Forward-Looking Statements This Annual Report on Form 10-K includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact, including statements regarding guidance, industry prospects, or future results of operations or financial position, made in this Annual Report on Form 10-K are forward-looking. We use words such as anticipates, believes, expects, future, intends, and similar expressions to identify forward-looking statements. Forward-looking statements reflect management's current expectations and are inherently uncertain. Actual results could differ materially for a variety of reasons, including, among others, fluctuations in foreign exchange rates, changes in global economic conditions and customer spending, world events, the rate of growth of the Internet, online commerce, and cloud services, the amount that Amazon.com invests in new business opportunities and the timing of those investments, the mix of products and services sold to customers, the mix of net sales derived from products as compared with services, the extent to which we owe income or other taxes, competition, management of growth, potential fluctuations in operating results, international growth and expansion, the outcomes of claims, litigation, government investigations, and other proceedings, fulfillment, sortation, delivery, and data center optimization, risks of inventory management, seasonality, the degree to which we enter into, maintain, and develop commercial agreements, proposed and completed acquisitions and strategic transactions, payments risks, and risks of fulfillment throughput and productivity. In addition, the global economic climate amplifies many of these risks. These risks and uncertainties, as well as other risks and uncertainties that could cause our actual results to differ significantly from management's expectations, are described in greater detail in Item 1A of Part I, "Risk Factors." Overview Our primary source of revenue is the sale of a wide range of products and services to customers. The products offered through our stores include merchandise and content we have purchased for resale and products offered by third-party sellers, and we also manufacture and sell electronic devices and produce media content. Generally, we recognize gross revenue from items we sell from our inventory as product sales and recognize our net share of revenue of items sold by third-party sellers as service sales. We seek to increase unit sales across our stores, through increased product selection, across numerous product categories. We also offer other services such as compute, storage, and database offerings, fulfillment, advertising, publishing, and digital content subscriptions. Our financial focus is on long-term, sustainable growth in free cash flows1. Free cash flows are driven primarily by increasing operating income and efficiently managing working capital2 and cash capital expenditures, including our decision to purchase or lease property and equipment. Increases in operating income primarily result from increases in sales of products and services and efficiently managing our operating costs, partially offset by investments we make in longer-term strategic initiatives, including capital expenditures focused on improving the customer experience. To increase sales of products and services, we focus on improving all aspects of the customer experience, including lowering prices, improving availability, offering faster delivery and performance times, increasing selection, producing original content, increasing product categories and service offerings, expanding product information, improving ease of use, improving reliability, and earning customer trust. We seek to reduce our variable costs per unit and work to leverage our fixed costs. Our variable costs include product and content costs, payment processing and related transaction costs, picking, packaging, and preparing orders for shipment, transportation, customer service support, costs necessary to run AWS, and a portion of our marketing costs. Our fixed costs include the costs necessary to build and run our technology infrastructure; to build, enhance, and add features to our online stores, web services, electronic devices, and digital offerings; and to build and optimize our fulfillment and delivery networks and related facilities. Variable costs generally change directly with sales volume, while fixed costs generally are dependent on the timing of capacity needs, geographic expansion, category expansion, and other factors. To decrease our variable costs on a per unit basis and enable us to lower prices for customers, we seek to increase our direct sourcing, increase discounts from suppliers, and reduce defects in our processes. To minimize unnecessary growth in fixed costs, we seek to improve process efficiencies and maintain a lean culture.
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(1) See "Results of Operations - Non-GAAP Financial Measures" below for
additional information on our non-GAAP free cash flows financial measures.
