The rising popularity of HTML5 and the declining dominance of Flash will spell tougher times ahead for Creative Suite (CS) Adobe Systems Inc. (NASDAQ:ADBE).
Adobe Creative Suite (CS) is a collection of graphic design, video editing, and web development applications made by Adobe Systems. The collection consists of Adobe's applications (e.g., Photoshop, Acrobat, InDesign), that are based on various technologies (e.g., PostScript, PDF, Flash). The latest version, Adobe Creative Suite 5.5 (CS5.5), was released on April 12, 2011.
We believe the company's flagship offering, Creative Suite, is losing its ability to drive Adobe's business and we don't see much to materially offset this, FBR Capital Markets analyst David Hilal wrote in a note to clients.
The real challenge before CS is the emergence of new standards, specifically HTML5. HTML5 will lessen the relevance of Flash and ultimately of Creative Suite.
We are not calling for the demise of Flash; rather, we think its near monopoly status is going away, and this will adversely affect Creative Suite's competitive positioning, the analyst said.
Growing adoption of HTML5 on the Web lessens the reliance of developers on Flash. It used to be that nearly all interactive graphics and video on the Web were delivered by Flash technology.
As more developers use HTML5, it reduces their need for Adobe's developer tools (Flash Professional, Flash Builder, Flash Catalyst, Dreamweaver). Flash enabled Adobe to expand the addressable market of Creative Suite (CS) from its traditional audience of creative designers to developers.
For instance, the primary reason CS3 was a big success was the inclusion of Flash. While Adobe will still be able to count on the support of its core creative design market, it will likely lose some support from the developer and hybrid creative/developer crowd.
Flash's dominance also gave Adobe a competitive advantage over other design and authoring tools in the market.
While Flash may not have directly generated a material revenue stream, but it was a main reason for the success of CS and therefore indirectly drove the largest piece of Adobe's business.
Analysts expect HTML5 adoption to continue attracting the attention of development tool vendors.
Adobe Not Controls HTML5
Adobe has realized the inevitability of HTML5 and has embraced the technology by building it into CS and adding HLS support in the next version of Flash Media Server.
The problem Adobe faces is that it does not control HTML5.
HTML5 levels the playing field among tool vendors. Since Flash was proprietary to Adobe, it was in the best position to provide the tools for it.
So the logical question is if Flash becomes less relevant, can Adobe offset this by still providing the tool of choice for Web design and authoring? If Adobe can adapt and still provide the best product, why can't it maintain its dominant position?
So while Adobe will still be a major player in providing Web design and authoring tools, we believe its competitive position is diminishing, Hilal said.
What is Hurting CS5.5?
Apart from emergence of HTML5, CS is suffering from the law of diminishing returns, whereby there is less reason to upgrade with each successive release.
FBR survey suggests that demand for CS5.5 is lukewarm as 37 percent of respondents said they have already upgraded or have plans to upgrade, but roughly the same amount (34 percent) said they do not plan to upgrade to CS5.5.
The demand for CS5.5 appears to be frontend loaded as 12 percent of respondents have already upgraded and another 12 percent of respondents plan to upgrade in the next three months. However, demand drops off afterwards with just 6 percent, 4 percent, and 3 percent planning to upgrade to CS5.5 in the following three month periods.
Front-end-loaded CS5.5 adoption may bode well for Adobe's May quarter. It is fairly normal to see these product cycles strong out of the gate, but the sustainability is what matters, as we saw with CS5, which started strong but then fizzled out. We believe CS5.5 could travel a similar path, Hilal wrote.
Hilal added that a well-penetrated market, the rising popularity of HTML5, and the declining dominance of Flash could challenge unit sales growth of CS5.5.
Based on the results of its survey, FBR estimate CS5.5 can generate revenues in the range of $1.73 billion to $2.50 billion during its one-year product cycle
Also, the survey indicated little interest among respondents in the subscription pricing plan Adobe introduced with the release of CS5.5. Only 7 percent of respondents said they were interested in subscription pricing with 72 percent saying they had little to no interest.
The analyst has an underperform rating and price target of $28 on Adobe stock.