Amazon (NASDAQ:AMZN) has steadily expanded from selling books to nearly everything imaginable. Early investors have gotten the best end of the stick here, but the gains are clearly far from over.
Peter Lynch categorizes three main types of companies/stocks (out of his complete classification of 6 types):
- Fast Growers
- Slow Growers
- Stalwarts
Amazon is a stalwart, but I think the recent spike has proven that it’s worth looking deeper into. Many of its segments have fast-grower characteristics—the cloud segment, for example—and how these perform is important because they could make the stock swing significantly in either direction in the future. Let’s see if Amazon is worth buying right now; if it is, is the upside worth it?
A Quick Glance Into the Business
You probably know more than enough about Amazon, but I believe it is worth refreshing your idea on what this company does. The best way to do this is to break down how this company makes its money segment by segment.
Amazon Web Services (AWS) has basically become the bread and butter of Amazon. It is by far the most important segment here. Without AWS pushing up the growth figures, investors would not be willing to pay 42 times earnings for Amazon.
The cloud computing platform has huge room to grow—or is at least assumed to—in the coming years as the internet as a whole expands and AI models demand more data. AWS is the engine behind so many platforms and companies that discussing them would be out of the scope of this article.
Amazon’s advertising segment has also been a significant growth driver. It achieved 19% YOY growth in Q3 2024. The segment generated $14.3 billion in revenue.
Nonetheless, we’re going to look at the most important element: AI.
AWS’s dominance in AI infrastructure is particularly noteworthy because it is growing at a triple-digit pace.
Amazon’s current CEO Jassy noted that the company’s “…AI business is a multi-billion dollar business that’s growing triple-digit percentages year-over-year, and it’s growing three times faster at this stage of evolution than AWS.”
Moreover, custom semiconductor investments—including Trainium and Inferentia chips—reduce dependency on external suppliers like Nvidia and enhance profit margins. There’s a lot more room for bottom-line growth here as Amazon starts to shave down costs by using its own chips and not paying Nvidia’s—frankly—insane markups. The stock is going to follow these bottom-line advances higher, but that’ll only be possible as long as the top line keeps growing and if estimates are right.
How’s the Outlook for AWS?
AWS is going to make or break Amazon’s reputation as a growth investment, so it’s worth looking closely into. AWS’ growth could slow down if the broader AI and cloud computing industries do. Meanwhile, Amazon has been investing aggressively to capture the market share as the AI/cloud market balloons.
Projected capital expenditure is at $75 billion for 2024, with a significant portion dedicated to AWS infrastructure and AI. CEO Andy Jassy indicated that 2025 capital spending will likely exceed the 2024 figure; he views it as a “once-in-a-lifetime opportunity.” There has also been heavy investment in data center expansion and custom chip development—including Graviton4-based compute instances—which offer 30% better price performance.
There’s good reason to believe that this sort of aggressive funding will keep AWS growth high as long as there’s demand. The combination of AWS and advertising segments is expected to reach a $160 billion annualized run rate by the end of 2024 and represent ~25% of Amazon’s total revenue. CEO Andy Jassy suggested that “the rate of growth has a chance to improve over time as we have bigger and bigger capacity.”
It’s very hard to judge how much the rate of growth will improve. Management will obviously try to make things look better than they are. It is possible that the rate of growth remains flat or even declines a little.
The sales growth acceleration has been nearly flat so far at 0.4 percentage points compared to the previous quarter.
The total cloud market is expected to grow from $676.29 billion in 2024 to $2,291.59 billion by 2032. That leaves AWS with a lot of room for growth, even from where it is currently. The market has a projected CAGR of 16.5% during the forecast period. If this forecast is right—which is unlikely, given the track record of such forecasts—AMZN stock is a hand-over-fist buy. I’m not confident AWS can keep up such a growth rate for over a decade.
Plus, competitors of AWS are growing faster—at least in percentage terms. Microsoft’s Azure grew by 33% and Google Cloud saw 35% growth. That’s well over AWS’ 19.1% YOY growth in Q3. But again, keep in mind that AWS has a market share of around 31% compared to Azure’s 20% and Google Cloud’s 11%. The bigger size of Amazon Web Services can make it look more sluggish than it really is. AWS’ 19.1% YOY growth—in linear terms, or as in raw numbers—is still higher than Azure and Google Cloud’s growth.
