Adobe Inc. (ADBE) Earnings Call Transcript

Welcome, everyone. I'm going to give a couple of second, a little more than that for people to connect in, they're joining at a high rate. I apologize for being a couple of minutes tardy in terms of the start of this, and I look forward very much to our conversation in a moment. Let me give it just another second. I see a lot of people connecting in once that slows, we will get started. Okay. Excellent. Welcome, everyone. For those who don't know me, I'm Mark Moerdler. I cover global software at Bernstein. I'm really pleased to have the team from Adobe on this call. I have Jonathan Vaas from Investor Relations; and Scott Belsky, who knows everything we could ever want to know about the creative side of Adobe's business. Scott, I really appreciate you making time for us. We've created a pigeon hole which you should have a link for that. So if you have any questions, please put them there. I have some questions to start with, and I will be monitoring the pigeon hole and adding those questions.

Let me start at a high level, Scott. First of all, Scott, thank you very much for your time today. So Scott -- thank you. Can you explain DDOM, and why this is a differentiator in driving the business?

Sure. Well, DDOM stands for the data-driven operating model. It's really -- has been in our compass, you could say, as a company as we've driven the change from the kind of old perpetual model into the subscription model. And it's the way that we have become extremely intimate with our funnel, understanding where customers start when they discover our products and then when they come in and when they actually try the product, and how to optimize the trial experience that they buy. And then once they buy, how do we make sure that the usage is really strong and that we're optimizing for discovery of all the capabilities and then how do we retain. And I would say a newer addition to this over the last few years has really been this product like growth motion around how we make sure the customers also help us grow the product. So we're not just getting new people at the top of the funnel and attritional branded search and nonbranded search and paid and whatever else, but that we also have the customers helping drive that flywheel as well. What's interesting though about DDOM and Shantanu always loves to talk about what we call Adobe on Adobe, building Adobe on our own tools and building our own customer and when you are your own customer, you have the ultimate level of empathy and how to help customers get value out of your products and how to drive the road map going forward. And so DDOM really drove our transformation as a company over the last 10 years. And so as we're thinking about other companies and other brands that are going under digital transformation of their own, one of the amazing thing to say, hey, we were customer zero. We learned and really built this for our own transformation. And we're not selling something without empathy because we know exactly what it takes to implement this and to benefit from the DDOM model that is now sold through our products. And so they look to the future, I think about new things that we're now doing, Adobe on Adobe, like -- what we like to call internally the content supply chain by helping customers go from end to end in terms of creation to deployment of assets to optimizing and personalization. It's almost like deja vu, that's the new conversation of us being customer zero once again.

So when you say customer zero, you're talking that basically you built on what became the marketing cloud, right? And experience cloud in terms of the technology and you really optimize to drive from the top of the funnel all the way down to assure that you close the client and make them successful.

That's right. And making sure that we are their first customer and that we optimize it for ourselves and therefore, can confidently sell it in market and be great stewards of the product experience because as we said, like we had to go through this transformation ourselves.

Beautiful. I'm going to change gear from the general to the more specific, probably the questions people are most interested in. Can you reiterate the implications of the Figma deal on your financials post close?

Yes, sure. Well, I mean, first of all, what I would say about Figma, it was quite a process, certainly my first rodeo in terms of a deal of this size, just being a part of the deal team. David Wadhwani, my colleague, runs the business, obviously drove this deal in particular. But we -- it took us 5 months to get really intimate and comfortable with what makes Figma work their underlying business and where the road map is taking them. And so it wasn't a surprise to me that it took more than 5 minutes for the rest of the world to understand why we were so excited about this deal and its potential. It's a remarkable company. They're bootstrapped, or they were rather $0 in revenue for the first, I think, 6 years as they were really building an incredible product and then went from 0 to $400 million in ARR in like 4 years, something like that, incredible net revenue retention, just remarkable, continued growth and also really, really impressive gross margins. So at the end of the day or once this acquisition closes, it will very much be a driver of top line for us, for sure. But again, like the margin profile is also pretty strong. And there's just so many low-hanging fruits for us with this deal both right away. And then, of course, there is a synergy model we're super excited about over the long term. But just to start, this is a company who just turned on their enterprise business. It's relatively new. This is one of the strengths of Adobe and as an entrepreneur coming into Adobe and being awake to just world-class enterprise sales and knowing how to drive these enterprise-wide agreements and just go-to-market motions that Adobe is so great at and then looking at a business like Figma that is so new in that regard, but has a world-class product and something that is going to be extraordinarily relevant over the next few decades. It's pretty exciting to me to just have some of those near-term unlocks that will certainly help us reach far more customers and will, of course, be great for our investors as well. And then we can think about some of the longer-term synergies as well. And if you look at every product experience that any company is building these days, a lot of them, the source of truth of that product experience is in Figma. This is where designers and developers meet. This is where copywriters jumped in. And this is the experience. I mean more and more of our businesses are only as good as our digital experience that we're delivering on a daily basis and optimizing and all of those experiences have assets and those assets, whether they be video or innovations or illustrations or whatever those are, they are often made in our desktop products. And so to wire up all the assets that are used to make world-class experiences with the product design and development platform that so many companies are using. It's a really exciting set of possibilities.

