Adobe Systems Upgraded to Overweight by Morgan Stanley, Price Target Raised to $340

Adobe Systems (ADBE) received an investment-rating upgrade Monday to overweight from equal-weight from Morgan Stanley as the firm said it expects the software company’s earnings per share to have a compound annual growth rate of at least 20% over the next three years even if digital-media growth begins to wane.

The firm also raised its price target on Adobe’s shares to $340 each from $282. The stock closed Friday’s session at $281.96 and rose 1.7% in recent Monday pre-market trading to $286.69.

In a note to clients, Morgan Stanley said “while limited visibility into components of the digital-media business (70% of revenue) has historically left us cautious on making a call on the multi-year durability of Adobe’s growth, our field work at the recent Summit conference…, meetings with management…,and our analysis of segment contribution margins…bolster our confidence in Adobe’s ability to sustain 20%+ EPS growth, even assuming decelerating digital-media growth.”

The firm highlighted that it expects margins to continue to improve for Adobe. The company “has seen strong margin improvements coming out of their subscription model transition, already eclipsing pre-transition highs, and we see room for further expansion moving forward,” Morgan Stanley said, adding that it estimates Adobe’s total operating margins can expand from 40% in fiscal 2019 to 43% in fiscal 2020 and 44% by fiscal 2021.

Morgan Stanley also said it expects the contribution from Adobe’s digital-experience segment to increase on both the top and bottom lines. It noted the digital-experience segment has seen its organic revenue growth momentum slow into the mid-teens in recent years.

“However, after a period of heavy investments in core functionality, combined with a broadened portfolio from the recent Marketo and Magento acquisitions, better integration across the portfolio and expanded sales capacity, we see digital experience beginning to trend back toward 20%+ organic revenue growth” in fiscal 2020, the firm said.

Finally, Morgan Stanley said, it sees Adobe’s valuation as attractive. It noted that based on the firm’s latest estimates, the stock is trading at a discount to its large-capitalization software peers. However, it added, “we think ADBE’s strong competitive moat, best-in-class profitability and model conservatism warrants a valuation at least in line with large-cap software peers.”