Amazon.com’s revenue machine may be taking a breather. The question is how long the $2 trillion will last.
The e-commerce giant’s market capitalization has remained roughly below that level since its last earnings report two months ago. The report included disappointing operating profit forecasts for the just-ended quarter. That in itself is not unusual. Amazon is typically conservative with its forecasts, but it has missed Wall Street expectations in 16 of its past 20 quarterly reports, according to FactSet data.
But the company’s second-quarter sales growth also fell short, leaving tech investors in general increasingly concerned about the explosion in capital spending on artificial intelligence by Amazon and its big tech rivals. Amazon’s profitability is especially important given that the company’s historically thin-margin retail business has been boosted over the past few years by other businesses such as cloud computing and advertising. Amazon’s annual operating margin from 2010 to 2019 averaged 2.6%. Operating margin for the 12 months to June was 9%.
Wall Street has been hoping that momentum will continue unabated. According to FactSet consensus estimates, Amazon’s operating profit is expected to increase 69% this year and average annual growth rate of 24% over the next three years, which is higher than the company’s expected average revenue over the same period. This is significantly higher than the growth rate of 11%.
But given Amazon’s expanding ambitions, that may be difficult. The most notable of these is Project Kuiper, a low-orbit satellite network designed to provide broadband Internet connectivity to underserved areas of the planet. Amazon announced in early 2022 that it plans to launch up to 83 satellites over five years. Two prototypes are already in orbit, and production satellites are scheduled to launch in early 2025.
Kuiper is the most important program for Amazon founder Jeff Bezos, who is currently traveling in space. Nor is it a sure thing, especially given Elon Musk’s leadership of the Starlink service, which recently launched its 7,000th satellite. Bezos used his last shareholder meeting as chief executive in 2021 to drive home that point. He said: “Can I stand here and tell you that our $10 billion investment in Kuiper will generate a return on invested capital?” I can’t. I believe it will, and we are working hard to make it so. ”
Satellites require large upfront investments before they become profitable. Several analysts believe that Wall Street’s short-term profit forecasts for Amazon don’t fully take this into account. In a recent report, Morgan Stanley’s Brian Nowak cited “tactical risks” to Wall Street’s expectations for Amazon’s fourth-quarter operating profit, due in part to the Kuiper investment. In his memo, Mizuho’s James Lee outlined Wall Street’s goals for Amazon in North America. Segment operating profit in 2025 could face a 6% “downward revision” due to project costs.
Both analysts remain positive on Amazon, rating the stock a “buy.” But Wells Fargo’s Ken Gaulerski went further on Monday, downgrading Amazon to neutral. “In our view, Mr. Kuiper is likely to cap earnings growth in the near term,” he said in a note, adding that other factors, such as increased third-party seller competition from Walmart, are likely to limit revenue growth. He added that this could put pressure on the economy. “While there is still talk of profit growth, the pace of profit growth is likely to be slower than the market expects,” Gaulerski wrote of Amazon.
Morgan Stanley’s Nowak sees near-term risks in Amazon’s focus on increasing its share of “consumer goods” (nonperishable foods, health, beauty and personal care products, etc.). These products typically have low profit margins, but Nowak said capturing more sales in this market is “critical to driving more sustainable long-term sales growth.” added. He expects Amazon to report fourth-quarter operating profit as much as $1.5 billion below Wall Street’s current target.
Amazon is in the midst of internal reforms that could improve its cost structure. In a memo to employees last month, CEO Andy Jassy announced plans to increase the number of direct reports to each manager by at least 15% by the end of March. Some on Wall Street see this as an announcement of stealth layoffs, as the move is likely to thin out the leadership of the company, which currently boasts more than 1.5 million employees. Mr. Jassy used the same memo to require employees to return to the office five days a week, a move that could effectively force out some employees who prefer to stay remote. You might think that launching a fleet of expensive satellites would be the easiest task for Amazon right now.
Email Dan Gallagher at dan.gallagher@wsj.com.
