After a steady ascent this year, Amazon (AMZN 0.87%) stock got crushed after it released its second-quarter earnings results last week. The reason? Amazon's guidance didn't impress the market, despite a strong second quarter performance, causing the stock to decline by nearly 13% since, as well as pushing down year-to-date stock gains to just 7% from a peak of 31% last month.
However, investors who take a long-term view of the business know such market movements are short-sighted, since they necessarily take into account only the current snapshot of the company's operations. However, investors do get nervous, because they don't know if this update portends trouble up ahead. So what should investors expect from Amazon, and where will the business be a year from now?
Is growth slowing down?
Amazon reported a 10% year-over-year increase in revenue in the 2024 second quarter, including a 19% increase for Amazon Web services. (AWS). It's investing in all over its business to keep up the momentum, specifically in improving e-commerce and in developing generative artificial intelligence (AI).
The market wasn't enthused by management's guidance for third-quarter sales to increase 8% to 11%, but that's within the typical range.
Amazon generally beats its own expectations. Here's a chart of management's guidance for the past four quarters, along with what actually happened.
| Revenue growth | Q2 2024 | Q1 2024 | Q4 2023 | Q3 2023 |
|---|---|---|---|---|
| Guidance range | 7% to 11% | 8% to 13% | 7% to 12% | 9% to 13% |
| Actual | 10% | 13% | 14% | 13% |
Data source: Amazon quarterly reports. Rates are year over year.
The second quarter was close to the top of the expected range, but not as much as previous quarters, which came in at the top or beat it entirely. It's likely that Amazon will come in toward the top of guidance in the third quarter, but not a given.
Amazon keeps getting bigger, and the bigger it gets, the harder it is to build on top in percentage. For example, total sales were $148 billion in the second quarter. While absolute growth isn't impossible, profitability could be lower.
In a year from now, Amazon should be a lot bigger, and it could even surpass Walmart to become the largest company in the world by sales.
Is AI costing it too much?
Andy Jassy has been curtailing spend in many areas. He cut headcount and spearheaded an e-commerce overhaul that's faster and more efficient. However, management is investing substantially in AWS's AI services as it races with Microsoft and Alphabet to capture market share in the growing and lucrative cloud computing segment.
It shouldn't come as a surprise to anyone. Aside from the obvious, which is that it's trying to stay on top of the competition, management has made it clear in the past that this is how the model works. It has periods of heavy investments and periods of incredible profitability.
Management is guiding operating income between $11.5 billion and $15.0 billion for the third quarter, up from $11.2 billion last year. That's a sharp slowdown. Operating income nearly doubled in the second quarter, and it grew even faster in the previous three quarters.
NASDAQ: AMZN
Key Data Points
While it invests in AWS, the e-commerce business is becoming more efficient. That gives it some wiggle room to pump money into generative AI and still report solid operating performance for the whole company. Management said that because of the new regional fulfillment strategy, Amazon is able to consolidate shipments and cut transportation time and fees. That results in lower costs and happier customers.
Amazon's high-margin advertising business, now reported as a separate segment, once again registered the highest growth among segment, with sales up 20% more than last year. However, that's a deceleration from previous quarters, and it's something to keep an eye on over the next year. Management sees a tremendous opportunity in video streaming ads, which it's just getting started with.
In a year from now, the generative AI business is likely to still be at the forefront of the industry, and Amazon's focus specifically. It should, however, achieve its intent of onboarding new business and benefiting from increased client spend. Management said that it continues to see businesses ending their cost optimization efforts, and since 90% of spend is still not in the cloud, the opportunity is enormous. AWS is also a high-margin business, and its growth could eclipse the impact of Amazon's investments.
Think past one year
Amazon is growing its other businesses, too. Its pharmacy division is taking off, and it's producing hit streaming content through Amazon MGM Studios. In a year from now, these should continue to grow, and Amazon is likely to roll out new services and businesses.
When you're looking to invest, it's important to look for patterns. Does Amazon usually beat guidance? Will Amazon go through compression periods as it builds to come out stronger? Does it bounce back from setbacks? And finally, is management capable of rolling out new products and services profitably? The answer to all of those questions is yes, and Amazon is a great long-term buy.
