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The Amazon Growth Story Is More Than AWS
Amazon, Themes
March quarter investor takeaways were dominated by management commentary suggesting AWS's June quarter revenue growth would decline for the seventh consecutive quarter. While the focus on AWS is understandable, accounting for 118% of operating income in the quarter, it’s worth remembering that Amazon’s long-term growth story is more than AWS.

Key Takeaways

AWS is losing market share and profitability has been declining.
Amazon is more than AWS - in the future, other segments will drive profitability including retail, ads, and health.

AWS growth looking for a trough

AWS is important. In March, the company reported operating income of $4.3B, which was made up of a loss of $1.2B in International, a profit of $900m in North America, and $5.1B in AWS. In other words, while only 17% of revenue, AWS accounted for 118% of the company’s operating income. The segment’s growth rate has steadily declined over the past six quarters from up 50% y/y in December of 2021, to up 16% in the recent March quarter. That pace was still faster than Amazon’s other reporting segments with North America up 10% and International up 1%.

Putting AWS growth into perspective, Microsoft’s Azure growth slowed to 27% in the quarter, down from 50% growth in December of 2021. Google Cloud growth also slowed to 28% compared to 45% in December 2021. In other words, Azure and Google Cloud businesses are gaining market share on AWS.

From an operating income standpoint, Azure is the most profitable, followed by AWS, and Google Cloud turning profitable this March. Two trends to point out:

  1. Azure’s profitability is the highest of the group at 43%, unchanged over the past year.
  2. AWS appears to be discounting, as evidenced by its operating margins declining from 35% in March 2022 to 24% today.

Adding concern was commentary from Amazon management that AWS customers have been “evaluating ways to optimize their cloud spending in response to tough economic conditions.” This likely translates to more price cuts and lines up with commentary that the AWS business is tracking up 11% y/y in the month of April, down from the 16% reported growth in the March quarter.

The bottom line is AWS is Amazon’s profit engine today and is seeing the effects of greater competition from Azure and Google that will likely further pressure margins in the June quarter.


The margin opportunity for Retail, Ads, and Health

Retail: Today, about 75% of revenue is retail, 17% AWS, and 8% advertising. In two years, I expect retail and advertising to account for 80%. The retail business is considered a second-class segment by investors given the segment’s profitability has orbited around breakeven for the past decade. Speaking of “decade,” ten years ago investors believed the segment would have reached around a 10% operating margin by today. I believe that goal is off the table, but believe retail businesses can reach and sustain a 5% operating margin in the next few years with the benefit of automation, a theme that will likely rise with the AI curve.

Ads: In March, advertising services grew at 23%, the same rate as the December quarter, and while the company does not report its profitability, I believe it’s in line with Meta’s ad profitability which is close to 50%. Going forward I would expect these margins to remain consistent given the business rides on top of the reach and data coming from Amazon’s retail business, which gives advertisers a unique way to reach customers.

Health: And then there is health and wellness. In February Amazon acquired One Medical for $3.9B as a springboard to become a primary care provider. The company has 72 clinic locations in the US and reported revenue of $1B in 2022, translating to about 0.1% of Amazon’s overall revenue. The goal is to make healthcare and pharmacy more convenient (in 2018 Amazon acquired PillPack for $750 million). On the earnings call Jassy suggested the roadmap is “if we’re successful with primary care and with health and with pharmacy, there are a lot of other things we can help customers with as well. So we think that’s a big opportunity”

My take is that given the size of the healthcare market, Amazon will find a way to participate meaningfully long-term. This segment has significant potential when it comes to revenue, with margins that will likely mirror retail’s long-term 5% margin.


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