Amazon [AMZN:NSD] shareholders may want to sell this week because the good times probably won't last. The world's largest online retailer surged about 15 per cent to over $230 after first-quarter earnings, but carrying that momentum for the remainder of the year will be a tough act with so many storm clouds hovering over the company. And with short sellers licking their fingers at this company, who's left to buy?
For some irrational reason, many analysts upgraded the company, even though the shares are trading at 185 times earnings. Any sane investor would glance at that P/E and know Amazon is extremely over valued. At these valuations, the company would have to be nearly perfect, no wait, better than perfect, to grow their shares. However, this is not the case. Declining profits, declining margins, declining guidance: these are not triggers to buy an expensive stock. No, these are cases to sell a company that appears to be the next Netflix [NFLX:NSD], Research in Motion [RIM:TSE, RIMM:NSD], or Netscape. If this company went private tonight, the new owners would have to wait 185 years to break-even, and that excludes the declining value of money.
Case in point: 2012 Q1 earnings indicated a profit margin of 0.99 per cent. That is, for every $100 I spend on Amazon.com, the company profits 99 cents. With so little room for error and a cut-throat industry that leaves losers in the dust, Amazon has to execute on a very high level. Take a look at the numbers. Revenue rose to $13.18 billion last quarter, a huge increase of 34 per cent but net profit was just $130 million, down 35 per cent by slashing prices to entice buyers. Its strategy of growing revenue may have worked, but it sacrificed its margins too much. Looking forward, the company's second quarter guidance was reduced to a net loss of $240 million. That's right folks. A company that sells more than $10 billion in products every three months will lose $240 million. If that doesn't scream sell, I don't know what else does.
It also doesn't help that the Kindle, their e-reader, is being sold at a loss. It was a strategy Microsoft [MSFT:NSD] and Sony [SNY:NYSE] employed with their video game consoles. The hopes for these two brands was that sales of video games, memberships, accessories, and down-loadable content would cover the losses on the consoles and it has worked. The major difference between Microsoft and Amazon - video games are $60, books are $6.
Add the expected sales tax collection which will eventually be law all across the United States, starting with California and Texas, and you have diminished price-advantage. For the last 18 years or so, with exception of five states, US Amazon customers never paid state sales taxes for purchases online, but this is about to change in 2013, as some customer's will now have to pay taxes like they do at brick-and-mortar shops. In Canada, it would be like never paying GST/HST/PST on Amazon.ca and then finding out that you have to start paying it next year. It will change consumer's behaviour and Amazon could see large-ticket items being left in stock for significantly longer.
What's ultimately problematic for me is the motive of upgrades by 9 analysts the day after earnings. Most traders ignore the noise from analysts. Their estimations and predictions are as educated as sophisticated investors, but their motives are often questionable. Paulo Santos of seekingalpha.com pointed out that Citigroup analyst Mark Mahaney upgraded his price target from $190 to $300 in a single day. But back in 2010, Mahaney predicted the company would earn over $5.32 a share by 2012. Amazon's real EPS: $1.27 (Full article here). How do so many companies change their perception of the company with one report, especially when the report showed that their margins are declining? There has been no significant change in the company's direction and profitability. Are they pumping the shares so they can dump them?
The company's total profit is less than it was at the end of 2008, but the shares are up 150 per cent in that time span. Revenue has risen significantly, but what's the point of selling more when you end up with less? It is energy well-wasted. It does not feel like Amazon's management wants to thrive as a business, but rather survive. Are they now fearful of Microsoft, Google [GOOG:NSD], and Apple [AAPL:NSD]? Amazon hasn't even considered paying a dividend. That's a sign that management knows their cash flow is not stable enough to pay out long-term holders. 70 per cent of its shares are owned by institutions, so one sell button by one firm could knock the shares back to normality.
Honestly, I believe Amazon will be the number one online retailer for decades and quite possibly for the entire 21st century, but being at the top only pushes competition to be better. And being number one doesn't mean your shares should be outrageously overpriced either. Realistically, for a company that is nearly two decades old and as established as this, the shares should be trading at a generous 15 times earnings, much like the rest of the market. That puts the shares at $20 not $230.
Disclaimer: I am short Amazon shares post-earnings.
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