Amazon profits take big hit

October 25, 2012: 4:41 PM ET

The retailer reported a 27% sales increase from the same period last year and an operating loss of $28 million.

Amazon's 7-inch Kindle Fire HD, released last month, is now the company's #1 bestselling product worldwide.

FORTUNE -- Amazon's short-term sacrifices appear to be continuing.

Amazon (AMZN) reported a 27% sales increase to $13.81 billion, up from $10.88 billion the same time last year, and an operating loss of $28 million. That was off from Wall Street's estimates, which had predicted an operating loss of nearly $75 million, but higher revenues of $13.9 billion. Meanwhile, profits dropped to a loss of $274 million, or $0.60 cents per share, compared to a net income of $63 million a year ago. For the fourth quarter, the company expects revenues of between $20.25 billion and $22.75 billion. Amazon shares were down nearly 8% in after hours trading following the announcement.

The loss this quarter was due in part to the company's $175 million investment in LivingSocial, which it lost $169 million on. The remaining loss was due to Amazon's ongoing strategy of sacrificing short-term profitability for long-term revenues and market gains.

Over the last year, the company has invested heavily in expansion, which includes building more fulfillment centers. During a media earnings call, CFO Tom Szkutak said 19 new fulfillment centers would be up and running for the holiday season, with an additional one or two warehouses potentially ready during the fourth quarter or early next year.

Amazon has also invested heavily in its vast Amazon Web Services business and the launch of products in its Kindle line. Earlier this month, CEO Jeff Bezos revealed the latest Kindles -- updated Kindle Fire units and the self-lit Kindle Paperwhite -- do not profit Amazon and are sold at cost. Just for comparison, CNET recently reported that Apple (AAPL) hovers around a 40% margin on its WiFi-based iPad.

"Our approach is to work hard to charge less. Sell devices near breakeven and you can pack a lot of sophisticated hardware into a very low price point," said Bezos in a statement, pointing to the 7-inch $199 Kindle Fire the company released last month. That version has since gone on to become Amazon's #1 bestselling product around the world. The recently released Kindle Paperwhite and $69 Kindle are the number two and three bestselling products, respectively.

"While investors remain understandably focused on Amazon's sub-scale retail margins and significant investments in technology, distribution capacity, and content, we believe that other segments should provide more comfort in potential operating margin expansion," wrote Robert W. Baird analyst Colin Sebastian earlier this week.

Indeed, the majority of analysts remain bullish on the company. Looking further out, Lazard Capital Markets analyst Atul Bagga predicts Amazon is currently in the midst of a transition from pure e-commerce player to powerful digital media platform. "We believe Amazon has three competitive advantages that will allow it to compete in, and potentially dominate, digital media platforms: 1) trust; 2) technology; and 3) payment infrastructure," Bagga wrote in a report earlier this week. "While we believe investment today is justified by its existing businesses at the current stock valuation, we also think that the next iteration of the Amazon platform will represent the dominant platform for digital and virtual goods as well."

In other words: good things may yet come to those shareholders who wait.

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About This Author
JP Mangalindan
JP Mangalindan
Writer, Fortune

JP Mangalindan is a San Francisco-based writer at Fortune, covering Silicon Valley. Since joining in 2010, he has written on a wide array of topics, from the turnaround of eBay to the evolution of net neutrality. A graduate of Fordham University, Mangalindan has also written for GQ, Popular Science, and Entertainment Weekly.

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