Shares of pharmaceutical companies often trade based upon prospects for growth in future years. If the market feels that current products and the product pipeline are likely to perform well, then shares tend to go higher. However, if top-selling drugs are set to lose patent protection, or if the pipeline doesn’t offer much hope for future growth, then the stock is likely to drop.
AbbVie Inc.’s (ABBV, Financial) Humira has been one of the best-selling drugs in the world over the past few years, but the product has lost patent protection in international markets already. Humira will lose patent protection in the U.S. starting in 2023. This weighed on the stock for most of 2019. Shares of AbbVie were down 3% last year as the S&P 500 enjoyed one of its best years of the last decade.
While the loss of patent protection for Humira is a headwind, AbbVie has some interesting products in its pipeline that should help compensate for what will be a sharp decline in revenue in the coming years. The stock also offers a compelling dividend yield and extremely low valuation. This is why I bought more shares of AbbVie at $88.91 on Feb. 4. Let’s take a closer look as to why I decided to add to my position.
Recent earnings results and growth prospects
AbbVie recently reported fourth-quarter and full-year results for 2019. The company earned $2.21 per share for the quarter, beating estimates by 2 cents and improving 16.3% from the previous year. Revenue increased 4.8% to $8.7 billion. For full-year 2019, earnings per share increased 13% to $8.94 while revenue improved 1.6% to $33.3 billion
Sales for Humira totaled $4.9 billion for the quarter, in-line with the fourth quarter of 2018 but above estimates of $4.85 billion. U.S. sales grew 9.8% to just under $4 billion in the quarter. Net revenues for the year increased 8.6% to $14.9 billion, even as international revenues were down 31%.
AbbVie had strength in other areas as well. For example, Imbruvica improved 30% to $1.3 billion. Revenue for Imbruvica is shared with Johnson & Johnson (JNJ, Financial) through AbbVie’s 2015 acquisition of Pharamcyclics. Imbruvica is used to treat chronic lymphocytic leukemia. This form of the disease accounts for nearly 40% of all cases of leukemia.
Beyond these two drugs are several newer products that have recently launched. While none offers a significant contribution to results at the moment, all have the potential to help offset the loss of Humira.:
- Orilssa, which is used by women to treat pain related to endometriosis, added $34 million to sales in the fourth quarter.
- Rinvoq, which is approved to treat adults with moderate and severe rheumatoid arthritis, had sales of $33 million. Rinvoq has only been on the market in the U.S. since September 2019 and isn’t available in international markets yet.
- Skyrizi, which is used to treat psoriasis, added $216 million to sales. Skyrizi launched in May of 2019.
- Venclexta, which is used to treat patients with relapsed leukemia, had revenue of $251 million in the fourth quarter, which was an increase of 76% in the U.S. and more than 100% in international markets.
These four newer products combined to contribute $1.3 billion to sales in 2019, representing less than 9% of total sales. While not a minuscule amount, this isn’t a game changer for the company. However, that appears likely to change as AbbVie expects that these products will account for $3.2 billion in 2020, a nearly 150% increase from 2019. What investors should know is that these products are likely to see significant ramp ups in revenue in the coming years.
Orilssa is expected to reach peak sales of $2 billion by 2025. Peak sales of Rinvoq are seen as crossing over $6.5 billion, while Skyrizi will likely top expectations of $5 billion in annual sales. Venclexta could add another $3 billion to annual results. Even Imbruvica is estimated to reach $7 billion in annual sales.
The reason that these drugs are seen as so promising is that they can be used for multiple indications. For example, it was announced during the quarter that Skyrizi topped Novartis’ (NVS, Financial) Cosentyx in a head-to-head phase three study for patients with moderate to severe plaque psoriasis. Patients who were prescribed Skyrizi saw substantial improvement in skin clearance at multiple time intervals. This could mean that doctors might now consider prescribing Skyrizi instead of Cosentyx to patients with this affliction. This would help Skyrizi take market share from a rival.
This is but one example. AbbVie has a massive pipeline of products in various stages.
Source: AbbVie’s Pipeline Update, slide 2.
While not all of these trials will turn out in the company’s favor, AbbVie is clearly more than just about Humira these days. The company estimates that it can earn $35 billion from sources other than its flagship product by 2025.
Even when accounting for the sharing of revenues for Imbruvica with Johnson & Johnson, these products alone could earn more than Humira earned last year by itself. While nothing is guaranteed, the performance of the recently released drugs in the short term has been quite encouraging and analysts haven’t lowered their estimates for any of these products.
