Assessing Adobe's (ADBE) Post-Earnings Valuation

Stock prices increasing and decreasing in value Credit: Shutterstock photo

Adobe (ADBE) is finally getting the respect it deserves. And it’s encouraging to ADBE fans that the management — by boasting the company’s capabilities — showed it's unafraid to demand esteem and not wait for Wall Street to give it.

Despite beating Wall Street’s earnings estimates in every quarter since October 2013, the software giant continues to attract doubters such as Pivotal Research’s Brian Wieser, who recently downgraded the company to a Sell rating, arguing that — despite its strong fundamentals — ADBE stock had risen “too much, too fast.” That call is not working out too well today.

ADBE stock rose 5% last week, including 4.6% surge Wednesday, jumping to yet another record in daily trading after the cloud-based software company not only reported earnings results that crushed analysts' estimates, the management provided better than expected guidance. Essentially, when taken into account Adobe's dominant growth rate and analysts' projected earnings/revenue forecast over the next two years, Adobe just told Wall Street it deserves increased multiple expansion.

This means from a valuation perspective, investors who have missed out on Adobe’s rally, including those who follow Wieser’s Sell recommendation, can still make money by placing a bet here. Thanks to the company’s well-timed decision to shift its business from software sold in a box to a Cloud subscription model, Adobe stock — despite trading at 35 times fiscal 2017 estimates of $3.95 per share — still looks relatively cheap.

A forward P/E of 35 might seem pricey when compared to the forward P/E of 19 for the S&P 500 index. But, when compared to another cloud company like Salesforce (CRM), which is priced at 66 times fiscal 2017 estimates, ADBE stock looks like a bargain. Not to mention, Adobe’s fiscal 2017 estimate (which it just raised) calls for year-over-year profit growth of 31%. And with fiscal 2018 estimates of $4.95 per share, calling for growth of 25% and putting Adobe at a two-year average of more than 28%, good luck finding another software stock with the combination of growth and value.

This is because the company now generates a large chunk of its revenue from subscriptions of its market-leading media-creation software franchises, which offers a broad range of software and services (including Photoshop), used by professionals. That business helped Adobe to deliver second-quarter revenue of $1.77 billion, which not only beat Street’s forecast by $40 million, it grew 26% year over year, marking a growth acceleration of four percentage points from the first quarter.

The strong revenue growth delivered adjusted EPS of $1.02, which surged 44% year over year, topping Street expectations by 7 cents. And Adobe shows no signs of slowing down.

Looking ahead, the company not only forecasted third quarter revenue of $1.81 billion and adjusted EPS of $1.00, both above Wall Street’s estimates of $1.8 billion and 97 cents per share, Adobe also raised its fiscal 2017 (ends in October) sales guidance, calling for full-year revenue growth of 23%. And given Adobe’s history of beating its own forecasts, the year-end numbers seems conservative.

All told, given Adobe’s consistent top and bottom-line growth, plus the fact that it consistently raises guidance, Adobe stock, which closed Friday at $145.41, should reach $175 in the next twelve months, delivering 20% returns.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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