Shares of Abbott Labs
How it got here
The simple answer as to how Abbott reached new highs is health-care diversity. Unlike traditional pharmaceutical companies, Abbott is the world's largest nutritional medicine supplier, while also manufacturing medical devices. By focusing on multiple aspects of health-care Abbott has avoided the pitfalls that come with operating in non-diversified sectors.
Abbott's latest quarter continued a streak of strong sales growth with revenue rising 4.6% (including negative currency effects). Pharmaceuticals make up about 43% of Abbott's business and grew by 7% worldwide with its class-leading nutritional segment putting in gains of 10%. Abbott's well-diversified product line is paying dividends in an otherwise unstable market.
But not everything is going to end in fairy-tale fashion for Abbott shareholders and, if they aren't careful, their investment could turn into a pumpkin. Comprising a large portion of its business, branded drugs only have a finite patent-exclusive shelf life. TriCor, a $1 billion drug which has been protected by patents for the better part of 35 years, is expected to lose patent exclusivity this month. Competition is also a primary concern. Humira, Abbott's rheumatoid arthritis treatment, makes up about half of total pharmaceutical sales and is facing heavy competition from Pfizer
How it stacks up
Let's see how Abbott Labs compares to its peers.
As you can see from the chart above, generic-drug producer Dr. Reddy's has done well over the past five years whereas health-care reform and increased levels of competition and litigation have taken their toll on pharmaceuticals, as well as on medical device makers like Medtronic
|
Company |
Price/Book |
Price/Cash Flow |
Forward P/E |
Dividend Yield |
|---|---|---|---|---|
| Abbott Labs | 4.0 | 11.1 | 11.6 | 3.2% |
| Pfizer | 2.1 | 9.7 | 9.4 | 3.8% |
| Dr. Reddy's Laboratories | 5.7 | 29.2 | 15.6 | 0.8% |
| Medtronic | 2.4 | 10.1 | 10.2 | 2.7% |
Source: Morningstar. Yields are projected.
These metrics provide even more evidence for why we've seen a larger outperformance from Dr. Reddy's than its peers. Generic drug manufacturers pay far less in research and development expenses and have a nearly endless sea of drug hopefuls in their pipelines considering the finite timeframe of drug patents.
Abbott and Pfizer can offer their shareholders higher dividends with more predictable cash flow than a generic-drug producer like Dr. Reddy's, but they both will also deal with the huge shortfall of losing blockbuster drugs to patent expirations. Pfizer lost patent exclusivity last year on the best-selling drug in the world, Lipitor, which accounted for about 15% of its annual sales. Abbott's Humira (currently a fifth of total sales) will see its first patents beginning to expire in 2016.
Medtronic also presents itself as a nice value and has little to worry about with regard to patent issues. My primary concern with Medtronic is the recent upholding of the 2.3% medical device excise tax by the Supreme Court. With research and development budgets constrained by the new tax, which is set to take effect in 2013, investors are exhibiting caution for valid reasons.
What's next
Now for the $64,000 question: What's next for Abbott Labs? The answer going to depend largely on whether its plan to split its business into two separate entities -- a pharmaceutical research company called AbbVie, and a diversified medical products company keeping the legacy Abbott Labs name -- will unlock shareholder value.
Our very own CAPS community gives the company a highly coveted five-star rating, with a whopping 96.4% of members expecting it to outperform. Despite 2,600-plus member ratings, I've yet to weigh in with my own CAPScall -- and I'm still not ready yet.
Abbott is in the process of further getting its feet wet in two areas I think have plenty of potential: medical devices and diagnostic products, and has a plan in place to unlock shareholder value through separating into two entities. I'm still uncertain, however, how smoothly the transition into two separate entities will come about. I do see value in Abbott and its 3.2% yield, but I would rather hold off until after the proposed split later this year before diving into the stock. Instead, I plan to add it to My Watchlist with the intention of reviewing it post-split.
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