The Market Ticker
Commentary on The Capital Markets- Category [Earnings]
2017-02-03 11:16 by Karl Denninger
in Earnings , 304 references
[Comments enabled]  

Let's do Amazon first, all quarter compared against comparable.

Product sales up 15%, net-net.  However, cost of fulfillment was up 25.8%, or damn close to double the product sales increase.  smiley

G&A expense was up 83.9%, or damn close to a double on a cash basis. smiley

AWS (their "jewel") had a 47% sales increase.  Nice.  And operating expenses were up slightly less, 41.5%.  Ok, as far as it goes -- sales going up faster than operating expenses is good, all things being equal.

The problem is that last year, same quarter, AWS sales were up 69.4% and operating expenses were up 46% for that segment.  In other words last year they were providing great improvement in operating efficiency in that segment of the business but that improvement has now dropped to nearly zero.  If any of "operating expense" for AWS is actually recorded in G&A -- and it might be, as there's some flexibility there in how you categorize these items and the G&A growth is explosive compared against last year then in fact the AWS "expansion" is now denting earnings power rather than adding to it.

My money is on exactly that sort of financial game having been played, by the way, because if that was to get into the market the stock would get cut in half in an afternoon.

Remember, AWS is less than 10% of the firm's business.  The day that segment turns from a cash cow to a cash sink is the day the stock is valued as a 1% margin retail delivery corridor and the stock price falls by 50% -- and that's conservative.

There is no rational explanation for an 80% G&A cost increase given the firm's underlying growth rate.  That's not an increase in-line with operating results it's an outrageous spike and I smell financial shenanigans -- legal, almost-certainly, but still shenanigans in the form of cost-hiding and my guess, given the price cuts in AWS services is that that's where the shift came from to try to hide that costs are now increasing faster than revenues, which if true now means that AWS is a net negative to the firm.

I've expected this and in fact previous trends showed that it was coming.  This always happens in highly-competitive service businesses; you eventually reach the point where competition compresses margins and the place where it shows up first is that costs rise faster than sales.  Eventually your margin advantage over others comes down to your execution quality but before you get there your competitors hammer the hell out of you because some of them will be able to drive margins into the 10% area -- and even if you're twice as successful as they are that caps your operating margin off around 20%.

Amazon's stock price assumes this will not happen to them with AWS; if it does they're overvalued by at least 50%.  The problem is that it not only will happen we now have hard evidence that IS happening and I believe they're trying to hide it in their G&A number.

Now let's look at some other uglies.  Media growth rate was down in 2016 in the quarter, as was general merchandise.  It was up somewhat internationally.  Meh, in short -- Amazon is no longer growing AWS explosively; they are being severely pressured by competitors, being forced to drop prices, and expense ratios are going the wrong way in a big hurry.

Now Facesucker.

Facesucker has one big problem -- America is saturated and the rest of the world contributes basically nothing on a per-user basis to their operating revenue.

If you recall I previously noted that the ad volume was way up this last quarter in terms of what I have seen.  Well, that showed up in ARPU.  The problem is that it drove me off the platform.  It may have driven others off too.  Yet since it did so in December and January that means it did not show up in MAUs -- which were pretty flat in America.  Will it remain that way?  Good question.

But the bigger issue here is that the company is out of runway in terms of being able to cram things down people's throats nor grow the user base as it's saturated, and the rest of the world has no ARPU to contribute that matters.  Again, the firm's stock is priced for continued exponential expansion but the numbers say that has ended.

In short both of these firms are seeing what always happens to rapid adoption firms -- you eventually saturate the market.  In addition both firms have stock prices that reflect a forward expectation that trees will grow to beyond the orbit of Mars, which is never true.

There is some justification for this sort of price expansion when a company is very young and the potential for this sort of expansion extends out several years.  However, as soon as the saturation point appears to be within reach then that price expansion should stop.

Sadly it almost-never does, and the result is usually a price "correction" that is utterly enormous when the market gets its arms around the fact that basic arithmetic precludes indefinite exponential expansion.

In other words when the CNBC crooners, "sell side" investment folks and similar have their collective set of crack pipes shoved down their mouths by the intrusion of reality.

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