Hello, and welcome to our Q3 twenty ten Financial Results Conference Call. Joining us today is Tom Szkutak, our CFO. We will be available for questions after our prepared remarks. The following discussion and responses to your questions reflect management's views as of today, October 21, 2010 only and will include forward looking statements. Actual results may differ materially.
Additional information about factors that could potentially impact our financial results is included in today's press release and our filings with the SEC, including our most recent annual report on Form 10 ks. As you listen to today's call, we encourage you to have our press release in front of you, which includes our financial results as well as metrics and commentary on the quarter. During the call, we will discuss certain non GAAP financial measures. In our press release, slides accompanying this webcast and our filings with the SEC, each of which is posted on our IR website, you will find additional disclosures regarding these non GAAP measures, including reconciliations of these measures with comparable GAAP measures. Finally, unless otherwise stated, all comparisons in this call will be against our results for the comparable period of 2,009.
Now, I'll turn
the call over to Tom. Thanks, Rob. I'll begin with comments on our financial results. Trailing 12 month operating cash flow increased 16 percent to $2,620,000,000 Trailing 12 month free cash flow decreased 5% to 1 $830,000,000,000 Return on invested capital was 28%, down from 50%. ROIC is TTM free cash flow divided by average total assets minus current liabilities excluding the current portion of long term debt over the 5 quarter end.
The combination of common stock and stock based awards outstanding was 465,000,000 shares compared with 451,000,000 shares. Worldwide revenue grew 39 percent to 7,560,000,000 dollars or 40 percent excluding the $83,000,000 unfavorable impact from year over year changes in foreign exchange rates. We're grateful to our customers who continue to take advantage of our low prices, vast selection and free shipping offers including Amazon Prime. Media revenue increased to $3,350,000,000 up 14% or 15% excluding foreign exchange rates. EGM revenue increased to $3,970,000,000 up 60% or 71% excluding foreign exchange rates.
Worldwide EGM increased to 53% of worldwide sales, up from 43%. Worldwide unit growth was 41%. Active customer accounts were approximately 121,000,000. Worldwide active seller accounts were more than 2,000,000. Seller units were 34% of total units.
Consolidated gross profit grew 39% to $1,770,000,000 and gross margin was 23.5%. Now I'll discuss our operating expenses excluding stock based compensation. Fulfillment, marketing, technology and content and G and A combined was $1,370,000,000 or 18.2 percent of sales, up 122 basis points year over year. Fulfillment was $657,000,000 or 8.7 percent of revenue compared with 8.2%. Tech and Tech and content was $386,000,000 or 5.1 percent of revenue compared with 4.9%.
Now, we'll talk about our segment results and consistent with prior periods, we did not Now, we'll talk about our segment results and consistent with prior periods, we did not allocate to segments or stock based compensation or other operating expense line item. In the North America segment, revenue grew 45 percent to $4,130,000,000 Media revenue grew 13% to 1 point $59,000,000,000 EGM revenue grew 80% to 2,330,000,000 representing 50 dollars representing 50 $6,000,000 a 4.5 percent operating margin. In the international segment, revenue grew 32% to $3,430,000,000 Revenue growth was 35% adjusting for the $86,000,000 year over year unfavorable foreign exchange impact during the quarter. Media revenue grew 16% to $1,760,000,000 or 18% excluding FX, And EGM revenue grew 54 percent to $1,640,000,000 or 60% excluding FX. EGM now represents 48% of international revenues, up from 41%.
International segment operating income increased 11 percent to $215,000,000 a 6.2 percent operating margin. Excluding the unfavorable impact from foreign exchange, international segment operating income increased 20%. CSOI grew 15% to $401,000,000 or 5.3 percent of revenue, down 112 basis points year over year. Excluding the $15,000,000 unfavorable impact of foreign Our income tax expense was 70 Our income tax expense was $79,000,000 in Q3 or a 27% rate for the quarter. GAAP net income was $231,000,000 or $0.51 per diluted share compared with $199,000,000 $0.45 per diluted share.
Turning to the balance sheet, cash and marketable securities increased $1,880,000,000 year over year to $5,880,000,000 Inventory increased 56% to $2,520,000,000 and inventory turns were $11,800,000,000 down from 12.1 turns a year ago as we expanded selection, improved in stock levels and introduced new product categories. Accounts payable increased 38 percent to $4,610,000,000 and accounts payable days increased to 73 from 72 in the prior year. Our Q3 ten capital expenditures were $315,000,000 The increase in capital expenditures reflects additional investments in support of continued business growth including investments in technology infrastructure, including Amazon Web Services, capacity to support our fulfillment operations and investments in corporate office space. We expect this trend to continue throughout 2010. I'll conclude my portion of today's call with guidance.
