Updated on June 26th, 2019 by Bob Ciura
Volatility has returned to the stock market, and while the S&P 500 Index is up 16% year-to-date, not all stocks are performing well this year.
For example, health care giant AbbVie Inc. (ABBV) has seen its share price decline by 26% so far in 2019. It has under-performed the broader market index by a wide margin to start the year.
AbbVie stock came under even more pressure when the company announced the massive $63 billion acquisition of Allergan plc (AGN), falling ~15% on the day of the announcement.
Still, AbbVie remains a high-quality dividend growth stock. AbbVie is on the list of Dividend Aristocrats, a select group of 57 stocks in the S&P 500 Index, with 25+ years of consecutive dividend increases each year.
They are the ‘best of the best’ dividend growth stocks. The Dividend Aristocrats have a long history of outperforming the market.
The requirements to be a Dividend Aristocrat are:
- Be in the S&P 500
- Have 25+ consecutive years of dividend increases
- Meet certain minimum size & liquidity requirements
You can download an Excel spreadsheet of all 57 (with metrics that matter) by clicking the link below:
AbbVie is a Dividend Aristocrat, as it has raised its dividend for over 40 years in a row going back to its days as a subsidiary of Abbott Laboratories (ABT).
AbbVie’s significant underperformance likely has investors frustrated, but the long-term outlook remains extremely positive. AbbVie already had a strong pipeline, and added even more to its growth catalysts with the Allergan deal.
The significant decline in AbbVie’s share price has lowered its stock valuation to a very attractive level, and also pushed the dividend yield above 6%, making it one of the most attractive high-yield dividend stocks in our entire database and a buy for June 2019.
AbbVie is a pharmaceutical company focused on Immunology, Oncology, and Virology. AbbVie was spun off by Abbott Laboratories in 2013. Today, AbbVie generates annual revenue in excess of $32 billion and the stock trades with a market capitalization of ~$100 billion. AbbVie has ~30,000 employees. The company treats over 30 million patients in more than 175 countries each year. AbbVie’s products address over 30 conditions across infant, adolescent, adult, and senior stages of life.
The reason for the spin-off was that Abbott wanted AbbVie to have its own dedicated management team and ability to focus entirely on its own strategic initiatives. Abbott is a diversified conglomerate of pharmaceutical, medical devices, and consumer health care products, while AbbVie is a pharmaceutical pure-play.
The decision has certainly paid off for investors, as AbbVie has generated massive growth since it became an independent company.
Source: Earnings Presentation
AbbVie’s most important product by far is Humira, which by itself represents ~60% of the company’s annual revenue. Humira is a multi-purpose pharmaceutical product, and is the top-selling drug in the world. While this was once a huge advantage, as Humira fueled AbbVie’s amazing growth in recent years, it is risky for a pharmaceutical company to be too dependent on one individual product.
This is especially true if that particular product faces patent risk. Humira is now facing biosimilar competition in Europe, which has had a noticeable impact on the company. AbbVie has noted that discounting in various countries in Europe has been higher than it initially anticipated, but it must take this step to preserve market share. Still, biosimilar competition in Europe has weighed on AbbVie in recent periods.
In late April, AbbVie reported (4/25/19) its 2019 first-quarter earnings results. Revenue of $7.8 billion increased 0.4% on an operational basis (excluding currency). Humira dragged AbbVie down last quarter, with a 5.6% overall sales decline. Sales of Humira in the international markets declined 23% on an operational basis last quarter, which reflects the impact of biosimilar competition abroad. Domestic growth helped offset this, as U.S. sales of Humira increased 7.1% last quarter. However, Humira will face biosimilar competition in the U.S. in 2023, which is why AbbVie investors remain concerned.
Fortunately, AbbVie’s revenues were positively impacted by strong growth from other products last quarter. Imbruvica grossed sales of $1.02 billion, up 34% from the same quarter last year. In all, AbbVie’s hematologic oncology portfolio grew revenue by 43% last quarter. This helped AbbVie grow its adjusted earnings-per-share by 14% for the quarter, to $2.14. It is highly impressive that AbbVie has managed to continue growing adjusted EPS at such a high rate, particularly with such steep international sales declines.
AbbVie’s organic growth will be supplemented by the recent acquisition of Allergan, a hugely transformative move.
