Amazon (AMZN) Part V

I’ve finally gotten around to looking at the cash flows for AMZN. I didn’t include all of the cash flow information from previous 10-ks but thankfully, AMZN did include cash from operations and free cash flow from 5 years.

Frankly, I’m surprised. AMZNs cash flows aren’t as good as I thought they might be, given the stock price. In fact, cash from operations, while growing, isn’t keeping pace with sales, indicating that cash operating expenses are growing faster than sales. Worse, free cash flow has actually been declining. Of course, that’s due to the large capex which is expected given the rapid growth in revenue. Most of the increase in AMZNs cash in 2012 appears to have come from the issuance of $3.3B in debt.

To tell the truth, I’m having a hard time finding anything compelling about this stock, and I don’t care for some of the accounting practices (like adding shipping fees collected to revenue and classifying depreciation expenses as part of other departmental expenses) which seem designed to try to hide something. So, for now, I doubt I’ll pursue this project any further.

Amazon (AMZN) Part IV

I know.  It has taken a while to get back to AMZN.  I began to lose interest after looking at the Income Statement in my last post on the subject.  I really shouldn’t have though, because it raises the question of how is AMZN being valued so highly when they aren’t actually making any money.  Of course, the answer is the expectation of future earnings, but I wonder just how far in the future those earnings are going to be, and how much to justify the current stock price.

At any rate, today I’m looking at the balance sheet, which I’ve included a picture of at the end of this post.  I didn’t do any adjusting other than to include the breakdown between gross and net plant and equipment, and accumulated depreciation, which AMZN shows in a separate part of the 10-k from the balance sheet.  This kind of thing is annoying to me, but at least it was there.

So, to be honest here (why would I want to do that, right?), nothing really stands out in the balance sheet, except, perhaps, that things are a little TOO regular (nothing like a little paranoia).  Since 2008, the balance sheet appears to have gotten bigger at about the same rate as sales have increased, and most of the balance sheet accounts have remained at about the same proportion to the size of the balance sheet.

One thing that could be a bit troubling is the trend between long-term debt and stockholders’ equity.  Debt is becoming a more significant part of the balance sheet, while the portion of the balance sheet represented by equity is decreasing.  It’s probably not a big deal though.  They recently purchased their corporate offices so the increase in debt isn’t inexplicable, and being that AMZN is reporting losses, the decline in equity is also not surprising.

Inventories are gradually edging up as a percent of sales, which I would not really expect given that AMZN is selling more downloadable stuff, which doesn’t require much in the way of inventory.  Accounts receivable are also edging up compared to sales, which could signal some difficulty collecting, although I doubt AMZN has trouble with collections, and the amount isn’t that great anyway.  Still, the trend isn’t really something an investor wants to see.

The fact that deferred tax assets keep staying relatively constant indicates the possibility that there is some earnings management going on in order to avoid taxes.  In fact, in one of the 10-ks there was a statement that the Deferred tax assets were nearly used up and that the company would likely have to pay taxes, which didn’t actually happen because, surprise, the company reported a net loss.

Because treasury stock is growing, it appears that AMZN is repurchasing shares, but it looks like it’s more to offset share based compensation than actually returning anything to stockholders.

So, I’m not really seeing much to get excited about here.  Maybe I missed something.  Next time, though, I’ll be looking at cash flows, and being the finance guy, that’s what I’m most interested in.  Thanks for reading!

Amazon (AMZN) Part III

I’ve included a picture of the spreadsheet at the end of this post.  In that spreadsheet, I have separated out the shipping fees collected on purchases from revenue because AMZN doesn’t actually sell shipping.  Instead, I included the shipping fees collected as part of non-operating income.  The 10-k implied that there were some shipping costs associated with “net services sales,” but I haven’t seen a specific amount, and I’m thinking that it isn’t much, so I’m just going to assume that all of the shipping fees collected were included in “net product sales.”  As far as total net sales go, it won’t make any difference anyway.  The shipping fees paid by AMZN for receiving goods is included in inventory, which as far as I’m concerned is fine, and results in those costs being recognized at the same time as sales are recognized.  Outbound shipping charges when AMZN offers free shipping are also included in the cost of sales, but I have chosen to separate those charges out, and list them as a separate expense, near Marketing.  This makes sense to me because AMZN states in the 10-k that they view those costs as marketing costs.

