Adobe Systems Incorporated (NASDAQ:ADBE) isn’t what most people consider a high-flying investment. Yet this year, ADBE stock has offered plenty of surprises, gaining over 27%. This follows an exceptional 69.4% return in 2017, and if all goes well, 2018 should beat out expectations yet again. The question of course is will it?
Let me first state my personal bias with Adobe stock. ADBE has performed very well for me from a forecasting perspective. On Oct. 18 of last year, I stated that “the good times” will return after a bout of profit taking. The following day, shares gapped up 12%, making me look like a genius, if only for 24 hours!
My next crack at ADBE stock was on Nov. 10, less than a month later. This call was a little bit trickier, requiring investor patience. Having obviously known about the prior month’s gap-up move, I focused on the longer-term fundamentals. For instance, I highly valued Adobe’s Software as a Service library, which I felt would spark revenue growth.
It took a while, but Adobe stock overcame its technical hurdles. Against the November publication date, shares have jumped over 23%.
Yes, I’m biased. When you’re making calls in a less-than-ideal market, you need as much help as you can get. ADBE stock has provided that for me, and more.
Still, I understand why those who are just hearing about the opportunity now may be hesitant. ADBE isn’t a speculative growth story statistically speaking, and it’s unlikely to sustain strong, double-digit moves. Moreover, getting a big blue-chip like Adobe on a run-up isn’t always the best idea; if things go sour, it could take a while for valuations to recover.
Nevertheless, I remain confident that Adobe stock can keep riding the trend.
Excellent Growth Prospects for Adobe
Unlike other tech investments that rely on a possible story line, Adobe has already proven its stuff. Both its revenue and earnings growth over the past four years are outstanding. More importantly, I appreciate that management approaches its financials competitively. For instance, since 2014, its research and development expenses have gone up 45%, compared to 28.5% in SGA expenses.
In other words, this is a company that wants to stay competitive, not just keep the lights on.
People should also avoid dismissing sales and earnings growth as merely resultant from acquisitions. As anybody that has logged onto the internet in the past few years can attest, SaaS is big business. Frankly, outside of Microsoft Corporation (NASDAQ:MSFT), few companies exist that dominate SaaS like ADBE.
In 2013, only 1.44 million people signed up for Adobe’s Creative Cloud software service. However, this figure rapidly exploded skyward. By 2017, approximately 12 million people utilized the company’s SaaS platform, or an astounding 733% increase in four years. It’s no wonder, then, why so many astute investors piled into Adobe stock!
Industry experts forecast that the software giant will have 19.74 million paying subscribers to their SaaS network by 2024. That’s somewhat impressive, although I strongly believe this prediction is understated.
From 2014 through 2017, the company’s SaaS subs grew at an average 74.4%. Granted, due to the law of large numbers, as subs nominally increase, the growth rate should decline. To reach the 19.74 million sub count, this implies a 7.5% average growth rate from 2018 onward.
However, with Adobe’s track record and enormous leverage, I think at least a 12% average growth rate is more reasonable. That would peg SaaS subs at 26.5 million, and it is a great reason to continue buying ADBE stock.
Don’t Bet Against ADBE Stock Unless There’s a Reason to
As far as I can tell, the only serious knock against Adobe stock is that it’s overvalued against trailing earnings. Even on a forward earnings basis, shares are trading at nearly 35 times.
But if that’s what people are worried about, you have a solid investment on your hands. Consider all the other metrics. Operating and net margins are among the industry’s best. It has a clean balance sheet. Free cash flow is rising and stable. Despite it all, management maintains strong fiscal discipline.
I’m not sure if ADBE stock will beat last year’s incredible performance output, although it’s off to a great start. What I can say with certainty, though, is this: don’t bet against Adobe shares unless you have a compelling reason to do so. This is a hard-charging company with very few weaknesses.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.
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