Adobe Should Find a Place in Investors’ Portfolio

In today’s economy, application software plays a pivotal role due to the growth of mobile as well as cloud software. Unlike the olden times when all the applications were confined to a few types of computers, presently the application of softwares has become more varied. Due to the development in technology, software can work and be accessed more efficiently through mobile, internet, and cloud functions. Adobe Systems (NASDAQ:ADBE) is the one which has created a revolution in this technology field.

This San Jose, Calif.-based company offers a line of software and services used by professionals, marketers, knowledge workers, application developers, enterprises and consumers for creating, managing, delivering, measuring and engaging with content and experiences across multiple operating systems, devices and media. Adobe has three business segments: Digital Media, Digital Marketing, and Print and Publishing. The company distributes its products through a network of distributors, value-added resellers (VARs), systems integrators, independent software vendors (ISVs), retailers, and original equipment manufacturers (OEMs).

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• ADBE 30-Year Financial Data
• The intrinsic value of ADBE
• Peter Lynch Chart of ADBE

Looking Into the Results

Over the past few years, Cloud software solutions (also known as Software as a Service (SaaS)) has been gaining market acceptance. On March 18, 2014, the creative and marketing software maker posted better-than-expected fiscal first quarter earnings and gave second quarter guidance. The results were driven by the transition of Adobe's business from perpetual licensed software to a cloud subscription model. Adobe achieved revenue of $1 billion, at the high-end of its targeted range of $950 million to $1.0 billion. GAAP diluted earnings per share in quarter one were 9 cents; non-GAAP diluted earnings per share were 30 cents. A chart has been provided below to show Adobe’s segment wise performance in quarter one.

In its Creative business, customer adoption of Creative Cloud grew quarter-over-quarter. With great performance as shown in the above chart, Adobe hits a milestone where first quarter reported Creative revenue from subscriptions and ETLAs exceeded reported revenue from perpetual licensing for the first time. The company’s success with subscriptions, Enterprise Term Licensing Agreement or ETLAs and Digital Publishing Suite adoption helped to drive Creative Annualized Recurring Revenue (ARR) to a total of $987 million exiting quarter one, an increase of $186 million quarter-over-quarter.

Like Microsoft Corporation (NASDAQ:MSFT), this application software giant is adjusting its business to attract customers who increasingly do their computing online and on mobile devices. Chief Executive Officer Shantanu Narayen is shifting the largest maker of graphic-design programs away from selling desktop software to Internet sales of applications such as Photoshop, Illustrator, and Dreamweaver to accelerate this growth momentum.

Adobe’s Document Services ARR grew from $143 million exiting the fourth quarter to $164 million exiting quarter one. Total Document Services subscriptions – spanning EchoSign, Create PDF Online and related services – grew to nearly 1.8 million.

The company’s cash flow from operations was $252 million, and deferred revenue grew by $52 million to a record $881 million. Adobe’s first quarter revenue by geography has been depicted in the chart below.

And The Outlook

Adobe’s Q2 FY2014 Financial Targets and FY2014 annual financial targets are given in the chart below.

In its Q2 FY2014, Adobe is targeting total Digital Media and Adobe Marketing Cloud revenue to grow sequentially; it also expects LiveCycle and Connect revenue to decline sequentially; and the company is targeting Print and Publishing revenue to be relatively flat. During the quarter, Adobe expects to add approximately the same number of Creative Cloud subscriptions and amount of Digital Media ARR as what was achieved in Q1.

Further, this application software giant is targeting its Q2 share count to be 508 million to 510 million shares, net non-operating expense to be between $16 million and $18 million on both a GAAP and non-GAAP basis, and Q2 tax rate of 28% to 29% on a GAAP and 21% on a non-GAAP basis. These targets will yield a Q2 GAAP earnings per share range of 6 cents to 12 cents, and a Q2 non-GAAP earnings per share range of 26 cents to 32 cents.

On March 10, 2014, Department of Defense (DoD) has entered into a three-year Joint Enterprise Licensing Agreement with Adobe which will result in expanded access to Adobe software across branches and departments. The agreement provides the U.S. Army, U.S Air Force and Defense Information Systems Agency (DISA) the ability to standardize on Adobe Creative Cloud products, Adobe Acrobat, and capabilities of Adobe Experience Manager.

Creative Cloud

Charts from company website

The above chart shows Adobe’s Creative Cloud revenue mix and subscription momentum. The company’s new product mainly targets the creative professionals and at work creative individuals as these two segments contributes towards 65% of the product revenues. It can be seen that the subscription momentum is also rising at a great pace. This subscription includes Creative Cloud for individuals as well as teams subscribers, and excludes enterprise ETLA users.

To Put the Pieces Together

Adobe’s Creative Cloud project is the main catalyst to deliver strong results. The company has an amazing pipeline of innovation that will deliver in the coming months, as well as plans to differentiate itself by further integrating its Cloud businesses. Adobe has attractive valuation and strong exposure to the growing trends in the industry. The company remains committed to its long-term targets, and therefore I am pretty bullish that this application software giant won’t let its valued customers as well as investors down on the long run.