Various media outlets have recently honed in on Amazon.com, Inc. ‘s recent stock uptick, since the move helped it leap past Berkshire Hathaway, Facebook, and ExxonMobil to become the world’s fourth largest company by merit of market capitalization. Now sitting at $362 Billion, Jeff Bezos’s brainchild sits only beneath Apple, Microsoft, and Alphabet — the company formerly known as Google — in terms of total size.
Amazon worth 60% more than Wal-Mart
The market currently values Amazon about 60% more than Wal-Mart, the nation’s largest retailer in terms of sales. Even though Wal-Mart had revenue 4X in excess of Amazon last year, investors are willing to apply an advanced operating multiple to Amazon due to its continued sizable sales growth prospects, which seem to be sitting between 20 and 30 percent at the moment.
Amazon’s valuation has historically been an item of huge contention, starting back during the Internet bubble days of the late 90s. The company had a boom/bust cycle in terms of stock price from 1999-2001 as traders drove the stock higher but capitulated as numerous analysts predicted liquidity issues might force the company into bankruptcy.
During the dark days of the nation following the 9-11-2001 terrorist attack, Amazon.com, Inc. ’s stock traded down to as little as $5 a share. Had you bought Amazon then, your investment would be worth 152X as much today.
The stock’s rise over the past many years has been controversial as well, however with a short float of less than 2% today, most investors don’t seem inclined to get in front of the Amazon freight train.
Clearly, the stock is being priced for robust growth into the future. Over the past two years, Amazon has been averaging about 20% top-line (revenue) growth. Free cash has been tame, but that is because Amazon continues to shell considerable capital in order to build out its growing infrastructure — otherwise known as capex spending.
While many investors may think that Amazon is expensive on a simple P/E (price to earnings) basis — and it is — the market is starting to envision a time that the company pares back capex spending, which will allow capital that is currently being spent to cascade into free cash flow.
Pricing an equity growing at such a rapid rate is somewhat of a shot in the dark. If Amazon’s revenue trends fall short of recent history, it could cause the market to quickly extinguish current long-term earnings models and re-price the stock lower. The opposite could also hold true.
Either case, investors should continue to view Amazon as a high risk/reward equity. The stock continues to confound naysayers, but has reached levels where purchase justification is getting harder and harder, even with optimistic longer-term growth scenarios.
Will Amazon Soon Surpass Apple?
While the sky seems to be the limit at the moment for Amazon’s business, it would have to rise a further 85% and hope that Apple goes nowhere for it to become the world’s most valuable franchise.
That prospect is not impossible, but it clearly isn’t going to happen overnight. The next significant hurdle for Amazon will be the end-of-year holiday shopping season where we will get a sense of whether current growth trends are sustainable. During the first two quarters of 2016, Amazon’s top line grew around 30 percent. Analysts are pegging about 25% revenue growth this year in total, with a drop to 20% next year.
If analysts are correct, which shouldn’t necessarily be taken as gospel, we may be nearing the high water market for sales growth. Once Amazon takes the foot off the infrastructure gas, then we’ll start to see the true cash flow power the company has.
Either way, my personal feel is that the market is pricing in too much optimism at the moment. Therefore I don’t have a high level of conviction that Amazon.com, Inc. will surpass Apple in terms of market cap over the next 3-5 years. However, many people have lost big betting against this company in the past. I’m not inclined to be another one of them.
Adam Aloisi was long shares of AAPL, MSFT, and XOM at time of writing, but positions can change at any time.
Disclaimer: The above should not be considered or construed as individualized or specific investment advice. Do your own research and consult a professional, if necessary, before making investment decisions.