The New Abbott Labs Is Leaner, but Needs Better Execution

NEW YORK (TheStreet) -- Investors had mixed feelings when Abbott Labs (ABT) decided to spin off its drug business to a new entity called AbbVie (ABBV).

While there were certainly logical reasons for breaking up the two companies, there was also plenty of doubt because bigger rivals such as Johnson & Johnson ( JNJ) had resisted doing the same thing, even though some investors demanded it. In fact, Johnson & Johnson has actually gotten bigger after its acquisition of Synthes, which has now brought JNJ plenty of growth.

For Abbott, however, the situation is far different. The post-split era brought with it plenty of expectations that the remaining portion of Abbott, which consists of the devices business, would be stronger and leaner. So far, investors have only seen the latter. That's not to suggest that Abbott is struggling. But investors haven't been content with low single-digit growth, either.

A Broadly Positive First Quarter

Revenue was up 1.8% year over year to $5.38 billion, slightly below consensus estimates of $5.42 billion. While the soft sales were adversely impacted by a 1.7% currency rate, not much can be said, however, about Abbott's sequential performance, because the company's fourth-quarter report included portions of the spun-off AbbVie business.


As has been the case for some time, Abbott's Nutritional business, which posted a 14% surge in emerging markets, was again the primary growth-driver this quarter. Likewise, the Diagnostics division did well -- growing more than 4% year over year. Management said that the better-than-expected performance was due to strong growth in the company's Point of Care Diagnostic and Core Laboratory products.

Unfortunately, though, these solid performances were negated by poor results in Abbott's Medical Devices business, which declined by almost 5% year over year (-3% operationally). This is a concern because the devices business is Abbott's largest division.

Not to suggest that management is incapable of growing the business, but weak device sales have also been an issue for larger names like Johnson & Johnson. In fact, this was the reason Johnson & Johnson went after Synthes. While Johnson & Johnson is now posting double-digit devices growth both domestic and internationally, not much of that growth is organic.

So Abbott's devices struggle, while disappointing in its own right, doesn't necessarily reflect poor execution as much as it appears to be a marketplace trend. Plus, given that the company is now only one quarter removed from the AbbVie spin-off, management deserves more time to get this situation corrected. It didn't impact profitability much because Abbott was able to beat consensus EPS estimates, which also arrived 2 cents higher year over year -- excluding AbbVie.

Diversification Still an Issue

Aside from the weakness in the devices business, Abbott no longer appears as diversified as it should following the AbbVie spin-off. It's certainly impressive that the nutritional business is performing so well, growing at 9% both on a reported and operational basis. However, this means that nutrition now accounts for almost 32% of Abbott's total revenue.


The nutrition business can be expected to keep performing well, but this is where better diversification or an improved devices business would alleviate concerns. Investors are encouraged to show some patience here; another quarter or two of underperformance in devices should raise the threat level.

Management, however, seems confident about Abbott's future prospects -- guiding full-year earnings per share to between $1.98 to $2.04, up from $1.74 last year, with second-quarter EPS expected to be between 43 cents and 45 cents -- in line with Street estimates on mid-single-digit revenue growth.

Bottom Line

There are several areas that Abbott's management need to address. However, the stock, which is trading at a P/E of 11, or half that of J&J's, presumes that these obstacles are too much to overcome. Although the stock appears cheap on these metrics, shares are not as attractive based on fiscal 2014 estimates, which pushes the P/E closer to 16. I'm confident that management will execute in the right direction, but logic would suggest that investors stay away until there's more evidence they have things under control.

At the time of publication, the author had no position in any of the stocks mentioned.


This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Richard Saintvilus is a private investor with an information technology and engineering background and the founder and producer of the investor Web site Saint's Sense. He has been investing and trading for over 15 years. He employs conservative strategies in assessing equities and appraising value while minimizing downside risk. His decisions are based in part on management, growth prospects, return on equity and price-to-earnings as well as macroeconomic factors. He is an investor who seeks opportunities whether on the long or short side and believes in changing positions as information changes.

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