Adobe Inc. (ADBE) Earnings Call Transcript
May 8, 2024
Earnings Call Speaker Segments
In the meantime, I am going to read a quick disclaimer. Members of the media are not invited to participate in this event. Any publication, distribution, reproduction, posting, sharing or transmission of this information without the expressed permission of TD Cowen is expressly prohibited. As a reminder, we are not interested in receiving and you should not disclose any confidential information. In the event that you inadvertently disclose such information, please notify us as soon as possible. I will now pass the call over to Derrick Wood.
Great. Thank you, and thanks, everyone, for joining. I'm Derrick Wood, senior analyst covering enterprise software. Today, we have Jonathan Vaas, VP of IR at Adobe. We are going to have a discussion around -- binge in a lot of discussion around AI for the next hour. If you do have any questions, you can e-mail me, and I'll do my best to field them as we go through. So Jonathan, good to see you. Thanks for joining today.
Yes. Always a pleasure good to see you again. And I wanted to add my own quick disclaimer as well. Any forward-looking statements that come up in the conversation are subject to all the disclosures and disclaimers that we included in our earnings press release and in the SEC filings. So make sure folks to take a look at those.
Sounds good. With that, let's dive in. And I'm just going to start right off the bat because this is one of the biggest questions I get from investors, but I really want to walk through pricing changes over the last 12 to 18 months. How to conceptualize the time line, the level of increases across both the Creative and Document side. So can we start with that? And I know that there were price increases that started in 2022, and there's been some event since then. So it would be great to walk through that time line, Jonathan.
Yes, for sure. And when we talk about our growth algorithm in the Digital Media business, we say it starts with new subscriber adds, which is the predominant driver of growth. But then there's upsell and pricing and investors should expect all of those to be contributing to the ARR growth. The way to think about pricing, and this is something that I think the first pricing changes started in 2017, so after we were through the subscription transition, we've done a lot of these to pockets of the Digital Media portfolio over time in that most of the business rolls over to renewal within a 12-month period of time. So the way to think about it, if we increase the SKU that's -- let's say there's a $20 a month SKU that goes to $25 a month. In the subsequent 12 months, there would -- that would drive ARR growth as people reach renewal. This would be digital subscribers or teams predominantly. And then they move up to the $25 price, that's going to result in net new ARR. In the -- And so once you get to the anniversary of that, and you're in year 2, and then you'll have, from a comparison point of view, a headwind to the net new component of ARR because you're comparing against a year where you had a price lift. And then by the time you get to year 3, you've burned off the headwind and you're just sort of that stasis. So any price increase, there's sort of a 3-year dynamic how to think about it. In May of 2022, we had a modest price increase for some of our Creative Cloud All Apps plans. And that drove some pricing growth from May '22 to May 2023. There will be a little bit of a long tail of this pricing for some of the team subscriptions that are in longer terms and as it flows through enterprise, but primarily, it's a 1-year dynamic. And then in October 2022 through October 2023, we had a larger price increase to Acrobat primarily through digital channels. That shows up both in Document Cloud and Creative Cloud. That was a bigger price increase. That was $15 a month going to $20 a month, and we included e-signature in the product when they moved up to -- that was for Acrobat Pro. And that drove a lot of growth, again, starting in Q4 of 2022 through Q3 primarily of 2023, that drove a lot of growth. Because of those dynamics, in the first half of this year, we have a little bit of a pricing headwind because in the year ago period, we had 2 pricing actions driving ARR growth. We do have one pricing action that's driving new ARR growth this year. It started in November 2023. That's the one that was associated with the new value through generative AI. And that will actually flow into 2025 because it was midyear 2024 that we extended it to all global geographies.
Perfect. So that last point, just recently, you expanded that to all global geographies, you said midyear this year?
Yes. I believe in March, April, we started after doing some more localization work on the Gen AI, particularly in Asia Pacific region, we extended those pricing actions.
Okay. Yes, that's really helpful color to lay it all out like that. When I look at another big question is looking at the Creative net new ARR, the last couple of quarters has been down much more, and actually Document Cloud has been up. So there's been some divergence between those two figures. Anything you want to call out on why that's happening?
Yes. And because of that dynamic on Creative, we mentioned in Q1 to help kind of pierce through the noise of pricing that Creative ARR -- if we backed out all pricing ARR in Q1 this year and all pricing ARR in Q1 of last year, the result would be growth of just over 20%. So the Creative business, when you look at it on the basis of new subscribers and upsell, it's performing really well. And I think I would describe that trend is being driven by a lot of the excitement and the smoother onboarding with generative AI. But if you look at it on an as-reported basis, it was down in part just due to how much pricing growth was driving through the business in Q1 of last year. A lot of that was associated with Acrobat CC, the CC line item of Acrobat, which was the larger of the two price increases in the year ago quarter. Document Cloud is also -- it's worth noting. It's been our fastest-growing business for many years, which is something we expect to continue. The Document Cloud and what we call product-led growth, this is making it as frictionless as possible to try out online in a web browser setting and then enabling sort of viral sharing of PDFs and signatures, which brings new people into the ecosystem. Document Cloud is our sort of leader or our exemplar product in that product-led growth journey. We took Acrobat to the web several years ago, and it's performing super well. So that's going to be a playbook as we bring other Creative apps to the web and drive that same type of product withdrawal.
