Amazon Earnings Report - Q2 2014

posted by Virendra Singh Chauhan | published by Amigobulls on
  • Amazon delivered a disappointing Q2 earnings report after market hours yesterday.
  • A topline beat was unable to quell investor fears who took note of the company's huge miss on the bottomline.
  • Investors are looking forward to earnings growth and Amazon will have to deliver on this metric, sooner than later, to sustain its current valuations.
  • Our Amazon stock analysis highlights the underside risks of Amazon’s stock, reflecting our long term negative outlook on the company.

Amazon Q2 2014 earnings review

Amazon (NASDAQ:AMZN) announced its Q2 2014 earnings report after market close yesterday, July 24th. Amazon reported a loss of 27 cents per share on revenue of $19.34 billion. The stock closed the post market trading session 10.6% lower after losses widened on a YoY basis. In our Amazon Q2 2014 earnings preview we had warned that investors are looking for bottomline growth, failing which the stock could go downhill. The post earnings fall in Amazon stock price, inspite of a revenue beat, is proof that investors are not happy with just topline growth.

Marginal revenue beat, but huge earnings miss a concern.

Amazon Q2 2014 performance is summarized in the table below.

Q2 2013

Q2 2014

YoY change

Revenue

15704

19340

23.2%

Gross margin

28.6%

30.7%

2.1%

Operating profit margin

0.5%

-0.1%

-0.6%

Net Profit margin

0.0%

-0.7%

-0.6%

Free Cash flow

-0.02

-0.27

Amazon saw revenues rise to $19.34 billion against consensus estimates of $19.32 billion. The YoY revenue growth came in at a solid 23.1%, which was well ahead of the average guidance of a 20.7% growth. The company registered a record high gross margin of 30.7%. In context of slower AWS growth in the quarter, we estimate this increase to higher third party sales. However, the management didn’t offer much useful commentary on that.

Quoting from the CC, Tom Szkutak (CFO) stated:

We don't actually focus on total company gross margins because of the mix of the business. We focus more on operating profit and obviously ultimately free cash flow dollars. But in terms of things that would be impacting COGS as a percentage of revenue and that change, to be helpful, you mentioned AWS is certainly having an impact there. Our third-party business continues to have an impact there. We have offsets as we lower prices to customers, having an impact there. Just mix of various products and geographies has an impact on those results. Again, a large number of items that are impacting that.

To summarize, Szkutak implied gross margins isn’t the right way of looking at the aggregate results of Amazon. However, improving gross margins was one of the few bright spots in Q2 2014. Looking at Operating profit margin, Amazon saw a contraction of 60bps which was driven by a growth in operating expenses further ahead of topline growth. This is captured in the change in operating expenses as a percentage of sales over the two comparable quarters.

Amazon Q2 2014 Cost analysis

Q2 2013

Q2 2014

YoY change

Cost of sales

71.4%

69.3%

-2.1%

Fulfilment

11.7%

12.3%

0.6%

Marketing

4.3%

4.9%

0.6%

Technology and content

10.1%

11.5%

1.4%

General and Administrative

1.8%

1.9%

0.1%

Other operating income

0.2%

0.1%

-0.1%

Technology and content expenses saw the steepest growth of 40% on a YoY basis followed by marketing expenses, which grew by 39% YoY. Amazon continued to bleed losses for yet another quarter, with the diluted loss per share coming in at 27 cents per share, a huge rise from the 2 cent loss in Q2 2013.

Amazon Q2 2014 cash flow analysis

Amazon ended Q2 2014 with a Cash and marketable securities balance of $7.99 billion, a 500 million or 7% YoY increase over Q2 2013.  The cash flow analysis is summarized in the below table.

Q2 2014 Amazon cash flow analysis

Quarterly

Trailing Twelve months (TTM)

Q2 2013

Q2 2014

YoY change

Q2 2013

Q2 2014

YoY change

Cash from operation ( in millions of $)

880

862

-2.0%

4532

5327

17.5%

Purchase of PPE ( in millions of $)

855

1290

50.9%

4267

4288

0.5%

Free cash Flow (FCF) ( in millions of $)

25

-428

-1812.0%

265

1039

292.1%

FCF margin

0.2%

-2.2%

-2.4%

0.4%

1.3%

0.9%

TTM cash flow is a more appropriate measure to track the cash flow movement of Amazon considering the cyclical nature of their e-commerce business. The company generates a bulk of its free cash flow dollars in Q4 due to the Christmas shopping season. The TTM free cash flow increased to $1.04 billion, putting the TTM free cash flow margin at 1.3%, a 90 bps improvement over Q2 2013.

Inventory turnover ratio analysis:

Inventory turnover ratio is one key metric for any retailer. Amazon being in the e-commerce space, let’s look deeper into the inventory ratio, which has long being touted as the proof of Amazon’s efficiency vis-à-vis physical store retailers.

Amazon Inventory turnover ratio TTM average

Amazon inventory turnover ratio

Amazon’s average TTM Inventory turnover has been in a state of decline over the last few quarters and Q2 2014 was no different, with an Inventory turnover (TO) ratio of 9.1 against an inventory TO ratio of 9.4 in the year ago quarter.

Conclusion

Amazon beat the topline consensus estimate of $19.32 billion revenue while missing EPS consensus 15 cents/share loss by a huge margin, with actual loss per share coming in at 27 cents per share. The after-hours trading activity suggests investors are finally looking beyond Amazon’s topline and Amazon will have to find a solution to its perennial problem of a red bottomline. Failure to deliver earnings growth over the coming quarters could hasten the long foreseen underside to Amazon’s stock at its current valuation levels. Our Amazon stock analysis pinpoints the concerns surrounding the stock and reflects our long term negative outlook on the company.

Disclaimer: We do not hold any stake in the aforesaid stocks. Please read our detailed disclaimer.

About the author

Virendra Singh Chauhan
Virendra Singh Chauhan is a Financial Analyst at Amigobulls. An MBA(Finance) with specialization in investments, Virendra is a value investor who loves to analyze stocks and involve in discussions regarding investments in general. His areas of interest include personal finance as well as entrepreneurship, apart from equity analysis in particular. He loves companies with strong cash flows and profits today rather than companies built on promises of future. Contact him at virendra.chauhan AT amigobulls.com.
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