AbbVie Inc. (ABBV, Financial) is one of the largest biotechnology companies in the world. The immunology-focused company with a vast pipeline offers steady earnings growth, an above-average dividend yield and shares are trading at an inexpensive valuation.
The company offers marijuana-based drugs for some indications, and could possibly widen its presence in this segment if the opportunity arises. Thus, AbbVie gives investors some exposure to the fast-growing medical marijuana industry, while at the same time looks like a low-risk investment.
Company overview
AbbVie was created through a spinoff of Abbott Laboratories (ABT, Financial) in 2013. The company is headquartered in Illinois and is currently trading with a market capitalization of $135 billion.
The company reported its most recent quarterly results on Nov. 2. It was able to generate revenues of $8.2 billion during the third quarter, which represents an increase of 17.7% compared to the prior-year quarter. This revenue growth was possible thanks to a strong performance of its two biggest drugs, Humira (which generated sales of $5.1 billion, growing 9% year-over-year) and Imbruvica (which generated revenues of $970 million, growing 41% year-over-year). Smaller drugs in AbbVie’s portfolio generated solid growth rates as well.
AbbVie generated earnings of $2.14 per share during the third quarter, which was 52% more than it generated during the third quarter of 2017. Operating leverage, due to relatively low variable costs, allows AbbVie to grow its profits at a much faster rate than its revenues. AbbVie guided for earnings per share of $7.90 to $7.92 during fiscal 2018, which implies a very attractive earnings per share growth rate of 42% during the current fiscal year.
Growth prospects
AbbVie’s drug portfolio, as well as its research and development efforts, are focused on immunology and oncology. Its biggest drug, Humira, which is also the world’s best-selling drug overall, targets indications such as rheumatoid arthritis and ulcerative colitis. Through a rising patient count and price increases, the revenues generated by Humira should continue to grow for the next couple of quarters, but in the early 2020s its U.S. patents will expire, which means the drug’s revenues will have to be replaced.
AbbVie has developed two new drug candidates (upadacitinib and risankizumab) that target the same indications as Humira and have delivered strong results during clinical trials. The company’s management believes these new, improved drugs will be able to capture most of the revenues that need replacement.
On top of that, AbbVie is developing several other drug candidates, while also gaining approval for new indications for its drugs that are already on the market (e.g., Imbruvica). Management believes that revenues, excluding Humira and any mergers or acquisitions, will total $35 billion in the mid-2020s. This means revenues will continue to grow over the next six years, even if Humira’s sales shrink to zero after its patents expire.
Among other things, AbbVie has ventured into marijuana-based drugs. The company has developed Marinol (dronabinol), which is used to treat nausea and vomiting in patients enduring chemotherapy and is also used for increasing appetite in patients with HIV/AIDS. Marinol is not among the company’s top drugs, but it seems eager to explore the potential in the emerging medical marijuana industry.
It seems likely that AbbVie will look at further drug developments, or potential takeover candidates, in this industry as long as its experience with Marinol is positive. The medical marijuana industry is not very large, but some analysts forecast a market size of $50 billion or more at some point during the 2020s. Thus, marijuana-based products could become a relevant growth driver and potentially large franchise for the company.
AbbVie’s earnings per share will also be positively impacted by the company’s share repurchases. Thanks to strong cash generation and relatively low capital expenditures, the company produces ample free cash flows that are returned to shareholders via dividends and share repurchases. AbbVie has, for example, bought back 5% of its shares in summer 2018 through a tender offer, which will boost earnings per share by another 5% going forward, all else being equal.
Valuation, dividends and expected returns
AbbVie’s shares have been relatively volatile over the last year. The company’s share price has moved between $78 and $126 during 2018. Right now, with shares trading at $90, AbbVie is valued at 11.4 times this year’s expected earnings (according to management’s guidance). This is a relatively low valuation, both in absolute terms as well as relative to how shares were valued in the past.
The relatively low share price goes hand in hand with an above-average dividend yield, as investors can secure a payout of 4.3% right now. AbbVie has already announced it will raise the dividend to $4.28 annually during 2019, thus we already know the forward dividend yield is 4.8% at today’s price. This is more than twice the broad market’s dividend yield and, at the same time, the dividend looks relatively safe as the payout ratio stands at roughly 50%.
Through a combination of a dividend yield of 4.8% and some earnings per share growth (that leads to share price gains as long as the multiple does not change), AbbVie has a good chance of delivering strong total returns in the double-digit range. If the company's earnings multiple expands toward the low-teens range, its total returns would be even larger.
It is possible that AbbVie’s valuation remains relatively low due to uncertainties around the Humira patent expiry and the replacement of these revenues with new drug candidates upa and risa. Therefore, it is not a sure bet that AbbVie’s valuation will expand to a price-earnings multiple of 13, which is our fair value estimate for the company’s shares (and which would represent a share price of $103 based on profits during fiscal 2018).
Final thoughts
AbbVie is a biotech giant that combines a strong growth track record, a high dividend yield, a low valuation and a broad and deep pipeline that should result in solid growth over the coming years. The expiration of Humira's patent will likely not be a major headwind, but it results in some uncertainty, which is why AbbVie’s share price is relatively low right now.
AbbVie gives investors some exposure to the medical marijuana industry as well as looks like a lower-risk stock, which makes it a suitable pick for risk-averse investors.
Disclosure: Author is long AbbVie.
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