Summary:
- AbbVie (ABBV.US) owns world’s best selling drug
- The company trades at lower earnings and sales multiples than peers
- Humira patent expiration among key concerns
- Management forecasts significant increase in non-Humira revenue over the next 7 years
- Financial data do not hint at any major underperformance
- Share price halted decline at support zone, trading range narrows
AbbVie was founded as a spin-off of Abbott Laboratories in 2013 and is one of the six US “big pharma” companies. The company stands out among the group because, in spite of its strong drug portfolio, it trades at much lower earnings multiple than the average. In this analysis we will try to determine whether current valuation is justified in the context of AbbVie’s future outlook and its position within the industry.
AbbVie enjoyed growing revenue as well as improving net margin since it was span-off Abbott Laboratories. Note that all of the dips occurred in the fourth quarter of the year therefore it can be rather ascribed to accounting activity rather than operational one. Source: Bloomberg, XTB Research
Abbott Laboratories, the US health care company with over 130 years of history, announced in late-2011 that it will split into two companies - one focused on medical devices and generic drugs and the other focused on research-based pharmaceuticals. The latter company was named AbbVie and span off in early-2013. New entity inherited rights to drugs developed earlier by the research division of Abbott Laboratories, including Humira. Remember the name as the immunology drug is the best selling prescription pharmaceutical in the world with sales close to $20 billion in 2018. Unsurprisingly, it is also the main profit driver for AbbVie - it was responsible for over 60% of company’s revenue in 2018. However, nothing lasts forever, including drug patents. Such a high revenue concentration poses significant risk for the company once the patent expires. It has already begun as Humira patent in Europe expired in late-2018 and substitutes entered market. However, AbbVie took advantage of the loopholes in the US patent system and managed to shield Humira from competition in the country until 2023.
AbbVie is currently to huge extent dependant on Humira sales. However, company’s management forecasts that non-Humira sales will reach $35 billion in 2025 against less than $13 billion in 2018. Source: Bloomberg, XTB Research
Nevertheless, patents will expire eventually in every market and Humira will start to lose market share to cheaper alternatives. It does not mean that once 2023 hits Humira revenues will instantaneous drop to zero but a decline seems inevitable. Having said that, it may be wise to take a closer look at other drugs in company’s portfolio. The company had marketed close to 15 products in 2018. However, only 3 of those generate annual sales of over $1 billion in 2018. In fact, those 3 drugs made up over 80% of AbbVie’s revenue. Nevertheless, both the company and analysts expects new products to enjoy good reception with the number of “billion-dollar” drugs jumping to 5 in 2019. During the latest earnings presentation company’s management said that it expects non-Humira sales to reach $35 billion in 2025 (two years after Humira patent expires). It means that the company expects non-Humira revenue to grow 173% over the next 7 years or 15.4% annually. Quite an impressive pace. Note that $35 billion is a number exceeding AbbVie’s total 2018 sales ($32.75 billion) and as we have said earlier Humira is still likely to generate revenue after patent expires although it will be smaller. Summing up, the outlook does not look as bad as it may seem at first glance.
Selected financial data from AbbVie and its major US rivals. Source: Bloomberg, XTB Research
As the company seems to have products that may make up for the lost Humira revenue in the future depressed valuation in relation to peers may look puzzling. Perhaps financial data could offer us an answer. Selected financial data for the Q1 2019 has been compiled and presented in the table above. As one can see AbbVie has higher and operating margins than peer group average. Net profit margin is below the group's average but Eli Lilly’s margin of 83.3% is clearly an outlier here. Median value may be a more suitable measure and taking a look at it we can see that AbbVie outperformed peer group in the first 3 months of 2019. Story looks similar with return on assets as Eli Lilly is affecting average value significantly and again AbbVie’s RoA is above peer group median. R&D spending can be a source of concern as AbbVie spent relatively smaller portion of revenue on research than its peers in Q1 2019. However, R&D is not perfectly scalable with revenue and below-average R&D spending of Pfizer and Johnson & Johnson (the biggest companies in the table) seems to support this view. Eli Lilly and Bristol-Myers Squibb are 35% and 25% smaller than AbbVie (measured by revenue) and in fact the nominal amount of R&D spending did not vary much between those 3 companies. Solid margins, efficient use of assets and more or less average R&D spending do not seem to justify a significant gap between P/E and P/S of AbbVie and its peers.
AbbVie has been paying and rising dividend each year since it span-off Abbott Laboratories. Dividend to free cash flow ratio of around 0.5 hints at dividend safety. Source: Bloomberg, XTB Research
Last but not least, AbbVie is a dividend paying company. While the company has been operating as an independent entity for just 5 years, no dividend payment was skipped during this time. Moreover, the dividend payout per share was rising each year. Dividend/Free Cash Flow ratio at the end of 2018 sat at around 0.5 so there is a margin of safety that gives the company comfort of rising dividends. All of these factors - solid profitability, safe dividend and low valuation compared to peer group - lead to conclusion that may be appealing to investors with longer investment horizon. Namely, with current valuation AbbVie has a dividend yield of 5.43% while yields of companies we used in the previous paragraph to construct a peer group range from 2.23% (Eli Lilly) to 3.52% (Bristol-Myers Squibb).
Stock price of AbbVie (ABBV.US) has been declining throughout the 2018 and at the beginning of 2019. However, sell-off found bottom at the support zone ranging $76.70-77.70 and for now the price seems to be locked in between the aforementioned zone and the downward sloping trendline. However, as the range is getting narrower a break may come soon. Source: xStation5
