Understanding The Amazon Investment Thesis

Summary:

  • In FY16, AWS' operating margins dwarf the e-commerce business' -- 25% vs. 3% -- contributing 74% of AMZN's operating income compared to just 9% of total revenue.
  • The increasing number of higher-layer, PaaS offerings and their growing enterprise adoption provides another strong growth vector for AWS.
  • The probability and magnitude of the things that could go right for Amazon are larger than that of those that could go wrong.

Our inclusion of Amazon as a Samadhi 4 holding (our four highest-conviction holdings, with weights ranging from 5% to 10%) can be justified almost completely on the basis of AWS (Amazon Web Services), the company’s suite of market-dominant cloud offerings in the IaaS (Infrastructure-as-a-Service) and, increasingly, PaaS (Platform-as-a-Service) segments. That is not to say there isn’t value in Amazon’s other segments (many of which increasingly find synergy with AWS), but that they factor in substantially less to our overall thesis.

The Shift to the Cloud Drives AWS

In FY16, AWS' operating margins dwarf the e-commerce business' -- 25% vs. 3% -- which allowed the segment to contribute 74% of AMZN's operating income compared to just 9% of total revenue. At 55% y/y growth, AWS also grew top-line nearly twice as fast as e-commerce. We believe that, as a key beneficiary of the enterprise migration to the cloud, AWS will grow by 58.5% annualized over the next five years and continue to be one of the largest cash cows in the tech sector.

The confidence we have in our 58.5% revenue CAGR over the next five years is bolstered by the fact that we are still early in this enterprise cloud migration. Estimates from leading industry and equity research firms indicate that only 18% to 22% of all application workloads (which include services across the three layers of the cloud stack: IaaS, PaaS, and SaaS) had moved to the cloud in 2016. These same estimates indicate that, by 2022, more than 50% of application workloads will be running in an external cloud service provider’s datacenter.

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Disclosure: I am/we are long AMZN. 

The following is an overview of our recently updated Amazon, Inc. (AMZN) investment thesis. (Note: the complete Amazon profile, including our ...

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