AbbVie has a long runway of growth up ahead, and the Allergan acquisition is a major step in that direction.
Under the terms of the deal, Allergan shareholders will receive 0.8660 AbbVie shares as well as $120.30 in cash for each Allergan share. The total value of the acquisition was approximately $188.24 per Allergan share, a ~45% premium to Allergan’s closing stock price on 6/24/19. In total, the equity value of the deal is approximately $63 billion.
Allergan has a large product portfolio of its own, including its most well-known product Botox.
Source: Investor Presentation
The acquisition accomplishes a number of strategic goals for AbbVie, such as broadening and diversifying its product offerings by adding exposure to new segments. It also enhances AbbVie’s position in multiple existing categories. The deal instantly makes AbbVie a global powerhouse. The combined company will have annual revenues of nearly $50 billion, based on 2018 results.
Source: Investor Presentation
Profit growth will also follow, as AbbVie expects the transaction to be 10% accretive to adjusted earnings-per-share over the first full year following the close of the transaction, with peak accretion of greater than 20%. Moreover, AbbVie expects the return on invested capital of the transaction to exceed AbbVie’s cost of capital within the first full year.
There is also the potential for significant cost synergies, as is often the case with mergers of two large and similar businesses. AbbVie anticipates that the acquisition will provide annual pre-tax synergies and other cost reductions of at least $2 billion by the third year. Synergies will be procured primarily in reducing overlapping R&D, efficiencies in selling, general, and administrative costs, and eliminating redundancies in manufacturing.
Investors should note AbbVie will be more leveraged following the transaction, as a portion of the cash component of the offer will be funded with new debt. AbbVie had $36.6 billion of total debt at the time of its most recent quarterly earnings release.
Fortunately, the company is committed to a Baa2/BBB or better credit rating. AbbVie also issued a new debt reduction target of $15 billion to $18 billion by 2021. Because of this, we do not believe that AbbVie’s debt will rise to troublesome levels following the acquisition of Allergan.
Judging by the 15% decline in AbbVie stock after announcing the merger, investors appear to be concerned over the company’s future growth. However, the Allergan acquisition accelerates AbbVie’s growth profile, which was already impressive before the takeover announcement. AbbVie had prepared for Humira’s loss of exclusivity by investing billions into its research and development.
AbbVie has a massive global R&D platform, consisting of 14 primary R&D facilities and eight manufacturing facilities around the world. AbbVie’s research and development expense totaled $10.4 billion in 2018, more than double the level from the previous year. Even after excluding a $5.1 billion intangible asset impairment charge related to acquired in-process R&D as part of the 2016 Stemcentrx acquisition, the company still allocated over $5 billion to R&D last year alone.
The result of this investment, in combination with the Allergan acquisition, is that AbbVie has built a large pipeline with many potential blockbusters in the coming years.
Source: Investor Presentation
AbbVie’s future growth platform consists of Immunology, Hematologic Oncology, Medical Aesthetics, HCV, Eye Care, and more. Growth in these areas will greatly help offset any losses from biosimilar competition to Humira. Plus, Humira is expected to remain the market leader in the U.S. for the next few years, while AbbVie is working on new and improved drugs that target the same indications as Humira. Two of these drugs, called upa and risa, will likely come to the market in 2019 for their first indications.
AbbVie’s late-stage pipeline continues to deliver for investors. Last quarter, AbbVie received regulatory approval in the U.S. and Japan for Skyrizi. It expects to receive approval in Europe in the near future. AbbVie has high expectations for Skyrizi—it believes the plaque psoriasis medication has potential to be a multi-billion product by annual sales. Skyrizi represents the 12th new product or major indication approval for AbbVie in the last five years.
It also received Breakthrough Therapy Designation and Priority Review from the FDA for Venclexta in Front Line chronic lymphocytic leukemia. Venclexta has already shown great promise, as sales more than doubled last quarter to $151 million. AbbVie has a balanced portfolio of next-generation products that will lead it into the future.
The Allergan acquisition provides a huge boost to AbbVie’s growth. While the market reacted negatively to the announcement, we continue to view AbbVie stock favorably. If anything, the steep drop has made an undervalued stock even more attractive.
Valuation & Expected Returns
The three pillars of expected future returns are earnings growth, changes in the stock valuation multiple, and dividends. AbbVie is an attractive stock on the basis of all three, which is why it is such a unique investment opportunity today.
