Abbott Labs (NYSE:ABT) reported its earnings for Q2 2013 on July 17. It was another good quarter for the company as the Nutritionals and Diagnostics divisions, which together account for nearly half of the value in the company according to our estimates, continued to grow at impressive rates and drove total sales higher. Abbott’s net revenue grew by 4.2% year-over-year on an operational basis as the Nutritionals and Diagnostics registered operational sales growth of 8.4% and 7.6% respectively.
Other divisions such as Generic Pharmaceuticals, Vascular Products, Diabetics Care and Medical Optics remained more or less stagnant. Generic Pharmaceutical and Medical Optics sales increased by 0.2% and 2.2% respectively while Vascular and Diabetics product sales declined by 0.1% and 0.7%. Another positive for the company is the fact that its operating margins are expanding due to its focus on lowering its operating expenses. Abbott’s second quarter SG&A and R&D expenses declined by 5.5% and 2.2% year-over-year, even though the company is in expansion mode. The company is building three new manufacturing plants around the world, expanding its distribution system in emerging markets and is on track to launch approximately 70 new nutritional products by the end of this year.
Overall, we remain bullish on the company’s prospects and are revising our price estimate for the healthcare giant from around $38 to $40 per share, implying around 15% upside to the current market price. The major driver for the increase in our price estimate was the downward adjustment made to our SG&A forecast for the next few years. Abbott’s SG&A expenses have been declining for the past few years, and the significant declines in the last two quarters suggest that the trend is likely to continue in the near-term. After that, we expect the figure to gradually increase as the global economy improves.
Nutritionals and Diagnostics
Nutritionals and Diagnostics together account for over 50% of Abbott’s revenue. Both of these divisions have been reporting solid growth in sales due to strong demand from emerging markets. Countries like China, India, Russia and Brazil continue to grow at a faster rate than most developed economies and have a rapidly growing middle class. For example, McKinsey & Company predicts that the urban-household income in China will double by 2022 and that the majority of its urban consumers will earn between $9,000 and $34,000 annually by that time.  As the middle class continues to grow in these markets, people are likely to increase their focus on healthy living and increase their discretionary spending on nutritional products (food supplements) and point-of-care diagnostics.
Abbott knows this and has been preparing to capture a larger market share in these countries. The company already has a strong presence in China, with one nutritionals plant in Guangzhou and another under construction in Jiaxing.  In India, it recently opened a nutritional R&D center to develop affordable nutrition products for the country’s vast population. In the diagnostics business, it is developing six new platforms across the Core Laboratory, Molecular and Point of Care categories in order to improve customer service, improve productivity and efficiency and cut costs. 
Recent Acquisitions Could Boost Vascular And Medical Optics Market Shares
The company’s management is cognizant of the fact that some of its stagnating businesses could do better and is working towards expanding its product line in those segments both organically and through acquisitions. It acquired two privately-held companies in the vascular and medical optics segments prior to the earnings call:
- IDEV Technologies is a stent manufacturing company that Abbott purchased for $310 million, net of cash and debt. Its flagship stent, called SUPERA Veritas, already sells in Europe for treating blockages in blood vessels due to peripheral artery disease (PAD), a sickness that ails 27 million people in Europe and North America. In the U.S. this stent is under FDA review for the treatment of the superficial femoral artery (SFA), which is “the largest and fastest-growing segment of the peripheral market driven by the rising rates of diabetes and obesity”.   The acquisition is expected to close by the end of this year and complement Abbott’s existing vascular portfolio.
- OptiMedica Corporation is an ophthalmic device company that Abbott bought for $250 million, net of cash. Additional payments totaling up to $150 million may also be made upon achieving certain milestones. The company’s flagship product, Catalys, allows surgeons to replace manual steps in cataract surgery with computer-guided laser technology and provides Abbott an entry point in the large and fast growing laser cataract surgery market. According to Abbott’s nearly 22 million surgeries will be performed around the globe in 2013. This number is likely to increase due to the aging global population. 
- Mapping China’s middle class, McKinsey & Company, June 2013 [↩]
- CHINA: Abbott to open Chinese infant nutrition plant, Just Food, November 14, 2012 [↩]
- SEC Filings, Abbott Labs, April 17, 2013 [↩]
- Abbott to Acquire IDEV Technologies to Expand Global Peripheral Technology Portfolio, Abbott, July 15, 2013 [↩]
- Abbott Laboratories’ CEO Discusses Q2 2013 Results – Earnings Call Transcript, SeekingAlpha, July 17, 2013 [↩]
- Abbott to Enter Laser Cataract Surgery Market through Acquisition of OptiMedica, Abbott, July 15, 2013 [↩]