Here’s Why We Have Changed Our Price Estimate For Amazon’s Stock To $503

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We recently updated our price estimate for Amazon‘s (NASDAQ:AMZN) stock from $360 to $503, representing a significant change of around 40%. This comes on the top of solid earnings reports by Amazon in the past few quarters, which have shown improvement in margins and strong performance in the Amazon Web Services (AWS) business. The key factors underlying our changed price estimate include better outlook in the electronics and general merchandise (EGM) and cloud services businesses, along with sharp rise in the profitability estimates. We expect the increase in Amazon’s gross profit to more than offset the rise in fulfilment, marketing, technology & content, as well as general & administrative expenses in the coming future. This is on account of growing proportion of higher-margin third-party seller business in the overall mix, coupled with execution of efficiency improvement measures. In addition, we have decreased our estimates for capital expenditure requirement (as a % of revenues), as these do not reflect assets that are acquired though capital and finance lease obligations.

See our complete analysis for Amazon

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Here Are The Key Factors That Caused The Wide Change In Our Price Estimate

  • Increased Market Share Outlook In The EGM Business: In view of the recent earnings beat by Amazon, we have raised our market share estimates for Amazon in the electronics and general merchandise (EGM) business for both the U.S. as well as international segments. We now estimate the market share of EGM segment to increase from 12% to 18% in the U.S. and from 2% to around 3% in the international region during 2014 till the end of our forecast horizon (2022). We believe the company’s growth rate will outpace the average e-commerce market rate over the coming years, due to Amazon’s pricing and other competitive advantages (such as the Prime program).
  • Improvement In Profitability Outlook: Though in our previous model, we had forecast Amazon’s EBITDA margins to rise marginally over our forecast period, we now expect them to rise more substantially over our review period. Specifically, we now expect the overall EBITDA margin to rise from 8.4% in 2014 to around 13% over the long-run. This is as the company continues to show improvement in profitability, especially in the North American business. This leads us to believe that Amazon can deliver higher margins in the future, helped by growing proportion of higher-margin third-party seller business and efficiency initiatives. This is also based on the assumption that the company does not spend excessively on its various growth strategies (and takes more measured bets in the future). Moreover, the surprise increase in AWS operating margins, which came in at 21.4% in Q2 2015, as compared to 7.7% in Q2 2014, also buttresses the positive profitability outlook for Amazon. The increased market share outlook in the EGM business, along with improvement in our profitability estimates, were responsible for around 15-20% increase in our price estimate.

  • Enhanced Growth Forecasts In The AWS Segment: Amazon recently saw acceleration in top-line growth within the AWS segment — the revenue growth in year-over-year terms (excluding FX) rose to 81% in Q2 2015 as compared to 49% in Q1 2015. Hence, we raised our top-line estimates in the segment, on the basis of these trends as well as owing to the immense market opportunity in this segment.

  • Reduced Estimates For Capital Expenditure (As A % Of Revenue): Finally, while the capital expenditure is expected to be huge in the AWS segment, the same will be financed majorly through capital and finance leases (which is not included in capex). Hence, we expect capital expenditure as a % of revenue to decrease in the coming years, owing to faster top-line growth and relative maturity in the business model.

Our $503 price estimate for the company’s stock, represents near 5% downside to the current market price.

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