Amazon - Earnings Call - Q2 2011

Transcript

Speaker 1

Hello, and welcome to our Q2 2011 financial results conference call. Joining us today is Thomas Szkutak, our CFO. We will be available for questions after our prepared remarks. The following discussions and responses to your questions reflect management's views as of today, July 26, 2011 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-K. As you listen to today's conference 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 this 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 2010. Now, we'll turn the call over to Tom.

Speaker 2

Thanks, John. I'll begin with comments on our second quarter financial results. Trailing 12-month operating cash flow increased 25% to $3.21 billion. Trailing 12-month free cash flow decreased 8% to $1.83 billion. Return on invested capital is 21%, down from 34%. ROIC is trailing 12-month free cash flow divided by average total assets minus current liabilities, excluding the current portion of long-term debt over five quarter ends. The combination of common stock and stock-based awards outstanding was 468 million shares compared with 465 million shares. Worldwide revenue grew 51% to $9.91 billion, or 44% excluding the $477 million favorable impact from year-over-year changes in foreign exchange. We're grateful to our customers who continue to take advantage of our low prices, fast selection, and shipping offers. Media revenue increased to $3.66 billion, up 27%, or 20% excluding foreign exchange.

EGM revenue increased to $5.89 billion, up 69%, or 62% excluding foreign exchange. Worldwide EGM increased to 59% of worldwide sales, up from 53%. Worldwide paid unit growth was 56% compared to 45% paid unit growth in Q1 2011. Active customer accounts exceeded 144 million. Worldwide active seller accounts were more than 2 million. Seller units were 36% of paid units compared to 36% of paid units in Q1 2011 and 34% of paid units in Q2 2010. Now, we'll discuss operating expenses, excluding stock-based compensation. Cost of sales was $7.52 billion, or 75.9% of revenue compared with 75.5%. Fulfillment, marketing, technology, and content and G&A combined was $2 billion, or 20.2% of sales, up approximately 190 basis points year-over-year. Fulfillment was $909 million, or 9.2% of revenue compared with 8.5%. Tech and content was $624 million, or 6.3% of revenue compared with 5.3%.

Marketing was $331 million, or 3.3% of revenue compared with 3.1%. Now, I'll talk about our segment results, and consistent with prior periods, we do not allocate to segments or stock-based compensation or other operating expense line item. In the North America segment, revenue grew 51% to $5.41 billion. Adjusting for the $3 million year-over-year favorable foreign exchange impact, revenue growth was 50%. Media revenue grew 20% to $1.58 billion. EGM revenue grew 67% to $3.5 billion, representing 65% of North America revenues, up from 58%. North America segment operating income increased 7% to $214 million, a 4% operating margin. In the international segment, revenue grew 51% to $4.51 billion. Adjusting for the $473 million year-over-year favorable foreign exchange impact, revenue growth was 36%. Media revenue grew 34% to $2.07 billion, or 20% excluding foreign exchange. In EGM, revenue grew 71% to $2.4 billion, or 53% excluding foreign exchange.

EGM now represents 53% of international revenues, up from 47%. International segment operating income decreased 16% to $172 million, a 3.8% operating margin. Excluding the favorable impact of foreign exchange, international segment operating income decreased 34%. CSY decreased 5% to $386 million, or 3.9% of revenue, down 229 basis points year-over-year. Excluding the $28 million favorable impact from foreign exchange, CSY decreased 12%. Unlike CSY, our GAAP operating income includes stock-based compensation expense and other operating expense. GAAP operating income decreased 25% to $201 million, or 2% of net sales. Our income tax expense was $49 million in Q2, resulting in a 22% rate for the quarter and a 26% rate year to date. GAAP net income was $191 million, or $0.41 per diluted share, compared with $207 million and $0.45 per diluted share.

