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MARCH 21, 2005
By Sarah Lacy Adobe Keeps Surprising The software company's three-pronged business approach is producing bang-up results. But how far can the shares rise?
Execs at publishing and design-software maker Adobe (ADBE ) have a lot to crow about lately, and Chief Executive Bruce Chizen is only too happy to oblige. "A good quarter? It was a spectacular quarter," he said in a Mar. 17 interview with BusinessWeek Online after Adobe's first-quarter conference call. Chizen's outfit posted net income of $151.9 million for the first quarter, up 23% from $123 million a year ago. Revenue hit a record $472.8 million, up nearly 12% from last year. That beat both analyst estimates and Adobe's guidance from February. NOT ALL KUDOS. Growth was actually a little higher than those numbers suggest, which means Adobe could have another knock-the-cover-off-the-ball year, driving the stock higher than many analysts are expecting. Last year the first quarter was 14 weeks, vs. 13 weeks this year. Some analysts figured the revenue growth would have been in the neighborhood of 19% had the quarters been of comparable length. Adobe execs also said they expect revenues to grow 15% for fiscal year 2005, up from their initial forecast of 11% to 14% growth. Adobe's stock was up $3.92 on Mar. 18, to $67.81, a 52-week high. "There's not a lot to criticize about what's going on at Adobe," says Steven Frankel, managing director at investment bank Adams Harkness. Nonetheless, some analysts doubt Adobe's share price can go much higher. The stock is trading at 32 times earnings -- rich compared to peers -- but consistent with historical patterns, according to analysts. It has risen 76% since last March, and 2005 revenue growth is expected to be half what it was in 2004. As a result, more than half the analysts covering Adobe are rating the stock a hold. HANDSOME TRIO. But a closer look at what has driven all this recent success gives credence to analysts like Frankel, who see Adobe reaching $75 or more in the next year. For one thing, it isn't depending on a single area for growth. Adobe's business splits roughly into thirds in terms of revenues, and all three are growing. One sector, digital imaging products for the consumer, is enjoying a boost from the boom in digital camera sales. Another embraces Adobe's most well known offerings: products for graphic designers in publishing and advertising. Its 2003 decision to bundle popular programs like Illustrator and PhotoShop into a Creative Suite has paid off. The last third, what it calls intelligent documents, consists of mainly Adobe Acrobat products. The software, which incorporates the PDF file format, lets companies digitize and collaborate on things like forms, documents, and technical drawings. In the first quarter, Adobe says it saw record sales for the Creative Suite bundle, although it won't break out the raw numbers. The selling power of seemingly old products has surprised some analysts. "People keep waiting for these products to roll over and die, and it isn't the case," Frankel says. CRUSHING DREAMS? Chizen attributes that phenomenon to the surging popularity of InDesign, part of the Creative Suite and a serious rival to Quark's formerly dominant QuarkXpress. Publishers already using Quark or another non-Adobe software don't like change, and it has taken months to convince them. But in the last quarter, Adobe announced several big magazine wins, including Conde Nast Traveler and Cosmopolitan. As publishers decide to buy InDesign, a good number are purchasing the whole Creative Suite, upgrading their copies of PhotoShop and Illustrator to the latest versions, Chizen says. This trend should get another lift, as Adobe is widely expected to release Creative Suite 2 next quarter -- months earlier than analysts had originally expected. Next in Chizen's sights? Macromedia's Dreamweaver, a Web design program. Adobe largely ceded the Web design market to Macromedia (MACR ) a few years ago, but Chizen aims to compete head-to-head again in the next few years. "I'm not willing to stand up and say we're going to beat them tomorrow or the next day," he says. "It'll take a long time, but we're going to get more aggressive, especially on alternative platforms like mobile and devices connected to HDTV." 50% OF THE TOTAL? But while the new creative product suite will boost earnings for the next year, investors can't discount activity in the Acrobat division. It grew 42% year-over-year this quarter, mainly thanks to the release of Acrobat 7 -- which lets users create exact replicas of paper documents, forms, and technical drawings digitally -- the commercial counterpart to the free Adobe Reader. This third, lesser-known division also sells a program that runs on a customer's servers, allowing users to collaborate on blueprints and technical drawings. Chizen feels most bullish about the Acrobat division, saying it could grow into half of Adobe in the next three to five years. But it also lies the farthest outside of Adobe's comfort zone. Acrobat contains products sold beyond creative sectors, to groups like banks, government agencies, or any business that wants to move such forms as mortgage applications onto a paperless system. If successful, Acrobat will make Adobe a player in the big business and government software field, not just the niche business and consumer areas where it has dominated in the past. And the amount of each sale could far exceed the $50,000 benchmark Adobe is used to. Growth in this new market will also give investors more comfort, because it's a more steady business. Revenue from the creative products can ebb and flow, based on ad spending and new product releases, Munster says. PDF POSTAGE STAMPS. In the first quarter, Adobe had more than 30 of these deals -- each worth more than $50,000 -- with businesses or governments. An agreement with Germany's post office, for example, enables businesses to buy postage online, then download a PDF of a stamp, print it, and stick it on packages. Another deal, with Britain's Medicines & Healthcare Products Regulatory Agency, enables it to accept applications for new drugs via Acrobat instead of paper. If successful, these agreements could serve as a good pitch to other countries, Chizen says. Should it turn out he's right about intelligent documents growing to half of Adobe, it will serve as vindication -- considering that 10 years ago, analysts predicted Acrobat would never grow as big as PhotoShop or Illustrator. This is no small feat. Few software companies have mastered selling to consumers, small companies in specific industries, and large organizations at the same time. Symantec (SYMC ) and Microsoft (MSFT ) are among those who have. But an impressive R&D and management team have led experts to believe Adobe may be up to the challenge. PLENTY OF GAS. Take the launch of InDesign. Quark owned that market. But Adobe has stolen a good deal of it thanks to the quality of its product and its faster rollout of a Mac OS X version. Adobe is fast increasing its R&D and sales staff, adding nearly 170 engineers and salespeople over the past three months. Even if one of its businesses stalls, Adobe has enough gas in the others to keep the growth engine running. Chizen is already hinting he has more up his sleeve -- like taking on Macromedia and moving into mobile applications, which Adobe hadn't talked about before the Mar. 17 conference call. Don't expect another 70% increase in the stock this year, but investors may see one pretty picture by yearend.  Lacy is a reporter for BusinessWeek Online in the Silicon Valley bureau Edited by Phil Mintz
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