What in the world was AbbVie (ABBV 0.29%) thinking? The big drugmaker stunned investors by announcing last Tuesday that it plans to acquire Allergan (AGN +0.00%) for $63 billion. Many view the deal as a huge mistake for AbbVie.
I'll admit that I was highly skeptical about the Allergan acquisition. Of all the deals that I thought AbbVie might make, Allergan never entered my mind. After having some time to think more on the proposed buyout, I'm still not totally convinced that acquiring Allergan is the smartest move for AbbVie. However, I do see some merits to the transaction.
More importantly, I think AbbVie is now a better stock for long-term investors to buy than it was prior to its announcement of plans to acquire Allergan. Here are four reasons why buying AbbVie makes more sense now than it did a week ago.
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1. Humira is less of a problem
Investors' worries about biosimilar competition for Humira have weighed on AbbVie stock for a while. Sales for AbbVie's top-selling drug are already slipping with European biosimilars on the market. In January, the company provided weaker-than-expected full-year 2019 guidance after international sales for Humira fell more than executives had anticipated.
There's no question that these worries about Humira have been the main reason for AbbVie's dismal stock performance this year. But with the Allergan deal, Humira is much less of a problem for AbbVie. The drug currently generates around 60% of AbbVie's total revenue. After the Allergan acquisition closes, Humira will account for less than 40%.
Of course, Humira will continue to generate lots of cash flow for AbbVie through 2023 (when U.S. biosimilars hit the market) and beyond. AbbVie basically sees the drug as its way to pay for the Allergan acquisition. The company plans to use the cash pulled in by Humira to pay down debt associated with buying Allergan.
2. The deal boosts AbbVie's growth prospects
Yes, several of Allergan's products face challenges of their own. Botox has a new lower-cost competitor on the market. Sales for Restasis are under pressure, and the drug will battle generic versions in a few years. Sales are also falling for glaucoma drug Lumigan and Allergan's Coolsculpting body contouring products.
But even with these challenges, the acquisition of Allergan should significantly boost AbbVie's growth prospects. Prior to announcing the Allergan deal, AbbVie projected that it would grow revenue by around 7% annually through 2023. With Allergan, the company expects revenue to increase by close to 10% per year -- higher than any other big pharma stock.
AbbVie also forecasts that the Allergan acquisition will increase its adjusted earnings per share by 10% in the first full year after the transaction closes. After that, the company expects a positive impact to peak adjusted EPS of more than 20%.
3. AbbVie's dividend looks even more attractive
The initial reaction to AbbVie's proposed buyout of Allergan was harsh, with AbbVie's share price plunging 15%. However, the flip side to this bad news was that the lower stock price makes AbbVie's dividend look more attractive than ever.
AbbVie's dividend yield now stands at a mouth-watering 6.5%. Does the Allergan acquisition change AbbVie's commitment to its dividend program? Not at all. AbbVie CEO Rick Gonzalez even told analysts in the conference call related to the Allergan transaction that AbbVie remains "absolutely committed" to growing its dividend.
4. The stock is ridiculously cheap
AbbVie appeared to be a bargain even before the Allergan acquisition was announced. Thanks to the sell-off last week, though, the stock is now ridiculously cheap.
Shares trade at a little over seven times expected earnings. That kind of valuation might make sense for a stock with no growth prospects. AbbVie, though, should have solid growth prospects. And I'm not talking about just over the next few years with Humira protected from biosimilar competition in the U.S.; AbbVie should be able to grow throughout the next decade.
The bottom line
Sure, I had hoped AbbVie would scoop up a few promising smaller biotechs in a "string-of-pearls" strategy that would cement the company's position as a leader in oncology. I didn't think that a big acquisition was the best move for AbbVie. But while I still have some misgivings about the Allergan deal, I also think that the negative reaction to the transaction was way overdone.
AbbVie is a stock that should deliver strong revenue and earnings growth plus fantastic dividends for years to come. The company has several new drugs with blockbuster potential -- including Orilissa, Skyrizi, and upadacitinib -- with others likely on the way. It's picking up a couple of blockbusters with solid growth prospects in Botox and Juvederm plus a fast-rising star with antipsychotic drug Vraylar.
Whatever you think about the merits of the Allergan acquisition, AbbVie appears to be a better stock to buy as a result of the announcement of this deal.
