Adobe - The Return of the King?

or is AI killing Adobe's business?

Intro

While lying in bed, the title of this article came to me: The Return of the King. This is the title of the third Lord of the Rings book, and this is also my third long piece on Adobe on this Substack. I am a large Lord of the Rings fan, and the title of the third and final book seems fitting, albeit a question mark is justified. In this article, I will elaborate on whether we are dealing with Aragorn, who reclaims his throne, or with Gollum, who chases the elusive ring and never regains it. Lord of the Rings fans know the end: Aragorn is crowned king, ruling over a peaceful Middle-earth while Gollum catches the ring at the very end before falling with it into Mount Doom, but let’s keep the details aside. It is crazy to think that the film adaptation of this epic saga is already 20+ years old.

Adobe, my darling, here we go again. Adobe was the very first deep dive that I published on my Substack, and it was also the company/stock that I pitched at an investors meeting in Omaha in 2023, the day before the Berkshire Hathaway annual shareholder meeting. In January this year, I updated my deep dive based on recent numbers and events, and the reasons were: The stock came down quite a bit and was trading at the same P/E level as when I originally wrote about it in April 2023.

A quick recap on what Adobe does

Adobe is the clear market leader when it comes to PDFs. I am sure you have seen your fair share of PDFs, and technically every finished document (be it Word, PowerPoint, etc) will be transformed into a PDF before it is circulated to the final audience. Dan Durn, CFO of Adobe, gives some more insight:

PDF, most common file format on the planet, over 3 trillion PDFs in this world and the world's information lives in PDF. Acrobat is the clear market leader in terms of engaging with that file format, whether you're consuming content, whether you're editing, you're making the documents visually rich. We're so foundational to the exchange of ideas, exchange of insights, exchange of information, we're literally ground zero of how companies and people communicate through the most common file format on the planet.

Those PDFs are becoming more visually rich, and Adobe is at the forefront of creating content.

If you think about the creativity process, when someone has a spark of inspiration, when someone has a clear idea in their mind's eye of what they want to see, our tools bring that spark of inspiration and what's in someone's mind's eye to in the digital world. And it's across different media types and whether it's Photoshop or Illustrator vector, whether it's in design, design layouts and how things get communicated to consumers, whether it's premiere and after effects on how feature-length films and short films come together, we're virtually touching every aspect of the creative process to bring those ideas to life in the digital world.

I assume you knew about the two pillars above, namely Acrobat and Photoshop (and maybe the other tools). The third pillar of Adobe is quite under the radar, and if you have not worked with a Marketing department, you will probably never have heard of it before. It is all about providing the infrastructure for a company to connect with the customer through a digital channel. Dan Durn in his own words:

As you think about front office software as distinct from back office, how companies connect through digital channels, the foundational components of developing content, serving it up, workflows, analytics, driving commercially accretive outcomes, that's all Adobe.

Here is how Adobe sees the main drivers for each of the three segments.

I will not go into more details of the company in this article since the nature of the business has not changed since my last deep dive. You will find it here. I recommend that you read this one to get familiar with the company.

Where are we now?

Fast forward 7 months, and what can you say: Adobe came down even further. The stock has been negative for the last five years.

At the same time, we are looking at one of the largest drawdowns in recent history, only to be surpassed by the drop in late 2022. The drawdown in late 2022 was due to bad market sentiment, the slowing growth of Adobe, and the highly questionable $20 billion planned takeover of Figma.

Figma, in the meantime, filed its IPO. This was a master class in ripping off retail investors with a sky-high valuation. Even today, Figma is still trading at a market cap of $36 billion.

What brought us here?

There are a couple of reasons why Adobe has fared so badly, and most of them are related to just two words: Artificial Intelligence. AI is so prevalent that it is the second column on Adobe’s Website, right next to Products.

Talking about AI, make sure to read my take on how to invest in the age of AI. Find the article right here:

Investing in the age of AI

There is a general fear that Adobe’s products will become obsolete with the rise of AI. It is not just the well-known ones, such as ChatGPT, Gemini, Grok et al, but also more niche products, such as Midjourney. I myself use Midjourney to create pictures, and I am still amazed by the fantastic results.

With a simple prompt, I was able to create this fantastic picture of a sailing boat in a bottle riding on the rough seas. In the past, I would have never been able to do this, not even with the help of Photoshop (unless I had spent countless hours of training, trial and error).

