Amazon Declares A Major Win As
Rivals Back Down
Sep. 16, 2019 9:39 AM ET
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2 comments
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About: Amazon.com, Inc. (AMZN)
Bluesea Research
Growth, tech, large-cap, research analyst
(4,057 followers)
Summary
In the latest quarter, Amazon has shown a big win in its subscription
segment.
The trailing-twelve-month revenue for the subscription segment is $16.5
billion with close to 40% year-on-year growth.
The subscription segment could end up showing $30 billion in revenue by
the end of 2020 on an annualized basis.
Amazon has a strong advantage in growing its subscription revenues in
various categories as new rivals join the subscription bandwagon.
Higher subscription revenue should provide better pricing power within the
retail platform, thus improving overall operating margins.
Amazon’s (AMZN) subscription revenues keep on showing massive year-onyear growth rates of close to 40%. In the latest quarter, the subscription
segment revenues were $4.6 billion, a YoY growth rate of 39%. This growth
was on the back of 55% growth in the year-ago quarter. At the current
pace, Amazon’s subscription revenue should hit $30 billion mark by the end
of 2020. The company is already looking to dethrone Apple (AAPL) in the
music streaming business.
We could continue to see this growth rate in the near term, as higher
investment in delivery will make Prime more attractive to customers.
Amazon will also spend close to $7 billion on video streaming in 2019 with a
bunch of highly anticipated shows. This puts the company in a much better
position compared to other rivals like Apple, Disney (DIS) and AT&T (T),
which are also looking to enter the streaming business.
The recent bearish trend in Netflix (NFLX) shows Wall Street's caution over
long-term investments required to build a streaming platform amid intense
competition. Walmart (WMT) has declared that it will not be investing in
streaming. We could see curtailing of investments in streaming and other
subscription services by other Amazon rivals in the near term due to its
massive negative impact on margins. This improves the company's moat
and increases the bullish case for the stock.
Subscription juggernaut rolls on
There are no signs of a slowdown in Amazon’s subscription revenues. The
company reported YoY subscription revenue growth rate of 39% in the latest
quarter. Revenue for the last twelve months stood at $16.5 billion. This is a
strong growth rate considering the already large revenue base of this
segment.
(Source: Company filings)
Some analysts had suggested that we could see a slowdown in this segment
as the Prime membership saturates. Recently, CIRP data showed that Prime
membership was at 103 million in the US. Considering that there are 125
million households in US according to the Census Bureau, there aren’t a
great number of customers that Amazon can target. Despite this fact, the
company has been able to show good subscription growth.
Amazon continues to try new subscription services to leverage its
ecosystem. It recently launched a Personal Shopper by Prime Wardrobe,
where customers can get curated clothing options every month. The service
is currently available within the domestic US market for women shoppers at
$4.99 per month. Amazon already has a very strong delivery platform along
with easy payments options. We could see a launch of similar services as the
one-day delivery platform of Amazon reaches more cities.
Advantage over rivals
New rivals are looking to grab a share of the subscription revenues in
different business segments. Apple is already moving ahead with new
services which will help the company pivot to a more stable revenue base. It
will be launching its video streaming platform at a rock-bottom price. We
could also see a combination of music, video and news services by Apple in a
single subscription option.
Other rivals like Disney and AT&T will also be entering the video streaming
business. However, Amazon has a big advantage over its rivals due to the
depth and retention rate within Prime membership. CIRP has reported that
Prime membership retention is 93% for one-year-old members and 98% for
members who are more than two years old.
Amazon also has the capacity to survive in business like video streaming
with high losses for a long period of time. This is a major competitive
advantage over other rivals who might not be willing to see margin declines
due to streaming investment for the long term.
Echo devices
The increase in customer adoption of Echo devices is another big advantage
for Amazon. Over the long run, the company can build an integrated media
platform where it controls the device and the services consumed on them.
(Source: CIRP, Voicebot)
The installed base for smart speakers in US increased to 76 million, a growth
rate of 52% over the year-ago quarter. Amazon has been able to maintain
its market share in this segment. New Alexa skills and services offered by
Amazon could help in the improvement of the Echo products and the entire
ecosystem. This should also improve the subscription revenue as Amazon
music, video and other services are consumed through Echo devices.
Risks and challenges for the subscription segment
Although Amazon enjoys a number of advantages in the subscription
business, there are a few risks involved with heavy dependence on the
subscription segment. The company receives a stable and growing revenue
from AWS, where clients have entered into a multi-year contract. This would
prevent any sudden decline during a recession or an economic slowdown.
However, customers using subscriptions could easily cancel their
memberships if there is a prolonged economic slowdown.
Amazon has invested massively to build its logistics and fulfillment network.
If the retention rate for memberships drops in a short period, it will cause
huge losses because of the low margins in the retail platform.
Another major risk is the rapidly expanding delivery platform of Walmart.
Recently, Walmart has mentioned that there will be nationwide expansion of
unlimited grocery delivery subscription. More than 50% of the US population
will be able to use this service by the end of the year.
Fig.: Walmart Grocery is much cheaper than Amazon Prime Now and
Peapod
(Source: CNBC)
In another report, CNBC has calculated that Walmart grocery delivery is
31% cheaper than Amazon. This is a massive difference, especially for the
grocery business. This report was limited to a particular area, but Walmart
will have a big advantage if it can maintain this level of pricing difference
over Amazon.
Despite these risks and challenges, I believe Amazon is in a much stronger
position than any other rivals. The company will continue to use the massive
profits from AWS and advertising to increase investments in the delivery
network. This should make the value proposition of its Prime membership
stronger over time. Amazon also has the capacity to acquire another major
brick-and-mortar chain which will improve its store count and make the lastmile delivery cheaper.
Improvement in margins
As the growth rate in Amazon slows down, the company needs to show that
it can improve the operating margin substantially.
Fig.: Improvement in operating margin can reduce the negative
impact of revenue slowdown
Subscription revenues can have a good operating leverage as more
customers use the same content and delivery platform built by the company.
Amazon can also gain pricing power within its retail platform due to greater
usage by Prime members. This is very important for Amazon, because even
a 1-2% improvement in margin within retail sales can lift the overall profits
and EPS dramatically.
It is likely that we will continue to see strong revenue growth in the
subscription segment of Amazon, which should help in improving the bullish
sentiment for the stock.
Investor Takeaway
Amazon should be able to report close to $30 billion in subscription revenue
on an annualized basis by the end of 2020. The company can launch new
services using the current delivery platform, which will increase the
subscription revenue per customer. It also has an advantage over rivals due
to the high retention rate of Prime membership, Echo devices and the ability
to absorb losses for a longer period of time.
Amazon’s dependence on Prime membership cannot be understated.
Customer loyalty to Prime should help the company improve its margins
within the retail platform, which can lift the operating margin significantly.
The long-term bullish case for Amazon stock is still very strong due to its
ecosystem and the growing subscription revenue base.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions
within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not
receiving compensation for it (other than from Seeking Alpha). I have no business relationship with
any company whose stock is mentioned in this article.