Dive Brief:

• Amazon reported third quarter net sales of $32.7 billion on Thursday, up 29% from $25.4 billion in the year-ago quarter, buoyed by the runaway success of its annual Prime Day shopping event as well as strong back-to-school shopping activity.
• Amazon posted third-quarter earnings per share of 52 cents on revenue of $32.71 billion, behind Thomson Reuters consensus analyst estimates of 78 cents a share on revenue of $32.69 billion. Surging shipping costs and other expenses resulted in the unexpected miss: Shipping alone amounted to $3.9 billion in Q3, up 43%.
• Amazon issued revenue guidance for the all-important fourth quarter between $42 billion and $45.5 billion, another miss: Analysts had anticipated a Q4 forecast of $44.6 billion. Amazon stock fell 7% in extended trading before recovering to a 4.5% drop later Thursday afternoon.

Dive Insight:

Amazon floated down from the heights it reached in the previous two quarters, when it flew past expectations and had investors pumping its stock in the belief that the company had finally achieved consistent profitability. 

The company did log its sixth straight profitable quarter, but operating expenses of $32.1 billion (a 29% increase from $24.9 billion in Q3 last year) undid that almost totally. Amazon’s much-touted fulfillment and shipping ambitions look to have finally caught up with it: Those costs rose more than sales. The success of Prime Day may have added to that conundrum, Conlumino CEO Neil Saunders wrote in an email to Retail Dive. 

“Prime Day ... was, once again, very helpful in accelerating transactions, but also generated significant fulfillment costs because of the availability of free delivery as part of the Prime subscription package,” Saunders said. “This, once again, underlines the fact that online, while lucrative in terms of growth, volumes and takings, is far less effective at generating profit.”

Conlumino analysts also believe that Amazon is spending more on marketing, not just for Prime Day but also for devices like the Echo, Dot, and Dash. “Although this impacted costs, the decision could well pay dividends over the holiday season if Amazon manages to persuade customers to buy its latest gadgets,” according to Saunders.

Unusual for Amazon, its guidance for the holiday quarter spans a wide range, between 17% and 27%, and its top result would be the poorest in its fiscal year by Conlumino’s measure.

“Admittedly, Amazon already dominates online holiday retail in the U.S. — accounting for 22.6% of all online retail spend over the final quarter of the year — which makes gaining further share a challenge,” Saunders said. “Even so, with its growth in segments like fashion, its new devices and the continued rise in Prime membership, we believe the company should be setting its sights a little higher.”

If slower growth continues into the next quarter, profits will inevitably suffer and will be further dragged by continued marketing, fulfillment and employment expenses. Add to that Amazon's brick-and-mortar ambitions, which include bookstores, drive-up grocery stores, convenience stores, a hundred pop-ups in malls nationwide, and a rumored 2,000 grocery stores over the next two years, according to Business Insider. Those kinds of operations can be costly and grocery margins in particular are notoriously thin (and were even before the current depression in food prices). In fact, Amazon, which has a learning curve in physical retail, may not realize just what kinds of expenses all that will entail.

Even so, Amazon founder and CEO Jeff Bezos would no doubt like to hang on to what has been Amazon's signature approach and what has helped keep the company on everyone's mind when they talk about retail: Its re-investment into innovation. Investors remained patient about that throughout most of the past two decades, and were rewarded this year and last with strong profits. They may not be so willing to go back to the old days.

“Amazon continues to make extensive investments in new technologies and ventures. This is a deliberate part of its business model, which uses income from sales to create future growth through innovation,” Saunders said. “Traditionally the market has tolerated this — much more so than they would tolerate it from a traditional retailer — but the disappointment over this quarter’s numbers may signal increased scrutiny in the years ahead.”

But the investments that Amazon has made will hold lasting value, and its fulfillment network and Prime membership base will remain the envy of its competitors, according to Richard Metzler, chief marketing officer at online shipping marketplace uShip.

“While investors drive Amazon’s stock price down in after-hours trading, from a competitor perspective in the retail sector, the ship has unfortunately sailed," Metzler told Retail Dive. "Amazon simply will not be caught on either a logistics or marketing basis. The company has invested over $16 billion in logistics infrastructure, opened 18 fulfillment centers in a quarter, can pick, pack and ship for $2, can same-day deliver for $3 and finance and merchandise it all through third party sellers and the marketing magic called Prime. With 20% of the United States population — 65 million people — being Prime subscribers, this base of customers and their brand loyalty can’t be beat. The retail and e-commerce industry simply has to find another way to play the game, and those options are very limited.”