TIVP022: Amazon (AMZN): Is It Prime Time for Investors? w/ Daniel Mahncke & Shawn O’Malley

27:16It's actually the same with our portfolio company Alphabet too. And of course, I'm talking about the cloud division. So with Amazon, that's referred to as AWS or just Amazon Web Services. But again, this is the company's cloud computing business. And it powers everything from Netflix and NASA. And unless you're a really technically minded person, it's hard to explain exactly what that unit does. Yes, AWS is even further disconnected from the average customer. Ads are a business that we can all still understand. And when we see a sponsored post, we know at least to some extent that we are now part of this business model.

27:54AWS has seemingly no connection to the average Amazon customer at all. But it's the backbone of much of the modern internet. It's the cloud infrastructure that powers Netflix, Airbnb, and as you said, even NASA. And well, parts of Amazon itself are also powered by AWS.

28:16less than 20 % of Amazon's total revenue, it contributes more than half of the company's total operating income. I feel like this is not a secret anymore among the investor community, but I keep being amazed at how many people from the outside don't even know about this business and definitely not about its importance. The business we all know, selling physical goods, often leaves Amazon with margins in the low single digits, and AWS runs at operating margins in the 30s, especially in recent quarters and years. It has made significant improvements on that front, and this last quarter, so Q1 of 2025, it actually reached 40 % margins, its highest ever.

29:00In fact, when you look at this chart now on your screens of revenues and profits, you can see just how slim margins are for Amazon's e-commerce business, and the international business is even worse off. It has actually been loss-making in three out of the last five years. It is profitable now and the trend is positive, but AWS and its importance is just not to underestimate. The thing about Amazon is that it's just such a tough business in the e-commerce world to be in. That's exactly what analysts feared back in the early and mid-2000s when folks were really bearish on it. But at the same time, they've been so operationally excellent.

29:39that they've built this untouchable logistics backbone and then use that to propel themselves into more attractive businesses like high margin advertising and paid subscriptions with Prime and more recently cloud computing, as you just discussed. So when we look back and think about why Amazon's success, which seems so inevitable now, was hard to spot, I think it's partly because early Amazon deliberately not only kept those profits down, but also because that core e-commerce business itself simply wasn't that profitable. There actually wasn't as much to hide as you'd think. And it really couldn't be unless you could imagine all of these other innovative ways that they would reinvent themselves over the years.

30:19That's why expanding its business has been so important for Amazon. And that's also why Bezos knew they have to reinvest and basically reinvent the company each year because the core business is not that great. And at the same time, without the scale in the e-commerce business, it couldn't have built the entire prime ecosystem, the advertising business, and especially AWS. There have been more than just one or two instances where Amazon used its retail business and its quote-unquote ability to make losses to basically crush competitors. Other retailers need to turn a profit since they have no AWS or ads business that subsidizes its main business.

31:02And to get back to AWS again, could you just explain what AWS is in the simplest layman terms possible? As you said, I think most people are probably not as familiar with it as they'd like to be. So basically, AWS is like a utility company for computing. It gives businesses the digital infrastructure that they need to operate, but without having to build or manage it themselves. Let's take Netflix as an example. Netflix doesn't own giant server farms around the world. Instead, it relies heavily on AWS to store, process, and deliver its vast library of movies and TV shows. So every video you stream, whether it's Stranger Things or The Crown, it's stored securely on AWS servers spread across different regions across the world.

32:00And if millions of people would start watching a new show at once, which is what happens when there's a new big release, Netflix doesn't have to worry about servers crashing down. AWS automatically scales up computing resources on demand. And that way they handle spikes in traffic without Netflix needing to physically add any new hardware to their company and system. Amazon scale helps as well because AWS has data centers all across the world. And this allows Netflix to stream content closer to where the end user or the viewer is. and that improves video quality and speeds and it also increases upload time.

32:42I think there was that instance where server demand did not scale as well as it was supposed to when there was that Jake Paul and Mike Tyson fight. I think a bunch of people had it blacked out but generally it works pretty well, point taken. On that point, how about you paint just a little more color around AWS but actually maybe from the business perspective how it makes money and how it is importantly differentiated from some of its competitors, like our portfolio company's product, Google Cloud. It's often called pay-as-you-go. So customers are not charged any quick monthly fee or any fixed fees for that matter.

33:17Instead, they are just built based on how much computing power they need or they consume. And then beyond that, prices can differ depending on factors like region, speed, or the frequency of access to your files. And then also for backups. So some companies need more backups than others, and that's all stuff you have to pay for. Generally, the faster data needs to be accessed, the more expensive it becomes, and the higher Amazon's margins are. AWS is the most mature cloud provider. That's basically what differentiates it from Google or from Microsoft. And because it's so mature, it has the highest margin and the highest market share.

33:55But Google and Microsoft with its Azure cloud have gained significant share in the last decade. It's fascinating how quickly the cloud market went from being a fragmented market dominated by Amazon to a real heavyweight battle where Amazon, Google, and Microsoft all make up over 60 % of the market. Absolutely. I mean, Microsoft was able to gain momentum because of how deeply embedded in the entire enterprise world they are. And Google, while it's still smaller, is gaining ground with strength and data, AI, and their open source tools. But getting to the differences, while I'm no cloud expert, AWS posts the highest margins right now.

34:38And then Google's margins are not even half of Amazon's. And to me, that just assumes that it's about the scale these companies have or not yet have. You can see that Google's numbers catch up quickly, both in market share and margins. And what's interesting to see is that despite Microsoft and Google are growing market share fast, AWS's market share hasn't changed for a couple of years now. It just continued to grow in line with the market. And despite their growth, Google and Microsoft don't seem to get any customers from AWS. They just onboard new customers when they keep growing. And as you mentioned, Azure has strong relationships with big enterprise customers because Microsoft was already entrenched into the corporate IT with its office products and Windows servers.

