Amazon's Guidance Brings It Down

The e-tailer posted strong third-quarter results but gave conservative guidance.
Publish date:

Updated from Oct. 21's

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shares were falling more than 7%, down $4.26 to $55.09 in recent trading, following an analyst downgrade and disappointing guidance for next year.

That's a steeper fall than the company saw in the after-hours markets immediately following its report Tuesday, when it was down about 2%.

Although Amazon posted its first-ever GAAP profit in a nonholiday quarter, the company issued guidance for next year that appears to be far below analysts' expectations.

Meanwhile, Soundview analyst Shawn Milne downgraded the company from an outperform rating to a neutral rating Wednesday morning. Milne found little to complain about in Amazon's report, and despite the company's guidance, he didn't lower his 2004 estimates. But Milne argued that Amazon's shares are fully priced now.

"At current price levels, we believe the stock fully discounts strong growth, operating margin expansion and free cash flow," Milne said in his report. (Soundview does not do banking services for Amazon.)

Despite Amazon's stock plunge, the company seems to be following the pattern set by chief rival


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over the past few days. Like eBay, Amazon announced strong third-quarter results, but saw its stock fall after-hours on disappointing guidance for 2004.

eBay's stock has since recovered somewhat from the selloff, and Amazon's is likely to do so as well, said Scott Rothbort, president of Lakeview Asset Management and a contributor to

Street Insight

, a sister site of


"You know what's going to happen. They'll take it down for a day or two and then bring it back up," said Rothbort, who does not own a stake in Amazon.

But the company's report and guidance gave some fodder for bears, at least for the short term.

For next year, Amazon projects that it will have operating income of $315 million to $415 million on $5.75 billion to $6.25 billion in sales. That means that the company expects its revenue to grow by about 10% to 23% next year, or considerably slower than this year's 32% pace.

The midpoint of Amazon's revenue guidance -- $6 billion in sales -- is also significantly below Wall Street's expectations. Analysts surveyed by Thomson First Call had projected that the company would post $6.12 billion in sales next year.

Even more significantly, the company's earnings guidance for 2004 appears to be far below analysts' expectations. The company pointedly did not reconcile its operating income projections to per-share GAAP or pro forma earnings.

But a rough estimate can be reached by tweaking Amazon's operating income estimates.

Amazon said it expects its consolidated segment operating income next year to come in between $375 million and $475 million. That figure is equal to the company's operating income minus amortization and stock-based compensation expenses. The company's pro forma income per share is basically its consolidated segment operating income minus income expense divided by its diluted share count.

On its current pace, Amazon will record about $100 million in interest expenses this year. Meanwhile, the company's share count has expanded by about 11% this year to 422.8 million shares.

Assuming that the company will incur about $100 million in interest expenses next year and its share count expands by just 6% to 450 million shares, the company's guidance implies that it is expecting to earn about 61 cents to 83 cents on a pro forma basis next year. In other words, even if the company reaches the top end of its range, its pro forma earnings will be 5 cents below analysts' current estimates.

On a conference call with members of the media, Amazon CFO Tom Szkutak said it was difficult to determine how the company's sales and earnings will look 15 months from now.

"We're cautiously optimistic," Szkutak said. "We think the guidance is appropriately conservative."

But the company's guidance wasn't the only disappointment. Although the company beat Wall Street earnings and revenue expectations in the third quarter, its results had a few disturbing trends.

Amazon's international business, for instance, slowed considerably from the year-ago period. That business, which includes Web sites serving the U.K. and Japan, has been one of the key growth drivers for the company. But revenue growth in Amazon's international business slowed from 91% annual growth in the year-ago quarter to 61% growth in the just-completed quarter.

And even that figure was inflated.

Like eBay and other companies with overseas operations, Amazon benefited from the decline of the dollar vs. the euro and other major currencies. That decline made Amazon's overseas sales grow faster in dollar terms than they did in local currencies.

Amazon estimated that this foreign-exchange fluctuation added about $28 million to its top line in the quarter. Without that boost, the company's overseas sales would have grown by just 50% on an annual basis.

Foreign-currency effects also added about $1 million to the company's consolidated segment operating income.

Meanwhile, the company continued to rack up losses on its free-shipping program. Shipping revenue increased just 5.5% over the year-ago quarter to $77 million. But losses from shipping jumped from $10 million in the year-ago quarter to $27 million.

And while the company posted a net profit this quarter, its bottom line benefited from the fact that it didn't pay any taxes in the quarter. Amazon's billions of dollars in losses over the years mean it won't be paying taxes anytime soon, notes Rothbort.

To be fair, Amazon did post a strong quarter based on its history.

The company earned $15.6 million, or 4 cents a share, in the quarter, as calculated by generally accepted accounting principles. That compared with the year-ago period, when the e-commerce company lost $35.1 million, or 9 cents a share.

Sales at the company were up 33.3% from the third quarter last year to $1.13 billion.

The Seattle-based company reported that its operating profits reached $52 million in the quarter. Excluding noncash charges, the company would have earned $48 million, or 11 cents a share.

On this pro forma basis, analysts surveyed by Thomson First Call projected that Amazon would earn 10 cents a share on $1.12 billion in sales. Amazon's own estimate was that it would post operating profit of $40 million to $55 million on sales ranging from $1.075 billion to $1.15 billion.

A resurgence in its core North American operations helped Amazon in the quarter. Overall sales through its U.S. and Canadian sites increased 21% to $709.3 million. In the same period a year ago, the company's North American sales grew 17% on an annual basis.

For the fourth quarter, Amazon expects to post operating income ranging from $110 million to $140 million on sales of between $1.76 billion to $1.91 billion. On a consolidated segment operating income basis, the company expects profits of $125 million to $155 million.

Assuming the company records a $25 million interest charge in the fourth quarter and has about 423 million shares outstanding, that translates into pro forma earnings guidance of about 24 cents to 31 cents per share.

Analysts are calling for pro forma profits of 27 cents a share in the fourth quarter on $1.79 billion in revenue.