One of the primary companies that investors are worried about getting severely hurt by tariffs is Amazon (NASDAQ: AMZN). Amazon is the world’s largest online retailer, and a large chunk of its goods come from China, which currently has a sky-high tariff rate. If this cost is passed onto the consumer, these goods may not be purchased anymore, which would hurt Amazon’s retail sales.
However, I don’t think that’s the correct metric to use when assessing Amazon’s prospects, as the sale of goods doesn’t make Amazon a ton of money. Instead, I’d challenge investors to examine where the profits come from. After doing that, it’s clear that Amazon will be just fine, even if the brewing trade war drags on.
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Over the past 12 months, Amazon’s three divisions have produced the following revenue and operating profits:
Division | Revenue | Operating Profit |
|---|
North America | $387.5 Billion | $25 Billion |
International | $142.9 Billion | $3.8 Billion |
Amazon Web Services | $107.6 Billion | $39.8 Billion |
Data source: Amazon.
This brings up an interesting point: Despite Amazon Web Services (AWS) generating only 17% of revenue, it made up 58% of its operating profits. That’s because the margins on this business are far superior to the two commerce divisions.
So, will tariffs affect Amazon’s cloud computing wing? Maybe.
Cloud computing workloads are very sticky and don’t tend to be shut off after they are turned on. Additionally, there is still an ongoing AI arms race, which needs computing power from data centers to train and run these models.
However, if their clients start getting a bit more conservative with their spending, AWS’s growth may slow down. That’s what could be happening right now, as a Wells Fargo report stated that Amazon has paused some of its data center lease commitments. This is contrary to what Amazon CEO Andy Jassy stated a few weeks ago, as he didn’t expect to slow any data center buildouts at that time. We’ll likely learn more about this situation on May 1, when Amazon reports its quarterly earnings, but until then, we’ll have to be patient.
Another factor in Amazon’s profit picture is how much it makes from advertising. Advertising services have grown to become a large chunk of Amazon’s revenue picture, making up 15% of Amazon’s total revenue in Q4. Unfortunately, Amazon doesn’t break out the specific operating margin for this segment, as it lumps it into the North American and International segments. So, we’ll just have to speculate.
If you look at advertising-focused companies that have a similar scale to Amazon’s ad service, like Alphabet (NASDAQ: GOOG) (NASDAQ: GOOGL) and Meta Platforms (NASDAQ: META), you’d get a good idea of what level of operating margins Amazon’s ad division could produce. Over the past 12 months, Alphabet and Meta Platforms delivered 32% and 42% operating profit margins, respectively. If Amazon’s ad business produced a 30% operating margin, then it would have generated about $5.2 billion in operating profits, or about half of what AWS generated. While there’s no rock-solid information to confirm that figure, it’s likely a pretty accurate estimate.
This means that a large chunk of Amazon’s operating profits come from ad services and AWS, not direct commerce sales.
Advertising could be affected by an economic slowdown, as companies tend to slash ad budgets in the face of one. However, this may not come to fruition, as some companies may launch new products produced in other countries, so advertising will be necessary to make consumers aware of them.
Regardless of how tariffs shake out, Amazon isn’t going to collapse because of them. While revenue may take a slight hit, most of its profits will be fine, and that’s the metric that investors care most about. As a result, I think investors can confidently buy shares of Amazon, as it will be just fine over the long term.
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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Wells Fargo is an advertising partner of Motley Fool Money. Keithen Drury has positions in Alphabet and Amazon. The Motley Fool has positions in and recommends Alphabet, Amazon, and Meta Platforms. The Motley Fool has a disclosure policy.
Will Tariffs Crush Amazon? Here’s 1 Metric That Says It Will Be Just Fine was originally published by The Motley Fool
