Ten years ago Amazon (AMZN) launched Amazon Web Services, one of the earliest experiments with cloud computing that Chief Executive Jeff Bezos recently described as the planting of a “tiny seed.”
That seed has turned into a giant beanstalk. Sales for the unit, known as AWS, now are on pace to reach $12.5 billion for the year, based on first-quarter results.
And thanks to its early entry in the business, AWS is now the leader in cloud computing, with a market share of 31%. The next closest competitor is Microsoft (MSFT) with 9%, followed by IBM (IBM), Alphabet’s (GOOGL) Google Cloud unit, and Salesforce.com (CRM).
“This year, Amazon became the fastest company ever to reach $100 billion in annual sales,” Bezos said in his April 6 letter, reflecting on the 2015 fiscal year. “Also this year, Amazon Web Services is reaching $10 billion in annual sales, doing so at a pace even faster than Amazon achieved that milestone.”
AWS is a collection of services, including storage, networking, application services and other features businesses pay to use on an as-needed basis via the cloud. It’s a business that Bezos says has been built organically without significant acquisitions.
‘Gem In The Haystack’
In the first quarter, the unit had sales of $2.56 billion, up 64% year over year, compared with 28% growth in total company sales. AWS comprises 15% of total sales for the period, up from 11.7% a year ago.
“The reason to hold Amazon stock is AWS,” said Dan Morgan, senior portfolio manager at Synovus Trust Co., which owns 41,802 Amazon shares. “AWS is the gem in the haystack.”
Microsoft and Alphabet, in particular, are being aggressive with increased investments in cloud technology, said Morgan, which could create some risk of future pricing pressure. But it’s not a big concern in that Amazon has demonstrated the ability to weather price wars in times past, he said.
AWS was a big reason Amazon reported its highest sales growth in nearly four years when it posted first-quarter earnings on April 28. The e-commerce powerhouse swung to a first-quarter profit of $1.07 a share, which crushed the consensus estimate of 58 cents, and swung from a loss of 12 cents a share a year earlier.
Revenue jumped 28% to $29.1 billion, ahead of the $28 billion view. Amazon sees total second-quarter revenue of $28 billion to $30.5 billion, with the midpoint 26% above Wall Street forecasts of $28.3 billion.
“Amazon has, in a lot of ways, become a part of everyday life,” said David Smith, a vice president and analyst at research firm Gartner. “It’s not just through the purchase of goods and entertainment. Even with AWS, people are in contact with Amazon in ways they don’t even know.”
Raising The Stakes
Amazon received several price upgrades following the earnings report. One came from John Blackledge, a Cowen analyst, who upped his price to 830 from 750. Another was from Shebly Seyrafi, analyst at FBN Securities, who raised his price target to 800 from 685, with a research note titled “Hitting on All Cylinders.”
“This was a very strong report from Amazon,” Seyrafi wrote, which he said was the result of strong top- and bottom-line growth, strong gains with AWS and international growth, which rose 26% to $9.6 billion. There is “ample room ahead” for continued growth in its core retail business, he wrote.
That primary source of Amazon’s revenue is the sale of a wide range of products and services to customers through its Amazon.com website, both in the U.S. and abroad. Revenue from this category, referred to in its earnings reports as electronics and other general merchandise, rose 31% in the first quarter to $20.55 billion.
Growth was fueled by the increasing number of annual subscribers to Amazon Prime. Initially a free-shipping service, Prime’s membership base has been a source of extensive and envious consumer loyalty for Amazon. The membership now includes access to Prime Video, a Netflix-like service, Prime Music, which provides free music streaming, and unlimited photo storage with Prime Photos.
Nomura analyst Robert Drbul says Prime has helped Amazon in several ways.
“We believe Amazon has established significant brand equity here in the U.S. and that its leadership position remains quite secure.” Drbul said in a research note after first-quarter earnings. “While the size of its Prime base remains undisclosed, we believe the loyalty rivals that of the Costco Executive Membership base.”
Willing To Experiment
A part of Amazon’s success is its willingness to experiment in many ways with new products and services, something that Bezos says has been essential to the company’s success.
“To invent you have to experiment, and if you know in advance that it’s going to work, it’s not an experiment,” Bezos wrote in the shareholder letter. “We want to be a large company that’s also an invention machine.”
Some experiments have flopped, like the Amazon Fire smartphone, while others have become unexpected hits, like the Echo, an in-home, voice-activated device that connects to WiFi. On request it plays music, read books, provides traffic and weather, helps people order pizza or request service from Uber, among many other features.
Eventually, some analysts think Amazon could elect to get into the shipping business, much as it entered cloud computing services business with AWS. Like Amazon’s growing delivery capacity, AWS began out of necessity as the company built up its infrastructure to fulfill its own growing needs and expanded to serve other companies from there.
There’s evidence already that Amazon is on the road to compete with the likes of FedEx (FDX) and UPS (UPS). For one, the company has announced the purchase of a fleet of trucks to ferry goods between fulfillment centers. Plus, Amazon announced an agreement to lease up to 20 Boeing 767s from Air Transport Services Group, in an effort to expedite delivery of goods.
Amazon has said the additional shipping capacity is especially helpful during peak delivery times, which other shippers are overloaded.
“This gives us extra capacity and we think it’s good to be able to deliver to customers,” Phil Harden, Amazon director of investor relations, said on the company’s earnings call, “and we think it makes sense over the long term.”