Amazon.com, Inc. reported earnings last week and caught investors off-guard. In a seemingly rare move, the company missed revenue estimates, sinking the stock on Friday. Amazon shares closed down 7.6%, erasing nearly $120 billion of market value.
However, the real shock came when Amazon voiced its expectations of much slower sales growth in the third quarter of 2021. Gross revenues are expected to grow 10% to 16% next quarter. On the surface, that sounds great, but it's a clear slowdown indicating that perhaps the pandemic tailwind is over. Quarter-over-quarter and year-over-year comps will be difficult to beat now that people are trying to return to normal.
The Earning report shows:
During the three-month period ended June 30, the company reported a profit of $7.78 billion, or $15.12 per share, compared with $5.24 billion, or $10.30 a share, during the year-ago period. Revenue jumped 27% to $113.08 billion.
Analysts surveyed by FactSet on average expected $115.42 billion in quarterly revenue and per-share earnings of $12.28.
Amazon said that revenue will be in the range of $106 billion to $112 billion for the third quarter. Analysts were looking for $119.3 billion.
The Sequelae of Pandemic
Amazon is one of the few retailers that has prospered during the pandemic. As physical stores selling non-essential goods like clothing temporarily or permanently closed, people stuck at home turned to Amazon for everything from groceries tp cleaning supplies.
Chief Financial Officer Brian Olsavsky said the slowdown in sales growth is a result of the company lapping against last year’s huge pandemic-induced COVID-19 shopping binges. The slowdown also reflects that people, particularly in Europe and the U.S., are more mobile and are doing other things besides shopping online, he added.
Olsavsky noted that Amazon's revenue growth rate had hovered around 20% before the pandemic and then surged to 40% for much of the last year. By mid-May of this year, as it lapped that strong growth period and its customers began to return to their pre-pandemic routines, revenue growth fell to the mid-teens, which explains the third-quarter guidance at the same pace.
Olsavsky also warned that that pattern would continue for the next few quarters due to difficult comparisons. Beyond that, however, there's another challenge facing Amazon.
Amazon brought in $386 billion in revenue last year, and analysts expect the company to do close to $500 billion in revenue this year. Maintaining its 20% growth rate at that level will be a difficult feat.
Growth rates tend to slow down as businesses get bigger, a rule of thumb known as the law of large numbers, and growing 20% from a $500 billion base would mean adding another $100 billion in revenue in just a year. Amazon did manage to do that last year with the help of the pandemic, but fewer than 30 companies in the U.S. generate that much in revenue annually.
Currently, Amazon is the biggest company in the world by revenue behind only Walmart, and it could pass the retail giant as soon as next year. At $500 billion, Amazon will claim 2% of the roughly $25 trillion in retail sales in the world. Eventually, its growth rate will slow, though it's a testament to the company's business strategy and customer-centric approach that it's been able to grow so much so fast.
The New Hope
Even if Amazon's revenue growth falls under 20%, the stock story is shifting to profit growth. After it operated near break-even for much of its history, Amazon's high-margin businesses like Amazon Web Services, third-party marketplace, and advertising are delivering huge gains on the bottom line. Sales for the cloud unit totaled $14.8 billion in the second quarter, a 37% increase from a year earlier.
Amazon has also become a dominant force in advertising behind Google and Facebook Inc. The company’s ad unit, which has been expanding at a high double-digit clip. grew 87% year-over-year in the second quarter.
Its profits will ultimately determine the stock's value, and its profit growth should remain strong, given the momentum in those high-margin businesses. If earnings per share continue to surge, the stock will follow suit as the price-to-earnings ratio has already fallen under 60.
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