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By howardroark
April 24, 2002

Posts selected for this feature rarely stand alone. They are usually a part of an ongoing thread, and are out of context when presented here. The material should be read in that light. How are these posts selected? Click here to find out and nominate a post yourself!

It's probably poor form to follow up a Yowza with an additional Yowza. The whole whimsically caricatured nature of using the word Yowza in describing a firm's quarterly earnings report kind of loses its frivolity the second time around. And then there's the question of how to top consecutive Yowzas should the hits keep rolling in Q2 without violating TMF's profanity rules. But make no mistake; Q1 is a second consecutive big score for JB and crew.

Maybe the biggest high level take away from this report, from my perspective, is that Amazon's core business model is now profitable on a non-seasonal basis despite that it is charging, on average and including shipping, less than traditional brick and mortar stores. Yay for e-tail economics. This has arguably already been true for the BMV segment alone, but if you were skeptical of the segment reporting, it is now true for the bottom line. Now, the definition of profitability here is somewhat indentured to GAAP, since Amazon has previously spent large amounts of expensed capital on assets that are clearly benefiting current periods, such as unusually high advertising, R&D and "learning curve dollars" mostly in the form of outsized fulfillment costs and distribution center write downs (not to mention option comp). But the model seems a whole lot more viable than it once did. Amazon is plainly convinced that it can offer consumers books and videos and music and electronics cheaper, including shipping, than brick and mortar stores can, and that it can be significantly profitable at those prices. Bezos said on the call that if you are buying a book at a B&M store and you aren't getting much tertiary benefit from the in store experience, then you are flatly wasting money.

To triple digit ROIC?

It's been clear for several quarters that Amazon has reversed trend with its working capital management, and that the Amazon model is flatly superior to even the most efficient B&M retailers. You simply can't turn inventory the way Amazon does and have a storefront. Not if you're Barnes & Noble, not if you're Wal-Mart...probably not even if you're Costco (another player that's not even close? BNBN).

The payables to inventory management, which we've used at times to track working capital efficiency, was 2.26 at Q end. That's a massive improvement from 1.65 in Q1 01 and 1.48 in Q1 00. In fact, it's a substantially better YoY improvement than the impressive numbers from the seasonally favored Q4 01. The full advantage was in inventory turns, as days payable were basically flat year over year.

The Fulfillment Albatross

For the second consecutive quarter, Amazon showed incredible improvements in fulfillment efficiency on only moderate top line growth. Yes, fulfillment as a % of revenue is up sequentially by 80 basis points, but year over year it was down an amazing 340 basis points. Amazon insists that this will continue to improve as international market mature, and as electronics, which have more gross margin dollars per unit shipped, grow as a percentage of revenue (more on this in a bit). It's hard to know how much of this is still fixed and how much is purely variable. Remember that Amazon (unlike BNBN) include credit card fees in fulfillment, so that small but not insignificant portion is mostly variable.

Some Shipping News: On this point, it's interesting that Amazon improved its shipping loss to only -$1 million despite the free shipping offer, indicating perhaps that some efficiency was gained (by virtue of fewer split shipments) from the $99 offer to offset some of the extra free shipping expenses.

As for the other costs, marketing, R&D and G&A were in total down 13.5% YoY while revenue was up 21%, a repeat of last quarter's impressive results. Is there some risk that some of these improvement were generated by sweeping them into the big bath restructuring charges (which had overestimated sublease inflows it turns out) for prior and current quarters? Conceivable, at least at the G&A and R&D lines, but after two quarters of such strong performance it seems unlikely.

The Segments

BNBN non-Fatbrain top line results will be in the spotlight with Amazon able to juice its BMV growth to 8%, the highest since Q4 00. ETK also improved from Q4's very disappointing, but still only grew 8% despite its relative immaturity. But international was the big winner, growing 71% YoY (last Q1 it had only grown 76% YoY) while only losing only $700K more from operations sequentially on $37 million less revenue. Actually, margins in ETK improved even more sequentially, as operating loss only increased by $300K versus Q4 on a $90mm dip in the top line. It looks like International is poised for operating profitability in Q4, and there appears to be an outside chance that every segment is profitable at the operating line in Q4.

Cash

There's $745 million of it, and we are at a seasonal low point in terms of working capital drain (or lack of float). Save a complete implosion, the name Ravi Suria is in the distant past. For the first time in several quarters, no analyst asked any question that was directly or covertly meant as an inquiry into Amazon's liquidity. The improved top line growth, together with the increased top line and bottom line guidance and Amazon's security in reducing its 30% off deal to the $15 book level is enough to make a bondholder smile. That conversion price is still a bit steep, but if you bought at 35% of face, you probably don't care much right now.

An important side note is how important marketplace has become. Amazon has now told us that marketplace has grown to 23% of US total orders (!) and a surprisingly high (to me) 12% of US total units (versus 4% and 2% last year). I'll leave it to the board to dissect the ramifications.

After the last Yowza report, I asked a question that got several affirmative answers, so I repeat the question after Yowza number two.

Does anyone still think that Amazon will be bankrupt in five years?


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