How Much Is Abbott Labs Worth?

There are a lot of reasons to like Abbott Labs (NYSE: ABT). Abbott is a large, stable pharmaceutical company, but unlike competitors Pfizer (NYSE: PFE) and Merck (NYSE: MRK), it's also diversified outside of drugs in areas like medical devices and diagnostic products.

Abbott's financials are also impressive. Over the past 12 months, the company returned 26% on its equity and during the past five years its net income has grown roughly 9% per year. And for dividend lovers, the company has consistently increased its dividend for 38 years straight.

Shares of Abbott currently change hands at just less than $50 per share. Is that a good deal? Well, first we need to get an idea of what Abbott's shares are really worth.

It's a beautiful day in the neighborhood
One way to get an idea of what a stock might be worth is to check out how similar companies are valued. Let's take a look at how Abbott stacks up.

Sources: Capital IQ, a Standard & Poor's company, and Yahoo! Finance.
Average excludes Abbott.
*Using previous quarter's book value, as not all companies have updated most recent quarter's values.
N/M = Not meaningful. Eli Lilly is expected to have negative growth.

A look at the averages across this group shows that on most of the valuation metrics, Abbott is trading either on par with the group or at a slight premium. That is, except for the PEG ratio, where Abbott is trading at less than half the group average.

The reason for this is that many of these pharma giants are expected to show pretty lackluster growth in the years ahead. While analysts see Abbott posting 10% annual growth, competitors like Bristol-Myers and Pfizer are seen putting up an anemic 3% per year.

Using each of those averages to back into a stock price for Abbott, and then taking the average across those results, we can come up with an estimated price per share of right around $62. So far that looks pretty promising.

Collecting the cash flow
An alternate way to value a stock is to do what's known as a discounted cash flow (DCF). Basically, this method projects free cash flow over the next 10 years and discounts the tally from each of those years back to what it would be worth today (since a dollar tomorrow is worth less to us than a dollar today).

Because a DCF is based largely on estimates (aka guesses) and it attempts to predict the future, it can be a fickle beast and so its results are best used as guideposts rather than written-in-stone answers sent down from Mount Olympus.

For Abbott's DCF, I used the following assumptions:

Sources: Capital IQ, a Standard & Poor's company; Yahoo! Finance; author's estimates.

While most of this is pretty standard fare when it comes to DCFs, the academically inclined would probably balk at the way I set the cost of equity. In a "classic" DCF, the cost of equity is set based on an equation that uses beta -- a measure of how volatile a stock is versus the rest of the market -- and a few other numbers that I tend to thumb my nose at.

But when you get right down to it, the cost of equity is the rate of return that investors demand to invest in the equity of that company. So I generally set the cost of equity equal to the rate of return that I'd like to see from that stock.

Based on the assumptions above, a simple DCF model spits out a per-share value just a bit more than $67 for Abbott's stock.

Do we have a winner?
The valuations that we've done here are pretty simple and, particularly when it comes to the DCF, investors would be well-advised to play with the numbers further before making a final decision on Abbott's stock.

That said, the two valuation methods that we've used here suggest an intrinsic value for Abbott in the range of $61 to $67 per share. The midpoint of that range is about 30% above Abbott's current share price, so it looks like right now Abbott's stock is priced to be bought.

Do you agree that Abbott's stock is on sale? Head down to the comments section and share your thoughts.

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