AWS shows no improvement, retail has concerns, does Amazon need to crouch before it can leap?

$Amazon(AMZN.US) announced its Q2 2025 financial results after the U.S. stock market closed on July 31, Beijing time. However, Amazon did not continue the strong momentum of Microsoft and Meta from the previous day, delivering results that significantly exceeded expectations.

Although overall revenue and profit were better than expected, the core indicators were mixed. Concerns about the potential gradual impact of tariffs on the retail business have not dissipated.

Specifically:

1. AWS growth remains unimpressive, with unexpected decline in profit margins: Similar to Microsoft's situation, AWS's growth rate is currently the most important single indicator for Amazon.

However, AWS's revenue for this quarter increased by 17.5% year-on-year (with a similar growth rate at constant exchange rates), showing very limited acceleration compared to the previous quarter and not significantly exceeding the market expectation of 17%.

Compared to Azure's strong continuous acceleration, AWS, which has seen its growth rate stagnate for six consecutive quarters, is clearly lagging. According to Wall Street analysts, the insufficient computing power supply of AWS remains the main bottleneck limiting its growth rate.

Additionally, due to a 2.6 percentage point year-on-year contraction in operating profit margin, AWS's operating profit for this quarter was nearly 7% lower than expected. The announcement did not explain the reasons for the significant decline in profit margin, but Dolphin Research believes that the increase in Capex and depreciation, as well as the substantial growth in R&D expenses this quarter, should be the main reasons.

2. Retail remains resilient, with profits far better than feared: In contrast, the performance of the broad retail segment this quarter was quite good. Total revenue for this quarter increased by 12% year-on-year, significantly accelerating from 7% in the previous quarter.

This quarter saw a slightly more than 1 percentage point favorable exchange rate effect, with similar performance in North America and international regions. The actual growth rate and trend after excluding exchange rate effects were basically the same.

Profit performance exceeded expectations, with retail business profits in North America and international regions exceeding expectations by approximately $1.9 billion and $700 million, respectively.

Profit margins also continued to improve sequentially, contrary to previous guidance suggesting potential stagnation or even sequential contraction.

3. Among the sub-segments, Amazon's advertising business revenue for this quarter increased by nearly 23% year-on-year, with a sequential acceleration of over 5 percentage points, significantly exceeding market expectations.

Considering the performance of Google and Meta, it seems that advertising growth was generally good in the second quarter. A large part of the profit from Amazon's broad retail business comes from advertising revenue, which partly explains why the retail segment's profit was significantly higher than expected this quarter.

4. This quarter's strong profitability is attributed to gross profit improvement, with expenses exceeding expectations.

Specifically, this quarter's gross margin expanded by 1.7 percentage points year-on-year, with actual gross profit exceeding expectations by a full $9.1 billion.

Dolphin Research believes that the better-than-expected improvement in gross margin is likely mainly due to the strong growth of high-margin businesses such as advertising and favorable exchange rates.

Expenses outside of R&D and content were almost entirely in line with expectations, but R&D and content expenses increased by 22% year-on-year, exceeding market expectations by $2.5 billion, dragging down AWS's profit.

5. This quarter, Amazon's Capex surged to $32.1 billion, an increase of $6.2 billion sequentially, reaching a historical high.

Due to Amazon's relatively late push in this round of AI investment cycle, unlike Microsoft's Capex growth rate which has begun to moderate, Amazon is currently in a peak and ramp-up period of investment.

Pay attention to the conference call regarding the allocation of such massive investments between the retail and AWS segments.

6. For the next quarter's performance guidance, the company expects revenue in the range of $174 billion to $179.5 billion, with the midpoint slightly above market expectations, implying a year-on-year growth of 9%, which is a certain slowdown compared to this quarter.

The exchange rate has a favorable effect of about 1.3 percentage points, similar to the favorable effect this quarter.

On the profit side, the guidance for next quarter's operating profit is $15.5 billion to $20.5 billion, with the upper limit slightly below the market expectation of $17.7 billion. If viewed at the midpoint, it is significantly lower than the market expectation of $19.4 billion. However, given the company's actual performance is generally closer to the upper limit, it is not considered a particularly big issue.

