Amazon-Valuation Concerns
Amazon is a very good company no doubt, but a company who’s stock price has gotten way ahead of itself based on suspect numbers. Amazon surprised analysts with 1st quarter numbers released on 4-24-07. Dig deep into the Q1 numbers and you will find that the numbers are actually quite worse than they first appear. Most of the earnings surprise was due to lowered R & D expenses, favorable foreign currency gains of $84 million, and a favorable effective tax rate change to 23%, down from an effective tax rate of 47% in Q1 2006. If you took out the favorable tax rate and favorable foreign currency gains, the profits could easily be flat to lower. These are clearly not operational improvements that warrant such a large appreciation in share price. While the 23% effective tax rate will probably remain for the balance of 2007, there is no visibility in regards to Amazons 2008 effective tax rate. This rate is likely to be higher in 2008. Take out the favorable foreign currency gains and the numbers are materially different. Equally troubling is operating cash flow. For all practical purposes, flat year over year, even with improved top and bottom lines. Analysts are lowering guidance for the retail space, competitors are showing tough comps already, not a positive macro outlook in retail. Additionally, Amazon’s profit margins are extremely low and now it’s rumored that the years biggest blockbuster “Harry Potter” will be sold at cost. The biggest release of the year and Amazon apparently is using it as a lost leader! Given a PEG ratio of 3, a PE at 117X earnings, and the financial findings I’ve mentioned above, the risk of a severe multiple contraction is extremely probable.
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