What Happened?
Shares of creative software maker Adobe (NASDAQ: ADBE) fell 13.2% in the morning session after the company reported underwhelming third quarter (FQ4 2024) financial results. While revenue and EPS beat, billings missed. Net new Creative Cloud ARR also missed, which is especially bad because AI monetization depends on strong Creative Cloud performance. Additionally, the company's full-year revenue and EPS guidance missed Wall Street's estimates, which is not the first time in the last year or so. Specifically, 2025 Digital Media ARR growth of 11% and the midpoint of Digital Media revenue growth of 9% both missed analyst estimates.
Also, there was little definitive insight on AI monetization during the quarter. Given more noteworthy updates from other enterprise companies that have reported this season, Adobe's lack of clarity on the AI front might create uncertainty, which markets don't like. Overall, this was a weak quarter.
Last quarter, the company's struggles were evident as Net New Digital Media Annual Recurring Revenue (ARR) and remaining performance obligations (RPO)—key indicators of future sales—both fell short of forecasts. In general, Adobe has exhibited very uneven quarterly earnings performance in the last year or two, and the market is growing increasingly skeptical and impatient.
Following the underwhelming results, TD Cowen analyst downgraded the stock's rating from Buy to Hold, summarizing the concerns, "Net net, the long tail of users is the biggest rev driver for ADBE, and with the MT [medium term] focus on proliferating free users before leaning into monetization, we don't see GenAI helping to bend the growth curve in the foreseeable future.".
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What The Market Is Telling Us
Adobe’s shares are not very volatile and have only had 7 moves greater than 5% over the last year. Moves this big are rare for Adobe and indicate this news significantly impacted the market’s perception of the business.
The previous big move we wrote about was 27 days ago when the stock dropped 5.8% on the news that the major indices declined, with the Nasdaq down 1.9%, while the S&P fell 1.12% as markets reined in some of the post-election optimism. The decline follows remarks from Federal Reserve Chair Jerome Powell indicating that the Fed's decision-making committee is not in a hurry to cut interest rates. Consequently, investors reduced their expectations for another 0.25% rate cut in December 2024. Inflation data also renewed the debate of how much more rates need to come down and what the cadence of future cuts should be. Specifically, the Consumer Price Index (CPI) for October 2024 increased by 0.2% month-on-month, while headline inflation stood at 2.6% year-on-year. The latter is getting closer to the Fed's 2% target.
As a reminder, the driver of a stock's value is the sum of its future cash flows discounted back to today. The result of lower interest rates, all else equal, is higher stock valuations. This is especially true for higher-growth stocks, such as those in the technology sector, where the current value depends more on cash flows many years out in the future.
Adobe is down 16.9% since the beginning of the year, and at $482.02 per share, it is trading 24.1% below its 52-week high of $634.76 from February 2024. Investors who bought $1,000 worth of Adobe’s shares 5 years ago would now be looking at an investment worth $1,576.
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