(2) Working capital consists of accounts receivable, inventory, and accounts
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Because of our model we are able to turn our inventory quickly and have a cash-generating operating cycle3. On average, our high inventory velocity means we generally collect from consumers before our payments to suppliers come due. We expect variability in inventory turnover over time since it is affected by numerous factors, including our product mix, the mix of sales by us and by third-party sellers, our continuing focus on in-stock inventory availability and selection of product offerings, our investment in new geographies and product lines, and the extent to which we choose to utilize third-party fulfillment providers. We also expect some variability in accounts payable days over time since they are affected by several factors, including the mix of product sales, the mix of sales by third-party sellers, the mix of suppliers, seasonality, and changes in payment terms over time, including the effect of balancing pricing and timing of payment terms with suppliers. We expect spending in technology and content will increase over time as we add computer scientists, designers, software and hardware engineers, and merchandising employees. Our technology and content investment and capital spending projects often support a variety of product and service offerings due to geographic expansion and the cross-functionality of our systems and operations. We seek to invest efficiently in several areas of technology and content, including AWS, and expansion of new and existing product categories and service offerings, as well as in technology infrastructure to enhance the customer experience and improve our process efficiencies. We believe that advances in technology, specifically the speed and reduced cost of processing power, the advances of wireless connectivity, and the practical applications of artificial intelligence and machine learning, will continue to improve the consumer experience on the Internet and increase its ubiquity in people's lives. To best take advantage of these continued advances in technology, we are investing in initiatives to build and deploy innovative and efficient software and electronic devices. We are also investing in AWS, which offers a broad set of global compute, storage, database, and other service offerings to developers and enterprises of all sizes. We seek to efficiently manage shareholder dilution while maintaining the flexibility to issue shares for strategic purposes, such as financings, acquisitions, and aligning employee compensation with shareholders' interests. We utilize restricted stock units as our primary vehicle for equity compensation because we believe this compensation model aligns the long-term interests of our shareholders and employees. In measuring shareholder dilution, we include all vested and unvested stock awards outstanding, without regard to estimated forfeitures. Total shares outstanding plus outstanding stock awards were 507 million and 512 million as ofDecember 31, 2018 and 2019. Our financial reporting currency is theU.S. Dollar and changes in foreign exchange rates significantly affect our reported results and consolidated trends. For example, if theU.S. Dollar weakens year-over-year relative to currencies in our international locations, our consolidated net sales and operating expenses will be higher than if currencies had remained constant. Likewise, if theU.S. Dollar strengthens year-over-year relative to currencies in our international locations, our consolidated net sales and operating expenses will be lower than if currencies had remained constant. We believe that our increasing diversification beyond theU.S. economy through our growing international businesses benefits our shareholders over the long-term. We also believe it is useful to evaluate our operating results and growth rates before and after the effect of currency changes. In addition, the remeasurement of our intercompany balances can result in significant gains and losses associated with the effect of movements in foreign currency exchange rates. Currency volatilities may continue, which may significantly impact (either positively or negatively) our reported results and consolidated trends and comparisons. For additional information about each line item addressed above, refer to Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies." Our Annual Report on Form 10-K for the year endedDecember 31, 2018 includes a discussion and analysis of our financial condition and results of operations for the year endedDecember 31, 2017 in Item 7 of Part II, "Management's Discussion and Analysis of Financial Condition and Results of Operations." _______________________
(3) The operating cycle is the number of days of sales in inventory plus the
number of days of sales in accounts receivable minus accounts payable days.
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Critical Accounting Judgments The preparation of financial statements in conformity with generally accepted accounting principles ofthe United States ("GAAP") requires estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent liabilities in the consolidated financial statements and accompanying notes. TheSEC has defined a company's critical accounting policies as the ones that are most important to the portrayal of the company's financial condition and results of operations, and which require the company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Based on this definition, we have identified the critical accounting policies and judgments addressed below. We also have other key accounting policies, which involve the use of estimates, judgments, and assumptions that are significant to understanding our results. For additional information, see Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies." Although we believe that our estimates, assumptions, and judgments are reasonable, they are based upon information presently available. Actual results may differ significantly from these estimates under different assumptions, judgments, or conditions. Inventories Inventories, consisting of products available for sale, are primarily accounted for using the first-in first-out method, and are valued at the lower of cost and net realizable value. This valuation requires us to make judgments, based on