And that’s before you add in AbbVie’s $63 billion acquisition of Allergan (AGN). Pro-forma sales for the combined companies would be around $50 billion. This would make the combined company one of the largest health care companies in the world in terms of total sales.
The deal is expected to close by the end of the first quarter of 2020. Following the acquisition, AbbVie has stated that Allergan will be 10% accretive to adjusted earnings per share by the one-year mark and could reach 20% soon after.
AbbVie expects adjusted earnings of $9.61 to $9.71 per share for 2020, which would be an 8% increase from the previous year
The performance of Humira was welcomed in the most recent quarter, even as international sales will likely continue to decline due to biosimilar competition. More importantly for the future of the company, AbbVie has a number of recently released products that are expected to help offset the future declines of Humira.
To me, this removes some of the concerns regarding owning shares of AbbVie. What should also be enticing to investors is the stock’s yield and valuation.
Dividend and valuation analysis
AbbVie has increased its dividend every year since it was spun off from Abbott Laboratories (ABT) in 2013. After increasing its dividend 10.3% for the upcoming payment on Feb. 13, the company now has eight consecutive years of dividend growth. Including when AbbVie was part of Abbott Laboratories, that growth streak reaches to nearly five decades.
AbbVie has increased its dividend with a compound annual growth rate of:
- 9.5% over the past three years.
- 15.7% over the past five years.
- 24.8% over the past eight years.
The growth rate is definitely slowing, but the most recent increase of more than 10% confirms my belief that AbbVie is fairly confident about its future growth prospects. Also, the annualized dividend of $4.72 gives the stock a 5.3% yield at our purchase price. There are few companies growing dividends at a 10% annual clip while paying out an over 5% dividend yield.
Even better, the current payout ratio shows that AbbVie has plenty of room to continue growing its dividend. Using the current annualized dividend and the midpoint for expected earnings per share for 2020, the payout ratio is 49%. This is just slightly above the five-year average earnings payout ratio of 47%.
AbbVie hasn’t released figures for 2019, but the company distributed $6.2 billion in dividends over the previous 12 months while generating free cash flow of $12.9 billion. This gives the company a free cash flow payout ratio of 48%.
Using either earnings or free cash flow, AbbVie’s dividend payout ratio is in a very safe range. This should continue due to the growth expected for the company’s new products. Adding Allergan and its $6.7 billion of free cash flow over the last four quarters will only enhance AbbVie’s cash generation.
Using our purchase price of $88.91 and earnings per share estimates for the year, AbbVie’s stock had a trailing price-earnings ratio of 9.9. Using earnings estimates for 2020 of $9.66 per share, the forward price-earnings ratio is 9.2. Both valuations are well below the price-earnings ratio of 25.2 for the S&P 500.
For a more apples-to-apples comparison, let's compare forward price-earnings ratios for a number of AbbVie’s competitors:
- Amgen (AMGN, Financial): 14.9
- Bristol-Myers (BMY, Financial): 11.0
- Johnson & Johnson: 16.8
- Merck (MRK, Financial): 15.0
- Novartis: 17.1
- Pfizer (PFE, Financial): 13.0
Shares of AbbVie are attractively priced compared to a wide variety of competing companies in the pharmaceutical sector.
With AbbVie’s potential from a variety of products, the stock should deserve a valuation more in-line with peers. I have a target price-earnings ratio of 12 to 14 on the stock. Using earnings per share estimates for 2020, this equates to a price range of $116 to $135, which would be a 30% to 52% improvement from my purchase price.
Final thoughts
Many investors continue to associate AbbVie with Humira. This is not surprising as Humira was one of the best-selling pharmaceuticals over the past several years. Humira has patent protection in the U.S. for a few more years, but biosimilars are already causing international sales to decline.
Despite this, I feel that investors should consider the company’s other drugs, particularly its newer drugs that are just now seeing higher growth rates. There isn’t one drug that will replace revenues for Humira, but the potential for the entire pipeline is there.
AbbVie also offers a high yield that is well covered and continues to grow. Shares also trade at a discount to peers, though I imagine that will change as the company’s drugs produce better results and the market takes place. For these reasons, I was more than happy to increase the size of my position.
What are your thoughts on AbbVie? Is there a health care name you prefer? Feel free to leave a comment below.
Disclosure: Author is long AbbVie, Amgen, Johnson & Johnson and Pfizer.
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