Updated on February 22nd, 2019 by Bob Ciura
The Dividend Aristocrats are a group of 57 companies in the S&P 500 Index, with 25+ consecutive years of dividend increases.
We review each of the 57 Dividend Aristocrats every year. The next stock to be reviewed in this year’s edition is AbbVie (ABBV).
AbbVie is coming off a multi-year period of excellent growth, thanks to the massive success of its flagship product Humira. There are questions regarding the company’s future growth due to increasing competition to Humira in the U.S. and Europe, but the company has a plan to continue its impressive growth.
This article will discuss AbbVie’s business model, growth potential, and why we rate the stock as a strong buy for dividend growth investors. Before reading this article, you may want to review AbbVie’s fundamentals, which are charted below:
AbbVie is a global pharmaceutical giant. It has a $119 billion market capitalization, and sells its products in more than 170 countries across the world. AbbVie began trading as an independent company in 2013, after it was spun off from fellow pharmaceutical Dividend Aristocrat, Abbott Laboratories (ABT).
Today, AbbVie focuses on one main business segment—pharmaceuticals. It focuses on a few key treatment areas, including immunology, oncology, and women’s health.
The company has seen excellent growth since it was spun off from Abbott. AbbVie now generates annual revenue of nearly $33 billion.
Source: Investor Presentation
Since the spin-off from Abbott, AbbVie has produced 12% annual revenue growth and over 20% annual earnings growth. Humira has been the major reason for AbbVie’s huge growth. Humira is a multi-purpose drug, and is the top-selling drug in the world.
AbbVie reported its fourth quarter and full year earnings results in late January (1/25/19). The company was able to generate revenues of $8.3 billion during the fourth quarter, which was 7.4% more than AbbVie’s revenues during the fourth quarter of fiscal 2017.
AbbVie’s revenue growth was primarily driven by strong growth from Imbruvica, which grossed sales of $1.0 billion, which was 42% more than the drug’s sales during the previous year’s quarter.
Humira remained the world’s best-selling drug, and AbbVie’s most important drug by far, but its growth rate slowed down to just 0.5%. Humira seems to be in a slow-to-no growth stage, but the drug will remain AbbVie’s most important cash cow over the coming years.
AbbVie earned $1.90 per share during the fourth quarter, which was 28% more than the company’s earnings-per-share during the fourth quarter of the previous year.
Both AbbVie’s revenues as well as its earnings-per-share were slightly lower than what the analyst community forecasted, which led to a 6% share price decline on the day of the earnings release. AbbVie generated earnings-per-share of $7.91 during fiscal 2018, which was 41% more than AbbVie’s earnings-per-share during fiscal 2017.
Along with the fourth quarter earnings release, AbbVie management announced that the company sees earnings-per-share falling into a range of $8.65 to $8.75 during fiscal 2019.
The major risk for global pharmaceutical manufacturers is patent loss. When a particular drug loses patent, the market is typically flooded with competition, especially for the world’s top-selling products. Investors can see what happened to Pfizer (PFE) after Lipitor lost patent protection as an example of the impact of patent risk.
For AbbVie, its biggest risk is the competition about to hit its flagship drug Humira, a multi-purpose drug that is used to treat a variety of conditions. Some of these include rheumatoid arthritis, plaque psoriasis, Crohn’s disease, ulcerative colitis, and more.
Humira generated over $19 billion in sales last year for AbbVie, meaning loss of exclusivity poses a significant risk for the company going forward.
Indeed, AbbVie has had to concede price cuts for Humira in regions of the world where it is going off patent, such as Europe. On last quarter’s conference call with analysts, AbbVie CEO Rick Gonzalez acknowledged that discounting in Europe has been “on the higher end” of what the company had expected, with Humira prices being slashed from 10%-80% depending on the country.
In addition, AbbVie will face biosimilar competition to Humira in the U.S. starting in 2023. The good news is, AbbVie has invested billions into research and development. As a result, the company has a large portfolio of new products that should offset any sales declines from the competitive threats to Humira.
Its two biggest areas of growth going forward will be hematologic oncology, and next-generation immunology. AbbVie’s oncology business is currently a $4 billion-a-year franchise, with potential to reach $9 billion in sales by 2025.