currently available information, about the likely method of disposition, such as through sales to individual customers, returns to product vendors, or liquidations, and expected recoverable values of each disposition category. These assumptions about future disposition of inventory are inherently uncertain and changes in our estimates and assumptions may cause us to realize material write-downs in the future. As a measure of sensitivity, for every 1% of additional inventory valuation allowance as ofDecember 31, 2019 , we would have recorded an additional cost of sales of approximately$230 million . In addition, we enter into supplier commitments for certain electronic device components and certain products. These commitments are based on forecasted customer demand. If we reduce these commitments, we may incur additional costs. Income Taxes We are subject to income taxes in theU.S. (federal and state) and numerous foreign jurisdictions. Tax laws, regulations, administrative practices, principles, and interpretations in various jurisdictions may be subject to significant change, with or without notice, due to economic, political, and other conditions, and significant judgment is required in evaluating and estimating our provision and accruals for these taxes. There are many transactions that occur during the ordinary course of business for which the ultimate tax determination is uncertain. Our effective tax rates could be affected by numerous factors, such as changes in our business operations, acquisitions, investments, entry into new businesses and geographies, intercompany transactions, the relative amount of our foreign earnings, including earnings being lower than anticipated in jurisdictions where we have lower statutory rates and higher than anticipated in jurisdictions where we have higher statutory rates, losses incurred in jurisdictions for which we are not able to realize related tax benefits, the applicability of special tax regimes, changes in foreign currency exchange rates, changes in our stock price, changes in our deferred tax assets and liabilities and their valuation, changes in the laws, regulations, administrative practices, principles, and interpretations related to tax, including changes to the global tax framework, competition, and other laws and accounting rules in various jurisdictions. In addition, a number of countries are actively pursuing changes to their tax laws applicable to corporate multinationals, such as theU.S. tax reform legislation commonly known as theU.S. Tax Cuts and Jobs Act of 2017 (the "U.S. Tax Act"). Finally, foreign governments may enact tax laws in response to theU.S. Tax Act that could result in further changes to global taxation and materially affect our financial position and results of operations. TheU.S. Tax Act significantly changed how theU.S. taxes corporations. TheU.S. Tax Act requires complex computations to be performed that were not previously required byU.S. tax law, significant judgments to be made in interpretation of the provisions of theU.S. Tax Act, significant estimates in calculations, and the preparation and analysis of information not previously relevant or regularly produced.The U.S. Treasury Department , theIRS , and other standard-setting bodies will continue to interpret or issue guidance on how provisions of theU.S. Tax Act will be applied or otherwise administered. As future guidance is issued, we may make adjustments to amounts that we have previously recorded that may materially impact our provision for income taxes in the period in which the adjustments are made. We are also currently subject to tax controversies in various jurisdictions, and these jurisdictions may assess additional income tax liabilities against us. Developments in an audit, investigation, or other tax controversy could have a material effect on our operating results or cash flows in the period or periods for which that development occurs, as well as for prior and subsequent periods. We regularly assess the likelihood of an adverse outcome resulting from these proceedings to determine the adequacy of our tax accruals. Although we believe our tax estimates are reasonable, the final outcome of audits, investigations, and any other tax controversies could be materially different from our historical income tax provisions and accruals. 21
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Recent Accounting Pronouncements See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies." Liquidity and Capital Resources Cash flow information, which reflects retrospective adjustments to our consolidated statements of cash flows as described in Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies," is as follows (in millions): Year Ended December 31, 2018 2019 Cash provided by (used in): Operating activities$ 30,723 $ 38,514 Investing activities (12,369 ) (24,281 ) Financing activities (7,686 ) (10,066 ) Our principal sources of liquidity are cash flows generated from operations and our cash, cash equivalents, and marketable securities balances, which, at fair value, were$41.3 billion and$55.0 billion as ofDecember 31, 2018 and 2019. Amounts held in foreign currencies were$13.8 billion and$15.3 billion as ofDecember 31, 2018 and 2019, and were primarily Euros, British Pounds, and Japanese Yen. Cash provided by (used in) operating activities was$30.7 billion and$38.5 billion in 2018 and 2019. Our operating cash flows result primarily from cash received from our consumer, seller, developer, enterprise, and content creator customers, and advertisers, offset by cash payments we make for products and services, employee compensation, payment processing and related transaction costs, operating leases, and interest payments on our long-term obligations. Cash received from our customers and other activities generally corresponds to our net sales. Because consumers primarily use credit cards to buy from us, our receivables from consumers settle quickly. The increase in operating cash flow in 2019, compared to the prior year, is primarily due to the increase in net income, excluding non-cash charges such as depreciation, amortization, and stock-based compensation. Cash provided by (used in) operating activities is also subject to changes in working capital. Working capital at any specific point in time is subject to many variables, including seasonality, inventory management and category