Abbott Laboratories (NYSE:ABT) just keeps chugging along. In the second quarter, ABT beat on the top and bottom line. Reported revenues increased 3.1% (ahead of estimates by $90 million), and non-GAAP EPS came in at $0.55, beating estimates by $0.02. On a currency neutral basis, sales increased 6.4%, and ABT reported growth in each business segment. Shares have risen 9% in the past week following a report from Barclays that declared the stock was "a premium asset selling at a discount". The stock now trades at a trailing P/E of 30 compared to its historical average of 21. I have been bullish on ABT for a while, and while the stock is no longer an obvious buy, we think it can still go higher.
There are many reasons to be optimistic about ABT. The firm is a market leader in each business segment, with a strong pipeline of new drugs and devices that should support the firm's economic moat for years to come. ABT shows on signs of slowing down, and currency headwinds are overshadowing solid underlying performance. In the latest quarter, on a constant currency basis, Nutrition increased 4.5%, Diagnostics grew 4.2%, Established Pharmaceuticals increased 9.5%, and Medical Devices grew 6.4%. In the second quarter ABT announced a merger with St. Jude Medical (NYSE:STJ), a move that should bolster the firm's competitive advantages through a bigger and more diversified portfolio. The purchase should also lead to cost synergies through greater scale and bargaining power over suppliers. Finally, ABT benefits from secular demand drivers. Population ageing will fuel health care spending around the world, and the company has significant exposure to emerging markets, where rising incomes will provide another long-term catalyst. We are especially optimistic about the Established Pharmaceuticals segment, which now only operates in emerging markets. The firm's branded generics have a key advantage over unbranded labels in these regions: because distribution infrastructures are less developed, purchase decisions are usually based on brand and reputation.
ABT is an attractive investment idea for buy-and-hold investors. And, while the stock is expensive based on historical metrics, the stock could go higher if interest rates don't rise as much as expected. We think the market is overly optimistic in its outlook for Fed rate hikes, and that rates will stay near rock bottom levels through 2017. This would benefit ABT in two ways. First it would make the dividend more attractive. ABT yields 2.4%, nothing stellar, but a solid option given ABT's relatively low risk profile (company's products are largely insulated from economic fluctuations) and portfolio of high margin businesses that help protect the dividend. More importantly, a prolonged stretch of low interest rates would cause the dollar to depreciate because the dollar strength of recent years has been based on the assumption that US interest rates were heading higher. ABT, which generated 70% of its sales outside the US in 2015, would benefit tremendously, as the weaker dollar would increase the value of ABT's profits earned in other currencies. We expect that a significant portion of the capital leaving the US would flow into emerging markets where yields are higher. This is what happened after Brexit when it became clearer that the Fed was not about to raise rates. ABT generates more than 50% of revenues in high yield markets, so there is potential for a sizeable FX windfall if my theory plays out.
ABT's second quarter didn't have any surprises: just another three months of solid underlying performance. Abbott Laboratories is a great business with a promising outlook, but, after the stock's recent rise, investors should wait for a better opportunity to buy in. That being said, we do think the stock can go higher in the short term (next year-and-a-half or so) if the Fed keeps rates low. ABT is a relatively stable and predictable business, so any major price movements in the next twelve months will likely come from external factors. If you are thinking about buying ABT, your expectation of Fed policy should be central to your decision.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.