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Robert Stephens, CFA
Robert Stephens, CFA
Articles (195) 

Adobe Is a Buy Despite High Valuation

The company’s growth prospects justify a higher stock price

June 26, 2019 | About:

Adobe's investment in its mobile offering and in product innovation could lead to movement higher in its stock price.

The digital content creation specialist is seeking to increase the size of its total addressable market through broadening its range of products, while also differentiating itself from peers. Acquisitions are expected to lead to further synergies and an improved product offering, while new partnerships are proving to be successful in terms of their impact on sales growth.

With the stock having gained 21% in the last year, it now trades at a relatively high valuation. Its long-term growth potential, however, suggests that it continues to offer investment appeal.

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Investing for growth

Investment in the company’s mobile services could catalyze its financial performance. In the most recent quarter, for example, Adobe’s Digital Experience business reported a rise in revenue of 34% compared to the same quarter of the previous year. It is investing in products such as Adobe Scan, which is now the leading scanning app on iOS and Android. It is also driving adoption for its cloud-based electronic signature solution, Adobe Sign. It won contracts with customers including Merck (NYSE:MRK) and Hitachi last quarter. Further customer wins are expected, with Adobe Sign offering customers improved service levels and efficiency versus sector rivals.

The acquisitions of Magento and Marketo have strengthened Adobe’s growth prospects, with there being further organizational, product and go-to-market synergies in the pipeline. Magento is expected to aid the company in attracting new logos through making every experience shoppable in addition to attracting a large developer community. Marketo’s integration with Adobe Marketing Cloud is expected to enhance the appeal of its marketing engagement platform for B2B and B2C customers.

Innovation

The partnerships being put in place by the business provide it with a competitive advantage versus peers, in terms of pipeline generation and customer success. For example, in the most recent quarter it reported a strong performance from selling alongside Microsoft (NASDAQ:MSFT). It also entered into a partnership last quarter with Amazon (NASDAQ:AMZN). The two companies are creating Magento Commerce branded stores for Amazon sellers that are expected to provide merchants with a more integrated means of managing their sales across the site.

Adobe is also expected to offer a broader range of products to expand its total addressable market. For example, in the most recent quarter it announced that Adobe Spark’s global footprint has increased due to support for five new languages being offered. It has also expanded its vision of platforms to include social media channels, while a variety of creative campaigns are set to broaden the company’s appeal to new market segments, such as students.

Threats

A stronger dollar continues to weigh on the financial performance of the business. In the most recent quarter, for example, revenue was reduced by $36.6 million when compared to the same quarter of the previous year by currency rate movements. Although the company seeks to limit the impact of foreign exchange movements through hedging, it does not fully offset currency changes.

However, the Federal Reserve’s increasingly dovish stance towards monetary policy could be beneficial to Adobe’s international performance. The Fed is forecast to cut interest rates to 2% by the end of the first quarter of 2020, which could lead to a softening of the dollar. This may provide the business with a foreign currency translation boost that could result in a higher stock price.

Outlook

In the current fiscal year, Adobe is expected to post a rise in earnings per share of 46%. This is forecast to be followed by growth of 25% next year. This helps to justify a relatively high price-earnings ratio of 53.

The company’s investment in its mobile offering, and in further partnership agreements, could strengthen its competitive advantage over the long run.

The integration of Magento and Marketo could provide further synergies, while innovative new products may increase differentiation versus peers.

Having outperformed the S&P 500 by 12% in the last year, the stock is tempting despite its high valuation.

Disclosure: the author has no position in any stocks mentioned.

Read more here: 

Why At Home Group Has Turnaround Potential 

Why Ulta Beauty Is a Buy 

Why IBM Has Investment Potential 

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