Warren Buffett has invested in Abbvie, should you do it too?
Opdateret: 3. maj
If you follow or copy me, you would probably already know that I think very highly of Abbvie. In this analysis I will explain why I, and I guess Warren Buffett too, have invested in the company.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
If you regularly read my posts on eToro, you would know that I often write about Abbvie, and that it is one of the larger positions in my portfolio. I'm not the only one that like Abbvie, as Warren Buffett invested in the company in the 3rd quarter in 2020, and increased his position in the fourth quarter in 2020. For full disclosure, I need to let you know that I bought my first position in Abbvie in April 2020 and that is a company I really like. However, as always I will not be biased in this analysis. One thing I should mention to begin with is that Abbvie bought Allergan in 2020, meaning that when we go through the numbers, I will not really focus on the 1 year benchmark as the numbers will be skewed. Regarding the numbers in the oldest benchmark, which is before there spin-off from Abbott Laboratories, it is still possible to get the numbers at various financial sites. Hence, they are included in this analysis.
So who is Abbvie? It is an American biopharmaceutical company that was founded in 2013, as a spin-off of Abbott Laboratories. It is among the largest pharmaceutical companies in the world (8th largest in the world) and is located in Illinois, USA. As with all other pharmaceutical companies it is not difficult to determine a moat for Abbvie. All pharmaceutical companies, including Abbvie, have a secret moat due to their patents. Meaning that once you invest in pharmaceuticals you need to be up to date with their drugs, and their patents. Abbvie is most known for their drug Humira, which generated 19.832 million dollars in 2020, while their second largest selling drugs, Imbruvica, generated 5.314 million dollars in 2020.
Their CEO is Richard Gonzalez. He first joined Abbott Laboratories more than 30 years ago, and had held various positions in the company before becoming the CEO of Abbvie when it was founded in 2013. Previously, there has been some controversy regarding Richard Gonzalez due to some misleading details about his credentials. The controversies were that Abbot Laboratories had stated that he had a bachelor degree in biochemistry from the University of Houston and a master degree from the University of Miami. He did attend the University of Houston with a major in biochemistry but didn't earn his degree, and while he didn't study a masters at the University of Miami, he did serve as a research biochemist. All of this means that he doesn't have a college degree. The controversies regarding his credentials, and him fighting throat cancer made him briefly retire for some years in 2007 before returning to Abbott Laboratories. Educational credentials or not, his vast experience in the industry and his great results show that he is a great CEO. I mean Warren Buffett had no problem investing in Abbvie despite of this, and while you should do your own research, it is certainly comforting to know that someone that stress the importance of management, invested in the company.
We have determined that Abbvie has a strong secret moat. And despite the controversy, we like the management as well. Now let us look into the big five numbers in order to see, if Abbvie does live up to our requirements for a strong moat. In case you want an explanation about what the big five numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all of the benchmarks. As mentioned previously, I don't really focus on the one year benchmark due to their acquisition of Allergan. Looking at all of the other benchmarks, Abbvie does live up to the requirement of a ROIC of more than 10% in each benchmark. Sure, it has decreased a little bit but it is nothing I'm worried about, as they are still well above the 10 %.
The next numbers we will look into are the Sales Growth Rates. Ideally the numbers should be above 10% in each benchmark and increasing. Looking at the four benchmarks that matters, we see that the numbers are exactly as we want them. Above the 10 % in each benchmark and increasing.
The next numbers are the EPS Growth Rates. As with all other growth rates we want the numbers to be above 10 % in all benchmarks. All right, this is not what we want to see. The numbers are certainly underwhelming in all benchmarks. I won't say that I'm concerned yet, as it depends on the other growth rates but it is certainly something that needs to be monitored in the future.
The Equity Growth Rate is the most important of the four growth rates. And the numbers in the four benchmark that matters are fantastic. Well above the 10 % that we want and increasing in every benchmark. You should be very excited to see equity growth rates like this.
Finally we look into the Cash Growth Rates. Once again we see a growth rate just as we want it. Well above 10 % in each of the benchmark and it is increasing from benchmark to benchmark in the four benchmarks that matters.
To sum up the five numbers. The most important number will always be the ROIC, and the numbers are solid, as they are well above the required 10 % in each of the benchmarks. We can bundle three of the growth rates together, being Sales, Equity and Cash. All of them are following the exact pattern that we want. Above 10 % in all of the four benchmark that matters and are increasing from benchmark to benchmark. The EPS growth rate is obviously underwhelming, and it is something one needs to be aware of. However, combined with the four other numbers it isn't something that keeps me from investing in Abbvie, as the other four numbers certainly make up for the underwhelming EPS growth rate.
