Amazon: Still A Double From Here?
Amazon, by far, has the highest upside potential among all mega-caps. It's dominating three fast growing markets with potential to capture massive value from developing new technologies such as AI.
What are the most successful businesses?
If you asked me this question and wanted a one sentence answer, I would say this: The most successful businesses are those that successfully innovate through successive cycles of disruption.
They simply stay on top of every coming wave.
And let me be clear, there are only a handful of businesses in the world that have achieved this so far and this is exactly why I love Amazon!
Take a look at this:
Amazon now has three separate businesses each generating more than $100 billion every year…
These are not just arbitrary numbers on screen. They tell us that we are looking at a company that has built a successful businesses in all innovation cycles it has been through:
When the internet became mainstream, it built e-commerce.
When internet platform companies emerged, it built a cloud platform.
When the shared resource economy emerged, it built third party seller services.
When the attention economy rose to prominence, it built advertisement business.
This is exactly why I would pick Amazon if I could only pick one stock to hold for next decade.
It has successfully navigated at least 3-4 massive waves of disruption and built successful businesses in each cycle.
What is even better is that all the businesses it has built so far still have years of runway for rapid growth which puts Amazon in the best position to keep innovating and thrive through whatever comes next.
So, let me cut the BS and dive deep into why I think Amazon has the highest upside potential among all mega-cap stocks!
What are you going to read:
1. Understanding The Business
2. Moat Analysis
3. Investment Thesis
4. Fundamental Analysis
5. Valuation
6. Conclusion
🔑🔑 Key Takeaways
🎯 Amazon is an ecosystem of interconnected businesses that poised for fast growth in the next 5-10 years.
🎯 Its marketplace is protected by massive network effects while cloud business impose high switching costs. On top of that, interconnection of these businesses in an ecosystem creates a massive lollapalooza moat.
🎯 All its growth drivers, cloud, advertising and e-commerce are poised for +10% growth in the next 5 years.
🎯 Its financial position is rock solid as its equity pool is double the size of its total debt and its EBITDA can pay all the debt under just two years.
🎯 Despite the growth potential, valuation remains attractive given that it promises to triple the net income by 2030.
🏭Understanding the Business
Amazon has always been one of the hardest businesses to understand…
Investors used to look at its giant revenues and then got puzzled when they saw its P/E ratio at 300s… They would instantly say “it’s a bubble.”
This is because most of them didn’t understand Amazon. They thought Amazon was primarily an online retailer with some other businesses. They didn’t understand that Amazon was heavily investing back in business to become something bigger: An Ecosystem.
Why?
Because Jeff Bezos read a paper in 2003, written by this guy:
This is James Moore. You probably don’t know him but he exerts a disproportionate influence on today’s business landscape.
He wrote a paper titled “Predators And Prey” in 1993 and changed the way we think about business.
The main argument of the paper was that businesses evolve similarly to living mechanisms.
We tend to see evolution as a standalone process guided by randomness. It’s not. What happens is that all organisms co-evolve together in an ecosystem.
Take the African savannah for instance… Gazelle evolved to be agile and run fast to escape from threats by big cats and in response tigers and lions also evolved to be silent hunters that hide and slowly approach their hunts.
This evolution is not random.
What happens is that the strongest organism in the ecosystem shows the direction of evolution.
If the lion is the strongest, the other actors evolve to save themselves from the lion.
Moore’s massively valuable insight was that, if the lion directs the evolution, he could also manage it if he knew he was directing it. This way, it could always be best positioned to remain as the strongest actor in the ecosystem.
Applied to businesses, this means that strong companies can show the direction of innovation by picking the products they launch and partnerships they form, ultimately attracting other businesses and entrepreneurs in that path, creating an ecosystem of businesses around themselves.
Moore reasoned that leading that business ecosystem and collecting rents from the whole ecosystem would be insanely more profitable than collecting rents from just one market.
This is how Intel and Microsoft dominated the PC industry after they engaged in strategic alignment starting from the 1980s. Microsoft optimized its operating system for Intel chips and Intel innovated to accommodate upcoming Microsoft updates.
The business ecosystem created by Intel & Microsoft was so strong that it was often referred to as “Wintel.”
In 2003, 11 years after Moore published his article in Harvard Business Review, Amazon CEO Jeff Bezos read it in his annual retreat. He used to take such retreats every year just to read and think about how Amazon should evolve.
At the time Amazon was struggling to recreate itself as a technology company, because its image as a retailer was suppressing the valuation.
