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No matter how cheap Amazon (AMZN) stock gets, AOL Time Warner (AOL) is paying too much.

Amazon shares plunged 21% Tuesday morning after the Seattle-based company's Monday evening forecast of weak third-quarter financial results. As part of a broad e-commerce deal, AOL agreed to invest $100 million in Amazon stock at up to $15.28 a share, a 10% discount to Friday's closing price.

The bull spin: A savvy buyer of tech doesn't believe Amazon is going bust. The bear take: Amazon couldn't persuade AOL to pay a premium, a decision that looks good for AOL now that Amazon stock has fallen to around $13. It now appears likely that AOL will end up paying a price based on Amazon's five-day average close through next Monday, a price that is likely to be rather less than $15.28.

But AOL will go down as having paid too much, even at these prices. Amazon stock is still expensive, and the company's balance sheet suggests Amazon is getting squeezed by vendors wary of extending credit. As a result, AOL's prospects of seeing its Amazon stock appreciate aren't good.

Seeing Red

Amazon is well over a year away from making a full-year pro forma profit, according to most analysts, though the company continues to trumpet its targeted pro forma profitability for the coming fourth quarter. In 2002, analysts expect it to post a pro forma loss in the region of 30 cents a share. And even a generous assessment has it earning just 15 cents a share on a pro forma basis for 2003.

Let's say Amazon increases revenue to $4.15 billion in 2003. By that time, the company might be able to manage an overall operating margin of 5%, compared with the current negative 4.2% margin. That produces operating profits of $208 million. Subtract $120 million in net interest payment, and using a 35% tax rate creates a net profit of $57 million, or 15 cents a share (using a 380 million-share count). At AOL's top rate of $15.28, that puts a price-to-earnings ratio of 105 times on Monday's deal. Not cheap for a company with top-line growth of 10%.

But remember, that's for 2003. Is there a chance that Amazon could run out of cash before then?

With the AOL investment, and with much more revenue coming from second-hand booksellers, Amazon appears to have bought itself some time. But one significant source of cash in the second quarter was an increase in accrued expenses and other current liabilities, which produced $52 million of cash in the second quarter, according to Amazon's cash flow statement. This line probably contains money owed to second-hand booksellers. If this is the case, Amazon can probably take longer paying these merchants than vendors of new books, which still seem cautious about extending credit to Amazon. But over time, the used-book sellers may become just as chary as new-book sellers, who still appear cautious, judging by balance sheet numbers.

Money owed to these new book vendors appears in the accounts payable line of the balance sheet. The $258 million of accounts payable was 10% below the year-ago number. By comparison, sales rose 16% over the year-ago period. Generally, payables are expected to track sales. So when sales are rising and payables are falling or flat, it implies vendors are tightening payment terms.

That $100 million is chump change for AOL, but it's clearly important for Amazon.

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