I would like to have been able to do the same kind of thing with depreciation, but AMZN includes depreciation expense in whatever the corresponding operating expense category is, and I’ve not been able to find a breakdown of how much is included in what category.

After changing the Income Statement around a bit to suit me, i.e. taking shipping fees received out of revenues, AMZN’s operating income was negative in 2011 and 2012.  Perhaps I should have netted out the shipping, which would have resulted in the same operating income as before, but the way I see it, the money AMZN collects for shipping isn’t really part of their operations, as I said earlier, but the cost of shipping is since shipping has to be paid on most of the stuff that AMZN sells, and AMZN stated in their own 10-k that they view those charges as marketing expenses.

Sales growth has been admirable, to say the least.  I just read an article somewhere that expressed concern about the deceleration of sales growth, which made me laugh because I think it’s a little bit unreasonable to think that sales are going to increase at 40% for long, when total sales are over $60B.

I’ve also included a same-size income statement, which shows everything on the income statement as a percentage of sales.  As I noted in my last post, there doesn’t really look like any single item that is alarmingly out of control.  The problem looks more like nearly every operating cost is rising slightly faster than sales, and in retail, where the net profit margin is only around 3% or so, it doesn’t take much to fall from a profit to loss.  And as it turns out, AMZN’s profit margin was only 3.5% when they were profitable.  The good news here is that AMZN’s gross margin is actually expanding a bit, just not fast enough to make up for the increasing cost of just about everything else.

So, at this point in time, I’m feeling pretty negative about AMZN.  Profitability has never been exceptional; it is about comparable to most retailers.  I realize that in the end what matters are cash flows, and having not really looked at those yet, I’m just going to take a guess and say it looks good.  I don’t say that for any reason other than AMZN put their statement of cash flows first in their 10-k, which is a subtle way of saying “this is the most important thing.”  I don’t know why, I just tend to look at things in this order: Income statement, balance sheet, and then cash flows.

I’m sure I’m missing all sorts of stuff here, and would appreciate any comments anyone out there might have.  Sometime in the next few days, I hope to move on to AMZN’s balance sheet.

Amazon (AMZN) Part II

In part I, I demonstrated how little I know about Amazon, so now today, I’m going to start learning about the company.  I’ll start with taking a look at some of the key statistics available on Yahoo! Finance.

AMZN closed today, up $1.72 at 261.95.  Because the company showed a net loss last year, the TTM PE is not meaningful.  However, analysts project positive earnings for this year, so the forward PE is 71.88, and a 5 year expected PEG ratio of 4.20.  In my opinion, the PEG is pretty high, as is the forward PE ratio, both of which certainly indicate that this is not a value investment, which everybody already knows.  Like I said in the beginning, I don’t know a whole lot about AMZN, but that’s about to change.

Again, because AMZN is not profitable, the profitability ratios and effectiveness ratios aren’t terribly meaningful.  AMZN does have a current ratio of 1.12 so liquidity is okay.

The stock is up about 37% over the last 52 weeks, while the S&P 500 is up only about 12%.  Its beta is 0.88, which I actually expected to be higher.  Anyway, that’s enough of that.  I want to take a look at the annual report, and specifically the depreciation and shipping expenses I mentioned yesterday.

As far as depreciation goes, I don’t really see that it has much at all to do with land and buildings, like I was under the impression they were.  It’s mostly for “internal use software and equipment,” which constitute about 2/3 of the gross assets.  According to the 10-k, these items are depreciated straight-line over the useful lives of the assets, so I don’t see why anyone would expect depreciation to decline substantially any time soon, since that statement implies that the assets will need to be replaced once they have been depreciated, although that may not happen.  There is, though, a small note that says:

“In December 2012, we acquired our corporate headquarters for $1.2 billion consisting of land and 11 buildings that were previously accounted for as financing leases. The acquired building assets will be depreciated over their estimated useful lives of 40 years. We also acquired three city blocks of land for the expansion of our corporate headquarters for approximately $210 million.”