Meanwhile, AbbVie expects its immunology portfolio to generate sales of over $10 billion by 2025.
Source: Investor Presentation
AbbVie has reached six settlements related to Humira competitors. All licenses agreed to thus far will begin in 2023, led by Amgen (AMGN) in January that year. Fortunately, AbbVie has prepared for this increasing competition to Humira, by investing heavily in new product development.
This investment is about to pay off—sales from products other than Humira cumulatively totaled nearly $10 billion last year. The company expects to launch 20 new products or indications by 2020. AbbVie expects non-Humira product sales to exceed $16 billion by 2020, and $35 billion by 2025.
Share buybacks will also add to AbbVie’s future earnings growth. Since the company is highly profitable and generates significant free cash flow, it can afford to invest in growth and also return cash to shareholders. On December 13th AbbVie announced a new $5 billion share repurchase authorization.
Continued buybacks help boost earnings. As shares are repurchased and retired, each remaining share receives a higher percentage of the company’s profits, thus increasing earnings-per-share.
Combined, these growth catalysts are expected to result in 9%-10% adjusted earnings growth each year over the next five years.
Competitive Advantages & Recession Performance
The most important competitive advantage for AbbVie, and any pharmaceutical company, is its patent portfolio. Pharmaceutical giants need to spend heavily to innovate new drugs and therapies, when one of their blockbusters loses patent protection.
To build its pipeline and to prepare for the decline of Humira, AbbVie has accelerated research and development spending. AbbVie spent nearly $5 billion on R&D last year alone.
Fortunately, this spending is starting to show positive results, as AbbVie has a robust pipeline.
Source: Strategic Update
It is unclear how AbbVie itself performed during the Great Recession, as it was still part of Abbott Laboratories. However, it stands to reason the company would hold up fairly well during the next recession.
Prescription drugs and medical supplies are necessities, with stable demand. Consumers often cannot choose to go without healthcare, even when the economy is in a downturn. As a result, investors can reasonably assume AbbVie’s profits would experience a modest decline during a recession.
Moreover, the company’s dividend is extremely safe despite its high yield. We examine AbbVie’s dividend safety in the following video:
Valuation & Expected Returns
AbbVie is expected to generate adjusted EPS of $8.70 for 2019. At the midpoint of AbbVie’s earnings guidance, the stock is currently trading for a price-to-earnings ratio of 9.2.
AbbVie is valued considerably below the S&P 500 Index, which has an average price-to-earnings ratio well above 20. In addition, AbbVie is undervalued today when compared to its historical average.
Since the spin-off from Abbott, AbbVie has held an average price-to-earnings ratio of 13.8.
It could be argued AbbVie deserves a significantly higher valuation than it currently holds, given its high-quality business and strong growth prospects. Even with the competition facing Humira, AbbVie stock looks undervalued, as the company can still generate growth from its new product portfolio.
As a result, we view AbbVie stock as considerably undervalued. If the P/E ratio expands to our fair value estimate of 13.0, it would increase annual shareholder returns by approximately 7.2%.
In addition, shareholder returns will be boosted by earnings growth and dividends. We expect AbbVie to generate 9%-10% annual EPS growth over the next five years, consisting mostly of revenue growth and share repurchases.
Lastly, AbbVie stock offers a current dividend yield of 5.4%. This is a very high yield, at more than double the average dividend yield of the S&P 500 Index.
In all, AbbVie’s total expected returns could exceed 22% per year through 2024. This is a very attractive potential rate of return, which makes AbbVie one of our highest-conviction buy recommendations.
AbbVie is a very high-quality business, with a strong pharmaceutical pipeline and growth potential. It is also a shareholder-friendly company that returns excess cash flow to investors through stock buybacks and dividends.
AbbVie, as with all pharmaceutical companies, faces a significant challenge in replacing lost Humira sales as it faces competition in the U.S. and Europe. Fortunately, the company has prepared for this with heavy R&D investments. From this, it has created a large portfolio of new products that should keep AbbVie’s growth intact.
With expected returns above 22% per year going forward, AbbVie is an excellent buy for long-term value and income investors.