AMAZON.COM, INC.

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AMAZON COM : Management's Discussion and Analysis of Financial Condition and Results of Operations (form 10-Q)

10/30/2020 | 05:10am


Forward-Looking Statements
This Quarterly Report on Form 10-Q includes forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995. All
statements other than statements of historical fact, including statements
regarding guidance, industry prospects, or future results of operations or
financial position, made in this Quarterly Report on Form 10-Q are
forward-looking. We use words such as anticipates, believes, expects, future,
intends, and similar expressions to identify forward-looking statements.
Forward-looking statements reflect management's current expectations and are
inherently uncertain. Actual results could differ materially for a variety of
reasons, including, among others, fluctuations in foreign exchange rates,
changes in global economic conditions and customer spending, world events, the
rate of growth of the Internet, online commerce, and cloud services, the amount
that Amazon.com invests in new business opportunities and the timing of those
investments, the mix of products and services sold to customers, the mix of net
sales derived from products as compared with services, the extent to which we
owe income or other taxes, competition, management of growth, potential
fluctuations in operating results, international growth and expansion, the
outcomes of claims, litigation, government investigations, and other
proceedings, fulfillment, sortation, delivery, and data center optimization,
risks of inventory management, seasonality, the degree to which we enter into,
maintain, and develop commercial agreements, proposed and completed acquisitions
and strategic transactions, payments risks, and risks of fulfillment throughput
and productivity. In addition, the global economic climate and additional or
unforeseen effects from the COVID-19 pandemic amplify many of these risks. These
risks and uncertainties, as well as other risks and uncertainties that could
cause our actual results to differ significantly from management's expectations,
are described in greater detail in Item 1A of Part II, "Risk Factors."
For additional information, see Item 7 of Part II, "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Overview" of our
2019 Annual Report on Form 10-K.
Critical Accounting Judgments
The preparation of financial statements in conformity with GAAP requires
estimates and assumptions that affect the reported amounts of assets and
liabilities, revenues and expenses, and related disclosures of contingent
liabilities in the consolidated financial statements and accompanying notes. The
SEC has defined a company's critical accounting policies as the ones that are
most important to the portrayal of the company's financial condition and results
of operations, and which require the company to make its most difficult and
subjective judgments, often as a result of the need to make estimates of matters
that are inherently uncertain. Based on this definition, we have identified the
critical accounting policies and judgments addressed below. We also have other
key accounting policies, which involve the use of estimates, judgments, and
assumptions that are significant to understanding our results. For additional
information, see Item 8 of Part II, "Financial Statements and Supplementary Data
- Note 1 - Description of Business and Accounting Policies," of our 2019 Annual
Report on Form 10-K and Item 1 of Part I, "Financial Statements - Note 1 -
Accounting Policies and Supplemental Disclosures," of this Form 10-Q. Although
we believe that our estimates, assumptions, and judgments are reasonable, they
are based upon information presently available. Actual results may differ
significantly from these estimates under different assumptions, judgments, or
conditions.
Inventories
Inventories, consisting of products available for sale, are primarily accounted
for using the first-in first-out method, and are valued at the lower of cost and
net realizable value. This valuation requires us to make judgments, based on
currently available information, about the likely method of disposition, such as
through sales to individual customers, returns to product vendors, or
liquidations, and expected recoverable values of each disposition category.
These assumptions about future disposition of inventory are inherently uncertain
and changes in our estimates and assumptions may cause us to realize material
write-downs in the future. As a measure of sensitivity, for every 1% of
additional inventory valuation allowance as of September 30, 2020, we would have
recorded an additional cost of sales of approximately $265 million.
In addition, we enter into supplier commitments for certain electronic device
components and certain products. These commitments are based on forecasted
customer demand. If we reduce these commitments, we may incur additional costs.