And just as easy as it is to create such a picture, I can change it with a couple of words. Let’s change the boat into the Titanic, and the bottle is now on a beach instead of the ocean. Even the most skilled Photoshop expert would have taken hours to create this piece of art. It took me two minutes, including the time I had to wait for Midjourney to render the picture.

As the skilled and observing reader that you are, you probably saw that the ship above is not a perfect representation of the Titanic. The original ship had 4 chimneys and no sails, unlike my rendering. I kept this picture to bring your attention to the nasty details of AI. It often looks fantastic on a first and second glimpse, but be aware: It is far from perfect.

Fund manager Dev Kantesaria, whom I admire, shared the following statement when his fund sold all of Adobe

Over the long term, however, we see a future where Adobe is rendered obsolete except for very high-end use cases. The shares have risen since we sold them, but that’s unimportant to us. If we have serious concerns about the business model, even if the impacts are many years away, we look to put our investment dollars elsewhere.

You can find Dev Kantesaria’s and many other great fund managers’ most recent Q2 portfolio in my article here:

Q2/2025 Superinvestor Portfolio Update

Here are two interesting takes from analysts, Ben Reitzes of Melius Research and Omar Sheikh from Rothschild

He warned that AI is disrupting traditional software players like Adobe, Salesforce, and Workday, with value shifting toward infrastructure giants like Microsoft and Oracle.

points to threats from platforms like Midjourney, Google’s Imagen/Veo, Runway, and Sora. These tools are increasingly replacing the early ideation phase of creative workflows, undercutting Adobe’s traditional pricing power.

So this begs the question:

Is Adobe doomed (pun intended to Mount Doom), or is there a future where Adobe and AI can coexist or even thrive?

How about the most recent earnings?

Operating Business

Business is going great. The ARR CAGR of all three product lines has been growing in double digits since 2021. The “most boring” of the three categories, the document cloud has shown the most impressive growth at a 23% CAGR.

AI Assistant in Acrobat Reader and Express will accelerate the delivery of new conversational and agentic interfaces to add value to this combined offering. Revenue growth will be driven by distribution across web and mobile app stores, partnerships with major software providers and focus on SMB and enterprise sales. Our generative AI innovation is infused across the breadth of our products, and its impact is influencing billions of ARR across acquisition, retention and value expansion as customers benefit from these new capabilities.

In Q1, the management talked about how AI is already contributing to their business.

This strength is also reflected in our AI-first stand-alone and add-on products such as Acrobat AI Assistant, Firefly App and Services and GenStudio for Performance Marketing, which have already contributed greater than $125 million book of business exiting Q1 fiscal '25. And we expect this AI book of business to double by the end of fiscal '25.

In Q2, the management reiterated that a lot of revenue is driven by AI features and integrations, while the AI book of business is on the way to achieving a quarter of a billion in ARR by the end of the year.

While our AI influenced ARR is already contributing billions of dollars, our AI book of business from AI-first products, such as Acrobat AI assistant, Firefly App and Services and GenStudio for Performance Marketing is tracking ahead of the $250 million ending ARR target by the end of fiscal 2025.

Adobe’s own AI solution, Firefly, is going really well. Customers choose Firefly because they a) trust the Adobe brand and b) because Firefly is commercially safe, meaning that it does not violate copyrights like almost every other AI solution out there. Here is a short intro to Firely:

Traffic to the Firefly App grew over 30% quarter-over-quarter, and paid subscriptions nearly doubled in the same period. Firefly continues to drive new user acquisition with first-time Adobe subscribers growing more than 30% quarter-over-quarter.

David Wadhwani, head of Adobe’s Digital Media segment, in more details on how Firely was trained and how Adobe makes sure that the content creators benefit from the usage of their original material.

we have trained our Firefly models, as many of you know, on Stock and other content that we have access to. We do have a contributor fund that pays out to those individuals. And as a result, we feel like we're in a very advantaged position when it comes to people choosing models.

Adobe Express is running really well and continues to gain traction.

Express alone added around 8,000 new businesses this quarter, approximately 6x growth year-over-year including companies such as Microsoft, ServiceNow, Workday, Intuit and top sports leagues like MLB, the NFL and Premier League.

Product News

Adobe is targeting mobile phones and web applications more seriously. This move was overdue, as more and more people either don’t own their own laptop/personal computer or are doing everything from their mobile phone.