Second quarter 2011 net income was positively impacted by equity-method investment activity of $15 million, including a $49 million gain on sale of an equity position partially offset by $34 million in losses from equity-method investments. Turning to the balance sheet, cash and marketable securities increased $1.25 billion year-over-year to $6.36 billion. Inventory increased 66% to $3.23 billion, and inventory turns were 11.3, down from 12.5 turns a year ago as we expanded selection, improved in-stock levels, and introduced new product categories. Accounts payable increased 61% to $5.72 billion, and accounts payable days increased to 69 from 65 in the prior year. Our Q2 2011 capital expenditures were $433 million. 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.

I'll conclude my portion of today's call with guidance. Incorporated into our guidance are 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 as the global economy and consumer spendings. It's not possible to accurately predict demand, and therefore our actual results could differ materially from our guidance. As we describe in more detail in our public filings, issues such as settling intercompany balances and 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 Q3 2011, we expect net sales of between $10.3 billion and $11.1 billion, a growth of between 36% and 47%. This guidance anticipates approximately 450 basis points of favorable impact from foreign exchange. GAAP operating income to be between $20 million and $170 million, or between a 93% decline and 37% decline. This includes approximately $180 million 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 $200 million and $350 million, or between a 50% decline and 13% decline. We remain heads-down 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, John, let's move to questions. Great, thanks, Tom. Let's move on to the Q&A portion of the call. Operator, will you please remind our listeners how to initiate the questions?

Speaker 4

Thank you. Please press star one on your telephone to ask a question. Make sure your mute function is disengaged to allow your signal to reach our equipment. That's star one. Our first question today comes from Jim Friedland with Cowen & Company.

Speaker 5

Thanks. I wanted to ask a question about how you think about ROI and free cash flow as you invest really aggressively to support this 50% growth. We are seeing free cash flow levels depressed in the near term. How long can this, do you expect this to continue? If you keep grabbing shares, should we continue to expect pressure in terms of free cash flow? Just trying to get a sense of how we should think about incremental capital invested. Thanks.

Speaker 2

Sure. In terms of how we think about these investments, our approach has been pretty consistent over the years. If you look at the, as you mentioned, the strong growth, this is the strongest growth we've had from a quarterly perspective, year-over-year and over 10 years. As a result of that, as we look forward, there's a requirement for a lot of capacity. It's something I've talked about on previous calls. If you think about our capacity, it comes in a number of different forms. First of all, our core retail business. We need both fulfillment capacity as well as infrastructure capacity. This is something that we've been doing really since our inception. I look at it as a high-quality problem. If you back out cash and marketable securities, you'll see that we have a high ROIC. I'm not saying that's certainly a historical performance.

It's not necessarily a predictive performance. I do feel very good about those investments. Those are something that we've done before. It's something that we've been working to perfect really since we opened our doors back in the mid-1990s. In terms of, there's another set of investments. Certainly, you're seeing we're investing in the conversion from physical to digital. We think we have good assets to do that. We're very focused on the customer experience, and that comes in a number of different forms. We feel very good about those investments in terms of the traction that we're getting from a customer standpoint. We're certainly optimistic about our ability to generate good free cash flow while having high returns on invested capital. We have some newer businesses. I say newer, they've been with us for several years, but at least they weren't with us since inception.

Beyond the digital initiatives like web services, that's a business that we're investing in. We have great traction. The team's done a terrific job there. We continue to improve that business, and it's growing very fast. You're seeing capital requirements for that business. That's a business that the team is operating very carefully. They're looking at best ways to improve return on invested capital over time. We think that's a great, big space to be investing in. We think it's good for that customer set, and we hope it to be good for customers over the long term.

Speaker 5

Just quickly on the investment in AWS, it looks like the tech and content line's been accelerating. The Q-over-Q ramp was pretty meaningful again in Q2. Is that the primary driver there, AWS, or is it a mix of things?

Speaker 2

It's a mix of things, but certainly AWS would be a big piece of that, along with our infrastructure to support our retail business. When I say our retail business, I mean everything but AWS. Again, think of it as the infrastructure cost to support those two businesses. There certainly are other investments we're making that are in that line item. Certainly, those are two big pieces.

