From peak to bottom, Amazon dived 20%. Can it be reversed strongly driven by AI?

Although Amazon (NASDAQ: AMZN) is down nearly 20% from peak to trough, I'm not worried about this company. In fact, I'm positive about the company's long-term opportunities. In this article, I'll detail my positive views on Amazon based on the company's fundamentals, recent earnings, financial conditions, and valuation settings.

First, its recent results for the second quarter of 2024 show that despite the mixed performance of the retail business, the fundamentals of its critical AWS division remain solid. Overall, the positive trend of AWS is partly offset by fluctuations in the retail business.

Revenue for the second quarter of 2024 reached 148 billion US dollars, an increase of 11% at a fixed exchange rate. This figure is high at the guideline value and in line with market consensus expectations.

Revenue was $14.7 billion, and profit margin was 9.9%, higher than the expected upper limit of $14 billion, and 7% higher than the general market forecast. Earnings per share were $1.26, which was 22% higher than market expectations.

AWS re-accelerated during the quarter and showed strong momentum, a trend further explained below.

The AWS division's revenue reached $26.3 billion, up 19% this quarter, 1% higher than market consensus. AWS's operating margin is 35.5%, which is also higher than the market consensus of 31.5%.

Compared to expectations, the retail sector's performance was somewhat mixed. Revenue in North America reached $90 billion, an increase of 10% at a fixed exchange rate.

North American revenue was in line with expectations, but international retail revenue was 3% lower than expected. North America's revenue increased 170 basis points from the previous year to $5.1 billion, and the operating margin was 5.6%. International revenue increased 1,100 basis points from the previous year to a positive $0.273 billion, with a profit margin of 0.9%.

As far as Amazon's outlook is concerned, revenue guidance for the third quarter was broadly in line with expectations, while revenue guidance fell short of expectations, as the company increased investment in its business.

Revenue expectations for the third quarter of 2024 are between $11.5 billion and $15 billion, while the market generally expects $15.3 billion. The median value was 13% below general market expectations.

One of the key reasons I'm optimistic about Amazon is the accelerated growth of AWS. For me, I'm watching for signs of a sustainable re-acceleration in AWS, and I think AWS has really shown strong momentum this quarter.

As shown in the chart below, AWS's revenue grew 19% in the second quarter of 2024, the third consecutive quarter of acceleration we've seen. Since the AWS growth rate bottomed out in the third quarter of 2023, with revenue growth of 12%, AWS's acceleration performance has been quite impressive.

Subsequently, in 4Q23, AWS accelerated by 1 percentage point; in 1Q24, it accelerated by 4 percentage points; in 2Q24, it accelerated by 2 percentage points.

Although it may still be in its early stages, this trend of a renewed acceleration in growth rates is certainly encouraging and appears to be sustainable.

The acceleration of AWS appears to be sustainable, thanks to three major trends driving the growth of AWS.

First, CEO Andy Jassi emphasized that he saw that his clients have done the vast majority of cost optimization work and are now once again focusing on new projects and plans. This is a very positive sign, as the slowdown in AWS growth from the fourth quarter of 2021 to the third quarter of 2023 was due to customer cost optimization efforts, which hampered the AWS business. Now that most of the cost optimization work has been completed, this means that cost optimization will no longer be a major impediment to growth; in fact, new projects and plans can even accelerate revenue growth.

Second is the trend of moving from local infrastructure to the cloud to save money and increase productivity. AWS is once again seeing companies beginning to want to modernize their infrastructure, and has once again sparked discussions about this migration. As a result, moving to the cloud provides another breeze for AWS, which has the broadest range of features, strong security, and operational performance, and is therefore a key choice among cloud service providers.

Finally, what every investor is focusing on today is that AWS is seeing companies want to use artificial intelligence. The current artificial intelligence business of AWS continues to grow rapidly, and although it is still in its early stages, its revenue has reached several billion dollars.

Another key reason I'm optimistic about Amazon is AWS's understanding of AI trends.

AWS not only ensures they have the widest range of Nvidia instances to choose from, but also provides better price/performance through their custom chips for training, Trainium, and inference, and Inferentia.

The second version of Trainium will be launched at an accelerated pace in the second half of 2024, and management said they saw “significant demand” in this area.

Management also said they're seeing model builders increasingly standardizing SageMaker, while Bedrock is focusing on having the largest selection of models, recently adding Anthropic's Claude 3.5 model, Meta's new Llama 3.1 model, and Mistral's new Large.

