Amazon's (AMZN) - Get Report highly-anticipated Q3 2019 results were not what investors hoped for. On the surface, guidance was not strong, causing the stock to fall sharply after hours and to open trading down around 4%. Aside from this quarterly outlook, Amazon continues to grow and diversify better than ever before. But its stock remains incredibly hot, leaving investors with no margin of safety.  

Guidance Comes In Weak

Amazon delivered a strong report for Q3 2019. But the spotlight was overwhelmingly focused on its Q4 guidance.

When asked for details of the unexpected slowdown, Amazon's CFO Brian Olsavsky noted that the "law of large numbers" played a role, citing the impact of last year's Q4 where it acquired Whole Foods, as well as certain significant events that landed in Q3 this year versus Q4 last year, such as the Diwali holiday in India partially falling into Q3 this year.

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Many analysts believe that Amazon delivered lackluster Q4 guidance so that it could easily beat expectations. That's certainly possible. However, the numbers in the graph above demonstrate that Amazon's 30% growth rates are now evidently a thing of the past.

Investing For Growth

Historically, Amazon's narrative had been focused squarely on investing for growth. Amazon was unperturbed with its bottom-line performance, and growth was all that was important for this highly disruptive juggernaut.

Then, during the last several quarters, the story shifted and became focused on Amazon's growth rates slowing down; hence it no longer made sense to invest as heavily in growth. In essence, the message was that Amazon's return on invested capital was not as high, and that it would take its foot off the pedal.

Consequently, starting with Q1 of this year, Amazon's operating margin hit an all-time high of 7.4%. But in Q2 2019 this diminished to 4.9%, while this quarter's operating margin came in at 4.5%. Looking ahead, Amazon's operating margins at the midpoint will come in around 2.7%. Why such weak margins once again?

Because Amazon is investing incredibly aggressive to shift its U.S operations from two-day Prime delivery to one-day delivery. CEO Jeff Bezos, who is renowned for his long-term vision notes that this is "it's the right long-term decision for customers."

Significant Investment in AWS

AWS continues to grow at a rapid clip, up 35% year-over-year. This strong growth is particularly noticeable when other large peers, such as IBM (IBM) - Get Report are only just eking out 14% of adjusted growth (including its recent large acquisition of Red Hat).

Olsavsky noted that competition is intense in this space and this has forced Amazon to reduce its prices. In the background, Amazon is looking forward to creating new products and services which are cheaper and less expensive than the old ones, and more accretive towards its AWS margins.

Further, Amazon continues to be a significant employer adding to its sales teams with the focus of going after the enterprise. This means Amazon will go head-to-head with Microsoft's (MSFT) - Get Report Azure.

Valuation - Crowded Trade

On the one hand, Amazon is an incredible enterprise, led by a stellar management team. On the other hand, everyone knows this already and is pricing in a lot of its future potential.

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The table above reminds us that Amazon is not cheap. While it's is not growing as fast as it had been historically, its profit margins are not all that impressive either, but its stock remains pricey. Overall, it's becoming challenging to find a compelling edge for making Amazon a rewarding investment. 

The Bottom Line

Investors at the top of the bull market are going to struggle to find particularly cheap stocks.

Even if Amazon's growth rates are fundamentally slowing, Amazon today is more diversified than it has ever been before. Investors seeking capital preservation would do well to consider Amazon as part of a diversified portfolio, whereas more enterprising investors are going to struggle to compound their wealth at rapid rates by investing in Amazon at this valuation, and are best off looking elsewhere.

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