Amazon Stock Must Overcome This Big Barrier To Reach New Highs

Amazon.com Inc.'s latest earnings report placed its cloud business, Amazon Web Services (AWS), on familiar ground with a slight uptick in revenue growth, which reached 19.1% from the previous quarter's 18.7%. Although this performance met the consensus estimate, it fell short of the more optimistic investor hopes for 20% to 21% growth. However, Amazon’s shares still saw a strong 7% rise in premarket trading on Friday, primarily due to notable strength in its profit metrics and a boost in its retail sector as more customers turn to Amazon for essential, nondiscretionary purchases.

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MoffettNathanson analyst Michael Morton noted in a report to clients that each segment of Amazon is progressing, though at slightly varied rates. Morton was particularly optimistic about Amazon’s retail performance. He suggested that the company has capitalized on the current economic environment and its post-pandemic infrastructure, which includes an efficient, expanded same-day and one-day delivery network, to capture a greater share of consumers’ wallets, especially in nondiscretionary categories. He predicts that as discretionary spending rebounds, Amazon will likely benefit from these increased consumer shares.

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One interesting shift in Amazon’s strategy is its focus on "Everyday Essentials," a category Morton described as comprising less costly items than Amazon's usual offerings. He pointed to a "mix shift" toward lower-priced items, which Amazon has managed to handle while still achieving margin growth. Morton expressed admiration for Amazon’s ability to maintain expanding margins amid this shift, maintaining a buy rating on the stock and increasing his price target from $229 to $235. In his view, the Essentials category serves as a strategic bridge that positions Amazon to capitalize on a future resurgence in discretionary spending.

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Beyond retail, Amazon’s overall profit performance has been a standout. Bernstein analyst Mark Shmulik observed that Amazon's operating income reached $17.4 billion, surpassing investor concerns and easing fears that had prompted intense scrutiny and debate over the company's outlook. Amazon’s fourth-quarter guidance, which projects operating income between $16 billion and $20 billion, further reassured investors. Shmulik noted that the high end of this forecast rekindled the bullish expectations that had surfaced earlier this year. He reaffirmed his outperform rating on Amazon stock and raised his price target to $235 from $225.

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Shmulik recommended that current Amazon shareholders hold onto their positions, stating that the earnings report reinforces confidence in Amazon's long-term strategy. He acknowledged that capital expenditures will likely climb significantly next year, up from around $75 billion this year, but he trusts the company’s ability to achieve strong returns on invested capital given its current performance.

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Wall Street analysts are also keeping an eye on the future trajectory of AWS margins. William Blair analyst Dylan Carden suggested that as Amazon approaches 2025, AWS margins could trend back toward 30% as certain factors like useful life benefits phase out, hiring accelerates, and depreciation rises in response to increased investment spending. He highlighted that Amazon’s ongoing investment is heavily focused on AI platforms, which could bolster future AWS profitability. Carden held onto his outperform rating for the stock, showing confidence in Amazon’s ability to manage these expenses while supporting long-term growth.

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Shmulik from Bernstein echoed a similar perspective on AWS margins, though with a positive outlook. He projected that AWS could see margin levels returning to approximately 30% within the next few years. Given current constraints on supply and steady demand, Shmulik emphasized that a business with high-teens revenue growth and 30% margins presents a solid foundation for investors.

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MoffettNathanson’s Morton offered an even more optimistic view on AWS margins. He countered the typical expectation of 30% margins, instead forecasting a higher operating income margin of around 36% for 2025. Morton’s analysis considered various factors, including headcount growth, depreciation, and anticipated increases in selling, general, and administrative expenses, all of which he believes Amazon will manage effectively to support elevated margins.

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Overall, Amazon's recent earnings report has brought renewed investor confidence across its primary business segments. The company's approach to retail, with a focus on nondiscretionary products, has been strategically advantageous in the current economic climate. Morton’s insights on the Essentials category highlight Amazon’s adaptability, positioning it to maintain customer engagement and wallet share even amid economic uncertainty.

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At the same time, Amazon’s long-term investments in AI and cloud infrastructure through AWS signal the company’s commitment to growth in high-margin, high-demand areas. While current AWS margins remain somewhat constrained, Shmulik’s and Carden’s views suggest that the company’s targeted investments and strategic hiring will help AWS margins rebound, potentially approaching or even exceeding 30% in the coming years.

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In the end, Amazon’s recent earnings have not only eased fears but also showcased the company’s robust ability to navigate an evolving market landscape. Both retail and cloud segments are working in tandem to solidify Amazon's position, and with increased capital expenditures anticipated in 2025, analysts are largely optimistic about the return on these investments. For shareholders, Amazon’s latest financial performance underscores the strength of its business fundamentals, making it a compelling long-term investment despite broader economic uncertainties.

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