3 Reasons ADBE is Risky and 1 Stock to Buy Instead

Over the past six months, Adobe’s shares (currently trading at $332.39) have posted a disappointing 11.8% loss, well below the S&P 500’s 10.1% gain. This might have investors contemplating their next move.

Is now the time to buy Adobe, or should you be careful about including it in your portfolio? Get the full stock story straight from our expert analysts, it’s free for active Edge members.

Why Is Adobe Not Exciting?

Even though the stock has become cheaper, we're cautious about Adobe. Here are three reasons we avoid ADBE and a stock we'd rather own.

1. Weak Billings Point to Soft Demand

Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.

Adobe’s billings came in at $6.69 billion in Q4, and over the last four quarters, its year-on-year growth averaged 12.6%. This performance was underwhelming and suggests that increasing competition is causing challenges in acquiring/retaining customers.

2. Projected Revenue Growth Is Slim

Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.

Over the next 12 months, sell-side analysts expect Adobe’s revenue to rise by 9.5%, close to its 13.1% annualized growth for the past five years. This projection doesn't excite us and suggests its newer products and services will not catalyze better top-line performance yet.

3. Operating Margin Rising, Profits Up

Many software businesses adjust their profits for stock-based compensation (SBC), but we prioritize GAAP operating margin because SBC is a real expense used to attract and retain engineering and sales talent. This metric shows how much revenue remains after accounting for all core expenses – everything from the cost of goods sold to sales and R&D.

Looking at the trend in its profitability, Adobe’s operating margin rose by 5.3 percentage points over the last two years, as its sales growth gave it operating leverage. Its operating margin for the trailing 12 months was 36.6%.

Final Judgment

Adobe isn’t a terrible business, but it doesn’t pass our quality test. After the recent drawdown, the stock trades at 5.3× forward price-to-sales (or $332.39 per share). While this valuation is reasonable, we don’t really see a big opportunity at the moment. We're pretty confident there are more exciting stocks to buy at the moment. We’d recommend looking at a dominant Aerospace business that has perfected its M&A strategy.

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