On the surface, it may not seem like the time to buy Amazon.com (AMZN 0.03%). Interest rates are set to rise, so "expensive" stocks in technology are being tossed out by investors for cheaper value stocks. Amazon also "looks" expensive to the untrained eye, at around 52 times 2022 earnings estimates.
As the pandemic recedes, some may also worry customers will flock back to stores and away from Amazon's e-commerce business. Investors got a taste of this last quarter, as Amazon's first-party e-commerce sales actually fell 1% compared to the pandemic-driven 2020. Overall company sales growth slowed to just 9%.
Yet despite these headwinds, now may be the perfect time to buy Amazon, for a very specific reason.
Image source: Getty Images.
The first share buybacks in a decade
When a company repurchases its stock, it uses corporate cash to lower its share count, thereby increasing the remaining shareholders' ownership of the company. Notably, Warren Buffett loves companies that buy back their own stock. However, much of that depends on the price paid. If a company repurchases shares at high prices, it can destroy value. But repurchasing shares below their intrinsic value can be tremendously value-additive over time.
In its recently filed annual report, Amazon disclosed that between January 1 and February 2, the company repurchased 0.5 million shares for $1.3 billion. That detail may seem insignificant to some; after all, Amazon is a $1.5 trillion market cap company, so $1.3 billion amounts to a little less than 0.1% of its overall shares.
Still, that detail could be significant; it's the first time Amazon has repurchased its stock in a decade.
The last time Amazon repurchased stock was the late 2011-early 2012 period, repurchasing about $277 million in November 2011 and $960 million in early 2012. As you can see, these repurchases coincided with a 25% decline in Amazon shares in the second half of 2011, before a recovery in the second half of 2012:
Fast-forward to today, and Amazon shares are nearly 20% off all-time highs set back last summer, and they were down about 25% at one point in January:
AMZN Percent Off All-Time High data by YCharts
Zooming out, and you can see that shares have basically done nothing since the summer of 2020, after the pandemic ushered in boom times for Amazon's e-commerce business.
Why is management buying back shares now?
It's an interesting question. Likely, there are two reasons for the share repurchases; one, that management believes shares are undervalued, and two, that the company may be in for a cash windfall this year.
Why might Amazon be in for a cash windfall? Because it's coming off of an absolutely massive investment cycle necessitated by the pandemic. After spending $16.8 billion in capital expenditures in 2019, Amazon invested $40.1 billion in capital expenditures in 2020 and a whopping $61 billion in capex in 2021.
During that time, Amazon more doubled its fulfillment capacity to catch up with pandemic-era demand and bring delivery times down to same-day, down from its previous policy of two days. The company has also been buying more planes to fulfill demand without having to depend on third parties for shipping. Amazon has also more than doubled its workforce since the beginning of 2020, from 800,000 to over 1.6 million employees by the end of 2021.
That investment in its business has come at a huge cost. Though revenue rose 21.7% in 2021, operating income only rose 8.6%, and free cash flow went into the red, with a $15 billion cash burn last year, compared with $26 billion in free cash flow in 2020.
But those trends could reverse in a big way this year
With demand for e-commerce normalizing, Amazon is also likely to let up on its massive investment cycle. Sure, the company will likely continue to grow expenses, but not at nearly the same pace as the last two years.
Meanwhile, its high-profit Amazon Web Services cloud computing platform is actually accelerating, up 40% last quarter, and Amazon's growing advertising business, which is also likely high-margin, grew 33% last quarter on top of difficult comparisons. Management also just raised the price of Amazon Prime subscriptions from $119 to $139, which will cause billions more to fall to the bottom line in 2022.
With the capital-intensive e-commerce business coming off a massive investment cycle, and high-margin AWS and ad revenues making up more and more of the business, Amazon's cash flow stands to inflect higher this year. That could lead investors to warm to the stock again.
Oh, and by the way, the 2011-2012 era was just when Amazon Web Services was beginning to take off. Not many investors knew how big it would become at the time, but management did. With so much experimentation going on at Amazon, maybe there is an emerging large business inside Amazon that investors don't know about yet. The checkout-less Amazon Go stores are one candidate, but there could be others.
Based on history, it's generally been good policy to follow management's lead; shares are up over 1,400% since the last stock repurchase, even after the recent sell-off.
