Amazon.com's (AMZN) - Get Amazon.com, Inc. Report Q3 performance followed a familiar script, with the company once more showing a willingness to sacrifice some near-term profits in order to drive additional growth and boost customer loyalty.
But Amazon's Q4 sales guidance was something of a surprise, as Jeff Bezos' firm forecast a growth slowdown in spite of its elevated investment pace.
On Thursday afternoon, Amazon reported Q3 revenue of $69.98 billion (up 24% annually), operating income of $3.2 billion (down 15%) and GAAP EPS of $4.23 (down 26%). Revenue topped a FactSet consensus analyst estimate of $68.83 billion, and operating income topped guidance of $2.1 billion to $3.1 billion. But EPS, which was impacted some by higher non-operating expenses and a higher tax rate, missed a $4.59 consensus.
More importantly, for the seasonally big fourth quarter, Amazon guided for revenue of $80 billion to $86.5 billion. That's below a consensus estimate of $87.39 billion and implies 11% to 20% annual growth.
Amazon also guided for Q4 GAAP operating income of $1.2 billion to $2.9 billion -- down from a Q4 2018 level of $3.8 billion and below a $4.19 billion consensus.
Amazon's stock was down 5.58% in premarket trading Friday to $1,681.50.
Here are some notable takeaways from Amazon's Q3 report and call:
1. Amazon Attributed its Q4 Guidance to a Few Different Factors
When asked on the call about Amazon's Q4 outlook, CFO Brian Olsavsky noted that after adjusting for acquisitions, Amazon has been seeing its annual revenue growth decelerate by about 3 percentage points in Q4 relative to Q3. "It's a bit about the law of large numbers and the differential between growth in the holiday season..versus the rest of the year," he said.
Olsavsky also said that the timing of India's Diwali holiday in 2019 relative to 2018 (the holiday partly took place in Q3) is impacting Q3 and Q4 growth rates this year, as is a Japanese consumption tax hike that went into effect on Oct. 1st and drove a pickup in buying ahead of the tax hike.
Worth keeping in mind: With Amazon having reported both Q2 and Q3 revenue that was near the high end of its prior quarterly guidance range, the company's Q4 outlook might be conservative.
2. The 1-Day Shipping Effort and Prime Day Fueled Strong Q3 E-Commerce Growth
Amazon's North American segment, which covers all of its North American operations outside of AWS, saw revenue grow 24% annually $42.64 billion, topping a $41.62 billion consensus. And the International segment, which covers all non-North American operations outside of AWS, saw revenue grow 18% in dollars and 21% in constant currency to $18.35 billion, beating a $17.83 billion consensus.
North American growth accelerated by 4 percentage points relative to Q2, as did International's constant currency growth (dollar-based growth improved by 6 points). Likewise, revenue growth for Amazon's "online stores" (direct e-commerce) sales accelerated to 21% from 14%, and growth for its third-party seller services revenue (commissions, fulfillment services, etc.) improved to 27% from 23%. Paid unit sales growth improved to 22% from 18%.
Amazon's swelling efforts to make 1-day shipping the norm for Prime orders clearly played a role here, as did a strong Prime Day event. The company's efforts (confirmed by Olsavsky on the call) to make more low-cost items available for free shipping by themselves also appear to be helping out.
3. The 1-Day Effort Is Also Impacting Shipping Costs, Margins and Headcount
Amazon's global shipping costs grew 46% to $9.61 billion. That's up from 36% in Q2 and 21% in Q1, and is the fastest growth rate seen in recent history.
Shipping expense growth, together with stronger direct e-commerce growth and perhaps also higher depreciation expense growth due to a pickup in capital spending (more on that shortly), weighed on Amazon's gross margin (GM). Following many quarters of annual growth fueled by a mix shift towards services revenue streams, Amazon's GM fell by 0.7 percentage points annually to 41.0%, missing a consensus estimate of 41.8%.
Amazon's 1-day shipping efforts also contributed to a 22% annual increase in its headcount to 750,000. Though noting R&D-related hiring is also a factor, Olsavsky said hiring related to "fulfillment and transportation roles" is by far the biggest contributor to headcount growth.
Olsavsky says that Amazon expects the 1-day initiative to boost the company's Q4 shipping expenses by close to $1.5 billion relative to year-ago levels.
4. AWS Growth Fell a Little Short of Expectations
Amazon Web Services (AWS) posted revenue of $9 billion ($8.995 billion, to be precise), below a $9.1 billion consensus. Annual growth slowed to 35% from Q2's 37% and Q1's 41%.
When asked about the pricing environment that AWS is seeing, Olsavsky said that AWS has dealt with a competitive pricing environment for "a number of years." He also noted that Amazon now has $27 billion worth of future revenue commitments from AWS clients, up 54% annually.
The AWS disclosure comes a day after Microsoft (MSFT) - Get Microsoft Corporation Reportreported its Azure cloud unit saw growth slow to 59% in the September quarter from 64% in the June quarter and 73% in the March quarter. Unlike Amazon with AWS, Microsoft doesn't share Azure's quarterly revenue.
5. Subscription and (Especially) Advertising Growth Remained Strong
Amazon's subscription services revenue, which consists largely of of Prime membership fees and to a lesser extent digital content subscriptions, grew 34% to $4.96 billion, after having grown 37% in Q2.
The company's "Other" revenue, which is now dominated by Amazon's ad business, grew a better-than-expected 44% to $3.59 billion. That's up from a Q2 growth rate of 37%.
While the large investments that Amazon is making in its ad business undoubtedly helped, ad sales also probably got a boost from the pickup seen in Amazon's e-commerce growth rates, given that the lion's share of Amazon ad sales still involve the promotion of products sold on its website and apps.
6. Spending Grew Strongly in a Number of Areas
In addition to reporting 46% shipping expense growth, Amazon also reported that its fulfillment spend rose 23% to $10.17 billion, its marketing spend rose 44% to $4.76 billion, its technology (R&D) and content spend rose 28% to $9.2 billion and its general and administrative (G&A) spend rose 29% to $1.35 billion. With the exception of marketing spend, which saw its growth slow a little from Q2's 48%, all of these fields saw spending growth accelerate relative to the prior quarter.
Capital spending growth, which was held in check during much of 2018 as Amazon digested prior investments, has also accelerated. Direct purchases of property and equipment, which are fueled by warehouse and logistics investments, grew 40% to $4.7 billion, after having grown just 10% in Q2. And property/equipment purchases made via finance leases, which are driven by AWS investments, rose 55% to $3.61 billion, after having grown 42% in Q2 and just 16% in Q1.
This pickup in AWS capex is indirectly a positive for data center chip and hardware suppliers. Just as Amazon was reporting, Intel (INTC) - Get Intel Corporation Report disclosed in its Q3 earnings presentation that its Data Center Group's sales to cloud service providers grew 3% in Q3, after having dropped 1% in Q2.
TheStreet's Eric Jhonsa previously covered Amazon's Q3 report and call through a live blog.
This article has been corrected to state Intel's sales to cloud service providers were up 3% in Q3, rather than 5%.
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