35:32They've just bundled their cloud offering into a lot of those broader corporate deals. And all three, Google, Microsoft, and AWS have customers that you and I know quite well. It's Airbnb, for example, for AWS. It's Daimler for Microsoft Azure and Nintendo for Google. These big tech companies dominate the world, but they also have these interdependencies that I find really interesting that you just touched on. One of our portfolio companies, Airbnb, relies on Amazon for cloud computing support. So Amazon and Google, too, have found ways to, I guess, make themselves critical services for this lower tier of still very powerful tech companies like Airbnb, Nintendo, that don't quite dominate the world in the way that Alphabet and Amazon do, and really any type of company, I guess.

36:22And in 2025, probably almost every listed company has some amount of demand for cloud computing. Do you know why customers, once they decide to go with AWS, tend to stick with them? What makes it so sticky? I think it's not just AWS. it's also for Google and Microsoft and the short answer would be switching costs. AWS offers different storage classes. At first, the company might just decide to store a bunch of files using the standard high-speed option. But as the companies grow bigger and more cost-conscious, they might decide to move old files into cheaper so-called archive tiers. And that saves the money, but it also builds and adds complexity.

37:08And so over time, companies end up spreading their data across different AWS services and storage classes, each with their own pricing, retrieval times, backup setups, and all of those details. And once all of your critical business data is tied into AWS's ecosystem, it's not just expensive to leave. There's also this huge logistical burden of getting all your data from AWS and onboard it to any new cloud provider. And this is what they call vendor lock-in in the industry. And as investors, we probably like to use the term switching costs more than that. And Azure, by contrast, is deeply integrated into Microsoft's broader products like Office, Teams, and Dynamics.

37:56And those services already have their own switching costs. And if you just add Azure to that, it's even harder to leave. And for Google Cloud, which, as I said, is the newest of those three, and it just turned profitable not too long ago, it's more focused on AI and data tools. and that's why it doesn't yet have the same scale or vendor lock-in, but it's likely just a matter of time. I mean, if we wouldn't think that, we probably wouldn't own the company as well. AWS just seems like the most mature player and I expect it to be somewhat of a blueprint for Microsoft and Google in terms of size, but also margin for their cloud businesses going forward.

38:41and i should say part of our thesis on investing in google is betting that their cloud business will achieve scale and similar rates of profitability as aws has but why don't we switch over to the e-commerce side of things there are similar although less direct competitor dynamics for us to consider here amazon still dominates u.s online retail with around 40 percent market share. But unlike in the early 2000s, especially globally, there is a growing list of challengers. And in Southeast Asia, you have Shopee and Lozada that are building these massive marketplaces. And Coupang is doing the same in Korea, which was actually one of the first companies we ever covered on this show.

39:28And in Latin America, you've got Mercado Libre that has carved out an empire that actually rivals Amazon's own operations in that part of the world. In India, you've got local giants like Flipkart and Reliance that are scaling really fast and are actually also supported by the governments there, which can make them very difficult to compete with. And we've seen in India and China that they sometimes use the same playbook in payments as you highlighted in your Visa episode, where there's a certain amount of government support for those companies. And even in the US, again, just to go through the whole list of competitors, you've got players like Walmart and Target that have really stepped up their digital e-commerce game.

40:10And Walmart in particular, I would say, has become a pretty serious competitor in groceries and same-day delivery. And especially the more national competition like Walmart plays a pretty significant role for Amazon because Amazon is known as this global retailer, at least in my perception. But almost 70 % of its business comes from the US. And some weeks ago, you actually asked me whether Amazon is even a big thing here in Germany. And while it is, Germany is actually Amazon's second biggest market, if I'm not mistaken. apart from the US, Germany, the UK and Japan, Amazon is relatively underrepresented in the rest of the world.

40:52How do you see the international competition and the criticism of Amazon in regards to their high take rates and the need to advertise and whether that's sustainable? Amazon's take rate, which is basically the cut that it takes from each third party transaction, is pretty high if you compare it to their competitors internationally and even nationally. I mean, take Shopify, which only takes a lowest single digit percentage, or Alibaba, which also only takes three to five percent, although on a much larger base, if you would combine Taobao and Tmall, it's almost double the size of Amazon. And MercadoLibre or Coupang have higher take rates as well, but still well below Amazon's 30 or 40 percent.

41:37And what drives these differences is how integrated each platform is. I mean, Amazon's vertically stacked model, handling, fulfillment, shipping, customer service, and also their ads, is just unmatched by any other platform, at least to the extent that Amazon is doing it. That level of control just gives it so much pricing power. It also creates friction, as you mentioned. So while its take rate is high, and that's a pretty good thing for their margins right now, it comes with trade-offs around seller satisfaction, and also perhaps in the future, and we've also seen it in the past, regulatory scrutiny.

42:16But as I mentioned in our Shopify episode, I don't see that materially impacting Amazon's business, at least anytime soon. Because as long as Amazon is the only platform that can deliver a network of 300 million customers to merchants, they have no choice but to sell on Amazon. And many businesses like how easy it is to sell their products on Amazon. I mean, they take care of everything. We even discussed in the Shopify episode this buy with Prime initiative, which is Amazon's new initiative that allows merchants who do not sell on Amazon to just add an option, which is basically a Prime-like benefit.

