Understanding the extent of Amazon’s gross profit win
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Understanding the extent of Amazon’s gross profit win

Earlier this month, we discussed Amazon’s most recent, and incredibly strong, quarterly earnings. Now, we’d like – very briefly – to revisit one element of them: the Ecommerce giant’s immense gross profit figure. The company added $7 billion in gross profit in its first quarter. Since that fits into the definition of “numbers too big to easily conceptualise” we’ll turn to our friends at Morgan Stanley for context: in a note released on Monday, they stated this “is more than the growth expected from the top five retailers combined.”

Amazon’s share price is up 32% so far this year

amazon g 160518

Source: Yahoo Finance

So how did Amazon suddenly become so rich? Because it’s worth remembering that it was only four and a half years ago that respected publications were featuring pieces like “Amazon: Nearly 20 Years In Business And It Still Doesn’t Make Money, But Investors Don’t Seem To Care.”

This article, which was published by the International Business Times at the end of 2013, finishes with what may be one of recent history’s most misjudged predictions: The author is quoting a younger, decidedly less-muscular Jeff Bezos (Amazon’s founder, as if you didn’t know) as he enumerates the people for whom Amazon is “creating significant value”. She then gives her own wry response: “missing from this list of winners are shareholders, who have been funding perhaps the longest-running equity bubble ever for a technology company. Enough said?”

I am not cruel enough to name this author, as everyone’s crystal ball occasionally goes on the blink (something it is always worth remembering when reading even the most sober of predictions). But I am cruel enough to show you what happened to Amazon’s share price between the publication of her article and yesterday:

Since December 2013, Amazon’s share price has appreciated by 290.37%

amazon g 160518 2

Source: Yahoo Finance

The bottom line is simple here: Amazon never had any spare cash to give to shareholders because it spent it all on inward investments. Some of those investments (anyone own a Kindle Fire Phone?) failed spectacularly. Others, however (like the Kindle, which literally created an entirely new market almost on its own) were runaway successes.

Bezos has spoken before about the importance of reinvestment, noting that business returns are not truncated: to borrow his metaphor, when you “swing for the fences” in baseball, the most you can get is four runs. When you take those risks in business, the return is potentially far greater. In the last five years or so, those returns have paid off big time.

Take Amazon Web Services for example – an incredible business with a great place in the market, and enviable profit margins. Take Amazon Prime Membership – it’s a great product for the customer, who gets freebies worth far more than the yearly subscription. But it more than pays for itself by pulling these customers deep into Amazon’s incredibly “sticky” ecosystem. Both of these products are profit machines.

According to Morgan Stanley, the quarter-just-gone was a big earner even by Bezos’ standards, and they note: “Amazon’s return on investment stands out, as total gross profit dollars grew by two times more than the first quarter of 2017.” The real question, though, is what Amazon will spend it all on, and how many more homeruns Jeff Bezos can hit with a $7 billion bat.

Dominion holds Amazon in its Global Trends Ecommerce Fund.

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The views expressed in this article are those of the author at the date of publication and not necessarily those of Dominion Fund Management Limited. The content of this article is not intended as investment advice and will not be updated after publication. Images, video, quotations from literature and any such material which may be subject to copyright is reproduced in whole or in part in this article on the basis of Fair use as applied to news reporting and journalistic comment on events.