Got it. And so just to be clear, too, that the -- you can have Acrobat that shows up in the CC line. And that happens when it's bought -- when it's purchased through adobe.com?
Yes. A lot of the Adobe -- a lot of the digital purchasing, which is adobe.com, shows up as it's -- you're really buying Acrobat CC, Acrobat Creative Cloud. It's been one of the All Apps since the very beginning. There's also -- you can also buy Acrobat through the Creative Cloud desktop app, which allows you to purchase other apps and install. So there's a lot of that Acrobat business, which is part of CC. And then all of the field and the channel and the enterprise selling of Acrobat is in the Document Cloud line item or segment, I should say.
Yes. So a 30% kind of price increase that started to flow through Q4 and Q1, some of that was in the CC line and you had to comp that. And that's why CC has some compression in growth there. Okay. And just touching on this, ex price factors, you would have had 20% growth. I mean is that basically telling us that like you've got 20% unit growth?
Yes. I mean the growth is -- when you grow ARR 20%, your ex pricing, you're going to have unit growth that's probably somewhere close to that as well. And the best way to explain it, we would say, is kind of the Photoshop Gen AI playbook. And we've provided some metrics around this at our investor event in Vegas where I last saw you in March. And when we integrated Firefly and Photoshop, it dramatically changed the business. It made people -- it made the onboarding, like the number of people that wanted to try it, easier and smoother and created a lot of viral interest. It made our install base that were using Firefly use the product more, retain better, and ultimately, gross units increased 30% year-over-year. So we saw this immediate bend in the curve with Photoshop subscriber growth when we integrated Firefly. That was -- that for us was kind of thesis confirming. And I think the flow-through is that 20% growth on the segment. Our belief is when we bring that playbook to all the other flagship apps, Premier and After Effects and Lightroom and 3D Substance, that we can drive that same kind of healthier business dynamic, both because it lets more people try the apps and it enables people to kind of go deeper within them. So we had a great start with Gen AI last year, but there's a lot more that we're planning to do this year to bring new models to our apps and hopefully drive those same kind of improvement.
And when you're talking about bending the curve and the subscriber growth, you're talking about paid subscribers?
Yes. That's right. The metric -- there's different ways of looking at our subscribers, but the metric we tend to be discussing when we talk about it is what we call commercial subscriptions. And this is basically all the standard price subscriptions that people buy when you ex out education, which is sort of a proliferation discounted market that we think of differently and then enterprise. Enterprise, it's not a pure seat model, so we don't track subscribers per se in the enterprise.
Right. So as we think about that number, is there anything we should be -- so Q1, clearly, you're seeing that you saw the benefits of Firefly being rolled out last year. As we go into the rest of the year, I guess, we're going to start comping some of that initial success, so -- but then you're talking about layering in Firefly and other products, it's going to start helping to lift up subscriber growth. So just anything to think about how that growth curve could look going into the second half?
Yes. For last year, and hopefully, this scratched an itch that a lot of our investors have, we provided, I think this was the second or third year, a line on a bar chart that showed commercial subscriber growth over the last 3 years by quarter. So you can see what the trend looked like to sort of evaluate the progress we were making on subscriber growth the last couple of years. Of course, once we brought Firefly to our app services, we saw a lot of improvements, but we have a lot in store this year. So we've said we had some sneaks recently of the innovations we're doing in video and audio with dubbing. We now have our modern Express product lineup ready to go with the new mobile app. We have the Acrobat AI Assistant now. So there's a lot of good innovation, which we're excited to -- for investors to see the growth. And as we burn off some of these pricing headwinds, I think that will be more apparent in the results.
Okay. And I'm trying to get a bunch of incoming questions. But I think that's a good segue into how do we think about -- you've talked about pricing headwinds in the first half and that maybe neutralizes in Q3 and then starts to get fully comped and you should see a reacceleration in net new ARR in Q4. I think that's the right framework, right? Anything to view right there?
Yes. Pricing -- by the time we're in the Q4, we will have fully burned off any pricing headwinds. Because, as I mentioned, we'll be fully in the third year after those actions that were 2022 actions that I discussed by Q4, and I think then you'll really start to see the underlying strength of the business. And in fact, by Q4, we'll even have a modest pricing tailwind because we'll have a full quarter of the new Gen AI price uplift rolling through. And the way I look at it, and it's why we talk about pricing as part of the growth algorithm, we have a complex business with a lot of different SKUs. We've changed in the last couple of years, we've changed the prices on a few. And some of the prices are the same as they've been for 10 years. So I think, one, we want our investors to expect the pricing long term as part of the growth algorithm. And I think Adobe really deserves credit for the ability to take price when we've added a lot of value. And it's something that's a core competency. We've done it in a way where it's really not been a disruption for our customers. I think they realized that we're giving more value than we're charging for significantly. And even that Acrobat price increase in late 2022, that was a time I think that the macro may have been sort of under the most pressure, and we were able to take a pricing action that drove a lot of growth. So I think it's something Adobe does really well, and we want investors to feel like that's something that they can trust is a core competency.
