Shares of Amazon (AMZN 1.35%) tumbled nearly 50% in 2022, a far worse performance than that of the broader market. The S&P 500 shed a bit less than 20% of its value last year as pandemic darlings were beaten to a pulp.
One reason for Amazon stock's terrible performance was its incredible performance leading up to this big decline. The stock rocketed 76% higher in 2020, fueled by strong growth for the company's cloud computing business and an unprecedented boom for the e-commerce industry. Amazon stock largely treaded water in 2021, holding on to those gains until last year.
Amazon vastly expanded its e-commerce operations during the first two years of the pandemic to meet demand, and now it has far too much capacity as consumers pull back. The company has closed or cancelled dozens of facilities as it works to bring costs back in line with demand, and it's reportedly reviewing business units that are chronically unprofitable.
At the same time, the cloud business is starting to slow down a bit as businesses look for ways to reduce cloud computing bills. If it turns out that Amazon overbuilt its cloud capacity in the same way it overbuilt its e-commerce capacity, profitability could suffer significantly.
A deep hole
How bad is this situation for Amazon? Here's a chart that should concern investors:
AMZN Free Cash Flow data by YCharts
Amazon reports three separate free cash flow figures, which account for finance leases differently, and the numbers vary by billions of dollars. But the chart shows the trend: a pandemic boom followed by a catastrophic bust.
Amazon's free cash flow soared in the early days of the pandemic, even as the company was pouring cash into expanding its capacity. The stock soared, valued as if this incredible profitability was the new normal and that it would continue to grow rapidly. At one point in 2021, Amazon was valued at more than $1.8 trillion.
The company generated reported free cash flow of $31 billion in 2020, putting the price-to-free cash flow ratio at around 60 when the stock was topping out. Free cash flow less equipment finance leases was closer to $21.4 billion, putting the price-to-free cash flow ratio at 84. Either way, investors were clearly extremely optimistic about Amazon's future.
Amazon's free cash flow generation turned out to be a pandemic anomaly. The retail industry started to go back to normal, and demand started to normalize, leaving Amazon with an unsustainable cost base.
Even with AWS churning out incredible profits, Amazon is now burning through cash at an incredible rate. In the 12 months ended Sept. 30, free cash flow less equipment finance leases was a loss of $21.5 billion. That's a swing of more than $40 billion in the wrong direction.
Don't bet on a comeback
Amazon is working to cut its costs, and it seems likely the company will gut some money-losing initiatives that are weighing down the bottom line. That will help free cash flow recover, but investors shouldn't bank on the stock making a full recovery anytime soon.
Even after Amazon's horrible 2022, the stock still trades right around its pre-pandemic level. Amazon is bigger now, but it also faces more challenges. E-commerce rivals spent the pandemic investing in their own e-commerce operations, chipping away at Amazon's edge; a potential recession next year could put additional pressure on Amazon's e-commerce sales; and cloud computing competitors like Microsoft's Azure are catching up in terms of market share just as customers are pulling back.
How much is Amazon really worth? Who knows? But my guess, at least at the moment, is substantially less than $1.8 trillion.
