Adobe’s (ADBE 1.81%) stock dipped 3% during after hours trading on Mar. 22 following the release of its first-quarter earnings report.
Its revenue rose 9% year-over-year to $4.26 billion, which exceeded analysts’ estimates by $20 million. On an adjusted basis, which excludes an extra week in the prior-year quarter and currency impacts, its revenue rose 17%. Its adjusted net income increased 6% to $1.6 billion, or $3.37 per share, which surpassed analysts’ expectations by three cents.
However, Adobe’s second-quarter guidance broadly missed Wall Street’s forecasts. It expects its revenue to rise 13% year-over-year and for its adjusted earnings per share (EPS) to grow 9%. Analysts had expected its revenue and adjusted EPS to increase 15% and 11%, respectively.
Image source: Getty Images.
Does that softer guidance raise red flags for Adobe’s future? Or should investors still buy its stock, which shed roughly 30% of its value over the past four months as inflation, higher interest rates, and other macro headwinds sparked a retreat towards more conservative investments?
How fast is Adobe growing?
In fiscal 2021, Adobe’s revenue rose 23% to $15.79 billion. Its Digital Media business, which houses its Creative and Document Clouds, grew its revenue 25% to $11.52 billion. Its Digital Experience revenue, which comes from its enterprise-oriented cloud services, rose 24% to $3.87 billion.
Therefore, Adobe’s adjusted revenue growth of 17% in the first quarter represents a slower start to the year. On an adjusted basis, its Digital Media revenue rose 17% to $3.11 billion, including 16% growth in Creative revenue ($2.55 billion) and 26% growth in Document revenue ($562 million), as its Digital Experience revenue increased 20% to $1.06 billion.
Adobe's gross margin also fell 60 basis points year-over-year to 88.0% as its operating margin dipped ten basis points to 37.1%. It mainly attributed those declines to uneven comparisons to its travel and facilities spending throughout the pandemic instead of any longer-term challenges.
Adobe also recently shut down its businesses in Russia and Belarus in response to Russia’s invasion of Ukraine. It expects that exit to reduce its annual revenue by about $75 million -- but that only represents about 0.4% of its projected revenue this year.
Adobe seems to be reaching for growth
Adobe’s guidance for 13% revenue growth in the second quarter indicates its slowdown will continue even as it rolls out new products. It didn’t directly address that slowdown during its conference call, but a new product launch and a price hike suggest it might be facing tougher competition.
First, Adobe repeatedly emphasized its recent launch of Creative Cloud Express, a new web and mobile-based version of its flagship platform that targets students, social media influencers, and small businesses.
Adobe expects the new service to expand its ecosystem beyond its core market of professional designers and media professionals, but the bears probably think the new service is simply an eleventh-hour attempt to widen its moat against free photo and video-editing tools.
Second, Adobe plans to raise its prices for certain Creative Cloud customers in its first pricing adjustment since 2017. The bulls might interpret that price hike as a demonstration of Adobe’s pricing power, but the bears will claim Adobe is trying to squeeze out more revenue from its existing customers to offset its slower growth in new customers.
Stable growth with a reasonable valuation
Adobe expects its new product launches and pricing tiers to generate stronger tailwinds in the second half of the year.
Analysts expect its revenue to rise 14% to $17.9 billion in fiscal 2022, then grow 15% to $20.6 billion in 2023. They expect its adjusted EPS to increase 10% in 2022 and climb another 18% in 2023.
Based on those expectations, Adobe trades at 30 times forward earnings and 12 times this year’s sales. By comparison, Salesforce (CRM 0.79%) -- which competes against certain parts of Adobe’s Digital Experience business -- is growing faster but trades at just seven times this year’s sales.
Adobe’s valuations are a bit high relative to its growth rates and its peers, but the stickiness of its cloud-based subscriptions, the widespread adoption of its industry-standard media tools, and its stable profits all justify that slight premium. The company also expects its ongoing buybacks to boost its EPS by an average of two cents per quarter this year.
Adobe’s growth will likely cool off this year, but it should remain a solid blue-chip tech stock for the foreseeable future. I personally believe its new products are a demonstration of its ongoing innovation, and that the Creative Cloud’s latest price hikes indicate it still has plenty of pricing power in the digital media software market. Investors should simply ignore the near-term headwinds, buy the stock, and focus on its long-term growth potential.
