By JACK HOUGH
Just over a week ago, the online retailer Amazon.com (AMZN)
News like that can send a stock sliding, but Amazon has since gained 6.8%. Investors seem impressed with its 29% quarterly revenue growth and willing to wait for earnings to come around.
Perhaps they're being too patient.
Fifteen years after Amazon's stock-market debut, it still carries the astronomical valuation of some start-ups: more than 200 times this year's earnings forecast, versus 14 for the Standard & Poor's 500-stock index.
U.S. investors have a long history of bidding up shares of companies they are familiar with. Back in the 1980s, Fidelity Investments fund manager Peter Lynch encouraged people to "buy what you know."
Plenty of investors seem to know -- and like -- Amazon. About one-third of its shares are held by ordinary, noninstitutional investors -- nearly double the rate for the median company in the Standard & Poor's 500-stock index, according to data from Thomson Reuters. Among 41 Wall Street analysts who cover the stock, only one recommends investors sell it.
The bull case for Amazon shares is that earnings are depressed because the company is spending to improve its services, and that earnings will multiply in coming years as that spending bears fruit and winds down.
Amazon's earnings are indeed likely to jump, but that expectation seems priced in and then some, making now a good time for shareholders to take profits.
Seattle-based Amazon is best known for its vast online store, which competes with discount retailers like Wal-Mart Stores (WMT)
It collects fees from other merchants that sell through its site, similar to eBay (EBAY)
Yet in terms of financial performance, Amazon lately has been a mirror image of most S&P 500 companies. Profit margins for the broad market are near record highs, but revenue growth has slowed to a crawl.
Fast-growing Amazon over the past year turned just over a penny of each sales dollar into operating profit -- what's left after expenses -- versus more than five cents for Wal-Mart and about 35 cents for Apple.
One reason: Amazon's expenses on things like order fulfillment, technology and content are growing faster than revenue, Chief Financial Officer Thomas Szkutak said during a July 26 conference call. The company declined to comment for this column on when the pace of spending will slow.
Wall Street expects Amazon's operating margins to rise, but slowly: to 1.8 cents per revenue dollar next year and 2.7 cents in 2014, according to FactSet consensus data. Over time, earnings will get a lift from Amazon's Web services and third-party retail businesses, which have higher margins than its core online store and are growing faster, according to Carlos Kirjner, an analyst at Bernstein Research, a unit of New York investment firm AllianceBernstein.
And Amazon's spending on distribution centers and technology, while crimping today's earnings, will pay off as shoppers buy more goods online, says George Fraise, a portfolio manager at Sustainable Growth Advisors in Stamford, Conn., which oversees $4 billion.
Bob Auer, manager of the $80 million Auer Growth fund, disagrees. While Amazon doesn't have to pay for stores, it must pay to assemble, pack and ship each order. "Compared with that model, Wal-Mart gets free labor from shoppers who fill their own carts," he says.
It's all but impossible to predict long-term earnings with much accuracy, but analyst forecasts are useful as a measure of expectations. Amazon's earnings are expected to total 83 cents a share this year, rising to $2.47 next year and $4.60 in 2014.
That is explosive growth, but it nonetheless puts shares at over 50 times 2014 earnings.
Of course, these forecasts could prove conservative. Suppose the highest 2014 estimate on the Street today, $8.03 a share from Mr. Kirjner, turns into the consensus estimate over the next two years. For today's stockholders to enjoy a 10% yearly price gain between now and then (a slowdown from Amazon's 36% gain so far this year), shares would have to fetch 35 times earnings in two years.
That's possible, but consider the risks. As more states collect sales tax from online merchants, Amazon might lose some of its pricing edge. And new competition for leased computing could keep profit margins in check.
Most important, no one is sure whether Amazon's massive scale will one day yield lasting cost advantages, perhaps not even Amazon. That makes it difficult to say what the company is worth, but its current valuation looks "exceptionally high," says Nick Landell-Mills, an independent stock analyst.
Amazon shares have multiplied more than 100 times in value since their 1997 debut. But at these levels, bargain-hunters will likely do better with the store than the stock.