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Adobe (ADBE) Up 5.5% Since Earnings Report: Can It Continue?

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A month has gone by since the last earnings report for Adobe Systems Incorporated (ADBE - Free Report) . Shares have added about 5.5% in that time frame, outperforming the market.

Will the recent positive trend continue leading up to the stock's next earnings release, or is it due for a pullback? Before we dive into how investors and analysts have reacted as of late, let's take a quick look at the most recent earnings report in order to get a better handle on the important catalysts.

Adobe Beats Earnings and Revenue Estimates in Q1

Adobe Systems Inc. reported first-quarter fiscal 2017 earnings of 78 cents per share, beating the Zacks Consensus Estimate by 6 cents. Adjusted earnings per share exclude one-time items but include stock-based compensation expense.

Better-than-expected earnings were backed by strong demand for the company’s Creative Cloud software tools like Photoshop, which added more subscribers. Also, continued growth of Adobe Document Cloud subscriptions and strong bookings for Adobe Marketing Cloud aided the earnings growth.
 
Revenues
 
Adobe’s revenues of $1.68 billion increased 4.6% sequentially and 21.6% year over year. Reported revenues surpassed management’s guidance of $1.625 billion and were above the Zacks Consensus Estimate of $1.641 billion.
 
Subscription comprised 82% of Adobe’s total fiscal first-quarter revenues, up 29.3% from the year-ago period. Products declined 8.8% year over year and contributed 11% to revenues, while Services & Support saw a 2.2% improvement and brought in the rest.
 
Revenues by Segment
 
Revenues from Digital Media Solutions jumped 22% year over year to $1.14 billion. Total Digital Media ARR (Annualized Recurring Revenue) grew to $4.25 billion at the end of the fiscal first quarter, reflecting an increase of $265 million and indicating strong growth in the Creative Cloud and Document Cloud businesses.
 
The two major revenue contributors within the segment were Creative Cloud (CC) and Document Cloud (DC).
 
Creative revenues were $942 million, up 29% year over year. Also, Creative ARR increased $244 million to $3.76 billion. DC revenues were $196 million, with DC ARR of $493 million at the end of the fiscal first quarter. The increase in DC ARR was driven by the adoption of Acrobat subscriptions and value-added services such as Adobe Sign.
 
Management is optimistic about CC adoption and expects to build a strong pipeline for its potential paid subscribers through marketing programs, trial downloads and free memberships. Management expects growth to be fueled by three initiatives ––  by migrating the Creative Suite installed base, drawing new clients and driving ARPU higher through cloud services like Adobe Stock. Also, CC mobile apps are continuously driving customer traffic and strengthening customer adoption.
 
Within the Digital Marketing segment, Adobe Marketing Cloud revenues were up 26% year over year to $477 million. The improvement came on the back of strong contribution from TubeMogul acquisition, an increase in the size of accelerated conversions and international expansion. Mobile remains a key component for this business. Mobile data transactions grew to 56% of total Adobe Analytics’ transactions in the quarter.
 
Margins
 
Gross margin was 85.9%, down 65 basis points (bps) sequentially but up 24 bps year over year. Gross margin is typical of a software company and variations are generally related to the mix of revenues between categories.
 
Adobe incurred adjusted operating expenses of $939.8 million, reflecting an increase of 5.8% sequentially and 11.7% year over year. As a percentage of sales, research & development, general & administrative and sales & marketing expenses decreased from the year-ago quarter. As a result, adjusted operating margin was 30%, down 128 basis points (bps) sequentially but up 516 bps year over year.
 
Net Income
 
On a GAAP basis, Adobe recorded net income of $398.4 million (80 cents per share) compared with $254.3 million (50 cents per share) in the year-ago quarter.
 
On a pro forma basis, Adobe generated net income of $390.7 million compared with $263 in the year-ago quarter.
 
Balance Sheet
 
Adobe ended the fiscal first quarter with cash and investments balance of $4.65 billion compared with $4.76 billion in the previous quarter. Trade receivables were $850.8 million, up from $833 million in the prior quarter. Deferred revenues were $2 billion compared with $69.1 million in the fiscal fourth quarter.
 
In the reported quarter, cash generated from operations was $730.4 million and capital expenditure was $30.9 million. Additionally, the company repurchased approximately 2.2 million shares for $238 million. Adobe still has $300 million remaining under the current authority granted in Jan 2015.
 
Guidance
 
For the fiscal second quarter of fiscal 2017, management expects revenues of $1.73 billion. Analysts polled by Zacks expect revenues of $1.72 billion, lower than the guided figure.
 
Based on a share count of 499 million, management expects GAAP earnings per share of 66 cents and non-GAAP earnings of 94 cents. The Zacks Consensus Estimate is pegged at 74 cents, well below the guided range.

Our Recommendation
 
Adobe reported strong fiscal first-quarter results wherein both earnings and revenues beat the respective Zacks Consensus Estimate.
 
We remain positive on Adobe’s market position, compelling product lines, continued innovation and strong balance sheet.
 
The company is being driven by continued innovation in its Creative Cloud, Document Cloud and Marketing Cloud businesses.
 
After the successful transition from traditional license to subscription-based services, Adobe wants to establish its presence in cloud-related software areas like documents and marketing. In this context, the company has been introducing significant features and a number of updates to its Document Cloud.
 
Additionally, we believe that the constant adoption of Adobe Marketing Could serves as a catalyst. Moreover, the solid adoption of Document Cloud, a new subscription package that enables users to sign documents on the cloud, should boost revenues.
 
In December, the software giant completed its acquisition of TubeMogul, a video advertising platform for $540 million, net of cash and debt. The company achieved strong revenue contribution from TubeMogul acquisition and expects successful integration with its Adobe Media Optimizer solution.

How Have Estimates Been Moving Since Then?

Following the release, investors have witnessed an upward trend in fresh estimates. There has been one revision higher for the current quarter

VGM Scores

At this time, Adobe's stock has a strong Growth Score of 'A', though it is lagging a lot on the momentum front with a 'D'. However, the stock was allocated a grade of 'F' on the value side, putting it in the bottom 20% quintile for this investment strategy.

Overall, the stock has an aggregate VGM Score of 'C'. If you aren't focused on one strategy, this score is the one you should be interested in.

Our style scores indicate that the stock is solely suitable for growth investors.

Outlook

Estimates have been trending upward for the stock. The magnitude of these revisions also looks promising. It comes with little surprise that the stock has a Zacks Rank #2 (Buy). We are expecting an above average return from the stock in the next few months.


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