Sure. I'm going to try to hit two questions here. One is about Q3 seasonality. What do you typically see? What are you expecting this year? And also was the Firefly pricing action incorporated into your ARR guide for Q2 and the full year?
Yes. The pricing action we took, this was announced in the fall, started rolling out in November, so it was obviously part of our fiscal 2024 guide, so that one is a no-brainer. I'll talk about on Q3, the seasonality that we usually see year-over-year. I don't want to get into trying to foreshadow what we're going to guide or deliver this year in Q3, we're getting so close to there already. Usually, in Q3, we'll -- our Q3 is the summer months, June, July, August. It's a time that a lot of people are out of the office, particularly in Australia, Europe, long vacations. So people don't buy as much software in the summer months. We usually guide Q3 a little bit below Q2. And in terms -- if you compare the actuals year-over-year, I think the line of best bid on the shape of Q2 to Q3 would almost be dead flat to just slightly down, maybe a point down. That's what we usually see in terms of summer seasonality. So we'll see how that plays out this year.
Yes. Okay. And in terms of -- about the new -- we've talked about pricing not a lot of new products. You've got Gen AI Studio, you've got AI Assistant coming out, you've got Express Mobile, you've got Firefly, talk about how those products stack up in terms of -- and drivers going into the second half?
Yes. I was talking to a big investor recently, and they said, we know software companies love having new stuff to sell. And -- which is very true, and that's why I remember them saying it. And this is a great year for Adobe having new stuff to sell. And it's across the spectrum of the different markets we compete where some of it is way at the top funnel with people who might be just using free Adobe Reader and now they can get all these value for $5 a month, it's a really attractive entry price point. All the way up to these really big transformative enterprise deals. I think -- when I think of the excitement and where we expect in the numbers generative AI to kind of be visible to investors first, my mind goes right to the enterprise. We've had this idea for over a decade, frankly, since when we acquired Omniture of closing the loop to this virtuous cycle between content creation and then like measuring it, monetizing it, optimizing it, delivering it in a personalized way and then all of that data reinforming the content creation cycle. We're actually starting to sell the entire end-to-end value proposition that way. We were doing this in Q1. We talked about some transformative deals with Gen Services -- or sorry, Gen Studio and Firefly services. And you saw our RPO growth accelerate as -- primarily as a result of these really big enterprise deals, and then we went into summit and the pipeline. We're just building in the ecosystem and the partners. I know we're really excited about that. So my expectation is we're going to have a heck of a year in the enterprise because I think Shantanu said, when he's talking to the last 25 large customers, 25 out of 25 were interested in this stuff. So I think the enterprise -- the vision we had a decade ago, we now finally have all the pieces to really make that a reality. That's really exciting. We're excited about what's going on with Acrobat. We're really excited about now where the product is on Express and just ready to go execute on that business. And then like I mentioned earlier, there's a bunch of new AI models that we're going to be releasing later in the year. We just want there to be a steady drumbeat of new innovation and new toys to play with that Adobe is coming out with. We saw in 2023, when we give the market new Adobe toys to play with, like Firefly, then people just start coming to us and they want to try it, and then the business outcomes follow. So that's what we're going to keep doing.
Okay. Well, that's a good topic that enterprise, but, SMB, I've got a couple of questions coming in around what was the message on the macro coming out of Q1 in terms of what you guys are seeing, especially around the SMB?
Yes. Our macro commentary has tended to be more focused around the enterprise. And what we've said pretty consistently, I'm always parsing the words not just Adobe says, but other enterprise players. And we've described it as an environment where there's been a lot of scrutiny on budgets and spend. And I think within that environment of scrutiny, we've done really well, particularly in very, very large customers who are making very, very large multiyear commitments. We performed well. I think when the business environment gets more accommodating and rates are falling and businesses get back to growth mode, there's going to be a good opportunity for Adobe to accelerate. But it's been certainly scrutiny. I think our business has been pretty resilient in consumers, not immune to what's going on with consumers. And then SMB is kind of in the middle. I think for Adobe SMB, there's a lot of opportunity. Again, when the environment -- when the macro gets better, I think -- I hope there's almost a loaded spring dynamic where there's a lot of companies that get healthy fast and want to invest. That's exactly what Adobe saw in 2021 when the world reopened from COVID. SMB was a huge headwind for us in 2020 during COVID. And then all the businesses -- those businesses feel the macro pain faster, but they also get healthy fast. And so I hope there's an opportunity there for Adobe. We haven't commented much about SMB macro as a headwind. But the companies that are pure play SMB players, Shopify, just today HubSpot, it seems like it's clear that the small businesses have felt some pressure and hopefully, that pain end soon.