First, as mentioned previously AbbVie has a long runway of growth up ahead, thanks in large part to its innovation and R&D. As a result of its well-stocked pipeline, we believe the company can reasonably grow EPS by 9% to 10% per year through 2024.
In addition, we believe AbbVie stock is considerably undervalued, given its strong business model and future growth potential.
AbbVie stated in today’s press release that it expects “immediate” 10% accretion to earnings-per-share. We can use this information to see what is likely to happen to AbbVie’s earnings-per-share following the acquisition’s close.
When AbbVie reported first quarter earnings on April 25th, the company updated its 2019 financial guidance to adjusted earnings-per-share of $8.73 to $8.83.
The company expects adjusted earnings-per-share of $8.78 at the midpoint of guidance, and currently has 1.483 billion diluted shares outstanding, which implies company-wide net income of $13.0 billion in the full fiscal year.
Next, let’s determine Allergan’s contribution to net income. In Allergan’s first quarter earnings release, the company revised its 2019 financial guidance, which now calls for adjusted earnings-per-share of $16.55 and an average 2019 share count of 332.0 million. This implies company-wide adjusted net income of $5.5 billion.
The combined company should be capable of generated $18.5 billion of adjusted net income (AbbVie’s $13.0 billion plus Allergan’s $5.5 billion) in the current fiscal year. AbbVie is issuing 0.8660 AbbVie shares per Allergan share and there are approximately 332 million Allergan shares outstanding, so the merger will create 294 million new AbbVie shares. AbbVie had 1.483 billion diluted shares outstanding at the time of its latest earnings release, so the new share count would be 1.777 billion.
Dividing the pro-forma company’s adjusted net income of $18.5 billion by its estimated share count of 1.777 billion, reveals adjusted earnings-per-share of $10.41.
Since this is significantly higher than AbbVie’s 2019 financial guidance of $8.78 in adjusted earnings-per-share and does not account for any synergies, we believe that the merger will indeed be accretive for AbbVie, especially if the company can achieve its target $2 billion in synergies post-merger.
AbbVie was already an undervalued stock, before the acquisition. Based on expected earnings-per-share of ~$8.78 for 2019, AbbVie stock trades for a price-to-earnings ratio of 7.8x. This is a very low valuation multiple, especially for a highly profitable and growing company like AbbVie. We believe AbbVie deserves a P/E ratio of at least 13x, which represents our fair value estimate for the stock. Even though a P/E of 13x is still a fairly modest valuation, it indicates the stock is significantly undervalued. An expanding P/E multiple to our fair value estimate of 13x would boost shareholder returns by approximately 10.8% per year over the next five years.
Lastly, the stock has a current dividend yield of 6.3%, a very high yield resulting from both a declining share price and the company’s high rate of dividend growth. AbbVie is a Dividend Aristocrat, and has a highly impressive track record of dividend increases. We believe AbbVie’s dividend is highly secure, as discussed in greater detail in the video below.
Since the spin-off from Abbot Laboratories, AbbVie has cumulatively increased its shareholder dividend by 168%. We believe AbbVie’s dividend is secure.
The combination of future EPS growth, expansion of the P/E ratio, and dividends results in expected returns above 26% per year over the next five years, making AbbVie one of our highest-ranked dividend stocks in terms of expected returns.
AbbVie stock fell heavily on the news of its intention to acquire Allergan, continuing what was already a difficult environment for the stock to start 2019. Investors were already concerned about the future of the company once Humira loses exclusivity in the United States. It seems that the 15% drop after announcing the Allergan deal did not alleviate the market’s fears.
However, we continue to recommend AbbVie stock to value, growth, and income investors as the stock offers a unique mix of all three qualities. The company has invested heavily in R&D, which is now paying off in the form of a deep roster of potential blockbuster drugs. AbbVie’s strong pipeline is an attractive growth catalyst over the next several years. Adding Allergan’s pipeline to its own creates a global health care giant with a leadership position across multiple categories.
In the meantime, investors have a unique opportunity to purchase shares of this high-quality company at a very attractive valuation. And, AbbVie pays investors well to be patient, with a high dividend yield above 6%. We reiterate our view that AbbVie is a stock to buy in June 2019.