Estimated read time: 3 minutes
Publication date: 26th Sep 2022 13:20 GMT+1
The equity market sell-off has been brutal for investors in the first nine months of 2022. In fact, the tech-heavy Nasdaq Composite index is down 32% from all-time highs, wiping off massive investor wealth in the process.
But a bear market offers investors an opportunity to build generational wealth and derive exponential gains over time. You need to identify companies that have strong balance sheets and are gaining market share in the verticals where they operate.
So, let’s see if Adobe (NASDAQ: ADBE) is a stock that should be part of your equity portfolio in Q4 of 2022.
Adobe falls post Figma acquisition announcement
Adobe is a digital media software company that offers cloud-based services to its suite of enterprise and individual customers. In its recent quarter, Adobe increased sales by 13% year over year to $4.43 billion, which was just below Wall Street estimates. Comparatively, net income rose 7% to $1.6 billion or $3.4 per share, compared to forecasts of $3.34 per share.
However, its lower-than-expected guidance and an acquisition announcement derailed Adobe shares in recent days.
Adobe stock lost significant momentum in September after the company disclosed its intention to acquire Figma for a whopping $20 billion.
Founded in 2012, Figma offers design teams a platform to build together by consolidation tools and simplifying workflows.
Adobe claims Figma’s total addressable market is around $16.5 billion, providing the company with the opportunity to increase sales at an accelerated pace, given it is forecast to report annual recurring revenue of $400 million by the end of 2022.
But it also indicates that Adobe has paid 50x forward sales for the acquisition, which is quite steep, as multiples have been slashed this year due to a challenging macro-environment.
The acquisition will be funded by cash and stock (50% each). So, Adobe will have to pay Figma $10 billion in cash, spending the free cash flow it generated in the last two years on this deal.
Figma’s revenue in 2022 accounts for just 1.2% of its TAM.
What next for ADBE stock and investors?
In fiscal Q2 of 2022 (ended in August), Adobe’s Digital Media segment accounted for 73% of total revenue. This business includes verticals such as Creative and Document Clouds. The rest was generated from the Digital Experience business, which includes enterprise-oriented marketing, digital workflow services, and analytics.
The two segments experienced revenue growth of more than 20% in 2021. However, in the last three quarters top-line growth has decelerated significantly as Adobe is now forecast to end fiscal 2022 with sales of $17.6 billion, an increase of 11.6% year-over-year.
Adobe’s profit margins are also trending lower in fiscal 2022, and its gross margins fell by 60 basis points in the last three quarters to 87.8%. Comparatively, the operating margin fell by 170 basis points to 35.1%.
Given Figma is unprofitable, the acquisition could compress Adobe’s operating margins further in the next year.
The final verdict
Adobe stock is valued at 21x forward earnings and 7x forward sales, which might be quite expensive for the value investor. But ADBE is a growth stock and is part of an expanding addressable market. So, you should expect the company to trade at a premium.
Yes, Adobe's stock price is likely to move lower, especially if market sentiment remains bearish. But analysts remain bullish and expect ADBE stock to surge by more than 30% in the next 12 months.
Disclaimer: The writer is an experienced financial consultant who writes for Finscreener.org. The observations he makes are his own and are not intended as investment or trading advice.
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