Pros and Cons to Buying Amazon.com, Inc. (AMZN) Stock
Should you buy Amazon.com, Inc. (Nasdaq: AMZN) stock? It's a question many investors might be asking themselves nowadays with shares of the online retailer near all-time highs.
Driven by a series of earnings beats, the growth of its cloud division Amazon Web Services (AWS), blowout sales of Alexa-enabled devices and the growing popularity of its Amazon.com platform and Prime membership, AMZN stock has risen 87 percent in the last year and 513 percent in the last five years.
Those are clearly exceptional returns; here's a quick look at the dynamics of Amazon's business and an overview of the pros and cons to buying Amazon stock.
[Read: Why Facebook Is Still Strong Despite Data Scandal.]
Amazon at a glance. CEO Jeff Bezos, who started the e-commerce company as an online bookseller in the 1990s, has been in aggressive growth mode ever since. He never cared much about making a profit each year but focused intensely on pleasing the customer, and in doing so, building market share.
More than 20 years later, the market share has followed, and so too have profits. In 2017, Amazon reported revenue of $177.9 billion, up 31 percent from the year before.
The vast majority of Amazon sales are generated on its increasingly dominant eponymous online shopping platform, which currently sells almost every product you can imagine. Sellers can pay extra to use Fulfilled by Amazon (FBA) -- Amazon warehouses, packs and ships their products, which are also eligible for Prime two-day shipping.
Amazon Prime, its $99 per year subscription service with perks, including two-day shipping, an online streaming video service, photo storage and discounts on select company products, has an estimated 90 million members in the U.S. alone.
Alexa, its virtual assistant technology, comes standard in the company's Echo line of smart speakers, which have sold by the tens of millions worldwide.
Pros of buying AMZN stock. Like other ridiculously successful Silicon Valley companies Facebook ( FB), Netflix ( NFLX) and Alphabet ( GOOG, GOOGL), Amazon is a founder-run company. But even compared to the enviable track records of those names, Bezos's leadership is exceptional.
Bezos has built a culture that ignores the myopic quarter-to-quarter mindset of Wall Street, doing everything with an eye to the long term. He believes "current" earnings were actually earned due to decisions three to five years ago.
His obsession with customer service is now a core part of Amazon's ethos -- as is his ruthlessness. And if there were any doubt, Bezos is also the largest single owner of Amazon stock, so his interests are clearly aligned with shareholders.
The second big advantage to owning AMZN stock is, simply put, the company's willingness, desire and ability to disrupt an extraordinarily wide range of industries.
"Amazon came into being as a disruptive force in what was then a very stable and even boring business," says James McQuivey, vice president and principal analyst at Forrester Research. "It has developed a certain forward momentum that pushes it into disruption after disruption, from the fashion business and now possibly into retail banking."
Its disruptive desires don't end there. The Whole Foods acquisition shows Amazon's willingness to enter the grocery industry while also building out a delivery service and working on drone technology that could one day rival UPS ( UPS) and FedEx ( FDX).
AMZN also recently teamed with Berkshire Hathaway ( BRK.A, BRK.B) and JPMorgan Chase & Co. ( JPM) to disrupt health care, and fields like search, travel and entertainment are on notice as well. Its culture, powerful platform and resultant insights, and long-term approach make disruption a sustainable competitive advantage.
[See: Artificial Intelligence Stocks: The 10 Best AI Companies.]
The third and final "pro" to buying AMZN stock -- aside from all the implied pros that come from the dominant company and ruthless culture Bezos has built -- is AWS, Amazon's cloud computing business. Amazon shares owe a huge debt to AWS for their otherworldly performance in recent years.
To this day, AWS is the only reason Amazon shows a regular profit -- it failed to break even on its $160 billion in e-commerce sales. Its cloud business, however, made a $4.3 billion operating profit on just $17.5 billion in revenue.
"AWS is clearly carrying the earnings of Amazon, and there is still a lot of upside to expand through AI and machine learning," says Heidi Pozzo, founder of Pozzo Consulting.
Amazon wouldn't be half as innovative without AWS serving as an in-house financier for risky, rewarding opportunities.
Cons to buying AMZN stock. Sometimes there's a problem with having a few really impressive strengths. If your strengths disappear or become weaknesses, that can be ruinous to the underlying stock.
Perhaps the biggest con, or risk to Amazon shares, is that AMZN is so reliant on Jeff Bezos and AWS. Bezos may be the richest person in the world, but he's not immortal.
"If I'm an investor, I want to see Bezos visiting the doctor every six weeks, running blood tests, doing full body scans for tumors, whatever it takes to make sure this man can continue to helm this ship," McQuivey says.
Then there's AWS, the high-margin, high-growth cash machine. "At its heart, Amazon Web Services is a commodity service largely sold on price," says Barry Randall, chief investment officer of Crabtree Asset Management.
With competitors like Microsoft Corp. ( MSFT) Azure, Google Cloud and International Business Machines Corp. ( IBM), there's no guarantee AWS keeps growing 40 percent a year or that its high margins endure.
The second, perhaps more glaring issue with Amazon stock is its incredibly frothy valuation. It trades at about 100 times 2019's expected earnings.
"I believe Amazon deserves a premium valuation, but 100 times forward earnings for a company growing its top line 20 to 25 percent going forward leaves a lot of room to fall" if it doesn't execute perfectly, Randall says.
Lastly, there's the potential for regulation, which looks even more feasible after Facebook's recent data debacle. And Amazon's growing power alone, especially if it materially disrupts industries other than retail and begets job losses, will likely draw attention.
"With the rising power of the big digital platforms, Amazon will certainly spend more of its time and its margin working on compliance, lobbying and soothing potential regulators," McQuivey says.
The bottom line. Amazon's one-of-a-kind CEO Jeff Bezos is in the same league as Steve Jobs. He's built a company with a culture that's so customer-centric that it practically has a mandate to be disruptive and ruthless. And AWS, a result emblematic of the company's resolve to innovate, allows the company to operate its retail business at a loss.
Still, the main issue with AMZN stock in essence is this: The market seems to be pricing the company as if its current strengths won't weaken and its future execution will be perfect. The future is unpredictable, and regulatory scrutiny, a sickly Bezos or a weakened AWS could knock down the forward price-earnings ratio of 100 significantly.
[See: 7 of the Best Tech Stocks to Buy for 2018.]
Amazon's an exceptional company, but its rapid appreciation seems overdone. Potential shareholders would be wise to wait until shares trade at more reasonable levels.
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