Amazon (AMZN, Financial) reported its first quarter 2023 earnings on April 27/. While it beat analysts’ estimates, the stock has declined since then as investors were worried about the cloud outlook and the uncertainty related to it. Was this stock market reaction a justified one? I would argue that Amazon has a lot of potential based on the ability to integrate artificial intelligence, but the cloud outlook revealed some other key issues, such as profitability and free cash flow generation, that investors should take into consideration.
Q1 2023 earnings report: Cloud outlook dominated over revenue beat
Amazon is a classic example of why investors should always read between the lines. The stock initially surged after hours on the day of the earnings release but the next day the shares fell and the rally faded too soon. Why did this happen? The reason to blame is likely the weak cloud computing outlook.
“As expected, customers continue to evaluate ways to optimize their cloud spending in response to these tough economic conditions in the first quarter,” chief financial officer Brian Olsavsky said. “We are seeing these optimizations continue into the second quarter with April revenue growth rates about 500 basis points lower than what we saw in Q1.”
Amazon reported a beat on revenue, with $127.4 billion actual vs. $124.5 billion expected, as Amazon Web Services delivered revenue of $21.3 billion vs. $21.22 billion expected and the advertising segment was also strong, reporting revenue of $9.5 billion vs. $9.1 billion expected.
The main reasons for concern about Amazon are the profit margins, free cash flow and valuation now. The earnings report report showed a gross margin of 44.73%, the highest figure since 2009, but the net margin of 0.82% was well below its record high of 7,10% back in 2021, and the operating margin of 2.54% showed hardly an improvement over the previous quarter figure of 2.38%. At the same time, the company reported an outflow of $3.3 billion for the trailing 12 months, which was improved compared to the outflow of $18.6 billion for the 12 months ended March 31, 2022, but if we take into account that the first quarter of this year was the sixth consecutive quarter Amazon reported a negative free cash flow, this leads to valuation concerns as well, as the free cash flow-based discounted cash flow models are negatively impacted.
How artificial intelligence can help AWS deliver growth
Amazon Web Services (AWS) used artificial intelligence (AI) and machine learning (ML) to help businesses grow. I believe there is still plenty of potential left for Amazon to develop its AI services to expand its business and deliver business solutions to its clients.
AI has had a significant impact on online sales and e-commerce. It has transformed the way businesses engage with customers, optimize their processes and drive sales. Here are some important ways AI is influencing online sales:
Personalized shopping experiences: AI algorithms analyze customer data, including browsing behavior, purchase history and preferences, to offer personalized product recommendations. This improves the customer experience, increases engagement and enhances the likelihood of a purchase.
Chatbots and virtual assistants: AI-powered chatbots and virtual assistants provide instant customer support, answer queries and guide customers through the sales process. They can handle multiple conversations simultaneously, providing 24/7 support and freeing up human resources.
Advanced analytics and predictive modeling: AI enables businesses to analyze vast amounts of customer data and gain actionable insights. Predictive analytics can anticipate customer behavior, identify trends and optimize pricing, inventory management and marketing strategies for improved sales performance.
Dynamic pricing: AI algorithms can analyze market conditions, competitor pricing and customer behavior to determine optimal pricing strategies in real-time. This helps businesses maximize revenue and profit margins while remaining competitive.
Voice search and image recognition: AI-powered voice assistants and visual search technologies have made it easier for customers to find and purchase products online. Voice-activated shopping and image recognition tools enable customers to search for products using natural language or images, simplifying the purchase process.
Fraud detection and security: AI algorithms can detect patterns and anomalies in transactions, helping to identify and prevent fraudulent activities. This enhances online security and safeguards customer information, fostering trust and confidence in online sales platforms.
Inventory management and supply chain optimization: AI can analyze historical data, market trends and external factors to forecast demand accurately. This helps businesses optimize inventory levels, reduce stockouts, and streamline the supply chain, ensuring timely delivery and customer satisfaction.
Social media and sentiment analysis: AI-powered tools can monitor social media platforms and analyze customer sentiments and opinions. This helps businesses understand customer feedback, identify potential issues and tailor their marketing and sales strategies accordingly.
Valuation is too pricey
While I like the potential for further AI improvements, I think Amazon is an expensive stock now with a price-earnings ratio of 245.71. When compared to its Consumer Discretionary sector median valuations, Amazon's stock trades at a steep premium. The forward price-book ratio is 5.79 versus the median value of 2.49 for the Consumer Discretionary sector. The forward enterprise-value-to-Ebitda ratio is 13.50 versus the median value of 9.22 for the sector. In summary, I do not think Amazon's stock is attractively valued now. The next quarters will reveal if the company can improve profitability and generate positive free cash flows again.