42:57So you get the fast and the free shipping of Amazon and also their return policy without actually needing to be on the Amazon e-commerce side. That's a huge thing and probably more of a problem for Shopify than Shopify could ever be for Amazon. What really stands out to me coming out of that whole discussion around take rates and platform integration is that it's just how far Amazon is willing to go to own every layer of the customer experience. it's not just about running a marketplace or offering cloud services they want to control the infrastructure the logistics the ad rails and even the device that you interact with and that mindset shows up in places people don't always think about right like take the Alexa division on all the Echo devices that's not just a side project or an attempt to make some money on hardware it's part of the same vertical playbook I would argue and just like Amazon built its own logistics network to reduce shopping friction or created AWS to power its digital backbone, it invested in voice and hardware to be the front door to your home.

44:10And some of those bets have clearly worked with Prime, AWS, and the ad business. And some have not worked out that great. And for example, the physical stores, they probably aren't moving the needle that much. But for now, if we just focus on Amazon's device segment, which feels like one of those areas where maybe the outcome is still unclear of whether it's working or what will work. There are reports out there that I've seen that Alexa has lost billions and yet Amazon keeps pouring resources into the team that works on it. And personally, I am not super impressed by the product either after having owned an Alexa for a year and then just basically getting rid of it.

44:49So the question becomes, is this just another long-term infrastructure play or is it a bet that's actually gone too far and is losing the money and now they can't get away from it. The device strategy is a perfect example of how Bezos and now also Jesse think in decades, not in quarters. But at least up to this point, it's also showing that not every bet that Amazon places actually pays off the way they would immediately or initially think. And at a high level, the Alexa division was never about selling the actual hardware. The idea was that voice could become how people navigate their homes, how they would shop in the future, consume media, and control smart devices.

45:35And if that happened, Amazon wanted to be at the center of it. It's kind of like Meta and their metaverse, where they had huge capex into something that didn't work out in the end, but they would have been at the forefront if it did. So they tweeted it like that infrastructure. Echo devices were priced near cost, sometimes even below cost. And the goal was not to profit on that. It was embedding Alexa into people's daily routines. And in theory, once you control the interface, you can drive more prime engagement, more purchases, and you keep people inside the Amazon ecosystem. And all that sounds great on paper, but the monetization has really lacked.

46:15For years, Alexa was mostly used to check the weather or setting timers. And that's not exactly the high value interaction that Amazon was hoping for. And Alexa is a bit too expensive for Amazon to be just a high tech alarm. And you mentioned it, it was losing upwards of$5 billion a year at one point, and it's still losing billions. And a lot of those early ambitions like building a voice shopping empire just haven't yet materialized. I mean, to be fair, Alexa is still one of the most widely used voice assistants out there. And Amazon has a footprint in millions of households. And just in February, Amazon announced Alexa Plus, which is basically Alexa 2.0.

46:58And it's now, of course, powered by AI features. And since it's not yet widely available, I haven't yet tried it. I would just assume it's a lot better than the original Alexa. It's basically like chatting with ChatGPT, so you can talk to it. And of course, you link it to all the possible Amazon devices, like ring cameras, TVs, and all sorts of smart house appliances. So the Alexa story is, at least I would say that at an inflection point, it still fits Amazon's long-term DNA to build the rails now and figure out monetization later. But Amazon is hitting that later point now. And I think we will see pressure to either scale it back or for the vision to finally prove that it adds measurable value to the broader ecosystem.

47:50I'll be really curious to see how that pans out for them. And I hope to be proven wrong, but after buying one and being really excited about having a robot run my life with voice command, I just quickly felt that the technology, and this was maybe two or three years ago, did not live up to the promises. I actually kind of felt like the products, especially as they aged, they didn't age well. I almost thought it was embarrassingly bad for a company of Amazon's stature to put out a product like that. But again, that was just my individual experience with it. So take that with a grain of salt. Speaking, though, about the losses, of this device segment, maybe we could talk more about capital allocation at Amazon.

48:35And I know that's always been a key topic there. And they had these long periods of no profits and huge investments throughout their different verticals. And in COVID, their investments really started to take off in another way. Between 2020 and 2022, I think Amazon spent over$160 billion dollars in CapEx, just from what I'm seeing now on FinChat when I pull it up. And that went toward nearly tripling its fulfillment and data center footprint. And at the time, it made sense. Our demand was surging, especially during the pandemic, and Amazon doubled down to meet it. But when growth slowed in 2022, there was kind of a more visible financial strain from all of that capital investment.

49:17And free cash flow turned to negative$17 billion for the first time in over a decade. And Amazon just had to answer some really tough questions about their capital disciplines. I'd be curious to hear more about how you think about that. It was also the first time in a while that Amazon stock significantly underperformed due to all these concerns about capital allocation. It used to be a thing of the past since Amazon started to be this cash flow machine. It became in the late 2010s. or at least people knew they have the potential to have a lot of free cash flow if they wanted to. It helps to think about Amazon's capital expenses in two phases in the last five years.

50:00So during the pandemic, Amazon saw this massive surge in e-commerce demand and then naturally went all in doing investments in physical infrastructure. A huge chunk of the$160 billion went into building new warehouses, expanding delivery stations, and improving last mile logistics. We saw a bit of the same misconception maybe that we've also seen with Nike. It's not as bad as with Amazon since their investments pay off in the long run. But just as Nike, I think Amazon thought that this surge in online sales would just be stickier after the lockdowns. But there was a drawback, And that's why Andy Jassy, the CEO who followed Bezos, first scaled back CapEx in 2023.

50:48But he only did so briefly because in the last two years, Amazon spent even more money than in the pandemic, over$80 billion just in 2024 alone, and will be even more this year. The second phase, though, is not about logistic investments. AWS and AI are the main objectives this time. And that means data centers and a ton of GPUs, of course, and Amazon, Meta, Google and Microsoft alone intend to invest more than$300 billion in AI technology just this year in 2025. Add to that the AWS investments and you can see how this year might be the first ever in which Amazon will actually exceed$100 billion in CapEx.