Got it. Is that -- can you remind us what the percentage of the business is SMB?
The enterprise part of our business is really a pretty pure play enterprise. So I would say take all digital experience and -- but none of it. I mean, I wouldn't characterize that unless -- sure, there's a long -- there's some long tail of smaller -- I would call the mid-market customers. The Creative business has a lot of SMB users who always has. Primarily, those are going to be our team subscriptions. Some -- not all of our teams, some team is enterprises, they just have a division, [indiscernible] team. So some good healthy portion of the team for Documents and Creative, and we provide pie charts at our -- in our investor meeting slides that kind of show you how much of the team is there.
Okay. So to field more questions here, but on Adobe Express Mobile, any comments? Is that product out? And maybe just talk about Express, first of all, and then Express Mobile? And how you see that in the competitive landscape and the price points and the strategy there?
Yes, it's GA now. It came out in beta, I think, in February, and we saw some really encouraging feedback and performance of the beta, and we got it GA quickly. I want to go way back to when we first brought Express to market. We were building a brand and honing in this product-led growth motion and there was a lot of learnings and excitement and expansion since that was late 2021 in Express. We knew even way back then, the modern web version, which would be kind of an AI-first tool, with a much more modern and scalable UI was something we were working on and with a lot more PDF integration, video integration. It was in the fall of this last year that the new modern web platform version came to market in GA. Also, that entire time, we knew that the modern mobile version was something we were working on to have all those same capabilities, a modern UI, much -- an AI-first capability, and that just came GA in this quarter. The reason it's important is increasingly, and I'm sure investors track this sort of thing, more and more web traffic is mobile traffic. And so if you really want to have the killer product, you have to have the killer mobile app. We feel like we have that now. We've got a great playbook to amplify the message now and get people using the tool. We think our AI features and capabilities are clearly better than any competitor out there. It's not just a template game anymore because you can use AI to create a template for you. The example I use, I have a daughter who has a big imagination and for her birthday party, she might want it to be forest, fairy, rainbow, unicorn birthday party. There's not going to be many templates for that, if I'm just looking through a library of template. But if I can have the AI create a template that has all those elements, and then I can tweak it and put my daughter's face on the birthday card and off you go. So it's a game changer to have AI actually be able to create that template.
Okay. And the -- how does this kind of change the competitive landscape? I've got a number of questions around Canva, and what this is going to do for you competitively in that space?
I think it's an exciting new market for Adobe. Traditionally, we were always the company that creators come to when they're either professionals or they're ready to sort of really up their game to the highest level. I grew up in the creativity landscape. And there were always stock photos or Microsoft always had clip art or just Google Image search for a lot of things in PowerPoint. But Adobe was we are upmarket, right? Now we've realized, and I think Canva has clearly validated with their growth, there are a lot of people not even just from a creativity lens, but somewhat of just a productivity lens. You're looking to create standout content for your meeting, for your presentation, documents for your business. They have a design first sort of point of view and they need to be easy to use. And it's a big explosive market. And so Adobe is excited to now have the right product where we have real product market fit with this new vector of growth for us, and we're ready to go after it. So it's kind of that's the play, you can call it at the lower end of creativity. But there's also an application for Express, people might miss this, but our big value proposition, we talked about it earlier, Gen Studio. This is enterprises transforming the way they can create content with a super high velocity where marketers can grab the content, algorithms can personalize the content and get it out in tens of thousands of variations across all these different digital channels. Express is actually a critical component of that whole value proposition because you'll have agencies and creative professionals, creating on-brand campaigns and content that sits in a content hub. And then all the marketers and other workers around them can grab the content. They can modify it and express, but only the things that they're allowed to modify without going off brand. And then they can use Firefly as well to help create all these variants for different screen sizes and campaign types, even language variants and then blast out. So Express is going to be -- it's not just at the low end, but in this high-end personalization at scale and enterprise, it's a tool that we're really amplifying.
Yes. I mean, and that's kind of the strategy around the whole content supply chain and the glue of connecting workflows from different areas to run the enterprise.
Exactly. Because we -- the way we look at this market, it's, in some ways, one of the final parts of an enterprise workflow that hasn't been automated. Like you -- 50 years ago, anybody in manufacturing would have been crazy to not automate manufacturing. And then 20 years ago, everyone automated finance operations. People have now automated HR operations. But content creation is still -- it's more like the travel world was 20 years ago, where you call an agent and tell them what you need and they work on it and they get back to you and files are all over the place. And there's really a moment where that's going to be disrupted and automated in a way that it never has been before. And Express is going to be a tool that's really going to help speed that up.
