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Morningstar | Abbott Delivers 1Q With Few Surprises; No Change to Our FVE

Abbott posted first-quarter results that fell slightly short of our revenue expectations, but we’re comfortable with our projections for solid underlying growth across Abbott’s four divisions in 2019 and are holding steady on our fair value estimate for now. Abbott faced substantial foreign currency headwinds but delivered strong 7% organic revenue growth, which coupled with good expense control added up to 160 basis points of improvement in quarterly operating margin year over year. We see little to change our narrow moat rating, especially as Abbott leverages its strengths in the nutritionals, diagnostics, and diabetes units.

Some of the standout products included the Freestyle Libre continuous glucose monitor and the MitraClip transcatheter mitral valve repair device, both of which delivered double-digit growth. We think Libre growth in international markets is now past its initial exponential rates off a smaller base and settling into more sustainable growth in the low 20s, trending down to the teens in coming years, supported by the spread of reimbursement. In the U.S., Libre remains in the earlier stages of adoption and we still expect growth in the low 30s this year. We’re pleased to see the firm has already shepherded its next-generation Libre 2 to the Food and Drug Administration and launched it in Europe. The user-friendliness of Libre and its compelling price should help sway more diabetics away from multiple glucose meter readings throughout the day.

We remain guarded about MitraClip, which is associated with a mix of factors. On one hand, the product recently received a new indication for treatment of functional mitral regurgitation, allowing Abbott to tap into the larger patient pool with congestive heart failure (versus patients with degenerative MR). Also, the results of the COAPT study make a strong case for MitraClip therapy over medication. On the other hand, the MITRA-FR study suggests the device ultimately has no effect on prognosis.

Thus, while we think Abbott is likely to see further robust MitraClip growth thanks to the new indication (especially if Medicare establishes reimbursement for the functional MR indication), we believe the product remains best suited for a subset of patients with certain valve anatomy. MitraClip is also hampered by procedure times that continue to be substantial, especially when compared with the transcatheter aortic valve replacement process. Furthermore, our analysis of MitraClip reimbursement for the degenerative MR suggests that the MitraClip procedure is unprofitable to hospitals--even more unprofitable than TAVR procedures. Having said that, we note that losing money on TAVR doesn’t seem to have stopped hospitals from starting up those programs.

MitraClip’s performance so far, on revenue growth and reimbursement, leads us to believe there is significant demand for TMV repair technologies. However, considering some of the specific drawbacks of the MitraClip device, if a competitive product is introduced that’s easier to use, faster to use, or better suited for more patients, we’d expect it to take share from Abbott. We think Edwards Lifesciences’ Pascal device could offer an attractive alternative. Since the product recently received regulatory approval in Europe, we’re keeping an eye on how much Pascal cuts into MitraClip’s performance in that market.

Finally, two additional product lines stood out to us this quarter for competitive reasons. First, Abbott’s U.S. cardiac rhythm management business fell nearly 12% year over year. We’d already harbored concerns about Abbott’s ability to innovate in this market over the longer term. Additionally, we speculate that Medtronic’s creative risk-based contracting centered on its TYRX antibacterial envelope (which pulls through additional Medtronic CRM devices) offers a layer of insulation from competitors. Before this quarter, Medtronic had already signed up more than 20% of U.S. hospitals with the TYRX contracts. At the American College of Cardiology conference last month, new clinical data on TYRX demonstrated that the product reduces major infections by 40% and CRM pocket infections by 61%. We expect this impressive data to spur more hospitals into Medtronic’s risk-based contracts over the near and mid-term.

Second, the legacy St. Jude neuromodulation business has become rocky and could take some time to fix. For most of last year, this product line only grew in the midsingle digits, significantly lagging the neuromodulation market. In the first quarter of this year, U.S. neuromodulation revenue fell 10% year over year. We speculate that a number of sales reps have departed, along with key members of the U.S. neuromodulation marketing group in 2018. Abbott management contends it is seeking to increase the neuromodulation sales force by 40%-50%. However, we suspect the firm is primarily trying to rebuild its salesforce rather than adding to it incrementally.