AbbVie (NYSE:ABBV) is a major drug manufacturer best known for its product, Humira, which treats arthritis, Crohn's disease, and plaque psoriasis. At 5.02%, the company's dividend yield is by far the highest among its branded drug peers, with GlaxoSmithKline being the next highest at 4.19%, followed by Pfizer at 3.89%.
While high dividend yields are great for investors who need income with minimal volatility, suspiciously high yields indicate that the market expects the dividend to fall or the stock to depreciate in the future. Is this a dividend stock to buy today?
AbbVie will have to figure out how to replace Humira
AbbVie holds patents in several countries for numerous applications for Humira, some of which have already begun to expire outside of the U.S. and will begin to expire domestically in 2023. Such a time frame is worrisome for investors because Humira provided 58% of the company's total revenue in the most recent quarter.
Competition from generics is causing Humira's international revenue to decline year over year. This trend will continue as the patents expire over the next 15 years, with revenues dropping while legal and research and development expenses remain high. There are some prospective candidates in AbbVie's pipeline, such as Rinvoq, Imbruvica, Skyrizi, and Venclexta that may become blockbuster drugs. But it is always going to be difficult to replicate the financial success of a monster like Humira.
A major acquisition is the other big piece of this story
In June 2019, AbbVie announced an agreement to acquire Allergan (NYSE:AGN), maker of well-known Botox, for $63 billion. In the immediate aftermath, Allergan shares jumped 31%, while AbbVie fell 16%. The company cited scale, synergy, and a strong combined pipeline as the major motivating factors for the massive deal, with return on invested capital (ROIC) expected to exceed the cost of capital in the very first year following combination.
Theoretically, those are attractive economics that should lead to profit accretion in the medium or long term, and the company is forecasting between 7% and 10% revenue growth in the years following the merger, which would be double or triple the industry average.
Nonetheless, the market had some reservations with the merger at that price. AbbVie is paying a price-to-earnings multiple of nearly 50 to widen its pipeline, but it isn't acquiring any late-stage drugs that could approach the Humira level of financial returns. Some investors considered it a desperate move with substandard fundamentals.
Moreover, AbbVie carries around $38 billion in debt and lease obligations and has negative net shareholder equity. AbbVie announced that it would issue $28 billion to fund the cash portion of the Allergan acquisition, which would be one of the largest corporate bond deals in history. Increasing financial leverage, along with fixed debt servicing obligations with an impending patent cliff approaching, is going to scare some investors.
The combined entity will generate substantial free cash flow for the next few years, but the deal only makes sense if the new combined pipeline yields growth down the road and current forecasts don't instill much confidence that the company can replace Humira effectively in the near future.
How long can the dividend be maintained?
Management has been explicit about maintaining and growing the dividend, which has a strong history of increasing. However, since AbbVie's 2013 spinoff from Abbott Labs, the company has had Humira's incredible success to support that dividend growth. Growth from a more diversified base of drugs will be welcome, but several successful rollouts will be required to maintain the pace at the new scale. The dividend could be in jeopardy if revenue falters with this new capital structure.
AbbVie could be a very interesting story for investors who are seeking a high dividend yield to offset anticipated market weakness in the next two to three years. If a recession and market decline are indeed imminent, reduced exposure to equity volatility will be a goal for many, with stable dividend payers becoming more attractive. This dividend is likely to remain strong until 2023, after which there are plenty of question marks. That could be a compelling timeline, depending on an investor's macro outlook.