Incorporated into the guidance of the order trends that we've seen to date and what we believe today to be appropriately conservative assumptions. Our results are inherently unpredictable and may be materially affected by many factors including a high level of uncertainty surrounding exchange rate fluctuations as well the global economy and consumer spending. It's not possible to accurately predict demand and therefore our actual results differ materially from our guidance. As we describe in more detail in our public filings, issues such as settling intercompany balances in foreign currencies amongst our subsidiaries, unfavorable resolution of legal matters and changes to our effective tax rates can all have a material effect on guidance. Our guidance further assumes that we don't conclude any additional business acquisitions or investments, record any further revisions to stock based compensation estimates and that foreign exchange rates remain approximately where they've been recently.
For Q4, we Q4, we expect net sales between $12,000,000,000 $13,300,000,000 of growth between 26% 40%. This guidance anticipates approximately 70 basis points of unfavorable impact from foreign exchange. GAAP operating income to be between $360,000,000 $560,000,000 or between 24% decline and 18% growth. This includes approximately $140,000,000 for stock based compensation and amortization of intangible assets. We anticipate consolidated segment operating income, which excludes stock based compensation and other operating expense to be between $500,000,000 $700,000,000 or between 16% decline and 17% growth.
We remain head sound focused on driving a better customer experience through price, selection and convenience. We believe putting customers first is the only reliable way to create lasting value for shareholders. Thanks. And with that, Rob, let's move to questions.
Great. Thanks, Tom. Let's move on to the Q and A portion of the call. Operator, will you remind our listeners how to initiate a question, please?
Yes, thank you. The question and answer session will be conducted electronically. Our first question comes from Scott DeMitt with Morgan Stanley. Please go ahead.
One question, please. The growth rates for the business on a segment sales basis, the spread between North American and international is about 10 percentage points and it's begun to work in favor of North America recently. I was just wondering if you could comment on the respective unit sales domestically versus internationally and if the spread is similar? Thanks.
Yes. I can't we're not breaking out the unit growth by segment, but the we're seeing very strong unit growth globally, it's up 41%, which is certainly better than we've seen recently. Also keep in mind when you look at the difference between North America revenue growth and international, you do have the impact of Zappos included in the North American numbers this year, which we wouldn't have that in last year as well. Thanks. And for
our next question from Mark Mahaney with Citi. Please go ahead.
Thanks. I just want to ask
a little bit more about the Q4 guidance, particularly on the CSOI line. Typically, you are able to generate flattish margins sequentially. That's not what you're guiding to at the midpoint. Is that because some of the investments you wanted to roll out in the September quarter are being delayed? Are there new levels of investments that you're looking for in the December quarter?
Are you rolling out more distribution centers there? Any more color on why the sequential decline in margins is a little bit out of the norm? Thanks.
Thanks, Mark. Yes, we've launched or excuse me opened about 10 fulfillment centers right now. We have a couple more that are coming over the coming few weeks as we get ready for our peak season. So certainly that's part of what you're seeing in Q4. Obviously, we've been incurring some costs on those 3 as well prior to Q4, but again, you'll see that ramping up.
The other thing too is we'll continue to add capacity for infrastructure as well during Q4 and that's both for our retail business as well as our very fast growing AWS business. So those are impacting the guidance that you see there. Thanks, Tom.
Our next question comes from James Mitchell with Goldman Sachs. Please go ahead.
Great. Thank You're offering a range of free pathways to Amazon Prime, such as Amazon Prime for students and Amazon Prime for mothers. How do you persuade the consumers to receive Prime for free to value and make full use of the service by purchasing more products as those consumers who are paying for Prime typically do?
Well, again, it's a free offer. So that's something that we think is compelling and it follows really what we've done for Prime in general. We've offered free trials for our Prime members going back a few years now. And the reason why we're doing that, again, free trials I'm talking about not the students and the mom right now. But the reason why we're doing that was we wanted to make sure that customers could see the experience real time.
And we find that when customers see it real time, they become members. And we've seen that consistently. And so the other two programs that you mentioned, the student and mom, still very early and we're happy with what we see there, but it's still very early.
