Amazon's Record Earnings vs. 11% Stock Drop: Opportunity or Warning?

Amazon just reported record quarterly earnings, yet its stock has fallen 11% from its peak. The star was Amazon Web Services (AWS), the cloud computing division, which saw revenue jump 39% to $46 billion with a stellar 39% operating margin. Management even guided for 40% year-over-year growth in 2027 and 2028, which would double AWS sales in just two years.

However, this explosive growth requires massive upfront spending. Amazon plans to invest $220 billion in capital expenditures for 2026 alone, and likely more in the following years. This has pushed free cash flow negative over the last 12 months, and long-term debt now stands at $173 billion. Investors are nervous about the cash burn and rising debt, even though Amazon has $100 billion in cash on its balance sheet.

The e-commerce business also raised some eyebrows. North American revenue growth decelerated to 6% year over year in Q3, down from 16% in Q2. But this was largely due to Amazon moving Prime Day from Q3 to Q2 this year, which shifted about 4 percentage points of growth. Normalized, growth would have been around 10%—still solid for a mature business generating nearly $500 billion in annual revenue.

Despite the cash flow concerns, Amazon's profitability is strong. Consolidated EBIT (earnings before interest and taxes) reached $98 billion over the last 12 months, and operating margin hit a record 13.9% last quarter. North American retail margins also hit a record 8.2%, showing that the core business is healthy and improving.

The market's negative reaction to Amazon's earnings is all about the massive capital expenditures required to fuel AI and cloud growth. Amazon is spending heavily on data centers to meet booming demand for AI services, and this spending is weighing on free cash flow. Investors worry that this cash burn could continue for years, and that Amazon might need to raise more debt or equity to fund it.

But this is a classic growth investment cycle. Amazon is sacrificing near-term cash flow to build out infrastructure that will generate high-margin revenue for years to come. AWS is already a profit machine with 39% margins, and as it grows, it will become an even larger share of Amazon's overall business, lifting consolidated margins.

Moreover, the e-commerce segment is showing strong operating leverage. As Amazon's fixed investments in delivery and warehouses mature, margins are expanding. North American retail margins are at record levels, and there's room for further improvement. This means that even if AWS growth slows, the retail business can drive earnings growth.

Looking ahead, Amazon projects revenue to grow from $775 billion to $1.37 trillion over the next five years, with operating margins expanding to 17.5%. That would translate to EBIT of $240 billion, or roughly 10 times the current market cap. At today's price, Amazon trades at about 26 times trailing EBIT, which is not dirt cheap but reasonable given the growth prospects. The key risk is that if the AI spending doesn't pay off as expected, the stock could remain under pressure.