Adobe Looks Precarious

Adobe has two significant threats developing: Apple and Google.

Adobe’s (NASDAQ:ADBE) relationship with Apple has changed drastically, first from a symbiotic relationship to a competitive one and now to a bitter one. The iPhone doesn’t have Flash, and even the iPad doesn’t seem likely to have it. Adobe is now betting on Google’s Android to fuel its mobile strategy. At the recent Mobile World Congress, it demonstrated Flash on Google’s Nexus One. Let’s take a closer look.

Back in 2008, Adobe’s Flash Lite version for iPhone suffered from performance issues, and Steve Jobs recently called Flash a “CPU hog.”  Apple is now working towards using HTML5 for video and animation support as this technology consumes fewer CPU cycles and less power. Flash is one area where Apple has disappointed its loyalists.

In the recent earnings call, when asked about Flash on the iPhone, Adobe CEO Shantanu Narayen said, “We’re committed to bringing Flash to any platform with a screen. This has nothing to do with technology. It’s an Apple issue and you’ll have to check in with them.” Adobe and Apple’s relationship has visibly soured.

Meanwhile, Apple’s Aperture has been competing directly with Adobe’s Lightroom. Adobe recently updated the beta version of Lightroom3 to give users the ability to import and organize video files. This comes as a response to the latest version of Aperture 3 released in February, which also included video integration. Adobe also announced that it will be unveiling Creative Suite 5 next month. Adobe’s creative business accounted for about 58% of its total revenue of $2.95 billion in 2009, and Apple sits in a strategically strong position to threaten the entire franchise. Most creative professionals are die-hard Apple fans, and if Apple enhances its software offering in the area, they will most certainly give it a fair shot. Apple tends to develop excellent software, and with a couple of billion dollars of revenue potential at stake, it may attack Adobe where it really hurts if the relationship is not mended ASAP.

On another front, Google is also a competitor for Adobe, and only time will tell how strong Adobe’s relationship with the company will remain. With the Omniture acquisition, Adobe now competes with Google Analytics, a free product. If Google enhances the free product substantially, it will pose a direct threat to Omniture, known to be a cumbersome, long-implementation-cycle nightmare. Furthermore, Google recently acquired an image editing service Picnik, which, once again, if enhanced, can go up against Photoshop as a free alternative. The real threat from Google, however, is on Omniture, not on Photoshop.

In its first quarter results, Adobe reported a 9% increase in revenue to $858.7 million driven by stability in its creative business and its Omniture acquisition. Net income declined 19% to $127.2 million or $0.24 per share from $156.4 million or $0.30 per share last year. The company ended the quarter with a cash and investments balance of $2.7 billion. Long-term debt was $1.49 billion, amounting to a net cash balance of $1.18 billion. Q4 coverage is available here.

For the second quarter, Adobe forecast revenue of $875 million to $925 million, beating the average analyst estimate of $862.2 million. GAAP EPS is expected to be between $0.23 and $0.30. Following its strong guidance, the company’s stock jumped to around $37 with market cap of about $19 billion. It hit a 52-week high of $38.20 on December 16.

Based on what I have discussed above, I think that unfortunately, Adobe has a precarious future ahead. I would not invest in the stock at this point. If anything, I would short it. Most analysts, however, have given the stock a Buy or Hold rating. I think they have not done their homework.