expansion, the timing of cash receipts and payments, vendor payment terms, and fluctuations in foreign exchange rates. Cash provided by (used in) investing activities corresponds with cash capital expenditures, including leasehold improvements, incentives received from property and equipment vendors, proceeds from asset sales, cash outlays for acquisitions, investments in other companies and intellectual property rights, and purchases, sales, and maturities of marketable securities. Cash provided by (used in) investing activities was$(12.4) billion and$(24.3) billion in 2018 and 2019, with the variability caused primarily by our decision to purchase or lease property and equipment and purchases, maturities, and sales of marketable securities. Cash capital expenditures were$11.3 billion , and$12.7 billion in 2018 and 2019, which primarily reflect additional capacity to support our fulfillment operations and additional investments in support of continued business growth in technology infrastructure (the majority of which is to support AWS). We made cash payments, net of acquired cash, related to acquisition and other investment activity of$2.2 billion and$2.5 billion in 2018 and 2019. Cash provided by (used in) financing activities was$(7.7) billion and$(10.1) billion in 2018 and 2019. Cash outflows from financing activities result from principal repayments of finance leases and financing obligations and repayments of long-term debt and other, and were$8.5 billion and$12.3 billion in 2018 and 2019. Property and equipment acquired under finance leases was$10.6 billion and$13.7 billion in 2018 and 2019, with the increase reflecting investments in support of continued business growth primarily due to investments in technology infrastructure for AWS, which investments we expect to continue over time. We had no borrowings outstanding under the commercial paper program (the "Commercial Paper Program") or unsecured revolving credit facility (the "Credit Agreement") and$740 million of borrowings outstanding under our$740 million secured revolving credit facility (the "Credit Facility") as ofDecember 31, 2019 . See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 6 - Debt" for additional information. In 2018 and 2019, we recorded net tax provisions of$1.2 billion and$2.4 billion . Certain foreign subsidiary earnings are subject toU.S. taxation under theU.S. Tax Act, which also repealsU.S. taxation on the subsequent repatriation of those earnings. We intend to invest substantially all of our foreign subsidiary earnings, as well as our capital in our foreign 22
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subsidiaries, indefinitely outside of theU.S. in those jurisdictions in which we would incur significant, additional costs upon repatriation of such amounts. As ofDecember 31, 2019 , cash, cash equivalents, and marketable securities held by foreign subsidiaries was$13.4 billion . Tax benefits relating to excess stock-based compensation deductions and accelerated depreciation deductions are reducing ourU.S. taxable income. TheU.S. Tax Act enhanced and extended accelerated depreciation deductions by allowing full expensing of qualified property, primarily equipment, through 2022. Cash taxes paid (net of refunds) were$1.2 billion and$881 million for 2018 and 2019. As ofDecember 31, 2019 , we had approximately$1.7 billion of federal tax credits potentially available to offset future tax liabilities. Our federal tax credits are primarily related to theU.S. federal research and development credit. As we utilize our federal tax credits we expect cash paid for taxes to increase. We endeavor to manage our global taxes on a cash basis, rather than on a financial reporting basis. In connection with theEuropean Commission's October 2017 decision against us on state aid, Luxembourg tax authorities computed an initial recovery amount, consistent with theEuropean Commission's decision, of approximately €250 million, that we deposited into escrow inMarch 2018 , subject to adjustment pending conclusion of all appeals. Our liquidity is also affected by restricted cash balances that are pledged as collateral for real estate leases, amounts due to third-party sellers in certain jurisdictions, debt, and standby and trade letters of credit. To the extent we process payments for third-party sellers or offer certain types of stored value to our customers, some jurisdictions may restrict our use of those funds. These restrictions would result in the reclassification of a portion of our cash and cash equivalents from "Cash and cash equivalents" to restricted cash, which is classified within "Accounts receivable, net and other" and "Other assets" on our consolidated balance sheets. As ofDecember 31, 2018 and 2019, restricted cash, cash equivalents, and marketable securities were$426 million and$321 million . See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 7 - Commitments and Contingencies" for additional discussion of our principal contractual commitments, as well as our pledged assets. Additionally, purchase obligations and open purchase orders, consisting of inventory and significant non-inventory commitments, were$15.7 billion as ofDecember 31, 2019 . These purchase obligations and open purchase orders are generally cancellable in full or in part through the contractual provisions. We believe that cash flows generated from operations and our cash, cash equivalents, and marketable securities balances, as well as our borrowing arrangements, will be sufficient to meet our anticipated operating cash needs for at least the next twelve months. However, any projections of future cash needs and cash flows are subject to substantial uncertainty. See Item 1A of Part I, "Risk Factors." We continually evaluate opportunities to sell additional equity or debt securities, obtain credit facilities, obtain finance and operating lease arrangements, enter into financing obligations, repurchase common stock, pay dividends, or repurchase, refinance, or otherwise restructure our debt for strategic reasons or to further strengthen our financial position. The sale of additional equity or convertible debt securities would likely be dilutive to our shareholders. In addition, we will, from time to time, consider the acquisition of, or investment in, complementary businesses, products, services, capital infrastructure, and technologies, which might affect our liquidity requirements or cause us to secure additional financing, or issue additional equity or debt securities. There can be no assurance that additional credit lines or financing instruments will be available in amounts or on terms acceptable to us, if at all. 23
