Amazon’s customer focus and investing for long-term growth should pay off

01/05/2018

Download

Alison Porter, Global Technology equities portfolio manager, comments on Amazon’s most recent quarterly results, which continue to demonstrate the company’s strong position in its cloud infrastructure and paid subscription businesses, as well as growth opportunities in other areas such as advertising.

Amazon’s latest quarterly results highlighted the multiple growth avenues that the company has as a brand and not just as an ecommerce business. Amazon is well known for its focus on investing for the long term, therefore it would be wrong in our view to extrapolate too much from each quarterly earnings report.
 
 The quarter did highlight that Amazon is seeing the fastest growth in its highest margin businesses:
 
• Cloud infrastructure
Amazon Web Services (AWS) saw continued acceleration of growth. While this division represents only around 10% of total company sales, it constituted more than 70% of Amazon’s operating income for this quarter. Chief Executive Officer and Founder Jeff Bezos put this down to the fact that Amazon has had a seven-year head start on the competition in this space.
 
The strong results from Amazon will be analysed alongside the also solid results from Microsoft and Intel. The common theme being the acceleration of demand for cloud infrastructure (ie. large scale industrial data centres where companies rent storage, compute, security, software and analytics). The scale and capital expenditure required for this business has meant that only three credible competitors have emerged – AWS, Microsoft Azure and Google Cloud Platform. AWS is the leader with a market projected annual revenue of c.$20 bn, with accelerating growth of 49% year-on-year in the quarter. Microsoft also reported rising growth; meanwhile Intel’s strong results were driven by data centre acceleration from chips used in these large cloud data centres.   
 
In 2017, the number of US companies adopting cloud infrastructure sat at just under 20%. Typically we see acceleration in adoption as a new technology reaches the 20% level (as was the case for notebooks as a percentage of PCs, digital music downloads etc; see chart 1). The adoption of cloud infrastructure seems to be following that similar pattern. 
 
Chart 1: US cloud: approaching key 20% penetration level
Source: Morgan Stanley research: Public cloud: what’s it worth? 15 March 2017. E= estimated data 2017-2023. Estimates may vary and are not guaranteed.
 
• Online advertising
Advertising revenue for Amazon was reported to be $2bn in Q1 2018 (including trade dollars) and investors have been looking for the emergence of a third major advertising platform aside from Google and Facebook. Amazon is now emerging ahead of Twitter and Snapchat for that title. The company has an opportunity to take share from display advertising, search advertising, television advertising and from trade dollars spent typically in physical retail. It is well positioned to take share in advertising because of its ability to demonstrate clear metrics of return on advertising spend since Amazon’s membership base searches directly for purchases. Other online advertisers do not have that direct view into actual purchases.
 
• Paid subscription services
Amazon Prime currently has more than 100m members. The company announced its first price increase in four years with US Prime membership rising from $99 to $119 a year. This should allay concerns on the impact of rising shipping rates by the United States Postal Service (USPS) or on changes to state tax changes for third party goods sold. 
 
Amazon continues to roll out faster delivery times across a wide variety of categories, including Prime delivery from Whole Foods stores (still only available in ten US cities), as well as investing in more Amazon video content and music. The Amazon Prime “flywheel” effect (which is increasing Prime’s momentum and ability to take market share; see chart 2) is that when customers sign up they tend to shop more with Amazon. As a greater number of customers shop more, this leads to more sellers joining to take advantage, a larger number of sellers means broader offerings, ultimately driving additional sales.
 
Chart 2: Feeding the technology ‘flywheel’
 
 
Source: Janus Henderson Investors.
 
Implications for disruption to other retailers
Retailers are not just competing with Amazon’s online offerings but also with Prime. Whole Foods is benefiting from Amazon’s customer reach and focus on operating efficiency. As Whole Foods is incorporated further into Amazon Prime delivery, there is potential for further sales acceleration and disruption to US food retailers. While many brick and mortar retailers are investing more in their online offerings, Amazon is innovating in new physical retail experiences such as Amazon Go where customers can walk in and walk out without checking out. Home assistant Alexa is also making it easier to shop through voice recognition and is moving further into homes with tens of millions of devices sold since last year. 
 
We see the recently announced merger of supermarkets Asda and Sainsbury’s in the UK as a response to an increasingly competitive and disruptive retail landscape in which traditional retailers have to make drastic steps to maintain competitiveness.
 
International retail continues to be a loss-maker for Amazon as it invests rapidly in overseas markets such as India where Walmart is also trying to acquire to achieve greater scale. 
 
Conclusion
Overall, Amazon continues to demonstrate it is benefiting from a focus on customer centricity and investing for the long term. We expect the company will continue to invest heavily and that profitability this quarter should not be extrapolated in a linear fashion. Amazon spent more on research and development (R&D) in 2017 than any other company globally, spending close to $21bn (chart 3). Since 2011 more than $110bn has been allocated to improve logistics, transportation, fulfilment centres and infrastructure. We are confident that these investments are being used to build sustainable long-term barriers to entry and investing in its own technology ‘fly wheel’. 

Chart 3: Amazon the top global spender on R&D in 2017
 
Source: Janus Henderson Investors, Bloomberg, as at 31 December 2017.
 
However, investors should not expect a straight line in ramping up profitability. Amazon invests for the long term and could fail in many areas (such as China previously). We expect continued volatility in Amazon’s path of significant profitability while it is also facing some well-resourced competitors in Google and Walmart.
 