It was that year Google was preparing to become public and rumor had it that it could get a valuation close to $20 billion. Amazon was slightly larger than that despite generating way more revenue than Google. When Google made an IPO in 2004, it was valued over $20 billion while Amazon’s valuation declined to $18 billion.
Bezos, wanted to change Amazon’s image as an online retailer and recreate it as a technology company.
In that same retreat, aside from Moore’s article, he also read the book named Creation.
The author Steve Grand was a creator of a revolutionary computer game called “Creatures” where players were nurturing and guiding seemingly intelligent life forms.
Grand wrote that his approach to creating life was creating a bunch of primitives and then allowing those primitives to freely interact with each other.
A light bulb went off in Bezos’ head…
He figured that all they needed to do was to provide their developers with primitives and allow them to experiment. When they come up with something, they would just capitalize on that and attract customers and complementaries, creating Amazon’s own ecosystem.
He didn’t know at the time but that was a genius idea.
The very primitives developers needed, database storage and servers, was the revolutionary new product that Amazon was looking for.
Engineers Chris Pinkham and Benjamin Black noticed in late 2003 that they could offer Amazon’s excess storage and server capacity to others who needed it as a service.
They built the service and launched it in 2006.
Demand flew like water flowing through open gates of a dam.
Suddenly, the cost of creating a startup had declined by 100x. You didn’t need your own database, you didn’t need your own server and machines, you just needed an Amazon Web Services account and you would pay as you go.
That was the first step of Amazon’s evolution into an ecosystem of businesses. Following Moore's ecosystem theory and Grand’s theory of creation, it provided engineers with resources and urged them to create new products that would complement Amazon’s offerings or enhance them.
In the next two decades, Amazon launched new products and services like Prime, Advertising, Prime Video, Amazon Fresh… Evolving into a complete ecosystem.
This is what Amazon is.
It’s not an online retailer, it’s not a cloud platform, it’s not an advertiser…
It’s an ecosystem of complementary businesses that evolve together to seize the new opportunities in the market.
If you don’t understand this, you can’t understand Amazon, you can’t understand how big its moat is, you can’t understand how well positioned it is for the next cycle of innovation.
It’s a giant ecosystem where every part feeds each other in a flywheel of mutual growth.
This is what Amazon actually is.
🏰Moat Analysis
Let me be straight here: Amazon has one of the widest moats I currently see in the market.
If you asked me to say three businesses that I am sure will be around 20 years from now, Amazon would be one of them.
But why? What makes Amazon so invulnerable against disruption?
Well, let’s take a step back and return to the basics: Where does the competitive advantage come from?
Michael Porter responded to this in his book titled “Competitive Advantage.”
He says competitive advantage necessarily originate from either cost advantage or differentiation:
It’s simple. You either sell cheaper than others or you sell something different than everybody so competition becomes irrelevant.
You don’t actually need to choose either of these strategies, the product you sell determines your strategy.
If you are selling something unique, you can act somehow independently from substitutes because none of them will be 100% substitute. All you need to do is convince people that they want your product.
If you are selling a commodity product, on the other hand, you have no choice but to compete on price. In the end, people can prefer Samsung over iPhone or vice versa for some unique features, but for 99% of the people, the best rice on the shelf is the cheapest one.
Naturally, if there is one thing that puts you in a competitively harder position than selling a commodity brand, it’s selling other brands’ products, i.e retailing.
Now you are selling something that doesn’t belong to you and that can be bought from many other places.
You must compete at price. You have no other option.
Amazon did exactly this. This was their first website:
They knew so deeply that they had to compete on price that this was the first thing you saw on their landing page: “One million titles, consistently low prices.”
So, the question is: How do you sell cheap if you are selling other people’s products?
There is a cost of production and a minimum markup that the original producer wouldn’t cut. All major retailers can get similar deals from wholesalers.
How do you sell cheap then?
It’s simple: You cut your fixed costs.
As you scale, the fixed costs of operation disperses over millions of products allowing you to sell at cheapest prices possible, something close to what you pay to wholesalers.
This was their strategy. They built giant distribution centers all around the country that would take millions of products so the cost of operation per product would be minimal.
This way, they would be able to sell at lower prices than anybody, which would attract more customers, which would in turn further cut fixed cost per product sold and allow them to sell even cheaper.
Jeff Bezos sketched this model on a napkin and named it “Amazon Flywheel.”
And that worked perfectly.
Today, Amazon operates 121 distribution centers across the US, each estimated to cost over $200 million to build now.
Just do the math…
Any competitor that just wants to match Amazon’s distribution center infrastructure needs to spend $24 billion.
This is just the beginning..
Scale and scope aren’t the only things that protect Amazon’s business now.