51:38And I thought about the spend of some countries and$100 billion is more than many countries invest in their infrastructure in any given year. And it's not Amazon, as you said, right? Among these mag seven companies, a lot of them are spending massively on CapEx, which maybe only the exception being Apple. Yeah, I think Apple is still more device focused, which is just a different business. I mean, the good thing about this phase of investments compared to the COVID investments is that AWS and AI are high margin businesses for Amazon. So the logistic investments benefited Amazon's entire ecosystem, but the business itself wasn't as profitable and still is not as profitable.

52:26And the e-commerce business even less so. AWS, on the other hand, has generated more than half of Amazon's operating income and it's still growing fast. So the investments we see today should yield some high returns in the future. And Amazon CEO Andy Jassy seems highly convinced of this opportunity. After all the AI advancement, he said that, quote, we thought AWS has a chance to ultimately be a multi-hundred billion dollar revenue runaway business. We now think it could be even larger. So to me personally, that sounds like he is talking trillions of dollars. and that's part of why every big tech company as you said perhaps with the exception of apple not only in the us but internationally comes up with their own ai models and to me it seems like many of them are about equally good and that's kind of what the data suggests too which could mean that sooner or later the space will just be commoditized significantly reducing the returns each company will earn on their investments.

53:33And at the same time, the downside of being the only player not to actively invest in this space right now is probably just much larger. I did want to ask you what you think about the rumors that emerged when DeepSeek was revealed and the allegedly very low investments of these Chinese companies that still led to such a powerful model being developed. And we might all remember that this NVIDIA stock tanking a few months ago and raised these bigger questions around why hundreds of billions of dollars needed to be spent by these big tech companies if there were firms in China that were apparently using a fraction of the compute.

54:15That was quite some news a couple of months ago. I mean, supposedly DeepSea only cost a couple of million to train the model. And while this was a good headline and it definitely brought even more attention to the DeepSeq model, I think those claims were challenged pretty quickly. And since China wasn't allowed to buy NVIDIA chips, they had to come up with a story that would mean they didn't have access to those new chips. And thus, they allegedly used older ones that were naturally also much cheaper. We often say, do not look at what people say, just look at what they do. And Alibaba, one of China's biggest players in the AI market, just announced a$50 billion investment into the space.

55:00And if they could do it much cheaper, I guess they would. Although, to be fair, those investments will be spread over three years. So if you just average it out, it's a lot less than Amazon, Google or Microsoft are spending. But the output will likely also not be the same. And whether it was as cheap for DeepSeek to produce or model as a claim, We do know that it was unequivocally a huge advancement that immediately challenged what could be accomplished in AI modeling relative to the inputs. It does seem like most people agree that a major step forward was made in some way. But to just quickly come back to Amazon's AI models, while I know about Google and Meta and Microsoft's models, I don't have a name in mind.

55:49I think of Gemini and Copilot, but for Amazon, there's not a name that comes to mind. So what even is their flagship large language model? Amazon's approach is just very different from all the other big tech companies. Amazon's AI strategy is structured around three core layers. And that's the infrastructure layer, the model layer, and then the application layer. At the infrastructure layer, Amazon is building out massive data center capacity and designing its own AI chips to reduce reliance on companies like NVIDIA and also lower computing costs. And the main model that they have is called the Trainier.

56:32In the model layer, Amazon offers both proprietary models like the Titan, which is their text and embeddings model. and then Nova which is a multi-model and there are certain types of it it's kind of like a family of models and also third-party models via its bedwalk platform so all the large language models that you probably know by name they are also offered by Amazon so those could include Claude which is the AI model from Anthropic and Amazon's actually invested into that company I think they They have a$4 billion investment made into Anthropic, but they also offer Meta's AI model armor and many others.

57:13And then the third layer, which is the application layer is where Amazon uses AI within the company and its own ecosystem to improve its business. So Jesse talked about one of those applications, which is Rufus. It's basically an AI powered shopping assistant. So the long-term vision is to be able to offer everything that today only an actual human shopping assistant could do at a physical store. What's interesting about this layered approach is that it may help Amazon to sidestep this commoditization risk that we've discussed earlier, because instead of betting everything on building the best model, Amazon is basically positioning itself as the most integrated, cost-effective deployment platform.

58:04And that integrates perfectly into what they do with AWS as well. I don't think I'm saying anything new here, but it is going to be fascinating to see how these different companies end up implementing and monetizing their AI models. To pivot a little bit, as we're talking about the future, another thing I wanted to ask you about that I alluded to before is Project Kuiper. And Kuiper is Amazon's answer to SpaceX's Starlink. And I think most people don't even know about it. I didn't know about it until like three weeks ago. And it's a massive undertaking to build what you would call these low-Earth orbit satellites.

58:46and do so and basically build a network of them that delivers broadband internet to underserved areas around the world. And like I said, it's just a big bet that has kind of gone under the radar because I think SpaceX gets all the attention. And yet Amazon has committed billions to it and plans to launch more than 3 ,200 satellites over the next few years. And they've already made some progress on that front too. The first two prototype satellites were launched successfully in late 2023 and just recently in April 2025 they launched their first 27 production satellites apparently and I think it took Amazon probably a little bit longer than they planned which is why the hype around this initiative has maybe been a bit more quiet in recent years and yet with the launch of the satellites this year it does seem like momentum is gaining again.

59:40I haven't heard of this initiative or project before I started my research as well. And I think that's partly because, as you said, it just took all a bit longer than they initially planned. And I wasn't even sure to include it today, since the project is still far from what was supposed to be at this point. But since the both of us talked about it while I did my research, and it's also just such a big opportunity, it wouldn't feel right not mentioning it today. And in theory, this seems like such a no-brainer for Amazon to go after. I mean, Kuiper fits so well into Amazon's larger ecosystem. Few of any other companies benefit as much as Amazon would if more people access the internet.

