Amazon: Profit Soars, Clash of Strong Performance and High Expectations

After the U.S. stock market closed on April 30th, Amazon released its financial report for the first quarter of 2024. Overall, the revenue growth was steady and largely in line with expectations, with the highlight being the stronger-than-expected acceleration in cloud business (consistent with peers). On the profit side, there was another astonishingly large outperformance (+38%), mainly attributed to the cloud business. Here are the detailed key points:

1. Another steady revenue and significantly higher profit, but what's different this time? Overall, Amazon achieved total revenue of approximately $143.3 billion this quarter, slightly higher than the market's expected $142.6 billion. The year-on-year growth rate was 11.9%, a slight slowdown of 0.6 percentage points compared to the previous quarter. Specifically, the revenue exceeding expectations was mainly attributed to the significant acceleration of the AWS business, while the slight decrease in year-on-year growth was mainly due to the reversal of the favorable impact of the depreciation of the U.S. dollar and the steady growth of the retail business.

The overall operating profit reached $15.3 billion, far exceeding the sell-side expectations of $11.1 billion. Even though the buy-side generally expected higher profits in the range of $12-13 billion (Dolphin Research expected $12.9 billion), the actual performance still significantly beat expectations. In terms of specifics, this was also mainly attributed to the substantial increase in the profit margin of the AWS business, which increased by 8 percentage points compared to the previous quarter.

2. AWS revenue and profit were both strong, the biggest highlight of the quarter: AWS revenue reached $25 billion this quarter, with a year-on-year growth rate increasing to 17%. Although the market had already expected the growth rate to increase to around 15%, the actual performance was even stronger. However, considering the similarly better-than-expected performance of Azure and GCS, this was within expectations.

In a comparison with the three major cloud service providers in the United States, the growth acceleration of GCS and AWS this quarter was faster than that of Microsoft, narrowing the gap in growth rate (Amazon's acceleration was 4 percentage points, while Microsoft's was 0.8 percentage points). It can be inferred that Amazon and Google are catching up with and narrowing the gap with Microsoft in terms of AI capabilities/services.

From a profit perspective, AWS's performance was even more astonishing, achieving an operating profit of $9.4 billion, far exceeding the expected $7.2 billion. The operating profit margin surged from nearly 30% to 37.6%. However, such a significant increase in profit margin seems to be not entirely explained by the recovery in growth and the promotion of AI capabilities. The last time such a huge single-quarter increase in profit margin (+5 percentage points) was at the beginning of 2022 when the depreciation period was adjusted, so it cannot be ruled out that there may be accounting adjustments this quarter as well.

3. Retail business remained steady, with no major surprises: Compared to the strong performance of AWS, the growth of the retail sector was largely within expectations. The retail sector achieved revenue of $118.3 billion, with a year-on-year growth of 11.6%, a slight slowdown of 2.4 percentage points compared to the previous quarter. Looking at the specific segments, the growth rates in both North America and international regions showed a similar degree of slight deceleration, without any major surprises. In terms of specific businesses, apart from the turnaround in growth of offline physical stores, other segmented businesses also generally experienced a slight slowdown in growth. The widely anticipated advertising revenue growth of 24.3% also decreased by 2.5 percentage points, and the favorable impact of Prime Video advertising seems to have not yet been fully realized.

4. The surprise in the high expectations for North American retail was not significant, while the international business exceeded expectations and turned losses into profits: The operating profit of the North American retail sector this quarter was $4.98 billion, with a year-on-year increase in profit margin of 4.6 percentage points, higher than the sell-side expectations, but lower than the Dolphin Research's expectations. We believe that it probably did not significantly outperform the buy-side expectations. With the current valuation and the vision of double-digit profit margins in the North American retail business, the 5.8% profit margin this quarter is not significantly higher than expected.

However, the international retail sector directly turned losses into profits, achieving an operating profit of $900 million, the second contributor to the profit exceeding expectations after AWS. Although Dolphin Research also expected the international business to turn profitable this year, achieving a 2.8% profit margin in the first quarter was stronger than our expectations.

5. Still not heavily investing in AI, expenses are still on a downward trajectory: The gross profit margin this quarter was 49.3%, 1 percentage point higher than the sell-side expectations, and increased by approximately 2.5 percentage points year-on-year. This was still attributed to the increase in high-margin business income such as advertising, and further price increases and efficiency improvements in logistics and fulfillment. In terms of expenses, due to the implementation of regional distribution in North America and the push for merchants to bear more fulfillment processes themselves, the fulfillment cost rate continued to decrease by nearly 0.8 percentage points year-on-year, and it should continue to decline in the future.