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Results of Operations We have organized our operations into three segments:North America , International, and AWS. These segments reflect the way the Company evaluates its business performance and manages its operations. See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 10 - Segment Information."Net Sales Net sales include product and service sales. Product sales represent revenue from the sale of products and related shipping fees and digital media content where we record revenue gross. Service sales primarily represent third-party seller fees, which includes commissions and any related fulfillment and shipping fees, AWS sales, Amazon Prime membership fees, advertising services, and certain digital content subscriptions. Net sales information is as follows (in millions): Year Ended December 31, 2018 2019Net Sales : North America$ 141,366 $ 170,773 International 65,866 74,723 AWS 25,655 35,026 Consolidated$ 232,887 $ 280,522 Year-over-year Percentage Growth: North America 33 % 21 % International 21 13 AWS 47 37 Consolidated 31 20 Year-over-year Percentage Growth, excluding the effect of foreign exchange rates: North America 33 % 21 % International 19 17 AWS 47 37 Consolidated 30 22 Net sales mix: North America 61 % 61 % International 28 27 AWS 11 12 Consolidated 100 % 100 % Sales increased 20% in 2019, compared to the prior year. Changes in foreign currency exchange rates impacted net sales by$1.3 billion and$(2.6) billion for 2018 and 2019. For a discussion of the effect on sales growth of foreign exchange rates, see "Effect of Foreign Exchange Rates" below.North America sales increased 21% in 2019, compared to the prior year. The sales growth primarily reflects increased unit sales, including sales by third-party sellers. Increased unit sales were driven largely by our continued efforts to reduce prices for our customers, including from our shipping offers, increased in-stock inventory availability, and increased selection. International sales increased 13% in 2019, compared to the prior year. The sales growth primarily reflects increased unit sales, including sales by third-party sellers. Increased unit sales were driven largely by our continued efforts to reduce prices for our customers, including from our shipping offers, increased in-stock inventory availability, and increased selection. Changes in foreign currency exchange rates impacted International net sales by$1.3 billion and$(2.4) billion in 2018 and 2019. AWS sales increased 37% in 2019, compared to the prior year. The sales growth primarily reflects increased customer usage, partially offset by pricing changes. Pricing changes were driven largely by our continued efforts to reduce prices for our customers. 24
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Operating Income (Loss) Operating income (loss) by segment is as follows (in millions): Year EndedDecember 31 ,
2018 2019 Operating Income (Loss): North America$ 7,267 $ 7,033 International (2,142 ) (1,693 ) AWS 7,296 9,201 Consolidated$ 12,421 $ 14,541 Operating income was$12.4 billion and$14.5 billion for 2018 and 2019. We believe that operating income (loss) is a more meaningful measure than gross profit and gross margin due to the diversity of our product categories and services. The decrease inNorth America operating income in absolute dollars in 2019, compared to the prior year, is primarily due to increased shipping costs and marketing expense, partially offset by increased unit sales, including sales by third-party sellers, and advertising sales and slower growth in certain operating expenses. Changes in foreign exchange rates impacted operating income by$17 million and$23 million for 2018 and 2019. The decrease in International operating loss in absolute dollars in 2019, compared to the prior year, is primarily due to increased unit sales, including sales by third-party sellers, and advertising sales, and slower growth in certain operating expenses, partially offset by increased marketing expense. Changes in foreign exchange rates impacted operating loss by$258 million and$(116) million for 2018 and 2019. The increase in AWS operating income in absolute dollars in 2019, compared to the prior year, is primarily due to increased customer usage and cost structure productivity, partially offset by pricing changes and increased spending on technology infrastructure and payroll and related expenses, which was primarily driven by additional investments to support the business growth. Changes in foreign exchange rates impacted operating income by$(49) million and$273 million for 2018 and 2019. 25
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Operating Expenses Information about operating expenses is as follows (in millions): Year Ended December 31, 2018 2019 Operating expenses: Cost of sales$ 139,156 $ 165,536 Fulfillment 34,027 40,232 Technology and content 28,837 35,931 Marketing 13,814 18,878 General and administrative 4,336 5,203 Other operating expense (income), net 296 201 Total operating expenses$ 220,466 $ 265,981 Year-over-year Percentage Growth: Cost of sales 24 % 19 % Fulfillment 35 18 Technology and content 27 25 Marketing 37 37 General and administrative 18 20 Other operating expense (income), net 38 (32 ) Percent ofNet Sales : Cost of sales 59.8 % 59.0 % Fulfillment 14.6 14.3 Technology and content 12.4 12.8 Marketing 5.9 6.7 General and administrative 1.9 1.9 Other operating expense (income), net 0.1 0.1 Cost of Sales Cost of sales primarily consists of the purchase price of consumer products, inbound and outbound shipping costs, including costs related to sortation and delivery centers and where we are the transportation service provider, and digital media content costs where we record revenue gross, including video and music. The increase in cost of sales in absolute dollars in 2019, compared to the prior year, is primarily due to increased product and shipping costs resulting from increased sales. Shipping costs to receive products from our suppliers are included in our inventory and recognized as cost of sales upon sale of