Abbott Laboratories: An Emerging Markets Growth Play With Increasing Dividends

Sep. 3.14 | About: Abbott Laboratories (ABT)

Summary

Management is focused on transforming the company through divestitures and acquisitions to increase revenue growth and profitability in the intermediate and long term.

The company is selling its developed markets generic drugs business to focus its generic drugs business on emerging markets.

Substantial growth in the company's nutritional products and diagnostics businesses is expected to offset softness in its other businesses.

The company will continue to reward shareholders with yearly dividend increases and share buybacks while company initiatives take effect.

Abbott Laboratories (NYSE:ABT) is a diversified healthcare products company that is now focused on nutritional products, diagnostics, generic drugs, and medical devices. The company is positioning itself for greater revenue and profit growth in the intermediate and long term through various divestitures and acquisitions. ABT is selling its slow-growth developed markets branded generics pharmaceuticals business to focus its higher-growth branded generics pharmaceutical business on emerging markets. Substantial growth in the company's nutritional products and diagnostics businesses is expected to offset softness in its other businesses. As ABT's initiatives take hold, the company expects that emerging markets will reach 50 percent of its total sales by 2015. The company currently yields about 2.1 percent, and has a long history of yearly dividend increases. While no stock should be considered a "safe stock" without any risk, ABT shares are relatively safe in comparison to many high-profile stocks, and should be strongly considered as a building block of any long-term investor's portfolio.

Background

After the 2013 spin-off of its research-based pharmaceuticals operations (in a new company named AbbVie (NYSE:ABBV), ABT's businesses are now: 1) nutritional products (30.8 percent of 2013 sales); 2) diagnostics (20.8 percent), established pharmaceuticals (branded generics) (22.8 percent); medical devices (13.8 percent); and other (11.8 percent). ABT is a market leader in immunoassay and blood screening products, coronary metallic drug-eluting stents, LASIK devices, and pediatric nutritionals (in the U.S.). The company is also the worldwide leader in adult nutritionals. The U.S. accounted for about 28.7 percent of sales in 2013, developed markets outside of the U.S. for 31.3 percent of 2013 sales, and emerging markets for 40 percent. Abbott expects emerging markets to represent 45 to 50 percent of its total sales by 2015.

ABT's product divisions are: 1) nutritional products division, including infant formulas sold under the Similac and Isomil names, as well as adult nutritionals, such as Ensure and ProSure for patients with special dietary needs, including cancer and diabetes patients. Emerging markets account for about 45 percent of ABT's nutritional sales.; 2) established pharmaceuticals division, including branded generics that are sold in emerging markets and developed markets. (Branded generics usually have higher margins than conventional generics, especially in emerging markets, as their branded labels have a reputation for quality and reliability over unbranded drugs.); 3) tests and diagnostic systems for blood banks, hospitals, and labs. Products include screening tests for hepatitis, HIV, and other infectious diseases, and for cancer; clinical chemistry systems; diagnostic instruments and chemical reagents; immunoassay test kits; hematology systems and reagents; and pregnancy tests.; 4) coronary and carotid stents, catheters and guide wires, and products used for surgical closure. ABT's Xience drug-eluting stent is the leading product in the domestic drug-eluting stent market.; and 5) other products division, including diabetes care items, such as hand-held glucose monitors for diabetes patients, as well as data management and point-of-care systems, insulin pumps and syringes for diabetics. ABT also sells Glucerna shakes and nutrition bars tailored for diabetics.

Second-quarter earnings

ABT announced diluted earnings per share of $0.54, representing growth of 17.4 percent, and above the company's previous guidance range of $0.50 to $0.52; reported diluted GAAP earnings per share from continuing operations was $0.30. Worldwide sales increased 3.0 percent on an operational basis and 1.9 percent on a reported basis, including an unfavorable 1.1 percent effect of foreign exchange.
Worldwide sales of $5.6 billion increased 3.0 percent on an operational basis, and the company is on track for sales growth acceleration in the second half of 2014. Sales increased 1.9 percent on a reported basis, including an unfavorable 1.1 percent effect of foreign exchange. International sales, which comprise more than 70 percent of total ABT sales, increased 4.2 percent on an operational basis and 2.7 percent on a reported basis in the second quarter. Sales in emerging markets, which comprise more than 40 percent of total Abbott sales, increased 7.7 percent on an operational basis and 4.1 percent on a reported basis in the second quarter. The CEO of ABT recognized second-quarter earnings as a sequential improvement, with accelerated sales growth expected in the second half of the year, and characterized the company's recent divestitures and acquisitions as follows:

"At the same time, we're actively shaping Abbott for durable, long-term growth. Part of our growth strategy is to build critical mass and leadership positions in key emerging geographies across our diverse portfolio. In diagnostics, we were early to establish our presence in the geographies of China, Russia and Brazil. In devices, we have significant opportunity in the cataract lens and diabetes markets given demographic trends, as well as in our vascular business with innovative devices such as Absorb. In established pharmaceuticals and nutrition where we already have large and growing businesses in emerging geographies, we've taken a series of steps over the last few months to further shape these businesses for the long term."

