4 Things To Watch When Amazon Reports On Thursday

Amazon.com is expected to report EPS of $1.11 on $29.45B in revenue. After years of rocky earnings results—with the company now eyeing growth rather than profitability—this quarter will mark the first time Amazon has focused on earnings for three straight quarters, which gives us comparative metrics for this and upcoming quarters. Last July, Amazon reported revenues of $23.1B, so today's expected $29.45B would amount to growth of $27B in revenue year-over-year.

The company will report based on three individual business segments, which will break down as follows:

Undeniably the biggest of Amazon's business segments, North America represents $16.9B worth of revenue, out of the company's total $29.1B in Q1. Last quarter's growth rate for this segment was an impressive 26.7%. Additional good news came from profit margins before stock-based compensation, which grew from 3.8% to 5.4%. Amazon Prime membership and its benefits have changed both the frequency and ways in which customers now use Amazon. It created a loyal customer base willing to rely on Amazon's e-commerce site for everything from high-end electronics to mundane household staples such as diapers and laundry detergent.

Obviously, this type of customer loyalty programming can only help Amazon over the long-term. Once the user growth rate inevitably slows, programs such as Prime membership will keep customers coming back to Amazon's retail business, successfully limiting the risk of a shrinking user base.

Amazon's international business is perhaps the most intriguing of the three segments. Totaling $9.5B in revenues, it represents about a third of Amazon's income. The only problem: so far it hasn't racked up the success of its North American counterpart. Unfortunately, this division is still losing money.

This isn't necessarily a problem per se. Not too long ago, Amazon's bottom line was red across the board. International segment losses come from heightened operating expenses having to do with expanding its fulfillment capacity, spending on technology infrastructure and marketing efforts.

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Ongoing losses might become more of a problem in future quarters now that investors are beginning to expect earnings growth from AMZN. Luckily, operational losses are shrinking year-to-year. Last quarter the company posted positive operational income of 20 million before deducting for "other expenses".

And Amazon has started rolling out Prime memberships in the UK and Japan, as well as to its rapidly growing India base, so two things will be interesting to watch down the road. One: does the Prime membership solidify Amazon's status as the leading e-commerce retailer abroad? And two: how will operating margins react to global expansion...can Amazon manage to keep costs down?

While the North American and International retail segments are the biggest and most intriguing divisions, Amazon Web Services (AWS) is the real star. Web Services is what the company calls its industry-leading cloud computing business. This segment grew from $1.5B during Q1 2015 to $2.4B during Q1 2016. That's an astonishing YoY growth rate of 64%.

This quarter, growth from Web Services is expected to come in just under 59%, or about $2.9B in revenues. As for operating margins, Amazon is in a much better position here with margins of about 25% over the past four quarters. AWS's operating income, when all costs are accounted for, is $604M. Amazingly, this division contributed more to Amazon's Q1 2016 bottom line than did its entire retail business, even though it doesn't even represent 10% of the total revenue.

Amazon is one solid company. Its rapid entry into cloud computing has made it the leader in a fast-growing and thriving sector. We believe it will remain in the driver's seat for years to come.

The problem with promising companies such as Facebook (NASDAQ:FB), Netflix (NASDAQ:NFLX) and Amazon is that the market is often wrong in pricing future growth. Their shares get pumped up based on hope rather than actual performance, only to be harshly sold off when these companies fail to achieve investors' desired growth.

We're confident Amazon will continue to grow its retail and cloud computing businesses. Still, for how many quarters is it reasonable to expect growth rates of 50% or more year-over-year for the cloud segment, or 20% for its retail business? If the positive earnings trend is to continue for the remainder of 2016, Amazon will have earned about $5 dollars per share on the year, which would mean a P/E ratio of 147 at the end of the year – assuming yesterday's closing price of $736.67 doesn’t change.

We'd recommend this stock for investors who have a higher risk tolerance. It has a clear and significant upside (Amazon gained 118% in 2015, when it was already expensive), but because of the market's lofty expectations—which aren't necessarily realistic—its potential downfall could be short, sharp and painful. The question is not, is this business good. Rather, the smarter question is, is this business that good.

Written By: Investing.com