(AMZN): Downgraded to Neutral – UBS

UBS is making a potentially significant call in (NASDAQ:AMZN) downgrading the internet retailer to Neutral from Buy with a $180 target (prev. $195).

– More importantly, Pitz & Fitzgerald are lowering their 2011/2012 EPS estimates below consenus.

According to the firm, while they maintain their long-term thesis that AMZN will continue to dominate eCommerce, taking share from both offline and other online competitors, they are concerned that a more prolonged investment period – namely due to an increase in content costs and the signing new distribution deals with various Internet connected hardware providers, such as game consoles, TVs, Set Top Boxes, and Blu-Ray players – may occur for a longer period than they were originally anticipating.

No longer expecting lower costs in 2H – UBS notes they were expecting 50 bps and 130 bps of Y/Y margin improvement in Q3 and Q4, respectively – they believe this is no longer likely given that they see significant competition for content deals that will only continue to heat up – similar to their concerns with NFLX, they do not believe that AMZN will be immune to the rising cost of content as they seek to sign new agreements to build out their streaming offerings. Firm notes margin is already pressured from continued investment in IT and fulfillment centers. It now looks likely AMZN will need to invest in 1) acquiring content, 2) distribution deals, and 3) technology. UBS also expects free shipping (4.3% of rev in Q4) costs to increase alongside Prime membership.

UBS offers five incremental cost scenarios – firm’s sensitivity analysis suggests the new service could impact F11 EPS by $0.41, assuming an incremental $250MM in F11 expenses. Their scenarios provide insight on quarterly and annual EPS impact of additional $100MM, $250MM, $500MM, $750MM, and $1B in content / distribution costs. They weighted the expense towards the back half of the year.

Notablecalls: Well this is a bit of a shocker. This isn’t your oh-so-usual valuation downgrade. UBS is toying with an idea of an earnings miss. They are modeling 0.41 EPS impact in 2011. Putting a 40-60x multiple on this yields $16-24 bucks (10-15%) of potential downside.

Remember, UBS was ahead of consensus #’s coming into this call.

With this recent shaky tape, people will take notice.

I’m guessing we will see a 3-4% move in AMZN today, putting 172-170 levels in play.

PS: Forbes is out with a somewhat cautious piece on Are’s Days Of Tax Free Selling Numbered?

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