Can Amazon.com Stock Turn Around Its 20% Dip in 2015?
Amazon.com shares have fallen nearly 20% so far in 2014, as surging expenses finally spooked Wall Street, but with advances in payments and possibly advertising, Amazon's business, and its shares, could make a big turnaround in 2015.
Why a turnaround?
Amazon's revenue growth is estimated at 22% for 2014, then down slightly to 20% next year. Revenue growth is not the problem for this company. Instead, it's the company's lack of profits, which is why new services aimed at boosting profit could drive shares going forward.
Despite Amazon's near-$82 billion in revenue during the last 12 months, it created just $181 million in net income. Its profit margin of 0.22% is very weak. However, the company's $1 billion in free cash flow serves as proof that Amazon is capable of generating cash from operations.
The disconnect between Amazon's healthy cash flow and limited profits lies in its willingness to make big investments to generate lofty revenue growth rates. During the second quarter, spending on fulfillment increased 15% while marketing and technology costs each soared 40%.
The double-edged sword is that these costs must continue in order to improve the Amazon experience for consumers and maintain revenue growth. But thankfully, Amazon has an answer to Wall Street's concern; actually, it has two solutions.
The first solution: Watch out, Google
Amazon's core e-commerce business is huge, but the retailer offers low price and free shipping and handles its fulfillment centers. While great for consumers, these costs help lead to a lack of profits.
Therefore, with 250 million active users and knowledge of what consumers actually buy, Amazon is apprently chasing Google's $50 billion-a-year advertising business. Amazon already hosts advertisements on its site, but those ads are powered by Google. However, The Wall Street Journal reported back in August that Amazon is working on creating its own ad platform for both its sites and third-party sites, much like Google's AdWords program.
Amazon is initially unlikely to have Google's pricing power, but advertising itself is still largely profitable. Over the last year Google has generated more than $20 billion in operating cash flow on revenue of $65 billion. Furthermore, Google's operating margin during the same period was 23.4%.
If Amazon.com can capitalize on the $1 billion worth of advertising estimated to be sold on its site this year, and profit anywhere near Google's 23.4% operating margin, then the company could theoretically increase net income by 50% with a relatively small advertising business. If Amazon can grow its platform with third-party sites and generate higher ad revenue on its own site, the company could very quickly see profits skyrocket.
The Wall Street Journal first reported that Amazon.com was preparing an online advertising platform back in August of this year, and said, "Amazon has told potential ad partners that it may begin testing the new placement platform, dubbed Amazon Sponsored Links, later this year." If accurate, Amazon appears to be moving quickly with this new service, meaning it's possible to see the service up-and-going sometime next year.
The second solution: Follow eBay's lead
Over the last year, Amazon has launched several products intended to make a dent in a growing payment processing industry. Amazon Payments was originally launched in 2007. But unlike eBay's PayPal, monetizing the service never seemed like a goal, as its intent was only to provide consumers with a reliable platform for purchasing goods on Amazon.com.
However, Amazon Pay's new services and features introduced over the last few months appear directly aimed at PayPal. These include the ability to pay phone bills and other monthly subscription fees outside of Amazon,, along with mobile payments, a credit card reader, and a mobile application called Local Register, which acts as a payment processing service for brick-and-mortar retailers. In typical Amazon fashion, Local Register it has even undercut PayPal's usage fees at a 1.75% initial fee versus 2.7% for PayPal.
Amazon can create revenue via subscriptions or with per-transaction fees, then, theoretically, profits as well. By entering the payment processing business aggressively, Amazon could also open even more profitable doors over the long term.
Following Amazon's second-quarter disaster, which created half of the stock's losses for 2014, Cowen and Bank of America both lowered their price targets on the company, citing lack of profitability as a main cause. These reactions serve as proof that higher profits could change investor sentiment, and once more put the focus on Amazon's stellar revenue growth.
Amazon peers Alibaba and eBay have operating margins of 48% and 20.5%, respectively. Therefore, creating profits in e-commerce is certainly attainable. Amazon has the network and technology to do so with new products and services. Advertising and payment processing are two high-margin industries in which Amazon has wide appeal, and should be able to create profits to satisfy Wall Street, which could send the stock up.
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The article Can Amazon.com Stock Turn Around Its 20% Dip in 2015? originally appeared on Fool.com.Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends Amazon.com, Bank of America, eBay, Google (A shares), and Google (C shares). The Motley Fool owns shares of Amazon.com, Bank of America, eBay, Google (A shares), and Google (C shares). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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