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Stock Analyst Update

EToys Debacle Shouldn't Drag Down Amazon

Not all e-tailers are created equal.

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In the wake of eToys' (ETYS) 72% plunge after the company announced a revenue shortfall, shares of online-retail giant Amazon.com (AMZN) were down more than 12% Monday morning. Other e-tailers such as Buy.com (BUYX) and Barnesandnoble.com (BNBN) were down by similar amounts. While many of these e-tailers are on shaky ground anyway, we think the market is overreacting in the case of Amazon, which has become eToys' major online competitor this Christmas through its alliance with Toysrus.com (TOY).

EToys' problems are mostly company-specific, and Amazon appears to be doing just fine so far this holiday season. Last week, Media Metrix released numbers showing that for the week ending December 10, online shopping sites overall increased their traffic 28% from the same period last year. Amazon's traffic was up 32% versus last year, and the site's "Delight-o-meter", which measures items sold, suggests that sales are keeping pace with that increased traffic. The company is on target to meet its revenue goal of $1 billion for the fourth quarter, or at least come very close.

In contrast, traffic at eToys for the week ending December 10 was flat compared to last year, and its traffic for the month of November was actually down 14% from a year ago. The falloff is particularly damaging because eToys had spent a lot of money on infrastructure and advertising in anticipation of higher holiday sales. Amazon, in contrast, has been able to increase traffic without spending nearly as much (in percentage terms) on marketing. 

Moreover, the Media Metrix numbers show that association with a well-known offline brand is becoming more and more important. Among the top 10 sites whose traffic grew the most between December 3 and 10, eight are affilated with offline chains, including such sites as Eddiebauer.com, Walmart.com, and Radioshack.com. This makes Amazon's alliance with Toysrus.com look particularly smart: Online customers are increasingly gravitating toward brands they already know, leaving upstarts like eToys out in the cold.

While there are still plenty of risks associated with Amazon, we think its dominant market position is a strong positive. Whether it's a good buy at its current price depends on how fast it can grow. It will be in good shape if it can manage 30% annualized revenue growth for the next five years, a goal we think is achievable if it inks more clicks-and-mortar alliances like the Toysrus.com deal. In any case, Amazon will certainly outlast eToys, and for investors willing to take a chance, its stock is now more attractive than it was a few weeks ago.

David Kathman does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.