It’s Time to Reexamine the Core Strengths of Amazon Stock

A few years ago, any discussion of retail stocks usually involved the demise of brick-and-mortar retail at the hands of mighty ecommerce king, Amazon (NASDAQ:AMZN). Although Amazon continues to reign in this area (it has roughly a 38% share of this market according to a report from Bernstein), its strength in retail is lagging. We’re seeing rising competition from Shopify (NYSE:SHOP), Target (NYSE:TGT) and Walmart (NYSE:WMT).

AMZN Stock: It's Time to Reexamine the Core Strengths of Amazon

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Add to that the company’s recent struggles to maintain dominance in the cloud space (it lost a major government deal to Microsoft (NASDAQ:MSFT) to use its AWS cloud platform), and it’s clear that some of the past investment theses around Amazon stock are losing their luster.

Accordingly, it’s time to start looking at the future of Amazon stock a bit differently. It’s certainly not Armageddon for the all-star stock, but we need to understand some of the new directions it’s headed in before considering it a worthy investment again.

But first, let’s dive a little deeper into why some of the old bullish arguments for Amazon — its dominance in retail and cloud — are fading. Then we can examine its promising, “new” direction.

Key Changes to the Bullish Case for Amazon

As mentioned earlier, one of the key points behind the bullish thesis for Amazon a few years ago was its dominance in retail. While the company certainly maintains leadership in this area (it’s “roughly 6x bigger than eBay, the #2 player” in the space, according to Bernstein), it’s starting to demonstrate its limitations. As Bernstein asserts, although Amazon “increased its market share from 36.5% in 2018 to 37.7% in 2019 … investors can find better eCommerce growth elsewhere.”

The research firm cites several reasons for this assessment. One of those is that the primary areas for future ecommerce growth are not areas that Amazon specializes in. For example, one of the key areas where Amazon struggles in online retail is fashion. In fact, according to Business Insider, after analyzing “the top 30 brands listed on Amazon’s dedicated fashion vertical … [Coresight Research] found that unbranded products were the most listed items on the site.”

Regardless of whether or not you’re a fan of high-quality clothing, this finding is important because it highlights Amazon’s difficulty to establish itself as a “fashion destination,” something it strives to be and one of the main areas for ecommerce growth cited in the Bernstein report.

Add to this the fact that the company is also struggling to battle with the adjustments its rivals have made in reaction to its initial rise in the retail space, and it’s clearer why retail dominance is becoming less of a direct reason to buy Amazon stock.

“For now we’re seeing more rapid share gains at big box retailers like Walmart and Target where eCommerce growth topped 40% and 30% in recent quarters, respectively — a 2.5x faster growth rate than what we forecast for both AMZN’s US GMV and overall eCommerce,” Bernstein states. “Elsewhere, Shopify … is an emerging competitor, with rapid GMV expansion of ~50% and a growing logistics operation.”

While Amazon’s competition in retail is adapting to the initial challenges presented by its quick rise to power, newcomers like Shopify are coming to diminish Amazon’s chances for growth in niche areas where it needs to expand for continued development in the space.

Amazon will certainly continue to be a big player in online retail (if not the biggest), but massive growth in the space is no longer a key catalyst for the company.

Darker Clouds for Amazon Ahead?

The challenges to the old Amazon stock thesis don’t end with retail. As mentioned earlier, Amazon is also struggling to maintain power with its AWS cloud service.

Perhaps the greatest (and most recent) evidence of this struggle is the fact that it recently lost out on a $10 billion deal with the U.S. Department of Defense, which chose Microsoft’s Azure cloud platform over AWS.

Furthermore, some analysts cite the “paranoia” of working with AWS as another potential challenge the company’s cloud service will face in the years ahead. Specifically, RBC Capital Markets Managing Director Alex Zukin believes that Microsoft can easily exploit certain weaknesses in Amazon’s reputation that will help it leach market share and diminish AWS’ growth prospects, which are already dwindling.

According to Zukin, “There’s the perception that Amazon has access to all your data and owns all your data … That perception does sometimes get in the way of signing large long term strategic engagement in some industries that Amazon is particularly competitive with.”

Another aspect to this paranoia is from its direct competitors, like Walmart, which use Azure rather than AWS.

Ultimately, Zukin asserts that the issue Amazon faces here is less about losing current AWS customers (of which there are many) and more so questioning from prospective customers. The more bad press Amazon gets and the stronger Microsoft’s Azure appears as an alternative, the more likely it is customers might look past its leadership position. Thus, the case to buy Amazon stock based on its kingship in the cloud might have run its course.

Or, at the very least, it’s on its way to losing significance in the minds of prospective investors.

The Bernstein report articulates this point further with the key finding that while AWS will undoubtedly continue to grow, it’s “coming up against the law of large numbers and tougher competition … [which will cause] growth to slow to 20-30% in 2020/21 from 30-40%.”

Accessing the Future of Amazon Stock

According to Bernstein, each of Amazon’s primary internet revenue pools — digital advertising, ecommerce and cloud — demonstrate continued strength potential for the next few years. Although digital advertising is the most mature of these revenue pools, the analysts believe “digital advertising has enough growth available over the next five years to be attractive for investors.” In fact, all of these revenue streams are inching toward maturity, but even so, Amazon is set to continue to reap the rewards of developments in these areas.

However, the key point to examine with Amazon stock now is less the company’s size and bandwidth and more how it aims to take advantage of its leadership positions. Analysts at Bernstein cite the key prospect for Amazon’s growth as now being digital advertising, which it expects to “grow … at 31% CAGR, crossing $30B by 2023.”

Although Bernstein doesn’t completely dismiss the strength of the company’s retail and cloud prospects, it’s much more bullish on the future of its advertising potential.

In fact, the analysts compare the potential of this catalyst to its prior potential with AWS: “Fast-growing and high-margin, it’s somewhat reminiscent of where AWS was 5 years ago. We estimate AMZN generated $10.7b in ad revenues in 2019, and we believe the firm can double this by 2021.”

If the analysts are correct, this will work well in tandem with its continued success in ecommerce.

The Bottom Line

Perhaps it’s too soon to say that the old case for Amazon stock no longer has any merit. Clearly, the company will continue to reign in ecommerce and the cloud. But the strength of these catalysts might be overstated now that Amazon’s competition has strengthened significantly.

As such, it’s time for investors to focus on other developments, like digital advertising growth, that might bolster the strength of its already existing foundation in ecommerce or other areas more broadly. And there remain many more avenues for Amazon stock to continue expanding.

Although it might not be a buy at current prices, if the company can continue to add additional layers to the old catalysts while pursuing new avenues for advancement, then it certainly still belongs on your list of promising stocks to watch.

Robert Waldo has been a web editor for InvestorPlace since 2016. As of this writing, he did not hold a position in any of the aforementioned securities.

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