It currently has 9.7 million sellers on the platform and increasing…
More sellers on the platform, more competition and better selection which attracts more customers which again attracts more sellers.
It creates incredible network effects.
If you were a new seller, where would you start your store? Somewhere on the internet where you need to spend thousands of dollars in advertisement to attract customers, or in Amazon Marketplace that attracts more than 300 million users every month.
It’s a no brainer decision.
Now imagine the exact opposite, imagine you were a buyer.
Where would you start your research for a product? Would you surf all the pages found by Google or would you just go Amazon where there are 9.7 million sellers.
It’s an easy decision for sellers, it’s an easy decision for buyers.
It’s virtually impossible to penetrate this moat due to its unconceivable scale and strong network effects protecting the business.
Yet, we have talked just about e-commerce…
What about its other businesses, most notably cloud?
Well, let me show you something:
Amazon Cloud now generates over $28 billion quarterly and over $115 billion annually.
It’s currently the largest cloud provider in the world with more than 31% market share.
Yet, these are not just numbers on paper. These numbers you see are actually businesses. They are paying Amazon because they host their businesses on Amazon servers.
These numbers you are looking at are companies ranging from 0 to hundreds of billions in valuation. They got started on Amazon servers back in 2006-2010 when AWS was effectively the only play in town. As they grew, AWS grew with them.
Let me give you an example: This very platform you are reading this article on, Substack, runs on Amazon servers.
And thousands of new such businesses get started on Amazon servers every day…
Some of them will surely fail but some of them will become multi-billion dollar businesses. And as they grow, so will their AWS bill.
If you ever built a business, you would have known that one of the scariest things to do is migrating from one infrastructure provider to another…
You may lose all your valuable customer data, it may not work as smoothly as the old platform, your software may need to change to adjust to the new structure…
This erects very strong switching barriers. It’s risky, you may lose everything you have built so far or you may lose all precious time dealing with it while your competitors improve their products.
If you build your business on one platform, you never want to switch unless it’s necessary.
Now on top of all these individual businesses protected by their own giant moats, imagine they are interconnected in an ecosystem.
This is what Amazon is, it's what makes it untouchable.
You may start as a marketplace customer and if you think about starting a business one day the first place that comes to your mind to host your website is AWS.
If you are an AWS customer, you can get very attractive Amazon Gift Card offers to reward your best employees.
If you are a seller on the marketplace, you can use Amazon FBA instead of shipping yourself, you can use their brand registry services to start selling branded products, you can borrow from Amazon more easily than a bank etc…
Once you are in, you don’t need to get out, it satisfies all your needs in its ecosystem and makes more and more money in the process.
This is what actually makes it untouchable…
There is a 1% chance that a company can match it in e-commerce, there is a 1% chance that a newcomer can compete with it in cloud, there is a 1% chance that a newcomer will create as big of an advertisement service as that of Amazon.
However, when it comes to doing all these together at the same time in an ecosystem, that chance declines to 0.0001, this is the actual strength of Amazon.
It’s literally untouchable.
📝Investment Thesis
Let me be clear with this: We are at a critical point in human history where technological transformation happens very fast so cycles of disruption are now shorter than they have ever been.
It’s very hard to position for predictable growth in the next 10 years. Yet, Amazon is positioned for that. It isn’t just creating the future, it also owns businesses that won’t get affected from the coming wave of disruption.
Overall, my Amazon investment thesis relies on three pillars:
1) AI Will Skyrocket Demand For Cloud Computing
It doesn’t get a genius to see this.
We currently only see the tip of the technological revolution underway.
To understand what’s coming, think about the first days of the internet.
Tim Berners Lee created the first website in the Cern in 1991. Three years later, in 1995, there were only 2,500 websites. Today, there are 200 million active websites. An increase of 80,000 times.
Well, if you take it from the launch of ChatGPT in 2022, AI is currently where the internet was in 1995. We will be experiencing a growth in AI workload similar to 80,000 times that the internet experienced after its third year.
All the AI workload will run on cloud, exploding demand.
Precedence Research estimates that cloud computing will be a $3 trillion market by 2030 and $5 trillion by 2034.
Exact numbers may change but we surely know two things: Demand is set to explode and Amazon is the leader in this market.
Even if the market reaches half of the predicted size in 2030, Amazon’s cloud revenue will more than double.
2) E-commerce Profits Will Explode As Margins Expand
Amazon has historically operated with laser-thin margins in its e-commerce segment to drive growth and customer satisfaction rather than profits.
This strategy has paid off dearly.
Amazon is currently the largest marketplace in the world receiving more than 300 million users every month.
