Amazon's sales — and costs — are going up

Dive Brief:

Amazon said Thursday that its third quarter net sales swelled 34% to $43.7 billion, compared to $32.7 billion in the year-ago period, beating the Thomson Reuters I/B/E/S analyst expectation, cited by Reuters, of $42.14 billion. That figure includes $1.3 billion from Whole Foods Market, acquired Aug. 28. Excluding the grocer's sales and $124 million in favorable currency fluctuations, Amazon's net sales rose 29%, according to a company press release. Shares in Amazon on Thursday, slightly down at the close, bounced some 6% after hours with the decisive earnings beat.
More than ever, Amazon’s report is a picture of burgeoning sales, but with heavy investment costs tempering profits. Total operating expenses rose 35% to $43.4 billion in the quarter. That pushed operating income, including $21 million from Whole Foods Market, down 40% to $347 million. Q3 net income was $256 million or 52 cents per diluted share, which was roughly flat compared to the year-ago period but demolished the 3 cents-per-share Thomson Reuters I/B/E/S analyst expectation cited by Reuters.
Amazon’s shipping costs increased 39%, once again outpacing net sales growth. But that figure was not as bad as feared, according to GlobalData Retail Managing Director Neil Saunders. The company’s AWS cloud unit continues to be the company's white knight, bringing in revenue of $4.58 billion in the quarter, a 41.9% increase, which bested the average FactSet analyst estimate for $4.52 billion cited by Reuters.

Dive Insight:

Most American retailers are beside themselves trying to compete against Amazon, but very few have the kind of diverse business units found under its umbrella, which provide significant cushioning.

The e-commerce giant's service sales growth (44%) outpaced its product sales growth (29%), notes Profitero vice president of strategy and insights Keith Anderson. He called the growth in service sales along with Amazon's 59% year-over-year growth in subscription services in Q3 a positive, being more predictable sources of revenue. "[That] gives them significant breathing room to continue to invest," Anderson said.

And that’s unlikely to change. The quarter is just further evidence that the e-commerce giant "continues transitioning to becoming more of a services company, as opposed to a retailer in the traditional sense," Cooper Smith, head of Amazon research at brand intelligence firm L2, told Retail Dive in an email. "Of those services, Subscriptions (which includes Prime) and Other (which includes advertising) are its fastest-growing businesses." GlobalData Retail's Saunders said his firm sees Prime "as a critical tool to extend Amazon's customer reach, gather customer data, and to lock in loyalty in an increasingly fickle marketplace."

It’s a mistake to think of Amazon in a binary way, however, as either a retail or services business, Anderson says. "Amazon owns and operates an ecosystem of platforms that reinforce each other internally and with customers," he said. "The retail business gave Amazon the platform on which to launch its hardware business, which supports its content business, both of which reinforce the retail business." Plus, content and technology at Amazon continue to evolve, and several analysts noted the company's growth (and potential growth) via its connected devices and voice assistance.

If that sounds never-ending, that’s because it may be. The company seems "relentlessly focused" on projecting demand for products and services and being the first or best provider, Anderson said. "And then they have the flexibility to fully own the entire value chain or to selectively 'rent' aspects of it out to other stakeholders when the economics are favorable," he said

There are some flies in the ointment, though. Among them are the company's challenged retail margins, particularly in North America. "Margin pressure is not surprising given that in addition to heavy investment, heavy promotions are occurring in the U.S., specifically the on-going pricing battle with Walmart as these two retail heavyweights attempt to grow market share across multiple categories," Moody’s lead retail analyst Charlie O’Shea said in comments emailed to Retail Dive.

O'Shea also noted revenue growth and operating income at AWS "more than offset" the loss Amazon took on through investments in its international business. Saunders argued that the company's costs on the retail side generally don't matter because "the business has an enormous amount to show for its expenditure."

He added: "These investments — in services, devices, new ventures, pricing, international markets, and business services — will all power growth in the years ahead."