1:00:25And few other companies have the resources that Amazon does to invest it into such a moonshot, basically. And Jeff Bezos' fascination with space is no secret either. Apparently he talked about colonizing Mars in his graduation speech in high school. So it's safe to say there were signs for Amazon going this route. And Kepa is not just about the business of bringing broadband to remote places in the U.S. or parts of Africa or wherever in the world. It's about the bigger picture. So creating the foundation for hundreds of millions of people to access Amazon's ecosystem, shop on Amazon's marketplace, become a prime member, and bring local companies and governments to the cloud.

1:01:09But sending satellites to space is easier said than done. Amazon initially planned to begin satellite deployment in 2022, but the first two prototype satellites didn't reach orbit until late 2023. And as you said, just a couple of weeks ago, they finally sent the first batch of 27 production satellites into orbit. These delays are a problem for two reasons. The first one is that Elon Musk's Starlink already has 5 ,000 satellites in space, which gives them a huge head start. And second, Amazon is on a tight schedule. They signed a license requirement deal that allows them to send half of the planned 3 ,200 satellites into space, but only until July 2026 and the other half until 2029.

1:01:59If they only managed to send, let's say, 500 satellites, then that's basically it. You cannot send more into space. Seems like the clock is ticking. I know Bezos only serves as an executive chairman nowadays, so his influence is, at least in theory, rather limited. But I would guess as the founder of Blue Origin, that is something Amazon should be able to leverage in regard to Project Kuiper. Absolutely. And Amazon is making use of that. They have secured more than 80 rocket launches to make sure they can send up enough satellites in the remaining time. And besides two or three other organizations, Blue Origin is in fact one of those partners.

1:02:43We have somewhat of an expert on this topic in our intrinsic value community. So perhaps we should ask him about any developments on this. Yeah, yeah, I totally agree, Daniel. And already we've kind of hand selected a few members to form the foundation of the early community before we started opening up to the public, which we're now doing. But we already have such an incredibly diverse range. investors in it, that we can tap into this more decentralized knowledge where everybody can share their circle of competence. So we literally have rocket scientists. We also have venture capitalists and real estate investors and just classic value investors and people focused on pharmaceuticals and biotech.

1:03:25I mean, it's just a really wide range of expertises that people bring. And it's so valuable because when you and I are working on these episodes and we're trying to better understand companies. We can tap into what other people know. And that is really the point of the community, that anyone who joins, that's what they're able to do and get out of it. Sometimes I'm not even sure if I could get all this research together if I don't have people out of the community giving me their insights when they are such experts. But to pull a thread on Kuiper, if it would work out, Amazon could open the door to hundreds of millions of customers, more merchants and also governments.

1:04:05And there's potential overlap with pretty much every part of Amazon's broader ecosystem. The risk is investing tens of billions of dollars and never actually making it happen. So Starlink already has, as I said, 5 ,000 satellites in orbit and millions of users. And Amazon is running low on time, at least if there are no changes to the license requirements that they have signed earlier. So it's a bold bet, but if it plays out, it would be one of those bets like AWS that everyone underestimated and you can't model out, but later on becomes a critical part of Amazon's infrastructure and entire business model.

1:04:45I think what makes the Mag7 so special is how they've found these new blockbuster ways to grow their businesses by making a wide range of bets, which we've seen most clearly with the other bets division at Alphabet. But Amazon obviously has a great track of doing something similar where they're always building these new business units that might not have been obvious to outsiders that they could even do it. Right. I saw that with Whole Foods. And then now I'm having the same reaction with Project Kuiper, where now I give Amazon the benefit of the doubt. But otherwise, I would look at it and say, why are they, what are they doing with satellites?

1:05:23And so now maybe we should cover the physical retail stores that make up Amazon's business, just since I invoked Whole Foods again there. And I've actually been able to go to, well, not only Whole Foods, but also to the Amazon Go stores a few times. And for anyone who doesn't know, these are really cool. They're basically grocery stores that are cashierless. So you just walk in, scan your prime code, the gate drops, you walk through, you grab your cart. And then as you put groceries in your cart, they get scanned and get added to a checkout cart on Amazon, a digital one. And as you walk out, you're automatically charged for everything.

1:06:01And you get a bill from Amazon. And I can eat an hour later, you get an email for it. And I've actually never been, like I've only been there a few times, but it's always worked. It's not like I've ever been mischarged for anything. So it's kind of incredible how the technology works so well. And that probably has helped to improve the margins of the grocery business. This might be the first time where our personal experiences in terms of Amazon are fundamentally different. And I kind of hope that you would have these insights because I don't. In Germany and generally in Europe, Amazon doesn't operate any physical stores.

1:06:35We have no Whole Foods and we don't have Amazon Go. And even the online grocery delivery service called Amazon Fresh shut down in December 2024 after launching in Germany in 2017. So the competition in the grocery market, especially in Germany, is just too tough. There were logistical and regulatory hurdles as well. I think the UK is an exception. I think Amazon is operating some physical stores in London that feature its just-workout technology. So while the picture looks a lot different in the US, especially since the 2017 acquisition of Whole Foods that cost Amazon about$14 billion, the picture still seemed a bit mixed.

1:07:16The Amazon Go stores that you mentioned were basically cut in half since 2023. What did work quite well for them is licensing these just walkout technology to other retailers though. Whole Foods can probably be called a success. As you also mentioned, it's not just a retailer. They use it for better logistics, which basically improves their entire ecosystem once again. They still run over 500 locations, mainly in the US and Canada. Revenues come in at over 20 billion. Margins are unsurprisingly relatively slim, but it's a tough business to be in. And I don't really see why Amazon was so keen on joining the physical retail side.

