Is Online Retail a Value Investment?

Perhaps it is time for us to reconsider online retail as a potential value investment. There are some online retailers that are beginning to display some of the attributes of a classic value stock.

The most intriguing of these is the best known online retailer, Amazon.com (NASDAQ: AMZN). Even though it is terribly overpriced—shares were trading at $454.74 (€411.99) in morning trading on July 13, 2015—Amazon has one obvious value characteristic: float. Float is a stream of income that a company does not have to spend immediately, so it can be spent elsewhere; for example, to fund expansion or pay down debt.

Two classic examples of float are insurance policy premiums and newspaper subscriptions, both of which Warren Buffett tapped extensively while building his Berkshire Hathaway (NYSE: BRK.H) empire. In recent years, Amazon may have accumulated a great deal of float with its Prime subscription service.

How Amazon Generates Float

Prime customers pay $99 (€89.70) a year for a package of benefits that includes unlimited streaming video, Free Two-Day Shipping on many purchases and free access to the Kindle Owner’s Lending Library. Royal Bank of Canada (RBC) analyst Mark Mahaney estimated that Amazon had 30 to 40 million Prime subscribers in the United States alone and another 20 to 30 million worldwide, Geek Wire reported. That would make for a total of 50 to 70 million Prime subscribers who would generate a lot float.

Mahaney surveyed 4,000 Amazon customers and discovered that around 37% were Prime Members, Re/Code reported. Amazon’s spokespeople have simply stated that there are “tens of millions of Prime customers.”

If these numbers are accurate, Amazon could be making $2.97 billion (€2.69 billion) to $3.96 billion (€3.59 billion) from U.S. Prime subscriptions alone. These numbers are just estimates because Amazon does not release detailed figures about Prime subscriptions.

The situation is also complicated by the different classes of Prime subscriptions. For example, we do not know how many of these Prime members have student subscriptions, which cost $49 (€44.40) a year. Nor do we know how many people have Amazon Fresh subscriptions; Fresh is a service that allows customers to order produce and other groceries through Amazon.com, which costs $299 (€270.91) a year.

The amount of float Amazon is generating must be substantial because news reports indicate that its biggest competitor in North American ecommerce, Walmart Stores Inc. (NYSE: WMT), is planning to launch its own subscription delivery service called ShippingPass that would offer free delivery for $50 (€45.30) a year.

Another reason why Walmart wants to imitate Prime is that Prime members may spend a lot more than regular Amazon.com customers. RBC analysts estimated that Prime customers spend 2.3 times more on the ecommerce site than regular customers.

A Value Play in Online Retail

This could make Walmart an excellent value play in online retail because its stock was trading at $73.87 (€66.93) a share on July 13, 2015. Walmart has been investing heavily in online retail for some time.

The retailer will spend between $194 million (€175.77 million) and $291 million (€263.66 million) on ecommerce infrastructure this fiscal year, Internet Retailer reported. It is easy to see why Walmart is investing in ecommerce; its online sales grew by 17%, while its TTM revenue shrank by -.12% in the first quarter of 2015.

The investment includes upgrades to Walmart.com and other ecommerce sites, improved mobile apps and construction of new fulfillment centers to improve delivery of orders in 10 countries, Internet Retailer reported. Walmart is also planning to counter Amazon.com’s Prime Sales Event, scheduled for July 15, with a massive sale of its own and reduced costs for shipping, USA Today reported.

The financial numbers certainly show that Walmart is an undervalued stock. Data provided by Ycharts indicates that on April 30, 2015, the retail giant reported a market capitalization of $237.9 billion (€215.55 billion), an enterprise value of $276.85 billion (€250.84 billion), a net income of $16.11 billion (€14.60 billion) and a TTM revenue of $485.52 billion (€439.90 billion). Amazon had a market capitalization of $211 billion (€191.18 billion), an enterprise value of $201.01 billion (€182.12 billion), a net income of -$406 million (€367.86 million) and reported a TTM revenue of $91.96 billion (€83.32 billion) on March 31, 2015.

Walmart investors enjoyed a dividend yield of 2.63%, a return on equity of 20.77% and an earnings per share ratio of 4.971, Ycharts indicated. In contrast, Amazon paid no dividend and offered investors a return on equity of -3.84% and an earnings per share ratio of -.8798%.

Those looking for a value investment in online retail would be well advised to take a look at Walmart. Its ecommerce operations have not been as prominent as those of Alibaba Group Holding (NYSE: BABA) or Amazon, but they are growing fast. More importantly, Walmart, unlike Amazon, is making money and returning some of that cash to investors.

Some Other Value Plays in Online Retail

There are some other intriguing value plays in online retail, including the Chinese giant, Alibaba. Alibaba was trading at $82 (€74.30) a share, yet YCharts.com reported that its revenue was growing at a rate of 41.68% on March 31, 2015; Amazon’s was growing at a rate of 15.08% on the same day.

Alibaba also reported a market capitalization of $203.81 billion (€184.66 billion), an enterprise value of $190.48 billion (€172.58 billion), a net income of $3.91 billion (€3.54 billion) and a TTM revenue of $12.33 billion (€11.17 billion) on March 31, 2015, according to YCharts.com. This makes Alibaba a potential value investment because it is making money while Amazon.com is not.

Alibaba also did a lot better for investors; the Chinese retailer paid no dividend, but it did provide an earnings per share figure of 1.589 and a return on equity of 24.54%. That makes Alibaba more of a value investment than Amazon because it does generate income.

There is one online retailer I would stay away from right now: eBay Inc. (NASDAQ: EBAY). We simply do not know what will happen to eBay or how its stock will do once its split from PayPal Holdings (NASDAQ: PYPL) becomes final. Although, one thing is clear: eBay will be a lot smaller once PayPal is gone.

PayPal generated 44%, or $7.96 billion (€7.21 billion), of eBay’s revenues, according to this eBay document. That means eBay’s revenues, which were $18.09 billion (€16.39 billion) on March 31, 2015, according to YCharts, will be cut to $10.13 billion (€9.18 billion) once the spinoff is complete. We will have to wait until eBay reports its first financials as a standalone company to see how much it is really worth.

There is some value in online retail, but it is not in Amazon.com. Currently, Walmart appears like the best value in the sector, while Alibaba is a potential investment because of its ability to make money. Online retail could become a real value investment once companies in the sector figure out how to generate significant amounts of float and maintain it.