Should Investors Buy Adobe Stock Instead of ServiceNow Stock? | ADBE Stock vs. NOW Stock

SUMMARY

Parkev Tatevosian, CFA, compares Adobe and ServiceNow, two major software providers facing investor skepticism due to concerns about artificial intelligence disrupting their business models. The analysis covers revenue growth, profitability, and valuation, ultimately favoring Adobe for its lower valuation and strong cash flow position.

MAIN POINTS

• ServiceNow and Adobe are compared as software providers facing concerns over AI impacting their business models. [0:00]
• Both companies have experienced decelerating revenue growth, with ServiceNow at 24.1% and Adobe at 13.1% compounded annual growth rates over five years. [1:03]
• Adobe achieved a 36% return on invested capital versus ServiceNow's 9.1%, with both companies showing improved profitability and strong operational cash flow. [2:01]
• Valuations for both companies have declined, with Adobe trading at a forward P/E of 9.8 and ServiceNow at 20, both considered undervalued by discounted cash flow analysis. [3:00]
• Despite ServiceNow's better growth expectations, Adobe is favored due to its lower valuation, larger customer base, and greater cash flow for reinvestment. [4:02]
• The final recommendation is Adobe, citing its ability to defend against competition and AI risks, though both stocks are rated as buys. [5:01]

DETAILED ANALYSIS

Adobe and ServiceNow, prominent players in the software sector, are currently under scrutiny as investors worry that advances in artificial intelligence could undermine their business models. Over the past five years, both companies have seen a slowdown in revenue growth. ServiceNow's compounded annual revenue growth rate has decreased to 24.1%, down from higher levels, while Adobe's rate has fallen to 13.1% from a previous peak of 21.9% in 2021.

In the most recent quarter, Adobe reported revenue growth slightly above 10%, whereas ServiceNow achieved around 20%. This deceleration coincides with heightened competition and concerns that enterprises may shift to alternative providers as AI technologies evolve.

Profitability metrics reveal that both firms have improved their return on invested capital over the last decade. Adobe's return on invested capital reached 36%, more than double its 2016 figure, while ServiceNow improved from a negative 43% in 2016 to 9.1%. Both companies also generate strong operational cash flow, providing them with the financial flexibility to invest in new technologies and adapt to market changes.

Valuation has become a key differentiator. Adobe is trading at a forward price-to-earnings ratio of 9.8, which is considered exceptionally low for a company with a history of double-digit revenue growth and expanding profit margins. ServiceNow, with its consistent revenue growth above 20% and improving profitability, trades at a forward P/E of 20.

Discounted cash flow models suggest both stocks are undervalued, with Adobe's market price of $237 well below its calculated fair value of $368, and ServiceNow's market price of $91 below a fair value of $137.

While ServiceNow offers stronger growth prospects and may be better positioned to respond to AI-related risks, Adobe's significantly lower valuation, broader customer base, and larger cash reserves make it a more attractive option. The analysis concludes with a preference for Adobe, though both stocks are rated as buys due to their undervalued status and capacity to adapt to technological shifts.

LINKS

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