Third-Party Growth Has Made Amazon.com, Inc. Stock A Less Risky Investment

Amazon.com (NSDQ:AMZN) stock has been on a tear, gaining close to 18% over the past two weeks since the company delivered impressive Q1 2016 results where the company beat analyst estimates on both the top and bottom line. Amazon reported revenue of $29.13B, good for a robust 28.2% Y/Y growth while EPS of $1.07 was a massive improvement compared to EPS of -$0.12 the company posted in the previous year’s comparable quarter. This marked the fourth consecutive quarter that Amazon has been in the black after years of losses and occasional thin profits.

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Amazon has its cloud services AWS, to thank for its recent run of profits. AWS posted revenue of $2.57B, up 64% Y/Y while the segment posted an operating profit of $604M, up a robust 210% Y/Y. It’s important to note that AWS contributed just 8.8% to Amazon’s top line but an impressive 56.4% of the company’s operating income. With AWS growing so fast and supplying the bulk of its profits, it’s perhaps safe to say that Amazon’s days as a loss-making business are now behind it.

Third-Party Growth Feeds Into The Long-Term Investment Thesis

While much of Amazon’s profitability can be traced to its AWS cloud, there is another equally healthy trend in Amazon’s business that investors tend to overlook: third-party (3P) business outgrowing first-party business. Five years ago, Amazon was a predominantly a first-party e-commerce business with the company directly handling 64% of all customer orders. Right now that has fallen to just 52% with 48% of Amazon’s retail business coming from third-party sellers on its website. Fulfillment by Amazon grew to cover 38.2% of third-party orders in Q1, up from 32.1% a year-ago.

An e-commerce company that is heavily reliant on first-party business faces a much higher inventory risk due to its goods becoming stale or even obsolete in the case of technology products and electronics. Third-party margins also tend to be much better than first-party margins. One reason why this is the case is because it allows large businesses such as Amazon to utilize their warehouses, fulfillment centers and other logistics much more efficiently thus leading to a higher return on investment.