To The Moon

$Adobe(ADBE)$

Today, we're going to be analyzing the stock ticker for Adobe (ADBE). This request came from the comments section of one of my previous articles. If you have any stock requests, feel free to drop them in the comments, and I'll make sure to add them to the chalkboard behind me. Eventually, I'll write an article on it. Adobe has been on my list for a while, but it's the last one I haven't marked off yet, so I'm tackling it today. After this, I think I'll be mostly caught up on all the older requests.

As always, this isn't individual investment advice—this is just how I analyze stocks.

The Case for Adobe

Adobe is an interesting case, and there are a few factors that held me back from pushing it to the top of the list. I’m not sure if I’ve covered them in an article before, but I might have—I didn’t double-check. As you know from my other articles, the first thing I like to examine is the historical earnings pattern,

I track Adobe, so after you’ve gone through a lot of stocks, you start to get a feel for what you're looking for and pick up on patterns that might not be obvious to others. The most important part is that it provides a big-picture view of how a business has performed over time, especially if the company has been around for a while.

Adobe’s Earnings Growth:

As for Adobe, their earnings have been outstanding. In 2005, they earned $13, and this year, that’s nearly 20 times more. If you bought the stock back then, it’s up about 1,500%—so they've had fantastic growth. The earnings have generally trended upwards, though there was a period in 2013-2014 when they saw a decline. There was also a slight dip during the Great Recession, which is expected.

Cyclicality & Earnings Trends:

I typically look for declines larger than 50% as a sign of cyclicality, which impacts my analysis approach. If earnings are erratic or cyclical, I prefer to use different methods for valuation, as they’re harder to work with. That being said, the dip in 2013-2014 may have been related to Adobe shifting to a subscription-based business model. I'm not 100% certain, but that seems likely. If you're familiar with Adobe’s history, feel free to clarify in the comments. It appears that this transition worked well for them, as it took only a few years to recover and continue growing.

Adjustments & Competition:

One key takeaway is that Adobe made adjustments when necessary, like many businesses are doing now to stay competitive. I think Adobe is one of the mega-cap S&P 500 companies, but I do have concerns about AI posing a risk to these kinds of companies, given their size and dominance. However, with substantial cash flow and a solid track record, they may have some advantages to weather potential challenges.

Valuation

Before diving into the valuation, I'll share my general thoughts. When analyzing a stock’s valuation, I focus on two things: the earnings yield (either current or forward-looking) and earnings growth expectations over the next decade. I prefer to use historical earnings growth to project future earnings growth. Since 2016, Adobe has grown earnings at a 27% annual rate, but I cap my earnings growth forecast at 20% per year for valuation purposes. No company, especially one of Adobe’s size, is likely to maintain such high growth rates indefinitely, so I wouldn’t expect them to continue growing earnings at 27% annually. In fact, it would be quite rare to see that kind of growth from a large company over the next decade.

Typically, when I use historical earnings to estimate future growth, it tends to lower my growth expectations compared to what the market is projecting. This is just my judgment; I don’t use a 20% earnings growth rate here. I try not to be overly pessimistic, or else I might never buy anything. Adobe did get close to my buy price in the past, particularly on a couple of those dates, but I just missed it.

Expectations & Buy Price

If we look at what analysts expect, they’re predicting around 12% earnings growth over the next three years. Of course, their forecast is just as speculative as mine. Last year, Adobe’s earnings grew at 15%, so there was only one year of slower growth. But everyone knows there's more competition now, and it's likely going to be tougher for them. So when I'm uncertain, I like to use analysts' expectations as a ballpark figure, provided their forecasts aren’t wildly optimistic. In this case, a 12% growth rate seems reasonable until proven otherwise.

However, I do think the outcome could be more binary—it might either work out really well for Adobe, or it might not. I’ll point out a few other potential buying opportunities as we go along, aside from my valuation estimate.

Payback Valuation

Now, I want to dive into the time-until-payback valuation, which I’ve been using quite a bit on the channel. It’s a simple but powerful concept, and I find it helpful for framing things correctly, rather than getting distracted by short-term market movements. I do have other, more precise methods I sometimes use, depending on the situation and macro factors, but this approach is a solid base for anyone to build on.

