Short thoughts on Amazon valuation

Guns, Sails, Cloud (and Robots)

Private equity is valued once a year. Listed equity is valued every second. Listed equity prices change fast, much faster than their fundamentals.  A good example is Amazon* with a share price that nearly halved in 2022. Even assuming a serious recession in the US, is Amazon’s revenue going down 50%?  

True, profitability is suffering but there is no sign of weakness in the topline growth. Structurally, the quality of earnings is improving as more revenues are derived from high margin cloud, new services including video and importantly advertising. Amazon and other online retailers are winning market share away from social platforms like Google and Meta. The reason is simple: Google and Meta can try to guess from their internal data record peppered with artificial intelligence what consumer are going to like and buy. Amazon does not need to guess. Amazon knows that I am interested in economic history as I recently bought on their platform a great book, “Guns, Sails and Empires” by Carlo Cipolla, an Italian historian a great work on the European economic take-off. 

After the pandemic, Amazon’s valuation went ahead of itself. The EV/EBITDA ratio reached 43x in early 2021, it is now back at 20x, a 10-year low. This historically low level fails to take in account structural factors such as the rising weight of higher-margin revenues. The market gives little attention to the potential for cost-cutting despite the recent announcements in the hardware division. 

On the logistics side, Amazon is making progress in automation. They announced last week their new robot-arm Sparrow aimed at replacing humans in the most common job: picking stuff. Sparrow is still in experimental stage and can handle “only” 65% of items in a typical Amazon warehouse. Amazon has doubled its workforce to 1.6 million during the pandemic, with most of the hiring taking place in logistics. 

Over time, Sparrow and other robots may significantly impact Amazon’s profitability and,  more broadly speaking,  the way we work. Typically, we can see the direction, but we don’t know the pace of change. Advances in “Gun and Sails” played a key role in the ability of Europe to establish military domination in the World in the 16th century. In a similar fashion, the cloud and robots are expected to be significant game changers in the next decade. 

We don’t know the short-term direction of equity market and Amazon’s share price. What we know is that if Amazon was not listed and was owned by a private equity fund, it would be valued very differently.

*Deshima Smart Data has a position in Amazon