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Why Adobe Is Up 40% in 2018

By Danny Vena – Updated Nov 13, 2018 at 11:15AM

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The creative software purveyor has produced remarkable gains lately, and the best may be yet to come.

Adobe Systems (ADBE -2.67%) is best known for its ubiquitous portable document format (PDF), widely used for formatting and sharing documents. Several years ago, the company made the difficult transition from selling shrink-wrapped software to a software-as-a-service (SaaS) model, providing a host of cloud-based offerings to the creative community, including image- and video-editing software such as Photoshop, Illustrator, and Premiere Pro.

The company's big risk paid off, as the stock is up more than 400% over the past five years and has gained 40% thus far in 2018 -- even after the recent market slump. For perspective, the broader market, as represented by the S&P 500, has gained about 3% so far this year. Let's look at what's driving Adobe's stellar growth and what it says about the company's future prospects.

Adobe San Jose HQ

Image source: Adobe.

A broken record

Adobe has had a record-breaking 2018 by any measure. The company has reported record quarters in each of its three 2018 earnings reports, and that momentum is likely to continue. The fiscal third-quarter results Adobe reported in September are representative of the gains the company has achieved so far this year.

Metric

Q3 2018

Q3 2017

Year-Over-Year Change

Revenue

$2.29 billion

$1.84 billion

24%

Operating income

$718.6 million

$545.7 million

32%

Net income

$666.3 million

$419.6 million

59%

Earnings per share

$1.36

$0.85

60%

Data source: Adobe fiscal 2018 third-quarter financial release.

For the third consecutive quarter, Adobe reported record revenue that beat not only analysts' consensus estimates but its own optimistic forecasts as well. This marked the 13th consecutive quarter in which year-over-year growth exceeded 20%, and the 16th consecutive quarter of rising sequential revenue. The company continues to control costs, dropping more to the bottom line. Adobe recently provided preliminary growth targets for fiscal 2019, and the company is anticipating that its 20% year-over-year growth streak will continue. 

One of the factors that underlies this remarkable accomplishment is Adobe's growing base of recurring revenue. The company boasts annualized recurring revenue that currently tops $6.4 billion, and during the third quarter, about 90% of revenue came from recurring sources, up from 89% last quarter. 

Adding AI capabilities to its suite of products

Another trend benefiting Adobe is artificial intelligence (AI). In late 2016, the company introduced a unified framework of AI technology that Adobe continually integrates into is software applications. The company dubbed its system Sensei, a Japanese word for an honored teacher or mentor. This system improves both the intuitive nature of its products and its ability to analyze and track data across an assortment of platforms.

The technology also helps users a wide variety of ways, assisting with locating files, improving photo and video editing, and underpinning a host of intelligent features across Adobe's products.

Heavy expansion into e-commerce

Over the years, Adobe has augmented its own capabilities by acquiring companies that complement its existing systems -- and 2018 was no different. Recently, Adobe has moved aggressively into the realm of e-commerce, further expanding its digital reach, by acquiring two companies that service different segments of the market.

In May, the company said it would acquire Magento Commerce, which provides a cloud-based e-commerce content management system, and positioned it to compete with other such platforms, such as the one Shopify offers. The company provides tools to create and implement e-commerce websites, process payments and shipping, and help to integrate "digital and physical shopping experiences." 

Couple lying on floor at home shopping online with credit card

Image source: Getty Images.

In September, Adobe added to its business-to-business (B2B) chops by purchasing Marketo, the leading platform for B2B marketing engagement. The company offers marketing applications for harnessing data and content to deliver real-time, cross-channel engagements in business transactions. 

Currently, e-commerce represents just 10% of total global retail sales, but that number is likely to continue to grow and is expected to top 17% by 2021. These additional capabilities position Adobe to benefit from the increasing adoption of digital sales. 

Watch for more

These developments have a common thread, illustrating that Adobe has a knack for adapting its systems using the latest technology, whether they are acquired or developed in-house. The company's relentless focus on improving the customer experience has continued to pay dividends, as evidenced by Adobe's accelerating sales and growing base of recurring revenue.

Adobe has already had a great year thus far in 2018, and the best may be yet to come.

Danny Vena owns shares of Adobe Systems and Shopify. The Motley Fool owns shares of and recommends Adobe Systems and Shopify. The Motley Fool has a disclosure policy.

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