These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. Any securities, funds, sectors and indices mentioned within this article do not constitute or form part of any offer or solicitation to buy or sell them.
 

These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. Any securities, funds, sectors and indices mentioned within this article do not constitute or form part of any offer or solicitation to buy or sell them.

Past performance is not a guide to future performance. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested.

The information in this article does not qualify as an investment recommendation.

For promotional purposes.


Important information

Please read the following important information regarding funds related to this article.

Janus Henderson Horizon Global Technology Fund

This document is intended solely for the use of professionals and is not for general public distribution.

The Janus Henderson Horizon Fund (the “Fund”) is a Luxembourg SICAV incorporated on 30 May 1985, managed by Henderson Management S.A. Any investment application will be made solely on the basis of the information contained in the Fund’s prospectus (including all relevant covering documents), which will contain investment restrictions. This document is intended as a summary only and potential investors must read the Fund’s prospectus and key investor information document before investing. A copy of the Fund’s prospectus and key investor information document can be obtained from Henderson Global Investors Limited in its capacity as Investment Manager and Distributor.

Issued in Europe by Janus Henderson Investors. Janus Henderson Investors is the name under which investment products and services are provided by Janus Capital International Limited (reg no. 3594615), Henderson Global Investors Limited (reg. no. 906355), Henderson Investment Funds Limited (reg. no. 2678531), AlphaGen Capital Limited (reg. no. 962757), Henderson Equity Partners Limited (reg. no.2606646), (each registered in England and Wales at 201 Bishopsgate, London EC2M 3AE and regulated by the Financial Conduct Authority) and Henderson Management S.A. (reg no. B22848 at 2 Rue de Bitbourg, L-1273, Luxembourg and regulated by the Commission de Surveillance du Secteur Financier). We may record telephone calls for our mutual protection, to improve customer service and for regulatory record keeping purposes.

Past performance is not a guide to future performance. The performance data does not take into account the commissions and costs incurred on the issue and redemption of units. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested. Tax assumptions and reliefs depend upon an investor’s particular circumstances and may change if those circumstances or the law change. If you invest through a third party provider you are advised to consult them directly as charges, performance and terms and conditions may differ materially.

Nothing in this document is intended to or should be construed as advice. This document is not a recommendation to sell or purchase any investment. It does not form part of any contract for the sale or purchase of any investment.

The Fund is a recognised collective investment scheme for the purpose of promotion into the United Kingdom. Potential investors in the United Kingdom are advised that all, or most, of the protections afforded by the United Kingdom regulatory system will not apply to an investment in the Fund and that compensation will not be available under the United Kingdom Financial Services Compensation Scheme.

Copies of the Fund’s prospectus and key investor information document are available in English, French, German, and Italian. Articles of incorporation, annual and semi-annual reports are available in English. Key Investor document is also available in Spanish. All of these documents can be obtained free of cost from the local offices of Janus Henderson Investors: 201 Bishopsgate, London, EC2M 3AE for UK, Swedish and Scandinavian investors; Via Dante 14, 20121 Milan, Italy, for Italian investors and Roemer Visscherstraat 43-45, 1054 EW Amsterdam, the Netherlands. for Dutch investors; and the Fund’s: Austrian Paying Agent Raiffeisen Bank International AG, Am Stadtpark 9, A-1030 Vienna; French Paying Agent BNP Paribas Securities Services, 3, rue d’Antin, F-75002 Paris; German Information Agent Marcard, Stein & Co, Ballindamm 36, 20095 Hamburg; Belgian Financial Service Provider CACEIS Belgium S.A., Avenue du Port 86 C b320, B-1000 Brussels; Spanish Representative Allfunds Bank S.A. Estafeta, 6 Complejo Plaza de la Fuente, La Moraleja, Alcobendas 28109 Madrid; Singapore Representative Janus Henderson Investors (Singapore) Limited, 138 Market Street, #34-03 / 04 CapitaGreen 048946; or Swiss Representative BNP Paribas Securities Services, Paris, succursale de Zurich, Selnaustrasse 16, 8002 Zurich who are also the Swiss Paying Agent. RBC Investor Services Trust Hong Kong Limited, a subsidiary of the joint venture UK holding company RBC Investor Services Limited, 51/F Central Plaza, 18 Harbour Road, Wanchai, Hong Kong, Tel: +852 2978 5656 is the Fund’s Representative in Hong Kong.

Information on this document is on Janus Henderson Investors’ best endeavours.

Specific risks

  • Shares can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
  • This fund is designed to be used only as one component in several in a diversified investment portfolio. Investors should consider carefully the proportion of their portfolio invested into this fund.
  • The Fund could lose money if a counterparty with which it trades becomes unwilling or unable to meet its obligations to the Fund.
  • If a Fund has a high exposure to a particular country or geographical region it carries a higher level of risk than a Fund which is more broadly diversified.
  • Changes in currency exchange rates may cause the value of your investment and any income from it to rise or fall.
  • If the Fund or a specific share class of the Fund seeks to reduce risks (such as exchange rate movements), the measures designed to do so may be ineffective, unavailable or detrimental.
  • The Fund's value may fall where it has concentrated exposure to a particular industry that is heavily affected by an adverse event.
  • Any security could become hard to value or to sell at a desired time and price, increasing the risk of investment losses.

Risk rating

Share

Important message