products to our customers. Shipping costs, which include sortation and delivery centers and transportation costs, were$27.7 billion and$37.9 billion in 2018 and 2019. We expect our cost of shipping to continue to increase to the extent our customers accept and use our shipping offers at an increasing rate, we reduce shipping rates, we use more expensive shipping methods, including faster delivery, and we offer additional services. We seek to mitigate costs of shipping over time in part through achieving higher sales volumes, optimizing our fulfillment network, negotiating better terms with our suppliers, and achieving better operating efficiencies. We believe that offering low prices to our customers is fundamental to our future success, and one way we offer lower prices is through shipping offers. Costs to operate our AWS segment are primarily classified as "Technology and content" as we leverage a shared infrastructure that supports both our internal technology requirements and external sales to AWS customers. 26
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Fulfillment
Fulfillment costs primarily consist of those costs incurred in operating and staffing ourNorth America and International fulfillment centers, physical stores, and customer service centers and payment processing costs. While AWS payment processing and related transaction costs are included in fulfillment, AWS costs are primarily classified as "Technology and content." Fulfillment costs as a percentage of net sales may vary due to several factors, such as payment processing and related transaction costs, our level of productivity and accuracy, changes in volume, size, and weight of units received and fulfilled, the extent to which third party sellers utilize Fulfillment by Amazon services, timing of fulfillment network and physical store expansion, the extent we utilize fulfillment services provided by third parties, mix of products and services sold, and our ability to affect customer service contacts per unit by implementing improvements in our operations and enhancements to our customer self-service features. Additionally, because payment processing costs associated with seller transactions are based on the gross purchase price of underlying transactions, and payment processing and related transaction costs are higher as a percentage of sales versus our retail sales, sales by our sellers have higher payment processing costs as a percent of net sales. The increase in fulfillment costs in absolute dollars in 2019, compared to the prior year, is primarily due to variable costs corresponding with increased product and service sales volume and inventory levels and costs from expanding our fulfillment network, which includes physical stores. We seek to expand our fulfillment network to accommodate a greater selection and in-stock inventory levels and to meet anticipated shipment volumes from sales of our own products as well as sales by third parties for which we provide the fulfillment services. We regularly evaluate our facility requirements. Technology and Content Technology and content costs include payroll and related expenses for employees involved in the research and development of new and existing products and services, development, design, and maintenance of our stores, curation and display of products and services made available in our online stores, and infrastructure costs. Infrastructure costs include servers, networking equipment, and data center related depreciation and amortization, rent, utilities, and other expenses necessary to support AWS and other Amazon businesses. Collectively, these costs reflect the investments we make in order to offer a wide variety of products and services to our customers. We seek to invest efficiently in numerous areas of technology and content so we may continue to enhance the customer experience and improve our process efficiency through rapid technology developments, while operating at an ever increasing scale. Our technology and content investment and capital spending projects often support a variety of product and service offerings due to geographic expansion and the cross-functionality of our systems and operations. We expect spending in technology and content to increase over time as we continue to add employees and technology infrastructure. These costs are allocated to segments based on usage. The increase in technology and content costs in absolute dollars in 2019, compared to the prior year, is primarily due to an increase in spending on technology infrastructure and increased payroll and related costs associated with technical teams responsible for expanding our existing products and services and initiatives to introduce new products and service offerings. We expect technology and content costs to grow at a slower rate in 2020 due to an increase in the estimated useful life of our servers, which will impact each of our segments. See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies - Use of Estimates" for additional information on the change in estimated useful life of our servers. Marketing Marketing costs include advertising and payroll and related expenses for personnel engaged in marketing and selling activities, including sales commissions related to AWS. We direct customers to our stores primarily through a number of marketing channels, such as our sponsored search, third party customer referrals, social and online advertising, television advertising, and other initiatives. Our marketing costs are largely variable, based on growth in sales and changes in rates. To the extent there is increased or decreased competition for these traffic sources, or to the extent our mix of these channels shifts, we would expect to see a corresponding change in our marketing costs. The increase in marketing costs in absolute dollars in 2019, compared to the prior year, is primarily due to increased spending on marketing channels, as well as payroll and related expenses for personnel engaged in marketing and selling activities. While costs associated with Amazon Prime memberships and other shipping offers are not included in marketing expense, we view these offers as effective worldwide marketing tools, and intend to continue offering them indefinitely. 27
