Amazon (NASDAQ:AMZN) now looks like quite a bargain and you should add it to your Christmas buying list. That is, if you want to give someone a gift that is likely to rise in value over the next year, buy AMZN stock for them now.
For example, Amazon stock peaked at $3,696.06 on Nov. 18 and has taken a tumble ever since then. It finally reached an apparent trough on Dec. 20 at $3,341.58. That represents a peak-to-trough decline of 9.6%.
And granted, the stock has been lower this year. For example, on March 8 it got down to $2,951.95, which was its bottom for the year.
But since then, the company has produced absolutely stellar earnings, including its latest third-quarter earnings report released on Oct. 28. As a result, the company’s prospects going forward look very good, especially in relation to its free cash flow (FCF).
Amazon’s Huge FCF Prospects
For Q3, Amazon reported that its trailing-12 month (TTM) free cash flow (FCF) figure was $2.6 billion. This was well below the TTM FCF figure from a year ago of $29.5 billion.
This is despite the fact that net sales in Q3 were at $110.8 billion, 15% above the $96.1 billion reached in Q3 2020.
In other words, the company experienced a good deal of difficulty in operating costs over the last year. That is probably to be expected, given the travails from Covid-19 and its effect on Amazon’s business.
There is no question that its freight and shipping costs have likely increased dramatically. For example, at the end of the quarterly earnings release, Amazon quantified this increase. It shows that the year-over-year in Q3 was 20%. Since this was higher than the 15% sales gains, it shows that the company’s operating costs have increased significantly.
Moreover, the same happened in prior quarters, with shipping costs up dramatically. For example, shipping costs were up 20% in Q3, 30% in Q2 and 57% in Q1. This goes a long way to explaining why the Q3 TTM free cash flow figures were significantly lower.
Free Cash Flow Going Forward
The $2.5 billion in Q3 TTM FCF represents a paltry margin of 0.55%. Historically, the company has made TTM FCF margins of 8.5% or higher. For example, last year in Sept. 2020, the company made $29.5 billion in TTM FCF on sales of $348 billion.
So, we can probably expect this to be the low in the company’s FCF figures and that AMZN stock already discounts this bad news. Going forward, we could probably conservatively estimate FCF margins will be at least half of its historical 8.5% norm, or 4.25%.
Analysts surveyed by Seeking Alpha estimate 2022 sales will rise 17.7% from $470.23 billion to $553.64 billion. As a result, if we apply our FCF margin estimate of 4.25% to the 2022 estimate, we derive an FCF forecast of $23.5 billion for 2022. That is well over the $2.5 billion it has made in the last 12 months as of Sept. 30.
Moreover, we can use this to value AMZN stock. For example, using a 1% FCF yield metric we can forecast a $2.353 trillion market value. This is the result of dividing $23.5 billion by 0.01.
That $2.35 trillion market cap is higher than today’s $1.69 trillion market cap for Amazon at its Dec. 22 price of $3,420.74. This represents an upside of 39% over today’s market cap and a target price of $4,754.83 per share.
What to Do With AMZN Stock
AMZN stock looks cheap now given its historical FCF yield and a potential 50% gain in its FCF margins. Value investors will look to start acquiring shares.
This is also what a number of other analysts recommend. For example, TipRanks has a survey of 20 analysts that have written on the stock in the last three months. Their average price target is $4,127.50, or 20% over today’s price.
That is lower than my price target, but still a potentially very good return on investment (ROI) for most buyers. The bottom line here is that Amazon’s expected rebound in FCF over the next 12 months will likely push AMZN stock higher. This will be a great gift for anyone who appreciates stocks.
On the date of publication, Mark R. Hake did not hold any position (either directly or indirectly) in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.
