Is Amazon The Canary In The Market's Coal Mine?

Here we go again? In November 1999, I titled our newsletter "The Amazon Flows Between a Rock and a Hard Spot." Amazon (NASDAQ:AMZN) had just hit a high of $96.88 (split-adjusted.) Wall Street analysts all raced to the same side of the lifeboat fawning over the brilliance of Jeff Bezos and the unstoppable AMZN, which was going to show a profit "any day now." By March 2001, Amazon was selling for $5.51.

Anyone listening to the Wall Street touts lost 90% of their investment (92.6%, but let’s not quibble.) In January 2000, I recommended shorting or selling Amazon. It was a fortuitous call. Will it happen again? No one can say for certain. Could it happen again? In my opinion — of course it can.

I like Amazon. I am an Amazon Prime subscriber. I love the two-day delivery, especially since I choose to live in a small Lake Tahoe community high in the Sierra Nevada with the nearest real brick-and-mortar stores more than an hour away on a wintertime snow day. I respect Jeff Bezos’ remarkable vision and cold-blooded pursuit of that vision. The idea of slashing expenses by abolishing retail outlets, simple in retrospect, has been revolutionary and crockery-breaking.

But it is not a model that withstands competition forever. The current huge moat Amazon has around itself is these days less about a revolutionary strategic vision than it is a first-mover advantage that allowed AMZN to raise cash by selling bonds below the rate of US Treasuries. As long as the company can use this massive cash hoard to buy competitors, enter newer more profitable businesses, and keep their expenses slashed to the bone, they will remain a dominant, if not particularly profitable, force to be reckoned with.

But at its recent price of $433 (and trailing earnings of minus 88 cents per share), AMZN has an analysts’ combined forward "estimated" PE of 97, zero dividend, a price/book value ratio of 18:1, an equity/asset ratio of 0.22, net margins of –0.4%, and an ROE of –3.84%. If ever there was a company priced for perfection, this is it.

Yet in the 'Orange is the New Black' world of Wall Street, Amazon’s quarterly loss announced earlier this month is cause to break out the champagne! Why? Instead of touting The Death of Shopping Malls as they did in 1999 and 2000, these analysts are now telling us Amazon’s investments in the cloud, in better logistics, and in their Prime video and music area now guarantee the company’s long-term growth.

Because I have to live in the Real World, this all reminds me of the Brazilians’ little joke on themselves: "Brazil has a great future. And it always will have." Their intent, lost sometimes in translation, is to convey that a nice future is nice, but wouldn’t it be lovely to have a great present, as well?

Wall Street can keep The Great Tout Machine well-fed with visions of sugar plums, Amazon delivery drones, and Amazon/Apple (AAPL)/ Google (GOOG)/ Tesla (TSLA) airplane cars whizzing their way between great urban centers in the sky for a long, long time but sooner or later some old curmudgeon gruffly asks, "Is there a profit in these guys' future? Will they ever return something to me in the form of a dividend or some other goodie less tied to the volatility of their stock price?

According to the Street, however, you don’t need dividends as long as the company is growing its revenues. Forget the bottom line. As long as revenues are expanding, they tell us, the stock will keep going up. My response? The stock will keep going up. Until it doesn’t. My warning of 15 years ago still applies. Trees do not grow to reach the heavens and when the Bear strikes, investors look to companies with solid earnings, a nice moat, a good dividend, and low valuation ratios.

Of course, if you believe in those sorts of value indicators, you don’t live at the corner of Goldman and Sachs (GS), where the limousines are parked in front 24/7 in order to whisk those living in denial home every now and again for a clean shirt before returning to attend to the Machine!

AMZN stock rose 15% (more than $50 in one day) on the day they declared their latest loss because the Street of Shame was "encouraged" by Amazon’s stronger-than-expected enterprise cloud business. Almost all the analysts raised their price targets in lockstep and three upgraded the stock. Raymond James raised Amazon’s stock to outperform from market perform, Janney Capital Markets raised it to buy from neutral and J.P. Morgan to overweight from neutral. Raymond James declared a new price target of $485 on Amazon’s stock, while Janney Capital Markets raised its target to $488 and J.P. Morgan increased its target to $535 from $375.

Goldman Sachs renewed its buy rating because of market share gains, improvements in cash flow, and returns on invested capital. Goldman raised its 12-month price target to $510 from $450 and Deutsche Bank raised its target to $500 from $410.

What these analysts keyed on was Amazon Web Services. This is the first time they have provided separate information for this subsidiary. I’m certain it was only coincidence that this is the quarter they decided to break it out; even though the company lost money in the quarter, this week’s "the future of Amazon" was Amazon Web Services which reported revenue of $1.6 billion, up a whopping 49% year-over-year. Unmentioned is that this is $1.6 billion on a company with more than $88 billion in total revenues.

Lost in all this is the fact that Amazon continues to lose money, albeit only $57 million, or 12 cents a share, this most recent quarter. But Wall Street analysts have decided it is a good thing that AMZN is losing money because it means that rather than reward shareholders today they are instead putting their money into tomorrow’s critical technologies — as if there was no other competitor in cloud services, distribution, logistics or fulfillment!

As one hedgie (whom I have mercifully decided not to name) said:

"We believe recent results more clearly show the reward of Amazon’s heavy investment in category expansion, fulfillment and sortation centers, and Prime."

Sortation? Sortation? As Henry Higgins said to Colonel Pickering, "I ask you, sir, what sort of word is that??!!" I guess he means sorting, though that sounds decidedly less high-tech. Sorting is what your dry cleaner does, Sortation is what cool tech stocks must do — even if it’s exactly the same thing.

Wall Street was equally excited about the one-hour delivery Amazon now offers in a beta test in big urban areas, terribly important I suppose in an era of instant gratification, and about Amazon Fresh, so you never have to look up from your computer screen to buy something so mundane as produce or dairy. Such buyers will never know the delight of visiting a Hungarian corner market, as I have just done, and smelling the fragrance of fresh flowers and fresh fruits and vegetables, while marveling at their just-picked perfect colors. If, for you, food is just a commodity one ingests between video games, then Amazon has positioned itself admirably to be your purveyor of fine, um, stuff.

I still like Amazon the company. I love a firm that will continue to absorb losses or work for razor thin margins to fend off the inevitable competitors that will arise should it ever raise its prices. I wish them all the success in the world. The company. And I have owned the stock — twice — in the intervening years as it fell. But the stock price has simply gotten too far ahead of the company’s prospects.

Now -- since it is so widely held in institutional portfolios we understand these institutions’ need to talk their book. If they are to lower their own positions, they must have someone to sell it to. I think AMZN today is one of too many canaries in the market’s coal mine that are telling us the air is getting a bit fetid around here. There are other sectors, regions and companies I have written about previously that are far more deserving of our attention. For now – I’ll enjoy everything Amazon has to offer. But I’ll say "no thanks" to its stock!