AbbVie (ABBV) is popular in the high yield and dividend growth stock community. The current dividend yield is about 4.9% and the payout ratio is roughly 42% (as of this writing). The dividend has been raised for nine consecutive years since the spinout from Abbott Laboratories (ABT) making the stock a Dividend Challenger. The dividend safety is solid at the moment but will be pressured by the eventual loss of exclusivity and patent protection for HUMIRA in the U.S. and ensuing biosimilar competition. Why is this a risk to AbbVie’s dividend? HUMIRA provides AbbVie with nearly 40% of total revenue and over 50% of earnings due to it high margins. When one product provides such a high percentage of total revenue and earnings, I view it as a risk for dividend safety. Granted, AbbVie’s management is trying to manage for the risk of impending competition by acquiring Allergan and also recent drug launches. However, the concentration of revenue and earnings in one product is still a risk. In addition, net debt and the leverage ratio is up significantly since the Allergan acquisition. Overall, it is worthwhile to take a deep dive into the dividend safety of AbbVie.

Overview of AbbVie

AbbVie was formed in 2013 when the company was spun out of Abbot Laboratories. This spin out in effect created one company focused on R&D based drugs and one company focused on medical devices and diagnostics. Since the spinout the stock prices of both companies have risen dramatically so this can be viewed as successful from the perspective of unlocking value. Today, AbbVie has through growth of HUMIRA and a series of acquisitions become one of the largest R&D based pharma companies in the U.S. and world. Major acquisitions include Pharmacylcics in 2015 for $21 billion, Stemcentrix in 2016 for $9.6 billion, and Allergan in 2020 for $63 billion.

AbbVie has strengths in immunology, oncology, neuroscience, and aesthetics, but also operates in eye care, women’s health, and other markets. Its top seller is HUMIRA (immunology), which is also the top-selling drug globally (nearly $20 billion in sales in 2020), generating nearly 40% of AbbVie’s sales and over half of the company’s profits. HUMIRA is backed with 23 years of clinical data and has 16 approved indications worldwide. Other leading products include IMBRUVICA (blood cancers), SKYRIZI (immunology), VENCLEXTA (lymphoma leukemia), BOTOX (cosmetic and neuroscience), MAVYRET (hepatitis C), and CREON (pancreatic enzyme replacement). 

Source: J.P. Morgan Healthcare Conference Presentation

Additionally, AbbVie has the No. 1 market position in Aesthetics for numerous therapies including BOTOX (66% market share), JUVEDERM (46% market share), Coolsculpting (67% market share), Natrelle (54% market share), and AlloDerm (51% market share). Total companywide revenue was approximately $45,784 million in 2020.

Source: J.P. Morgan Healthcare Conference Presentation

AbbVie Stock Dividend and Growth

AbbVie stock has paid a dividend since its spin out from Abbot Laboratories in 2013. The company is a Dividend Challenger on the basis of nine consecutive years of annual dividend growth. But AbbVie stock is also considered a Dividend Aristocrat since it inherited Abbot’s dividend history. Most large-cap pharma companies pay a dividend that grows over time and AbbVie is no exception. The company provides medications that are needed by its customers for the most part to improve health. The combination of relatively high yield, dividend growth, and dividend safety has made the stock very popular as an income and dividend growth stock. For context, AbbVie has over 214 thousand followers on Seeking Alpha illustrating its popularity.

The chart below from  StockRover* shows the dividend and growth rate of AbbVie since the spin out in 2013 superimposed over the stock price chart (in gray). The growth in the regular cash dividend has been approximately 17.9% in the trailing 5-years and 22.3% in the past 3-years. Growth has been driven by rising sales from M&A, new drug approvals, and extensions to adjacent indications of existing drugs.

(Click on image to enlarge)

AbbVie Stock Dividend Growth and History

The forward divided is currently $2.60 per share giving a forward yield of about 4.9%. The yield is currently higher than many other income stocks including utilities, REITs, and MLPs. The yield is less than another investor favorite long-term dividend growth stock, Exxon Mobil (XOM), which has a higher yield and but arguably very low dividend safety. AbbVie’s yield is also higher than many of the Dogs of the Dow 2021, which tend to have higher yields. The yield history for AbbVie is seen in the chart below. The average 5-year yield is about 4.38%. The current yield is greater than that value, but it is lower than the peak yield of over 7% during the nadir of the COVID-19 bear market in late-March 2020.

