Amazon: big spender must cut costs

There will be no holiday cheer from Amazon this year. The ecommerce giant is bracing for a sharp slowdown in sales for its all-important fourth quarter. At the same time, the strong dollar and swelling expenses threaten to eviscerate operating income.

The worst may still be to come. Inflation-hit shoppers — especially in Europe — are cutting back on spending. As the world’s largest retailer, Amazon is particularly exposed to any pullback in consumer expenditure. In the third quarter, international sales fell while those in North America rose by more than a fifth. But these numbers do not fully reflect the impact of higher energy costs on household budgets. The arrival of winter will send heating and electricity bills soaring.

Shares tanked on the weak outlook. Amazon’s market valuation, having peaked at $1.88tn a year ago, has since fallen some 40 per cent. But at 55 times forward earnings, the stock is no bargain yet.

In the past, Amazon could count on its other businesses to ride to the rescue. But its AWS cloud division and advertising units are not immune to a slowdown. Large companies are reining in spending on IT and marketing. AWS, whose rich margins have long helped subsidise the retail side of Amazon, reported just an 11 per cent rise in operating income. Margins fell four percentage points year-on-year to 26.3 per cent.

This would not be so bad if costs do not keep mounting. Fear of losing market share meant Amazon spent heavily on everything from content for its Prime video service to building out infrastructure for its cloud computing. Amazon expects to spend $60bn in capital investments in 2022. Free cash flow, which went negative last year, looks likely to end up in the red again this year.

In the past, investors’ focus for Big Tech has been on top line growth. More recently it is on profitability. In the coming quarters they will be judged on yet another metric: how quickly they can cut costs.