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Amazon is worth so much because its cloud business is tech's true unicorn

MARKETWATCH 9:32 AM ET 4/28/2017

Symbol Last Price Change
AMZN 943.78up +25.4 (+2.77%)
QUOTES AS OF 09:36:21 AM ET 04/28/2017

Cloud-computing division provides profit, strong revenue growth rates and a dominant market position

Amazon.com Inc. (AMZN) is thought of by most consumers as the Wal-Mart of the web, a dominant retailer with convenience and pricing advantages that will be hard to beat.

But that business is not the sole reason Amazon(AMZN) was headed for fresh record highs and a market capitalization of more than $450 billion after Thursday's earnings report (http://blogs.marketwatch.com/thetell/2017/04/27/amazon- earnings-may-signal-aws-slowdown-live-blog/). In fact, the e-commerce business may not even be the main reason why Amazon(AMZN) is worth so much right now, just as it definitely is not the main reason for Amazon's(AMZN) recent journey into solid profitability (http://www.marketwatch.com/story/a-new-day-for-amazon-2016-04-28).

(https://sw.graphiq.com/w/cB6zzHyBblb)

Amazon Web Services, which sells remote computing power to businesses, was again the star of Amazon's(AMZN) earnings report, despite being a major concern for investors heading into the report (http://www.marketwatch.com/story/amazon-earnings- will-aws-decelerate-again-2017-04-25) thanks to a decelerating growth rate and rumors that a price war with cloud rivals would shrink profits.

However, on the same day that two of those rivals also released earnings, Amazon(AMZN) showed why AWS is the most valuable startup in tech. The company reported quarterly AWS revenue of $3.66 billion, slightly topping estimates and reflecting 42.6% growth, and operating income of $890 million. That net profit margin of more than 24% was actually higher than the year-ago quarter, wiping away more fears.

Amazon's (AMZN) total operating income for the quarter was $1.01 billion. While it doesn't take a math wizard to see that Amazon(AMZN) would not be anywhere near as profitable without AWS, here is the figure: AWS accounted for about 89% of Amazon's(AMZN) total operating income for the quarter, with the rest attributable to e-commerce.

(http://dynamic-insets.s3.amazonaws.com/charts/cdc_59028c6b946f7d64ba4c7afb_embed.html)

Cloud computing is a young business, and AWS appears to easily be the leader in the category. Synergy Research reports that Amazon(AMZN) has about 40% of the market, while Microsoft Corp. (MSFT) , Alphabet Inc.'s Google (GOOGL) (GOOGL) and International Business Machines Corp. (IBM) combine to hold just 23%. While Microsoft and Alphabet both reported earnings Thursday along with Amazon(AMZN), neither break out their cloud-computing performance independently, as Microsoft bundles its Azure offering with server sales and other enterprise services, and Google groups Google Cloud Platform's performance with a host of other non-advertising revenue sources.

Talk to anyone who invests in young companies, and they will tell you that this type of performance is incredible. To hold a dominant position in a growing industry with strong profitability and high revenue growth rates is nearly impossible -- young companies tend to toss away at least one of those, almost always profitability.

Take, for instance, Uber Technologies Inc., the most highly valued of Silicon Valley's unicorn crop. Recent financials obtained by Bloomberg News (https://www.bloomberg.com/news/articles/2017-04-14/embattled-uber-reports-strong-sales- growth-as-losses-continue) showed that Uber roughly doubled its revenue in 2016 while holding a dominant position in the young ride-hailing-app sector. But the company, which is valued at nearly $70 billion on the private market, lost at least $2.8 billion, and likely much more (http://www.marketwatch.com/story/uber-losses-would-have-ranked-near-top-among- public-companies-in-2016-2017-04-14).

So, while Uber was reportedly losing billions on $6.5 billion in revenue in 2016, AWS reported operating income of $ 3.7 billion on revenue of $12.2 billion. That should tell you that, if Uber is worth anywhere near the $70 billion price tag investors have placed on it, then AWS would be worth substantially more as a stand-alone startup.

When Amazon(AMZN) stock hits new records Friday, internet commenters and television pundits will rant about the high price- to-earnings ratio and unsustainable valuation. But when you add a company that could be considered the most valuable technology startup in a world full of valuable tech startups, to a web retailer with the scale and reach of Amazon(AMZN), it shouldn't be that hard to figure out why this company is worth so much.

Amazon (AMZN) shares have gained 22% in 2017, while the S&P 500 has gained 6.7%.

-Jeremy C. Owens; 415-439-6400; [e-mail]


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04-28-170932ET
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