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Amazon.com’s profit woes: Reason to cheer

Amazon.com (Nasdaq: AMZN) shares slumped over 7 per cent after profit fell by more than half. But rather than wallow in the short-term share price hit, Scott Phillips thinks great companies like Amazon should form a sizeable foundation block of a long term portfolio.

In the rush of news about Facebook’s share market listing, another tech titan’s results have been pushed somewhat to the background.

Amazon.com announced its fourth-quarter results earlier this week, and for many analysts and investors, they were disappointing.

The good news: revenue jumped by one-third to almost US$17.5 billion.

The not so good: profit fell by more than half to US$177 million.

The ugly: Amazon may post an operating loss (on their own estimates) of up to US$200 million in red ink. The result was a share price that fell as much as 12 per cent during the next trading day, before finishing down around 7.5 per cent.

On first blush, you might be tempted to dismiss the idea of Amazon as a serious yardstick. After all, anyone can get sales growth if they’re prepared to sacrifice margins, right? On one level, that assessment is spot on – and why we should approach the company carefully. On closer inspection, though, I think Amazon is a company worth learning from.

Destroy the village to save it
If you remember back to the earliest days of the brave new world of ecommerce, Amazon had a bold goal – to be the world’s largest bookstore.

Over time, the company built a strong – probably unassailable – lead in book retailing. Other book stores were downsizing or closing, and Amazon’s advantage continued to grow.

In that context, the traditional approach is to defend your turf at all costs; fortify the business against other competitors, and do everything you can to enhance your position.

Rather than hunkering down, however, Amazon set out to destroy its own business. Reading the tea leaves, they believed eReaders were likely to be the future of books. Rather than swim against the tide (the strategy that has taken Eastman Kodak into bankruptcy protection and threatened film and music studios), Amazon CEO Jeff Bezos embraced the future.

In hindsight, the decision seems easy and logical, yet in the heat of competition it is incredibly difficult to make. Most companies cling to their existing business models in the hope of saving them – but end up bringing themselves down in the attempt. Amazon had the foresight and the belief to redefine its market, and back itself to win.

It’s the challenge facing Harvey Norman Holdings Limited (ASX: HVN), JB Hi-Fi Limited (ASX: JBH) and Myer Holdings Limited (ASX: MYR) as they confront the threat of online retail.

Focus on the long term
Amazon is also prepared to invest for the long term. Despite the hugely impressive sales growth thus far, the company refuses to rest on its laurels. It keeps innovating with iterations of its basic eReader – the Kindle – and has taken a bold step into both tablet computing and content streaming with its new colour tablet, the Kindle Fire.

Amazon also now provides downloads of games, software and videos as well as applications for the Android mobile device operating system, and is utilising its infrastructure to provide online file storage in the ‘cloud’.

Investment in these areas is a large part of the reason top-line growth isn’t translating to bottom line results just yet. Bezos knows that to be successful in the long term, he needs to stake out his ground in what is still a very young retailing channel.

The strategy of investing now for growth to come is the one Woolworths Limited (ASX: WOW) is pursuing with its costly roll-out of the Masters home improvement chain, and the path Billabong International Limited (ASX: BBG) is treading with its move into running its own stores. Time will tell how successful each will be.

Know what you believe
One of the things that sets Amazon apart is that each year’s annual report includes a reprint of its very first letter to shareholders from 1997.

In that 1997 letter (when revenue was only US$150 million), Jeff Bezos spelt out Amazon’s approach. The content of that letter is too long to reproduce here, but the concepts of investing for the long term, relentlessly focusing on the customer and making big bets when the probability of success is in its favour are outlined in black and white – as is the value of the company’s employees.

Foolish take-away
Amazon is a wonderful example of a company with a superior business model that it combines with passionate, driven leadership and a clear focus on what it needs to do to be successful in the long term.

I’m not sure about you, but I’ll happily sacrifice a few percentage points from the share price of a company I own today, if the chances are high that the sacrifice will pay back many times over in 5 or 10 years from now.

In my view, Amazon is one such company, and an exemplar of the sort of businesses that should form a sizeable chunk of a long term portfolio.

Are you looking for quality stock ideas? Motley Fool readers can click here to request a new free report titled The Motley Fool’s Top Stock For 2012.

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Scott Phillips is The Motley Fool’s feature columnist. Scott owns shares in Amazon.com, Harvey Norman and Woolworths, and you can follow him on Twitter @TMFGilla. The Motley Fool’s purpose is to educate, amuse and enrich investors. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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