Last May, I had the misfortune of hedging my bets on Adobe, suggesting a $250 stock price was a real possibility, given its valuation was getting a little rich combined with the difficulties faced by a trade war with China.
At the time, Adobe’s share price was around $275. In hindsight, we know that I was spectacularly wrong. It proceeded to gain another 20% in the second half of 2019; it already has notched a nearly 10% total return year to date.
In December, Adobe delivered fourth-quarter results that beat analyst expectations for both revenues and earnings. It is clearly on a roll. Barring something completely unforeseen — a global pandemic might do the trick — Adobe’s share price is almost a lock to hit $400 in 2020.
Regardless of what happens in the short-term, it remains an excellent long-term buy.
A Trio of Strengths
Shortly after Adobe reported its Q4 2019 results in December, InvestorPlace’s Luke Lango, highlighted the many reasons the company’s stock is a long-term winner. That’s because Adobe’s captured a niche part of the cloud, ensuring that its sales continue to grow for years to come.
Between the Creative Cloud, the Document Cloud, and the Experience Cloud, shareholders ought to be feeling good about the future.
Adobe finished fiscal 2019 with annualized recurring revenue (ARR) for its Creative Cloud that was $7.31 billion, 23.5% higher than a year earlier. The Creative Cloud accounted for % of its overall revenue. Its ARR for the Document Cloud was $1.09 billion, up 37.4% from a year earlier. Together, these two businesses make up Adobe’s Digital Media segment, which generated 25.2% year-over-year ARR growth to $8.4 billion.
In 2019, its Digital Experience segment, which consists of four different cloud offerings, generated $3.21 billion in revenues, 31% higher than a year earlier.
More importantly, its subscription revenue (recurring in nature) grew 37% to $2.67 billion or 83% of the total. A year earlier, subscription revenue accounted for 80% of the segment’s overall sales, a 300-basis-point YOY improvement.
In 2020, Adobe expects to generate $13.15 billion in sales, with its Digital Media segment growing 19% with $1.55 billion in net new ARR. It expects its Digital Experience segment to grow revenues by 16% YOY, with subscription revenue increasing by 18%.
While the company is calling for slower growth in 2020, I find it hard to believe that this will be the case. We’ll know more when it reports Q1 2020 earnings on March 12.
Adobe has done an excellent job adapting to the cloud.
The Bottom Line for ADBE Stock
My colleague concluded his December article by stating:
“Adobe stock will win over the long-term. Its Q4 numbers confirmed that. Its Q4 results also confirmed that this company will continue to grow rapidly in 2020. That strong growth should keep the shares on a winning track for the foreseeable future.”
On a non-GAAP basis, Adobe expects earnings per share of $9.75. At the end of fiscal 2018, the company’s estimate for fiscal 2019 was $7.75 a share. It came in at $7.87, 13 cents higher than its guidance.
Assuming it beats by 13 cents in 2020, Adobe’s stock is currently trading at 36 times its 2020 guidance and 31 times the consensus estimate of $11.62 for fiscal 2021. On a GAAP basis, its current P/E is slightly cheaper than its five-year historical average.
Its free cash flow yield is 2.3% based on trailing 12-month free cash flow of $4.03 billion and an enterprise value of $174.57 billion. While I will grant you a 2.3% FCF yield isn’t cheap; I refuse to make the same mistake twice.
Until Adobe’s growth shows signs of a slowdown, I’ve got to believe $400, not $300, is far more likely in 2020.
At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.