Valuation-Adobe Systems Inc. (ADBE)

Company Review: Adobe Systems Inc. (ADBE)

Company Profile: Adobe Systems Inc. (obtained via Google Finance)

Adobe Systems Incorporated, incorporated in October 1983, is a diversified software company that offers a line of creative, business and mobile, software and services used by creative professionals, designers, knowledge workers, high-end consumers, original equipment manufacturers (OEM), developers and enterprises for creating, managing, delivering and engaging with content and experiences across multiple operating systems, devices and media. The Company distributes its products through a network of distributors and dealers, value-added resellers, systems integrators, independent software vendors and OEMs, direct to end users, and through its own Website at www.adobe.com. The Company has operations in the Americas; Europe, Middle East and Africa (EMEA); and Asia. During the fiscal year ended December 1, 2006 (fiscal 2006), the Company categorized its products and services into the five segments: Creative Solutions, Knowledge Worker Solutions, Enterprise and Developer Solutions, Mobile and Device Solutions, and Other. On December 3, 2005, the Company completed the acquisition of Macromedia, Inc., a provider of software technologies that enable the development of a range of Internet and mobile application solutions. On April 21, 2006, the Company acquired Trade and Technologies France. In October 2006, the Company acquired Serious Magic Inc., a maker of video software and communications tools for professional, business, consumer and education markets.

Business and Management Review

1) Is the business simple and understandable?
This is an IT business that is easy and simple to understand. The company creates its own software by increasing spending in Research and Development for their five different sectors. The Cost of Goods Sold (COGS) of this company had gone up by 50% since 2005 much in part by the marketing campaign put in place by Adobe. In 2005, the SG&A expenses reached its highest because the company was creating a brand name for itself to take advantage of the introduction of new software in 2006. These actions drove R&D expenses to 32% from the previous year. All these expenditures and business strategies have increased Adobe Net Income 26% so far this year.

2) Does the business have a consistent operating history?
Adobe has a rich history due to the redefinition of business, personal, and entertainment communication by setting new standards for producing and delivering content that engages people anywhere at anytime. Adobe has kept it sales constantly growing over the past as the company begins to differentiate from its competitors.

3) Does the business have favorable long-term prospects?
As Adobe remains actively researching and developing new software, they may have the potential to overcome rivalry pressure from their main competitors (Microsoft, Oracle and Apple) in their business sector. Adobe’s net income is expected to increase this year and the upcoming years due to the great brand recognition campaign that the company put in place in 2005.

4) Is management rationale?
As we look at the financials we can conclude that management is acting rationally. Adobe has a higher EPS and sales growth than the rest of the industry. The margins that the company has been operating under for the past five years on average are outpacing the industry. Its quick and current ratio are higher than the industry meaning that they are effective on the way they handle short term operations. They seem to be holding a lot of cash and not much debt which gives investors a good sense of solvency. On the other hand, much of the company’s cash is reinvested into their research and development that may give Adobe an edge against their industry rivals.

5) Is management candid with its shareholders?
By presenting the relevant information required by investors, Adobe’s investor relations are strong.

6) Does management resist the institutional imperative?
We have no reason to doubt that management has resisted the institutional imperative. 

 
Financial and Value Review

Defensive
1) Size of firm
The company passes the requirement of $2 billion. “Pass”.

2) Strong financial condition
With a current ratio of 3.10 Adobe passes the test.  “Pass”.

3) Earnings stability
With positive net income over the past ten years, this company passes this test. “Pass”.

4) Dividend record
The company has failed to pay dividends for the past ten years, so this test fails. “Fail”.

5) Earnings growth
There has been an increase in EPS of one third over the past ten years. “Pass”.

6) Price to earnings analysis
With a P/E above 40 Adobe is above the required 20, so this test fails. “Fail”.

7) Price to book analysis
The company has a P/B of 5.56 which is higher than the 2.5 requirement. The multiplication of P/B and PE ratio is higher than 50, therefore both price to book analysis’ tests “Fail”.

Conclusion
Scoring only 4/8, we would not recommend Adobe to be placed in the defensive investor’s portfolio.

Enterprising
1) Strong financial condition
Current ratio is higher than 1.5 and debt to Net Current Asset (NCA) is lower than 1.1. Both tests “Pass”.

2) Earnings stability
The company has positive net income for the past five years. “Pass”.

3) Dividend Record
Currently pays no dividends. “Fail”.

4) Earnings growth
Earnings are greater than five years ago. “Pass”.

5) Price
The stock price is higher than 150% of net tangible assets. “Fail”

Conclusion:
We find the company not to be suitable for the enterprising investor, having passed 4 out of 6 tests.

Valuation:
We find that Adobe Systems Incorporated’s fair market value is $46.

Opinion:
Since the company is currently trading at $46.27, the company seems fairly valued but may not be a suitable investment for a long term enterprising or defensive investor.

None of the staff of ModerGraham held a position in Adobe. at the time of publication.  Also, please read our disclaimer and our methods.

(Analyzed and written by Andres Romero)