Amazon (AMZN -0.09%) has been a great performer this year, as it's up more than 20%. However, I believe this is just the start of a much larger move.
Amazon's business is starting to transform into something investors have never seen, and that's fantastic news. I've got three facts about Amazon that investors should know. While there are many more reasons to be interested in Amazon stock, I think these combine to make a compelling case to buy right now.
1. Amazon Web Services' growth is back
Amazon Web Services (AWS) is Amazon's cloud computing business. This product allows clients to rent computing space from Amazon and run workloads over the cloud. This has become a popular strategy, allowing customers to scale their computing power up or down as needed. It's in great demand right now because many companies are attempting to create AI models to help their business run more efficiently.
Unfortunately, throughout 2023, AWS didn't see this demand, while its competitors, Google Cloud and Microsoft Azure, did. But that tide seems to be turning. Amazon invested heavily in Anthropic, a generative AI start-up. This partnership gives AWS generative AI tools, which are offered on the AWS platform. CEO Andy Jassy stated in Amazon's Q1 conference call: "We see considerable momentum on the AI front where we've accumulated a multibillion-dollar revenue run rate already."
This is great news for investors, and is already translating into financial results. In Q1, AWS net sales were up 17% year over year, and its operating income rose by 84%. Another catalyst helping AWS was the completion of the optimization trend. Last year, companies focused on cutting costs, which included optimizing cloud computing spending. Now that that trend is complete, AWS's business is seeing growth from new workloads, rather than falling revenue from shrinking workloads.
AWS is Amazon's most profitable business segment, which is key to its success. However, other businesses are also starting to pull their weight.
2. Amazon's cash generation is picking up speed
While AWS has been profitable for some time, Amazon's commerce divisions haven't always had that success. Amazon dug itself out of the hole it created in 2021 and 2022 for its North American division while it was building out its supply network. International has also long been an unprofitable endeavor for Amazon, but it's also starting to come around. Q1 was the first profitable quarter for the segment since 2021.
This bolstered Amazon's cash generation, which is starting to gain momentum.
Over the past 12 months, Amazon generated $50.1 billion in free cash flow (FCF). This is a significant improvement from the $3.3 billion FCF outflow in Q1 of last year. However, the trends associated with this FCF are also exciting.
The first quarter is a historically weak one for Amazon, mainly due to the massive spending during Q4. As a result, you can see a relative peak in the chart below at the start of each new year, followed by a significant decline. The same thing happened in 2024, but this was the first year in a while that this drawdown didn't cross into the negative zone. Furthermore, the peak in Q4 was the highest it has ever been.
AMZN Free Cash Flow (Quarterly) data by YCharts
As a result, it's clear Amazon's cash flows are improving and are sustainable, which investors love. As Amazon's cash flows increase, it can initiate a dividend or start repurchasing stock, which is great news for long-term investors.
But the last fact about Amazon shows why it's still a buy right now.
3. Amazon is still below its average valuation
Because Amazon is still optimizing its profitability, the valuation metrics centered around earnings aren't useful (although they may be next year). As a result, I'll use its price-to-sales (P/S) ratio.
AMZN PS Ratio data by YCharts
Despite its strong cash flow growth and massive improvements across the business, it's still valued at a level last seen during its drawdown after COVID demand subsided, and before that in 2018.
This tells me the stock isn't absurdly overvalued, and could be a reasonable purchase today.
With all of Amazon's growth prospects plus its growing FCF, I think Amazon is a great buy right now. There's still plenty to be transformed within Amazon's business, and investors will benefit from buying and holding it for the long term.