The midpoint implies an operating profit margin of 10.2%, lower than this quarter but still slightly improving year-on-year. If viewed at the upper limit of the guidance, the implied profit margin is 0.2 percentage points higher than this quarter.

Dolphin Research's View:

As mentioned earlier, Amazon's performance this quarter is not bad, at least with both positives and negatives. Overall revenue and profit were better than expected, with operating profit growing over 30% year-on-year, exceeding expectations by 13%, which can be considered quite outstanding. Therefore, the issue lies in the structure of the performance and the outlook for the future.

As analyzed above, the market is currently more focused on AWS than the retail segment. Compared to the impressive growth of Azure and GCP, AWS has yet to see a turning point in revenue, and its profit margin has unexpectedly declined. This makes the market, which is once again fervently pursuing the AI narrative, less favorable towards the company (as there are many better options).

Moreover, although the mainstream explanation is the bottleneck caused by computing power supply, it also raises market doubts about whether AWS has a deeper competitive disadvantage compared to its peers.

In terms of retail business, although the current performance is quite good, concerns about the impact of tariffs have not dissipated. There are many voices in the market suggesting that the impact of tariffs on product prices and consumer willingness to spend has not yet manifested due to pre-purchasing and stocking up.

As inventories are depleted, even the generally reduced tariffs of around 15% will inevitably lead to higher product prices, affecting consumer purchasing power and potentially leading to a marginal weakening of retail in the second half of the year.

There is also research suggesting that as consumption weakens, the good advertising growth from last year may slow down in the second half of the year (at least for consumer goods advertising). If this is indeed the case, it would put considerable pressure on Amazon's broad retail business.

Therefore, looking ahead to the trend of Amazon's performance, Dolphin Research believes:

1) In terms of AWS business, as long as the current AI wave continues, the strong demand will inevitably lead to a turning point in AWS's growth rate (supply bottlenecks cannot exist forever), with the issue being more about when this turning point will occur. Therefore, this may not be the key issue.

More importantly, in the AI era, has AWS truly lost part of its competitive advantage, and will it ultimately lose its position as the largest cloud service provider? This is a more long-term and critical issue.

2) Although no one can accurately predict the macroeconomic trend, it currently appears that Amazon's retail business growth faces pressure and the risk of marginal weakening in the short to medium term.

In Amazon's peak period of massive Capex, besides investments in cloud services, investments in fulfillment and other assets may also suppress the trend of improving retail segment profit margins in the short to medium term.

Therefore, although the above investments are beneficial in the long term, Dolphin Research's view on Amazon's retail business is that there is indeed risk in the short to medium term, but confidence remains in the long term.

From a valuation perspective, based on the expectation of Amazon's total revenue growing steadily by about 11% in 2026, AWS business operating profit margin remaining stable, and retail business profit margin increasing to 7.2%, Dolphin Research estimates a net profit of approximately $85 billion for the 2026 fiscal year (higher than the market average expectation).

The company's pre-performance market capitalization corresponds to a 29x PE for 2026. In absolute terms, it is not cheap, but compared to other Mag7 companies, it is not very expensive either. If the retail business does indeed weaken, leading to a pullback in the company's stock price, it should be a good opportunity.

Detailed points and further commentary are as follows:

I. AWS: Growth Lacked Highlights, But Profit Missed Expectations

For the market's most closely watched Amazon Web Services (AWS) business, AWS revenue this quarter grew by 17.5% year-over-year (YoY) to $30.9 billion (growth similar at constant currency). This represented very limited acceleration compared to the previous quarter and did not significantly exceed market expectations of 17%. Based on pre-earnings views from Wall Street firms, the bottleneck in compute power supply was the main reason for AWS's growth failing to break through.

At the same time, AWS's operating margin this quarter contracted by 2.6 percentage points YoY, leading to an operating profit that was nearly 7% lower than expected, at approximately $10.2 billion. Looking at expense metrics, significantly higher R&D expenses and depreciation, which increased alongside Capex, were likely the primary reasons dragging down AWS's profit.

Furthermore, compared horizontally with the other two major cloud service providers, AWS's growth began to decline rapidly starting from Q2 2022, showing a significant gap with Azure and Google Cloud Platform (GCP). Even as competitors' growth accelerated in the past two quarters, AWS's growth remained stagnant.