Income Taxes
We are subject to income taxes in the U.S. (federal and state) and numerous
foreign jurisdictions. Tax laws, regulations, administrative practices,
principles, and interpretations in various jurisdictions may be subject to
significant change, with or without notice, due to economic, political, and
other conditions, and significant judgment is required in evaluating and
estimating our provision and accruals for these taxes. There are many
transactions that occur during the ordinary course of business for which the
ultimate tax determination is uncertain. In addition, our actual and forecasted
earnings are subject to
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change due to economic, political, and other conditions, such as the COVID-19
pandemic, and significant judgment is required in determining our ability to use
our deferred tax assets.
Our effective tax rates could be affected by numerous factors, such as changes
in our business operations, acquisitions, investments, entry into new businesses
and geographies, intercompany transactions, the relative amount of our foreign
earnings, including earnings being lower than anticipated in jurisdictions where
we have lower statutory rates and higher than anticipated in jurisdictions where
we have higher statutory rates, losses incurred in jurisdictions for which we
are not able to realize related tax benefits, the applicability of special tax
regimes, changes in foreign currency exchange rates, changes in our stock price,
changes to our forecasts of income and loss and the mix of jurisdictions to
which they relate, changes in our deferred tax assets and liabilities and their
valuation, changes in the laws, regulations, administrative practices,
principles, and interpretations related to tax, including changes to the global
tax framework, competition, and other laws and accounting rules in various
jurisdictions. In addition, a number of countries are actively pursuing changes
to their tax laws applicable to corporate multinationals, such as the U.S. tax
reform legislation commonly known as the U.S. Tax Cuts and Jobs Act of 2017 (the
"U.S. Tax Act"). Finally, foreign governments may enact tax laws in response to
the U.S. Tax Act that could result in further changes to global taxation and
materially affect our financial position and results of operations.
We are also currently subject to tax controversies in various jurisdictions, and
these jurisdictions may assess additional income tax liabilities against us.
Developments in an audit, investigation, or other tax controversy could have a
material effect on our operating results or cash flows in the period or periods
for which that development occurs, as well as for prior and subsequent periods.
We regularly assess the likelihood of an adverse outcome resulting from these
proceedings to determine the adequacy of our tax accruals. Although we believe
our tax estimates are reasonable, the final outcome of audits, investigations,
and any other tax controversies could be materially different from our
historical income tax provisions and accruals.


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Liquidity and Capital Resources
Cash flow information is as follows (in millions):
Three Months Ended Nine Months Ended Twelve Months Ended
September 30, September 30, September 30,
2019 2020 2019 2020 2019 2020
Cash provided by (used in):
Operating activities $ 7,892 $ 11,964 $ 18,855 $ 35,633 $ 35,332 $ 55,292
Investing activities (5,074) (15,876) (20,745) (42,574) (24,317) (46,110)
Financing activities (1,960) (4,105) (6,495) 712 (8,255) (2,859)


Our principal sources of liquidity are cash flows generated from operations and
our cash, cash equivalents, and marketable securities balances, which, at fair
value, were $55.0 billion and $68.4 billion as of December 31, 2019 and
September 30, 2020. Amounts held in foreign currencies were $15.3 billion and
$15.6 billion as of December 31, 2019 and September 30, 2020, and were primarily
Euros, British Pounds, and Japanese Yen.
Cash provided by (used in) operating activities was $7.9 billion and $12.0
billion
for Q3 2019 and Q3 2020, and $18.9 billion and $35.6 billion for the
nine months ended September 30, 2019 and 2020. Our operating cash flows result
primarily from cash received from our consumer, seller, developer, enterprise,
and content creator customers, and advertisers, offset by cash payments we make
for products and services, employee compensation, payment processing and related
transaction costs, operating leases, and interest payments on our long-term
obligations. Cash received from our customers and other activities generally
corresponds to our net sales. Because consumers primarily use credit cards to
buy from us, our receivables from consumers settle quickly. The increase in
operating cash flow for the trailing twelve months ended September 30, 2020,
compared to the comparable prior year period, was primarily due to the increase
in net income, excluding non-cash expenses, and changes in working capital.
Working capital at any specific point in time is subject to many variables,
including seasonality, inventory management and category expansion, the timing
of cash receipts and payments, vendor payment terms, and fluctuations in foreign
exchange rates.
