Amazon Beats Q1 Estimates On Robust Cloud Business Growth

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Amazon (NASDAQ:AMZN) reported solid first quarter earnings late last week, with the company’s net revenues increasing 23% year over year (y-o-y) to $35.7 billion, beating Reuters’ consensus estimate of $35.3 billion driven by growth across divisions. Strong operating income growth from Amazon Web Services (AWS) helped the company post earnings growth of 38% y-o-y to $1.48 per share, surpassing market expectations of $1.08 per share. 

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Solid Top Line Growth Across Divisions, Geographies

Amazon’s sales in North America rose 24% to $21 billion in Q1 2017, while International sales were also up 16% to about $11.1 billion. Top line growth across the North America and International segments was driven by robust growth in the Electronics, Merchandise & Others category. AWS, the company’s public cloud division, generated $3.7 billion in revenue in the first quarter, which was up 43% over the same period last year.

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AWS Profitability Lifts Bottom Line

In line with historical trends, AWS contributed 10% of Amazon’s revenues but the majority of its profits in Q1 2017.amzn-49

Amazon’s increasing focus on constantly improving and expanding its AWS business stems from the fact that it contributed 89% of the company’s profits in Q1 2017(offsetting loss in the international marketplace business) and has a considerably higher operating margin than Amazon’s e-commerce business. In Q1 2017, AWS had an operating margin of 24.3% compared to Amazon’s company-wide operating margin of just 2.8%. Also, it was the only business division of the company to improve margins year over year in the last quarter.

International Operations Continue To Struggle For Profits

In the first quarter this year, Amazon’s company-wide operating margin worsened by 90 basis points to 2.8%, owing to a 300 basis point decline in international operating margins partially offset by rising profitability in the AWS (cloud services) business.

The decline in operating margin in the global marketplace business was driven by: 1) rising marketing and selling expenses in international markets, especially India; 2) increased investments in acquiring and licensing digital media content for Prime customers; and 3) increasing warehousing and shipping expenses in North America (26 new fulfillment centers were opened in 2016). These factors were partially offset by gross margin improvements (due to growing third-party business) and marketplace efficiency improvements.

While the company should continue to see improved profitability going forward, Amazon’s margins could witness some pressure in the near term, owing to increased investments in AmazonFresh, Amazon Video (digital media content including movies and series), Amazon Music, Alexa (Amazon’s voice assistant), warehousing and shipping.

Free Cash Flow Growth

One of the most impressive aspects of Amazon’s results in the last 12 months has been its ability to increase free cash flows faster than its top line. Amazon’s trailing twelve month (TTM) free cash flows increased 53% y-o-y in Q1 2017 to $10.2 billion due to a 53% increase in operating cash flows, partially offset by a 51% increase in cash spent in purchasing property and equipment. This should help the company continue to make investments into areas such as shipping services, drone technology, cloud services, and new products such as the Echo.

Q2 2017 Guidance

In the second quarter, Amazon expects overall revenue to grow 16-24% y-o-y to between $35.25 billion and $37.75 billion, and operating income between $425 million and $1.075 billion, compared to $1.3 billion in Q2 2016.

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