Here’s how I think about it: If I buy this business, and it grows its earnings by 12% per year, how long would it take for me to recoup my initial investment? For example, if I pay $100 for the stock, how long will it take for the company to generate $100 in earnings? I use adjusted earnings for this calculation, unless there's a specific reason to do otherwise. In this case, there’s no significant discrepancy between the market cap and the total enterprise value, so I’m using the stock price for my valuation.

We have the stock price and earnings per share, which I’m projecting to be $20.40 for this year. To calculate the earnings yield, we invert the PE ratio: earnings divided by price. So, $20.40 divided by $462.85 gives us an earnings yield of 4.41%. Essentially, if you invested $100, you’d earn $4.41 in the first year, assuming no growth. But if we factor in 12% earnings growth, we can see how long it will take to earn back that $100 investment.

With 12% growth, in the first year, you’d earn $4.94, and in the second year, $5.53. By year 11, you’d have accumulated just over $100 on your $100 investment. So, it would take about 11 years to break even, which is actually cheaper than the average S&P 500 stock. The S&P 500’s average time-until-payback is around 15 years, so Adobe is around 30% cheaper by this measure.

If Adobe can hit those analyst earnings expectations and achieve 12% growth, the stock price should rise, assuming the broader market doesn't fall. Currently, Adobe is down almost 35% from its high, which tells me the market is likely spooked by competition.

Market Sentiment

Here’s a quick lesson on the dangers of overpaying for big stocks: A PE of 45 is pretty high, and it requires strong growth to justify. Adobe’s earnings grew impressively—28%, 24%, 10%, 17%, and 15% in recent years—but if you bought the stock pre-pandemic at around $380 per share, your return has only been 4% per year, which is basically in line with inflation. Despite doubling earnings, you’ve seen no real return over the past five years.

If you bought Adobe right before the pandemic, it's likely because people paid a premium for the stock, which was priced too high at the time. Earnings have been solid, but the stock multiple has since compressed—going from a PE ratio of 45 down to 25. That makes the valuation look better now, but the people who bought it at those high levels either paid too much or didn’t take profits when they had the chance. With large companies like Adobe, growth typically slows over time, and competition can become a bigger factor.

Growth Expectations vs. Reality

The market, overall, is growing earnings at a modest 6% to 7% annually, so Adobe’s projected 12% earnings growth stands out. If they can hit those growth numbers, the stock could be undervalued relative to the broader market. Still, I remain a bit skeptical about whether they can maintain that pace, but for now, I’ll give them the benefit of the doubt.

Ideal Buy Price & Recession Risk

As for a good price to buy, using standard methods, it would be around $400 per share. This price is not far from where it is now. However, you would need to believe two things: First, that Adobe will maintain a 12% earnings growth rate; second, that we won’t experience a recession in the next few years, or else you’ll likely get a chance to buy at a lower price. The key takeaway here is that the valuation should be judged based on whether they meet the earnings expectations, because the market is not expecting them to.

Right now, I’m factoring in potential recession risks, which puts my price target at about $250 per share—significantly lower. The worst mistake investors could make is confusing a disruption from competition as a macroeconomic downturn. If earnings miss and the overall market is struggling, it’s more understandable. However, if their competitors are not experiencing similar declines, it suggests that the issue is more specific to Adobe, and that’s a red flag.

Conclusion

So, if Adobe’s earnings fall but it’s due to competition, it could be a sign to wait and see how the competition evolves before buying. You don’t want to rush into buying the stock just because it’s fallen. In general, I try to be cautious about jumping in, but if someone knows more about the company or industry—perhaps Adobe has upcoming products I’m unaware of—they might feel more confident. At around $400 per share, the numbers make sense for a long-term investment if you’re aiming for a 10-year time frame to break even on a big company like this.

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Disclaimer: I want to make it clear that I am not a financial advisor, and nothing I say is intended to be a recommendation to buy or sell any financial instrument. Additionally, it's important to remember that there are no guarantees or certainties in trading or investing, and you should never invest money that you can't afford to lose.