E-commerce powerhouse Amazon.com (AMZN +1.36%) announced its third-quarter results last Thursday, and the earnings report was a stinker. While revenue rose 20% in Q3 -- just a tad below the recent trend -- Amazon reported an operating loss of $544 million. For the second straight quarter, Amazon lost even more money than analysts had expected.
To make matters worse, Amazon.com also provided fairly disappointing guidance for Q4. The company is projecting 7%-18% revenue growth. Obviously, that's much more growth than what most big retailers are generating. However, even at the high end of the range, it would be one of the slowest revenue growth rates ever for Amazon.com.
AMZN Revenue (Quarterly YoY Growth), data by YCharts.
After the earnings release, Amazon.com CFO Tom Szkutak spoke to financial analysts for about an hour to give some more context on Amazon's results. Here are five key points Szkutak made during the earnings call.
The Fire Phone didn't sell well
Consolidated segment operating loss includes charges of approximately $170 million, primarily related to the Fire phone inventory evaluation and supplier commitment cost.
-- Amazon.com CFO Tom Szkutak (All quotations courtesy of Seeking Alpha.)
Amazon's Fire Phone was a flop. Source: Amazon.com.
Amazon didn't try to pretend the Fire Phone -- its first ever smartphone -- was successful. It seemed like a long shot from day one, as Amazon's ecosystem pales in comparison to what Apple and Google offer. Moreover, most of the Fire Phone's target market is already locked into either iOS or Android.
Even after Amazon cut the subsidized price from $199 to $0.99, sales seem to have been slow. Amazon took a $170 million charge on its Fire Phone inventory, indicating that it may need even bigger discounts to clear its inventory. The only potential positive from an investor's perspective is that Szkutak said Amazon always tries to learn from its mistakes.
The strong dollar will start weighing on results
For Q4 2014, we expect net sales of between $27.3 billion and $30.3 billion or growth between 7% and 18%. This guidance anticipates approximately 250 basis points of unfavorable impact from foreign exchange rates.
-- Tom Szkutak
While Amazon projected weaker-than-usual revenue growth for the fourth quarter, part of that slowdown is due to factors beyond its control. The U.S. dollar has strengthened significantly against many other major currencies over the past year -- especially in the past few months.
Amazon gets nearly half of its revenue from outside the U.S., and a strengthening dollar dilutes Amazon's international revenue growth (in dollar terms). Based on current exchange rates, this will reduce Amazon's total revenue growth for Q4 by about 2.5 percentage points.
In the long run, investors shouldn't worry too much about currency fluctuations. Sometimes they are a headwind -- as is the case in Q4 -- but at other times, exchange rates have been a tailwind for reported revenue growth.
Meaningful profits could still be years away
[W]e do have a lot of opportunities, but our job is to be judicious and selective about what opportunities we pursue. And so that's the way we're thinking about it and I apologize I can't give you any more certainty in terms of timing...
-- Tom Szkutak
Amazon could still be years away from earning meaningful profits.
A bigger issue for long-term investors is that it is still unclear how profitable Amazon.com can be in the long run, and how long it will take to get there. Amazon has made massive investments in new fulfillment centers, server capacity, video content, etc., in order to drive long-term growth.
In theory, this expected revenue growth will allow Amazon to leverage its investments and improve its margins over time. However, management remains unwilling to provide any kind of timeline or roadmap for investors to measure Amazon's progress. You need to have a great deal of faith in Jeff Bezos to invest in Amazon.com stock right now.
Media results look worse than they really are
One thing I would like to call out, as you look at our North American media growth rates one thing that we are seeing is certainly a shift from a textbook standpoint from purchase to rental and so we see a lot more customers renting.
-- Tom Szkutak
One of the biggest disappointments in Amazon's earnings report was a severe slowdown in North American media sales growth, which decelerated from 18% in Q3 2013 to 5% last quarter. However, this slowdown may not be as bad as it appears based on the raw numbers.
Textbook rentals have become increasingly popular in the U.S. Rentals tend to produce higher profit margins, but lower revenue. Q3 included the back-to-school season, and cannibalization of textbook sales by rentals appears to have taken a toll on revenue growth in the media segment. If Amazon can earn better margins on rentals than on textbook sales, investors should be happy about this trend.
Prime Instant Video drives loyalty
We continue to invest heavily in video content including originals and there is a number of different metrics we're looking at certainly from a Prime standpoint, but what we're seeing so far are those customers who are streaming are renewing at considerably higher rates.
-- Tom Szkutak
Amazon's Prime Instant Video service is building customer loyalty.
Amazon's foray into streaming video over the past few years has attracted its fair share of doubters. People ranging from Wall Street analysts to Amazon customers have speculated that Amazon should either shut down its Prime Instant Video program or separate it from the Prime free shipping service.
However, Amazon believes in the value of combining video streaming, free two-day shipping, and other offers into one membership program. Szkutak stated that Prime members who use the service for streaming video are more likely to renew their Prime memberships. In the long run, that makes them likely to spend more money with Amazon.
Foolish final thoughts
Amazon's performance in Q3 definitely made investors nervous. Amazon.com shares fell 8% on Friday following the earnings report, and they are now down nearly 30% from the all-time high above $400 set back in January.
To a large extent, Amazon's big loss and fairly weak forecast justify this big sell-off. Amazon CFO Tom Szkutak was unable (or unwilling) to tell investors when to expect progress in terms of boosting profit margins and return on invested capital.
That said, Amazon's Q3 loss and Q4 forecast may look worse than they really are. The Q3 loss was inflated by the Fire Phone inventory writedown, while a number of unusual factors are reducing Amazon's revenue growth in Q3 and Q4. On the bright side, this could mean Amazon's profit margin is finally bottoming out.