So, it looks as if there’s going to be significant capex (and depreciation) for the corporate headquarters in the future.  Also, at only $2.1B (I say only when compared to over $60B in sales) I have to say that I don’t buy the depreciation explanation.

Looking at shipping costs now, the first thing I noticed is that when a customer does pay for shipping, that’s added to revenue.  I don’t think it really should be, but what do I know?  Anyway, the breakdown on shipping costs shows a net expense of about $2.8B and as a percentage of sales that cost is declining.  So again, this doesn’t really appear to be a major problem area.

In fact, AMZN’s margins have shrunk a little, and scanning through the notes it appears that this is due to expanding payrolls, which isn’t surprising considering the increasing sales.  Of course, these expenses can’t keep growing at a faster rate than sales.  These appear to be the biggest drivers behind AMZN’s lower operating profit in 2012.

Some fairly substantial differences between 2011 and 2012 look more like non-operating expenses, like interest.  There was also a substantial increase in the provision for income taxes, as well as a substantial loss from AMZN’s investment in LivingSocial.

At this point, it looks like there really isn’t a single issue that can account for why AMZN is unprofitable, and I certainly haven't found any reason to think that anything is going to get any better.  So, over the next few days, I’ll put together a spreadsheet and dig a little deeper into the MD&A and notes to see if I can shed any more light on what’s going on with AMZN.

Amazon (AMZN) Part I

I've been looking around, mostly on Seeking Alpha, at some of the analysis of Amazon, and, of course, there are some people that say it's a buy, and others that say it's a sucker bet.  So, while I don't generally get terribly interested in unprofitable businesses, I decided that there was enough interest in it to start a series of posts analyzing and valuing Amazon.

This first post is really just to show anybody reading this how little I actually know about Amazon.  Most of what I think I know is rumor and speculation.  What I do actually know is that last year Amazon sold a whopping $60B or so of stuff, but managed to lose money.  Call me stupid, but that doesn't sound great to me.

The bull case seems to be centered around the idea that Amazon is doing a lot of capital spending, and that it's the huge depreciation expenses that are eating up the profits.  This is expected to change.  I can understand that, but what I don't get is that most of their capex (at least as far as I'm aware at this time) is on building new fulfillment centers; you know, buildings that are depreciated over about 30 years.  I'm not sure how that's going to work out to lower depreciation expenses any time soon, so I'll have to check that whole depreciation thing out.

One of the bear cases talked about competition with bricks and mortar retailers.  I think Best Buy was one that was offering a price matching deal.  In order to be competitive then, Amazon was having to offer free shipping on increasing numbers of orders, and the total bill for that was in the billions of dollars.  Again, I don't know the numbers, but I'll check on it.

Speaking of competition, while the bears are acknowledging competition for Amazon, at least some bulls seem to think that Amazon has no competition.  Of course, the do have competition.  And they actually have a competitive disadvantage to bricks and mortar stores in some ways.  I watch people in stores all the time, and it's clear, people like to be able to touch stuff before they buy it.  Of course, you could always go to the store to touch the stuff, then go home and order it on Amazon, but then, that brings up another weakness.  I know that once I've touched something and have decided I want it, I don't want to go home, find it on Amazon, order it, and wait a few days to get it.  And I don't want to pay extra for fast delivery.  So, I, at least, am more likely to buy whatever it is from the store.

Building all these new fulfillment centers also brings to mind one of the advantages that Amazon has, or did have until they started building a lot, which is not having buildings all over the place.  But, there is good reason for it: they can speed up deliveries and, perhaps reduce shipping costs somewhat.  Still, that used to be the big thing about Amazon; it didn't have the expense of buildings all across the country.

As you can see, I don't know much at all about Amazon, but that will change over the next little bit, and I'll keep posting things as I dig through the news and annual reports, eventually coming up with what I hope will be a compelling story about the company; whether it is a bull or bear story, we'll just have to wait and see.