July 26, 1999
The Fuse Is Still Burning
Amazon.com's earnings are worse than you may think, a lot worse
Review | Preview
Follow-Up: Sparkling Scheme? | Follow-Up: Revolutionary Idea
Since we wrote our cover story entitled "Amazon.bomb" in late May, we've
heard no end of vitriol from Amazon's diehard supporters. The complaints came
by e-mail, by snail mail and by phone. But all those zealots probably weren't
feeling too pleased with themselves on Thursday, when Amazon.com shares fell
18 1/4 to close at 107 3/16.
The catalyst for the latest slide in Amazon
shares was the company's report on
Wednesday evening that losses for the second
quarter, after excluding certain charges,
widened to $82.8 million, or 51 cents a share,
from $17 million, or 12 cents a share, a year
earlier. Although Amazon had prepared
Wall Street analysts for the gaping loss,
Wednesday's report contained other
disquieting facts. Chief among them was the
company's plan to spend more than $300
million during the next two calendar years on
moves like expanding warehouse capacity to
more than four million square feet. That's 10
times the warehouse space Amazon had
available at the end of 1998, according to
Bear Stearns analyst Scott Ehrens, who
downgraded the stock to "attractive" from "buy."
Amazon also disclosed that in the latest quarter it had increased its employee
roster by more than a third, to 4,200. On top of that, inventory items such as
books and tapes have doubled to $59.4 million since the first of the year. These
decidedly depressing details prompted analysts to once again increase their
estimates of Amazon's future losses. Before last week's news, analysts expected
Amazon to post a loss of $1.72 this year; now they see a $1.86 loss, according to
the folks at First Call. Likewise, the average expectation for Amazon next year
has been changed to a loss of $1.45 a share from a loss of $1.25. Just six months
ago, analysts were expecting Amazon's loss for next year to amount to just 15
cents a share.
Amazon boosters would argue that the wider losses are justified because the
company is spending money to enter new, promising businesses, like selling toys
and electronic gizmos on the Internet. Taking this into account, analysts raised
their expectations for Amazon's revenues to $1.43 billion for this year, up from a
previous estimate of $1.38 billion. For next year, the revenue target has been
raised to $2.26 billion, from $2.10 billion.
Amazon's revenues in the second quarter grew 171% to $314 million, but that's
down from a growth rate of 236% in the first quarter. Moreover, revenues last
year had been growing at a clip as high as 446%. Even Merrill Lynch's Henry
Blodget, who still has a long-term buy recommendation on the shares, expects
Amazon's revenue growth to decline to 97% in this year's fourth quarter.
All this might be fine if Amazon was moving closer to turning a profit. But it's
doing just the opposite. And Amazon's losses are actually worse than they first
appear. The 51-cent second-quarter loss is a "pro-forma" number, meaning it
excludes charges for the amortization of goodwill, other merger and
acquisition-related costs and costs "related to stock-based compensation." We tried
to ask company officials what this included. They declined to return calls.
One thing is for sure: These special charges are growing rapidly. In the second
quarter alone, they totaled $55.2 million, up from $5.6 million in the second
quarter of last year. When included in the latest quarterly results, they transform
Amazon's 51-cent loss into an 86-cent loss.
On the plus side, Amazon did open 2.3 million new customer accounts in the
second quarter, bringing the company's client roster to 10.7 million. But
Amazon's average quarterly revenue per account shrank in the second quarter to
$29, from $35 in the second quarter of last year, according to Merrill's Blodget.
Similarly, the estimated cost to bring in a new customer increased dramatically,
to $20, from $14.
When our cover story on Amazon appeared, the stock was trading at 118 3/4 .
Within about two weeks, it had dropped to 89 3/4, before drifting back up to 142
1/2 by mid-July. Late Friday the stock was changing hands at 114 9/16. We still
think that in the long run, it's headed a lot lower.
-- Jacqueline Doherty
Sparkling Scheme?
