THE MARKET MIDDAY
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Hello? Amazon Wants to Lose Money
Long-term investors have to giggle at Amazon.com's (Nasdaq: AMZN) management. The folks running this e-commerce titan are tough-minded investors with a seemingly Buffett-like time horizon: forever. Yet with Amazon down $24 3/4 to $168 3/4 on warnings of deeper losses to come, the question is whether CEO Jeff Bezos and CFO Joy Covey can continue to convince other investors to buy into their plans.
This sell-off has little to do with Q1 results, which were terrific. Revenues shot up to $294 million, shy of whispered hopes for $300 million but a nifty 16% increase from the $253 million recorded in the seasonally strong Q4 and a 236% gain from Q1 FY98. Excluding acquisition charges, Amazon sustained a $36 million loss, or $0.23 a share, worse than a $10 million loss a year ago, but better than the $0.29 per share loss analysts had expected.
The company added 2.2 million new customers in the quarter, more than the 1.7 million gained in Q4. The cumulative total is now a stunning 8.4 million. Amazon spent $61 million in marketing in the quarter, triple the year-ago level and up from $49 million in Q4. Customer loyalty remained strong, with 66% of orders coming from repeat buyers. Gross margins of 22.1% were flat versus a year ago, but up from 21.1% in Q4. The cash flow dynamics remained awesome, as Amazon ended the quarter with just 18 days of inventories and 2 days of accounts receivable, but 53 days accounts payable. This negative 33 day cash conversion cycle means suppliers continue to fund Amazon's working capital. Of course, after its convertible debt offering, the company is sitting on $1.4 billion in cash.
Amazon's challenge, though, is embodied by this funny quote from Volpe Brown Whelan analyst Derek Brown. "On the one hand, I would like to see a near-term focus on profitability," he told TheStreet.com. "On the other hand... there's a belief that this company is building the retailing franchise of the next century."
Dude, these hands don't belong on the same body! Amazon would knock itself out of the running for world domination if it made money today. If you listen to Covey, you've got to figure Amazon really really really would prefer not to turn a net profit until well into the new millennium -- unless other investors prove just too skeptical to keep Amazon's stock priced as an acquisition currency. If you trust this management team (and you should), bigger losses are arguably good news. They mean management has found more ways to grow the company.
"The opportunity to build a lasting global franchise, this quickly and with so little capital, is one that we cannot pass up," Covey explained in last night's conference call. "A lower investment level would require us to make choices that we feel are contrary to the interests of long-term oriented investors and to our customers. We'd have to give up expansion opportunities; underinvest in our brands, and in new initiatives like auctions; build new capacity in a reactive way that reduced service levels to our customers and end up with a less efficient long-term infrastructure. Or, we'd have to forego the focus and investment in systems and processes that are critical to managing our increasingly large and complex business. None of these choices seems rational to us."
So Amazon plans to be "in investment mode for some time," Covey said, and "it is likely that the greater our success at expanding our business, the greater our investments will be." The company would be investing even more aggressively today were it not for what Bezos calls "executive bandwidth constraint," or the need for more top-notch executive talent. (With Covey moving to chief strategist, the company needs a new CFO and a COO).
What's spooked some investors is that future losses will be "substantially" higher than previous estimates. Operating losses in the future quarters of 1999 could be at least 2.5 times the actual Q1 loss. Covey added that "guidance will be a moving target." Moreover, with no product launches this quarter and the new customers looking a little more mainstream (they don't buy as much as the early adopters), Q2 sales should be below the historical trend.
Some analysts, including Morgan Stanley's influential Mary Meeker, are keeping the faith. "Now is the time for true believers to stand up and be counted," said Credit Suisse First Boston analyst Lise Buyer in a research report this morning reiterating her "Buy" recommendation. I agree. You can believe it or not, but the Amazon story hasn't changed at all.