The 25th of March 2009, we wrote:

DCF modelling: current balance sheet strong. Financial gearing very low. Also Goodwill is low. The 13th of February, S&P upgraded Amazon's credit rating to investment grade.
As you can see from the DCF sheet, the cash conversion is high and the capital intensity low because Amazon is managing it's working capital very, very efficiently.
Amazon clients pay first, after which Amazon pays its supplier. This way, accounts payable has become a big item for Amazon.com and ROIC is very high.

P&L: in historic perspective revenue growth of 20% is conservative, but absolutely a 20% CAGR for revenues is immense as is the 12% perpetuity growth rate).
For an assessment also see the last lines and graphs of the simulation sheet.
I think for the next 3 years the market is more conservative regarding the growth perspective of Amazon. Margins forecast neutral and again the market risk premium for the DCF calculation
is very conservative with a current market risk premium of 8%.
In general regarding the forecast lines, the calculation is straightforward: we used the ratios of the last historical year or the median of the 10yr history.
We think this is a very well applicable regarding a homogeneous business which is growing on an autonomous base.



SIMULATION and SENSITIVITY
Margin improvement a strong factor driving the target price after the market risk premium.
If Amazon manages to keep up its pants through the recession, and the market risk premium normalizes to e.g. 6%, it might be a profitable investment.
We're curious how well the operational leverage is playing out regarding the margins. All in all, if you grow your business +10% every year, this should help the margins.
Having said that, from a current perspective we don't see why to become much more aggressive regarding the markets than the 10yr average forecast of 4.7%.
This is a clear improvement from the margins of the last three years (3,6%, 4.4% and 4.4%). Also, new business development will pressure aggressive margin development.

Again, conservative (high) forecasts for the market risk premium (8%). We refer to the equity market risk premium with respect to the discounted market earnings in equilibrium with the current market valuation. This is an ex-ante approach which we prefer to use in forecasting models.
We do expect however that it is not realistic to assume a return of the market risk premium to pre-crisis levels (2-5%), because of the changing credit supply and risk perception. Also the default risk in general has increased significantly.

All in all reading the sheets we see a very, very profitable business and a very profitable business model. We wouldn't say Amazon is deeply undervalued or an investor wonderstory.
We also see a lot of growth and profits in the future, but so does the market. Ofcourse this is our personal point of view. Please, use the sheet in line with your own convictions.

20th January 2010:

With the knowledge we have now regarding the decline of the ex-ante market risk premium from 8%  (march 2009) to 4.7% now (January 2010), we adjusted the WACC input accordingly. To no surprise, this results in a noticeable surge in the target price/value per share. The surge is in line with expectations derived from the SENSITIVITY analysis (see SENSITIVITY worksheet)  we ran in march 2009 (correct for the 30bp increase in the riskless debt yield).

Above all, while it’s hard to forecast the future development of the market risk premium, we have used a methodology to derive the impact of a possible movement.
Please be aware that Amazon.com results and the market risk premium are not correlated (in the latest crash situation). Otherwise a back to normal movement in the market risk premium would have been accompanied by a lowering of the earnings estimates. The SENSITIVITY analysis does show the trade off between market risk premium and company results vs target price.

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