Over the past six months, Adobe’s stock price fell to $356.95. Shareholders have lost 18.6% of their capital, which is disappointing considering the S&P 500 has climbed by 8.8%. This might have investors contemplating their next move.

Given the weaker price action, is now an opportune time to buy ADBE? Find out in our full research report, it’s free.

Why Does Adobe Spark Debate?

Originally named after Adobe Creek that ran behind co-founder John Warnock's house, Adobe (NASDAQ: ADBE) develops software products used for digital content creation, document management, and marketing solutions across desktop, mobile, and cloud platforms.

Two Positive Attributes:

1. Elite Gross Margin Powers Best-In-Class Business Model

Software is eating the world. It’s one of our favorite business models because once you develop the product, it usually doesn’t cost much to provide it as an ongoing service. These minimal costs can include servers, licenses, and certain personnel.

Adobe’s gross margin is one of the highest in the software sector, an output of its asset-lite business model and strong pricing power. It also enables the company to fund large investments in new products and sales during periods of rapid growth to achieve higher profits in the future. As you can see below, it averaged an elite 89.2% gross margin over the last year. Said differently, roughly $89.25 was left to spend on selling, marketing, and R&D for every $100 in revenue.

2. Excellent Free Cash Flow Margin Boosts Reinvestment Potential

Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.

Adobe has shown terrific cash profitability, driven by its lucrative business model and cost-effective customer acquisition strategy that enable it to stay ahead of the competition through investments in new products rather than sales and marketing. The company’s free cash flow margin was among the best in the software sector, averaging an eye-popping 41.8% over the last year.

One Reason to be Careful:

Long-Term Revenue Growth Disappoints

Examining a company’s long-term performance can provide clues about its quality. Even a bad business can shine for one or two quarters, but a top-tier one grows for years. Over the last three years, Adobe grew its sales at a 10.6% compounded annual growth rate. Although this growth is acceptable on an absolute basis, it fell short of our standards for the software sector, which enjoys a number of secular tailwinds. Luckily, there are other things to like about Adobe.

Final Judgment

Adobe’s merits more than compensate for its flaws. With the recent decline, the stock trades at 6.2× forward price-to-sales (or $356.95 per share). Is now a good time to initiate a position? See for yourself in our in-depth research report, it’s free.

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