Amazon (AMZN, Financial) makes its money through three segments: US retail operations, international retail and its cloud division, Amazon Web Services. In the second quarter of the current fiscal, Amazon made $30.40 billion, with North American retail accounting for 58.13%, international retail coming in at 32.3% and Web Services accounting for 9.4% of its revenues, respectively.
The Question of Profitability
AWS was their most profitable segment with an operating margin of 29.9%, while North American operations, after showing healthy improvement in margins during the last eight quarters, reached an impressive 3.97% for the quarter. Even with just $2.88 billion in revenues, AWS recorded a higher operating income than North American retail and the trend looks like it's going to continue considering the pace at which their cloud segment has been growing over the past two years.
The big question is, how long before the international business segment, which had $39.52 billion in revenues last fiscal, will start showing a stronger bottom line. The last four quarters’ operating incomes from the international segment read -56, 60, -121, -135 million dollars.
When it comes to the retail business, size and scale are everything. For a long time, Amazon’s North American operations did not yield that much to its bottom line, even though the company kept leaping forward with strong top line growth. But in the last four quarters, those same margins have steadily held their ground in the 3.5 to 4% range, a good place to be when you have $71.177 billion in sales during the last four quarters. As sales kept increasing, margins kept rising, and it can only get better as Amazon’s sales volume in the United States keeps increasing. With several other retailers already having shown the way to the $100 billion club, Amazon will easily get there in the next couple of years.
Can They Repeat the Formula Outside the U.S.?
With just $39.52 billion in international sales spread across twelve countries including India, Italy, Germany, China, Brazil, France, the United Kingdom, the Netherlands, Australia, Spain, Japan and Mexico, Amazon looks like it is a long way away from posting consistent bottom line results in these markets.
The key to that lies in achieving the same kind of scale in each of these countries as they have in the United States over the past eight quarters. When that happens, Amazon will be the number one retailer in that country with any other player being a distant second. That’s the way it has to be, judging from the economies of scale that played out at home.
China is totally out of question due to the regulatory nature of the business environment there. Amazon has possibly spread its operations a bit thin by expanding too quickly into too many markets, but the company does not really consider that a problem.
In India, the company is already the number one player, but in terms of returns, the country will never get close to the United States. The Indian e-tail market is expected to grow at a strong pace over the next few years and reach in excess of $100 billion.But to see commensurate returns, Amazon will not only have to stay at the number one position but have a significant lead over anyone else, including Flipkart. But the country does show promise as the next biggest market for Amazon.
Brazil could have provided Amazon a good runway considering the population but, unfortunately, the country is in serious political and economic turmoil. As such, the odds look bleak for any company trying to break into this economy.
European nations currently offer the best growth opportunity for Amazon, and the company is already doubling down on its investments in Italy.
“Online retailer Amazon.com is set to announce on Friday the first in a series of investments in Italy worth at least 500 million euros ($550 million), a bet on the government's plan to go from laggard to leader in digital commerce, sources said.
“Amazon will invest 150 million euros to build a major storage and logistics center outside Rome, its second in Italy, said one source close to the matter. The new center, due to open next year, will employ 1,200 people.” -Reuters
What we have learned here is that Amazon needs to pick a few markets and reach scale to start showing consistent results. The company has gone wide, but now it needs to go deep into each of these markets to make international retail work. Their investments in India, Italy and other markets are taking them there one step at a time. We will see Amazon grow in all these markets, dominate the space and eventually become profitable, but on the surface all we’ll see is positive top lines and negative bottom lines at least for the next few years.
Disclosure: I have no positions in any of the stocks mentioned above and no intention to initiate a position in the next 72 hours.
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