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3 Reasons Adobe Stock Is a Buy for the Coming $10 Trillion "Digital Transformation" Boom

By Nicholas Rossolillo – Oct 1, 2021 at 8:51AM

Key Points

  • Trillions of dollars will be spent on cloud-based digital transformation in the coming years.
  • Adobe is growing at a double-digit percentage rate and is likely to continue to do so for the foreseeable future.
  • The company is highly profitable, and has $2.04 billion in cash and equivalents net of debt on hand.

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Don't let a ho-hum September keep you away from this long-term winner.

Adobe (ADBE -1.35%) has hit the skids since its fiscal 2021 third quarter update in September. Shares are down some 12% on the month, putting the tech stock officially in "correction" territory. It's not that the report itself was bad, but fears that the software giant is "overpriced" and political angst caused by the U.S. debt limit debate have arisen.

However, Adobe's cloud-based software is a key ingredient for getting work done these days and is still a fantastic long-term buy, especially with trillions of dollars expected to be spent on digital transformation tools like what Adobe offers. Here are three reasons to stay optimistic.  

1. Adobe is a top partner for digital makeovers

Digital transformation (DX from here on out) is all the rage in the software community right now. Cloud computing was already promising to make business operations vastly more efficient and intuitive than in the past, but the pandemic proved beyond a doubt that the movement is the real deal. A frenzy of digital updates in the corporate world are now underway and could last for many years to come. 

Someone sitting at a laptop in a coffee shop.

Image source: Getty Images.

To drive home the point, we can borrow a statistic from tech researcher IDC -- one that Adobe peer and fellow DX champion salesforce.com (CRM -2.09%) shared recently during its investor day. IDC thinks no less than $10 trillion will be spent on DX initiatives from 2019 through 2024, and 57% of total global IT spend will be on DX by 2024 compared to just 42% in 2020.

While Adobe can only address a fraction of this huge spending spree, its focus on cloud-based creativity, marketing, document management, and customer engagement software positions it as a potential primary partner for any firm looking to get with the times. Having hauled in $15 billion in sales over the last 12 months, Adobe is a massive firm already. But given the relentlessly rising demand for its software, Adobe has no shortage of room to get much larger.  

2. A highly profitable growth business

Adobe is undeniably a fantastic -- and perhaps underrated -- long-term growth story. It's been growing revenue at a double-digit percentage clip for years, and the company thinks momentum will continue. For the final quarter of fiscal 2021, management is forecasting about a 19% year-over-year increase in sales to $4.07 billion.

But this stock isn't just for investors with a growth mindset. Adobe is wildly profitable, too. It's been generating operating profit margins of well over 20% over the last decade, and operating margin was at 36% over the last 12-month stretch. With its sticky suite of subscription-based creativity and data management software poised to continue growing, those lucrative profit margins aren't going away anytime soon.  

Pairing those consistent profits with double-digit sales expansion and a valuation currently at 48 times trailing-12-month earnings, a case could be made that Adobe is a value stock hiding in growth stock clothing.  

3. A superb balance sheet that's constantly being replenished

As of Sept. 3, 2021, Adobe had $6.16 billion in cash and equivalents on the books, offset by debt of just $4.12 billion. Its cash hoard is constantly being fed, too. Adobe generated $6.61 billion of free cash flow in the last 12 months, some of which it added to the balance sheet. But management also returns an ample amount to shareholders. Adobe doesn't pay a dividend, but it does repurchase stock. It spent $1 billion in share buybacks during Q3 of fiscal 2021 alone.  

That still leaves plenty of capital for Adobe to invest in new software, or make the occasional acquisition. Its latest purchase: The proposed $1.275 billion takeover of video collaboration platform Frame.io, which boasts over one million users and will integrate with Adobe's existing toolkit for content creators.  

Adobe is still growing fast, generating plenty of profits, and in prime position to help lead its customers into a new digital era. The digital transformation movement is just beginning, so this stock deserves to be a top-of-mind pick to build a portfolio around.

Nicholas Rossolillo and his clients own shares of Adobe Inc. and Salesforce.com. The Motley Fool owns shares of and recommends Salesforce.com. The Motley Fool recommends Adobe Inc. The Motley Fool has a disclosure policy.

Stocks Mentioned

Adobe Stock Quote
Adobe
ADBE
$326.68 (-1.35%) $-4.47
Salesforce Stock Quote
Salesforce
CRM
$130.48 (-2.09%) $-2.79

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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