Amazon.com Inc. (AMZN) is scheduled to announce its third quarter fiscal 2011 results on October 25, 2011, and we notice limited movements in analyst estimates.
Second Quarter Overview
Amazon delivered a decent second quarter, with pro forma earnings per share of 42 cents, exceeding the Zacks Consensus Estimate by 5 cents, or 13.5%.
The company reported revenue of $9.91 billion, flat sequentially and up 51.0% year over year (exceeding the mid-point of management’s guided range). Key strategies for driving revenue growth in the last quarter were competitive pricing, free shipping, user experience on Amazon properties and the Amazon Prime program.
The gross margin expanded 127 bps sequentially to 24.1% but shrunk 42 bps from the year-ago quarter. The sequential increases were due to higher volume, implying that despite its market position, Amazon continues to grow very strongly. However, the extra launch costs related to new product launches restricted margins.
Management Guidance
For the third quarter, management expects revenue to come in at around $10.3-11.1 billion (up 7.9% sequentially, or up 41.5% year over year at the mid-point), better than consensus expectation of around $9.37 billion. Operating income (including stock-based compensation and intangibles amortization of around $180 million) is expected to come in at approximately $120-170 million (down 93–37% from September 2010).
Agreement of Analysts
Out of the 24 analysts providing estimates for the third quarter, 1 analyst made an upward revision in the last 30 days. However, for fiscal 2011, estimate revisions indicate declining sentiments, with 6 out of 24 analysts making downward revisions for the same time period.
The analysts contend that eCommerce growth has remained strong in the third quarter and the shift to the online platform has accelerated. Hence, they expect a decent third quarter with revenue at the high end of the guidance range but earnings per share slightly below expectations.
The analysts stated that the company has the potential to benefit from its cloud computing and digital media (Kindle) initiatives. They believe that a successful tablet launch in November will act as a vital catalyst, driving revenue upside expectations for the fourth quarter and the remainder of fiscal 2012.
Hence, for the fourth quarter, they expect strong revenue growth driven by accelerating eCommerce share gains and the launch of Kindle Fire but weak margins due to heavy investments in technology.
Magnitude of Estimate Revisions
For the third quarter, the Zacks Consensus Estimate increased a penny to 24 cents in the last 30 days, but plunged 25 cents to 24 cents in the last 90 days.
For fiscal 2011, the Zacks Consensus Estimate dropped a penny to $1.90 in the last 30 days, but witnessed a significant decrease of 49 cents since the second quarter results.
According to analysts, Amazon remains in an investment cycle across three primary fronts –– global distribution footprint (distribution centers), digital initiatives (Kindle, tablet and video content), and Amazon Web Services (AWS). They believe that the company’s increased spending on fulfillment centers, heavy investments in technology infrastructure to support rapid growth in AWS and the digital business will lead to continued margin pressure and therefore, poor earnings going forward. This could be the primary reason for the expected decrease in estimates.
However, longer-term, the analysts believe that effective utilization of the company’s distribution centers and the global expansion of AWS will lead to an improvement in its productivity, consequently expanding margins.
Recommendation
We believe Amazon’s second quarter momentum will likely continue in the third quarter given the stability in overall eCommerce market growth. Prime and increased product expansion will continue to drive the revenue per user higher and help to retain customers.
We believe that the demand for Kindle will remain strong in the domestic and international markets. The introduction of the Kindle Fire and other new Kindles should help AMZN to successfully navigate through the accelerating transition to digital media from physical. The launch of the low priced Kindle Fire might lead to increased consumer adoption and drive online sales of ebooks.
The next phase of growth is dependent on Amazon’s own capacity to serve customers, especially in international markets, where growth rates are likely to be higher. On September 14, the company opened Amazon.ES for consumers in Spain. This was the first expansion into new territory since November 2010. We expect Amazon to target international growth more aggressively, starting operations in new regions around the world.
Additionally, we note that technology investments continue to pressure margins. So results could be choppy in the near term. But over the long term, we expect strong results, as the company’s top-line fundamentals remain strong.
Of course, competition from eBay Inc. (EBAY), Apple Inc (AAPL) through its iBooks app, Barnes & Noble, Inc. (BKS) and Google Inc. (GOOG) remains as strong as ever.
Amazon shares currently carry a Zacks Rank of #3, which translates to a Hold recommendation for the short term (1–3 months).
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