Adobe Systems Incorporated: Fiscal 2009 Second-Quarter Form 10-Q
Reporting period: Three and six months ended May 29, 2009, compared with May 30, 2008. The filing was dated June 26, 2009. Adobe provides creative, document, enterprise, platform, mobile and publishing software and services worldwide.
Financial Performance and Position
| Metric | Q2 2009 | Q2 2008 | Change |
|---|
| Revenue | $704.7 million | $886.9 million | Down 21% |
| Gross profit | $632.7 million | $804.0 million | Down 21% |
| Gross margin | 89.8% | 90.7% | Down approximately 0.9 points |
| Operating income | $161.4 million | $260.2 million | Down 38% |
| Operating margin | 22.9% | 29.3% | Down approximately 6.4 points |
| Net income | $126.1 million | $214.9 million | Down 41% |
| Diluted EPS | $0.24 | $0.40 | Down 40% |
| Metric | Six Months 2009 | Six Months 2008 | Change |
|---|
|
| Revenue | $1.491 billion | $1.777 billion | Down 16% |
|
| Operating income | $369.3 million | $535.6 million | Down 31% |
|
| Net income | $282.5 million | $434.3 million | Down 35% |
|
| Diluted EPS | $0.53 | $0.78 | Down 32% |
|
| Net cash from operations | $627.3 million | $731.1 million | Down 14% |
- Product revenue declined 22% in Q2 and 17% year to date; services and support revenue declined 2% in Q2 but increased 6% year to date.
- Q2 segment revenue was $411.7 million for Creative Solutions, $156.0 million for Knowledge Worker, $53.7 million for Enterprise, $36.8 million for Platform and $46.4 million for Print and Publishing. Enterprise was essentially flat year over year and was the strongest relative performer.
- Cash, cash equivalents and short-term investments totaled $2.664 billion at May 29, 2009, compared with $2.019 billion at November 28, 2008. Working capital was $2.474 billion.
- Cash and cash equivalents increased to $1.227 billion from $886.5 million at year-end. Investing activities used $349.3 million, principally due to purchases of short-term investments.
- Debt was $350.0 million, unchanged from November 28, 2008. Adobe had a $1.0 billion revolving credit facility, with $350.0 million outstanding, and was in compliance with its covenants.
Material Changes Versus the Prior Comparable Period
- Management attributed the revenue decline primarily to weaker demand for Creative Suite and Acrobat products amid the global economic downturn. Creative Solutions revenue fell 22% in Q2, including declines in Creative Suite and Photoshop point products.
- Knowledge Worker revenue fell 21% in Q2, primarily because of lower Acrobat volume licensing and shrink-wrap sales.
- Platform revenue declined 30% in Q2, principally because of lower Flash Lite licensing revenue from mobile handset and consumer electronics manufacturers. The Open Screen Project is expected to reduce mobile and device licensing revenue as fees are removed for participating members.
- Cost controls reduced research and development expense 19%, sales and marketing expense 13% and general and administrative expense 8% in Q2. Despite these reductions, operating and net margins contracted because revenue declined substantially.
- Q2 included $3.5 million of restructuring charges; year-to-date restructuring charges were $15.8 million. The fiscal 2008 restructuring program involved planned reductions of approximately 560 positions and facility consolidations.
- Investment losses were $1.8 million in Q2 and $19.1 million year to date, compared with investment gains of $9.5 million and $18.2 million, respectively, in the prior-year periods. The six-month loss included other-than-temporary impairment charges of $13.9 million on certain cost-method investments.
- Adobe repurchased approximately 5.9 million shares at an average price of $22.70 during the first six months under structured repurchase agreements entered into in fiscal 2008. After quarter-end, Adobe committed $350.0 million of additional prepayments for structured stock repurchases.
Outlook, Risks and Unusual Items
- Management stated that the macroeconomic environment remained weak and that demand for creative and knowledge-worker products was not expected to improve materially in the near term. The filing does not provide clear numerical full-year or next-quarter guidance.
- Management reported that cost controls enabled earnings per share and profit-margin results to remain within publicly provided target ranges for the quarter, but the specific ranges are not included in the provided filing text.
- Adobe expects existing cash, operating cash flow and available credit capacity to satisfy working-capital and operating requirements for the next twelve months, while noting that further economic weakness could reduce cash and investments.
- Key risks include weaker global technology and advertising spending, competition from Microsoft, Google, Apple, open-source and web-based offerings, product-transition execution, software piracy, intellectual-property litigation, cybersecurity, foreign currency exposure, distributor and OEM concentration, investment impairments and goodwill or intangible-asset impairment.
- Gross unrecognized tax benefits were $155.7 million at May 29, 2009, excluding interest and penalties. Accrued interest and penalties were approximately $16.2 million; the timing and ultimate resolution of tax examinations remain uncertain.
- Adobe disclosed intellectual-property indemnifications, unlimited contractual director and officer indemnification obligations subject to insurance, and headquarters lease residual-value guarantees. The company was in compliance with its lease and credit covenants.
- Subsequent events included the $350.0 million structured stock-repurchase prepayment and the June 16, 2009 completion of a $44.2 million Waltham, Massachusetts real-property purchase.
Investor Verification Priorities
- Verify the sustainability of revenue and margin performance after the substantial Creative Suite, Acrobat and mobile-licensing declines.
- Review the terms, accounting treatment and liquidity effect of the $350.0 million post-quarter-end structured stock repurchase.
- Assess investment-portfolio quality and the potential for additional impairment charges, particularly in private and venture investments.
- Review tax-contingency disclosures, including the $155.7 million of unrecognized tax benefits and ongoing IRS examinations.
- Evaluate restructuring execution, remaining cash obligations and the effect of cost reductions on product development and long-term growth.
- Monitor credit-facility leverage compliance, headquarters lease guarantees and other off-balance-sheet commitments.
- Confirm subsequent quarterly results against management’s stated expectation that near-term market conditions would remain weak.
