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Amazon Is Positioned as the Foundation for Retail and Technology Infrastructure

Amazon.com Inc. (NASDAQ:AMZN) is one of the first stocks I owned, and it has continued to serve me well throughout the years. I do not expect this to change anytime soon, and I believe that the company's long-term results should continue to be good, with higher margins likely from a shift to serving third parties and pioneering initiatives in artificial intelligence and automation.

While there are some regulatory inhibitions to the fast adoption of some operations and a valuation that is not cheap, I believe the goodwill associated with Amazon shares and its strong price return will continue for the foreseeable future.

Recent developments

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Amazon is making a significant shift toward high-margin segments of its operations, including honing in on third-party seller services, advertising and subscription services. This is helping the company in two ways. Not only is it expanding Amazon's gross profit margins, but it is also diversifying its revenue streams away from pure e-commerce, which is now growing at a slower pace.

The company's investment in generative artificial intelligence, such as through Amazon Q and its strategic partnerships with Salesforce (NYSE:CRM) for AWS Marketplace access and Amgen (NASDAQ:AMGN) for AI-supported medicine manufacturing and development, show further strength in margin expansion opportunities to come. Amazon Q is an AI-powered assistant that aims to improve productivity in the workplace, and I believe it is integrations like this, iterated and evolving within the company, that will continue to solidify it not only as an e-commerce platform, but as a fully AI-integrated efficiency provider, both in retail goods, digital services through Amazon Web Services and partnerships and investments.

Additionally, Prime Air drone deliveries will reduce delivery times and costs for lightweight packages, which should help to drive demand and also increase margins. Incredibly, the service has the ability to deliver packages up to five pounds in weight in 30 minutes or less using unmanned aerial vehicles. This not only enhances customer satisfaction, which is one of Amazon's long-standing value propositions, but also reduces road traffic and the company's carbon footprint.

Long-term outlook

What I find particularly interesting about Amazon as a business is how relentlessly innovative it is, which I believe is something that has been instilled in the company's ethos and executive management by founder Jeff Bezos, who has two core principles that I find particularly promising. The first is his very long-term-oriented focus, which positions the company well for investors like myself, who intend to hold Amazon stock for many decades. The second is his willingness to invest in new technology. When Bezos first started Amazon, it began as a cutting-edge technology tool in retail, and he has kept this perspective of being cutting-edge clearly at the forefront of his mind and trained management to be focused on this, too. Indeed, many companies want to keep up with the latest developments, but what Bezos does differently is he pioneers many of these developments and, at his core, he is an inventor, which is quite apparent in his annual shareholder letters.

With the infrastructure in place and what I would argue is a sizable moat in computing infrastructure through AWS, Amazon's brightest future is arguably in the provision of services for third parties. In many ways, it intends to act as the foundation for advanced technology and retail services for almost all providers. The scope and scale of the services it provides are what position it to continue to be attractive to a range of participants, with very little immediate competition. In my opinion, AWS faces the highest threat from Microsoft (NASDAQ:MSFT) Azure and Alphabet's (NASDAQ:GOOGL) (NASDAQ:GOOG) Google Cloud Platform, but these are clearly not as extensive or as entrenched as AWS in so many different areas of provision. In many respects, AWS is several steps ahead of even the most advanced peers.

Peer analysis

For competitive comparison and the purposes of investment opportunity cost analysis, I have placed Amazon alongside four other companies, which I believe are very compelling at the present moment of technological evolution. I have broken down the core metrics of each of these companies into the following table:

