There are fewer than 30 U.S. companies that currently trade with a valuation of $150 billion or more. So when Evercore said it believes Amazon's (NASDAQ:AMZN) cloud computing business, Amazon Web Services (AWS), is worth $150 billion, it grabbed my attention.
AWS' biggest competitors, Google and Azure, are also parts of highly valued companies -- Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) and Microsoft (NASDAQ:MSFT), respectively -- which makes it difficult to compare the value of their cloud units. However, Amazon did start breaking out AWS results last year, providing investors a glimpse into its operations. Let's look at those results and consider Evercore's argument for why AWS deserves a $150 billion price tag.
The biggest growth driver for Amazon
AWS is the biggest growth driver for Amazon's operating profits. In 2015, the segment generated $7.88 billion in revenue and $1.86 billion in operating income. Those numbers represent year-over-year growth of 70% and 182%, respectively. That operating profit accounted for 83% of the company total and 59% of its total operating income growth. That's astonishing, considering AWS accounted for just over 7% of the top line.
What's more, there's plenty of growth still in store for AWS. IT markets research company IDC forecasts that the overall public cloud computing market will double from 2015 to 2019, reaching $141 billion. Infrastructure and platform as a service, the areas where Amazon operates, are expected to grow even faster than the overall market. While e-commerce is also expected to grow rapidly over the next five years, cloud computing is going to have the biggest impact on Amazon's results during that period in an impressive combination of strong potential for revenue growth, higher operating margins, and the fact that it already makes up the vast majority of operating income for the company.
But both Google and Microsoft are working hard to cut into AWS' lead in cloud computing. Google CEO Sundar Pichai told analysts during the company's fourth quarter earnings call that Google "plan[s] to invest significantly in 2016" in its cloud business. However, Evercore's analysts don't think Google can invest enough to catch up to Amazon anytime soon.
Google as the underdog?
Evercore contends that AWS' lead in cloud computing is "prohibitive" as "Amazon's level of investment and geographic scale is conservatively nearly five times that of our current Google estimate, looking at just the last two years, and many times that of other providers," the analysts wrote. Additionally, AWS' growing portfolio of services develops a flywheel effect, where customers sign up for a core infrastructure product and then branch out to its platform-as-a-service offerings.
In other words, Amazon's position as the current market leader will enable it to remain the market leader. It has more revenue to reinvest in the business and a bigger customer base to upsell its services. Google, in particular, is lacking investment in a sales team, notes Evercore, despite its splashy contracts with big names such as Spotify, Snapchat, and Apple.
Microsoft, meanwhile, is seeing a large portion of its cloud sales come from Office 365, its software-as-a-service solution. Azure is still growing rapidly, but it's still far behind AWS by industry estimates. A big focus of Windows 10 is to integrate Azure cloud services into the OS. System backup, device monitoring, and the Windows single sign-on system all rely on Azure. Microsoft is betting that Windows 10 adoption with enterprise customers will spur Azure adoption down the road. The jury is still out.
All things considered, though, there's very little competitive risk to Amazon's position in cloud computing considering its existing market share and ability to reinvest in the business. That led Evercore to increase its revenue growth estimates for AWS to 50% this year and 44% next year and to put a $150 billion price tag on the business, or 38% of the total valuation (based on current price targets) for Amazon. Considering the solid moat and the huge growth potential of the industry in general, it's hard to argue.