life” sales that have yet to move online. With Amazon’s retail market share at just 5%, there is plenty of room for the company to grow. But at the current valuation, are investors paying too high a premium to ride this wave?
While the company’s valuation is pricey, AMZN stock could grow into this valuation. Future performance may not be on par with prior years, but the stock may provide a substantial return for investors entering a position today.
Does this make Amazon stock a buy? For growth investors playing the long game, AMZN is a solid opportunity. But if Amazon continues to favor long-term growth investments over short-term earnings beats, shares may see an additional downside.
This may not make AMZN a strong idea for short-term investors, but long-term holders could seize the opportunity to enter the stock at a more favorable entry point.
As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.
