Streetwise

Lauren Rudd

Sunday, January 13, 2013

No One Will Part the Red Sea

Earnings season is upon us and therefore you can look forward to being inundated with an onslaught of carefully worded hyperbole designed to distract your attention from any unpleasantness. As you listen to the various forecasts, remember that rose colored glasses, combined with a dollop of wishful thinking, are a precursor to disaster.

That does not mean you disregard the various protestations. Rather you want to keep them in perspective, all the while remembering that the Street’s analysts have a herd mentality.

Here is another bit of advice. Do not rely on anyone to part the Red Sea and guide you to the Promised Land of high returns. It is your responsibility to separate the wheat from the chaff. Unfortunately, whenever there is an increase in market ebullience, there is also a tendency to add credence to boisterous prognosticators.

Moreover, anyone selling an investment is unequivocally biased. It does not matter how sincere they appear or how long you have known them, they sell for a living. Your best defense is knowledge.

One company you will be hearing a lot about is Abbott. If you were holding Abbott before the start of 2013, you now have one share of Abbott Laboratories (ABT) and one share of AbbVie (ABBV) for each old Abbott share. Translated, this means you now own a medical device company which continues to operate under its old name, and a pharmaceutical company.

Shares of Abbott recently closed at $33.35, while shares of AbbVie closed at $33.71, for a combined value of $67.06. The combined value of the holdings has increased 3.0 percent from Abbott’s December 31 closing price of $65.50.

So the question now is do you hold onto one, or both, or neither going forward? You will quickly learn that the opinion of what to do is also split down the middle among analysts. While the decision is a personal one, based on your strategic and tactical investment objectives, here are some points to keep in mind.

The primary concern about AbbVie is a dearth of new product in its pharmaceutical pipeline. The Company currently relies on Humira, a popular drug in treating rheumatoid arthritis, to generate about $8 billion in annual revenues. AbbVie’s total revenue is only about 18 billion. Furthermore, Humira is losing patent protection at the end of 2016 in North America and a year later in Europe.

Although AbbVie does have some new products in the offing, they are unlikely to have an earnings impact before 2015. The products include the company's hepatitis C drug (which does not require interferon), a gel for Parkinson's, a multiple sclerosis drug, and a drug for endometriosis. The four, AbbVie CFO William Chase has projected, could produce revenues in the $4 to $6 billion range.

AbbVie is currently expected to generate annual revenues of $17.6 billion on which it could earn almost $5.0 billion. This values AbbVie's operating assets at roughly 3.1 times annual revenues and roughly 11 times annual earnings. The company will pay $0.40 in dividends per share on a quarterly basis for an annual dividend yield of 4.6 percent.

Meanwhile, Abbott will likely generate annual revenues this year of $21 billion on which it could earn roughly $1.6 billion. This values the firm at 2.5 times annual revenues and 33 times annual earnings. Abbott is expected to pay a quarterly dividend of $0.14 per share for an annual dividend yield of 1.7 percent.

Revenue among Abbott's businesses is well balanced geographically, with 30 percent generated in the United States, 30 percent from Western Europe, Canada, Japan and Australia, and 40 percent from the fastest-growing economies, including India, China, Russia and Brazil. The company's presence in these high-growth markets is among the most expansive of any diversified healthcare company.

AbbVie is without a doubt the riskier business on an operational basis, given its reliance on Humira, whereas Abbott has superior product and geographical diversification.