Profit Off Abbott Spinoff?
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Note: An earlier version of this article erroneously stated Abbott's dividend would be split evenly between Abbott and Abbvie. The mistake has been corrected.
Abbott Laboratories (NYSE: ABT) plans to split off its proprietary drug business into a new company known as AbbVie.
Chicago-based Abbott Laboratories is one of the strongest and most diversified American pharmaceutical companies. It lacks the sheer size of Pfizer (NYSE: PFE) or Eli Lilly. Pfizer has a market cap of $188 billion and revenues of $60+ billion. However, Abbott Labs has a strong existing lineup of products and a promising development pipeline.
It also has a history of maintaining excellent relations with its shareholders: The company has raised its dividend every year for four consecutive decades. It sells established pharmaceutical formulations as well as proprietary drugs, diagnostic devices, nutritional supplements and vascular-health devices. Its product line includes the blockbuster anti-arthritis drug Humira and an effective HIV treatment known as Norvir.
After the split, it will refocus its efforts on managing its existing portfolio of established pharmaceuticals and continuing to develop new medical devices and implants. Its research activities will be curtailed.
AbbVie will focus largely on developing new pharmaceuticals and managing Abbott's existing portfolio of high-yield proprietary drugs. Most of Abbott's existing research and development infrastructure will devolve to AbbVie. Abbott expects this move to reduce its exposure to the risky, highly regulated process of drug development. In addition to Humira, AbbVie's portfolio will include a prostate-cancer treatment called Lupron and an HIV treatment known as Kaletra. Its development pipeline will include promising treatments for Hepatitis C and chronic kidney disease.
The terms of the spin-off are simple. All Abbott Laboratories shareholders of record as of Dec. 12 will receive a single share of AbbVie stock for each share of Abbott they own when the company begins trading on Jan. 2. They will be entitled to retain their positions in the old company. In addition, the new stock will be issued on a tax-free basis. The old company will take a $478 million write-down as a result of the spin-off.
Initially, Abbott's current plan is to pay an annual dividend of $.56 cents per share while Abbvie will pay $1.60. Neither company has yet released information about post-split share pricing.
AbbVie appears to be in solid financial condition. In 2013, the company is expected to earn operating income of over $7 billion on about $18 billion in total revenue. The resultant profit margin of 42 percent is highly competitive within the pharmaceutical industry.
However, AbbVie also suffers from high expectations. Shares of Abbott tumbled recently after the company revised its guidance for AbbVie's 2013 earnings. In addition, the new company's drug portfolio relies heavily on Humira's $9 billion annual revenue stream. Since other pharmaceutical companies are racing to replicate Humira's success, AbbVie's lone blockbuster drug may soon face formidable competition. Should unexpected regulatory issues or development delays bog down the new company's drug pipeline, its value could erode further. AbbVie's management team is clearly betting that its single-minded focus on research will produce blockbuster drugs capable of offsetting the eventual loss of Humira.
To leverage its operations in the years immediately following the spin-off, AbbVie has issued nearly $15 billion in debt. These senior notes come in tranches of three-year, five-year, six-year, 10-year and 30-year fixed-rate debt. The company also issued a smaller tranche of three-year variable-rate debt. This relatively high debt-to-income ratio further raises the stakes for AbbVie. The first major test of its viability may come in 2015 after its tranche of three-year debt comes due.
As a smaller and leaner concern, the new Abbott Laboratories faces less risk than its spin-off. Its focus on maintaining a predictable stream of revenue from durable implants, high-tech diagnostic equipment and other devices may reduce downside earnings surprises. However, its chances of shepherding a blockbuster drug to market will be severely reduced. As such, Abbott may turn to targeted acquisitions to compensate for an expected dearth of organic growth opportunities. Unlike AbbVie, the company also appears poised to take advantage of a growing international market for medical devices and implants. In the short term, Abbott's stock price could benefit from the company's perceived market advantages.
The deal requires no further action on the part of shareholders or regulators. Barring a dramatic and unforeseen event, it will occur as scheduled on Jan. 2.
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