This Amazon Story Is Becoming A Thriller

Image representing Amazon as depicted in Crunc...

Image via CrunchBase

Amazon (NASDAQ: AMZN) is arguably one of the most overrated stocks in the market. The company is currently trading at about 3,500 times P/E ratio, compared to rivals eBay (NASDAQ: EBAY), which is currently pegged at about 27 times P/E, while Barnes & Noble (NYSE: BKS), which owns the Nook business, a rival of Amazon’s Kindle reader, trades at about 20 times P/E.

AMZN PE Ratio TTM data by YCharts

According to reports, Amazon could be set for a stock price correction. This could be breathtaking for a company in which investors have shown so much faith, judging by its price-to-earnings ratio. Evidently, Amazon P/E skyrocketed in the past six months from a P/E of about 300x to the current 3,500x. The big question is, what events could be attributed to this change?

This can only happen in two ways: first, if the company’s stock rallied magnificently to record heights within a short period, or secondly, a plunge in the company’s earnings coupled by a dissimilar impact on the stock price.

Amazon’s most recent quarterly earnings (December 2012) fell by 44%, despite a 22% surge in profits year-over-year. Interestingly, the company’s stock fell by about $16 on Jan. 29 following the announcement, only to recover some $12 the following day. This resulted to a net decline of about $4 within a span of two days.

AMZN data by YCharts

While the stock is now down to $258 (as of April 3) since the pre-earnings announcement price of $276, the company has shown great resistance to negative results. Additionally, this fall would translate to just 5.8%, compared to the 44% fall in profits, bar the two different periods. Amazon’s net profit margin is unimpressive. The company reported more than $21 billion in sales for a profit of just $97 million, or less than 0.5% net profit margin.

Amazon is viewed as the king of ecommerce, which is why investors buy the stock with future prospects in mind. So, I would call them growth investors. The prospects of this internet giant are indeed bright, provided the company manages to maintain its dominance. But can it? eBay,Google and Barnes & Noble, among others, are challenging from all corners.

Barnes & Noble has sought to boost its Nook business by welcoming Microsoft’s $605 million offer for a stake in the business, while U.K-based publisher, Pearson also holds a significant stake in the business. Microsoft is pledging $605 million, which would give it approximately 35% ownership in Nook Media, while Pearson, which invested $89.5 million late last year, has about 5% ownership. Barnes & Noble is the majority shareholder in the Nook business. It has brought the two companies on-board in a bid to wage war against Amazon in the e-reading arena. The company also faces competition from Google and Apple in that respect.

Barnes & Noble’s gross margin stands at 27%, compared to Amazon’s 25%. The company falls under the category of small cap, based on its market capitalization of about $940 million, while Amazon is considered a large cap, at about $117 billion. With the Nook business valued at about $1.8 billion, it will be interesting to see how this battle shapes out.

eBay is seen as the ideal challenger to Amazon in ecommerce. The company recently introduced new pricing measures aimed at robbing Amazon of its marketplace sellers. There’s a lot of argument as to whether this could affect Amazon’s revenue, considering that the marketplace sellers business unit is one of Amazon’s main revenue streams. eBay is looking to become the most competitively-priced ecommerce platform in a battle that promises one of the most ecstatic encounters. It will be thrilling to see eBay rob Amazon of a huge chunk of marketplace sellers, and it will be rapturous to see the wannabe giant throw in all this for nothing. The price wars will be a spectacle to watch.

Bottom line

Amazon has enjoyed a near-perfect rally since 2009, which has propelled the stock about 500%, making it one of the most expensive stocks in terms of price to earnings ratio, compared to peers. The company is also facing a gigantic challenge from industry giants Apple and Google, and from promising, ambitious challengers eBay and Barnes & Noble. However, the net effect is simple – maintain the status quo and the party might yet extend past midnight. But, can it? Or, is time to sell? I think it’s time to sell.

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