As a natural result of this, the number of third party sellers in the Amazon marketplace skyrocketed. So did the revenues.
Revenue from third party seller services grew from $11.75 billion to $140 billion in 2023 and $156 billion in 2024.
This is a staggering growth.
What’s more important than the growth itself is that this is a way higher margin business for Amazon than the actual online store sales.
As this segment grows faster than the actual online store sales, overall margins in the e-commerce business will also improve.
If it can increase the net margin in this segment to just 10%, its e-commerce profits will more than double, which will cause both improved fundamentals and multiple expansion.
3) It’ll Keep Gaining Market Share in Digital Advertising
Its advertisement business is a natural by-product of its platform power.
Its marketplace receives more than 300 million users every month so the most valuable resource for the sellers on the platform is attention.
Amazon understood this in the mid-2010s and doubled down on its advertising business.
Result? The business exploded.
Its market share in global digital advertising increased from 0.8% in 2016 to 7.1% in 2023 and 7.5% in 2024. It’s closing in on Alibaba to become the third largest digital advertiser in the world.
As its marketplace grows and traffic increases, demand for sponsored placement will skyrocket.
What’s better is that it is able to double capitalize on this growth as it also has greater pricing power in its ad business than Google and Meta have because of the dedicated, platform specific nature of these ads.
Overall, its ad business is also well positioned to become another +$100 billion revenue channel.
We are looking at a business that has several growth engines and it holds near dominant positions in all of them.
This is all investors’ dream.
📊Fundamental Analysis
➡️ Business Performance
This is a place Amazon takes no introduction.
Every time I see this chart, my reaction is just “wow.”
Look at this beauty:
It grew revenues 13% annually in the last 5 years.
We are not talking small numbers here. Its 2020 revenue was already $386 billion and it managed to pull this up to $637 billion in just five years.
While revenues grew 65% in total, its net income more than tripled, meaning it also significantly expanded its margins in the same period.
This is a jaw dropping performance by any means and it’s not slowing down, not anytime soon.
➡️ Financial Health
All quiet on the western front… Amazon’s financial position is rock solid.
It has $155 billion debt against $285 billion equity. This is already a really strong number but what’s better is that its EBITDA can pay all the debt in just under two years.
This is an extremely safe financial position to be for a company that has arguably the strongest earning power in the world.
Though numbers are impressive, I want to emphasize something much more important than the numbers here. Just look at how its financial position pivoted in 2022.
In 2022, it was carrying more debt than equity and next year it significantly expanded the equity pool while reducing the debt.
What happened in 2022? The Fed started raising interest rates from 0.
Amazon could have easily neglected this relying on its earning power and strength in capital markets but it didn’t. It reacted swiftly to pivot to a safer financial position.
This is a masterful management of financial risks.
Overall, it has a strong balance sheet with a masterful financial team at the helm.
It’s very well positioned to weather any storm!
➡️ Efficiency & Profitability
Gross & Net Margin
If there is one metric that communicates most about the competitive strength of the business, it’s gross margin.
Jeff Bezos gives the reason:
If the company is charging high premiums over its costs, that makes the business very appealing for others and attracts competitors.
Competitors get in the market and guess what’s the first thing they do?
They cut prices to attract customers.
If your business doesn’t have a durable competitive advantage, you find yourself cutting your own prices to not lose customers to competitors.
Guess what happens? Gross margin shrinks.
Conversely, if the business is consistently expanding its gross margin, it means that it’s enjoying a strong competitive position.
Amazon has this:
Amazon consistently expanded the gross margin since 2020 and it did this every year including 2022 when the Fed started raising interest rates.
This is how strong the business is in terms of competition.
Its moat is not just in theory. We see it in numbers too.
What’s even better is that its ability to transfer this massive earning power to the bottom line and create tangible shareholder value has also improved significantly.
Its net margin expanded from 5.5% in 2020 to 9.3% in 2024.
This will only increase as the revenue share of its higher margin businesses like cloud, third party seller services and advertising keeps increasing.
Just another reason to be very bullish on its future!
Return on Invested Capital
If you don’t understand Amazon and look at this picture, you won’t be satisfied by what you see:
“Only 13%?” you might ask.
Well, this is pretty deceptive.
It’s deceptive because Amazon reinvests a very large share of its revenue, which shrinks the net income and decreases the return on investment on paper.
For reference, Amazon announced in its latest earnings call that it expects to invest $100 billion this year.
This is 15% of its revenue.
If you account for the fact that a substantial portion of SG&A expenses in tech companies also tend to be investments, this number easily goes above 20%.
Now suddenly that 13% you see becomes impressive given that this is a $2.5 trillion business investing more than 20% of its revenue back in business.