Thank you.
Your next question is from Brian Pitzer with UBS.
Thanks. What percent of the increase in fulfillment was due to the shift of 3rd party fulfillment from COGS that you highlighted last quarter? And then a more longer term question. Can you talk about your strategy in online video distribution? Does it make sense for you to roll out a subscription streaming video product given competitor success?
Thanks.
We're not breaking out the change that you mentioned, but you can the way you should think about it is it would be a similar amount last year in Q3 as it was in Q2 in terms of basis points.
In terms
of the second can you repeat the second part of your question on?
Just in terms of your online video distribution, obviously you have VOD with over 65,000 titles, but migrating to subscription streaming product, Can you just give us a little thought on that given the success of some of your competitors?
Sure. I wouldn't speculate what we would do or not do in the future there, but it's certainly an area that there's a room for a lot of innovation and we've got a great team in place that's working on that and we're going to try to do what's best for customers over the long term and try to continually improve our service there.
Great. Thanks.
Our next question comes from Douglas Ng with Barclays Capital. Please go ahead.
Thanks for taking the question. Tom, I just wanted to ask about the media business. I was hoping you could give us a little bit more color in terms of the sub segments. In particular, I think you commented last quarter that physical books were still growing at a double digit pace. If you could let us know if that's still the case?
And then just one quick housekeeping thing. The equity income line basically was a lot higher than what we've seen in recent quarters. Can you provide a little bit of color there and how we should think about that going forward? Thanks.
Sure. First the media, in terms of I'll take the North America media, we're seeing very good growth there. We're very pleased with the business that we have there. As it relates to books, we saw very strong revenue growth in the quarter. In fact, from a unit perspective, we saw accelerated growth in both physical and Kindle books in Q3 relative to Q2, so very strong growth during the quarter.
We did see in a couple of categories some softness, particularly music and video as we overlap some higher revenue in last year Q3 specifically in the music side, we had a very strong growth last year with some of the Michael Jackson titles. We also had very strong growth with the Beatles box set in video games, specifically video game consoles. There was very strong price reductions from the manufacturers and which caused great growth last year. And so, we saw some softness that's in the North American Media and NBC. But again, we're very pleased with overall categories in Media.
In terms of the equity income, and in terms of how you should think about it, we did have included in our guidance and I'll give you the total numbers, but sorry, excluded from the guidance that we gave approximately 90 days ago, we did not include Woot acquisition and the impact on the quarter is roughly 30,000,000 in revenue. From a CSOI perspective, we had a few $1,000,000 loss for the quarter. And then because we had a investment in Woot, we had to step up that investment to fair value. So you have a gain that's included in the other income line, the equity income line that you're referring to, which brings our net down to about $13,000,000 net or a little under $0.03 per share. So that's included in the numbers that you're looking at.
Okay, great. Thank you.
Our next question comes from Gene Munster with Piper Jaffray. Please go ahead.
Hey, good afternoon. If you could talk a little bit about your efforts in China, in particular, you've rebranded Joyo as Amazon Joyo this spring and it seems like that's picking up some traction. Is there any data points you can share with us in terms of number of distribution centers, just general outlook? At what point do you think China in particular can start moving the needle for Amazon? Thanks.
Well, China is a very interesting long term potential and we have a business that's growing very fast there. We've continued to add capacity there. We've continued to work on trying to make sure we have a great experience for customers. And so, we're adding a lot of selection. We're making sure we have great prices, a lot of the things, same things that we're doing in all of our geographies.
So, we continue to work hard on behalf of customers there and we think it's a very interesting long term potential geography for us.
Our next question comes from Colin Sebastian with Lazard
Capital Markets. This is Gregor Schauer for Colin Sebastian. I was hoping maybe you could help provide some more color on the winding disparity between the electronics, the EDM sectors for North America and International. I know Zappos and Wood are now excluded, but surely the winding disparity in growth rates can't be attributable to that entirely. Are there any fundamental differences that you're seeing from a trend perspective in that sector internationally versus the U.
S?
Well, again, you did call out a couple items that are rather sizable or particularly the Zappos piece is rather sizable. So that certainly is impacting the size and the growth because remember that Zappos is included in last year's Q3 results. But we're actually very, very pleased with both, you know, EGM in both segments, they're both growing very fast. And as you can see that even in Q3 for international, it grew 60 percent on a local currency basis. So it's very, very strong growth.
