The company will be giving an important update to shareholders next week.
The heart of earnings season is upon us. Companies are set to update investors with their financial results for the third quarter over the next few weeks, and investors are bound to react…rationally. Jokes aside, there are times when a single earnings report can be given too much importance from the investment community. It’s a data point, sure, but one that encapsulates only a single three-month period.
With that being said, Amazon (AMZN -0.30%) will be releasing its earnings soon. Investors will be looking for further improvements across its e-commerce, retail, and cloud computing divisions. The stock is now up 123% since the beginning of 2023 and has a market capitalization of approximately $2 trillion.
Should you buy Amazon stock before its earnings release on Oct. 24?
Margin expansion in retail
The original Amazon business — and still its largest — is its e-commerce and retail empire. In North America alone, revenue was $176 billion through the first six months of 2024 and grew 9% year over year last quarter. Even more important than revenue growth is profit margin expansion, which seems to be finally showing up for the e-commerce division.
Operating income was $10 billion for North American retail in the first six months of 2024, which gives a profit margin of 5.6%. The figure is the same over the last 12 months and has been expanding for the last two years. With fast-growing advertising revenue, third-party seller services, and subscription revenue from Amazon Prime, the North American retail revenue mix has much better gross margins than 10 years ago.
For the third quarter, investors should look for Amazon to keep expanding its operating profit margin in the retail segment. Over the next few years, it isn’t outrageous to expect this figure to hit 10% or higher, which could lead to huge growth in profit generation for the whole company.
AWS revenue growth
The second important division for the company is Amazon Web Services (AWS). The cloud computing leader brings in close to $100 billion in annual revenue and sports high profit margins (33.4% over the last 12 months). It’s benefiting greatly from the boom in artificial intelligence (AI), in which software providers are turning to cloud infrastructure companies such as AWS to power their products.
Investors should track AWS and its continued revenue growth acceleration in the third quarter. Revenue growth has accelerated since Q2 of last year, and hit 19% growth last quarter. All indications are that this acceleration will continue with booming spend for AI. Over the long term, there’s room for AWS to hit $200 billion or more in annual revenue. With 30% profit margins, that’s a lot of cash sent up to the parent company, which should make shareholders happy.
AMZN PE Ratio (Forward) data by YCharts.
Is the stock a buy?
Clearly, Amazon’s retail and cloud computing divisions are both doing well at the moment. However, the stock has reflected this success, and is now at a market cap of around $2 trillion.
Based on future earnings estimates, Amazon has a price-to-earnings (forward P/E) ratio of just under 40, which is well above the average for the S&P 500 index. But what about its earnings potential a few years from now?
Over the last 12 months, Amazon’s consolidated operating margin hit 9%, an all-time high. As AWS becomes a larger part of the business and retail keeps getting more efficient, I believe that this consolidated profit margin can grow to 15% in three years. If consolidated revenue can keep growing at 10% a year, the company will be generating around $800 billion in sales three years from now.
With $800 billion in sales, 15% margins would mean around $120 billion in annual earnings — or a P/E of approximately 17 based on the stock’s current market cap. That math says that Amazon is likely trading at a slight discount, but is not overly cheap today. This isn’t surprising given that the stock is up over 100% since the beginning of 2023.
Keep Amazon stock on your watchlist before this earnings report on October 24. This isn’t a screaming buy today.
John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Brett Schafer has positions in Amazon. The Motley Fool has positions in and recommends Amazon. The Motley Fool has a disclosure policy.
