Shares of Adobe (ADBE) have benefited dramatically over the last few years from the change in the way they sell their software, up 100% since the start of 2013 and up 200% from its lows in 2011, you know the drill, Creative Cloud:
Back on March 16th prior to ADBE’s fiscal Q1 I had the following to say in a preview:
ADBE trading at 38x expected 2015 eps of about 2.10, and 8x expected sales of a tad less than $5 billion is far from cheap for a software company with a $40 billion market cap. The shares fairly adequately capture a bit of the enthusiasm associated with their ability to rapidly grow subscribers for their Creative Cloud suite. In December the company guided Creative Cloud subs to about 5.9 million vs the consensus of 5 million, which was massive, the issue here is whether or not they will be able to maintain pricing. Regular readers know that I don’t exactly get the valuation re-set for a stock like ADBE that had ceded earnings in their endeavor to migrate to a software as a service model.
ADBE did hit their guidance for Q1 but guided down current quarter with revenue expected to be in the range of$1.13 billion to $1.18 billion, and EPS in a range of 41 cents to 48 cents which is shy of consensus estimates of $1.18 billion and 48 cents. The stock declined 3.5% the next day and down about 7% since the day of the print. The stock looks to have found a little technical support near term, just above its 200 day moving average (yellow below), but 5 month support is about 5% lower at $70:
Options prices have come down hard since earnings, with 30 day at the money implied vol hitting new 52 week lows last week despite the stock’s decline:[caption id="attachment_52395" align="aligncenter" width="600"] ADBE 1yr chart of 30 day at the money IV from Bloomberg[/caption]
The next identifiable catalyst is their fiscal Q2 earnings on June 16th, and seeing as they added $2 billion to their existing share buyback in mid January (here) we can count out any surprises on the capital return front.
I stick by my comments prior to the results from my preview that the stock is priced to perfection and that it is expensive for company with a market cap in the high $30 billions. That said the lower guidance could lead to a Q2 beat, and the stock in the low $70s using a $70 stop on the downside could be a good entry for those who think Q2 sees an uptick in subscriptions.
We actually like a alternative here in lieu of stock. This is for those that would like to be long the stock here but with defined risk or simply those that want to replace their existing stock with defined risk:
Hypothetical Trade – ADBE ($74.25) Buy the May 72.50/77.50/82.50 call fly for 1.65
Rationale – This is essentially buying ADBE stock at 74.15 with risk of only 1.65 to the downside. The only thing given up is any move higher above 77.50 in the next month and a half and profits start to trail off. The maximum potential gain is 3.35 at 77.50 in the stock. Given that fact that earnings are after May expiration this works as a nice stock alternative.
As far as June earnings options will be listed in a few weeks and we’ll circle back to see how those look for possible earnings plays, for us the jury is still out on the stock, largely due to valuation and the reasons investors have afforded it such a valuation.