And Mark I'll just jump in and give a little bit of color on margin. What we said when we announced it in Q3 was from our baseline, non-GAAP operating margin, which is around 44%, 45% world-class levels. In the first year after closing, the margin would dip between 1% and 2%, started to come back in year 2 and be back to baseline by the end of year 3 and accretive to our non-GAAP EPS thereafter. It just shows you our own efficiency and the scale of which Adobe operates that we can do a deal at this level with such a small margin impact in the near term and then accretive thereafter so we're proud of that as well.

So thank you, Jonathan. Scott, you talked about all the low-hanging fruit in the rest. Can I get a little color? I know you don't obviously -- can't give too much, but a little color around what the vision, what you can do with this?

Well, some of the things we've shared and these are all -- it's hard to declare and you shouldn't declare anything before that the teams are 1 team, and we can work on what the future holds together. But just a couple of things, just -- we are drivers for our excitement across this entire deal to the finish line. One is this just exploding space, product design and development and the strong assertion that it's becoming one. The fact that if you look at Figma's customer base, over 50% of their users are not designers. They are developers, product managers, copywriters, executives. These are folks who want to be stakeholders of the digital experience of the company. And it's actually pretty wild that for most companies, the only real stakeholders of what the digital experience is are the designers. And then they pass red lines over to the developers and go back with whatever ends up being put to deployment and matches what was designed in the first place. And so we see this as a big space. We see it as a space that's important for Adobe, imagine integrating some of the digital experience capabilities like how a website performs back to the source where the designers are developing the website. I think there is a connectivity there that is a great advantage for us and for our customers. Certainly, the next is to make the future of creativity just more collaborative in general. I mean Figma has a world-class platform, where multiplayer design happens every day. That's a fundamentally different type of platform than what we have over the decades built for our flag ship products. But there is just a lot of excitement around reimaging some of our own segments on this new multiplayer platform that Figma brings to the table. And then the third 1 is just around productivity and creativity being the new productivity. And what we mean by that is you look at organizations over the previous decades, we deployed productivity tools to everyone, like the Excels and PowerPoints and Words of the world. And now as a lot of this work becomes automated or done with ChatGPT and all the other AI resources at our disposal our conviction is that creative -- or people will need to stand out through their creativity as opposed to their productivity. Even if you're an investment analyst, you want your incredible infographics to come through. You want presentations that go viral. You want to use design skills and you want to leverage social platforms to spread ideas. And with that, I think that the deployment of creative tools will be important. And Figma, of course, brings in a product called FigJam, which is a new workplace collaboration tool that's become very successful for them. We have an Adobe Express, which we think that fits very well in and we can build out our offering of deploying the masses, creativity for the rest of us, if you will, and that's a big focus for us going forward as well.

Excellent. Following up on that, can you give us some more color on where Adobe is in its journey to the web platform? And a, how Figma fits in? And b, because there's questions from the audience, what happens if it doesn't happen that you close on Figma?

