Amazon: Cash Flows Look Muddy, What It Means For Investors (NASDAQ:AMZN)

Thesis

Amazon’s (NASDAQ:AMZN) FY21 negative free cash flow figures have raised some eyebrows after over 10 years of positive free cash flows accompanied by impressive growth. However, Amazon’s FY21 results may not be as bad as they appear. I’m going to break down Amazon’s FY21 financial results and what it could mean for the company and its investors moving forward.

(Note: All financial data is sourced from ycharts.com)

There’s More To Amazon’s Free Cash Flow Than Meets The Eye

To begin, free cash flow is calculated by subtracting capital expenditures from operating cash flow. In the case of Amazon, capital expenditures have increased significantly, and operating cash flow is down roughly $20 billion from FY20. As a result, Amazon posted FY21 free cash flow of ($14.73) billion, down $40.65 billion from FY20’s free cash flow of $25.92 billion.

Amazon posted significantly higher capital expenditures (CAPEX) in FY21 compared to FY20. CAPEX in FY21 came in at $61.05 billion up roughly $21 billion compared to FY20’s CAPEX of $40.14 billion. The good news is that these expenses are tied to Amazon’s initiative towards continued growth. Per Amazon’s CFO, Brian Olsavsky, roughly 40% of the increased expenditures are being apportioned to the growth of AWS, 30% towards building warehouses to expand fulfillment capacity, 25% towards building out the AMZL transportation network, and 5% towards smaller initiatives such as stores and offices. Considering Amazon’s growth track record, the increase in CAPEX shouldn’t merit much concern yet.

Operating cash flow for FY21 came in at $46.33 billion, down roughly $20 billion from FY20’s figure of $66.06 billion. As I look at the statement of cash flows, this loss appears to be a result of an increase in inventories and a deficit in other non-cash items. Amazon’s FY21 inventories are up $9 billion and other non-cash items are reflecting an $11 billion deficit from FY20.

With CAPEX’s up $21 billion, inventories up $9 billion, and other non-cash items posting a deficit of $11 billion, the figures add up to $41 billion, quite close to the $40.65 billion decrease seen in Amazon’s free cash flow figures between FY20 and FY21. Amazon also cited shorter payable and longer receivable cycles as a negative resultant on cash flows.

While the decrease in operating cash flow and free cash flow may appear to be a red flag, 75% of the capital is being used for growth. Amazon has likely produced the most impressive growth the broader market has ever seen, and while FY21’s financial results may not look flawless they indicate Amazon believes there is still more room for growth. Furthermore, Jeff Bezos and Amazon’s current corporate leadership are adamant about free cash flow generation; just read this remark from Jeff Bezos in Amazon’s FY20 annual report.

“When forced to choose between optimizing the appearance of our GAAP accounting and maximizing the present value of future cash flows, we’ll take the cash flows.”

Amazon’s Balance Sheet Is Still Healthy

Amazon’s balance sheet still appears to be quite healthy. Cash and marketable short-term investments, debt-to-assets, debt-to-equity, and shareholder holder equity all look good. Additionally, total assets are growing much faster than total liabilities.

• Cash and marketable short-term investments came in at $96.05 billion in FY21, up 21.6% from FY20.
• Debt-to-assets sits as 11.59%, up 16.9% from FY20, but still very healthy.
• Debt-to-equity sits at 0.3526 in FY21, up from 0.3406 in FY20. Considering Amazon’s size and growth I find this to be very favorable.
• Shareholder equity came in at $138.24 billion in FY21, up 48% from FY20.
• Total assets in FY21 came in at $420.55 billion, up 30.93% from FY20
• Total liabilities in FY21 came in at $282.30 billion, up 23.92% from FY20.

Amazon has plenty of cash on hand that can and likely will be put to good use. Both debt-to-assets and debt-to-equity are at very healthy levels. In fact, Amazon’s debt ratios are a testament to how well the company utilizes its assets to generate shareholder equity. Talking about shareholder equity, Amazon has generated a plethora of it. As mentioned above, shareholder equity is up 48% from FY20 and is up over 100% from FY19. Aside from Rivian Amazon has generated its shareholder equity organically which is favorable when considering the amount of shareholder equity that is tied to intangible assets and goodwill that can face impairment charges with many other companies. Amazon also has far more assets than liabilities, and its asset growth is well outpacing liability growth.

The metrics addressed above should help investors understand that Amazon’s muddy free cash flow figures in FY21 aren’t indicative of a storm ahead. Even though Amazon posted negative free cash flow for the first time in over a decade, the company still has plenty of cash on hand. The debt ratios demonstrate that Amazon is in no financial danger at all and is very operationally efficient. Assets are growing faster than liabilities, and this all ties into the free cash flow picture as Amazon is still geared towards additional growth.

Conclusion

In conclusion, I don’t think Amazon’s FY21 free cash flow figures are indicative of trouble ahead. Amazon has a track record of success, and the majority of the free cash flow shortfalls in FY21 are tied to growth initiatives. Whether you’re an Amazon shareholder or not, the stock holds a high premium. Amazon still has potential for more growth, especially with AWS, its most profitable line of business. The success Amazon continues to exhibit prevents me from recommending investors to sell or trim their positions. Nevertheless, when analyzing standard valuation metrics, I have a hard time recommending investors to buy Amazon at current price levels. I urge investors to always be cautious, especially when it comes to stocks with premiums like Amazon’s. However, Amazon’s FY21 free cash flow shortfalls are a result of growth initiatives. Based on the trajectory Amazon has been on for some time, this likely means good things for the company and its investors.