Even then, AWS has lost market share. Not by a substantial margin, but Amazon’s market share in the worldwide cloud infrastructure market of 31% in Q3 2024 is a 1% decline from the previous quarter.
All that makes me believe that AWS is unlikely to see any huge swings in either direction on its own. The only way I see this segment perform badly is if the broader AI and cloud industry struggles. In this case, Amazon would not be the only company underperforming. Most big software companies are betting big on cloud and AI, too.
Is Amazon Overvalued or Undervalued?
AMZN is among the stocks that seem permanently overvalued due to its high PE. A similar company I could think of would be Tesla. Wall Street is willing to pay more due to the long-term growth prospects these businesses have. There’s good reason to believe that the premium for Amazon will hold up.
Even if AWS doesn’t keep up, Amazon’s e-commerce business—something we haven’t even scraped the surface of in this column—has a massive moat. There are competitors from China, but I really do not think these competitors are a long-term threat to Amazon. Shein and Temu are not going to conquer the US e-commerce market due to tariffs. A possible Trump presidency would accelerate that process exponentially.
There’s no denying that e-commerce is the future in terms of how people shop. A lot is going on in the background with automation and drone deliveries. No one is close to Amazon—especially in the US—in the e-commerce department, so this is worth keeping in mind when valuing Amazon.
Regardless, let’s evaluate Amazon.
My take based on everything we’ve discussed so far—and Morningstar’s fair value estimate—is that AMZN stock is ever-so-slightly undervalued. I do have several scenarios of how the investment could turn out. Big stalwarts like Amazon move in tune with the rest of the market, so the macros are really going to decide how Amazon performs at the end of the day.
The stock’s recent rally nearing the $200 level is particularly significant from a technical perspective. This price point has been a strong resistance level since July 2023; significant insider activity was seen back then. The current momentum—supported by strong fundamentals—suggests a potential for a breakthrough above this level.
Amazon has received overwhelming support from Wall Street analysts, with 92 Buy ratings and only 3 Hold ratings. The consensus is strongly bullish, with multiple analysts raising their price targets following Amazon’s Q3 results.
Here are the scenarios I believe could unfold in the coming twelve months based on my research and what these analysts think:
Current estimates expect revenue growth at 10.9% this year and 10.8% next year. EPS is projected to grow 75.6% this year and 18.7% next year, and operating income is forecast to grow at a 38% CAGR over the next three years.
You’re paying 42 times trailing (34x forward) earnings for this. You’re also paying 3.4 times sales. Amazon is a hybrid company, so it’s hard to compare these valuations against just one industry. But if we look at the broader software industry (where you can find the steepest valuations), Wall Street pays 26 times trailing earnings and 22 times forward earnings—out of 1556 companies—for the median software company. AMZN stock is overvalued in this sense, but again, I believe taking Wall Street’s long-term perception of this business makes it more than investable if you are holding it for the long term. These valuations have also trended down with growth metrics, so I have no reason to believe that the market is being overly generous or unrealistic about AMZN stock.
The Bottom Line
Amazon certainly isn’t the bargain it once was for early investors, but I still believe the stock remains a worthwhile long-term investment at its current price. AWS continues to drive massive growth and remains the linchpin of the overall business. As long as cloud adoption and AI development continue their explosive growth trajectories, AWS is poised to ride that tailwind for many years to come.
Even if AWS’s growth slows modestly, Amazon’s core e-commerce operations have tremendous staying power and are almost impossible for any competitor to displace in the near future.
With the stock still projected to grow earnings at a healthy clip over the next few years, I don’t believe the current valuation fully accounts for Amazon’s future potential. Some near-term volatility is possible as macroeconomic concerns linger. However, Amazon has shown an impressive ability to execute over the long run.
For patient investors with a minimum 3-5-year horizon, I believe Amazon remains a core holding for beating the market; double-digit annual returns still seem achievable. Thus, I’d rate it a buy; YMMV.
While I acknowledge the potential of AMZN as an AI play, my conviction lies in the belief that some AI stocks hold greater promise for delivering higher returns and doing so within a shorter time frame. If you are looking for an AI stock that is more promising than NVDA but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None. This article was originally published at Insider Monkey.
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