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AbbVie And Allergan

AbbVie And Allergan

June 28, 2019 312

AbbVie (NYSE: ABBV) recently announced a plan to acquire Allergan (NYSE: AGN) for more than $60 billion. That's a sharp drawdown from Pfizer's (NYSE: PFE) offer to buy the company for $160 billion in 2015, a deal that ultimately didn't work out after tax law changes ended one of the major benefits of the deal, which was to allow Pfizer to lower its taxes by $1 billion annually.

Still, AbbVie's acquisition offer was 45% above Allergan's closing stock price before the deal, although that's more like 35% after AbbVie's stock price drop. That stock price drop has also pushed up AbbVie's dividend yield to more than 6%, making it one of the highest yielding dividend aristocrats. I see this as short-term pain that'll soon be reserved.

As we'll see throughout this article, the combined company's R&D business, along with its cash flow abilities make it a top-tier investment opportunity.

Transaction Overview

The basis of any transaction is the price that's paid, and more importantly, how that price is paid. An all cash deal has significantly different implications from an all stock deal. I will come out into the open here by stating that I am rarely a fan of heavily stock based transactions. I believe if a transaction is accretive, with long-term benefits, then it should be paid for in cash.

The deal terms involve each Allergan share being exchanged for $120.30 in cash + 0.8660 shares of the combined company. Based on current share prices, which makes the share component of the deal equivalent to $58.89 / share. This makes the total share price equivalent to $179.19 / share for Allergan. For reference that is more than 9% above the company's current share price.

That means that there is an almost 20% annual premium to be captured for shareholders who invest in Allergan now, until the deal closes in early-2020.

The company expects the transaction return on invested capital to exceed the corporate cost of capital in the first year of combination, and have peak earnings accretion of >20%. The deal is expected to close in early-2020, which means the company is working for a fairly quick transaction given the size. I wouldn't be surprised if this gets pushed back some.

For example, the other major Celgene and Bristol-Myers Squibb deal was pushed back.

Combined Asset Portfolio

Now that we know the terms of the deal, let's look at the benefit of the deal, the combined asset portfolio.

Growth Areas - Merger Investor Presentation

The combined deal will result in $15.7 billion worth of growth area revenue. The largest source of this is Allergan's Botox, which currently provides several billion in annual revenue and is expected to grow going forward. This combined asset portion, which generates an incredibly significant amount of revenue, is an incredibly strong part of the value in the deal.

At the same time, the overall company's portfolio will be much stronger. It'll be supported at its base by Humira, the immunology drug, which is expected to have sales peaking at $20 billion per year. If AbbVie didn't have the risk of Humira sales dropping off, those sales alone would be enough to justify the valuation of the entire combined company.

Another major exciting aspect of the portfolio is the company's Hematologic and Oncology portfolio. The company effectively purchased the most significant part of this portfolio when it purchased Pharmacyclics for $21 billion in 2015. That has resulted in more than $5 billion in annual revenue, and an impressive franchise, which's expected to grow going forward.

Next are the medical aesthetics and neuroscience businesses that generate more than $7 billion in annual revenue. These are primarily from Allergan's Botox franchise, and support the strength of revenue from the company's growth platform going forward. The abilities of Botox, especially after it moves out of surgical indications, is very exciting.

Growth Platform + Humira - Merger Investor Presentation

To provide a better indication of the growth profile, the growth platform is expected to have standalone scale in 2020, with best-in-industry prospects. The company expects that the growth platform going forward will be able to simultaneously support the company's R&D engine and its dividend aristocrat dividend. That combination, means this acquisition can stave off Humira concerns.

Effectively, AbbVie is taking advantage of its cheap access to capital, to acquire a market leading business primarily in debt. It's then using the cash flow from its business to both cover its interest obligations, especially before Humira begins to see its revenue drop from biosimilars in 2023. Once Humira declines, the growth platform will be able to support the company.

In fact the growth platform is so strong that AbbVie now expects peer leading very high single-digit revenue growth going forward from now until 2023. That means you have a company that'll have a market cap of ~$120 billion after the deal, and an affordable debt load, paying out a yield on cost of more than 6% due to its >$50 billion in revenue growing at 10% annually.

