Adobe's Next Earnings Report on Sept. 10 Could Send the Stock Plunging. Here's Why.

Noted software company Adobe (NASDAQ:ADBE), maker of creative software tools such as Photoshop, Illustrator, and Premiere Pro, faces a critical week as it prepares its third-quarter earnings report after the market closes Sept. 10.

Adobe is at a crossroads as artificial intelligence reshapes the landscape of its business. Will AI's threat to traditional creative tools continue to weigh on the stock, or can Adobe make up some of the ground with its Firefly generative AI tools?

After a roller-coaster start to the year, Adobe stock is down 26% heading into earnings. Here's what investors should be looking for when Adobe steps up to the podium.

Image source: Getty Images.

About Adobe stock

Adobe, which is based in San Jose, California, is a leading software company that derives much of its revenue from subscriptions to its flagship Creative Cloud ecosystem. The company's digital media business works with small businesses to create content for smartphones, e-readers, and other devices, and its target customers have been content creators, web designers, and digital media professionals.

The challenge for Adobe has been the rise of artificial intelligence, particularly generative AI tools. Before AI, a graphic designer would use Adobe's powerful media tools to change the background of an image, remove or add content, or otherwise manipulate the image. But generative AI has changed the landscape -- now anyone can enter a detailed prompt into one of many powerful AI engines to alter images or create entirely new content.

Warning flags for Adobe stock began flashing in early 2024, when the company issued weaker-than-expected guidance for the second quarter. The stock fell 11% in a single day, and investors began questioning if generative AI tools, such as OpenAI's Sora, would compete with and eventually surpass Adobe's software.

Meanwhile, companies such as Figma and Canva are threatening to cut into Adobe's market share. Canva now has more than 260 million users, and is particularly popular in classrooms. Figma has an estimated 13 million users, most of whom are outside the U.S.

Adobe's solution is Firefly

One of the best ways to combat an AI product is to develop your own, and that's what Adobe has done with Firefly -- a generative AI model that allows users to create graphics, images, and text effects from written prompts. Adobe incorporated Firefly into its Creative Cloud apps, such as Illustrator and Photoshop.

But the stock continued to fall as analysts criticized the company for focusing too heavily on Firefly adoption rather than generating meaningful revenue from the product.

ADBE data by YCharts

Time may prove that Adobe had the right strategy, however. The company reported AI-first annualized recurring revenue (ARR) of $500 million in the second quarter, tripling year over year. "We believe now is the time to aggressively acquire the next generation of Adobe loyalists," CEO Shantanu Narayen told analysts in June.

Overall, Adobe reported revenue of $6.62 billion in the second quarter, up 13%, and total ARR of $27.10 billion, including about $480 from the company's recent acquisition of Semrush. Diluted earnings per share were $4.25 on a GAAP basis.

What should investors look for in Adobe's earnings on Sept. 10?

Adobe is walking a narrow line. Analysts want to see greater monetization from AI, but management knows it needs to offer a freemium product to entice new users to try its platform rather than using Claude, OpenAI, Grok, or another service.

"The proliferation of media generation models is reshaping and democratizing content workflows from ideation through delivery," Narayen said. "AI-first applications that will serve broader audiences need to provide free, intuitive onboarding that drives usage and monetization through paywalls. Big picture, the immediate opportunity for Adobe is to accelerate new user acquisition and lifetime value through a freemium offering."

A successful quarter means threading the needle: Adobe shows substantial growth in its AI business while also increasing engagement through its freemium products. And it needs to do so while undergoing a major C-suite transition -- Narayen announced in March that he would step down this year, and Anil Chakravarthy, president of Adobe's customer experience orchestration business, will become CEO on Dec. 1 as Narayen becomes executive chair. Adobe is also looking for a new chief financial officer, as Dan Durn moved to Marvell Technology in June.

While I believe in Adobe's strategy, today's stock market is very much driven by a "show-me" mentality that rewards results over long-term planning and potential. For that reason, I'm expecting Adobe stock to slip after its earnings report on Sept. 10.

Patrick Sanders has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Adobe, Figma, and Marvell Technology. The Motley Fool recommends the following options: long January 2028 $330 calls on Adobe and short January 2028 $340 calls on Adobe. The Motley Fool has a disclosure policy.