Amazon Earnings: Will Big Investments Weigh on Profitability?

By Daniel Sparks Markets Fool.com

On the heels of a nice 37% gain in the company's stock price in the past 12 months, the pressure is on for Amazon.com (AMZN) to deliver strongly when the e-commerce and cloud-computing giant reports fourth-quarter results on Thursday, Feb. 2. Ahead of the quarterly update, here's a brief overview of what to watch when Amazon posts its earnings release.

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Image source: Amazon.com.

Amazon.com Results: The Raw Numbers

Metric Q4 2016 Guidance Q4 2015
Net sales $42 billion to $45.5 billion $35.7 billion
Operating income $0 to $1.25 billion $1.1 billion

 

Data source: Amazon's third-quarter 10-Q filing.

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For Amazon's fourth quarter, management expects the company to post strong revenue growth. Management's guidance implies revenue growth will be between 17% and 27%.

However, even the high end of the guidance for net sales falls short of the growth rate Amazon's net sales achieved in the third quarter, when revenue was up 29% year over year. It's possible, therefore, that Amazon is lowballing its guidance range, and revenue is more likely to be in the high end of this range.

Amazon's expectations for fourth-quarter operating income are where the most uncertainty for the quarter lies. Big investments in international markets, fulfillment-center and warehouse openings, digital content and various Prime benefits are expected to drive operating expenses higher.

Amazon CFO Brian Olsavsky explained the upward trajectory for the company's investments in the company's third-quarter earnings call:

 

 

What you are seeing, essentially, in the second half of this year is a step-up investment, primarily around digital content and also the fulfillment center investment -- but also things like Echo and Alexa which we're adding a lot of resources to, India and AWS as we add people there to support additional service, rapid growth in that business.

 

 

But if revenue growth comes in at the high end of Amazon's guidance, the negative impact of these expenses on Amazon's results won't be as noticeable, hence the wide expected range for fourth-quarter operating income. Of course, this relationship between revenue growth and operating income raises the stakes for Amazon's revenue growth.

Other Key Areas to Watch

 

Beyond revenue and operating income, investors should look for an update on Amazon's Echo products and the company's cloud-computing segment.

Amazon's voice-activated smart speakers were hot gifts this holiday season. Both the Echo and Echo Dot sold out before Christmas despite Amazon's "best efforts and ramped-up production." Furthermore, the company said record-setting orders of Amazon Echo family products increased 900% over last year's holiday season. With sales of the product skyrocketing, investors should watch for an update on how Echo is impacting Amazon's business.

Cloud computing. Image source: Getty Images.

Probably the most important item to watch when Amazon reports results will be its Amazon Web Services, or its pay-as-you-use cloud-computing offerings, including database storage, application platforms, and other information technology resources. Together these account for about 75% of Amazon's operating profits, so investors are counting on AWS to serve as a long-term growth driver for the company. In the third quarter, AWS' operating income soared 102% year over year, from $428 million to $861 million, and AWS' revenue jumped 55%. While Amazon's plans for aggressive investments will likely slow AWS' growth in operating profits, investors should look for the segment's sales to continue growing rapidly.

Investors can tune into Amazon's financial results after market close on Thursday, Feb. 2; the release will be posted on the company's investor-relations page. Stay tuned at The Motley Fool for our take on the fourth-quarter update after it is posted.

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Daniel Sparks has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Amazon.com. The Motley Fool has a disclosure policy.

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