We've added a lot of new categories over the past few years there and they're growing quite nicely. So, we're actually very pleased with our international growth in EGM and are excited about the future there.
Thanks. And the next question comes from Youssef Skulink with Jefferies. Please go ahead.
Thank you very much. Tom, you guys launched grocery delivery in the U. K, but it doesn't seem like you guys are doing your own delivery like some of local competitors. Could you speak to the strategy there? And any plans to launch a similar service in the U.
S? I know you're testing it in a couple of places, but maybe talk about more nationwide rollout. And then just a housekeeping item. How much revenues baked in your Q4 guidance from the Buy VIP acquisition that you did this quarter? Thank you.
Okay. I'll take the second one first. Buy VIP hasn't closed and so it's not reflected in the guidance that we've given today. In terms of the first question, we think that grocery is very interesting. It's something that we're there's not a lot I can comment about your question specifically related to the U.
K. It's something that we find interesting. It's very early. Think of it you mentioned about a national rollout for the U. S.
Think of it as a test for the U. S. We're testing it currently and have been testing it for a few years in Seattle. And we think that it's interesting, but again, it's still a test and we'll see how it goes. Okay, thanks.
Our next question comes from Jeetil Patel with Deutsche Bank Securities. Please go ahead.
Great. A couple of questions. I guess on the Prime side of the business, do you think you've built great brand affinity with the Prime service as a whole. Do you think there are opportunities to bundle or offer additional free products, programs and services within that Prime program? Will the consumer adopt it?
And is there maybe different tierings that you can create off of that in terms of $79,000,000 $89,000,000 or $99,000,000 with additional products and services folded in? And then second, around the Kindle side of the business, are there opportunities to leverage WhisperSync across other forms of content such as music and gaming or are there any sort of technical limitations around that? Thanks.
In terms of the opportunity for prime, we like what we see in prime. The way that we've tried to expand the benefit to customers to date has been to try to make sure that we have more selection available for prime customers. We do that in a number of different ways. One is we add retail offerings, you know additional retail selection. We've also been working very hard with our seller community for Fulfilled by Amazon and when you list with Fulfilled by Amazon and have availability in stock, those products are available for our free shipping programs, which is super saver shipping in the U.
S. As well as Prime. So those are the things that we've been doing to try to make Prime better. We'll continue to look at ways to make Prime even better for customers over time and we'll have to wait and see on that. In terms of the your second part of your question, I apologize, not a lot I can add to answer that question, I apologize, in terms of this technology and its use outside of Kendall.
We'll go to our next questioner, Jim Friedland with Cowen and Company. Please go ahead.
I have a question about the Target deal that's coming to an end. I believe it's middle of next year. How should we think about modeling that business for next year? Any color you can give us into how it may impact the P and L? I think it's in the other line in the U.
S. Thanks.
Yes. There's we as you can probably appreciate, Jim, we haven't disclosed anything about any specific partnership that we have and this would be no exception. I guess one way to think about it though is with something like this, if we continue to grow like we're growing, we'll likely need more Okay
Okay. That's great. Thanks.
Our next questioner is Imran Khan with JPMorgan. Please go ahead.
Yes. Hi, it's Imran. Thank you very much for taking my questions. Two quick questions. One, international gross margins were down 80 basis points year over year.
Just trying to get a sense like where you stand in terms of ramping up the 3rd party business or some of the new category launch? Can you give us some sense what's driving this international gross margins down and how should we think about it? And then secondly, the marketing costs were up 63% year over year basis. I was trying to think is it a new normal or is there like more of a one time Kindle marketing going on? If you can any shed any light that will be very helpful.
Thank you.
Sure. In terms of international gross margins, there's a number of dynamics there. Certainly pricing is impacting it. We're getting very good traction in 3rd party, continue to get good traction in 3rd party within international. Also keep in mind, we were talking about one of the earlier questions.
Within EGM, we've launched many new categories over the past few years. They're growing those categories are growing very well. As I mentioned, the growth is up 60% year over year on a local currency basis in total. And what ends up happening when you launch new categories is many of those are low gross margins at the start and then we work very hard over time to be more efficient, to buy better, and so those categories improve over time. So again, those are the things that are 3%, very similar to what we were from an increase year over year last quarter.