Speaker 5

Great, thank you.

Speaker 4

As a reminder, it is star one to ask a question. Please limit yourself to one question. Our next question comes from Spencer Wang with Credit Suisse.

Speaker 0

Thanks. Good afternoon. Tom, just had a two-part question on media and then a housekeeping question. On media, the revenue growth there reaccelerated pretty nicely from the last couple of quarters. Is there anything you would call out there in terms of driving that reacceleration, any sort of specific categories? The second part, I know it's still relatively early days. We're Prime in some video, but I was wondering if you could share with us some of the metrics you've seen, the impact on Prime membership. Just last on the housekeeping question, how much were acquisitions to revenue growth in Q2 and in your Q3 guidance? Thanks.

Speaker 2

Sure. In terms of media, it was pretty broad across the board. Certainly, you're seeing great growth in our digital products, including Kindle, that's represented there. The other thing to call out just from a sequential standpoint, as you look at international specifically, we did see, and this is reflected in the total growth rate for international as well as the media growth rate, we did see an acceleration from Q1 to Q2 for our Japan business. We had talked about last time being soft, given the events there. Our team there has done a terrific job serving customers. We have seen the growth rates return more favorably from first quarter. They're not quite where they were last year, but certainly we've seen an acceleration there. That is also impacting our global media growth rates, and it shows up in our international segment.

In terms of Prime Video, we're measuring, as you'd expect, a number of different things for that business. It's very early right now. There's not a lot I can share with you. What I can say, though, is we like what we've seen so far. We're continuing to invest there. Right now, we're seeing customers love it, and it's early. That's something that we'll continue to focus on. Your third question in terms of acquisitions impact. For Q2, the most recent acquisitions for Quidsi and LoveFilm, that impact year-over-year for those two acquisitions is a little over 200 basis points, approximately 220 basis points. We had a small amount in Q1. If you're looking at it sequentially, assume it was about 30 basis points in Q1 and a little over 200 basis points in Q2.

Those are both year-over-year numbers impact for those acquisitions, as LoveFilm was about half a quarter in Q1. In terms of bottom line impact or CSY in operating income, for Q2, CSY was about negative 19. For GAAP operating income, it was negative 27. That's for Q2. In terms of Q3, it's reflected in the guidance that we're giving today, and we're not breaking out those specific numbers.

Speaker 0

Great, thank you.

Speaker 4

Yeah. We'll go next to Mark Mahaney at Citi.

Speaker 3

Tom, I want to ask about how you think through balancing margins and growth. I know you don't run the business for margins or free cash flow. As you brought the margins down and are investing aggressively to support what's this accelerating 10-year high growth rates, I assume you're doing that with a view not to just growth rate one quarter out or two quarters out, but for a full year out. Do you feel that you've got enough grasp over the business such that when you see that growth rate slowing down, which inevitably must, whatever that is, in a year, that you can easily ramp up margins? Do you really feel like you're at a point in the business model where that trade-off is a very easy thing for you to manage? Thanks.

Speaker 2

Sure. The way you should think about it is, first of all, the growth rates that you're seeing in Q2 really stem from investments that we've made over a long period of time. These aren't investments that we've made over the past few quarters. We have invested capacity over the last several quarters to help support that growth. Certainly, that's one of the investments that are more recent. Again, you should think about it as investments that we've made over a long period of time. For example, we started investing in our Kindle business and AWS businesses several years ago now, and those have gotten great traction. We've launched FBA several years ago. We launched Prime a few years back. We continue to launch new categories. We continue to add unique selections. Those are things that have happened over an extended period of time.