And this is set to increase as its higher margin businesses like cloud and third party services keep growing faster than the lower margin ones like online stores.
Overall, it’s profitably reinvesting capital with adequate returns.
In sum, I don’t see a single red flag in its fundamentals.
📈Valuation
This is where it gets a bit tricky…
Normally, valuation framework should be really simple for companies with durable competitive advantage:
Look at the past performance in the last 5-10 years.
Assume conservative growth going forward.
Run the numbers.
Yet, for Amazon, I think looking at the average annual revenue growth in the last 5 years will lead us to grossly underestimate its potential.
The main reason for this is that Amazon is expanding its margins in its slow growing businesses like retail e-commerce while the growth of high margin businesses are accelerating and revenue share of them is growing fast.
Take cloud business for instance.
AWS growth re-accelerated from 12% in 2023 to 19% in 2024, in line with the market while the second largest provider, Azure, hasn’t seen such re-acceleration.
Amazon has a 37% operating margin here that is set to expand even further in the future when capex requirements decline and it increasingly uses its own chips instead of Nvidia.
This is why I think we should value these businesses separately and then combine them together.
Let’s start with cloud:
As I mentioned above, this market is estimated to reach $2.3 trillion by 2030.
Amazon has a massive 31% market share here.
So, even if we assume that market will reach only to $1 trillion and Amazon’s market share will decline to 25%, this is going to be a $250 billion revenue channel for Amazon.
It has a 37% operating margin in this segment. Assuming its net margin here is around 30%, this gives us around $75 billion net income only from cloud operations.
This is just the beginning…
Let’s get to e-commerce:
Amazon generated $403 billion revenue from e-commerce operations, including third party seller services, last year.
Amazon dominates the North America market with over 51% market share but it lags in the international market.
This segment can easily grow 10% annually in the next 5 years with significant margin expansion due to the increasing share of third party seller services.
Running the numbers, this segment will generate $649 billion revenue in FY 2030.
If we assume 10% net margin here, this segment will generate nearly $65 billion net income in 2030.
Now, let’s consider another booming business: Advertising.
Amazon is rapidly increasing its global market share.
In 2015, its ad business nearly didn’t exist and now it controls over 7.5% of the global market as shown in the investment thesis section.
This market is expected to reach $1.1 trillion by 2030:
Even if Amazon’s expansion slows down, it can easily control around 10% of this market, which will result in $110 billion revenue.
As a pure digital advertiser, META has 38% net margin in this business.
Even if we assume 30% net margin for Amazon, this segment will generate $33 billion in FY 2030.
Summing up, these primary growth drivers of Amazon will generate $173 billion net income in FY 2030.
Given that these businesses will still have multi-year +10% annual growth potential ahead of them in 2030, we can conservatively attach a final P/E of 30.
This gives us a $5.1 trillion business, a double from today’s valuation.
Let me remind you, this is excluding other complementary parts. They are mainly reflected in the end multiple I attached. If it didn’t have other businesses and ability to seize upcoming opportunities, I would have attached an end multiple of 25.
This may not sound attractive enough for some people but there are very few businesses in the world that have the same certainty for fast growth as Amazon.
Given the strength of the business and high level of certainty of growth, I think it’s an amazing place to park your money for the next 5-10 years!
🏁 Conclusion
I am going to be very straightforward here: Amazon is my highest conviction stock for the next 5-10 years.
It dominates three fast growing markets and it’s well positioned to capture new opportunities as the new technologies like AI develop.
Its dominance in cloud provides it with control over the developing new technologies and its massive financial resources gives it everything to capitalize on them.
The fact that it has an opportunity for massive margin expansion makes it even more appealing.
Overall, I think it’s one of the safest plays in the market that promises above average returns with quite high certainty thanks to its impenetrable moat.
Some will say a double in five years isn’t that attractive. But when you also account for the high certainty of these returns, I think it’s more appealing than it looks.
We are looking at a company that dominates cloud and e-commerce and a rapidly growing market share in digital advertising that’s also not overpriced and promises to double your money in the next 5 years.
I would buy this everyday!
Amazon has lots of growth ahead, but you missed out the most important parts - the new businesses that are only just emerging from Amazon - Kuiper, Zoox, etc
Take a look at the videos embedded in this article: https://rockandturner.substack.com/p/amazon-the-everything-company
Thank you very much for this wonderful and fabulous presentation of the Investor's mental landscape. Your Post is a real archaeological dig into the foundations of the mental representation of our technological, commercial and financial ecosystem. Your reflection is a brilliant demonstration that has edified me.