And it sounds like that's generally then a kind of net new sub target for you guys. I've got questions on what's the risk of cannibalization from Express?
We don't see a risk of cannibalization. So we've seen in the base of -- in our Creative -- our high-end Creative business, any Pro product is your provision for Express. And we've seen that the users that, let's say, you subscribe to Premier and you use Express. You might use Express -- you might use Premier for 100 hours in a month to create a video, and you might use Express for 10 minutes to make the YouTube thumbnail image for that video. But the people -- the overlap of Premier users and the Express users retain better. So we've actually seen the reverse cannibalization is that its added value that makes our ecosystem stickier. Like I said, it's going to be like a net new value proposition in the enterprise, that's going to be kind of a new spend category. And then it's like dramatically expanding the TAM. But in my point of view, it's such a different value prop than the Pro apps that if anyone moves down -- let's say, they subscribe to Photoshop and it was just too powerful of an app for their needs, and they moved down to Express, my conclusion would be, otherwise, that was a customer we would have lost. But instead, we have the right landing place to keep them in the ecosystem. And maybe over time, they'll move back up as they learn more.
I think I'm frozen, but I will get back on in a second.
I can hear you.
Can you hear me?
Yes.
Okay. That's good. I got kicked off the VPN. But can we talk about -- maybe move on and talk about AI Assistant. I saw that the enterprise version just came out. How do we size up that opportunity? Because I mean that seems really like an opportunity that you guys -- your destiny to go monetize a huge reader base. So can you give us some thoughts on the monetization opportunity? And what to expect now that enterprise is out in the market?
Yes. I did -- so I did some silly math. We've said that there's a [ $0.5 billion ] monthly active user base for Acrobat and Readers, that's 500 million people. The $5 price point per month would be if somebody subscribes $60 a year in ARR. So if you do $60 a year in ARR times 0.5 billion people, I think it's a $30 billion TAM. So clearly, we're not including all that in our TAM. But the point is you have a low price point with a massive population. And so if we can start to see some momentum in folks in that population moving over. It's a big opportunity. That's just kind of in the free ecosystem. In the enterprise, the value proposition, I think, is much more significant. And so now that we're GA with enterprise monetization. I know there's a lot of businesses that are really interested in learning how we use it and how we get productivity gains out of it. I think anybody that absorbs information through documents, which is most knowledge workers in the world, can save hours per week easily using the solution. Adobe has learned a lot along the way. And so -- and I also firmly believe that AI has to be right in the surface of how we work. If it's any detour, people stop doing it. It's a novelty that wears off. But if the productivity uplift is right where you are, same as Microsoft's strategy, then customers quickly learn about it. So I think it can be something that's really exciting in our business. And you're back on video.
I am back on. Do you think generative AI, vendors could come and build the product around Reader and summarization in there? Or what gives you the distinct advantage competitively?
I think is kind of what I mentioned earlier about if you have to take a detour to do it, people stop. People were using ChatGPT, I think, a lot when it first came out as a novelty. And then eventually, you realize like you're just kind of back in the rut of using whatever you use. There are billions of PDFs opened every year in Acrobat and Reader. So it is the path that people walk. And I always say, like PDF, I think, is one of the most important file types in the world. If anyone sends you a file that's not a PDF, it either -- it looks like it's a draft or a virus. That's my point of view. If it's final, it's a PDF. And so there is an enviable position we have just by virtue of being the company that all of these people are opening PDFs in every year. But there's also an art to it. We learned a lot in our internal data of these technologies. And there's an art to finding the right amount of personality to allow the AI to have our opinion, you could call it, but also make sure that it's really -- that opinion is bound by this document or set of documents we're asking the AI assistant to opine on. We found that we could take a number of our own press releases, and they could very quickly learn how Shantanu sounds and quote. And we could use them to even like suggest new -- like new ways that the paragraphs were in the Adobe press release. If you go to a ChatGPT and ask it to write an Adobe press release, it's going to refer to the corpus of all human knowledge on the Internet and produce something that's not bound by our style. So there's a real controllability and I think a stability that we built into this that when people play around with it, they realize that it's differentiated.
Okay. And I guess on -- while we're on the differentiation topic, we certainly got a lot of questions around Sora when they announced their text-to-video model, that I don't think is in market yet. But I think at the Analyst Day, at Summit, you guys talked about looking to integrate with Sora and help edit stuff. So what -- can you just talk about the -- how you see Sora in the market competitively and as a partner?
Yes, we see...
On how to think about your opportunity in video?
