Enterprises are increasingly relying on data to drive business decisions. One of the most critical components of data synthesis and aggregation is cloud computing, a form of server virtualization to deliver infrastructure-as-a-service (IaaS). Instead of investing heavily into capital expenditures in the form of physical servers, cloud providers allow customers more scalability because enterprises are essentially outsourcing active management of data aggregation and server maintenance. According to Gartner, the public cloud market is dominated by Amazon (AMZN -1.14%), Microsoft (MSFT -1.84%), and Alphabet (GOOG 0.37%) (GOOGL 0.35%), and Amazon is emerging as the leader. Does that positioning merit an investment in the web giant right now?
AWS has proven tough to beat
Through the first nine months of 2021, Amazon's cloud segment, Amazon Web Services (AWS), generated $44.4 billion of revenue while operating at a 30% margin. For one point of comparison, Google Cloud contributed $13.7 billion of revenue for the first nine months of 2021 and is unprofitable, as it reported a loss of $2.2 billion.
What's even more staggering is the pace of AWS's growth. During Q3 2021, AWS generated $16.1 billion of revenue, which represented 39% year-over-year growth. Investors can see that the quarterly operating income of $4.9 billion for the AWS segment was more than Amazon's entire business combined. Amazon Web Services is arguably becoming the most important pillar of the company's ecosystem.
Despite the impressive growth of AWS and the operating leverage it's providing Amazon's business, investors may find it curious that Amazon stock has remained relatively flat over the last 12 months. Competing cloud providers Microsoft and Google witnessed 42% and 52% stock price increases over the last 12 months, compared to Amazon's 0.10%.
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Ambitions beyond the cloud
Amazon has been able to reinvest the profits from its cloud business into other segments, as the company works to differentiate itself from other technology behemoths. One area that is quickly becoming an important crux of Amazon's business is digital advertising.
According to eMarketer, Amazon is expected to comprise 10.7% of the U.S. digital ad market in 2021 and grow to 12.8% by 2023. Although the uptick has been bolstered by increasing consumer reliance on digital shopping during the pandemic, one could argue that this theme will stick because Amazon's platform makes it more time-efficient and cost-effective for consumers to make purchases online versus going to a physical retail location.
The boom on the digital ad side of its business could serve as another lucrative catalyst for the company as it gains market share from Google and Meta Platforms. On the contrary, eMarketer predicts that Google's digital ad business in the U.S. is expected to decrease from 28.9% in 2020 to 26.6% in 2023.
Amazon is well-positioned to benefit from enterprise investment in digital transformation. As the company gains market share over its competition, AWS's capital efficient margin profile will continue fueling additional growth drivers as the company looks to enter new industries.
When in doubt, zoom out
Investors and Wall Street analysts kept a close eye on Amazon during 2021 as the company significantly increased its operating expenses to combat pandemic-driven supply chain speed bumps. The effects of these increased expenses were most apparent in the company's Q3 2021 financials. For the quarter ended Sept. 30, 2021, Amazon reported operating margins of 1.3% and -3% for its North American and International e-commerce segments, respectively.
During times of economic uncertainty, it is important for investors to zoom out and look at the larger picture. Microsoft, Google, and Amazon all appear to be compelling investments, especially given many growth and technology stocks witnessed significant sell-offs during the final months of 2021 due to lingering concerns over inflation. Although Amazon's overall profitability profile has taken a hit due to challenges on the e-commerce side of the business, it could be argued that this is primarily a function of short-term headwinds related to wage inflation and supply chain. The growth in AWS has allowed the company to combat these near-term challenges given the strong operating profits it produces. Moreover, Amazon is able to reinvest some of these profits into other areas such as digital market, entertainment, and consumer electronics.
Amazon's business appears far more prolific than its competitors who are heavily reliant on singular products, namely hardware devices and advertising, which are also markets that Amazon competes in. As the company trades for three times trailing 12-month sales compared to Microsoft's 15 times and Alphabet's eight times, now may be a unique time for investors to consider Amazon before its next bull run.
