Amazon.com investors got a wake-up call on Thursday when the world's biggest online retailer said its profit margins were sliding as it spends money on massive new distribution centers and acquisitions.
The company also reported slightly lower-than-expected sales for the fourth quarter, which includes the holiday season, as it offered discounts and free shipping to attract customers.
Amazon's shares, which had gained 5.2 percent earlier in the day, lost that advance and more to fall $16.46 lower than their close in after-hours trading. They had risen more than 70 percent in the past six months, reaching an all-time high of $191.25 last week -- leaving plenty of room for disappointment.
I think people were expecting kind of a blowout when they looked at data points that suggested that e-commerce spending potentially had the strongest quarter in three years, said Evercore Partners Ken Sena.
The company posted a slight dip in operating profit for the holiday fourth quarter even as revenue rose 36 percent, signaling the high cost of keeping competitive in the highly promotional retail environment.
Fourth-quarter operating margin declined to 3.7 percent from 5 percent a year earlier. Amazon warned that in the current quarter it could drop to between 2.8 percent and 3.8 percent -- well below its 5.5 percent of the first quarter of 2010.
Operating income (guidance) for the first quarter is well below the consensus and the stock is taking a big hit, said Tim Ghriskey, chief investment officer of Solaris Asset Management. It could be that they're back to the spending mode.
Amazon disclosed last year that it was spending on 13 new distribution centers, and on Thursday said that more would follow, without providing a number. The cost to bring those to full productivity would weigh on short-term margin, said Chief Financial Officer Tom Szkutak.
You should keep in mind that with the sheer amount of capacity that we added in 2010 ... we don't get the optimum productivity on day one, Szkutak told analysts.
He declined to comment on just how much investment in infrastructure, talent and acquisitions the company planned to make in 2011.
The big question for 2011 is what the growth would look like, he said. Stay tuned, he said, for how much capacity we'll have to add to support the strong growth for the year. We'll have to see what that looks like.
Amazon has enjoyed headlines and rapt admiration on Wall Street over the past year for its Kindle e-reader, the top selling such unit on the market, and its double-digit growth.
That buzz has sometimes overshadowed concerns about spending and Amazon's historic focus on driving revenue through expensive programs such as free shipping, for example, at the expense of profit margins.
Moreover, the company has been on an acquisition spree, buying companies with built-in subscriber bases from Diapers.com to LOVEFilm, a UK-based DVD-by-mail and streaming video provider that operates in Europe.
When you look at the size of the opportunity, and how relatively under-penetrated e-commerce still is, and the opportunity ahead of Amazon to basically gain share, they're making the right decisions, said Sena.
Amazon expects first-quarter operating profit between $260 million and $385 million, including $140 million for stock-based compensation and asset amortization.
Excluding amortization, the forecast is $400 million to $525 million. Evercore's Sena said analysts expected $580 million.
It expects revenue between $9.1 billion and $9.9 billion for the first quarter. Wall Street expects revenue of $9.31 billion, according to Thomson Reuters I/B/E/S.
Amazon, which began as a Web bookseller and is now at the forefront of digital publishing, said Kindle books have now overtaken paperbacks as its most popular format. It said last summer it was selling more digital books than hardcovers.
Over 83 percent of books available in the U.S. Kindle store are $9.99 or less, Amazon said. It has tried to keep prices low to encourage adoption.
Although Amazon does not disclose sales or profit data for its Kindle e-reader or content, many believe it derives more profit from digital books than from its Kindle devices and say that content is a better bet for its long-term growth.
For the company's fourth-quarter, revenue of $12.95 billion fell just short of the average estimate of $13.01 billion. Some bullish analysts expected Amazon to blow past those numbers.
Net income in the fourth quarter was $416 million, or 91 cents per share -- up from $384 million, or 85 cents per share, a year earlier. Analysts on average forecast 88 cents a share, according to Thomson Reuters I/B/E/S.
Amazon shares traded at $167.99, down 9 percent, following the earnings report, after rising more than 5 percent to end at $184.45 on Nasdaq Thursday.
(Additional reporting by Brad Dorfman, Martinne Geller and Lisa Baertlein Editing by Gary Hill)