Amazon (NASDAQ:AMZN) reported blockbuster fourth-quarter results last week, sending the e-commerce giant's market cap back above $1 trillion. The move higher was fueled by heavy investments in one-day delivery that are already starting to pay off. As usual, the Amazon Web Services (AWS) cloud infrastructure business carried overall profitability, representing two-thirds of the company's total operating income during the quarter.
CFO Brian Olsavsky also disclosed that AWS is about to get even more profitable.
Making servers last longer
On the conference call, Olsavsky noted that Amazon's guidance for the first quarter includes $800 million less in depreciation expenses due to an accounting tweak: Amazon is extending the useful life of its data center servers.
Amazon has historically estimated the useful life of its servers at three years but is now increasing that time frame to four years effective this year. The move follows the completion of a useful life study that Amazon conducted in Q4, the company notes in its 10-K. Changing that estimate is expected to boost operating income in 2020 by a whopping $2.3 billion.
The adjustment does not affect any depreciation that Amazon has already recognized or cash it has already spent, but merely changes how the company accounts for depreciation of those assets going forward. Importantly, this isn't purely an accounting adjustment. Amazon has been working hard to improve the operating efficiency of its cloud infrastructure, and AWS has continued to refine its software in a way that makes its servers last longer by reducing stress on the hardware, Olsavsky added. Those improvements apply to both AWS and the server infrastructure that powers the core e-commerce platform.
"So we are essentially reflecting the fact that we have gotten better at extending the useful life here and [are] now building that into our financials looking forward," the finance chief said. The improvements will also reduce the capital intensity of the AWS business, as Amazon can extend its capital expenditure cycles and increase capital efficiency.
"We expect technology and content costs to grow at a slower rate in 2020 due to an increase in the estimated useful life of our servers, which will impact each of our segments," Amazon states in its annual report.
How depreciation works
When companies invest in long-lived assets, instead of expensing those costs up front, those investments are capitalized and placed on the balance sheet. Management then needs to estimate the useful life of those assets and determine a depreciation method, such as accelerated or straight-line, among others.
For server infrastructure, Amazon uses straight-line depreciation over the estimated useful life; extending the useful life of an asset results in lower depreciation expense per year. With 13 years of experience under its belt, AWS continues to get even stronger as competition in the cloud infrastructure market heats up.