Cash provided by (used in) investing activities corresponds with cash capital
expenditures including leasehold improvements, incentives received from property
and equipment vendors, proceeds from asset sales, cash outlays for acquisitions,
investments in other companies and intellectual property rights, and purchases,
sales, and maturities of marketable securities. Cash provided by (used in)
investing activities was $(5.1) billion and $(15.9) billion for Q3 2019 and Q3
2020, and $(20.7) billion and $(42.6) billion for the nine months ended
September 30, 2019 and 2020, with the variability caused primarily by our
decision to purchase or lease property and equipment and purchases, maturities,
and sales of marketable securities. Cash capital expenditures were $3.4 billion
and $9.8 billion during Q3 2019 and Q3 2020, and $8.7 billion and $21.9 billion
for the nine months ended September 30, 2019 and 2020, which primarily reflect
investments in additional capacity to support our fulfillment operations and in
support of continued business growth in technology infrastructure (the majority
of which is to support AWS), which investments we expect to continue over time.
We made cash payments, net of acquired cash, related to acquisition and other
investment activity of $398 million and $1.7 billion during Q3 2019 and Q3 2020,
and $1.7 billion and $1.9 billion for the nine months ended September 30, 2019
and 2020.
Cash provided by (used in) financing activities was $(2.0) billion and $(4.1)
billion
for Q3 2019 and Q3 2020, and $(6.5) billion and $712 million for the
nine months ended September 30, 2019 and 2020. Cash inflows from financing
activities resulted from proceeds of short-term debt, and other and long-term
debt of $702 million and $1.3 billion for Q3 2019 and Q3 2020, and $1.2 billion
and $14.4 billion for the nine months ended September 30, 2019 and 2020. Cash
outflows from financing activities resulted from payments of short-term debt,
and other, long-term debt, finance leases, and financing obligations of $2.7
billion
and $5.4 billion in Q3 2019 and Q3 2020, and $7.7 billion and $13.6
billion
for the nine months ended September 30, 2019 and 2020. Property and
equipment acquired under finance leases was $3.6 billion during Q3 2019 and Q3
2020, and $9.5 billion and $8.9 billion for the nine months ended September 30,
2019
and 2020, reflecting investments in support of continued business growth
primarily due to investments in technology infrastructure for AWS.
We had no borrowings outstanding under the Credit Agreement, $725 million of
borrowings outstanding under the Commercial Paper Program, and $413 million of
borrowings outstanding under our Credit Facility as of September 30, 2020. See
Item 1 of Part I, "Financial Statements - Note 5 - Debt" for additional
information.
We recorded net tax provisions of $494 million and $569 million in Q3 2019 and
Q3 2020, and $1.6 billion and $2.3 billion for the nine months ended September
30, 2019 and 2020. Certain foreign subsidiary earnings are subject to U.S.
taxation under the U.S. Tax Act, which also repeals U.S. taxation on the
subsequent repatriation of those earnings. We intend to invest substantially all
of our foreign subsidiary earnings, as well as our capital in our foreign
subsidiaries, indefinitely outside of the U.S. in those jurisdictions in which
we would incur significant, additional costs upon repatriation of such amounts.
Tax benefits relating to excess stock-based compensation deductions and
accelerated depreciation deductions are reducing our U.S. taxable income. The
U.S. Tax Act enhanced and extended accelerated depreciation deductions by
allowing
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full expensing of qualified property, primarily equipment, through 2022. Cash
taxes paid (net of refunds) were $241 million and $502 million for Q3 2019 and
Q3 2020, and $692 million and $1.3 billion for the nine months ended September
30, 2019 and 2020. As of December 31, 2019, we had approximately $1.7 billion of
federal tax credits potentially available to offset future tax liabilities. Our
federal tax credits are primarily related to the U.S. federal research and
development credit. As we utilize our federal tax credits we expect cash paid
for taxes to increase. We endeavor to manage our global taxes on a cash basis,
rather than on a financial reporting basis. In connection with the European
Commission's
October 2017 decision against us on state aid, Luxembourg tax
authorities computed an initial recovery amount, consistent with the European
Commission's
decision, of approximately €250 million, that we deposited into
escrow in March 2018, subject to adjustment pending conclusion of all appeals.