Yes, folks should check out the video sneaks we shared recently that show how we'll transform Premier like we did Photoshop, and we partnered with Runway, we partnered with Sora, we partner with Pika. We view AI models, fundamentally, we view them as virtual cameras. We view them as not a replacement for human creativity, but the first capture. People -- so Adobe has never been in the camera game, but most video content came through either a smartphone or a much more sophisticated video camera. And then people have a clip and they need to stitch them together or create a story, that's what they use our tools for. When we saw Sora, we were really excited. We realized this is going to result in this 10x-ing of video clips, some of which people are going to want to turn into a thing. There was a recent example where somebody made a nice short about a man with a balloon for a head. And a lot of the initial content of those clips came out of Sora, but the actual finalizing it and stitching it together relied on Adobe After Effects to make it work. And so we think -- we see a future where Adobe is kind of the platform where people can import clips or have choice of model, so to speak, Firefly models will be the default. But people can bring in models from wherever they want, and then work with those in our platform. And we imagine that every AI model out there is going to want to partner with Adobe because we have the ecosystem of power users that are really doing it. So I think the reaction to Sora was -- it showed that the market still needs a lot more education about how our tools are used. I think it's not even just about which software or which models will be the winners and losers, I think the tools like Sora and Firefly are going to allow so much more creation to happen completely in software. So I think there's traditional content production. Think of union workers and trucks driving around equipment and boom mic holders and gaffers and actors, all of the traditional apparatus of content production, some percentage of that spend, and it's a huge pool of spend, that's just going to move entirely to software. And so we think of this as a really big moment for Adobe. And it will be a big moment for a lot of the models that get product market fit and are part of our ecosystem as well.
Do you think -- so you'll have a video model coming out soon. I think that basically requires a bit more horsepower on the AI model. So does that mean like there could be more of a monetization opportunity?
Yes, there's no question. So right now -- and I think your question is going to this idea, we introduced a new type of economy. We call it the generative credit. Think of it as a token in an arcade. And right now, it's like the 1980s when you go into an arcade and every single machine is 1 token per play. That's how it is today in Adobe's ecosystem. We've integrated a few of these models in our apps like Photoshop and Express. And everything right now is 1 credit per prompt. When we have some of these new models, and frankly, with Firefly image generation 3 or 4, when the quality goes up enough, we might make it multiple credits per prompt. Video could be a credit per frame or per second. I mean, video is going to be orders of magnitude more credit consumptive than I think the visuals, audio, 3D, a lot of these models, there's going to be a lot of inflation in the consumption. And so we ultimately believe when we bring way more of these features across the apps, so there's more things to click on the consume credits, and the credit consumption is going to start to go way up. Then the -- that's -- we had this slide in our deck that showed sort of a bell curve of customer utilization engagement. It's going to push to the right. That curve is going to -- so way more people are going to start going over these would-be limits that require upsell to use the credits they want. So there's going to be -- right now, we're not enforcing these in our Pro plans yet. We're just sort of getting them used to the concept of credits. But once we have a lot of these more complex models in market, that monetization opportunity is going to start to be really interesting.
Do you think you'll start enforcing limits sometime this year? And once you do that, do you think that becomes a material revenue contributor?
We've said since 2023 that 2024 was going to be a real year of proliferation. We want people to not have generation anxiety, we call it. We want them to just get used to using these tools. And that 2025 is going to be more of a year where you start to see ARR driven by people consuming these credits. Now since then, on the Acrobat side, we decided to make it a fixed price, $5 a month. We felt like we had a good enough handle around the cost side of inference that better just make it really simple, and it's a simple upsell, $5 a month, use all you want. So there's other ways, for example, when video goes GA. It might not all be a credit type of model. We also might have other fixed price SKUs. So there's going to be exploration on the pricing side of how we do it. But I think the value we're delivering in video and the ability to, for example, auto dub into different languages and have the voice actors voices changed and lip movements reflect the language, the savings for our customers is huge with that stuff. So I do think when it's GA, we'll be monetizing it.
And that $5 price point, when did that come to market?
On Acrobat, that was -- it was in Q2 that we started. It was, I think, shortly after earnings.
So we -- I mean, we get a lot of questions around the Journey and Dolly and Sora and a bunch of other vendors out there, like does this not create more dynamics for you? And I would think that it opens up this whole new pie. There may be more vendors now in that pie, but there's a whole new additive pie, especially when it comes to kind of the consumer side of things. And then when it comes to enterprise, you guys still around governance and policy control like I don't think any of those companies are building those capabilities. And so just it'll be great to hear you talk about how you think about how that landscape has changed.
The first thing I would say is when this device was first invented a little over a decade ago, it came with basic photo editing tools. We all use them. And the question, was that a good thing or a bad thing for Adobe's business? Overwhelmingly, the answer was more digital videos and photos in the world is good for Adobe. Even -- and people are even learning simple content creation. We think AI is the same thing. I said it's a 10x-er. It's going to 10x people using these tools, the number of digital assets that are created and some portion of those work their way to Adobe's ecosystem. There are 5 billion people in the world today that use Google Image search. I think search is the primary way people that need a picture get a picture for your PowerPoint presentation, for your school project. When you need an image, we don't live in a world where every time somebody needs an image, they hire a Creative pro that uses Adobe. Most of the people in the world just use search. And I think in 10 years, if you have a group of college students or interns or investment bankers and you say, where did you get all the images for your last board presentation? I think they will all refer to a Gen AI tool is where they started. And so it's a huge pie. And we think Adobe has an enterprise value proposition that nobody else has. But yes, there's certainly going to be a bunch of these tools that are integrated with search platforms and integrated with productivity tools. But it's a massive pie and it's one we think we can grow significantly our number of users.
