Should I buy Amazon shares?

Amazon has a strong web services business and our author thinks its online retail operations are underappreciated. So should he be buying Amazon shares?

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Key Points

  • Amazon.com shares have fallen by 33% since the start of the year
  • AWS has big margins and is growing rapidly 
  • The online retail business has a strong brand that provides it with an advantage

I think that Amazon.com (NASDAQ:AMZN) is a wonderful business trading at an attractive price. As a result, I’m looking at buying Amazon shares for my portfolio right now.

The business

Amazon.com divides its operations into two parts. The first part is the online retail and the second is the web services business (AWS).

AWS is the organisation’s cash engine, which accounts for around 14% of the overall company’s revenues. It’s easy to see why investors are attracted to AWS.

The web services business has operating margins of around 35%, which is impressive. That compares favourably to Apple (30%), Alphabet (30%), and ASML Holding (30%).

AWS is also growing rapidly. Last year, the business achieved 37% growth in revenue and 43% growth in earnings.

The remaining 86% of Amazon’s revenue comes from its retail operations. Operating margins in this part of the business are much lower, typically around 5%.

Low margins can make this part of the business seem unattractive. But I think that focusing on the margins here is a mistake.

In my view, the business is comparable to CostCo, which Charlie Munger views as a terrific company.

CostCo has low margins, but it makes money by customers paying a subscription to shop there. It does this by having a reputation for providing the lowest prices anywhere.

Amazon doesn’t have the same reputation when it comes to price. But I think it secures its reputation by having the fastest delivery times.

Just as customers know that nobody will have lower prices than CostCo, they know that nobody will get their goods to them faster than Amazon. In my view, this is a hugely under-appreciated feature of Amazon’s retail operations.

I think that the retail part of Amazon’s operations has a hugely valuable intangible asset.

Valuation

Amazon shares have fallen by around 33% since the start of the year. At current prices, I’m buying the stock for my portfolio. 

At first sight, the Amazon share price looks expensive, trading at a price-to-earnings (P/E) ratio of 55. But I think that the P/E ratio is misleading here.

An impairment charge in the last quarter has left the company’s earnings per share lower than they might otherwise have been. That’s unlikely to be a recurring issue, but it pushes up the stock’s P/E ratio.

In 2021, the company generated just over $33bn in operating income. That implies a P/E ratio of around 35.

Amazon shares look attractively priced to me. The risk is that a recession will stall the company’s growth, but I don’t anticipate this being a long-term issue.

The biggest risk to the company that I can see is the possibility of an economic recession brought on by inflation. While this might be a short-term problem, I think that Amazon’s business strength will prevail over time.

I think that Amazon shares can be a great investment for my portfolio. The strength of its business, combined with its potential for strong returns, gives me confidence in buying the stock right now.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Stephen Wright has positions in Amazon. The Motley Fool UK has recommended ASML Holding, Alphabet (A shares), Alphabet (C shares), Amazon, and Apple. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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