The combined research and development, sales, and internal management expenses decreased by 3.5 percentage points year-on-year, and the trend of expense optimization and efficiency improvement continued. With the recent wave of AI, the capex of other major companies has generally increased significantly, but Amazon's investment this quarter was $13.9 billion, a net increase of only $5 billion compared to the previous quarter, and a year-on-year increase of only 7%. Although it has returned to positive growth, compared to peers, Amazon's current investment intensity is still more restrained, and cost control remains excellent.

6. Profit guidance continues to be strong, but revenue is slightly below expectations: For the second quarter performance guidance, the company expects a revenue range of $144-149 billion, even the upper limit is lower than the sell-side expectations of $150.2 billion. This is a clear indication of falling short of expectations, considering that AWS is still doing well, it is highly likely that there are signs of weakening in online retail since March, leading the company to lower its expectations for the retail business.

However, in terms of profit, the company expects an operating profit of $10-14 billion. Since the actual delivery by the company during the current period is generally higher than the upper limit of the guidance, it can be said that it significantly exceeds the market's expected operating profit of $13 billion. The price increase for FBA starting from April 1st should be one of the main contributors.

Dolphin Investment Research Viewpoint

Overall, this season, Amazon's various performance indicators still show steady growth and strong profit release, which is not inferior to the strong performance of the previous quarter.

However, unlike before, in the previous quarter, the market was divided on whether the U.S. economy was experiencing a soft landing or a hard landing, and there were doubts about the growth of the retail business and the potential for profit release in the retail sector.

Therefore, although the performance of this quarter is not inferior, AWS growth and profits both greatly exceeded expectations, the growth of the retail sector was not surprising, but the profit margin continued to increase significantly, and the unexpected turnaround in international business was also a positive surprise. However, with the market's long-term profit outlook for North American retail already raised to double digits, from the perspective of expectation difference, this quarter's performance is not as "amazing" as the previous quarter. The current $1.8 trillion valuation implies that the performance expectations are "not the same day."

In addition, combined with the lower-than-expected revenue guidance, the concern about the weakening growth of the retail sector should be the main reason why Amazon's stock price showed little fluctuation after the outstanding performance.

However, looking ahead, Dolphin Investment Research believes that with the growth of advertising revenue and the increase in FBA fees, the retail sector's improvement is far from over, and AWS is also benefiting from AI. Therefore, in terms of medium-term performance trends, Amazon's performance is basically on a positive trajectory. The only issue lies in the matching of valuation. In other words, as long as there is a certain amount of pullback and a reasonable price, it is a highly certain investment opportunity.

Detailed comments are as follows:

1. AWS growth rate exceeds expectations, profit margin soars, but accounting factors cannot be ruled out

This quarter, AWS revenue reached $25 billion, with a year-on-year growth rate rising to 17%. Although the market had generally expected the growth rate to rise to 15% before the performance, the actual growth was better than expected. Combined with the similarly better-than-expected performance of Microsoft and Google's cloud businesses, Amazon's performance is also reasonable. This is also attributed to the recovery of traditional cloud business spending and the incremental demand brought by AI. According to the company's disclosure, Anthropic's Claude 3 model and Meta's Llama 3 model have been fully promoted in AWS, and Amazon's self-developed Titan model (including text and image processing functions) has also been launched.

A horizontal comparison of the three major cloud service providers in the United States shows that this quarter, the growth acceleration of GCS and AWS is faster than Microsoft, and the gap in growth rate has narrowed. Dolphin Research speculates that this reversal may be due to Google and Amazon gradually catching up with Microsoft in their own cloud services by following AI models, and are quickly catching up with the leading Microsoft.

In terms of profit, the soaring profit of AWS this quarter is the biggest highlight of Amazon's performance this quarter - achieving an operating profit of $9.4 billion, far exceeding the expected $7.2 billion. The operating profit margin has surged from nearly 30% to 37.6%. However, such a huge increase in profit margin seems to be not fully explained by the recovery of growth and the promotion of AI functions. The last time such a huge single-quarter profit margin increase (+5pct) was at the beginning of 22 when the depreciation period was adjusted, so it cannot be ruled out that there may be accounting adjustments this quarter. Pay attention to the company's explanation in the conference call.

