AMZN Q4 Solid, Margin a Concern

The quarter was solid: revenue ahead, EPS in-line. Operating margin dropped 10 basis points year-over-year (due to product pricing) after several quarters of improvement, and margin outlook was a concern. The stock stalled last quarter when guidance suggested that margin expansion had peaked, and this quarter's results and outlook confirm that. On the positive side, the company seems determined to keep reducing prices, which will continue to improve the long-term value of the brand and franchise (especially in contrast to eBay).

Revenue outlook raised for Q1 and 2008, but margin guidance included a wide range with low-end implying severe margin compression.

 Q4 revenue strong and ahead of consensus:

• US decelerated (economy?),
  
• international continued to accelerate (pre FOREX impact),
  
• FOREX added 5 points of growth. 

EPS in line with consensus because operating margin was lower than expected (this will fuel concerns that margins have peaked). Q1 and 2008 guidance higher than current estimates

Model updated.

Amazon Q4 Earnings Release
Conference Call Link
SAI Spreadsheet: Amazon Financial Analysis
Related: Amazon's Amazing Kindle Sales: Really?
Amazon Buying Audible For $300 Million

Key Points

• Revenue: Revenue of $5.67 billion versus consensus of $5.38 billion and guidance range of $5.1 billion-$5.45 billion). Solid upside surprise.
• Excluding FOREX, revenue up 36% (vs. 42% reported)
  
• US revenue decelerated from 42% in Q3 to 40% in Q4. International accelerated from 40% to 45%.
  
• EPS: EPS of $0.48, in line (misses whisper $0.49) vs. guidance of about $0.41.
  
• Operating Profit: $271 million vs. guidance of $221-$291. In line with guidance, below street.
  

Outlook:

• Q1: $3.95-$4.15 vs current consensus of $3.95 billion
  
• 2008: $18.75-$19.75 vs. current consensus of $18.3 billion
• Operating income: for both Q1 and 2008, guidance is a very wide range with low end suggesting severe margin compression. This will fuel margin concerns, which will be a key issue on the call.
  

CONFERENCE CALL NOTES (Jonathan Kennedy reporting...)

5:15:  Q4 Revenue grew 42% y/y but Gross Margin decreased 70 basis points. The culprits? Changing product mix and lower prices
5:20:  Gross margin in the international segment increased 32 basis points, but decreased 143 basis points in North America.  Perhaps this demonstrates that North American retail was particularly weak in Q4...
5:24:  FY08 Guidance:  $18.75bn to $19.75bn, GAAP Operating Income between $785 to $985
5:27:  Q&A  begins, analysts are perplexed by margins... don't think guided margins jive with growth
5:30:  Analyst asks about the point I made earlier... why did International margins improve and domestic margins plunge? Did higher EGM mix in North America drive down margin? Answer:  A convoluted yes... as EGM realizes scale, margins will improve
5:35:  Citi analyst asks whether Amazon is anticipating any weakness in consumer spending, or switch to inferior goods. Answer: Not so far, "our business is fine."
5:38:  Morgan Stanley analyst: What can we expect from Kindle? Answer: "Kindle is outpacing our expectations, working hard to increase number of units we can supply. Super excited by strong demand"
5:40:  Deutsche Bank analyst asks about where unit growth is coming from. Answer: mix between lower pricing and acceleration of 3rd party selling program. Management seems reluctant to give a specific answer
5:46:  Bear Stearns analyst asks whether guidance is accounting for Ebay's announcement of changes to its interface. Answer: We have a policy of not talking about specific companies
5:59:  A lot of specific questions about guidance for mix, cash flows, specific segment growths, and renewal rates... management dodges all of them
6:01:  Call ends