We are also planting new seeds today. You see that Prime Video is an example of that. A lot of the offerings that we have within AWS are examples of those. We have many examples of those across the business. When we look at it, it was similar to the answer that I gave to Jim in the first question. Again, think about our business in a number of different pieces. We have our retail business that we've been operating in since inception. We continue to add capacity to support those. We continue to add selection. Those are parts of the business that we feel very, very good about. The fact that we have to deploy more capital in terms of capacity, we feel very good about. Our historical returns aren't predictive, but we feel very good about it.

We feel very good about the assets we have in our digital space as we convert from physical to digital. We talked about some of the other newer investments as well that we feel very good that we're investing in today, that we certainly hope and plan on getting good returns for shareholders. Our goal ultimately is, as you mentioned, not to optimize for margins, but our goal is to maximize free cash flow and have high ROICs.

Speaker 3

Thank you, Tom.

Speaker 4

Our next question comes from Doug Anmuth with J.P. Morgan.

Speaker 0

Great. Thanks for taking the question. I just wanted to ask two things. First, Tom, it looks like you hired 5,300 people during the quarter. Can you give us some color on how they're spread out across the business? Secondly, as you look at your margin outlook here for Q3, can you give us some color on the target rolloff and whether that's contemplated here in the outlook and how much of an impact that is? Thanks.

Speaker 2

In terms of the people in the quarter, keep in mind that we did acquire Quidsi at the start of the quarter. That's included in the number. If you take Quidsi plus the operations or NCS people that we added for the capacity that we've been talking about, a combination of those two make up the majority of those ads. We still had certainly ads across the business in a number of different areas, particularly in some of the areas that I mentioned in some of the earlier questions. The majority of those 5,300, as well as actually the year-over-year increase that's just under 15,000, is due to operations and CS, and more recently the acquisition of Quidsi.

Speaker 0

On target.

Speaker 2

In terms of margin, in terms of target, they've announced that they're going to be going to their new website in Q4. We've had a very good relationship with them over the past several years. We certainly wish them well with their new website, and we're pleased to offer those services for them. They've announced that they'll be switching to a new website in Q4.

Speaker 0

Thanks.

Speaker 4

We'll go next to Yousef Squali with Jefferies.

Speaker 0

Thank you very much. Two quick questions, please. First, can you provide us an update on the distribution build-out, how many distribution centers you have, or you had by quarter-end? How many do you think you're going to have by year-end? I'm trying to figure out your capacity utilization today versus, say, six months ago. Second, can you talk about the strategy behind maybe the planned launch of the tablet products? Would you be looking to leverage in-store distribution channels for that product, similar to what you've done with Kindle?

Speaker 2

In terms of fulfillment centers, last quarter when we had our call, I had mentioned that we had announced 9 fulfillment centers globally at that point. Right now, we've announced 15, and we are actually planning on a few more than that between now and the end of the year. If you look at where we're hiring for, and we've announced it's 15 today. You should expect a few more. That compares to we added 13 last year. It will be more than 15. 13 last year will be more than 15 this year.

Speaker 0

That's for a total of how many?

Speaker 2

Again, we haven't given a total for the year. You know it's approximately in the low 50s, adding 15 on top of that, and then expect a few more. In terms of your other question, we have a longstanding practice of not talking about what we might or might not do. I can't help you with that question.

Speaker 0

Okay, thanks a lot.

Speaker 4

Our next question comes from Scott Devitt with Morgan Stanley.

Speaker 0

Hi. Thanks. Tom, net shipping costs were up 110 bps year-over-year. I was just wondering if you could talk about the impacts on that from oil prices versus Amazon Prime adoption and other customer experience initiatives that you've been working on. Thanks.

Speaker 2

If you look at really our net shipping costs over the last several quarters, what you've seen is we've been shipping certainly more free, and that includes Amazon Prime. We've also certainly incurred some higher shipping costs, as you mentioned, with fuel prices. That's something that we've been dealing with really since we started offering free shipping back in the early 2000s. That's something that we're used to dealing with, and it's something that we have dealt with. What you're seeing again over the last several quarters is certainly that customers like our free shipping programs, including Amazon Prime, and that's reflected in that number. That's also one of the inputs, along with a lot of the other things that we've been talking about, that's helping fuel our growth.