1:07:58I do wonder if it was meant to be a way to kind of anchor their grocery delivery strategy by having all of these stores that they could control directly and then giving them more touch points to make those deliveries from. But still as cool as Amazon Go is, I'm not dying to go back there. And I kind of get why it doesn't seem to be a huge success. It felt like a very basic grocery store with really not the widest selection of options. And while it was kind of a novelty and pretty convenient and it maybe did save you five minutes or so when checking out. Ultimately, that's not what matters to me the most in a grocery store.

1:08:36It's not necessarily how quickly can I check out. It's a selection of products. And so like I said, it just felt like a very inferior, limited version of Whole Foods. And now what I want to ask you about, which is sort of the elephant in the room, and after we've gotten the company's Q1 results, how will tariffs impact Amazon's business? Have we seen any indications that they're starting to feel that pain yet? Yeah, there are two big topics in the latest quarterly results and basically going forward for this entire year. That's tariffs and also the capex ban. So maybe I'll start with the letter and then go to tariffs.

1:09:15One of the biggest concerns of investors has been this huge ramp up in AI capex and add to that the uncertainty of tariffs and potential trade headlines in general. And then it's easy to see why the stock has been down this quarter. The higher capex is already showing in the numbers. Free cash flow has bounced back from the negative territory of 2022, but it's still pretty lumpy. And because Amazon is aggressively building out new data center capacity, investing in custom AI tips, as I said, Tranium, which is their own one, and then expanding its global delivery infrastructure. Not as heavily as they did in 2022, but it's still an ongoing process.

1:09:57So while operating cash flow has been about$17 billion, the cash is immediately being plowed back into long-term bets. And I mean, Andy Jesse is so bullish on the outlook of those, as you can hear in one of his latest interviews with the Harvard Business Review as well. So maybe we should give that a quick listen and then we come back. I think AI is probably, it's for sure the biggest technology transformation since the cloud. It's probably the biggest technology transformation since the internet. And so I think it's going to change every experience that we know. We have a very substantial investment in the AI space right now.

1:10:39And I think that, you know, I think in the early days of people getting excited about generative AI, people forgot that if you really want to pursue AI in earnest, there are three macro layers of that AI stack, all of which are gigantic, all of which we're investing in. and then besides the capex concern and are we finally getting to the tariffs they also have been a huge drag on amazon stock a lot of people expected amazon to be one of the main casualties in especially the trade escalations with china but management addressed this in the call in this quarter and so far they've said that the impact has been very limited and probably won't get nearly as bad as investors first feared maybe it's a stretch but I even see an argument to make that in the long run, it's an advantage that Amazon might have because all large retailers will face the same cost pressures from tariffs.

1:11:42Prices will go up across the board and then Amazon becomes the company with the most scale and that is just strength in such a market. They already offer some of the lowest prices and the broadest assortment. So if everyone is raising prices, Amazon's value proposition might actually improve in relative terms. We already talked about how they can absorb losses because of all the other businesses. And Amazon sources many goods directly from manufacturers. So while many competitors go through intermediaries or distributors who import from China and then mark up the products, in a type of environment, that extra layer could become a real disadvantage.

1:12:24Amazon, by contrast, has more control over pricing pressures through vertical integration and vendor negotiation. So it might actually be an advantage for them. If anything, its pricing power, scale, and supply chain structure might let it come out of this on a stronger position than many of its retail peers. i would seem to think that a company with the resources reach and of course customer traffic that amazon has should be pretty well positioned to use its muscles to protect its business if it needs to so what makes this conversation even more interesting is to consider how all this plays into amazon's margin story because when you zoom out a bit it's not only that amazon is holding up well throughout the investment cycle and the beginning of tariffs we're actually seeing a company that's becoming more profitable.

1:13:14In 2022, operating margins dropped below 3 % from what I'm seeing during the peak of the post-COVID investment cycle. And of course, it all looked pretty uncertain back then. Too much infrastructure, declining retail efficiency, and all these speculative bets that were now starting to weigh on the bottom line. But then when you fast forward to now, it's a completely different picture. In 2024, Amazon's operating margin rebounded to over 10%. And even in retail, we're also seeing signs of improvement too. The North American segment, from what I've seen, ran at over 6.5 % margin in 2024, which is significantly higher than it was during the pandemic years.

1:13:53So could you give us some color on what's driving that margin expansion and how it plays into the broader bull case for owning Amazon? at a high level it's really about the business mix aws and advertising are going faster than retail and they're both incredibly profitable aws is running at operating margins in the high 30s and advertising might even be higher we don't have exact numbers because amazon doesn't report them but analysts estimate that they are somewhere in the 40s some insiders are even talking about 80 But that seems unlikely to me if I model it all out, and we will discuss that more later.

1:14:37It just seems that an 80 % margin on ads would mean much higher profits than Amazon actually has. This revenue mix shift, as well as a recovery from overinvestment in 2022, caused the operating margin to recover from only 2 % in 2022 to almost 12 % in Q1 of this year. And while this trend looks great, I wouldn't be too surprised if we see declines in the future again, considering Amazon's history of making costly investments. Kuiper is one of those investments right now. All Kuiper-related costs are being fully expensed as they occur, which puts pressure on margins. But in the earnings call, management actually said that once the service becomes commercialized, they will begin capitalizing a portion of these costs.