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General and Administrative The increase in general and administrative costs in absolute dollars in 2019, compared to the prior year, is primarily due to increases in payroll and related expenses. Other Operating Expense (Income), Net Other operating expense (income), net was$296 million and$201 million during 2018 and 2019, and is primarily related to the amortization of intangible assets. Interest Income and Expense Our interest income was$440 million and$832 million during 2018 and 2019. We generally invest our excess cash in AAA-rated money market funds and investment grade short- to intermediate-term fixed income securities. Our interest income corresponds with the average balance of invested funds based on the prevailing rates, which vary depending on the geographies and currencies in which they are invested. Interest expense was$1.4 billion and$1.6 billion in 2018 and 2019. The increase is primarily related to finance leases. Our long-term lease liabilities were$9.7 billion and$39.8 billion as ofDecember 31, 2018 and 2019. Our long-term debt was$23.5 billion and$23.4 billion as ofDecember 31, 2018 and 2019. See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 4 - Leases and Note 6 - Debt" for additional information. Other Income (Expense), Net Other income (expense), net was$(183) million and$203 million during 2018 and 2019. The primary components of other income (expense), net are related to equity securities and warrant valuations and foreign currency. Income Taxes Our effective tax rate is subject to significant variation due to several factors, including variability in our pre-tax and taxable income and loss and the mix of jurisdictions to which they relate, intercompany transactions, the applicability of special tax regimes, changes in how we do business, acquisitions, investments, audit-related developments, changes in our stock price, changes in our deferred tax assets and liabilities and their valuation, foreign currency gains (losses), changes in statutes, regulations, case law, and administrative practices, principles, and interpretations related to tax, including changes to the global tax framework, competition, and other laws and accounting rules in various jurisdictions, and relative changes of expenses or losses for which tax benefits are not recognized. Additionally, our effective tax rate can be more or less volatile based on the amount of pre-tax income or loss. For example, the impact of discrete items and non-deductible expenses on our effective tax rate is greater when our pre-tax income is lower. We recorded a provision for income taxes of$1.2 billion and$2.4 billion in 2018 and 2019. Our provision for income taxes in 2019 was higher than in 2018 primarily due to an increase inU.S. pre-tax income, a decline in excess tax benefits from stock-based compensation, and the one-time provisional tax benefit of theU.S. Tax Act recognized in 2018. Tax benefits relating to excess stock-based compensation deductions and accelerated depreciation deductions are reducing ourU.S. taxable income. TheU.S. Tax Act enhanced and extended accelerated depreciation deductions by allowing full expensing of qualified property, primarily equipment, through 2022. As ofDecember 31, 2019 , we had approximately$1.7 billion of federal tax credits potentially available to offset future tax liabilities. Our federal tax credits are primarily related to theU.S. federal research and development credit. See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 9 - Income Taxes" for additional information. Non-GAAP Financial Measures Regulation G, Conditions for Use of Non-GAAP Financial Measures, and otherSEC regulations define and prescribe the conditions for use of certain non-GAAP financial information. Our measures of free cash flows and the effect of foreign exchange rates on our consolidated statements of operations meet the definition of non-GAAP financial measures. We provide multiple measures of free cash flows because we believe these measures provide additional perspective on the impact of acquiring property and equipment with cash and through finance leases and financing obligations. We adopted new lease accounting guidance onJanuary 1, 2019 without retrospectively adjusting prior periods. As a result, the line items used in our calculation of measures of free cash flows have changed. See Item 8 of Part II, "Financial Statements and Supplementary Data - Note 1 - Description of Business and Accounting Policies." 28
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Free Cash Flow Free cash flow is cash flow from operations reduced by "Purchases of property and equipment, net of proceeds from sales and incentives." The following is a reconciliation of free cash flow to the most comparable GAAP cash flow measure, "Net cash provided by (used in) operating activities," for 2018 and 2019 (in millions): Year EndedDecember 31, 2018 2019
Net cash provided by (used in) operating activities
$ 38,514 Purchases of property and equipment, net of proceeds from sales and incentives (11,323 ) (12,689 ) Free cash flow$ 19,400 $ 25,825
Net cash provided by (used in) investing activities
$ (24,281 ) Net cash provided by (used in) financing activities$ (7,686 )
Free Cash Flow Less Principal Repayments of Finance Leases and Financing Obligations Free cash flow less principal repayments of finance leases and financing obligations is free cash flow reduced by "Principal repayments of finance leases" and "Principal repayments of financing obligations." Principal repayments of finance leases and financing obligations approximates the actual payments of cash for our finance leases and financing obligations. The following is a reconciliation of free cash flow less principal repayments of finance leases and financing obligations to the most comparable GAAP cash flow measure, "Net cash provided by (used in) operating activities," for 2018 and 2019 (in millions): Year EndedDecember 31, 2018 2019
Net cash provided by (used in) operating activities
(11,323 ) (12,689 ) Free cash flow 19,400
25,825
Principal repayments of finance leases (1) (7,449 ) (9,628 ) Principal repayments of financing obligations (1) (337 )
(27 ) Free cash flow less principal repayments of finance leases and financing obligations
$ 11,614
Net cash provided by (used in) investing activities
$ (24,281 ) Net cash provided by (used in) financing activities$ (7,686 )
_______________
(1) Amounts for 2018 have not been retrospectively adjusted.
