Recently, shares of Amazon (AMZN) took a hit after the company's second-quarter earnings report. While top-line numbers and guidance looked very good, investors were spooked by the company's huge bottom-line miss and weak operating income guidance. In the end, the report basically continued the Amazon narrative, which is a company that spends heavily to keep its revenue growth flowing.
As the company continues to sell more from its third party marketplace, and the AWS business becomes a larger part of revenue, Amazon's gross margins have continued to rise. Unfortunately, this obscures the true state of business because operating expenses are rising at a much faster rate. In Q2, Amazon reported the following year-over-year increases in these income statement items:
Revenues: 24.84%
Gross margin dollars: 29.22%
Fulfillment expenses: 33.01%
Marketing expenses: 44.18%
Technology and content expenses: 43.02%
General and administrative expenses: 50.69%
Because the company's four main operating expense items increased at rates much faster than gross margin dollars, the company reported a 51% plus decline in operating income. Additionally, Amazon guided to Q3 operating income in a range of a $400 million loss to $300 million profit, compared to a $575 million profit in the year-ago period. Increased spending explains why the company missed EPS items by a mile and why Q3 bottom-line numbers are coming down substantially.
The real question to ask is, were these big bottom-line misses a surprise? For instance, we know Amazon has made numerous price cuts for AWS in recent quarters, which explains the 200-basis point decline sequentially in operating margins for the segment. Additionally, the reduction in the US to free shipping for orders over $25 means more smaller orders from consumers, which means a jump in the company's shipping expenses. Throw in increasing losses from the international business, and you have an ugly bottom line. Take a look at how street estimates have fallen:
At Monday's close, Amazon shares were down about $90, or about 8.4%, from their pre-earnings and all-time high. There seemed to be a lot of fear after the company's bottom-line disappointments, but if you follow the name, you really shouldn't be surprised. Amazon is spending heavily to grow, and top-line growth is still coming in at 20+ percent a year. If you are looking for profits, this is not the name to be in, but if you are looking for revenue growth, don't expect Amazon to go away anytime soon.
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