And Microsoft's partnership have the ability to potentially embed some of these models, but you guys have a really strong partnership. So anything to flag around what we should be excited about with the Microsoft partnership?
Yes. I mean it's -- they're our closest partner. And I think what makes a great partnership is a true alignment of interest -- economic interest of the companies. Microsoft wants to be the platform, both on the application side of productivity, but even more so in cloud. And they've always, within their operating system, had products that sort of at least checks the box on, I think earlier I mentioned they had clip art, that was like 20 years ago, or Microsoft Paint. They have Designer, they have PowerPoint. So they have some things that check the box on, from a productivity lens, when people need an image for what they're doing. I don't think that Microsoft is interested in the opportunity in Creative applications software. In part, we bring so much business that's running on an Azure ecosystem that's -- it's -- our product lineup is really synergistic with theirs. And they now use our PDF functionality and signature tools integrated with Edge and Office. And so there's a way in which Microsoft and Adobe really fit together like a puzzle piece to where they're helping us take our products to a huge universe of customers through their cloud. And we're bringing a lot of cloud compute to their platform and ecosystem. So I think we have a great alignment of interests.
Okay. I have a question here about upmarket move and, I guess, you recently acquired Affinity, your view on Affinity as a competitor and really Canva as a competitor in the enterprise?
Yes. I've been saying for years that Adobe's creative business, every single, what we call, flagship app, competes with a number of point solution providers. So if you asked me about video, I could name 3 or 4 video editing solutions that we compete with. If you'd ask me about photo or imaging, there would be a small handful that I would have mentioned and Affinity was one of those. Affinity I view as a downmarket competitor Photoshop that has a loyal base of users that really don't want to have subscription software. So that was -- we've known them for over a decade. They stayed with a shrink wrap software business model and their customers like that. It will be interesting. It will be a real challenge, I think, for Canva if they want to shift Affinity to an ARR type of model and might be opportunity for Adobe. But there's a big market there, and so we'll pay attention.
Okay. How should we be thinking about the Gen AI opportunity on the DX side of the house?
Yes, it's huge. First and foremost, it's huge because Gen AI was one of these the final connective tissues we needed between the Creative and DX business to truly make it this closed loop virtuous cycle that can automate the content supply chain. And deliver to personalization. When you -- today, the modern consumer, that grew up in a digital-first world, when we -- we don't want predatory third-party enterprises that are using our data. But when we do business with an enterprise like my airline, I fly with Delta, they're a huge Adobe user. I love when they text me that my bag just got loaded onto the plane and that it's just about to come to carousel 2. And if it doesn't come, they might send me a free drink voucher. Like the personalization through -- and if I call on the phone, use the web app, mobile app, they get it -- it's all seamlessly interconnected. That's what people want. That's what Adobe is enabling. So personalization, I think, is going to become the North Star for every business. And Gen AI has to be driving for that last millisecond. Because if you have a bunch of different campaign branded assets, but you want to personalize the color of the shirt or the language to you, Derrick, like what sneakers did you buy from us? And we think you like this team or that team. Like Gen AI has to kick in and do that last bit of editing to personalize it to you. And I think ultimately, we believe if every business sort of believes that they have to connect data and content in this way together to personalize in the front office, it's an ERP-sized opportunity. Like if every business is spending $30 million, $40 million a year on just this no-brainer, this is table stakes, the TAM is huge, the TAM is massive for us, and I think it's a big opportunity.
So do you think that will manifest itself with adoption of like Firefly or AI Assistant? Or is it going to be more with GenStudio and custom build?
The -- I mean, the vision I was just sharing is really the -- connecting it all together with GenStudio. So because if you're doing it in this sophisticated way, with the -- like the big early adopters are like IBM or Delta or T-Mobile, you have to have a deep usage across everything you do from an IT perspective with real-time data platform. Adobe is the best one in the world. You're going to have a content hub where all these lives. You're going to have a workflow layer and you're going to have GenStudio that's doing all that content variations and personalization. These are transformative deals, tens of millions of dollars of spend a year. And it really kind of spans the whole platform of what we're offering.
So I mean there's a lot of excitement around GenStudio, both on digital media and digital experience, seeing probably some of the earliest traction of dollars with your Gen AI playbook. Will that like show up both on the -- if we're looking at revenue growth catalysts like on either side of the business, we will see it in both?
