Profits may always appear to be on the horizon for Amazon, but its investments may start to pay off as soon as this year.
In a note titled “The Sun Will Come Out Tomorrow,” Citigroup analyst Mark May raised his rating on the retailer to Buy from Neutral and upped his price target to $354 from $325. The report has nothing to do with the weather in Amazon’s hometown, or “Annie,” the musical, but rather the prospects May sees for the company in 2015.
Investors responded favorably this morning, pushing the company’s stock up to as much as $301.50, before trading more steadily at $296.84, representing a 1.8 percent jump.
Investors are not always comfortable with Amazon’s aggressive investment style, which results in short-term losses for the company, but May suggests that Amazon is undervalued, and that this year margins will expand to their highest levels in more than a decade.
To make that determination, May suggests evaluating Amazon based on one particular accounting measurement: EBITDA (earnings before interest, taxes and depreciation and amortization). He says that is a better gauge than using the more common metric of CSOI (consolidated segment operating income), according to Barron’s, which obtained a copy of the note.
“Near-term growth in CSOI may not accurately reflect the underlying growth in the business,” he said, adding that “the growth in EBITDA may provide a better assessment of valuation.”
May said the price target is justifiable considering that Amazon’s valuation is roughly in line with its peers, Walmart and Costco. Amazon is now valued at $132 billion, compared to $289 billion for Walmart.
“This is despite both businesses having dominant market positions in their respective categories and are growing well above the industry average (AMZN’s retail business is forecast to grow 15% in 2015 versus the 4% industry average, while AWS/Other is slated to grow 35% versus its comp-group at 23%),” he said. “With this considered, we believe the downside risk to shares materially below the $300 level is limited.”
Finally, he said looking at revenue growth is also not fair because Amazon is made up of three primary businesses — its own marketplace, plus third-party merchandising, and Amazon Web Services.
See the chart above demonstrating how gross profits continue to outpace revenues.
Another factor that could be contributing to Amazon’s stock rally is the positive momentum in its media business. Two days after winning its first-ever Golden Globe, Amazon announced that legendary director and filmmaker Woody Allen will write and direct his first TV series, to be available exclusively to Amazon Prime members next year.
Maybe Allen will direct a musical about a young orphan girl finding a rich family to take her in?