Amazon

Microsoft

Alphabet

Salesforce

ServiceNow

Equity-to-Asset

0.38

0.51

0.7

0.6

0.44

Net Margin

5.29%

36.27%

24.01%

11.87%

19.3%

3Y EPS Growth Rate

14.3%

19.4%

32.3%

45.3%

140.6%

3Y Futue EPS CAGR Estimate

38.53%

16.6%

14.43%

16.66%

21.11%

Forward PE Ratio

43.67

31.85

22.42

31.06

56.62

IPO

1997

1986

2004

2004

2012

Market Cap

$1.92T

$3.16T

$1.9T

$292.85B

$160.62

10Y Price Return

1,031.13%

968.61%

456.05%

446.84%

1,440.50%

*EPS is without NRI

Based on the chart, I believe it is quite clear that Amazon does not command software-like margins as the other four peers do. This is because Amazon is currently largely in the retail industry, but, as discussed above, its margin situation should improve as it becomes more focused on third-party service provisions. This is true across the range of its operations, from Amazon.com e-commerce through to AWS and Prime Video, which is acting as an aggregator for entertainment rather than simply offering in-house productions. Because Amazon now has a moat in infrastructure, I believe it will be able to crucially boost its margins and position itself as a unique retail-software hybrid that grows more focused on a monopoly in advanced software and services for professional use. Its operational expenses should be reduced as a result of this, but even where it faces expensive foundational services like warehousing and delivery, it can reduce this through AI-assisted and automated tasks, driving further growth as it replaces manual labor roles with positions in more advanced software engineering and AI deployment.

I like Amazon for what it is turning into, but all of the peers in my analysis look very favorable to me. I own four of the five, with ServiceNow (NYSE:NOW) a likely addition over the next year. The only element that significantly deters me from investing in ServiceNow at this time is its very high valuation, which creates some uncertainty about how the stock will perform if it fails to meet analysts' high expectations for its future results.

Valuation

Amazon's valuation, for that matter, is also quite high, but much more bearable than ServiceNow. This is where the market has correctly priced Amazon as a unique software-retail hybrid and not as a pure retail investment.

Amazon's forward price-eranings ratio of around 44 places it in the bottom 15% of companies in the retail-cyclical industry, according to GuruFocus' dataset. The retail industry median forward price-earnings ratio is around 16, but the software industry median is around 24.5. In essence, Amazon trades at a premium to both industries at scale, but this is arguably warranted when we consider the higher growth rates and profitability it commands compared to the wider retail industry and some of the software industry.

I believe the market has priced a premium above what would be considered fair by analyzing the pure fundamentals, and there is undoubtedly a lot of investor sentiment, or goodwill, in the valuation of the company that has been commanded over the long term by the market. This is quite normal for the technology industry and is seen most prevalently in Tesla (NASDAQ:TSLA), which has a forward price-earnings ratio of 54.64 at the time of this writing, while the stock is down nearly 60% from its all-time high.

Further, the 10-year median price-earnings ratio for Amazon is 116.26 and the current price-earnings ratio is 63.77. While the company's revenue growth and earnings growth have slowed down in recent years, the valuation has adjusted appropriately. As such, I believe the stock at this time is roughly fairly valued, with no margin of safety, but with a strong operational position that should continue to deliver good long-term growth despite any short-term volatility that may occur if expectations are not met.

Regulatory inhibitions

Other than the valuation, which offers no security, I believe there are risks with regulatory controls on drone delivery and automated driving that will inhibit some of Amazon's loftier plans in the near term.

In the U.S., the Federal Aviation Administration regulates drone flights, and any errors in flights and safety could result in temporary suspension of the services. Automated driving is also heavily regulated by bodies such as the National Highway Traffic Safety Administration. There is very strict oversight on the deployment of autonomous vehicles as there is skepticism about the safety of full-scale operations. While this is ungrounded in terms of the data, which shows it is much safer for advanced robots to command vehicles than humans, it is going to take some time for this to be accepted as the truth. The NHTSA has found that human error is the result of around 94% of all road accidents, and the Eno Center for Transportation has suggested that if 90% of all cars on U.S. roads were autonomous, accidents could decrease by up to 90%. Additionally, research by Waymo, one of the leaders in autonomous technology, reported that their vehicles had lower rates of contact with cyclists and pedestrians compared to national U.S. averages.

Conclusion

In summary, I consider Amazon to be an excellent company and now remains a great time to invest. The company is now dominant in technology and professional infrastructure for a wide range of services, and I believe it will begin to most acutely capitalize on this with the heavy integration of AI and automated tasks as it begins to focus more heavily on services for third parties.

In my opinion, Amazon is one of the best businesses in the world, founded by one of the greatest entrepreneurs of all time, and having continued success in driving excellent shareholder returns seems probable to me. Even given the regulatory inhibitions that could prove challenging in the short term and a valuation with no margin of safety, the fundamental growth and goodwill of the company looks like it will cause the stock to continue to outperform the S&P 500 for the foreseeable future.

This article first appeared on GuruFocus.