Key takeaways
- Adobe’s stock crashed after the company announced a $20 billion acquisition of rising creative software rival Figma.
- Adobe announced record revenue for the third quarter as the company continued to profit from its subscription-based business model.
- The price of Adobe stock continues to suffer as Wall Street is not impressed by the hefty price tag on the acquisition.
You likely have not opened a file on your computer in the last decade without seeing Adobe’s name. They are the giant tech company that specializes in the creative software space. It’s estimated that over 90% of the world’s creative professionals use Photoshop for business. The company is known for Photoshop and the PDF file format, but there is so much more to Adobe for creatives and those who manage them and sell creative services. We’re going to look at how Adobe makes money, and what’s behind the recent downward movement of Adobe stock.
Having recently issued its earnings report on September 15 for the third quarter of 2022, the Adobe reported a net income of $1.14 billion on a revenue of $4.43 billion for the period. However, the announcement of the Figma acquisition has caused the stock to plummet as Wall Street isn’t pleased with the move. What’s behind this Figma purchase, and how does this impact the future of Adobe?
How does Adobe make money?
It’s estimated that more than 400 billion PDFs were viewed with Adobe products in the last year, and we can’t ignore how popular the company has become. Annual revenue was $15.785 billion for 2021, a 22.67% increase from 2020. For the third quarter of 2022, Adobe reported a record-setting revenue figure of $4.43 billion, marking 13% year-over-year growth.
There are three revenue streams when you look over Adobe’s earnings report:
- Subscription - This section brought in $4.128 billion for the last quarter, which represented 93% of the company’s revenue.
- Product - This sector brought in $126 million for the most recent quarter. The product doesn’t bring in meaningful revenue because Adobe now operates on a subscription model instead of selling their software. However, Adobe still makes nine figures licensing apps.
- Services and other - This brought in $179 million in the last quarter. This is includes money from related services, training and certain smaller business segments.
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Adobe breaks the revenue down into two operating segments: Digital Media and Digital Experience. Digital Media revenue was $3.23 billion for the quarter, and Digital Experience revenue reached $1.12 billion.
Digital Media consists of the popular Creative Cloud and Document Cloud services. Document Cloud includes Adobe Acrobat and Adobe Sign services. Creative Cloud contains popular applications like Photoshop, Illustrator and Premiere Pro to name a few.
The Digital Experience segment includes Experience Cloud, which is the tool that companies use for marketing commerce purposes. Regular customers don’t commonly know this product as it’s designed for enterprise use. The Experience Cloud platform uses data, software and analytics tools that allow businesses to track the buyer’s journey. The products here include:
- Adobe Experience Manager for content and commerce.
- Adobe Experience Platform for data insights.
- Adobe Workfront for marketing workflow.
The company also offers email and further analytics options under this segment.
A quick glance through the Adobe website shows all of the products offered under Adobe Creative Cloud, Adobe Document Cloud and Adobe Experience Cloud.
What’s happening with Adobe stock?
Despite announcing record-breaking revenue for the quarter, Adobe has lost big in the stock market over the last two weeks. The brand has been raked into the mud due to confusion among analysts, and their stock price has dropped accordingly.
Wall Street doesn’t like this move as the $20 billion figure roughly equates to 50 times Figma’s expected revenue (annual recurring revenue) for this year. As a result of this announcement, the stock has dropped significantly.
Adobe announced the acquisition of Figma on September 15, and the Adobe stock dropped 24% by the next day as the announcement was met with disappointment. The initial news crashed the Adobe stock immediately by about 17%, which erased about $29 billion of its market cap. This was the worst single-day drop for Adobe since September of 2010. This one move erased $9 billion more from the market cap than the actual purchase price of Figma.
Many analysts have been coming forward with slashes to the price target for Adobe since the acquisition announcement, which has added to the stock’s decline. We’re going to dig a little deeper into Adobe’s logic behind this move.
The stock just started creeping over the last two days, September 27 and 28.
Adobe to acquire Figma
During the last earnings report on September 15, Adobe dropped the news that they were purchasing Figma for $20 billion, plus an additional $2 billion for management retention as the CEO stays on. The hefty $20 billion price will be paid for with cash, stocks and possibly a term loan.
The proposed acquisition should go through in 2023, pending regulatory approvals. Figma was founded in 2012 and sells a design application tool that’s used for creating websites, apps and logos.
Many analysts quickly pointed out that the price tag for Figma just doesn’t make sense. Figma was valued at $10 billion in June of 2021, so this is a sizable jump in valuation. The consensus was this was a defensive move; Adobe was worried about a competitor gaining further market share, so they had to negotiate from a weak position. Many felt that Adobe was losing too much momentum to Figma, so the move to desperately buy them out instead of attempting to compete with them was at least strategic, if questionable.
This leaves many investors speculating if other competitors like Canva or Sketch could catch up to Adobe as the popularity of cloud-based graphic design tools grows worldwide.
Other analysts brought up that Adobe let a competitor grow so quickly that they had no choice but to pay a premium to buy them out, an immediate red flag that research and development is out of touch with customers and the broader marketplace.
As Adobe transitioned to cloud-based software, it was clear that Figma was gaining market share with its collaborative design tools. Many users felt that Figma’s cloud-based design software was not only cheaper but easier to use and more collaborative than Adobe’s products. Figma’s software is currently used by large companies like Airbnb, Google and Netflix to design their websites.
On the flip side, Adobe is removing a huge competitor with this move, and they also buy a fast-scaling business. The company’s also staying on the cutting edge by purchasing this successful company instead of investing time and resources to spin something up internally. Adding Figma to the company will increase revenue.
Revenue at Figma has been growing 100% annually, and the gross margin is at 90%. These two key figures could be enough to justify the acquisition as Adobe already has a strong global sales force that could benefit from this added revenue stream.
How can you invest in this Sector?
The digital design sector has exploded, and will continue to grow for some time, especially atop the substrate that is cloud software. Many users turned to Canva since the tool allowed cloud-based collaboration for creatives, and it was much easier to use than more advanced applications like Photoshop and Illustrator. As cloud applications become more popular and easier to scale, the competitive landscape will remain strong.
The bottom line
With Adobe’s stock dropping on the news of the acquisition, some analysts feel that this would be the perfect time to buy, while other analysts continue to downgrade Adobe stock. It’s difficult to predict how the acquisition will go through, but there’s certainly potential for Adobe to significantly increase its revenues with this added synergy, on top of its already impressive growth of late.
We will continue to monitor this tech giant as they follow up on this move. It’s still a bit too early to decide what the purchase will mean for revenue and growth moving forward.
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