At the application layer, AWS continues to vigorously promote Amazon Q, its generative AI assistant for software development.

In fact, AWS found that with Amazon Q's code transformation capabilities, Amazon migrated more than 0.03 million Java JDK applications in just a few months, saving $0.26 billion and 4,500 developers' time compared to the original cost.

Over the past 18 months, AWS has introduced more than double the number of machine learning and generative AI capabilities of all other major cloud service providers combined.

This underscores AWS's commitment to being at the cutting edge of AI, ensuring customers get the broadest range of features on its platform, and continuously innovating its AWS products.

Amazon is very optimistic about the medium- to long-term impact of artificial intelligence, not only on its own business, but also on the business of its customers.

On the topic of AI capital expenditure, I think CEO Andy Jassi provided some interesting insight into AI capital spending for large global cloud providers like AWS. AWS's logistics challenge is that each of the 35 regions it operates in has clusters of multiple data centers and 110 availability zones, which is equivalent to a single data center. The challenge is to have enough capacity in each availability zone to meet demand. The potential downside is that if AWS's capacity is too small, customers may be unable to scale their applications or even experience service disruptions.

At the same time, AWS should take care not to have too much capacity to hurt the return on investment. To this end, AWS has built models and systems to manage this capacity to meet demand, and so far they have done a good job enabling the company to obtain the right amount of capacity. For AI, AWS is getting very important advanced signals from customers who want to take up significant amounts of capacity. The focus here is that AWS has received many signals from customers to understand their needs, and they are investing today to meet the significant demands they see in AI.

In fact, AWS now wants more capacity, which really shows that they're seeing a very strong demand signal. Finally, AWS mentioned that AI will be a very, very big business for AWS, which once again shows the strong demand that AWS sees in the business.

Although it's still in its early stages, in the long run, Project Kuiper is like a good call option for Amazon's investment argument, given the huge business opportunities and high entry threshold into the industry.

I think we're starting to see Amazon's LEO satellite constellation Project Kuiper launch.

Amazon is currently speeding up satellite manufacturing at its factory and is announcing a distribution agreement with Vrio to provide Project Kuiper's satellite broadband network to residential customers in seven South American countries.

Cooper plans to deliver production satellites in late 2024, and management said they continue to see huge demand from businesses and government entities for the Cooper Program services.

I still think Project Kuiper is an emerging business for Amazon, and it has the potential to become a huge revenue contributor to Amazon in the future.

Another key reason is Amazon's retail business, in which Amazon maintained a leading position. Despite mixed trends this quarter as described above, Amazon's retail business performed better than many of its competitors.

Management notes that many of the consumer trends they've been discussing over the past year still exist, including customers becoming cautious about spending and looking for products that sell at a lower average price.

This trend existed in the second quarter of 2024, and management expects this to continue into the third quarter. Amazon has been very successful in helping customers downgrade their spending. Customers are no longer spending money on non-essential items and are buying lower priced items, which greatly benefits Amazon's everyday necessities business.

At the same time, Amazon continues to grow at a faster rate than the industry in high-priced items that can be freely disposed of, such as electronics and computers, but it is still below the growth rate we have seen in a stronger economic environment.

Overall, Amazon's ability to meet customer needs has kept its retail business strong relative to the consumer industry as a whole.

As there have been no major changes this quarter, I reaffirm my five-year forecast for Amazon. The revenue growth rate for the next five years is about 11%, and the compound annual growth rate of earnings per share is 17%. This forecast is conservative, as we may see further acceleration of AWS or the weakening of the retail sector sooner than expected.

My intrinsic value for Amazon is $200, a terminal multiplier of 30 times based on a more reasonable 2028 price-earnings ratio, while the cost of equity remains at 12%. The price targets for one year and three years are $236 and $292, respectively, based on a price-earnings ratio of 35 times in 2025 and 30 times the price-earnings ratio in 2027.

I think it's still a great opportunity to invest in Amazon today. Overall, Amazon's business continues to be strong. AWS is now shifting into a position of strength, and the accelerated growth of AWS is a key reason to be optimistic about it. There are three clear major trends that will drive the AWS business over the long term. AI will undoubtedly be a key driver of business and will be an important long-term contributor.

Although we are seeing some weakness in the retail business, this is completely normal for the business and does not reflect any deterioration in fundamentals. In fact, Amazon's retail business performed better than its competitors and is still the clear leader in this field.

Finally, after taking all of these factors into account, Amazon's valuation remains attractive, with risk-reward trending upward. Despite some concerns in the marketplace, I'm not worried about Amazon's future.