06/16/14 Covered Call Pick: AbbVie Inc (NYSE:ABBV)
AbbVie Inc (ABBV) is a research-based pharmaceutical company that develops pharmaceutical and biologic treatments for Rheumatoid Arthritis, Psoriasis, Crohn's Disease, and a number of other debilitating diseases and conditions. AbbVie was formed on January 1, 2013 when parent company Abbott Laboratories (NYSE:ABT) split into a medical devices company (Abbott) and a pharmaceutical research company (AbbVie). AbbVie is most known for their blockbuster drug Rheumatoid Arthritis drug, Humira.
AbbVie has a market capitalization of $86.12 billion with 1.59 billion outstanding shares.
AbbVie currently pays a $0.42 quarterly dividend for a current yield of 3.1%.
With a beta of 1.36, ABBV currently trades with approximately 36% more volatility than the current market.
We have mentioned ABBV's progenitor, ABT, on this blog before, but since the research-based pharma company was formed at the beginning of 2013, we have yet to examine the stock in this forum. So let's dive into this under-appreciated pharmaceutical company.
You can't talk about ABBV without talking about Humira. Without getting to technical, Humira is an immunological drug that helps prevent one's own immune system from attacking their own body. An overstimulated and unnecessary immune response is the basis for conditions like arthritis, Crohn's disease, ulcerative colitis, and psoriasis. These conditions are extremely prevalent in the global population, and treatment with Humira is one of the best ways the populace currently has with dealing with these conditions. So much so, that Humira's sales account for over 50% of ABBV's total sales, and has experienced strong Humira sales growth since its creations in 1993. In the past first quarter, Humira sales were up 18% y/y, and Morningstar's analysts expect Humira's efficacy and relatively clean side-effect profile will drive a 10% three-year CAGR for the drug. Well positioned to drive the company's performance over the next five years, Humira's approval for a wide variety of immunological conditions means that many markets for the drug remain under-penetrated, leaving room for continuing sales growth.
All of this sounds great: the major driver of sales for the company is a huge drug that has wide application, huge demand, and a history of double-digit sales growth that is projected to continue. What's the downside? Well, when you have one product that accounts for over 50% of your sales, that strength is also your weakness. AbbVie loses its Humira patent in the U.S. in late-2016, and in Europe in 2018. This leaves the company open to generic competition, which can be devastating since it currently relies on the sales of Humira for so much of its revenue. The competition isn't waiting for patent expiration though - Pfizer's new Rheumatoid Arthritis drug, Xeljanz, is a new competitor in the same space as Humira, and is easier to take due to its oral administration as opposed to Humira's twice-monthly injections. Humira is a biosimilar, which means it is made or derived from a living organism. For laymen, this means it is incredibly complicated to develop, which should help stave off some competition. But pharmaceutical companies are incredibly brilliant nowadays, and even the complexities of creating and launching a biosimilar will not hold off other companies from taking a piece of ABBV's pie.
While competition to Humira is a concern, ABBV is preparing for the inevitable. The company is now much more focused as a research pharmaceutical company. This allows it use the large cash flows generated by Humira and other drugs to create an economy of scale that enables funding for new drugs. The average cost for developing a new drug is $800 million, which is no small chunk of change. By being able to focus so much on R&D, ABBV is able to prepare for the inevitable patent-expirations that every pharmaceutical company must contend with. The leading runner in ABBV's pipeline is its new hepatitis C treatment, which recently received FDA priority review to speed up the approval process. This means the treatment could be on the market as early as late 2014, and consensus believes it will be in the market by mid-2015 at the latest. The treatment is expected to post just over $600 million in 2015, with peak potential of over $3 billion in annual sales. ABBV also just announced positive Phase 3 trials along with its partner, Biogen Inc, in their new treatment for multiple sclerosis (NYSE:MS).
For a Covered Call Strategy we are recommending the November $57.50 strike price. The stock currently came off a resistance level around $55, and may take a pause before testing that level again. This strike price and duration gives us the appropriate premium we want to boost the income provided by the strong dividend the stock boasts, while giving us some upside if the stock busts through that resistance level. We also are keeping the strike price inside 2014. With a possible release of the hep-C treatment later this year, we can keep an eye on how ABBV is proceeding with its pipeline development. That is why we are recommending buying ABBV and selling the November $57.50 out-of-the-money Call.
- Buy 100 shares of ABBV @ $54.00 = $5,400 + Commission ($12.95) = $5,412.95
- Write 1 ABBV November 2014 $57.50 Call @ $140 - Commission ($8.70) = $131.30
Note: Prices may vary from the time of post. Actual commissions paid will vary returns.
Static Return (Not Called):
(Call + Dividends)/Stock Price X (Days/Year)/Days to Expiration
(1.31 + 2*(0.42))/54.13 X (365)/159
= 9.12% Static Return
(Call + Dividends + Strike Price - Stock Price)/Stock Price X (Days/Year)/Days to Expiration
(1.31 + 2*(0.42) + 57.50 - 54.13)/54.13 X (365)/159
= 23.41% If-Called Return
Disclosure: Clients and/or principles of OakTree Investment Advisors may or will have an investment in the above positions, but only on the same sides of the trades. The above numbers are analytic estimations based on information known at the time of this post. OakTree Investment Advisors does not guarantee the above, or any, result. All investment decisions should be made based upon individual's personal investment goals and risk tolerance.
Disclosure: The author is long ABBV.
Additional disclosure: As active managers we may increase or decrease positions as markets dictate.