Your Cheat Sheet to Amazon’s 2nd Quarter Earnings

Tech earnings season is in full force, and next up for the bellwethers is Amazon (NASDAQ: AMZN) who reports tomorrow after the bell.  Analysts are expecting $0.54 EPS on revenues of $6.6B.

Heading into this quarter, Amazon was the beneficiary from two fundamental trends taking shape: the consumer shift from traditional retail to web-based retail, and the movement of traditional modes of media consumption to electronic media and “the cloud.” These fundamental shifts have fueled an impressive rally in Amazon’s share price since bottoming in November of 2008.  The company is in a dominant position to continue benefiting from the shift in the Internet retail market with its cheaper prices on books, diverse product base, and expansive market through which retailers can reach consumers; however this quarter its position in the shift to electronic book reading has taken a hit.

Over the past year, the Kindle has been an outstanding product and moneymaker for Amazon; however, during the second quarter, the Kindle has come across its most formidable foe in the form of Apple’s (NASDAQ: AAPL) iPad.  The Kindle has been a major component in Amazon’s earnings growth, and this competition has raised many concerns amongst analysts and investors alike as to whether Amazon can maintain its impressive revenue and EPS growth.  Following the iPad’s release, Barnes & Noble (NYSE: BKS) cut the price on their e-book reader, the Nook, to $199, in respones to which Amazon subsequently cut the price of the Kindle from $259 to $189.

The iPad’s pricing relative to the Kindle afforded consumers the option to pay a premium in order to access far more diverse options of computing and media consumption available with the iPad.  Just this week Amazon put out a note on the state of the Kindle’s that seems like a defensive response to the iPad’s success. Some of these points deserve consideration ahead of earnings:

1.  Amazon highlights the successes of e-books relative to hardcover books.  This is a little misleading, considering the fact that according to Nielson Bookscan, only 23% of all book sales in the US are of the hardcover variety.  It would be much more important and enlightening to know how e-book sales have performed relative to paperbacks.  According to Business Insider, “assuming Amazon’s book business reflects the overall industry, Amazon is still probably selling twice as many paperback books as Kindle books.”  Moreover, “Amazon…makes less money per e-book than it does on print books.”

2.  The repricing of the Kindle generated an increase in demand for the product.  The new $189 price placed the Kindle in a niche where it is competitively cheaper than an iPad and essentially in a league of its own (with the less popular Nook) for its capabilities and access to Amazon’s vast library of electronic books.  This gives consumers the justification they may need to buy a Kindle as opposed to the iPad or other alternatives.  In these earnings, it will be interesting to see whether the increase in volume can make up for the lost margins on the Kindle.  After all, the $70 price drop on the device comes straight out of Amazon’s bottom line.

3.  Since the iPad’s release (Amazon simply refers to sales over the past month in their note, but the timing really corresponds to the iPad’s release), e-book sales went from generating 40% more sales than hardcover books, to 80% more.  While passing hardcover book sales may or may not be monumental for Amazon–depending on how you look at it–the ACCELERATION in book sales is very encouraging.  This trend will need to continue for Amazon to make up for the lost margins on the Kindle.  While the iPad does in fact hurt Kindle sales, it helps Amazon by bringing a whole new segment of potential e-book readers to the Amazon market.

All that being said, Amazon’s stock now is consolidating just under both its 50 and 200-day moving averages.  This is in some respects a bearish ambush zone, and leaves the stock vulnerable for the first time since its impressive breakout gap in October of last year.  2nd quarter earnings this year will be a major catalyst as to which way Amazon’s share prices will break.  At the moment, the stock is sitting on a fine line between Bull and Bear territory.

Amazon sits on a fine line between Bull and Bear territory heading into earnings.

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