Why Adobe Systems Incorporated Stock Deserves to Trade Above $200

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Right now, the whole market is doing well, tech is doing really well, and big tech is doing really, really well. Over the past year, the S&P 500 is up 20%. The Nasdaq-100 is up 33%. FANG stocks have rallied anywhere from 36% to 70%. But one stock outperforming all of them? Adobe Systems Incorporated (NASDAQ:ADBE). ADBE stock is up 75% over the past year and 200% over the past five years.

adbe stock adobe stock
Source: Shutterstock

I think this name easily has another 15%-plus upside to well over $200.

Here’s why.

ADBE Stock Has a Great Growth Narrative

Much like Microsoft Corporation (NASDAQ:MSFT) and others, the one-stop shop for creative professionals has successfully transitioned to a cloud and subscription service-based business model. This transition has led to robust top line growth and healthy margin expansion, which in turn has led to out-sized earnings growth.

The amazing thing about ADBE is that the company doesn’t have much competition. I won’t go as far to say the company has a monopoly in the design industry, but you’d be hard-pressed to name an Adobe competitor off the top of your head. Check out this list or this list of Adobe Photoshop alternatives. It is safe to say none of them are household names, nor are any of them formidable competitors to Adobe.

This is why Adobe has seen an explosion in its subscription business despite users initially being angry when Creative Suite went all-cloud, all-subscription-based in 2013. Eventually, users got over that anger because there was no other product out there that rivaled Adobe’s Creative Suite. So creative professionals started paying the recurring fee.

And they never stopped paying it. Adobe’s subscription business has exploded from $300 million in revenues in the third quarter of 2013 to $1.6 billion in the third quarter of 2017. That is a greater than 5-times increase in 4 years.

This sort of robust growth is here to stay. In addition to having very little formidable competition, Adobe finds itself on the right side of multiple secular shifts.

The world is going visual-first. Video continues to phase in, while books/articles continue to phase out. This consumer shift from words to pictures ups demand for Adobe’s Creative Cloud.

The world is also going all-digital. Paper continues to get replaced by digital copies. This shift from paper to digital documents ups demand for Adobe’s Document Cloud.

And lastly, the world is starting to realize the power of leveraging data to deliver enhanced customer experiences. The explosion of data from the birth of video analytics and the Internet of Things (IoT) has created a whole bunch of opportunities to analyze that data. These opportunities up demand for Adobe’s Experience Cloud.

All in all, the growth story at Adobe is really good.

The Math To a $200-Plus ADBE Stock

Here’s the math behind a $200-plus stock.

ADBE trades at 43x fiscal 2017 earnings estimates. That is a reasonable multiple for what is expected to be 20%-plus revenue growth and 25% earnings growth over the next two years. In fact, a 43x multiple for 25% annualized earnings growth is a price-to-earnings/growth (PEG) ratio of about 1.7.

The S&P 500, meanwhile, trades at 19.6x 2017 earnings estimates for what is expected to be 10.4% earnings growth over the next two years. That gives the S&P 500 a PEG ratio of about 1.9.

It makes no sense that ABDE stock trades at a more attractive PEG than the market. Firstly, ADBE’s earnings growth in out-years (post 2019) will be far bigger than the S&P 500’s earnings growth. Secondly, ADBE hasn’t done anything besides top earnings expectations in recent memory, implying the projected 25% annualized growth rate into 2019 is low.

Consequently, ADBE stock should easily trade at a PEG ratio of 2 to account for higher-than-expected growth into 2019 and bigger growth in out-years. That implies a “fair” price-to-earnings multiple of 50. A 50x multiple on fiscal 2017 earnings estimates of $4.22 implies a fair price target of about $210.

Bottom Line on ADBE Stock

Adobe is the king of multiple spaces benefiting from secular growth in digital and visual content. Meanwhile, the valuation remains remarkably cheap.

Consequently, I see ADBE as a “big growth at a big discount” type of stock.

I buy those stocks. So I’m a buyer of ADBE.

As of this writing, Luke Lango was long ADBE.


Article printed from InvestorPlace Media, https://investorplace.com/2017/11/adbe-stock-trade-above/.

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