Another important thing to look into is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by current cash flow. Doing the calculation on Abbvie, I can see that Abbvie has 16,8 years earnings in debt! Obviously, it is something that should be a large concern if you invest in Abbvie. You do need some perspective though, as the large debt is mainly due to the acquisition of Allergan. Prior to 2020, where the acquisition of Allergan happened, Abbvie had a debt that could be paid off in less than 8 years. Sure, 8 years is still way above the 3 years that we would like but Abbvie is a profitable company, which gives me some peace of mind.
Based on my findings so far, it is obvious that Abbvie is a great company. However, no investments are without risk and Abbvie has some risks as well. We already mentioned one risk, which is the debt. I don't want to go too much into it here but you will need to see that Abbvie is paying off their debt each year. Another risk is that they lose their patent in the United States on Humira in 2023. As I wrote previously, Humira is by far their best selling drug, and while they already have lost their patent in Europe, they will lose their patent in the United States in 2023, which is a concern. Another risk is the reopening enrollment on the federal Affordable Care Act by Joe Biden. Obviously, it could be a risk for the whole pharmaceutical industry, if Biden wants to lower the prescription drug pricing and limit price increases on drugs.
In this section I would like to address some of the risks and look into the potential of Abbvie. I have already written about debt, so I wont go much into details with that here. If you invest in Abbvie, you have to monitor that they keep being profitable and keep paying off some debt. Regarding Humira, it is certainly a valid concern. You cannot extent the patent, so in order to address the risk, you will need to look into their pipeline. Two drugs that are expected to perform well for Abbvie in the future are Skyrizi and Rinvoq. Looking at the fourth quarter compared to the third quarter in 2020, the sales of Skyrizi went from 435 million dollars to 525 million dollars and Rinvoq went from 215 million dollars to 281 million dollars, you would like to see the sales of these drugs continuing to rise. Another way to deal with the patent loss of Humira is actually the acquisition of Allergan. Allergan was known for their aesthetics division, most notably Botox. Obviously, year 2020 haven't been a good year for aesthetics due to the pandemic, hence Abbvie expects their aesthetics division to grow by double digits in 2021. Finally, let me shortly address the Affordable Care Act, and why I'm not too concerned about it. It is due to Medicare Part D that allows pharmaceutical companies to be reimbursed for drugs that do not provide value for money, and as you might have guessed, value for money is not further defined.
Let me just shortly mention some more potential upside for Abbvie. I have previously written about this in my newsfeed at eToro but their drug called Tricor could be a potential cure for Covid-19. Luckily, the corona vaccines are coming at faster and faster pace, however it is not expected that the whole world will be vaccinated until 2023. Meaning that we are going to live with Corona for quite some time. Israeli scientists found that Tricor could downgrade the threat level of Covid-19 into that of a common cold. As I write this there are ongoing clinical trials by the University of Pennsylvania in collaboration with the University of Arizona and Universidad Catolica de Santa Maria in Peru, in which they are testing if Tricor would be the answer for patients suffering from Covid-19. I believe it is pure upside, as it is not priced into the current price of Abbvie. Last week I went through the numbers of some companies of the Cannabis/Marijuana industry, and it came to my attention that Abbvie is the company with the most patents of drugs that use medical cannabis. Actually, they have 59 patents, even though they don't have any current drugs that contain cannabis. If you believe that medical cannabis is the future, Abbvie is a great bet.
All right, we have gone through the numbers, potential and risk regarding Abbvie, and now it is time for us to calculate a price for Abbvie. In order to calculate price, we will need the numbers that I have explained in the "MY STRATEGY" section of the website, as I do not want to go through the whole calculation here. I chose to use a EPS as it is now at 4,69. I chose a Estimated future EPS growth rate of 6 (which is the analyst consensus growth rate), Estimated future PE 12 (which the double of the growth rate, as the historically PE for Abbvie has been higher) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $24,91, and we want to have a margin of safety on 50 % so we will divide it by 2, meaning that we want to buy Abbvie at price of $12,46 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". In order to do so, we need some numbers from their financial statements, keep in mind that all numbers are in millions. The operating Cash Flow last year was 17.588 The Capital Expenditures was 798. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I wasn't able to find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 558,6 in our further calculations. The Tax Provision was -1.224. We have 1.770 outstanding shares. Hence, the calculation will be like this: (17.588 - 558,6 - 1.224) / 1.770 x 10 = $89,29 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at 9,30 and a growth rate of 6 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $97,57.
I believe that Abbvie is a great company with a good management. I believe they will do great in the future due to their pipeline. There are some slight concerns about their debt that needs to be monitored though. However, based on my findings in this analysis, I would increase my position at a price that is below Ten Cap price at $89,29. I would be very comfortable at opening a position at that price, as two out of three calculations show that you get a 50 % discount to intrinsic value.
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