05:49pm EST 24-Mar-99 Montgomery Securities (A. Braverman 212 277-8296) AMZN
AMZN: Coverage Initiated With a Rating of BUY (2 of 2)
NATIONSBANC MONTGOMERY***NATIONSBANC MONTGOMERY***NATIONSBANC MONTGOMERY
AMAZON.COM* RATING: BUY
(PART 2 OF 2)
March 23, 1999 INTERNET NYSE: AMZN
Alan Braverman 212.583.8296, ambraverman@montgomery.com First Call
Barbara Coffey 212.583.8371, bcoffey@montgomery.com
Jennifer Klein 212.583.8433, jklein@montgomery.com DJIA: 9672
S&P 500: 1262
NMSGI: 145
Operations
Operations matter. Amazon.com understands this and makes sure that its
customers don't need to look under the hood. Investors should, if only to
understand that it has been well thought out and is highly scalable.
What is under the hood is a well-oiled machine. When an order is placed the
company takes the credit card information and within a couple of days gets the
cash from the credit card company. The company sends the item out to the
customer, if the item is on hand. If so, Amazon will pay the publisher or
source net 30 terms or so. Shipping also occurs on a similar basis. This timing
differential in payments and payables is meaningfully in Amazon's favor
resulting in a positive cash flow operation.
This is good business. Also, if books do not sell, often they can be
returned to the publisher or distributor at cost, this thereby limits the
company's inventory risk.
Tiffany Brands
While many real world store management's would cringe at the percentage of
revenues being spent creating the Amazon brand, we applaud the company for
understanding that branding matters. In fact we believe branding means even
more in cyber space. On the Internet the value of the brand it the real word of
location. Therefore cyberspace's Tiffany locations are in fact Tiffany brands
that are created through strategic partnerships and deep branding. All must be
reinforced with a high quality shopping experience for all customers. Whereas
Barnes and Noble spent 16.3% of revenues on SG& A and pre-opening expenses in
the company's January quarter, Amazon spent 28.2% of revenues, on Marketing and
Sales, Product Development and General and Administrative, in its December
quarter. The difference is significant and if Amazon had spent only 16.3%
instead of the 28.2% it did, the company would have been profitable at the
operating line (excluding merger charges for both companies).
Financials
Revenues
Amazon.com has historically shown extraordinary revenue growth, showing
313% growth in 1998. We believe that this growth rate is not sustainable. We do
believe that Amazon will continue to grow and have modeled revenues to increase
from $610 million in 1998 to $1,376 million in 1999 and $2,181 million in 2000.
Cost of goods sold
As Amazon has diversified its product offerings, it has increased its cost
of goods sold. Some of the newly offered products have a lower gross margin
than do books. Also, many of the newer products come through distributors and
not direct, thereby having a higher product cost. We expect that as Amazon.com
increasingly direct sources more and more of its products, its cost of goods
line as a percentage of revenues will decrease slightly. This line item also
includes shipping costs.
Operating Expenses --
As mentioned above the company not only continuously listens to customers
to improve its products it also spends heavily on sales and marketing to
continue to brand its name. Ignoring goodwill we estimate that Amazon would
show an operating profit in the third quarter of 1999.
Balance sheet
As of year-end the company balance sheet was very liquid with 58% of its
total assets in cash and marketable securities. This winter the company raised
$1.2 billion in the sale of convertible securities. This has meaningfully
strengthened the balance sheet and better enables the company to compete with
new challengers as well as acquire emerging technologies, which support the
company's objectives.
We are initiating research coverage of Amazon.com with a BUY rating on
the shares.
Valuation
We reiterate that there is a premium to be paid to invest in a leader of
the Internet Economy. We believe that Amazon should trade at least in line with
the average for our group on this metrics, which brings us to a 12-month price
target of $175.
Amazon.com is a retailer. The company started selling books over the
Internet in July 1995 and since then has become the face of e-tailing, by
expanding from books to videos, music and gifts. The company opened the music
store in the September quarter of 1998 and is already the number one music
seller on the Internet.
(End of Part 2 of 2)
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