1:15:27And when a company expenses the costs, it records them on the income statement, which lowers margins. And then when costs are capitalized, they are recorded as an asset on the balance sheet and only gradually expensed through depreciation. And that's why this shift should, in theory, improve margins going forward. Besides the business mix and accounting gimmicks, operating leverage is obviously a huge driver for Amazon's margin expansion as well. investments are done today and when the operations scale up investments decline while profits surge all right well we're almost 90 minutes into this thing so why don't we get to everybody's favorite part and try to estimate the intrinsic value of amazon it's about time and amazon is not like adobe a company that we have in our portfolio and that was trading cheaply on relative valuation on traditional metrics, as well as compared to its own historic levels.

1:16:26And the latter is also true for Amazon today. Amazon is trading at its lowest price to operating cash flow at any point in the last decade. And I use operating cash flow here because free cash flow is just not a good proxy for Amazon's true ability to generate cash. Free cash flow is all over the place due to the high investments that we have discussed over and over again. You can argue that these investments will come to bite Amazon, but historically they have turned it into the fantastic company that it is today. And as we have discussed in our CapEx section, there are some good reasons to believe that the same will happen with the current investments as well.

1:17:07Even if they slightly overspend, Amazon has cash and short-term investments of$95 billion. So there's some leeway, even if you subtract$60 billion long-term debt. I think it's safe to say Amazon is not going bankrupt. And the reason we look at Amazon today is because it is one of the cheaper valuations it's ever traded, at least in recent history. And I don't know, this might be an interesting opportunity to invest in the company. But you know, as well as I do, that sometimes our intuition and looking in the rearview mirror comparing a company to its own historical multiples can be misleading.

1:17:43So how about you just walk us through your model? tell us maybe at what price you start to get interested in amazon sure as you said sometimes we already have an idea that a company is likely to be under or overvalued and then when you go through the numbers you realize whatever you thought is not actually the case so to get a better idea of what drives amazon returns i broke down the entire business into their five core revenue and profit drivers. That's online retail, it's the third-party business, AWS, advertising, and subscriptions. And each of those has a very different growth rate and also margin profile.

1:18:24So just bundling them all together in a single revenue or profit number, which is what Amazon does in its reports, wouldn't help us now understanding the company. And I don't want to bore you with all the details. So if you want to take a closer look, you can find the model in our newsletter, just like every other bottle that we've ever created. But overall, I expect revenue growth of 9 to 10 % until 2029 in my base case scenario. And AWS and advertising, the biggest drivers growing at 16 and 17 % respectively. The online retail business is obviously still the biggest chunk of revenues, but it's also the most mature and saturated business, at least if there is no further expansion fueled for example by Kuiper five six seven years ahead.

1:19:12Then the third party business and subscriptions are growing faster than the core business but they have also slowed down in recent years and I still expect high single digit to low double digit growth rates for these segments but nothing stellar. And due to the little importance of the physical stores that we have discussed for the profits of Amazon. I just put them into the other pile, which is basically slow growth and lower margin. I'm looking at your model right now, Daniel, and I'm seeing like almost$640 billion in revenue in 2024. And almost, and bear with me here, a trillion dollars in revenue by 2029.

1:19:53And that's actually only an 8 % revenue CAGR. So I mean, this is a company that does a ton of business. And I knew intuitively that it was a very big top line number, but that is actually bigger than I even was first thinking. And I should also say that for anyone who does want to see all of our models in one easy place, we make that available to the members of our intrinsic value community. We have all the models in one place that you can just scroll through and download and access them. So that's maybe one more reason to apply for the waitlist if you're considering it. And I'll just add here to what you said, Daniel, that all does sound very reasonable.

1:20:31And I would say it's in line with what most analysts expect. And if you had told anyone 10 years ago that Amazon could be at the size and keep growing at double digit rates, they would have probably laughed at you. And then when you consider the margins of these businesses as well, for AWS, we know it's in the mid to high 30s. And for advertisers, I mean, we don't know exactly, but it could even be higher than that. So there's just some really promising things about this company. And they have shown that the law of large numbers almost doesn't apply to them. They can keep growing, whether it's$200 billion,$400 billion, or$600 billion in revenue.

1:21:07They're going to keep compounding. It sounds absolutely ridiculous if you actually go through the numbers. But in my opinion, businesses like AWS and to some extent also the ad business, they're still relatively early with very much of the operating leverage still to come in the years ahead. So even when the retail business operates at a low single digit profit margin, all the remaining businesses are driving the profits and they will likely only get better in the future. I mean, the third party seller services, which includes fulfillment and marketplace freeze, they're one at 9 to 12 % margin.

1:21:42That's definitely not a low margin business. And we've already discussed AWS, which basically reaches 40%. 40%. I mean, this quarter AWS benefited from capacity constraints, which means that there was more demand than supply. And this imbalance improves margins, but it should normalize in the quarters ahead. And the advertising business, as we mentioned, is hard to estimate. It could be 40 % margin, could be 60 to 70 % at least a couple of years out. I don't think it's unlikely they could be that high. But if I model it all out, everything far above the mid to high 30s for a profit margin on the advertising business just makes the EBIT looks astronomically high.

1:22:26So as a disclaimer, maybe I should say that if you model out the EBIT of each segment and then add them up to a total EBIT as I did in my model, your EBIT will be higher than the gap EBIT that you see in Amazon reports since you're leaving out investments or costs that are not directly related to any one of the segments. So this gets corrected through the EBIT to net income conversion ratio though. So while total EBIT might look a bit higher than most estimates you will see, the EPS number, so the earnings per share are more conservative again. And I probably should also add that I expect an average of 1.3 % dilution, which is something that Amazon has a history of due to its stock-based compensation.

1:23:11And they finally start bringing that down a bit, but 1 % and perhaps a bit higher than that is what you need to expect going forward with Amazon. Where does this leave us with Amazon's intrinsic value and the price target that you find Amazon attractive at? So after all the growth and margin assumptions that might be a bit too boring to go over all of them, I just apply a range of exit multiples on the 2029 earnings and then I weigh them with different probabilities. And if I do that, I get an implied exit multiple of about 27.5. And then you have to go through the process of discounting that back.

