Amazon Facing Crosscurrents

Analysts don't like the stock, but it keeps going up anyway. Why?
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Amazon.com

(AMZN) - Get Report

is bragging that this was its best holiday season ever, but you'd never know by taking a look down Wall Street.

Amazon says it shipped more than 108 million items during the holiday season. There are signs everywhere that online shopping is soaring in popularity, as users increasingly embrace the Internet as an alternative to the mall.

Yet only three of the 23 analysts covering the Seattle-based company rate its stock a buy, according to data from

Bloomberg

. Analysts agree the stock seems overvalued, given its run-up following its addition in November to the

S&P 500

. Amazon is up 10% since then and nearly 20% above its low following a late-October earnings disappointment. Amazon rose 42 cents Thursday to $47.67.

On the one hand, Amazon is clearly in position to benefit from the rise of online shopping. But increased competition and razor-thin margins are scaring investors who are otherwise enthusiastic about Internet stocks. Profits also are being hurt as Amazon boosts spending on new products and services such as Amazon Prime, which offers free two-day shipping to customers who pay $79 a year for the privilege.

"I think management is doing the right thing for the company but probably not doing the right thing in terms of short-term investment performance," says Tim Ghriskey, chief investment officer of Solaris Asset Management in Bedford Hills, N.Y., which owns Amazon shares among its $800 million in assets under management. "Wall Street prefers a bird in hand and they aren't getting it here."

Some investors are turned off by Amazon's profit margin of about 6% of sales. That pales in comparison to other Internet companies such as

Google

(GOOG) - Get Report

and

Yahoo!

(YHOO)

and puts Amazon more in line with the decidedly unsexy big retailers. Meanwhile, Amazon is facing rising competition from that very corner, with

Wal-Mart

(WMT) - Get Report

leading the way.

"When people talk about Amazon and e-tailing, they often compare Amazon to these very small Internet retailers," says Guzman & Co. analyst Philip Remek, who rates the shares as underperform and doesn't own them. "They're missing the point -- most Internet retail sales are conducted by the Web sites of bricks-and-motor retailers."

Even so, Amazon shares have been on a roll since the stock joined the big-cap S&P 500 index. Being added to the index tends to push up stock prices because managers whose funds mimic the index are required to buy them. Analysts covering the stock have an average target price of about $39.

To be sure, Amazon is benefiting from the soaring popularity of online sales, which comScore estimates rose 22% to $143 billion last year. Sales at Amazon gained an average of 26% during the first three quarters of 2005, but those benefits haven't translated to the bottom line, as net income fell 36% during that same time.

The question of how much benefit Amazon will see from these trends is yet to be determined, says Steve Weinstein, an analyst with Pacific Crest Securities. He has an underperform rating on Amazon and doesn't own the shares.

"My guess is that they're having slightly below-market growth in the fourth quarter," he says. "The margins on those sales continue to come under further pressure."

In addition, the Web sites of big-box retailers such as Bentonville, Ark.-based Wal-Mart are continuing to see the numbers of users grow at a higher rate than Amazon. Wal-Mart was "incredibly pleased" with the performance of its

walmart.com site, says spokeswoman Amy Collela. Traffic at its site rose 40% over last year's holiday season. Even so, the company on Wednesday trimmed its fourth-quarter earnings forecast, citing disappointing holiday sales.

Amazon has two powerful admirers on Wall Street. Morgan Stanley analyst Mary Meeker, who owns the shares, rates the company's stock overweight. Bear Stearns' Robert Peck also rates Amazon outperform and has a $50 price target on the stock.

"Our annual price comparison study indicates that consumers can find lower prices on products on online retail sites other than Amazon," Peck writes in a Dec. 9 report to clients. "However, we think that consumers value Amazon's vast selection of products, its innovative Web site, free shipping promotions, and trust and security."