Written by Alex Hughes, International Analyst
We have spent some time looking into Amazon (AMZN.OQ) recently. While we will share most of our thoughts in our research report for the business, a particular aspect of Amazon was so relevant that I felt it needed to be discussed separately.
Amazon has achieved success for a number of reasons, such as focusing on the customer and a culture of innovation. However, it seems that the most important factor is Amazon’s unrelenting focus on the long term, stemming from the vision of founder, Jeff Bezos.
amazon.com was founded in 1995 and it was not until 2001 that it reported its first quarterly profit. Instead of capitalising on its initial success by distributing free cash to shareholders, Amazon continued expanding into ever broadening areas of retail and distribution, before entering the entirely new field of IT with its revolutionary Amazon Web Services (AWS) concept. It is yet to pay a dividend and despite being dominant in many areas, Amazon’s reinvestment into new areas masks its underlying profitability. The following quote from Amazon’s first annual report sums up their approach nicely:
“We will continue to make investment decisions in light of long-term market leadership considerations rather than short-term profitability considerations or short-term Wall Street reactions.”
The proof is in the pudding as despite generating only $2.5 billion of profits over its entire 20 year life, Amazon trades for $257 billion today. This is $41 billion bigger than Walmart, the retailing incumbent that has reported upwards of $217 billion of profits since 1984 (and more before that). The market obviously sees a lot of latent earnings power in Amazon.
The difference in Amazon’s approach becomes even starker when we compare it to what the average US business is doing with its capital today. For the most part, US managers have largely stepped away from capital investment, instead preferring buybacks and mergers and acquisitions to achieve per share growth. We suggest this reflects a bias towards achieving short term results in an uncertain world. The poster child of this short term approach has been IBM (IBM.N), which has reduced its R&D and maintained large debt funded buybacks despite operating in the rapidly evolving and highly competitive tech space. Legendary investor, Stanley Druckenmiller recently highlighted how important Amazon and IBM perceive meeting quarterly earnings as an example of where each company’s focus lies:
“The last 19 quarters, Amazon has missed their quarterly earnings nine times. They don’t give a damn. IBM has missed three quarters since 2006. They really care about their quarterly earnings.”
Figure 1. Price Chart: Amazon vs IBM
Source. Google Finance
IBM has its work cut out for itself, as it is up against a competitor that ignores short term results on its quest for long term domination. Amazon is willing to delay gratification by investing heavily in long term payoffs, perhaps the most important driver of its success. This gives an enormous advantage over competitors like IBM, who are unwilling to invest as much in R&D, and are unable to be as patient.
“If everything you do needs to work on a three-year time horizon, then you’re competing against a lot of people, But if you’re willing to invest on a seven-year time horizon, you’re now competing against a fraction of those people, because very few companies are willing to do that. Just by lengthening the time horizon, you can engage in endeavours that you could never otherwise pursue. At Amazon we like things to work in five to seven years. We’re willing to plant seeds, let them grow—and we’re very stubborn. We say we’re stubborn on vision and flexible on details.”
We think this is important because the same focus on short term results is highly prevalent in investment markets today.
Just like how Buffett suggests you should be greedy when others are fearful, in a world obsessed with immediate payoffs, perhaps the most intelligent and profitable thing an investor can do is focus on longer term payoffs. If everyone seeks to hold assets that will do well in the next 6 months, while shunning what will do well in 2 years, then the longer term payoffs are more likely to offer the highest risk adjusted returns.
In the highly competitive world of investing, perhaps the biggest edge an investor can get is a long term focus. So next time you consider an investment, ask yourself:
“Am I thinking like Amazon or IBM?”
Written by Alex Hughes, International Analyst