Amazonin (NASDAQ: AMZN) the stock rose more than 70% this year, making it the hottest stock in the FAANG cohort, which also includes Facebook, Apple, Netflix, and Alphabet (NASDAQ: GOOG) (NASDAQ: GOOGL).
Wall Street also remains extremely optimistic about Amazon, with an average price target of more than $ 3,700 per share – which is almost 20% above its current price. Let’s see why analysts still love Amazon, even after its valuation reached $ 1.6 trillion, and why its shares may still have room to run.
Amazon Web Services
Amazon’s cloud unit, AWS (Amazon Web Services), increased its revenue 31% year-over-year to $ 21 billion, or 13% of Amazon’s revenue, in the first half of 2020. Revenue growth was already robust, but AWS’s operating profit soared 48% to $ 6.4 billion and accounted for 65% of Amazon’s operating revenue.
This growth is impressive for two reasons. First, AWS is already the world’s leading cloud infrastructure platform, with a 31% market share in the second quarter of 2020, according to Canalys, and its continued growth keeps it ahead of competitors like Microsoftin (NASDAQ: MSFT) Azure, Google Cloud from Alphabet and Alibaba (NYSE: BABA) A cloud.
Second, most AWS competitors are unprofitable. Alibaba operates its cloud business at a loss, while many analysts believe that Microsoft and Google, which do not disclose their profits in the cloud, are likely to be making losses. AWS can consistently generate profits because it has a pioneer advantage and superior scale.
AWS already serves massive customers like Facebook, Netflix, Twitter, Disneyand several government agencies. This well-established customer base and its expanding ecosystem should ensure that AWS remains Amazon’s primary profit engine in the near future.
Amazon subsidizes the growth of its North American lower margin unit and its international nonprofit unit with AWS profits. This is the opposite of Alibaba’s business model, which subsidizes the growth of its non-profit cloud businesses with its higher margin central trade revenue.
AWS ‘profits allow Amazon to consistently sell its products at low prices while expanding its ecosystem with physical stores (including Whole Foods and Amazon Go), streaming media platforms and inexpensive hardware devices. All of these efforts strengthen Amazon Prime, which surpassed 150 million paid members worldwide at the end of 2019.
Amazon Prime’s discounts, free shipping options, digital services and other perks trap customers in their e-commerce ecosystem and prevent them from buying products from rival retailers. Therefore, Prime’s growth drives the long-term expansion of Amazon’s online markets, which still generate most of its revenue.
The pandemic is generating winds in favor instead of headwinds
Amazon’s cloud and e-commerce businesses were already flourishing before the pandemic, but the crisis ignited a fire in both businesses.
As more people stayed at home, worked remotely and accessed more online services, the demand for AWS services increased in several sectors. As physical stores closed, customers bought more products in Amazon’s e-commerce markets.
Amazon initially warned that COVID-19 expenses would slow its earnings growth in the second quarter. But its revenue still increased 34% year-over-year in the first half of 2020, compared to the 20% growth in 2019, and that the accelerated revenue growth outweighed its higher expenses. As a result, Amazon’s net profit still grew 26%, as its earnings per share increased 24%.
Amazon expects its revenue to increase 24% to 33% year-over-year in the third quarter. Analysts expect their revenue and profit to increase 32% and 38%, respectively, for the entire year. These optimistic estimates indicate that Amazon remains a solid investment for both pandemic and post-pandemic affected markets.
It is still reasonably valued
Amazon trades 58 times future earnings. This assessment may seem frothy compared to other retailers, but it is a bargain compared to other high-growth cloud companies.
In addition, Amazon’s dominance of the cloud and e-commerce markets, the resilience of these companies during the pandemic and the continued expansion of their ecosystem justify this small award. That’s why Amazon is likely to remain one of the top stocks for long-term investors.