The primary area that we spend in marketing is with paid search and associates still. Keep in mind though as you look at year over year, last year we didn't have Zappos and we continue to support the efforts, marketing efforts for Zappos, which is included in that cost. As you mentioned also, we're also doing some ads from a television standpoint for Kendall, it's included in those numbers as well.
Great. Thank you very much.
Our next question comes from Sandeep Agarwal with Chorus and Company. Please go ahead.
Tom, in your prepared remarks, you did update us on the spending on fulfillment center, etcetera. I guess the question is that you're spending on fulfillment centers and as well as IT capacity. Is Q4 will take care of most of the higher than norm spending or will you go beyond that? And secondly, now that you have 3 years of history on selling Kindle, in long run, do you think the $9.99 price plan will prevail or a $15 Thank you.
In terms of the capacity, again, we are adding additional capacity in Q4 both from center and infrastructure standpoint. And beyond Q4, we're not commenting, but certainly we continue to grow, you should expect like we're growing, you should expect that we'll add capacity next year. In terms of Kindle, we're trying to make a selection available from a content perspective at great prices for customers and that's no different than any other product that we offer to customers. We think it should be very economic to customers and we can continue to work very hard on behalf of customers in that area.
And our next question comes from Spencer Wang with Credit Suisse. Please go ahead.
Thanks. Good afternoon. First question, I guess, Tom, could you just go back to your earlier comment about video on demand? And I think you used the phrase room for innovation. Any more kind of color you could shed there in terms of how you're thinking about it?
Is it innovation in terms of pricing or selection or revenue model or UI? And then secondly, just real quick, any stats or data points you give us in terms of sizing mobile commerce for you? Thank you.
In terms of video on demand, there's not a lot more I can add to that. I would say that,
I guess the way I
would think about it is not a lot different than a lot of the things that we do on Amazon. We have a foundation of innovation in everything that we do, and we try to find creative ways and innovative ways to serve customers better. And so, that's ingrained very well in the culture. You've seen that in a lot of different ways in our various offerings, and we'll continue to do that as best we can on behalf of customers over the long term, which includes video on demand.
Great. And
then the second part
of your question, sorry, was?
Sorry, any data points on mobile, sizing mobile for you guys, commerce?
No, it's again, I think I don't have any new data to share with you there. It is an interesting area for us. If you think about just the growth in connected devices, anytime you can have very fast growth and high adoption of connected devices around the world where customers can get easy access to Amazon dotcom. We think it's a good thing to tailwind for us. And so, what we're trying to do is trying to make that as easy for customers with apps and other ways so that we can serve customers well, so they get a great experience when they connect with their device.
So that's something that certainly we're working on and we find this interesting.
Thanks. And for
our final question from Justin Post with Bank of America.
Thank you. First on the Kindle, a lot of language in your press release about it. Can you help us at all understand if it's margin accretive on the gross margin line when you think about the hardware and software or not? And then secondly, you're making a lot of infrastructure investments, a lot of headcount investments and of course fulfillment. Can you give us any visibility if you think you're kind of caught up now this year given the spending last year or is this just something that no idea of kind of when you're kind of going to be caught up with where you need to be?
Thank
you. Sure. The first part, as you can probably appreciate, we don't break out any of our products or categories from a profitability standpoint. And so, we have a long standing practice of not doing that. And so, the details that we've provided to date are just the North American International segment from a profitability standpoint.
So, I can't help you much there. In terms of infrastructure and capacity to serve excuse me, in terms of foam capacity, You're right, we added a lot of capacity to date. We have some more that we're adding in Q4 and that's to serve demand that we think is in front of us. And we'll have to see, wait and see what happens over the coming quarters to see what capacity we need to add. But what I can say is from a retail perspective, you can see our overall growth rate is very strong.
And if they continue to be strong, we will have to add additional capacity. We're seeing very good traction fulfilled by Amazon, which is also we're also adding capacity for and we like that part of the business from a seller perspective a lot. From an infrastructure standpoint, again, just with the growth that we're seeing from a retail perspective, we're adding capacity to support the retail websites that we have around the world. In addition to that, we have a very fast growing Web Services business that has great traction, continues to grow well and you certainly should expect that we'll add capacity there over time to serve that growth.
Great. Thank you.
Great. Well, thank you all for joining us today on the call and for your questions. A replay will be available on our Investor Relations website at least through the end of the quarter. We appreciate your interest and look forward to talking with you again next quarter. Thanks everyone.
This concludes today's conference call. Thank you for your participation.