1:23:51We always use the same rate as 8%. and then you get a fair value target somewhere in the mid 220s. And now to make this a bit more tangible, I've created a table where the estimated return based on your entry price is showing. So if you could buy Amazon stock, and I would love to do that, $120, you would get well over 20 % annualized returns. And at$180 as an entry price, it would be 12 to 13%. Unfortunately, Amazon stock price just shot up while we were recording this episode, basically. And so right now the stock is trading at$210. And then the estimated return is 9 % to 10 % a year, which is still okay.

1:24:34But I would have liked to tell you we buy the stock at$190 today. It's a great visualization. And anyone looking at it on screen could have seen it. And I just want to emphasize it is the estimated return. So of course, nothing is guaranteed. But when you just look at the expected earnings growth and then a reasonable exit multiple, as Daniel said, if you're below 150, you're probably getting a really good 15 % to 20 % return or higher. And just the way we think of it is as that entry price increases, your expected returns looking forward decrease. And that's just the rule of investing. That's just investing 101.

1:25:08And at the time of recording, when we calculate that fair value by discounting Amazon's earnings back by 8 % a year, it is hard to say that the stock looks extremely attractive right now. And it's basically trading right around that fair value, which wouldn't necessarily trigger us to go ahead and purchase it. And still, you don't have to sell me on owning Amazon. I mean, it's a company we should own. And it's just a question of the right price. And if we can get that, then it would be a wonderful addition to the portfolio. And they have been, and I think they will continue to be the definition of quality, right?

1:25:43I mean, you could say the same for all the Mag 7 companies. But what's maybe unique about Amazon, as opposed to perhaps Alphabet, is that I don't see any imminent threats affecting their business. And you could say that about Alphabet, but also Adobe and to a lesser extent, Airbnb, where these businesses are all under pressure in different capacities. And I just don't think Amazon has any e-commerce competitors that can disrupt its business in a way that maybe Canva could do with Adobe or that ChatGPT could do to Google search. And Walmart is a threat here, but it's not existential. And we've already talked about how Amazon has exerted its power over Shopify.

1:26:25We went into that in detail last week. And then you've got these other cloud competitors, but the cloud business pie is just growing so, so quickly right now. It's hard to be too worried about, even if they lost a little bit of market share, if the pie is growing much more quickly than they're losing market share, they're still doing pretty well. And that's not to say Amazon is bulletproof. And of course, the risk of tariffs and a tariff-induced recession, and those could be really big, maybe temporary disruptions on the horizon. But there's not those competitive threats that really threaten to hurt the long-term viability of Amazon's business, which is really what we're ultimately concerned with as long-term focused investors.

1:27:06And I think if anything, that tariff uncertainty has probably just created a chance to buy the stock more cheaply, or at least it did until things bounced back at the time of recording and who knows where they will be where by the time this is actually published for people to listen to. And I guess I would just say, you said 190, I would maybe even be a little more conservative. To me, it looks like if we can get any price in the low 180s or below, then I would really have the conviction to say, hey, let's make a 5 % core position in Amazon. But above that, especially above$200 per share, it doesn't scream buy to me.

1:27:44It doesn't seem like an overwhelmingly attractive opportunity at this moment, even if it's cheaper than it relatively has been. So we need that price hedge to give us a little bit more of a margin of safety, in my opinion. Usually, if we compare the two of us, I'm the one who's more price conscious on these stocks. But this time, I would really say, if we could have gotten it, and yesterday it looked like it, we could have gotten it at 190, I would have made this, or I would have at least told you we should make this a position in our portfolio. And just as you said, I don't think we ever got this unlucky regarding the timing of recording our episode.

1:28:23We just saw this huge 10 % hike in the stock price. And over$200, it gets a bit more difficult to make the argument for buying Amazon. I mean, it's tough to see a world where this stock, at least in my opinion, is not significantly higher in five years from now. Amazon is consistently outperforming every model due to its ability to build entirely new businesses that run into massive value drivers in the future ahead. And even now on my model, I don't give any value to the other bets segment. So I think there's huge potential for them outperforming all the expectations in the future. But we'd like to see a margin of safety and adding Amazon at over$200 would just feel like we want to add the company, but we don't pay enough attention to price.

1:29:13And looking at Amazon's stock chart, this company is volatile. there's a very good chance we can get this company at prices at 180 190 perhaps even lower at another point so i think there's no rush in us owning amazon so having said all of that let's wrap it up it's already a long episode and how about you give us the hints or the audience the hints about the next episode well next week's episode i think it's safe to say it's a bit of a change of pace. We're also covering our type of company that we haven't yet covered yet. So again, that's another hint for folks who have gone through and listened to most of our episodes.

1:29:54And maybe as a third hint, I'll say this is a company where two very opposite types of quite famous investors are invested in it. And one of them is one of our favorite value investors. And the other is kind of famous for their big bets on speculative technology. So you would not expect them to own the same thing, which is why it caught our attention. And I probably already said too much though. So those are the hints. Please, please let us know if you have any theories on them in the comments. I think you should keep it at that. I think those are some good hints. And I'm looking forward to you also leaving your comfort zone a little with that pitch.

1:30:34And now I will leave you all with a quote from Jeff Bezos that always reminds me a bit of one of Charlie Munger's most important lessons. So Bezos said, quote, we've had three big ideas at Amazon that we've stuck with for 18 years. And they are the reason we are successful. Put the customer first, invent and be patient. And having said that, I hope you all have a great day and we will see each other next week.

1:31:11Thank you.