(Click on image to enlarge)

Source: Portfolio Insight

AbbVie Stock Dividend Safety

I like to take a look at three dividend safety metrics: earnings, cash flow, and debt. It is important to me as a dividend growth investor for all three to meet my criteria. Granted, there can be short-term fluctuations that results in a stock not meeting my criteria. But those are usually transient and not long term. Let’s do a deep dive into AbbVie stock dividend safety.

The dividend is well covered by adjusted non-GAAP earnings. In fiscal 2020, AbbVie earned $10.56 per share and paid a dividend of $4.72 per share giving a payout ratio of about 45%. Looking forward, consensus fiscal 2021 earnings per share is $12.43 and the forward dividend is $5.20 per share giving a payout ratio of roughly 42%. 

That said, dividend coverage is worse after accounting for unusual items, but these vary year-to-year and are common for most large-cap pharma companies. For example, in 2020, diluted GAAP earnings per share was $2.72 per share indicating that the dividend was not covered. However, the dividend is covered by diluted earnings in most years as seen in the chart below from TIKR*.

(Click on image to enlarge)

Source: TIKR.com

The dividend is much better covered by cash flow. On a trailing basis, operating cash flow was $17,588 million in 2020 based on data from TIKR*. Capital expenditures were $798 million giving free cash flow of $16,790 million. The forward dividend requires about $9,178 million ($5.20 x 1,765 shares). Assuming a similar FCF in 2020 as a low-end estimate, the dividend-to-FCF ratio is about 52%, which is below my threshold of 70% and a decent value. That said, the cash flow required to pay the dividend has increased dramatically from $2,076 million in 2013 to $7,716 million in 2020 and about $9,178 million in 2021. Not all of this increase was due to rising dividends per share. The share count has risen particularly due to the Allergan acquisition. The share count was 1,479 million in 2019 and it was 1,765 million in the TTM. This rise in share count will likely put a cap on future dividend growth and also means that FCF used for dividend payments will be high.

Of major concern is AbbVie’s debt load, which has risen dramatically and more than quintupled since the spin out in 2013 as seen in the chart below. This is almost all due to major acquisitions including Pharmacylcics in 2015 for $21 billion, Stemcentrix in 2016 for $9.6 billion, and Allergan in 2020 for $63 billion. At the end of Q3 2020, short-term debt was $34 million, the current portion of long-term debt was $8,443 million, and long-term debt was $77,553 million and this was offset by only $8,486 million in cash, equivalents, and short-term investments according to data from TIKR*. Capital leases add another $1,086 million to liabilities.

The main problem for AbbVie from the context of debt is that interest coverage has weakened significantly due to the high debt load. Interest expense is about $2,454 million in 2020. Ten years ago, total annual interest expense was about $299 million. During that time interest coverage has reduced from over 20X to about 6.5X. This is not a low value, but the downward trend is troubling. The leverage ratio is also problematic since it went over 3X after the Allergan acquisition. The leverage ratio was 0.7X at the spin out for perspective.

Source: Portfolio Insight

Our deep dive into AbbVie’s dividend safety shows a mixed picture based on earnings, free cash flow, and debt. The metrics do not clearly indicate that the dividend is at risk at the moment but ideally, I would like debt and the leverage ratio to be lower and interest coverage to be higher. AbbVie’s management is seemingly aware that debt and leverage is a concern for investors. In the Q4 2020 earnings call the Chief Financial Officer stated:

“Finally, AbbVie’s strong business performance and outlook continues to support our capital allocation priorities. Our cash balance at the end of December was $8.4 billion and we expect to generate free cash flow of approximately $21 billion in 2021. This fully supports a strong and growing dividend, which we have more than tripled since inception, as well as rapid debt repayment where we expect to pay down $17 billion of combined company debt by the end of 2021, including the $8.6 billion that was repaid in 2020. We expect to achieve a net debt to EBITDA ratio just below 2.5 times by the end of 2021 with further deleveraging through 2023. We anticipate that our net leverage ratio will be approximately 2 times by the end of 2022. Our strong cash flow also allows for continued business development with approximately $2 billion allocated annually to augment our pipeline with the most promising external technologies and innovative mid to late-stage assets.”

