ADBE-investment
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University of Massachusetts, Amherst *
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305
Subject
Finance
Date
Feb 20, 2024
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Uploaded by GeneralEnergyCoyote11
Last Closing: $517.28 | 52 Week Range: $274.73 - $523.79 | Avg. Volume: 3,831,640 Market Cap: $234.66B | PE Ratio (TTM): 49.27 | EPS (TTM): 10.45
Investment Summary
Adobe Inc. is a leading software company with a strong competitive position and significant market opportunity. The company's revenue has consistently grown over time, and it has demonstrated operating leverage and pricing power through expanding profitability margins. Adobe's high and rising R&D and intangible assets indicate heavy investment in innovation, which is a crucial factor for its future growth. Moreover, Adobe has shown an impressive ability to convert a high percentage of earnings to free cash flow, providing flexibility for further investments, acquisitions, buybacks, and dividends.
Financial Projections
Adobe's financial trajectory predicts a steady annual revenue growth of 12%, culminating in a total of $31 billion by 2027. The Cost of Goods Sold (COGS) is projected to stabilize at 12.5% of the revenue from 2023 onwards. Similarly, Operating Expenses and Selling, General, and Administrative expenses (SG&A) are anticipated to level off at 52.7% and 34.9% of the revenue respectively, starting from 2023. The tax rate is expected to be a constant 21% of EBIT from 2023 onwards. The Unlevered Free Cash Flow, a key indicator of financial health, is projected to rise from $5,037 million in 2023 to $8,208 million in 2027.
Valuation Assumptions
Adobe's valuation assumptions, including a Beta of 1.14 and a Levered Beta of 1.43, lead to a Weighted Average Cost of Capital (WACC) of 8.5%. Using the DCF model with this WACC and a 5.5% terminal growth rate, the present value of projected free cash flows from 2023 to 2027 is $25,369 million. The terminal value is $287,722 million, with a present value of $191,264 million. ??𝐹 = 5,037
(1 + 8.5%)
+
5,757
(1 + 8.5%)
2
+
6,572
(1 + 8.5%)
3
+
7,262
(1 + 8.5%)
4
+
8,208
(1 + 8.5%)
5
= 25,369 ?𝑖??𝑖??𝑠
The enterprise value is $216,633 million, and after adjustments, the equity value is $221,475 million. This results in an implied share price of $470.22. The sensitivity table shows the share price's dependence on growth rate and WACC assumptions.
Justification of Growth Rates
The financial projections for Adobe are based on its historical performance and market trends. The projected annual revenue growth of 12%, stabilization of COGS at 12.5% of revenue, and the leveling off of Operating Expenses and SG&A at 52.7% and 34.9% of revenue respectively, are all derived from Adobe's past financial data. The tax rate of 21% is based on the current corporate tax rate in the United States, which Adobe has been subject to in recent years.
The Beta of 1.14, calculated from Adobe's historical correlation with the S&P 500 index, and the Levered Beta of 1.43, calculated using Adobe's balance sheet data and the corporate tax rate, are used to calculate the Weighted Average Cost of Capital (WACC) of 8.5%. The terminal growth rate of 5.5% used in the DCF model is a conservative estimate of Adobe's long-term growth potential, justified by the company's strong competitive position and the overall growth prospects of the software industry. The DCF model estimates the present value of Adobe's future cash flows, resulting in an implied share price of $470.22. The sensitivity analysis further supports these calculations by showing the share price's dependence on the growth rate and WACC assumptions, providing a range of possible outcomes based on different scenarios. Given the current share price of $514.83 as of 7/14/2023, Adobe is within the fair market value range.
Sum of PV of FCF
25,369
Growth Rate
5.5%
WACC
8.5%
Terminal Value
287,722
PV of Terminal Value
191,264
Enterprise Value
216,633
(+) Cash
6,096
(-) Debt
1,547
(-) Minority Interest
-293
Equity Value
221,475
Diluted Shares Outstanding (mm)
471.00
Implied Share Price
470.22
Implied Share Price Calculation
470.22
4.50%
5.00%
5.50%
6.00%
6.50%
7.51%
486.99
425.24
425.24
486.99
702.67
8.01%
583.65
495.67
495.67
583.65
934.46
8.51%
583.65
495.67
495.67
583.65
934.46
9.01%
486.99
425.24
425.24
486.99
702.67
9.51%
366.06
331.30
331.30
366.06
470.22
Growth Rate
WACC
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