Retail growth remains stable with a slight decrease. Is it stable or a hidden concern?

The growth of the retail sector is generally within expectations, maintaining a stable growth. This quarter, the overall retail sector achieved a revenue of 118.3 billion US dollars, a year-on-year increase of 11.6%, slightly slowing down by 2.4 percentage points compared to the previous quarter.

By region, due to the reversal of the favorable impact of the depreciation of the US dollar in this quarter, the nominal growth rate of international retail business has dropped significantly from 17% to 10% this quarter. However, under a constant exchange rate, it has decreased slightly from 13% to 11%, showing a stable and slight downward trend.

The overall retail business growth rate in North America has also decreased slightly from 13% to 12.3%. Combining industry data, the overall retail sales without stores in the United States increased by 1.1 percentage points less than the previous quarter, and Amazon's performance is generally consistent with the industry.

Compared with expectations, North America is slightly higher than expected, while international is slightly lower than expected, but the absolute differences are not significant, and there is no substantial beat or miss.

Looking at the segmentation of each business segment, except for the offline physical stores, which have seen a slight increase in growth rate, all other segmented businesses have shown a stable but slightly declining trend. In terms of growth rate, the advertising business has grown by 24.3%. Following the company's announcement of the advertising business on Prime Video, sellers generally have high expectations for future advertising growth.

In terms of improvement magnitude, the offline retail, which contributes the most to revenue, has seen its growth rate improve from 3.9% to 6.3%. After experiencing a continuous decline in growth, this improvement may also be attributed to the favorable impact of Amazon's improved delivery efficiency.

Combining cloud and retail businesses, Amazon achieved a total revenue of approximately $143.3 billion this quarter, a year-on-year increase of 11.9%, slightly higher than the market's expected $142.6 billion, mainly due to stronger-than-expected growth in AWS.

Third, profits greatly exceeded expectations, and AWS remains the biggest contributor.

On the revenue front, Amazon's overall performance can be described as steady. However, on the profit front, it once again greatly exceeded expectations. Specifically, the company achieved an operating profit of $15.3 billion this quarter, far exceeding the seller's expectations of $11.1 billion. According to overseas reports, even though buyers generally expected higher profits in the range of $12-13 billion (Dolphin Research's performance forecast was $12.9 billion), the actual performance still exceeded buyer expectations.

In terms of segment analysis, the previous section mentioned that the actual operating profit of AWS cloud business exceeded expectations by over 2.2 billion, making it the biggest contributor to the overall better-than-expected performance of the company this quarter. However, such a significant difference requires attention to how the management will explain the reasons for the positive results.

The operating profit of the North American retail segment was 4.98 billion, higher than the sell-side expectations, but lower than the expectations of Dolphin Research. We believe that it probably did not significantly outperform the buy-side expectations.

The international retail segment turned a direct loss into a 900 million operating profit this quarter, making it the second biggest contributor to profits exceeding expectations outside of AWS. Although Dolphin Research also expected the international business to turn profitable this year, achieving a 2.8% profit margin in the first quarter was stronger than our expectations. According to the company, Amazon's profit margin in developed markets such as Europe is rapidly increasing, generally achieving profitability. Some emerging/developing markets are slightly dragging down the performance.

Fourth, increase investment relatively cautiously, still within the cost reduction cycle.

From the perspective of cost and expenses, what is the source of the overall better-than-expected profit margin?

Breaking it down, 1) This quarter's gross profit margin is 49.3%, 1 percentage point higher than the seller's expectations, and an increase of about 2.5 percentage points year-on-year. This should mainly be attributed to the rise in high-margin business income such as advertising, and further improvement in logistics and fulfillment pricing and efficiency;

2) In terms of expenses, due to the implementation of regional distribution in North America and the promotion of merchants to bear more fulfillment processes themselves, the fulfillment cost rate continued to decrease by nearly 0.8 percentage points year-on-year this quarter, and it is expected to continue to decline in the future.

As for the total R&D, sales, and internal management expenses, they decreased by 3.5 percentage points year-on-year, and the trend of cost optimization and efficiency improvement continues. Although under the recent AI wave, the capex of other leading companies has generally increased significantly, Amazon's investment this quarter was 13.9 billion, a net increase of only 5 billion compared to the previous quarter, and an increase of only 7% year-on-year. Although it has ended the contraction and returned to growth, compared to its peers, Amazon's current investment intensity is still more restrained, so cost control remains excellent.