At face value, this was a great quarter for a company in the business of retail. Sales +20%, gross profit +26% and EBIT +78%. Could we really ask for anything better? When your name is Amazon, the answer is a resounding “Yes”. Maybe the law of large numbers is starting to catch up…maybe there’s something company-specific (note – physical store strategy is #failing), or maybe it’s just grown too large to escape Mr. Macro…but the fact of the matter is that any way you slice it, growth is slowing at Amazon. The company can talk all it wants about Global Prime member adds and a record number of Alexa devices sold…ultimately I like to look at numbers. And the numbers tell me that this company has grown by 27% over the past 12 quarters, and it just squeaked by with a 20% top line growth rate. I know that’s a petty sacrilege given that we’re talking about the vaunted Amazon, but the fact is that we just saw a meaningful underlying slowdown in the business – and this stock still trades at a 70x multiple.
I get the whole ‘let’s DCF a game-changing business model’ thing…but in days of old a PM could trade this name based on an EV/Sales multiple on some theoretical/made up earnings number, and actually justify that to investors. The lack of earnings was actually an asset if you owned the stock. But let’s all acknowledge that this theoretical story has evolved into a ‘real’ company -- one with real earnings power. Yes… in 2019 it’s likely going to put up a better operating margin than Target. Let’s give Bezos all the credit in the world here. He got it done. But now that it’s done, lets appropriately value what we’ve got – and appreciate that rate of change matters.
In other words, the emergence of a ‘real’ company means that at some point sooner than later, we have to value it like a real company. In this quarter we saw underlying growth slow by 300bps ex Whole Foods, Gross Margins disappoint, and SG&A made up all of the beat. If this were some #oldretail name like WalMart or Target I’d be beating the company up for that. Fulfillment SG&A growth slowed to 12%, which appears to be the lowest EVER, from 29% last Q, leveraging 100bps. The growth compare was easier but the slowdown seems odd given the fact that Amazon’s min wage went to $15 on Nov 1, which I would think would mainly impact fulfillment (which includes the employees within DCs and Whole Foods). Seemingly a minor detail in the context of a generational growth story – but someone’s got to start paying attention to these things.
Let’s take it a step further…there’s this thing called cash flow, and its not going AMZN’s way. I know growth investors don’t care about cash flow, but I’m not a growth investor. I’m just an investor – one who likes to make money. I’m someone who likes to tear apart business models, and I just saw the cash conversion cycle erode by 5 days – entirely due to the worst payables change we’ve seen since 2014. I know the internet analysts that cover this name don’t like to talk about things like cash flow and cash conversion cycles – but they’re gonna have to start.
When it comes to 2019/20 modeling, we’re incrementally bearish on revenue, bearish on Gross Margins, and bullish on SG&A – not the trifecta you want to see to justify pushing new peaky earnings/cash flow multiples. In 2019 we’re modeling total GMV ticking down to the high teens. Yes, that’s still AWESOME – but even (especially) ‘awesome’ needs to respect RoC. SG&A leverage is likely to push this name to a 6-7% margin next year – something it NEEDS to print in order to justify current valuation.
The punchline here is that I’m completely on board with AMZN as the TAIL winner in retail -- no argument there – same way I wouldn’t have argued with WMT as being the winner 20-years ago. But I firmly believe that it’s at a point where we need to pay close attention to earnings and cash flow drivers that apply to the other 99% of companies out there. If this is valued on earnings – the same earnings that the Street thinks will hit $40/share in 2-years, then it’s a short at $1,719.