ABT raised its full-year 2014 ongoing earnings per share guidance range to $2.19 to $2.29 from $2.16 to $2.26, representing double-digit growth at the mid-point of the range. Projected full-year 2014 EPS from continuing operations under GAAP is $1.16 to $1.26. Guidance for both ongoing and GAAP EPS from continuing operations includes the developed markets branded generics pharmaceuticals business, which is expected to be reported as discontinued operations starting in the third quarter of 2014.

Recent Developments

ABT launched several new products in the second quarter. Products launched include an extended range of vision intraocular lens in Europe and a new diabetes test in the U.S. In addition, in its nutritional business, ABT opened two new manufacturing facilities and launched several new products to meet increasing global demand for pediatric and adult nutrition.

ABT announced two acquisitions in the quarter in its established pharmaceuticals business. In May 2014, ABT announced an agreement to acquire Latin American pharmaceutical company CFR Pharmaceuticals. This acquisition more than doubles ABT's branded generics presence in Latin America, and establishes ABT among the top 10 pharmaceutical companies in the region. Additionally, in June 2014, Abbott announced an agreement to acquire Veropharm, a leading Russian pharmaceutical company, which would allow ABT to establish a larger footprint and manufacturing presence in Russia.

On July 10, 2014, ABT and Fonterra announced a strategic alliance to develop a proposed dairy farm hub in China. The strategic alliance will establish direct ownership and operation of dairies and production of milk in China. This alliance will leverage Fonterra's expertise in dairy nutrition and farming in China and Abbott's continued commitment to business development in China.

In July 2014, ABT agreed to sell its developed markets generic drug business to Mylan Labs (NASDAQ:MYL) for $5.3 billion, where ABT will receive 21 percent ownership in a new public company. ABT will retain its emerging markets generic drug unit. The unit ABT agreed to sell has sales of $2 billion, with operations in Europe, Japan, Canada, Australia, and New Zealand. Analysts view this transaction positively, as the developed markets unit was growing slower than the emerging markets unit. This transaction is expected to positively impact ABT's 2015 sales and earnings per share growth rates as the company focuses its branded generics pharmaceuticals business on emerging markets. ABT indicated its plans to divest its ownership interest in MYL when appropriate.

Competitors and risks

Major competitors of ABT include Medtronic, Inc. (NYSE:MDT), Baxter International, Inc. (NYSE:BAX), Covidien PLC, Stryker Corp. (NYSE:SYK) Becton, Dickinson (NYSE:BDX), St. Jude Medical, Inc. (NYSE:STJ), Zimmer Holdings, Inc. (ZMH), Intuitive Surgical, Inc. (NASDAQ:ISRG), and Boston Scientific Corp. (NYSE:BSX). The healthcare equipment and supplies industry consists of two principle segments: 1) the first segment supplies healthcare equipment to hospitals and patients in outpatient care; and 2) the second segment focuses on the development of new and more technologically advanced medical equipment to improve the efficiency and accuracy of patient care.

There are two reasons why this industry has and will continue to perform well. First, the demographic factor of the increasing age of the population drives growth. The average life span is increasing, and people are also remaining much more active later in life than in the past. This has expanded demand for the industry's products, ranging from medical devices for serious conditions that typically affect the older population (such as pacemakers and stents) to devices and surgeries that help improve the quality of life (such as joint replacements and laser eye surgery). Second, the growing demand from patients and doctors for improved technology and better healthcare equipment also drives growth. A concern for this industry, however, is the potential for federal budget cutbacks that would negatively affect companies receiving federal funding. The Affordable Care Act adding more patients covered by health insurance could increase the customer base for this industry.

Analysts' views and our views

Analysts believe ABT is well-positioned within the global healthcare markets, particularly in emerging markets. Analysts also expect substantial growth in the company's nutritional products and diagnostics businesses to offset softness in its established pharmaceuticals and medical devices businesses. Analysts are positive on ABT's decision to sell its developed markets established pharmaceuticals unit, which is expected to experience slow growth. ABT's strategic acquisition of CFR and Veropharm also give the company a strong position to benefit from growing demand in emerging markets. In addition, ABT initiated efforts to improve productivity and efficiency to enhance growth. The medical devices group, helped by acquisitions, is expected to return to growth later in 2014. In January 2014, ABT announced a $2 billion stock repurchase program. Analysts' ratings are mixed between "buy" and "hold" with price targets ranging from $35 to $52, with a consensus price target of $45.50.

We generally agree with analysts' conclusions regarding ABT's shares. The current price-to-earnings ratio for ABT shares is about 27.9, and the shares yield about 2.1 percent. In addition, the company has a long history of raising its dividends, in addition to its share buyback activity. ABT's forward price-to-earnings ratio is about 19.10 based on 2014 earnings estimates of $2.23, and about 17.25 based on 2015 earnings estimates of $2.47. That said, with overall markets at or near record highs, an investor should wait for ABT's share price to pull back to a range of about $37.00 to $40.00 to establish a full position. (A forward price-to-earnings ratio in the range of about to 15.00 to 16.20 based on fiscal year 2015 estimates). Even though ABT is currently in transition, the company is a profitable research, development and marketing company that will reward investors even if they purchase the shares at the current price for a long-term position. Finally, we should note that ABT's shares have seen extensive insider selling in recent years, with one purchase at about $34 a share in 2013.

Disclosure: The author is long ABT, ABBV, BAX.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.