Sure thing. Well, what I'll say about our flagships, Photoshop, Illustrator, Premiere Pro, InDesign. These are all products that we firmly believe should be multisurface experiences. So there's no reason why you should have to download a desktop product which is, if you think about our funnel, if someone wants to do something in illustration or photography or video and they have to download a product. That takes minutes in some cases. And then when they have it on their machine, they have to open it and that's the first time experience they have to go through. And then when they land in the product, they need to be able to navigate how to use it. And on the desktop -- and a piece of software on the desktop, it's a lot more challenging to personalized experience for every type of new customer. Fast forward to a world in which we deliver Photoshop on the web, which we've already announced and is in public beta or Photoshop or Illustrator on the web, which is now in private beta. And there's no download friction. You land in the product the moment you click get started or someone shares the link with you. So our products inherently become viral when they are on web versus simply only on desktop. And then when you land in the experience, you are able to have a personalized onboarding based on who you are. So if you say I'm a beginner or I'm an intermediate or advance, we could give you a completely different product experience based upon who you are. And a lot of this came from a deeper understanding of our funnel back to your DDOM question in the beginning, realizing just how many folks drop off in our funnel because of the complication of our products and the fact that we can't deliver them on the web and whatever else. And so years ago, we started this effort of bringing our products to the cloud, not just Creative Cloud as a brand term, but actually delivering all of our products cloud native, if you will. And now we're at a point where you can create Cloud docs in Photoshop as of the default, you can pick them up on mobile or on web. You can share a link and invite someone in and they can just jump into the link. And we're seeing some surprisingly good data points that suggest that customers get a lot of value from our products on the web. So that's who we are in that journey. I would say that our web apps are now public data, private data or coming. And we're learning how we can personalize these experiences to make them far more attractive for customers and for the business. And Figma is a bit of a different animal. Figma is a product design and development platform. It's -- they have multiplayer capabilities in a way that we frankly wouldn't be able to do and wouldn't really need to do on a Photoshop like products because customers don't want 50 people in their Photoshop file. That would be a nightmare for that type of customer who's is in which editing and you're dealing with layers. But with a product experience that includes hundreds if not thousands of panels and pages and everything else, you actually do want tons of people in. So I think we've built the platform purpose built for that use case, which is why I think it's such a valuable addition to the franchise.

So it adds capabilities in depth and breadth, but isn't necessary for your web journey or the core creative products.

That's right.

That's fair. Okay. Good. A number of questions. We put out a note in effect today about ChatGPT and, in fact, use ChatGPT to write. So note -- but a number of questions coming in for people and asking, can you speak to the competitive landscape may have changed for Adobe and maybe for Figma given the impact on creation and design productivity from generative AI.

Yes. No, it's probably one of our hottest topics right now, and we have the a ton of work going on in this area. And let me explain to you quickly the framework that we use to apply to the row of generative AI throughout our products. We see every potential customer of ours and current customer on a spectrum of outcome-oriented creativity to process-oriented creativity. Outcome oriented creativity, the target product for them is Adobe Express. These are people who come in saying, I have an idea of what I want and I just need it now. So if you're -- if you're writing a blog post about a -- about robotics and medicine, and you want an image of a robot doctor. And you can just speed that into a generative AI model that prompt. I need a robot doctor, and whatever you get, you're pretty much happy with. If it looks good, you don't really care if the robot doctor is standing a little to the left or to the right or is wearing a blue lab coat versus a white lab coat, you don't care. You just need to have an image. That's our prototypical outcome-oriented customer. And so they're template-driven. They'll use generative AI to get quick images of problems, and they don't need to have pixel precision and control over their output. Then you have the process-oriented creative that is quite the opposite. These are our customers who want control layer by layer of an asset. If they give that command, they're going to want to move the robot doctor a little bit to the left. They're going to want to make them a little shorter, a little taller. They're going to want to have control. And so we have 2 sets of customers, if you will, that we have to really think through for the role of generative AI. And so fortunately, on the Adobe Express side, it's pretty clear we already demoed at MAX in October, our big conference. We showed how you can make any kind of fund you can imagine with a prompt. You can bring some of it in an image or complete an image using Adobe Express, and we have all of those capabilities launching this year on Adobe Express. And I can talk about some of the underlying models and the dynamic there in a minute. And on the process-oriented side, whether it's Photoshop or Premiere Pro. First of all, we support third-party plug-ins already, any of which used some of the Stable Diffusion or open AI models that are out there. And then we also have our own homegrown models that are being purpose-built for what our customers really need. They need to bring in an object on a layer in Photoshop or completed out in the asset and image because it's missing a little bit. They have to fill out a format that's a little bit bigger than what they have. We have generative AI capabilities that are coming into our product that would just complete that for them.

So you see it as augmenting what you have, not competing against what you have. Is that fair?

