Adobe Stock Trading at a Deep Discount to Intrinsic Value (NASDAQ:ADBE)


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In one previous postwe explained why we think now may be the right time for investors with a shorter time horizon to take profits on Adobe (NASDAQ: ADBE). Since then, the stock price has fallen significantly, losing 34% of its value.

However, long-term investors who have weathered the volatility shouldn’t worry as we think the stock can easily pull back above $600 eventually. Thus, we are now very bullish on Adobe stock.

What makes Adobe attractive?

For an in-depth look at Adobe’s competitive advantage, we suggest read the first of our previous three Adobe articles. There we explain why we think the company is one of the best in the entire stock market. In this article, we will focus more on why Adobe will continue to thrive despite highly uncertain macroeconomic conditions.

We will start with the war in Ukraine, which has further impacted an already disrupted supply chain. Many businesses that sell physical products continue to experience shortages and are unable to meet the ever-present high demand. Luckily, Adobe only sells software, which means it doesn’t have to rely on vendors and store inventory. This allowed him to avoid the problems that plagued many others.

It is also important to note that Adobe has little activity in Russia and is only waiting for a $75 million impact on revenue for fiscal year 2022. For a company with billions in revenue, there’s no need to worry.

Plus, thanks to Adobe’s subscription model, it has reasonably reliable and predictable cash flow. In times of economic uncertainty, this is exactly what you want – a business that is certain to be profitable.

We still believe the company has significant pricing power to help hedge against inflation, especially since creative software is hard to learn and relied upon by many creative professionals. Therefore, these users are not willing to switch to other alternatives because they will have to relearn how to do everything.

Finally, with Adobe’s strong user base, Adobe can easily expand into new business segments/products that complement its current offerings. This is an advantage that is not common to most companies. However, the most exciting part of Adobe is the fact that it is very undervalued under current market conditions.

Valuation of ADBE shares

Adobe is not a stock to be measured on the basis of valuation multiples as it prints cash and is expected to continue to grow at a double-digit pace. Following his latest earnings report, we saw articles such as this one which suggest the competition is catching up with Adobe due to its “poor forecast” and single-digit revenue growth.

The “low” forecast was only a slight miss where the company guided for $4.34 billion in revenue and $3.30 for EPS. Expectations were $4.4 billion and $3.35 – certainly not a cause for panic. Management is likely to be content to be cautious in its forecasts in case geopolitical events turn for the worst.

Additionally, the single-digit revenue growth of 9% was compared to the first quarter of 2021, which included an additional week. After adjusting for the extra week, growth was actually 17% on a at constant exchange rate. Not bad at all, considering it’s a quarter-turn that has seen strong tailwinds due to the pandemic.

However, to prove just how undervalued Adobe truly is, we reversed a discounted cash flow analysis to determine the growth rate required to justify its current stock price of $432 at the time of this writing. The results were as follows:

adobe stock valuation

Image created by the author

As you can see from the image above, it will only take an 8.35% CAGR of free cash flow over the next 10 years for Adobe to be considered fairly valued at current prices. It is very reasonable to assume that the company will grow much faster than this over the next decade, especially since analysts expect a CAGR of over 17% over the next two years.

ADBE Free Cash Flow Forecast

Looking for Alpha

So what is the growth rate required to reach $600 per share? The answer is 12.47%, which again seems very reasonable to us.

Final Thoughts

Adobe is one of the best stocks in the market that trades at a steep discount to its intrinsic value. It has the pricing power to withstand inflation and the stable cash flow to navigate through macroeconomic uncertainties. As a result, we are bullish on the stock.


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