CEO Shantanu Narayen in Q1 earnings call

The next generation of creators want the flexibility of web and mobile tools in addition to the power of the desktop. They will benefit from the variety of AI models to ideate and explore creative possibilities. Adobe will serve this growing community with the most comprehensive set of web, mobile and desktop applications delivered through various subscription tiers.

I am surprised that an application as widely distributed as Acrobar Reader can still grow its monthly active usage by 23% on a large scale.

Features like AI Assistant in Acrobat and Reader have been a game changer for everyone from sales teams to students looking for faster insights and smarter document editing…These new capabilities and our cross-surface investments have paid off with Acrobat and Reader monthly active usage growing 23% year-over-year.

Even more impressive is the fact that Adobe Acrobat and Express have more than 700 million monthly active users, which is 1 out of 7 people on planet earth. Of course, Shantanu Narayen, CEO of Adobe, is not shy to talk about their own AI initiatives.

Acrobat AI Assistant is redefining how people extract value from digital documents, unlocking new levels of productivity by cutting time to insights through conversational interfaces. Adobe Express is using AI to enable consumers to quickly design and publish engaging content through conversational AI in an easy-to-use all-in-one application

Learn more about how Adobe Express compares to its competitor, Canva, in this short video. Adobe has the great benefit that all the tools and capabilities that have been developed for Photoshop, etc, in the past can be relatively easily implemented into Express. This guarantees a long and great product roadmap for Express.

The Adobe Experience Platform (AEP) is also being enhanced by AI features to make it easier for teams to work with the data and to gain insights.

With the introduction of AEP AI Assistant, we've extended the platform's value by enabling teams across the business to interact with data through natural language, streamlining ingestion, insight generation, audience segmentation and experience delivery. Building on this momentum, we are now expanding AEP with native AI agents that intelligently orchestrate customer journeys in real time. These innovations empower our customers to leverage their first-party customer data and deliver more relevant high-impact advertising experiences rooted in direct customer relationships.

Enhanced web-browser features have driven a strong increase in usage.

Expanded Acrobat integrations with Microsoft Edge, Google Chrome, Gmail and Google Drive and strong adoption of link sharing for richer collaborative experiences have led to approximately 50% year-over-year growth in Acrobat web monthly active usage.

What if AI actually expands Adobe’s business?

Dan Durn had a very interesting take on why AI is actually increasing the opportunities for Adobe.

I think there's 4 steps in the creativity process. Step 1 is ideation; step 2, image capture; step 3, production; step 4, do something with it, activation and delivery.

Historically, Adobe's traditional source of strength was in production, step 3; activation and delivery, step 4.

Here comes the interesting take: Adobe is now entering a new field, namely, ideation and image/video capture. Before AI and Firefly, the customers worked with pre-recorded photos and videos and improved, cut out, and edited them. Now, with the help of Firefly, customers can create content from scratch, from a blank white sheet of paper. This has the chance to increase the TAM for Adobe significantly.

We weren't in a digital SLR camera. We weren't on Hollywood movie steps with the movie cameras.

What's great about the inflection that's unfolding in our market, software gets to shift left into the creativity process. We go from the traditional source of strength of production and activation and delivery, we shift left into image capture. Firefly Image Model is an image capture device. Firefly Video Model is now an image capture device. We get to shift left in the process.

Dan Durn continued and mentioned the benefits of the Adobe ecosystem with its workflows, which stretch way beyond pure content creation - namely, the Adobe Experience Platform.

Yes. I'm going to come back to the pervasive comment I mentioned earlier. In the era of generative AI, the winners are going to be those that enable customer success. And so as you think about the strategy that we're pursuing, pervasive ecosystem that defines day-to-day workflows for virtually anybody in the creative process. And you take these technologies and you deeply and natively embed them into the products our customers know and love and revealed into the workflows in line. That's where the real productivity magic of generative AI happens.

It's not a one-off model that has some cool technology. As workflows materialize, everybody wants integrated workflows from ideation to capture to production, all in line. And so the strategy of natively embedding these technologies into this pervasive ecosystem as well as surfacing third-party models to explore more surface area in the ideation process

Adobe is growing its product portfolio by dedicated AI-first products, which will already reach a $250 million ARR by the end of this year. From $0 to $250 million in just a year is fantastic. At the same time, Adobe sees more traction for its existing portfolio in parts due to the AI integrations.

Let’s talk numbers

Income Statement

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