Absolutely. I've never been a customer who would like to take an hour to do something that could be done in a minute or a second. And so we have to outfit our customers to be able to be as productive as humanly possible. And I also have seen through our customers' feedback to us that they need precision control, even if they prompt an algorithm to fit something out, they need to be able to take it further and in the immunology a lot of our customers use is generative AI is like a huge swath of interns that you can staff on something and explore something. But then at the end of the day, they bring back to you the proposals, the ideas, and then your job is to synthesize it, put it in a story, perfect it and then bring it to the clients. And I don't think that part will change.

Beautiful. Changing gears, another question, a couple of them came in the same one from the audience is, to the extent you can answer it, Scott or Jonathan, that would be great. How are you evaluating the likelihood in path to regulatory approval for Figma? What's your sense of where this process is going. Obviously, you're not the lawyers, you can't talk about that, but what's the sense you are in terms of it? Because there's a lot of controversy out there as to what's happening from a regulatory point of view in the whole world with every acquisition?

Yes. Jonathan, do you want to give the kind of the latest update that we have?

Yes, sure. And some of these details were shared in the [ S-4 ] that we filed as well. We mentioned we are in a second request process with the Department of Justice, and that was expected. Like you mentioned, in this environment, frankly, in any environment, $20 billion acquisitions usually get a closer look. And so we're in regular dialogue and producing the documents as well as Figma is producing documents that they requested for, were in the process with the regulators in the U.K. And we said we also expect the same in Europe. And so -- it's just a matter of getting them the information that they're looking for. And what we hear is the process has been very collegial and is progressing as expected. And we believe that the deal will be cleared and close later this year.

Beautiful. Thank you. So changing gears, let's go -- let's maybe go back to the Creative Cloud itself. Can you give us some color on what the demand for creative tools look like today versus pre-COVID and during COVID? Have you reached the top of that S curve at this point?

Well, the traffic patterns continue to be very strong. And I think that during COVID certainly saw some haywire in the system where certain things like video exploited and yet things like photography slipped because people weren't buying cameras to go travel anymore. And therefore, they didn't need the downstream products to support things like travel photography and that sort of thing. So it's nice to have that haywire out of the system and kind of be back to the macro trend, which is that creativity has never been more important. People -- anyone on social platforms, they increasingly want to stand out. How do they stand out? They want to use creative capabilities that aren't natively available on the social platform that they're using. So whether it's a TikTok customer starting to use Adobe Express or even Premiere Pro or customers on Instagram using after effects to make really cool effects in the background. One of the things I'm driving the product teams to do across non-Pro and Pro products is ensure that we are really natively supported the formats and the possibilities of the formats of the social products. We also have brought in scheduling to social platform. So Adobe Express, now whenever you're done with making an asset, you can choose instead of exporting it as an asset and uploading it yourself to Instagram or TikTok or whatever, you can actually schedule to post it, which is what we find is driving retention and better growth lifts for our products. And so the top of funnel wise, to me, there is no shortage of opportunity there. It's all about making sure that we own the nonbranded search terms that we want to compete in or make a lot of progress in having authority in those terms. So we bring those customers in and make our products more collaborative so that people can share them with each other and bring in more customers that way. And then thinking about the new use cases of creativity. So I mentioned something like Infographics, social media posting, presentations. More people are using Adobe Express for presentations now. So we're exploring the relevance for that base and helping customers get into our products through that less friction. Again, like some of the growth leverage for us are as simple as making sure that customers can start using Photoshop without even having to download Photoshop, back to our earlier conversation on web. So top of funnel is strong, and I still find quite a bit of low-hanging fruit in terms of our teams to better convert it.

It's as strong as it was pre COVID?

I think category-by-category, I think you'll see variances. There are certainly parts of it that are much stronger than we saw in terms of pre-COVID. And then there is some segments that have like fluctuated based on what COVID has brought or that sort of thing. I don't -- I can't really -- I don't know and exactly the numbers of traffic, apples-to-apples overall.

Okay. That's fair. Can you explain the difference in what a communicator might need from the creative tool versus a professional or a consumer?

