Should You Hold Adobe Systems (ADBE)?

While Nvidia and Microsoft bask in the AI spotlight, Adobe Systems (ADBE) has been quietly revolutionizing the creative world with its own AI innovations.

From Photoshop’s mind-bending generative fill to Acrobat’s AI-powered document analysis, Adobe is proving it’s not just a bystander in the AI race. 

The company’s recent Q2 results showcased a solid 10% year-over-year revenue growth, hitting a record $5.31 billion.

But with the stock down slightly year-to-date, investors are asking: Is Adobe still a creative powerhouse worth holding onto, or has the AI hype pushed it too far?

Our TrackStar data shows a surge in financial professionals searching for Adobe alongside terms like “generative AI” and “creative automation”…

…which begs the question: Is Adobe positioning itself as the sleeper hit in the AI revolution?

Adobe’s Business

Ever wondered how your favorite Instagram filters or sleek website designs come to life? Chances are, Adobe’s software played a pivotal role. As the mastermind behind ubiquitous tools like Photoshop and Acrobat, 

Adobe has been shaping the digital landscape for over four decades, empowering creatives and businesses alike to realize their visions.

Adobe’s fingerprints are everywhere in our digital world, from the dazzling special effects in blockbuster movies to the seamless PDF documents we use daily. 

The company serves a diverse clientele, ranging from solo artists and small businesses to Fortune 500 companies and government agencies. With a global presence spanning more than 40 countries, Adobe’s influence on digital innovation knows no borders.

Adobe segments its business into three main areas:

• Digital Media (74% of total revenues) – This is the bread and butter of Adobe, housing the Creative Cloud and Document Cloud. Think Photoshop for stunning visuals, Illustrator for eye-catching graphics, and Acrobat for all things PDF.
• Digital Experience (25% of total revenues) – Here’s where Adobe flexes its marketing muscle, offering tools for analytics, content management, and advertising that help businesses create personalized customer experiences.
• Publishing and Advertising (1% of total revenues) – A smaller slice of the pie, this segment includes legacy products for technical publishing and web conferencing.

Source: Adobe Q2 2024 Datasheet

Adobe’s latest financial report card shows it’s still at the top of its game. 

In the quarter ending May 31, 2024, the company raked in a record $5.31 billion in revenue, growing 10% year-over-year. 

What’s driving this success? A surge in demand for its Digital Media and Digital Experience offerings, particularly in Creative Cloud and Document Cloud subscriptions. 

Adobe isn’t resting on its laurels. The company is diving headfirst into the AI revolution with offerings like Adobe Firefly and Acrobat AI Assistant, proving it’s still a trailblazer in the digital experience realm.

Financials

Source: Stock Analysis

Adobe’s revenue growth has been nothing short of remarkable, up double digits every year for the past decade.

At the same time, margins held fairly constant, with profit and free cash flow margins only recently taking a hit from an acquisition termination fee last quarter. Otherwise, they’re virtually unchanged.

With very little debt, management uses the $6 billion to $7 billion a year in cash flow to repurchase shares, giving shareholders a roughly 2.8% return.

Valuation

Source: Seeking Alpha

Adobe’s performance comes with a premium valuation. The stock trades at over 50x trailing twelve-month earnings, 47x forward estimates, and 38x operating cash flow.

Yet, it’s actually cheaper than most of its peers, with Intuit (INTU) discounted slightly more on an operating cash flow multiple, and Salesforce.com (CRM) cheaper on an earnings and operating cash flow multiple.

Growth

Source: Seeking Alpha

While Adobe doesn’t put up the CAGR like Shopify (SHOP) or ServiceNow (NOW), its stable margins allowed it to translate revenue growth directly into profitability.

The only knock is its latest EPS and cash flow performance, which again was hurt by the $1 billion termination fee.

Profitability

Source: Seeking Alpha

Across the board, Adobe runs the best margins or close to it compared to all its peers.

That’s allowed it to deliver incredible returns on equity, assets, and total capital.

Our Opinion 8/10

Other than a premium valuation, we see little reason not to own Adobe.

The company consistently delivers high-quality growth and earnings, which it uses for generous share buybacks.

With the stock down slightly year-to-date, we see this as an opportunity to pick up shares on the cheap.

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