Amazon’s (NASDAQ:AMZN) stock has fallen nearly 10% in the wake of yesterday’s after-hours Q4 2013 earnings announcement, suggesting that investors were anticipating higher growth. In the third quarter of 2013, the company posted 25% growth globally which raised the market’s expectations for the holiday season. However, its revenues increased by only 20% in the fourth quarter as the international business slowed down. Although this is still healthy growth, it is slightly at odds with the trend we saw during the first nine months of 2013. We believe that Amazon may witness a slight slowdown in 2014, which may compel management to think about ways of improving the bottomline. In this regard, the company stated that it is already contemplating an increase in the subscription fee of its Amazon Prime service. Let’s take a closer look at these developments and what they mean for Amazon.
We are currently reviewing our price estimate for Amazon in the light of recent earnings, and will have an update ready soon. Our current price estimate for the company stands at $338, implying a discount of about 15% to the market.
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Revenue Growth Slowed Down, Margins Improved
Amazon’s net sales jumped 20% amounting to $25.59 billion in the fourth quarter of 2013.  However, the growth came in lower than that for the first nine months of the year. Can this be taken as a warning sign that the retail behemoth’s business will slow down in the coming quarters? Amazon didn’t provide specific color on why the growth declined, and dodged the question by emphasizing that year-over-year growth was still better when compared to the fourth quarter of 2012, and that North America saw some acceleration sequentially. The answer lies in how international business trended this quarter. Compared to 26% growth in North America, Amazon saw its international revenues increase by only 13%, which can be blamed on lackluster growth in media revenues.  As the company expands in emerging markets, it is likely to realize that digital sales and e-commerce are still in early stages, and year-over-year growth may not be as high as it may have initially expected.
However, operating profits grew faster than the overall revenues, producing margin improvement. One of the risks that Amazon’s stock has entailed for a long time is the company’s low EBITDA margin, which makes it vulnerable to price fluctuations, supply chain disruptions and competition. However, the retailer has successfully pushed its web and cloud services in recent quarters, which is a very high margin business and will aid its profits going forward.
Amazon Prime Service May Become Costlier
Amazon is contemplating increasing the price of its Amazon Prime service by 25% to 50% citing increased shipping costs as the reason.  The company mentions that it hasn’t resorted to any price increase since the launch of the service even though fuel and shipping expenses have gone up. We looked at how the net shipping costs have trended over the last 6 years and it seems that there is no pressing need for such price increase. Although the cost as percentage of revenue went up notably between 2008 and 2011, it came down in 2012 and remained stable in 2013. While the price increment may not be absolutely necessary, it may turn out to be a smart decision provided the transition is handled carefully.
Prime customers tend to buy twice as much as the regular customers and overall accounted for 10% of the purchases in 2012.  The attractiveness of the service has increased over the years as bulk purchases imply higher savings, and the fact that Amazon has invested significantly in the streaming content will only draw more customers. This suggests that they may be willing to pay additional premium to continue enjoying the privilege of free shipping and online video. The company added another 7,000 titles to its streaming library in 2013 taking the total selection to close to 40,000. That’s still behind what Netflix offers but combined with free shipping, it makes for a pretty compelling service. Additional revenues due to price increase will be directly additive to Amazon’s margins, which is one of the key risks to the retailer’s stock.Notes:
- Amazon’s SEC Filings [↩] [↩]
- Amazon’s Q4 2013 Earnings Transcript [↩]
- Amazon Has An Estimated 10 Million Members For Its Surprisingly Profitable Prime Club, Business Insider, Mar 12 2013 [↩]