This statement provides some confidence that debt will be reduced and not place the dividend at risk.

Humira is the Biggest Risk to the Dividend for AbbVie

Besides debt, the biggest risk to the dividend is impending loss of exclusivity and patent protection leading to biosimilars competition for HUMIRA in 2023 in the U.S. and beyond. Management is acutely aware of the problem and has presented hypothetical scenarios for this. HUMIRA is already facing four biosimilars internationally since 2018. Sales eroded -45% in the first year that HUMIRA faced biosimilar competition overseas. In 2019, sales fell another -13.6%. The company is forecasting that another $1.5 billion in sales will face competition in 2021.

Source: AbbVie Immunology Strategy and Long-Term Outlook

HUMIRA will not face biosimilar competition until 2023 in the U.S. with the expected launch of eight competing products. If we assume that sales decline -50% in the first year we are seeing a loss of revenue about $8 billion to $9 billion. Furthermore, since HUMIRA has high margins, companywide margins will drop leading to lower earnings per share and free cash flow. This is clearly a substantial drop and will reduce dividend safety from the perspective of earnings and cash flow. 

If we model a one-third decline in diluted adjusted earnings from 2021 in 2023 we are looking at $8.28 per share. After accounting for small dividend increases to say $6.00 per share the payout ratio rises to about 72%. This is higher than my threshold of 65%. There is a lot of uncertainty in this forecast, but if revenue falls further than expected and the dividend is raised too fast the payout ratio will be even higher. If free cash flow drops in half as well, we are looking at a dividend-to-FCF ratio of about 64%, which is still below my criterion of 70%. But again, there is a lot of uncertainty here.

That said, AbbVie is trying to address the issue by effectively replacing HUMIRA with RINVOQ and SKYRIZI. The two combined for about $2.3 billion in sales in 2020. AbbVie has stated the following:

“We expect the combined contribution from RINVOQ and SKYRIZI to nearly double in 2021 to approximately $4.6 billion based on their continued strong uptake in RA and psoriasis as well as RINVOQ’s anticipated approvals in PSA, ankylosing spondylitis and atopic dermatitis later this year.”

The company clearly has a plan to replace HUMIRA with RINVOQ and SKYRIZI across all major indications. However, only two indications have received FDA approval at the moment. There may also be some attrition or slower than expected approvals. The FDA extended the review for AbbVie’s submission of RINVOQ for atopic dermatitis by three months to Q3 2021 and also the FDA extended the review of RINVOQ for psoriatic arthritis by three months with a decision now expected in late Q2 2021. So, at this point, it is unclear if all the revenue for HUMIRA will be replaced in the near-term by 2023+.

Source: AbbVie Immunology Strategy and Long-Term Outlook

Comparisons to LIPITOR and Pfizer

The closest comparison that I can find for HUMIRA and AbbVie is that of LIPITOR (cholesterol treatment) and Pfizer (PFE). At the time, Warner-Lambert co-marketed LIPITOR with Pfizer in 1996. Pfizer acquired Warner-Lambert for $90.2 billion in 2000. LIPITOR became the top selling drug in the U.S. by 2003 and the world’s best-selling drug until 2012. LIPITOR lost exclusivity and patent protection in 2011. Pfizer acquired Wyeth for $65 billion in 2009 partially to address the impending loss of exclusivity for LIPITOR. The dividend was cut in half in 2009 and Pfizer lost its Dividend Aristocrat status at the time after 29 years of consecutive annual dividend growth.

Final Thoughts on AbbVie Dividend Safety Pressured By Humira

AbbVie is a popular stock for income and dividend growth investors due to high yield, dividend growth, and acceptable dividend safety. That said, the company is in transition as HUMIRA faces a drop in sales when loss of exclusivity occurs in 2023. AbbVie is trying to address the issue and the dividend may not be at risk. But a comparison to a past analog for LIPITOR and Pfizer is not favorable. If you feel that there is sufficient margin of safety, AbbVie may be a good buy. But I am personally wary about AbbVie and the dividend safety at the moment.