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Free Cash Flow Less Equipment Finance Leases and Principal Repayments of All Other Finance Leases and Financing Obligations Free cash flow less equipment finance leases and principal repayments of all other finance leases and financing obligations is free cash flow reduced by equipment acquired under finance leases, which is included in "Property and equipment acquired under finance leases," principal repayments of all other finance lease liabilities, which is included in "Principal repayments of finance leases," and "Principal repayments of financing obligations." All other finance lease liabilities and financing obligations consists of property. In this measure, equipment acquired under finance leases is reflected as if these assets had been purchased with cash, which is not the case as these assets have been leased. The following is a reconciliation of free cash flow less equipment finance leases and principal repayments of all other finance leases and financing obligations to the most comparable GAAP cash flow measure, "Net cash provided by (used in) operating activities," for 2018 and 2019 (in millions): Year EndedDecember 31, 2018 2019
Net cash provided by (used in) operating activities
(11,323 ) (12,689 ) Free cash flow 19,400
25,825
Equipment acquired under finance leases (1) (10,615 ) (12,916 ) Principal repayments of all other finance leases (2) - (392 ) Principal repayments of financing obligations (337 )
(27 ) Free cash flow less equipment finance leases and principal repayments of all other finance leases and financing obligations
$ 8,448
Net cash provided by (used in) investing activities
$ (24,281 ) Net cash provided by (used in) financing activities$ (7,686 )
___________________
(1) For the twelve months ended
equipment included in "Property and equipment acquired under finance leases"
of
(2) For the twelve months ended
property included in "Principal repayments of finance leases" of$9,628 million . Amounts for 2018 have not been retrospectively adjusted. All of these free cash flows measures have limitations as they omit certain components of the overall cash flow statement and do not represent the residual cash flow available for discretionary expenditures. For example, these measures of free cash flows do not incorporate the portion of payments representing principal reductions of debt or cash payments for business acquisitions. Additionally, our mix of property and equipment acquisitions with cash or other financing options may change over time. Therefore, we believe it is important to view free cash flows measures only as a complement to our entire consolidated statements of cash flows. 30
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Effect of Foreign Exchange Rates Information regarding the effect of foreign exchange rates, versus theU.S. Dollar, on our net sales, operating expenses, and operating income is provided to show reported period operating results had the foreign exchange rates remained the same as those in effect in the comparable prior year periods. The effect on our net sales, operating expenses, and operating income from changes in our foreign exchange rates versus theU.S. Dollar is as follows (in millions): Year Ended December 31, 2018 Year Ended December 31, 2019 Exchange At Prior Exchange At Prior As Rate Year As Rate Year Reported Effect (1) Rates (2) Reported Effect (1) Rates (2) Net sales$ 232,887 $ (1,253 ) $
231,634
220,466 (1,027 ) 219,439 265,981 2,740 268,721 Operating income 12,421 (226 ) 12,195 14,541 (180 ) 14,361
___________________
(1) Represents the change in reported amounts resulting from changes in foreign
exchange rates from those in effect in the comparable prior year period for
operating results.
(2) Represents the outcome that would have resulted had foreign exchange rates in
the reported period been the same as those in effect in the comparable prior
year period for operating results.
Guidance
We provided guidance onJanuary 30, 2020 , in our earnings release furnished on Form 8-K as set forth below. These forward-looking statements reflect Amazon.com's expectations as ofJanuary 30, 2020 , and are subject to substantial uncertainty. Our results are inherently unpredictable and may be materially affected by many factors, such as fluctuations in foreign exchange rates, changes in global economic conditions and customer spending, world events, the rate of growth of the Internet, online commerce, and cloud services, as well as those outlined in Item 1A of Part I, "Risk Factors." First Quarter 2020 Guidance • Net sales are expected to be between$69.0 billion and$73.0 billion , or
to grow between 16% and 22% compared with first quarter 2019. This
guidance anticipates a favorable impact of approximately 5 basis points
from foreign exchange rates.
• Operating income is expected to be between
compared with
approximately
in the estimated useful life of our servers beginning onJanuary 1, 2020 .
• This guidance assumes, among other things, that no additional business
acquisitions, investments, restructurings, or legal settlements are concluded. 31
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