Amazon (NASDAQ: AMZN) had a phenomenal year in 2023, with its stock surging by around 75%, outperforming the S&P 500 index threefold. The company experienced a significant turnaround, witnessing margin expansion and generating positive free cash flow once again. As a result, its market capitalization skyrocketed to over $1.5 trillion, making it the world’s fifth-most valuable company.
Many investors may feel that they have missed the boat on Amazon stock due to its substantial gains. However, it is crucial to understand that a stock’s upward trajectory does not necessarily mean it should be avoided. So, is Amazon poised to beat the market yet again in 2024? Let’s delve deeper and find out.
Continued growth in e-commerce margins
While Amazon has been diversifying into various sectors such as healthcare and satellite internet services, its e-commerce and cloud computing divisions remain the key drivers of its success. Despite long-standing skepticism about the profitability of its e-commerce segment, Amazon proved critics wrong in late 2023. Thanks to its extensive logistics network, booming advertising revenue, and increased sales from high-margin third-party seller fees, the company’s e-commerce segment has experienced margin expansion, particularly in North America.
In the last quarter, Amazon’s North American segment achieved an operating margin of 4.9%, a significant improvement from negative 0.5% the previous year. With a trailing twelve-month revenue of $340 billion, a 5% operating margin translates to $17 billion in operating income from this segment alone. Given the continued growth in advertising and third-party sales, combined with the completion of its capacity build-out post-pandemic, it is not surprising to project that Amazon’s North American e-commerce segment could reach a 10% operating margin in 2024, resulting in $34 billion in earnings.
Cloud computing potential
Amazon Web Services (AWS), the company’s cloud computing division, currently stands as its most profitable segment. With revenue nearing $100 billion and operating margins exceeding 25%, AWS holds the potential to become one of the world’s most lucrative businesses independently.
Although AWS has faced concerns about its slowing revenue growth, particularly due to the slowdown in venture capital funding and the software sector, it still managed to achieve a 12% year-over-year revenue increase in the last quarter. As cloud computing continues to outpace traditional computing solutions, coupled with the growth of artificial intelligence and increasing global computing needs, AWS appears well-positioned to sustain double-digit revenue growth for the foreseeable future.
If AWS achieves $200 billion in revenue within the next five to six years and maintains its market share, it could generate over $50 billion in operating income for Amazon, establishing itself as a highly profitable entity.
Is the stock undervalued?
Despite its impressive performance, Amazon’s stock may still be considered cheap for long-term investors. With a market capitalization of $1.56 trillion and a trailing price-to-earnings (P/E) ratio of 78, the stock may initially appear expensive. However, focusing solely on the trailing P/E fails to account for the rapid margin expansion in e-commerce and the substantial growth potential of AWS.
By projecting a 10% margin and $34 billion in earnings for the North American e-commerce segment, alongside a $25 billion earnings estimate for AWS, the combined earnings for Amazon could reach $59 billion. It is important to note that this calculation assigns no value to international retail operations or other ventures such as Kuiper satellite internet or healthcare. Dividing the market capitalization by projected earnings yields a P/E ratio of 26, which aligns closely with the market average and makes the stock more appealing.
Considering Amazon’s ongoing revenue growth potential, its current valuation appears favorable, particularly when factoring in the growth prospects of its subsidiaries beyond North American retail and AWS.
In conclusion, Amazon’s stock remains an attractive investment opportunity. The company’s notable margin expansion in e-commerce, coupled with the continued growth of AWS and the overall expansion of online shopping and cloud computing, positions Amazon for another successful year in 2024. As the company continues to navigate various sectors and expand its market share, investors should not overlook the potential for Amazon to outperform the market once again.