II. Consumer Spending More Resilient Than Expected, Strong Advertising Growth

The broader retail segment's total revenue this quarter reached $136.8 billion, growing by 12.4% YoY, a clear acceleration from 6.9% in the previous quarter. Currency exchange rates contributed slightly more than 1 percentage point of benefit. Regionally, North America retail growth, unaffected by currency fluctuations, accelerated from 8% to 11%. This indicates that North American consumption has not weakened due to tariffs; instead, there might even be a pull-forward effect.

Meanwhile, the nominal growth of international retail business surged significantly to 16% (with substantial FX tailwinds). If the impact of currency exchange rates is excluded, the international region's revenue growth also accelerated from 8% to 11%, almost perfectly aligning with the situation in North America.

Among various sub-segments, all business lines except physical stores generally saw a 5-6 percentage point acceleration in revenue growth this quarter. Of particular note is that Amazon's advertising business revenue soared by nearly 23% YoY, significantly exceeding market expectations. Combined with the earnings of Google and Meta, it appears the overall advertising industry experienced generally good growth in the second quarter.

The advertising business warrants special attention because, with its extremely low marginal costs, it is the primary source of profit for Amazon's entire retail segment. The strong advertising revenue growth was one of the main reasons for the retail segment's operating profit significantly exceeding expectations this quarter.

III. Retail Business Profit Margin Continues to Rise, Significantly Exceeding Expectations

Combining all businesses, although AWS did not show stellar growth, due to the general retail business's clear growth acceleration under favorable exchange rates, Amazon's overall revenue for the quarter was $167.7 billion, up 13% YoY, noticeably higher than the expected 9.5%.

The overall operating profit reached $19.2 billion, an increase of nearly 31% YoY, far exceeding sell-side expectations of $17 billion and the previous guidance's upper limit of $17.5 billion. The issue of a potential quarter-over-quarter decline in retail business profit margin, implied by the company's original guidance, did not materialize.

Segment-wise, while AWS's profit fell short of expectations, the retail segment performed quite well.

Specifically, the North American region's operating margin was 7.5%, continuing its significant increase both YoY and quarter-over-quarter. It achieved an operating profit of $7.5 billion, far surpassing market expectations of $5.6 billion. Concurrently, the international region's operating margin also climbed quarter-over-quarter from 3% to 4.1%. This resulted in an operating profit of $1.49 billion, nearly double sell-side expectations.

The retail business profit margins in both regions are still steadily improving, with favorable exchange rates and the exceptionally strong advertising business contributing significantly.

IV. Gross Profit Rose Beyond Expectations, R&D Expenses Increased Substantially

From a cost and expense perspective, the source of the profit beat this quarter was primarily gross margin improvement, while actual expense outlays were higher than expected.

The gross margin this quarter was 51.8%, expanding by 1.7 percentage points YoY, with actual gross profit reaching $86.9 billion, significantly higher than the market's expectation of $82 billion. Dolphin believes that the benefit of favorable exchange rates and the strong growth in high-margin businesses like advertising were likely the primary reasons for the better-than-expected gross profit.

From an expense perspective, expenses other than R&D & content were largely in line with expectations, generally showing a 10% YoY increase (with administrative expenses seeing a 2% YoY decline). However, R&D & content expenses surged by 22% YoY, exceeding market expectations by $2.5 billion.

Since most of AWS's employee compensation, R&D costs, and some equipment costs are recorded under this expense item, this reflects a clear increase in Amazon's human and material resources allocated to its cloud business. This should also be the main reason for AWS's profit missing expectations this quarter.

V. Capex Exceeded $32 Billion, Amazon Entering Investment Peak Period

Amazon's Capex (capital expenditure) this quarter also further increased to $32.2 billion (this figure is from the company's cash flow statement, with some slight variance from the conference call figure but broadly similar). This marks another historical high, with the YoY growth rate still as high as 83%. As Amazon started later in this round of AI investment cycle, unlike Microsoft whose Capex growth has already begun to moderate, Amazon is currently entering its peak and acceleration phase of Capex investment.

Correspondingly, Amazon's depreciation as a percentage of revenue also remained at a historical high of over 9% this quarter. Subsequently, with further increases in Capex, the drag from depreciation may become even more pronounced.

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