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Cheap, fast shipping, great prices and a wide selection set Amazon apart from competitors and win over customers. An employee scans clothing and footwear merchandise at the Amazon.co.uk. Marston Gate 'Fulfillment Center,' the U.K. site of Amazon. com Inc., in Ridgmont, U.K., on Monday, Dec. 5, 2011. Amazon.com Inc.'s share of the tablet computer market will surge to 14 percent this quarter as consumer demand catapults the Kindle Fire to the No. 2 spot after Apple Inc.'s iPad, according to research firm IHS Inc. Photographer: Chris Ratcliffe/Bloomberg (Chris Ratcliffe/Bloomberg)
Cheap, fast shipping, great prices and a wide selection set Amazon apart from competitors and win over customers. An employee scans clothing and footwear merchandise at the Amazon.co.uk. Marston Gate 'Fulfillment Center,' the U.K. site of Amazon. com Inc., in Ridgmont, U.K., on Monday, Dec. 5, 2011. Amazon.com Inc.'s share of the tablet computer market will surge to 14 percent this quarter as consumer demand catapults the Kindle Fire to the No. 2 spot after Apple Inc.'s iPad, according to research firm IHS Inc. Photographer: Chris Ratcliffe/Bloomberg (Chris Ratcliffe/Bloomberg)

Strategy Lab

Amazon: A trend-setter for the long term Add to ...

Chris Umiastowski is the growth investor for Globe Investor’s Strategy Lab. Follow his contributions here and view his model portfolio here.

It’s nice if a company you invest in happens to spew earnings. But the bottom line isn’t everything.

As a long-term investor, I’m happy to watch companies grow their business without posting huge profits. That is, so long as I believe the firm’s long-term plan is still intact.

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Amazon.com Inc. is an extreme example of this. Jeff Bezos started the company 18 years ago as an online book seller. It has since won over millions of customers, expanded around the globe, and relentlessly added new services. But the business has yet to make anywhere near as much money as its size would suggest.

Consider its operating cash flow, probably the best proxy for the firm’s pretax earnings excluding all the heavy investment that it is doing in technology and automation. Over the last 12 months, it amounts to $3.37-billion (U.S.), a mere sliver of the company’s $112-billion market capitalization. Amazon isn’t a cheap stock by any means.

But investors have made enormous profits. Even if you bought the stock a decade ago, many years after its initial public offering, you would have been handsomely rewarded. The stock has risen from about $21 to $256 since the time of your purchase.

I think it’s still a good investment – so long as you’re willing to ride out the short-term bumps and hold it for several years. Here are a few reasons why.

It’s the e-commerce leader

Most people got to know and love Amazon as a book retailer. Cheap, fast shipping, great prices and an amazing selection set it apart from competitors.

This has created a vital reservoir of trust and makes it relatively easy for the company to tempt customers with new offerings. Wal-Mart has a market cap more than double Amazon’s. But when I think out over the next decade, I see Amazon gaining relevance faster than its bricks-and-mortar competitor.

It’s the trend setter in digital books

Amazon reinvented the business of selling books when it introduced the Kindle e-reader. It has created a model that allows both big publishers and little self-publishers to sell digital books to a huge audience.

Amazon owns this market, yet it does not rely on people using Kindle hardware. If you prefer the Kindle app on an iPad or Android tablet, that’s fine, too.

As digital offerings evolve to include school textbooks, this market will grow much bigger. Amazon just needs to watch out for competition from Apple (via the iBooks platform). Owning both stocks helps to reduce an investor’s risk.

Don’t overlook the cloud

Amazon is the world’s largest provider of cloud computing services. Giant Netflix relies on it to stream video. My much smaller company relies on it to host large files and make them quickly available to anyone in the world.

The cloud computing business is only a small portion of Amazon’s total business today. It doesn’t even get talked about on quarterly earnings calls. But if you believe in the importance of cloud computing, Amazon’s leadership in the area is a nice bonus.

Video offers another growth area

Video is moving to the Internet and Amazon is there. At the moment, the company uses its Instant Video service not so much to make a profit, but to keep customers buying other things from them.

It’s all about reducing customer friction. The only way to get Amazon’s video service (which competes with Netflix), is to sign up to Amazon Prime, the cheap way to get free two-day shipping of most Amazon products anywhere in the continental United States.

The mobile moat

A few years ago nobody would have considered Amazon to be a competitor in mobile computing. But when Google released its open-source Android operating system, Amazon jumped on it, tweaked the code to its liking, and developed the Kindle Fire tablet. It’s widely expected it will release a smartphone in 2013.

Amazon’s model is to sell its hardware at nearly break-even prices and profit from subsequent sales of digital books, videos and other media through those devices. It’s a smart model, because it builds customer loyalty.

With its fingers firmly planted in many of the top growth areas, Amazon is the early days of building a customer experience that nobody else in the retail industry can match. That’s why it’s an easy choice for my model Strategy Lab portfolio – even if it doesn’t make much money yet.

 
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