Yes, sure. The communicator is very much that outcome oriented creative I was describing earlier. The communicator comes in wanting to do things very quickly. They care more about getting something fast that looks good than they do about the creative control or the process of getting there. And so that's really where a template-driven product like Adobe Express, generative AI capabilities, they'll either prompt something and just get a bunch of things to choose from. And also AI-driven assistance for someone to look better. The way I like to describe Express sometimes for this communicator customer you're describing, it is almost like having a marketing department in your pocket. What does the marketing department do? It keeps you on brand, they make sure you use the right logos and the right fund. It suggests templates based on the season, based on the holidays, whatever the case might be. It might even automatically generate some text for you based on your previous posts. It can suggest stock to you, and it always kind of has very rigid template so you don't have to go off and make something that looks bad. And it connects with your designers. So if you're actually a social media marketer or a communicator at a big company, what I love about the competitive advantage of using Express versus any of these other competitors out there is that it actually connects with the creative cloud libraries that the designers use. And so if you're at any CPG brand or any other brand in the world that is an Adobe customer on the Creative Cloud side, and you have deployed Adobe Express to your social media marketers and other people throughout your organization. Now they can actually work with the latest logo and the latest brand elements for the holiday and whatever the case might be, it all connects. And I think that's part of the message. As Adobe Express becomes a product ready for enterprise this year. That's one of the things we're excited about in 2023, that's a key value prop for us.

So drilling a little bit on that. Specifically, what positions Adobe best to capture those communicators because it's a big part of your potential TAM versus the down market competitors such as Canva and things like that.

Well, first of all, product, product, product. We have to have a product that is easy to use, that is powerful and that has some of that Adobe magic that no one else can bring to the table. And so the way we are actually building the next generation of the platform for Adobe Express that we talked about a little publicly is making sure that other teams around the company can easily contribute to it. So if there's some breakthrough in Photoshop or Premiere Pro, they can bring that in, in a very light and accessible way to Adobe Express for those customers to then be able to use. But in a quick term, so letting -- meeting as really agile as a company, because we built it on a new platform that everyone can contribute to. So I'd say it starts product, for sure. On the go-to-market side, I'm really excited about the things that only Adobe can do. I look, for example, at how Microsoft used Teams to start to compete with Slack in market. And they use the kind of imprint of Office and the usage of their video conferencing tool to start to make inroads in their Team messaging tool, right? What's the analogy for us? I look at Document Cloud. Document Cloud reaches, gosh, hundreds and hundreds of millions of people, whether it's through our browser plug-ins or mobile apps or Acrobat installed on probably north of 1 billion machines. And those customers are what? They're communicators. They are those noncreative Pro customers that are doing things with documents. Our thesis is that those people also want to look good. They also want to have a nice cover page for their PDF. They also want to have a beautiful Infographic that shows rather than tells the message and the story of the data. And so if you can bring Adobe's press capabilities through that channel, we can have a great advantage in market and in terms of growth. And so those are some of those really exciting unlocks that our team feels we are now poised to start tapping now that the product is getting to a point where, again, it's ready for enterprise, and it's on this new platform that we're launching this year will be more easily deployed elsewhere.

How do you keep the Express product from eating into the Creative Cloud?

Well, I actually think it would -- if anything, I might bet is that express will boost retention for Creative Cloud. And the reason I say that is we need a lot of customers who come in because they want Photoshop or they want Illustrator or they want Premiere Pro or whatever, but may actually not use it every day. They might use Photoshop once a week or 3 times a month or whatever the case may be. And it's actually a good number of customers that are in that zone where unless they get more value out of Creative Cloud, they could be at risk of churning. And so how do we make sure that we help them find the discover leverage more value in Creative Cloud. Adobe Express is a perfect solution for that because Express allows them to do everything else without learning all the other tools of Creative Cloud. So you have an Illustrator, you start using Express for video creations for social, where you have a Premiere Pro customer who is a YouTuber who's using Express to make their image thumbnails for YouTube. I mean these are all very popular examples of the cross utilization that we're seeing right now. And so one of the big drivers this year that Shantanu is personally excited about, it reminds me every product checking we've got is how do we make sure that every Creative Cloud member discovers the value of Express, because we're seeing a positive correlation there, and we want to make sure that it's seen as value of Creative Cloud. I also would say that a lot of customers come in being outcome oriented, the way I described that side of the spectrum. And then through a natural desire as humans to go a little deeper and get curious, they get a result and they're like, "Oh, I wish I could just do this. I wish I could just do that." And it's a thing that Express doesn't allow them to do. And so with the new version of our platform, you'll have a little button that says open in Photoshop, and open that asset in Photoshop on the web, and you can imagine that kicking off a trial for an upgrade to Creative Cloud. And so I think that in some ways, Adobe Express will become a more finely tuned top of funnel for us that will better guide customers to products that ultimately yield more ARPU for Adobe.

Makes sense. Can you comment at this point on the adoption trends you're seeing for Express?