Adobe Releases Disappointing Guidance

| About: Adobe Systems (ADBE)

Software maker Adobe (NASDAQ:ADBE) reported decent third-quarter results Wednesday afternoon. Revenue grew 7% year-over-year to $1.1 billion, roughly in-line with consensus estimates. Earnings increased just 5% year-over-year, to $0.58 per share (non-GAAP), and came in just a penny shy of consensus expectations. Going forward, the firm issued a disappointing outlook, guiding to earnings per share of $0.53-$0.58 during the fourth quarter, short of the consensus estimate of $0.67 per share. Revenue guidance was also a bit light, as the firm expects revenue of $1.075 billion-$1.125 billion, below the consensus expectation calling for $1.2 billion. For an in-depth analysis of Adobe's intrinsic value based on a robust DCF process, please click here.

The firm is in the midst of transforming its business model from selling large software packages to its Creative Cloud and Digital Marketing Suite subscription model. Still, gross margins fell 70 basis points year-over-year, to 88.9%, which is still a robust figure but will likely continue to trend lower (as free and lower cost competitors emerge). We're more worried about SG&A expenses, which increased 60 basis points to 61.8% of revenue, as the firm ramped up its marketing spending. We expect marketing costs to continue to increase as the firm focuses on communicating its new products to customers.

Overall, we liked Adobe's quarter, but its outlook was a bit weak. The company reported some nice wins with its Digital Marketing Suite product, which is on pace to exceed $750 million in sales this year. Creative Cloud usage is also growing at a healthy clip, adding 8,000 subscribers weekly during the third quarter--ahead of the firm's internal expectation of 5,000 subscribers. The company also generated over $144 million in free cash flow during the period, and Adobe has plenty of cash on hand to invest in new products. Though the firm scores a 7 on the Valuentum Buying Index (our stock-selection methodology), they are fairly valued.

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