Our liquidity is also affected by restricted cash balances that are pledged as
collateral for real estate leases, amounts due to third-party sellers in certain
jurisdictions, debt, and standby and trade letters of credit. To the extent we
process payments for third-party sellers or offer certain types of stored value
to our customers, some jurisdictions may restrict our use of those funds. These
restrictions would result in the reclassification of a portion of our cash and
cash equivalents from "Cash and cash equivalents" to restricted cash, which is
classified within "Accounts receivable, net and other" and "Other assets" on our
consolidated balance sheets. As of December 31, 2019 and September 30, 2020,
restricted cash, cash equivalents, and marketable securities were $321 million
and $275 million. See Item 1 of Part I, "Financial Statements - Note 4 -
Commitments and Contingencies" and "Financial Statements - Note 5 - Debt" for
additional discussion of our principal contractual commitments, as well as our
pledged assets. Additionally, purchase obligations and open purchase orders,
consisting of inventory and significant non-inventory commitments, were $31.4
billion
as of September 30, 2020. These purchase obligations and open purchase
orders are generally cancellable in full or in part through the contractual
provisions.
We believe that cash flows generated from operations and our cash, cash
equivalents, and marketable securities balances, as well as our borrowing
arrangements, will be sufficient to meet our anticipated operating cash needs
for at least the next twelve months. However, any projections of future cash
needs and cash flows are subject to substantial uncertainty. See Item 1A of Part
II, "Risk Factors." We continually evaluate opportunities to sell additional
equity or debt securities, obtain credit facilities, obtain finance and
operating lease arrangements, enter into financing obligations, repurchase
common stock, pay dividends, or repurchase, refinance, or otherwise restructure
our debt for strategic reasons or to further strengthen our financial position.
The COVID-19 pandemic and resulting global disruptions have caused significant
market volatility. This disruption can contribute to defaults in our accounts
receivable, affect asset valuations resulting in impairment charges, and affect
the availability of lease and financing credit as well as other segments of the
credit markets. We have utilized a range of financing methods to fund our
operations and capital expenditures and expect to continue to maintain financing
flexibility in the current market conditions. However, due to the rapidly
evolving global situation, it is not possible to predict whether unanticipated
consequences of the pandemic are reasonably likely to materially affect our
liquidity and capital resources in the future.
The sale of additional equity or convertible debt securities would likely be
dilutive to our shareholders. In addition, we will, from time to time, consider
the acquisition of, or investment in, complementary businesses, products,
services, capital infrastructure, and technologies, which might affect our
liquidity requirements or cause us to secure additional financing, or issue
additional equity or debt securities. There can be no assurance that additional
credit lines or financing instruments will be available in amounts or on terms
acceptable to us, if at all.
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Results of Operations
We have organized our operations into three segments: North America,
International, and AWS. These segments reflect the way the Company evaluates its
business performance and manages its operations. See Item 1 of Part I,
"Financial Statements - Note 8 - Segment Information."
Effects of COVID-19
The COVID-19 pandemic and resulting global disruptions have continued to affect
our businesses, as well as those of our customers, suppliers, and third-party
sellers. To serve our customers while also providing for the safety of our
employees and service providers, we have adapted numerous aspects of our
logistics, transportation, supply chain, purchasing, and third-party seller
processes. Beginning in Q1 2020, we made numerous process updates across our
operations worldwide, and adapted our fulfillment network, to implement employee
and customer safety measures, such as enhanced cleaning and physical distancing,
personal protective gear, disinfectant spraying, and temperature checks. Since
February 2020, we have hired over 250,000 full-time and part-time employees to
increase our fulfillment network capacity. We incurred more than $2.5 billion in
COVID-19 related costs in Q3 2020, for a total of more than $7.5 billion in the
first three quarters of 2020. We will continue to prioritize employee and
customer safety and comply with evolving federal, state, and local standards as
well as to implement standards or processes that we determine to be in the best
interests of our employees, customers, and communities.
