Amazon!

“How Amazon is Dismantling Retail” is a great video. It’s startling, even despite the self-evident trends in the retail sector.

Below are a few U.S. retail and Amazon notes (from the video and elsewhere):

  • The number of malls in the U.S. grew more than twice as fast as the population between 1970 and 2015.
     
  • The number of mall visits in the U.S. was 35 million in 2010. Just three years later, this dropped by more than 50%, to 17 million. It is likely that future mall-visit data will confirm that this trend has continued or even accelerated.
     
  • The combined stock market value of Wal-Mart, Target, Best Buy, Macy’s, Kohl’s, Nordstrom, JC Penney, and Sears is $307 billion. The stock market value of Amazon is $481 billion.
     
  • 49% of American households own a landline. 51% attend church monthly. 52% have an Amazon Prime subscription.
     
  • Amazon plans to open 418 fulfillment centers through 2020, on a base of approximately 50 U.S. centers now. Amazon fulfillment centers will create approximately 40,000 full-time U.S. jobs in 2017.
     
  • Amazon started with books, but its reach has obviously broadened dramatically. It is likely to become the largest apparel retailer in the U.S. this year. (Amazon bought Zappos in 2009.) It delivers random supplies to STUDIO within two hours, with no delivery charge. And there remain lots of retail (and distribution) segments in its path.
     
  • Amazon recently entered the $50 billion aftermarket auto-parts business, competing with AutoZone, O’Reilly’s, Advanced Auto Parts, and Genuine Parts. We always viewed this retailing niche as unusually attractive, due to its combination of retailing and wholesaling. But Amazon has made deals with the largest parts suppliers in the world in recent months, and it is coming!
     
  • We are usually skeptical of any company’s ability to enter an already-competitive space. In the case of Amazon’s entrances into new markets, we tend to be skeptical of the future of the incumbents. Jefferies reports that Amazon is now offering same-day delivery for auto parts in 40 major U.S. cities at prices that average 23% less than the incumbents, despite having entered the market just last year. We predict still more retail space coming available across America soon.
     
  • The even-larger industrial-supply market was newly added to the Amazon menu — beware W.W. Grainger, MSC Industrial, Fastenal, and lots of mom-and-pops. “Amazon Business,” just $1 billion in annual revenue a year ago, is reported to be growing 20% month-on-month. That is, the entire business is 20% larger each month, not each year. 
     
  • Many think of Amazon as only a web retailer, but it also has within it an incredibly valuable technology company. Amazon Web Services (AWS) provides cloud-based storage, networking, and other web services which allow customers to scale their technology more quickly and less expensively than they could on their own. AWS has over one million customers, including Netflix, NASA, and the CIA. AWS generated $3.1 billion in operating profit in 2016 — 75% of the operating profits of the entire company, despite representing just 10% of company revenue. 
     
  • Amazon had $136 billion in revenue, but just $2 billion in net profit, in 2016. However, the company is investing heavily in its business at the moment, preparing its already-enormous operations for a still-much-larger revenue level. If the company were content with its current revenue level, it could operate with a much smaller level of expenses. Under this scenario, we estimate that Amazon’s profits would be at least $10 billion, or five times the current level. This perspective allows a glimpse into Amazon’s long-term profit potential.
     
  • While Amazon’s financial outlook is phenomenal, the market is expecting phenomenal, or more. Amazon’s stock market value is $481 billion, which makes it the fifth most valuable company in the world. The stock trades for 203 times last year’s profit (or earnings) per share. For comparison, the S&P 500 (an index comprised of 500 large American companies) trades at 25 times last year’s earnings, a level well above its historic average. 
     
  • Amazon came public 20 years ago last week. Since its IPO, the stock has increased 65,000%. That is, a $10,000 investment would have become $6.5 million. Over the same period, an investment in the S&P 500 would have become $29,000.
     
  • It’s tempting to see Amazon’s progress as obvious in hindsight. But between 1999 and 2001, Amazon’s shares lost 95% of their value. Even the best investors with the longest horizons would have trouble holding the stock through such a period.
     
  • And despite a 15-fold increase in Amazon’s revenue from 1999 to 2009 ($1.6 billion to $24.5 billion), there was no increase in the Amazon share price over much of the same period. In 1999, the market had some wildly aggressive expectations for lots of companies. It is critical to remember that the market’s expectations for a stock ALWAYS matter, no matter how good the business.

In 1982, Sears was America’s largest retailer. Nine years later, its annual revenue was half of Wal-Mart’s. While we make no parallel prediction for Wal-Mart’s imminent demise, we did sell all our shares earlier this week. We no longer like the risk/reward ratio, mainly due to increases in the numerator, driven by Amazon.

We believe Amazon will be the most valuable company in the world, possibly by a large margin, at some point in the next decade. Unfortunately, the range of outcomes is so wide and the level of expectations so high that, at the current share price, we don’t like the stock as much as the business. We would love to be a shareholder, but, even with Amazon, the price still must be right.