Wall Street is highly bullish on Amazon (AMZN 0.81%) stock right now. Heading into the company's huge Prime Day promotion, shares are up 50% in 2023, compared to just a 10% increase in the S&P 500.
There are some good reasons for this rally, including Amazon's strong positioning in attractive global markets like e-commerce and cloud computing. On the other hand, the company hasn't been impressing investors with strong profits in recent years.
Yet, the good outweighs the bad with this growth stock right now. Here are three reasons why.
1. Two big markets
Sales were up 11% in the most recent quarter, or roughly on par with the Q2 growth that investors saw with Microsoft, another big player in the cloud services space. Amazon's e-commerce business has returned to growth, rising to $116 billion in the first half of the year from $113 billion a year earlier.
This segment has a bright long-term outlook as e-commerce spending returns to more normal growth patterns. That niche has steadily accounted for an increasing share of overall retail revenue in the past few decades, and there's a long runway for that expansion to continue.
The services segment, anchored by Amazon's web services platform, is doing even better. Sales there are up by $20 billion so far in 2023 and account for 56% of Amazon's $262 billion of overall revenue in the first half.
2. Cash flow over profits
The big knock against Amazon's finances is that the company doesn't generate much in the way of profits. Operating profit margin is sitting at about 3% today, which is a level that investors might expect from retailers like Walmart and Costco, rather than from a tech giant. Microsoft, for context, routinely converts over 40% of sales into operating profit.
The longer-term trend suggests that Amazon can boost that figure toward the double digits as its huge investments in areas like AWS start to pay off. Big spending on its delivery network has slashed delivery times, for example, giving the company more room to raise subscription prices over time.
AMZN Cash from Operations (TTM) data by YCharts.
Cash flow is a great trend to watch here as it lays the groundwork for future earnings trends. Amazon's annual cash production is headed toward a record right now and has more room to climb.
3. The right price
There's no doubt that Amazon's rally this year has made the stock more expensive, potentially limiting returns for investors who buy shares today. The main risk is in overpaying for this successful business.
That risk isn't huge, though. Amazon is valued at 2.4 times annual sales right now, down a bit from the 2023 peak valuation of 2.8 and up from the 1.6 price-to-sales (P/S) ratio that investors saw at the start of the year. Microsoft, which is much more profitable, is trading at a P/S ratio of 11.
Sure, Amazon isn't likely to approach Microsoft's 42% profit margin any time soon. The business isn't quite as diversified, either. But Amazon has excellent growth prospects in several big tech niches.
The company's cash flow allows management to make aggressive bets at a level that most rivals can't match. And that cash also points to improving earnings results for 2023 and beyond. Ultimately, that's a recipe for market-beating returns for investors willing to hold this stock over several years.
