Should You Buy Adobe Stock After Its Record 4th Quarter?
Back in October I answered the question – Should You Own Adobe Stock for your retirement portfolio.
Today, I want to give you an update on them and answer the question – Should you Buy Adobe Stock After Its Record 4th Quarter?
You can read the past article on Adobe in full by using the link above…
But if you don’t want to; here’s a quick recap of what I said back in October about it…
It’s Enormously Overvalued
Normally in these articles I talk about profitability, cash flow, the affects coronavirus is having on a company’s financials among other things.
But frankly none of those matter with Adobe Inc. (ADBE) due to its huge valuation.
Adobe provides software so people can create better content and do better marketing online.
Due to the rapid increase in content creation and marketing online in the last decade its revenues, profits, and cash flows all jumped significantly…
From 2010 to today its revenue increased from $3.8 billion to $12.4 billion.
This is an increase of 2.2X in the last 10 years.
Which led to huge increases in profits and cash flows in this time.
Its net income rose from $775 million in 2010 to $3.9 billion in the last 12 months. This is a 4X increase in the last 10 years.
And its free cash flow rose from $943 million in 2010 to $4.9 billion in the last 12 months. This is a 4.2X increase in the last 10 years.
And this growth in revenues, profits, and cash flows helped skyrocket Adobe shares in this time.
From $36.78 per share at the beginning of 2010 to $502.82 per share as of this writing.
This is an increase of 12.7X or 1270% rounded up.
You’re doing well if you earn 10% investment returns per year on the stocks you own. Adobe produced investment returns of 127% per year on average over the last decade.
Its growth should continue as more businesses work digitally during and after this crisis. Which is illustrated with Adobe’s continued growth in revenues, profits, and cash flows even during this pandemic.
This is all great for Adobe and its shareholders… But it also leads to a huge problem.
It’s massively overvalued.
- Its P/E is 63.3.
- Its P/CF is 46.
- And its forward P/E is 45.3.
I look to buy companies with valuations below 20 on all these metrics to consider it undervalued or at worst fairly valued…
Adobe crushes this threshold.
Why below 20?
Because that means it’s at worst fairly valued… And if its significantly under 20 that means its undervalued.
When a stock is fairly valued or undervalued it gives you more margin of safety in investing terms.
This means you have better chances of earning higher returns owning its stock over time. And these things combined make the stock a less risky investment.
With Adobe stock being so overvalued it means there is no margin of safety… That you have a far lower likelihood of making money owning its stock over time. And these make the stock riskier.
Why is it so overvalued?
Because its share price rose 12.8X over the last decade while its profits and cash flows rose 4X and 4.2X respectively.
When share prices rise faster than profits and cash flow it leads to an overvalued stock… Especially when there’s an enormous difference between the rate of increase like there is here.
Does this mean I think Adobe stock will crash and burn?
No. I expect it to continue performing well going forward… But not as well as it did in the past due to its large valuation.
For the reason of its overvaluation I recommend you avoid its stock…
There are safer, cheaper, and higher return stocks you can buy. And I’ve already shown you some of them…
This thesis to avoid Adobe stock due to its huge valuation continued to play out on December 10th, 2020 when it released its most up to date quarterly earnings… Sort of.
- Revenue rose 14% in the year-to-year quarterly period to $3.42 billion.
- Annual revenue rose 15% from 2019 to $12.87 billion.
- Earnings per share rose 81% in the full year 2020 to $10.83 per share from $6.00 per share last year.
- And operating cash flow rose 28.6% in the year-to-year quarterly period to $1.8 billion.
These aren’t all just fantastic… They’re company records. And all during the worst economy we’ve seen since at least the end of World War 2.
To say this is impressive is a massive understatement.
These wonderful things come from Adobe operations and competitive advantages which I told you more about in the first article.
And they’re also reasons you should consider buying Adobe stock… But only when its cheaper.
Because after these fantastic quarterly results its unfortunately still far too expensive to buy.
As of this writing its P/E is 60.9.
Its P/CF is 44.2.
And its forward P/E is 43.5.
This massive overvaluation brings more risk to buying it. And for this reason, I still recommend you wait patiently to buy Adobe stock for your portfolio.
Even though it produced record quarterly earnings.
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Disclosure – Jason Rivera is a 13+ year veteran value investor who now spends much of his time helping other investors earn higher than average investment returns safely. He does not have any holdings in any securities mentioned above and the article expresses his own opinions. He has no business relationship with any company mentioned above.