This slogan could eventually refer to Amazon's earnings. Source: Amazon
While Amazon.com's (AMZN 1.30%) formidable online retailing operations may receive the majority of coverage, perhaps its host of web and cloud-based solutions, Amazon Web Services, may be the most exciting opportunity for the company as an investment going forward.
After years of keeping results close to the vest, this fiscal year Amazon decided to separately list the financials for Amazon Web Services (AWS) and the results surprised analysts and pleased investors. According to the company's first-quarter conference call in April, AWS grew 49% on a year-over-year basis, recording $1.57 billion in revenue that quarter. Later, CEO Jeff Bezos said AWS was a "$5 billion business and still going fast -- in fact it's accelerating."
Fast-forward to this month, and it seems Bezos was true to his word. At its Re:Invent conference, a company representative disclosed AWS is now on pace for a run rate of $7.3 billion -- up 81% year over year -- and now boasts 1 million business customers. While this seems like a nice complement to the core business, it could be the most-important driver for future returns.
A footnote to revenue, but investors don't pay for revenue -- do they?
For those familiar with Amazon, $7.3 billion in revenue may seem inconsequential in the entire scheme of things, as the company recorded nearly $96 billion over the last four reported quarters, AWS inclusive. In addition, Amazon's core retailing businesses are still growing as net sales increased 17% over last year's corresponding period during the first half of 2015. But, as many Amazon bears incessantly remind us, investors pay for earnings or the future prospect thereof.
And when it comes to converting revenue to earnings, retail is among one of the tougher businesses there is. Unlike manufacturing a product with different features and strategies, the shopping experience is mostly commoditized with price and convenience being the true differentiators. Amazon was able to excel at the latter, as online shopping adds a feature of convenience, but hasn't been able to parlay that advantage to earnings.
For a comparison, Amazon's combined retailing operations (domestic and international) reported a segment operating income margin of 2.7% over the past six months, whereas Wal-Mart reported a figure of 5%. So although Amazon is focused on growth, versus Wal-Mart's shareholder-focused strategy, it will probably be hard to expand those margins by price increases in the competitive retailing space. It could either lower operational costs, or grow a higher-margin supporting business in order to add to stock gains.
Amazon Web Services is that high-margin business
On a comparative basis, Amazon's Web Services division is that high-margin business. For a visual, see the table below:
| 2015 1H | North America | International | AWS |
|---|---|---|---|
| Net Sales | $27,202 | $15,310 | $3,389 |
| Operating Expenses | $25,982 | $15,405 | $2,734 |
| Operating Income | $1,220 | $(95) | $655 |
| Op-Income Margin | 4.5% | (0.6)% | 19.3% |
Source: Amazon's second-quarter report. Revenue figures in millions.
During the first half of 2015 Amazon's Web Services division -- and its 19% operating income margin profile -- is comparatively high margin versus Amazon's domestic and international retailing operations figures of 4.5% and -0.6%, respectively. This operating income tumbles down the income statement to enrich investors.
At these operating-profit profiles, Amazon only needs to grow its AWS division to $5.83 billion over a half-year -- a run rate of $11.7 billion per year -- to double the operating profit its total retailing division booked. If Amazon continues to grow its Amazon Web Services at the same clip as it has been, retailing could become a supporting business -- at least from a financial standpoint -- to AWS.