Speaker 4

We'll go next to Colin Sebastian with Baird.

Speaker 0

Great. Thanks for taking my questions. I guess first off, going back, Tom, to what you mentioned earlier in the call and the drivers of accelerating growth, I wonder if you could talk about the relative importance of these factors, in particular the low prices. Secondly, just curious on the progress you're making in growing the China business. I think you've added more fulfillment capacity there. E-commerce in general appears to be accelerating in that market. If you could talk about your position and the relative importance of that. Thank you.

Speaker 2

Sure. In terms of lower prices, it's kind of hard to describe to answer your question, actually. We view it as an extremely important aspect of our business. There's a number of different things that are important to customers. Certainly, making sure that we have great prices for customers and great values for customers is extremely important. It's something that we've been working on for a number of years, making sure that we know when we have great prices relative to others. That's something that we've continued to work on to make it a great experience for customers. We do that globally across all of our categories. In terms of your question on China, we're very pleased with our business in China. It's growing very fast. We are in investment mode in that country. We think it's a very interesting long-term opportunity. The team's doing a very nice job there.

We continue to invest, and we're seeing nice growth there.

Speaker 0

Thanks, Tom.

Speaker 4

Our next question comes from Brian Nowak with UBS.

Speaker 0

Great. Thanks. Tom, maybe you could give us an update on affiliates and the sales tax issue that's going on. Any updates there? As you cut ties with affiliates in the States that collect sales taxes, how should we be thinking about the impact on both revenue and margin? Thanks.

Speaker 2

I think in terms of the sales tax issue in total, the way you should think about it is we support a federal simplified approach as we have for more than 10 years. We think in the U.S. that the federal solution is the right way to solve this. Also, keep in mind, as you think about our global business, we already collect sales tax or equivalent to more than half of our business or approximately half of our business across the world. We think the right solution to the U.S. is a federal solution. In terms of beyond that, we continue to serve our customers globally and continue to work through the issue that you described.

Speaker 0

Should we think about any additional reductions in the number of affiliate relationships going forward, or are we at a stable point right now?

Speaker 2

I really can't comment on that. We're incredibly pleased to have our affiliates. We continue to work with them. There's not much more I can add to that.

Speaker 0

Great. Thanks.

Speaker 4

We'll go next to Jito Patel with Deutsche Bank.

Speaker 0

Right. Two questions. In general, digital content's becoming a growing industry theme, as well as it seems like for Amazon. I guess curious as to whether you can comment on if there's a higher propensity for Prime customers to adopt digital content, or is it broad-based among the customer base as a whole? Second, a lot of the investments you're pushing through today in terms of facilities, OpEx, etc., can you talk about maybe what year are they typically geared for? How far out do you typically plan for in terms of investments today on products, new or existing? How far out do you typically think about from a planning standpoint that you're already absorbing in the model today? Thank you.

Speaker 2

In terms of digital content, we certainly have an offering right now. You asked the relationship between that and Prime. We certainly have a product with Prime and video that we like. It's extremely early. We're learning. Customers love it, what they're seeing so far. We like what we're seeing so far in terms of some of the metrics. It is very, very early. We do think that we're fortunate that we can offer such a service for customers along with free shipping. We think that our good customers like both. They're both physical and digital customers. I'm not sure there's much more I can add to that. I'm sorry, the second part of your question?

Speaker 0

Just a lot of the expense build and investments that you're making today in the form of OpEx and CapEx. I guess how far out do you typically think through some of these plans in terms of today and what you're assuming in the model on these last couple of quarters relative to when you start to see the fruits of the labor or some of the products start to commercialize in the marketplace?