Tiffany's newest facet: investing in diamond mine
Diamonds aren't just a girl's best friend, Tiffany not surprisingly believes. Last
week, the internationally renowned jeweler announced that it would pay $72
million for 14.9% of Aber Resources, a Vancouver, British Columbia, outfit that
holds a 40% interest in the Diavik Diamond Project, a Canadian mine being
developed to produce gem-quality diamonds, beginning in 2002.
Michael J. Kowalski, CEO of Tiffany, said
the deal will enable the company to secure a
"considerable portion" of the raw material
for what goes in those little blue boxes. Not
that there was "any immediate threat of
disruption of diamond supply," Kowalski
told Barron's. "We think it's prudent to
obtain supplies of high-quality diamonds in a
competitive way." Fine diamond jewelry has
been an increasingly important and
profitable part of Tiffany's business,
accounting for more than 20% of revenues.
The Aber deal fits Tiffany's
vertical-integration strategy, which helps
profit margins. Meanwhile, Tiffany
continues to pile up earnings, cashing in on
the strong economy (in most areas of the world) and the company's ongoing
expansion. The stock has roughly doubled this year, one of the best showings of
any retailer, following a 40% jump last year.
The stock has appreciated tenfold since
Barron's first wrote about Tiffany seven
years ago. The shares were nicked a bit at
week's end after the company disclosed
that, to fund the mine transaction, it had
sold 1.45 million shares to Merrill Lynch
for $71.6 million or $49 apiece. Merrill
will resell them.
Analyst Dorothy Lakner of CIBC World
Markets says that, while she hasn't yet put
a specific number on it, the Aber deal has
"growth margin potential." Lakner has a
buy rating on Tiffany and a 12-month
price target of 57-58, adjusted for last
week's 2-for-1 split. Her earnings estimates of $1.54 a share for this year and
$1.85 next year are above First Call's consensus numbers of $1.53 and $1.80,
respectively. All of the estimates handily top Tiffany's record results in 1998,
when earnings jumped 24% to $90 million, or $1.25 a share, on a 15% sales gain
to $1.2 billion.
-- Harlan S. Byrn
Revolutionary Idea
After Oct. 1 celebration, China may devalue yuan
Back when Asian currencies were collapsing, China was no table for standing
firm. The Hong Kong dollar kept its U.S. dollar peg, its mountains of greenbacks
sufficient to check currency speculators. Meanwhile, as Premier Zhu Rongji
promised the Clinton Administration, the yuan remained firm.
But now that's changing. In the past
several days, China's central-bank
chief, Dai Xianglong, declined to
extend into next year China's
promise not to devalue. Then,
Standard & Poor's downgraded
China's sovereign debt rating and
ratings for top financial
institutions, citing "lower trend
growth prospects and rising fiscal
costs of economic reforms."
In several articles (most recently
The International Trader column
of June 21), Barron's has argued
that China will devalue.
"It is almost a sure thing that the
currency has to be adjusted
downward," says Chen Zhao, editor of BCA China Analyst. Zhao says that, with
prices falling, growth slowing, and exporters losing money, Chinese officials with
whom he has spoken have questioned the need to prop up the yuan. But first,
Zhao thinks, Beijing will slash interest rates "like crazy." He sees long-term rates,
now 5.9%, falling to 2.9% or less. If that doesn't boost spending, expect a
devaluation of, say, 30%. If spending does revive, Zhao still sees a "minor"
5%-15% devaluation.
None of this will happen until after the October 1 observation of the 50th
anniversary of the Communist takeover.
China has $150 billion in hard-currency reserves and the yuan is only partially
convertible, so speculators can't attack it. But there may be massive speculative
pressure on the Hong Kong dollar if China devalues, and the HK peg survives.
Hong Kong itself has massive currency reserves. And, Zhao recalls, when China
devalued the yuan by 40% in 1994 -- a move that made other Asian lands less
competitive and helped trigger the currency crisis -- the peg stayed.
Zhao's novel idea? That China might devalue the yuan and drop the Hong Kong
peg simultaneously. That could boost stock prices in Hong Kong, which doesn't
have much foreign debt. That said, the gain may not be sufficient to counter the
damage of a devaluation to foreign investors.
-- Leslie P. Norton |