Yes. The way I describe it is our revenue accounting team has this great new problem that we wanted them to have for a decade, which is these big transformative deals where they include creative software and services and digital experience software and services. They'll do the work to figure out how much of -- let's say, there's a $10 million ARR deal. They'll go in and say, okay, $3 million of that is creative ARR and $7 million of it is digital experience book of business. Whatever it is, depending on the products and services that are included in that deal. But they span the cloud, which is really exciting because if the enterprises of the world start buying this all as one value proposition, we're the only vendor in the world that offers it. Because our DX competitors are totally different than our Creative competitors today. So that's exciting for Adobe.
And I mean, actually like these deals are like you're seeing them come together this year like -- or is it more of a 2025 event? I mean I think you guys have been pretty bullish about the early traction with GenStudio this year.
It's this year. We were selling some of these deals in a small handful in Q1. They -- again, we tend to say transformative, which is going to mean not only a really big deal size, but the enterprise itself has to transform their operations, how they think about doing this stuff to modernize. And so there's also a lot of -- it's not like huge multiyear deal kind of dynamic, but there's a lot of ramp in the spend from year 1 to 2 to 3. And some of that is what drove Q1 ARR -- sorry, Q1 RPO acceleration for Adobe. So I think we -- our point of view is this is a 2024 -- this is a now moment for this. At the top of the funnel, it's more of a proliferation play. The monetization is going to ease in over time. But in the enterprise, I think the moment is right now.
Wow. Okay. What -- we look back over the last several quarters, last year, you guys had some really big upside to your net new ARR targets. That's kind of softened a bit the last couple of quarters, just as we're seeing all this new excitement around Gen AI. Can you give us some color on kind of what -- was it just pricing last year? Was this had much bigger tailwinds than you thought and now we're lapping that? Anything else you'd flag.
Yes. I would push back on the couple of quarters. I thought Q4 was strong. I think we'd beat our Q4 number by about $50 million. And then the beat was narrower in Q1. And some of that is that I think Q1 was the heaviest of the pricing headwind that we saw. But a lot of times when people ask me that question, what I say is you don't know how the movie is going to play out every quarter. Meaning we take our guide really seriously. We guided a number that we're confident we can deliver. And then you go out and you hustle and you execute. And 2023, we had some orders where the performance was really strong. And I think if there was one key, I would say, it was bringing innovations to market that were so cool that it created these viral moments. And that's when people on Reddit and YouTube were just talking about it, and we were getting all kinds of free traffic. And I think the buzz that we saw was kind of like gaming, where in the gaming world with the online games, a new game comes out, people say this is really cool and everybody tries it. And I think there are a lot more opportunities like that for Adobe here to bring cool things to market, make it available even while it's in beta, and then you start to see that buzz. So I think we need to go out and just keep delivering the innovation and then trust that, that will happen. And I think like I mentioned at the beginning, once we burn off some of the pricing headwinds, I think that the underlying performance will be more apparent.
And there's a big headwind still on Q2 and then that starts to fade?
Yes. Q2 is a very similar dynamic in Q1. And this dynamic was also present in Q4.
Okay. And the topic that AI is going to replace employees or you're going to need fewer creative professionals, I don't get that too often, but it does seem to be surfacing back up. I think you've got some good answers to like it's based on history.
Yes. Market -- when markets create productivity dividends because something gets more productive, this was true in engineering, true of people that write code, R&D, finance professionals. The ROI on that tends to go up. And usually, what economies do in a competitive world is you turn that productivity dividend into competitive differentiation by we now can create way more assets and personalization and drive more sales versus like "Hey, it's really interesting to lay off 20 people and get another $0.01 of EPS." And so that's how we believe that the economy works. We also don't -- we don't agree with sort of what I view as a dystopian view of the future that AI is going to take the creative job. We think creatively is inherently human and people want to bring their vision to life. AI is our tool. It's not going to replace us. I do think -- I think the conversation should be more around nondigital spend moving to digital because I do believe that, that will happen. It's not only because it's cheaper, but it's more sustainable. Like I mentioned, traditional content production requires a lot of powerful lights and boom mic holders and trucks, right? And if that happens and more of this moves to software, Adobe will be a winner. And there may be some other winners too in the software space that we'll pull into our ecosystem. But I think that's where the conversation should be.
The other we always get is around cost, of course. And you guys have been able to pull out all these products with very little incremental CapEx, no impact to gross margin. How is that when you look at like the CapEx that Microsoft is spending. What makes you guys a lot more efficient to roll out and run these models?
Now I'll give you my short answer because I know we're almost at time. I think Adobe is tremendously disciplined, first of all, in what we do. These diffusion models are smaller models that are less training intensive than a large language model, which needs to know what happened in the news yesterday. Like a diffusion model is inherently trained on a smaller set of attributes. We also have such a large-scale presence and spend envelope with AWS and Azure that I think our unit economics are really attractive. But we've done a good job prioritizing and doing it in a profitable way, and we're going to keep aspiring to do that.
Okay. Great hour discussion. Thank you, Jonathan. Thank you, everyone, for the webinar and all the questions. Have a great day.
Thanks, everyone.
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