Amid the choppiness on Wall Street, tech darlings are in the spotlight this earnings season. Similarly, the leading software company Adobe (NASDAQ:ADBE), known for its products like Photoshop, Illustrator and Acrobat, has also been volatile.
ADBE stock reached multi-year highs of $638 in early February but its year-to-date (YTD) performance has raised eyebrows. ADBE stock ended July at $551.65, with over a 7.5% YTD decline. The stock has underperformed the iShares Expanded Tech-Software Sector ETF (NYSEARCA:IGV), which has gained more than 5% YTD. We believe this performance gap demonstrates concerns about Adobe’s recent legal troubles and its high valuation levels.
At this point, we suggest a cautious approach: it may be wise to hold off on buying ADBE stock in the immediate term. However, looking beyond the present frothiness and volatility, ADBE’s robust fundamentals and generative artificial intelligence (AI) dominance indicate solid long-term prospects.
The FTC-Adobe Lawsuit
The Federal Trade Commission (FTC) filed a lawsuit against Adobe in June, alleging anti-competitive practices. Adobe’s cloud-based offerings like Creative Cloud and Document Cloud have become the industry standard for graphic design, video editing and document management.
The FTC claims Adobe has trapped customers into year-long subscriptions through hidden early termination fees and numerous cancellation hurdles. When trying to unsubscribe, product users had to pay significant fees.
The repercussions of this lawsuit for Adobe could be significant. If the FTC prevails, Adobe might face stringent regulations, hefty fines or be forced to alter its business practices, impacting revenues. Moreover, the lawsuit could tarnish Adobe’s reputation, affect customer trust and invite even further regulatory scrutiny.
Short-Term Technical Analysis and Valuation Concerns
These legal hurdles have added to the volatility in ADBE shares. Therefore, it may be helpful to look at a technical chart for Adobe stock.
From a technical analysis perspective, we believe ADBE is likely to test its 50-day moving average (MA), which stands around $518. In other words, over the short-term Adobe shares could decline towards this level where traders or long-term investors can set entry prices.
Another notable feature in the technical landscape for ADBE is the presence of a price gap. In mid-June, Adobe shares gapped up to around the $460 level. Many chartists would potentially regard this gap in Adobe price as a significant technical event. If ADBE shares break below the 50-day MA, there could easily be a further decline to fill that gap. The volatility in Adobe indicates active trading, which could lead to rapid changes in ADBE stock price, including the potential closure of price gaps.
Finally, Adobe’s valuation metrics are also at historically high levels. At present, ADBE’s price-to-earnings (P/E), price-to-book (P/B), and price-to-sales (P/S) ratios are 49.3x, 16.9x and 12.3x, respectively. On the other hand, comparable sector figures stand at 12.0x, 2.4x and 2.1x.
Thus, if there were a potential earnings miss or negative legal developments in the coming weeks, investors would likely hit the sell button in ADBE shares. Investor reactions to Adobe’s future guidance and overall market sentiment will play crucial roles in determining the short-term moves.
Long-Term Adobe Stock is Still Bullish
Adobe has been focused on integrating AI capabilities into its creative software suite. In the coming years, the global generative AI market is poised to explode, due to increasing adoption across industries, development in deep learning, and rising demand for personalized content. According to recent research, the global gen AI market size is projected to reach around $970 billion by 2032. This implies a compound annual growth rate (CAGR) of nearly 40%.
Adobe reported second quarter earnings for fiscal 2024 in June, which showcased robust performance and growth across its segments. The company achieved record revenue of $5.31 billion, representing an 11% year-over-year (YOY) growth. Adjusted net income jumped 12.8% YOY to $2.02 billion while adjusted EPS soared 14.6% YOY to $4.48. Management pointed to strong growth across Creative Cloud, Document Cloud and Experience Cloud segments due to its differentiated approach to AI and innovative product delivery.
For long-term investors, ADBE looks like an excellent investment. Yet, at this point, they should wait for a more favorable entry point.
Prudent Now, but Buy the Dips
In conclusion, even though ADBE stock has underperformed so far in 2024, we do not believe it is time to buy yet. Adobe’s leadership in creative software and the successful integration of gen AI have propelled its stock to elevated valuations.
At present, the looming FTC lawsuit, coupled with the broader tech sector’s recent volatility, necessitates a cautious approach and a hold recommendation. Investors interested in adding ADBE to their portfolios may find a more attractive entry point following a potential price correction.
Looking at a longer-term technical chart, we expect an initial decline toward the $525 or even $500 level. This could be followed by a period of consolidation within a $470 to $530 trading range to set up a rally above $600.
Despite the near-term considerations, ADBE’s long-term prospects remain robust. Adobe’s leadership in creative software and the successful integration of gen AI positions it to benefit from the secular growth trends in AI. Finally, analyst’s long-term sentiment on ADBE remains overwhelmingly positive. Wall Street’s 12-month median price forecast of $604.54 for ADBE stock suggests more than a 9% upside potential.
On the date of publication, Tezcan Gecgil did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
On the date of publication, the responsible editor did not have (either directly or indirectly) any positions in the securities mentioned in this article