Speaker 2

When we look at our overall investments, certainly on a long-term basis, when we launch or invest in something new, it's usually a number of years before we're cash flow positive. In many cases, several years before we're cash flow positive. We do take a long-term view. That being said, we monitor those investments very carefully. For example, we do it on a discrete basis, on an area-by-area basis in terms of our investment. For example, in our Amazon Web Services business, that team has done a very nice job of growing that business, innovating on behalf of customers. They're also trying to see how do we get and ensure we get higher ROICs on that business. They've been working on that for a number of years. They'll look at it on a service-by-service basis.

What they're trying to do is become not only have great services for customers, but to be as efficient as possible in terms of from an investment standpoint. That just happens to be an example that happens across the business. We continue to monitor those investments.

Speaker 0

Can I ask it a different way? The unit growth you're seeing this year of 50+%, when do you think you put in the kind of the investments or the plans and the P&L? Would you say it was back in 2008 or 2007, or would you say it was more recent than that?

Speaker 2

Yes, yes, and yes. In terms of what enabled us to have the growth rate that we're experiencing today, I'll just take the retail part of our business for a second. There are many, many aspects of it. Let me take just the retail part of it. We've continued to add great selection over a long period of time. When I say great selection, unique selection. We've continued to get sharper and sharper on pricing, understanding exactly where we are from a pricing standpoint. We've continued to launch new programs that get our product to customers quicker. We offered free shipping a number of years ago that made it more economical. We offered Prime to make it quicker and more economical to get to customers. It's a great service for customers. All of these things have built upon themselves. We offer third-party offerings, so 36% of our total units.

Several years ago now, or a few years ago now, we launched Fulfilled by Amazon. It was a way to make that experience better for customers as well as sellers. These things have built upon each other over a period of years. Now, what you're seeing is there's a concentrated amount of investment that's going in relative to capacity more recently. That really came out of you see different periods of growth that we've had where things have gotten softer, that we will absorb that investment, and it becomes more productive. We saw that happen, particularly in the U.S. when we had the downturn starting in late 2008. It kind of went through a portion, certainly, of 2009, even though our global growth was still in the high 20%. It was a little bit softer in the U.S. for some of those periods.

We were able to add less fixed investment to support the capacity for that part of the business because of the growth. Now, what you've seen is coming off of that through 2010, you saw very strong growth. We had 40% growth in 2010. You saw very strong growth in Q1. We had 36% growth on a low currency basis, even with some of the softness in Japan. You've seen a reacceleration in Q2 where growth was 44%, including a couple hundred basis points of acquisition growth sequentially. These are building upon each other. Some of the larger investments we've made to support capacity are more recent over the past 18 months now. That's continuing, as you see from our Q3 guidance, given the growth we're experiencing. I'm trying to separate a little bit the growth, the support, the capacity to support the growth.

We've made many smaller and some not-so-small investments over the past 10 years plus that have brought us to the growth rates and the customer experience that we have today.

Speaker 0

Thanks. Strategic versus tactical spend.

Speaker 2

Correct. Tactical, some of the investment that's required to support from a capacity standpoint and infrastructure, as well as FCs to support our retail business, for example, I would consider that tactical or running-the-business type investment. Those have been sizable. You can see a step change in our capital. Part of it's for that growth for that reason, part of it's for growth in FBA, and part of it's for growth in web services, as well as a few other areas.

Speaker 4

As a friendly reminder, please limit yourself to one question per Q. We'll go next to Gene Munster with Piper Jaffray.

Speaker 0

Good afternoon and congratulations. Back to the tax question. It's inevitable that 100% of your business will be taxed. Let's fast forward to that point. What message would you have for investors on how to think about the impact that will have on your business? A follow-up to that is there's some rumors that as you pull the affiliates out of California, you may actually have some sort of a sales tax liability. Can you put any of those rumors to rest? Thanks. You know.