As reflected in the discussion below, the impact of the pandemic and actions
taken in response to it had varying effects on our Q3 2020 results of
operations. Higher net sales in the North America and International segments
reflect increased demand, particularly as people are staying at home, including
for household staples and other essential and home products, partially offset by
fulfillment network capacity and supply chain constraints. Other effects in the
North America and International segments include increased cost of sales and
fulfillment costs as a percentage of net sales, primarily due to the impact of
lower productivity, costs to maintain safe workplaces, and increased employee
hiring and benefits.
We expect the effects of fulfillment network capacity and supply chain
constraints, elevated collection risk in our accounts receivable, and increased
cost of sales and fulfillment costs as a percentage of net sales to continue
into all or portions of Q4 2020. However, it is not possible to determine the
duration and scope of the pandemic, including any recurrence, the actions taken
in response to the pandemic, the scale and rate of economic recovery from the
pandemic, any ongoing effects on consumer demand and spending patterns, or other
impacts of the pandemic, and whether these or other currently unanticipated
consequences of the pandemic are reasonably likely to materially affect our
results of operations.
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Net Sales
Net sales include product and service sales. Product sales represent revenue
from the sale of products and related shipping fees and digital media content
where we record revenue gross. Service sales primarily represent third-party
seller fees, which includes commissions and any related fulfillment and shipping
fees, AWS sales, Amazon Prime membership fees, advertising services, and certain
digital content subscriptions. Net sales information is as follows (in
millions):
Three Months Ended Nine Months Ended
September 30, September 30,
2019 2020 2019 2020
Net Sales:
North America $ 42,638 $ 59,373 $ 117,104 $ 160,936
International 18,348 25,171 50,910 66,945
AWS 8,995 11,601 25,072 32,628
Consolidated $ 69,981 $ 96,145 $ 193,086 $ 260,509
Year-over-year Percentage Growth:
North America 24 % 39 % 20 % 37 %
International 18 37 13 31
AWS 35 29 38 30
Consolidated 24 37 20 35
Year-over-year Percentage Growth, excluding the
effect of foreign exchange rates:
North America 24 % 39 % 21 % 38 %
International 21 33 18 32
AWS 35 29 38 30
Consolidated 25 36 22 35
Net sales mix:
North America 61 % 62 % 61 % 62 %
International 26 26 26 26
AWS 13 12 13 12
Consolidated 100 % 100 % 100 % 100 %


Sales increased 37% in Q3 2020 and 35% for the nine months ended September 30,
2020 compared to the comparable prior year periods. Changes in foreign currency
exchange rates impacted net sales by $691 million for Q3 2020 and by $(278)
million
for the nine months ended September 30, 2020. For a discussion of the
effect on sales growth of foreign exchange rates, see "Effect of Foreign
Exchange Rates" below.
North America sales increased 39% in Q3 2020, and 37% for the nine months ended
September 30, 2020 compared to the comparable prior year periods. The sales
growth primarily reflects increased unit sales, including sales by third-party
sellers. Increased unit sales were driven largely by our continued efforts to
reduce prices for our customers, including from our shipping offers, and
increased demand, including for household staples and other essential and home
products, partially offset by fulfillment network capacity and supply chain
constraints.
International sales increased 37% in Q3 2020 and 31% for the nine months ended
September 30, 2020 compared to the comparable prior year periods. The sales
growth primarily reflects increased unit sales, including sales by third-party
sellers. Increased unit sales were driven largely by our continued efforts to
reduce prices for our customers, including from our shipping offers, and
increased demand, including for household staples and other essential and home
products, partially offset by fulfillment network capacity and supply chain
constraints. Changes in foreign currency exchange rates impacted International
net sales by $747 million for Q3 2020, and by $(59) million for the nine months
ended September 30, 2020.
AWS sales increased 29% in Q3 2020 and 30% for the nine months ended September
30, 2020 compared to the comparable prior year periods. The sales growth
primarily reflects increased customer usage, partially offset by pricing
changes. Pricing changes were driven largely by our continued efforts to reduce
prices for our customers.
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