Takeaway: While the TAIL call is bullet proof, the TREND call is less certain.

The Print

A solid quarter for AMZN with a headline beat, but it comes with slowing revenue trends.  Revenue beat by 3.6%, EBIT beat by 30%, EPS beat by 67% though with sizeable ‘other income’ and abnormally low tax rate.  Revenue was up 37.4% slowing from 40.2% last Q.  Gross profit accelerated to +36% with less multiple compression than last Q. SG&A leveraged 230bps despite the company adding about a quarter million employees, so EBIT accelerated slightly to +96% from +90% last Q.  That was perhaps partially aided by some fulfillment capacity coming online a few weeks later than planned and shifting into 4Q.  

North American ex physical stores decelerated ~700bps to +43%, International slowed 800bps in C$ to +33%, AWS was steady at +29% on an easier compare.  That’s 2 quarters in a row with AWS as the laggard segment.  Profits for the retail segments were strong as well -- NA EBIT was up 75% and International put up its second quarter with real profit generation as management credited “future volume” rates on “today’s cost structure”.  That means perhaps don’t expect such material profit expansion to continue long term.  Still as AWS has always been the profit center while retail drove revs and aided cash flow, given the profitability of retail while eating covid related expenses, we could be just a few quarters away from seeing retail EBIT rival that of AWS.

4Q Outlook

At first glance, guidance seems conservative. Flattish EBIT and the top end of revenue range implying steady rate of change on easier compare.  Though this quarter has some odd puts and takes.  Fourth quarters historically are ones where AMZN shows a material growth slowdown and fewer/smaller revenue beats.  That comes from “The 4Q Effect” where the law of large numbers and competitive intensity around holiday has meant a slowed rate of share gain for Amazon in every 4Q for pretty much the last decade.  2020 of course is not like any other year of that decade.  We have Prime day shifting into October due to Covid and management’s commentary around 60% growth for 3p sellers on Prime suggest a high likelihood that sales have accelerated QTD.  Then Covid-19 has driven an inconceivable shift to ecommerce consumption, where Amazon is the clear front runner for share gain in the holiday shopping environment.  We also have surging virus cases globally, suggesting perhaps those that ventured out to shop brick and mortar in summer might take that spending back to the digital channel.  So if there is ever a 4th quarter for Amazon to not see a revenue slowdown this is it.  Still we think the likelihood of a large revenue beat is low.

On the margin side, the company might have some drag from the noted shifted timing of fulfillment capacity turning on, and it has guided $4bn in Covid related expenses vs the estimated $2.5bn in 3Q.  The company just added an astounding number of new employees in 3Q, nearly 250k, and added even more in October.  So the EBIT guide doesn’t look like a complete sandbag, but we think a sizeable EBIT beat is more likely than a rev beat.  All in the trend looks like one with earnings upside but slowing rate of change, that means EPS revisions likely higher (keep in mind it will be lapping upwards of $10bn in ‘one time’ Covid costs next year) but likely multiple compression.. ie not too much to get excited about.  We lowered AMZN on our long bias list in August citing the trend was less bullish on that same point, and that remains the position with this print.  It’s a stock we think is worth owning longer term given big secular tailwinds in nearly every business it has, but not one that has significant upside in risk/reward in the coming 2-3 quarters. 

Ecosystem Callouts

  • Workforce – AMZN now has around 1.3mm employees adding nearly 250k this quarter and another 100k QTD.  It is the second largest employer in the US and now is over 50% the size of the world's largest retailer (WMT) which has “over 2.2mm” employees globally.  That is a massive army of Amazon associates, and perhaps it doesn’t hurt to have that many stakeholders when the government is looking into anti-trust actions on big tech companies.
  • Speed – With that workforce and its ramped fulfillment capabilities Amazon is again delivering on 1-day shipping despite the higher volumes, higher costs, and greater challenges of executing post Covid.  We still think it will be hard for some of the other mass retailers to gain/protect share against Amazon’s investment cadence and continued enhanced capabilities.
  • Prime – Shopping in a post Covid world is very conducive to validating a Prime membership.  Renewal rates YY improved in 3Q again like 2Q.  Prime adoption and usage patterns suggest that spending won’t subside next year.  Management shared some metrics on other Prime services in International as well noting that “Prime members who stream Prime Video grew by more than 80% year-over-year in the third quarter, and international customers more than doubled the hours of content they watched on Prime Video compared to last year.”  The model continues to keep members engaged, shopping more, and sticking with it.
  • Investment – Amazon never lets up on the gas pedal when it sees investment opportunities.  Online demand is coming at low incremental cost, Amazon could be simply printing massive cashflow numbers, instead its reinvesting more with Capex at over 2x the rate of last year’s record number, with ~$30bn YTD.  Amazon still likely is planning for a much bigger absolute business opportunity than the street can fathom.
  • Advertising – Other revenue (mainly advertising) accelerated 800bps on a tougher compare to 49% growth.  Advertising budgets have returned and Amazon is obviously seeing higher visitation rates, which means it has better real estate to sell to advertisers.