Speaker 2

In terms of where we'll end up, I'm certainly not going to speculate where we'll end up over a period of time in terms of sales tax. Again, I'm talking the broader issue, not any particular state. The way I think about it is I talked about our approach in terms of the U.S. of having a federal or a national solution. I think that's the right approach. In terms of the business itself, one thing to keep in mind is that we do collect, as a reminder, sales tax or equivalent tax in approximately half of our business today. When you look at the growth rates that we're experiencing, again, half or a little over half of our business, we're collecting that today. That's part of the base that we have. In the end, what customers really want is they want a great experience. Certainly, they want low prices.

They want the selection that they're looking for. They want fast delivery. They want it to be as convenient as possible. That's true among certainly our retail customers. We continue to work on that experience. We continue to work on trying to make the seller experience even better. FBA, Fulfilled by Amazon, is another example of that. That happens to also have a customer benefit, the consumer, not just the seller. Sellers like it as well as consumers. We continue to make sure that our experience is good for our web services business. We take the customer experience extremely seriously. It's something we're working on very, very hard. In our digital offerings, Kindle, we have a great team who's innovating on behalf of customers across the business, including our Kindle business. They're trying to make sure that they continue to innovate.

All of these things that I mentioned are things that we think are important for customers and ultimately why customers will purchase from us or not. Those are the things that we're going to continue to work on because we can't predict what will happen in some of these other things. We can predict that customers will still want low prices. They'll still want great selection. They'll still want convenience. They'll still want innovative products and services on their behalf. Those are the things that we're going to continue to work on and have worked on since our inception.

Speaker 0

Regarding the affiliates, is there any sales tax? Are you guys liable for any past sales tax in California?

Speaker 2

Again, I can't, you know, I'm not going to comment on that.

Speaker 0

Okay, thank you.

Speaker 4

Our last question comes from Justin Post with Bank of America Merrill Lynch.

Speaker 3

Thank you. Two things. Talked a lot of things, but not AWS. Do you still think that business, I guess, how's the trajectory? Do you think it still can be as big as retail? Any thoughts on what the margin profile of that business looks like relative to your core? Just thoughts on AWS in general. Secondly, did you change the historical third-party unit forecasts? I had a couple of questions on that. It looks like some of the historicals might have been higher than what you might have said in a couple of prior quarters. Thank you.

Speaker 2

I'll answer the second one first. In terms of the units growth and the third-party units, what we did this quarter, which was different than we have previously, is that we actually went with a paid units growth as opposed to a total unit. Historically, we've been including, there's been some amount of free units that are included in those numbers. For example, if you take a look at our current quarter, the number I mentioned was paid unit growth of 56%. That compared to, again, that's paid unit growth. That compared to 45% paid unit growth in Q1. The number that we reported in Q1 was actually 51% because that included free. The comparable, the 45% for Q1 and the 56% for Q2, are comparable. Those are just paid units. The third-party percentage of total units was 36% this quarter, up from 34% last year.

Those are paid units of the percentage of total units. We thought it would be another interesting way of looking at it. We thought we'd provide it this quarter. In terms of the AWS business, it's certainly a very, very big space. Hard to say how big it'll be for Amazon. We're incredibly excited about that business. The team's done a terrific job and continue to innovate on behalf of customers. We have just a great team of innovators and operators running that business. We're very excited about it.

Speaker 0

Can you say whether it's in investment mode, or is it contributing at all to the bottom line at this point?

Speaker 2

You should expect that we continue to invest in that business because of the high growth nature of it. It's growing very fast. It is one of the reasons why you're seeing certainly a big contributor to our CapEx. It's also reflected in the tech and content line. We are very excited about what we're seeing there, and the team is going to continue to stay heads-down focused on their customer to drive that business.

Speaker 0

Thank you.

Speaker 2

Great. Thank you for joining us on the call today and for your questions. The replay will be available on our investor relations website at least through the end of the quarter. We appreciate your interest in Amazon.com Inc. and look forward to talking with you again next quarter.

Speaker 4

This concludes today's call. We thank you for your participation.