Adobe Is a Compelling Growth Story at a Reasonable Price

Adobe (ADBE - Get Report)  has extended its long-lived winning streak.

After the closing bell on Tuesday, the San Jose-based software company delivered its 12th consecutive all-around earnings beat, fueled by strong momentum in its creative cloud, e-commerce and B2B marketing businesses. Aided in part by the recent acquisitions of Magento, Marketo and Allegorithmic, Adobe has managed to keep revenue growth hovering around the 25% mark, as it has been able to do each quarter since early 2016.

The inorganic component of the company's top-line performance, however, should not be discounted. The strategy of using bolt-on acquisitions to expand its total addressable market and cross-sell its existing customer base seems appropriate and has proven successful so far -- an approach that other high-performing SaaS players, including salesforce.com (CRM - Get Report) , have also been deploying with exceptional results.

The post-earnings bullish reaction that sent the stock 4% higher in after-hours trading on Tuesday and a similar amount in pre-market trading on Wednesday can be partially explained by the $1.83 in adjusted EPS, five cents above expectations -- although earnings guidance for the fiscal third quarter, overly conservative at first glance, lagged consensus by ten cents. But beyond that, a strong read into Adobe's pipeline may have also helped to support positive investor sentiment.

Second quarter ARR, or annual recurring revenue (a measure of contracted subscription sales), across digital media increased by more than 24% in an accelerating trend, staying on track to end the year at record levels. Also encouraging was the 34% growth outlook in digital experience, even though Adobe should face tougher compares in this segment due to the lapping of the Magento acquisition.

The table below summarizes Adobe's fiscal second quarter income statement. Notice that margins dipped as expected, impacted primarily by purchase accounting and new business integration -- a trend that is expected to reverse in the second half of the year. Due to increased M&A activity consuming some of Adobe's resources, higher net interest expenses and a richer effective tax rate prevented some of the robust double-digit increases in revenues and operating profits from trickling down to the bottom line. 

Adobe's fiscal 2Q19 financial results summary

Growth Stock, Still Priced to Own

With yet another set of robust numbers delivered and what is likely to be a flurry of upbeat sell-side reports, Adobe stock is likely to climb towards $300 apiece in the near future. While momentum will probably press valuation against a 52-week high of 40x current-year earnings, I would argue that shares are still priced to own.

The company seems to be on the right side of trends in content creation and consumption, social media marketing, the gig economy, transition to cloud services, and increased adoption of mobile technology. The combination of a favorable macro environment and aggressive (but competent) execution suggests that Adobe's growth story may be far from over.

Further supporting the stock's appeal is the "sticky" revenue model that is grounded on subscriptions accounting for nearly 90% of total company sales -- and rising. With a solid SaaS backlog providing visibility into and reducing uncertainty over future results, Adobe appears to qualify as a GARP (growth at a reasonable price) play worth considering.

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The author has a long position in ADBE and CRM.