Combined Company Pipeline - Merger Investor Presentation

The above image shows the combined portfolio, along with Phase I, Phase II, and Phase III assets, along with recent approvals.

Combined Company Shareholder Returns

The incredibly strong portfolio and solid acquisition terms should result in long-term shareholder returns.

Deal Synergies - Merger Investor Presentation

For starters, the deal expects that it'll achieve an astounding >$2 billion in synergies by Year 3. The valuation of those synergies alone are >$20 billion because of their profit generation ability. The synergies will be roughly split evenly across SG&A and the company's R&D franchise. The company is planning these R&D synergies without touching and key franchises.

More so both companies have a history of major organizational and structural changes. Allergan was built through a number of major acquisitions, and AbbVie has had to deal with major organizational changes such as being separated from Abbott Laboratories (NYSE: ABT). Interestingly enough if that split had never happened, this new acquisition would make the combined company as large as Johnson & Johnson.

Combined Company Financials

Putting all of this together and we get the incredibly strong financial benefits of the transaction.

Transaction Financing - Merger Investor Presentation

The transaction is fully supported with a $38 billion underwritten bridge facility and is expected to generate at least $19 billion in annual cash flow. The company affirms its commitment to maintaining an investment grade credit rating, and expects it'll be able to use Humira cash flow to cover its debt expenses. The company is committed to reduce debt by $15-$18 billion before the end of 2021.

Putting this financial position into picture, here's what we have.

AbbVie is entering the transaction with roughly $25 billion in net debt, while Allergan is entering the transaction with a similar amount of net debt. Let's call it, for simple math purposes, $50 billion in net debt. At the same time, counting the cash consideration of the deal and Allergan's outstanding shares, the cash component of the deal is roughly $40 billion.

That means the combined debt of the company will be $90 billion and the combined outstanding shares will be roughly 1.8 billion. That makes the annual dividend expenses will be roughly $7.7 billion annually. Let's do the math assuming $8 billion in annual dividend expenses so that we have room for some expenses. We'll be starting using AbbVie's plan to pay off $15-$18 billion in debt in 18 months.

For reference taking the $19 billion cash flow of the combined company, and $8 billion in annual dividend expenses, paying off $11 billion in debt annually adds up perfectly. More importantly, it shows AbbVie's commitment to paying off debt, which we can use in our assumptions. We're assuming here that the company's 10% in annual revenue growth will translate to similar cash flow growth until 2023.

Another indication of the company's plans to pay-off debt are that it has stated it plans to use cash flow from Humira to pay off all of its debt.

Year

Year-end Debt

Cash Flow

Dividend

2019

$85 billion

$19 billion

$7.7 billion

2020

$68 billion

$21 billion

$8 billion

2021

$56 billion

$23 billion

$8 billion

2022

$44 billion

$25 billion

$8 billion

It's important to note here that dividends will decrease rapidly. The debt increases, estimated at roughly $16.5 billion over the next 18 months, would be enough to save the company roughly $0.8 billion in annual interest expenses. As a result, we can assume any decrease in interest expenses will be made up for by the company increasing its dividends.

As we can see, the combined company's financial position quickly becomes very strong, as the company's cash flow continues to grow and it remains committed to paying off dividends.

Conclusion

AbbVie and Allergan announced a major acquisition. AbbVie shareholders reacted poorly as a result of the massive acquisition price, the acquisition is being paid mostly in cash, and is almost as large as AbbVie. However, there are major benefits to shareholders here, which I think will reward shareholders incredibly well. Namely, it helps to solve the reliance of the company on Humira income.

As a result of the acquisition, AbbVie will be able to keep up its market leading dividend, and to keep increasing it going forward. The company will be able to continue increasing its revenue, which will support its dividend, and provide it with more than enough cash flow to cover the obligations of this acquisition. I highly recommend investing in AbbVie now for the long-term.

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Disclosure: I am/we are long ABBV, AGN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

 

 

Information source: here

TAG: AbbVie Allergan Pfizer long-term investment combined company

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