$AMZN 2Q random thoughts

Investment Analysis Clubs Liquid Lounge
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  • AWS is now a $169 billion annualized revenue run rate business
  • Our backlog stands at $496 billion, growing triple digits year-over-year.
  • Chips and AI each are $25 B revenue run rate
  • two leading AI labs in the world, Anthropic and OpenAI, making multi-year, multi-gigawatt commitments to Trainium
  • In the call, Andy also explained the depreciation cycle… Actual quotes…

There are two major parts of the investment, the data centers and the servers and networking equipment that go into them. … Data center capital is spent starting two years before we can put servers … Once a data center opens with servers plugged in, we start generating significant revenue right away and then get to monetize these data centers for 30-plus years …
For servers and networking equipment, on average, it takes a little less than three years to break even on that investment. The servers currently have a useful life of at least five to six years, and most of our AI capacity these days is being contracted for at least five-year terms. That means that we’re driving significant free cash flow on the servers and networking equipment in the two to three years after we break even.
…AWS has a strong track record of pulling forward break evens on server equipment where we’ve already made meaningful progress and finding ways to extend the useful life of this equipment without sacrificing customer experience. … when demand is necessitating so many data centers being built simultaneously in advance of when we can start monetizing them, we’ll spend a lot of CapEx and encounter free cash flow headwinds until these data centers come online, can be monetized, and we get a few years into these servers being utilized… we will spend approximately $220 billion in cash CapEx in 2026. The higher cost of memory pushing this number up from our prior estimate of about $200 billion. …we will still not have enough capacity to meet all the demand we have in 2026, and I believe this dynamic will also be true in 2027, too…We long believed AWS could become a few hundred billion-dollar revenue business and now believe it’ll be at least double that, and very possibly be a trillion-dollar annual revenue business for us in time, with very appealing accompanying free cash flow and return on invested capital

  • The key takeaways from that is DC has 30 year useful life, thus 30 year depreciation cycle and servers have 5 to 6 year useful life, thus 6 year depreciation cycle
  • Some of the neoclouds use much longer, like 9 year, depreciation cycle. This is highlighted by others most notably, Jim Chanos.
  • AI driven capex will be similar or slightly higher in 2027; That’s $AMZN will be FCF negative, and while the current server buildout is contracted out… if the demand doesn’t show up, DC depreciation will impact the GAAP profit but will juice up FCF
  • Andy basically projects AWS will be $400 ~ $500 B in revenue and could get to $1 T… WOW… Separately, how many $1T business AI cap support?
  • 85% of the global IT spend is still on premises. That equation is going to flip in the next 10 to 20 years. i.e., outside of AI, cloud business will continue to grow
  • in 2Q AWS had 39.34% operating margin, they are expecting that margin profile to continue, give or take few % points
  • On capacity build, I think we’re still in the relative early stages of how much demand there’s going to be for AI.
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Now wall street is taking this comment on conference call seriously, and start building models for pathway to achieve this.
Morgan Stanley came out with a report titled… AWS’s Path to $1 Trln of Revenue and How AMZN Shares Can Double

There are many significant challenges to get there.

  1. Capacity, DC, power, and # server capacity are at least 6x
  2. To build 6x capacity will require huge capex; How $AMZN is going to finance this?
  3. Regulatory challenges; Who is going to pay for power, how the cost for grid construction is going to be shared, what kind of additional regulatory hurdles to cross, like noise, water, etc.

Recently, in Gilroy, CA, where AMZN had prior approval about 2 years ago for a DC, when the construction started, the citizens became aware of the approval and started opposing it.

  1. Lastly, compelling usecase for the enterprise to continue to invest in AI, and consume huge compute, and other AI tools. Note: AI growth is expected to be exponential compared to cloud.
  2. On the above point, Anthropic had 10x growth for 3 years… and today at $100 B runrate, would require them to do $1T by 2027… these numbers are mind boggling and what point the laws of large numbers will come into play… When Anthropic and OpenAI slows, how that will impact AWS’s of the world??

In any case, even if AWS manages $400~$500 B revenue, current share price will look cheaper. The stock could easily double on AWS strength alone.

We miss the erstwhile Berkshire crowd to throw some cold water and declare how these AI frontier companies are funded by VC’s and subsidizing the customer, and the bigger revenue means bigger loss, warn about circular financing and the new NVDA partnership is nothing but GFC for AI… and lastly $AMZN is worth < $5

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I recall the days when people worried computers would kill demand for paper. Then they realized computers printed lots on quality paper.

The same seems to be true of data storage. Quantities continue to grow. And who ever throws it away. Better have a backup.

Seems like the cloud will continue to grow long term. Unless there’s a major technology change.