October 26, 2012 / 2:11 PM / 7 years ago

TEXT-S&P cuts Abbott Laboratories ratings

Overview
     -- U.S. diversified health care products manufacturer Abbott Laboratories
 has disclosed details of the spin-off of its branded pharamaceutical 
operations into a new company, AbbVie Inc.
     -- The absence of the branded pharma business diminishes Abbott's scale 
and diversity while the higher leverage modestly weakens credit protection 
measures.
     -- We are lowering our corporate credit and senior unsecured ratings to 
'A+' from 'AA', and affirming the 'A-1+' short-term rating. The ratings are 
removed from CreditWatch, where they were placed with negative implications on 
Oct. 19, 2011.
     -- Our stable outlook reflects our expectation that future financial 
policies will be consistent with past policies in that leverage will only 
rarely, and briefly, exceed 2x and more typically be in the 1.0x to 1.5x 
range. While we expect the company to be acquisitive, only very large 
acquisitions would affect the business risk profile.

Rating Action
On Oct. 26, 2012, Standard & Poor's Ratings Services lowered its corporate 
credit and senior unsecured ratings on Abbott Park, Illinois-based Abbott 
Laboratories to 'A+' from 'AA', and affirmed the 'A-1+' short-term rating. The 
ratings are removed them from CreditWatch, where they were placed with 
negative implications on Oct. 19, 2011.

Rationale
The ratings on Abbott reflect our assessment of the company's business risk 
profile as "strong" and the financial risk profile as "modest". In our view, 
the absence of the high-margin, high-cash flow branded pharmaceuticals 
business will result in a somewhat less diverse operation, with substanitially 
lower cash flow. However, we still view the business risk profile as strong, 
reflecting:
     -- Product and geographic diversity;
     -- Leading market positions;
     -- Growth prospects enhanced by emerging market focus;
     -- Relatively high barriers to entry;
     -- Commodity-like nature of some business segments;
     -- Low profitability metrics, such as operating margin and return on 
capital, relative to peers;
     -- Technology risk;
     -- Regulatory risk; and
     -- Competitive and pricing pressures.

The financial risk profile reflects generally conservative financial policies 
demonstrated by initial leverage that is close to, but outside of the range 
that is typical for minimal financial risk. Improvement or maintenance of this 
risk profile depends, in our view on the size and pace of acquisitions.

Abbott Laboratories has positions in a range of healthcare product categories, 
including pediatric and adult nutritionals, branded generic pharmaceuticals 
that mainly address emerging markets, diagnostic instruments that address a 
range of markets and products that address conditions affecting the vascular 
system as well as other units. We believe the XIENCE DES stent platform 
provides growth potential, as line extensions build on its market-leading 
position but note that Abbott lost its stream of royalty payments in 2012 when 
Boston Scientific Corp. commercialized its self-manufactured PROMUS in the 
U.S. We are expecting mid-single digit revenue growth in 2013 reflecting, in 
part, the absence of the recurring items and modest recoveries in most 
business units. We expect the corporate EBITDA margin to improve to the upper 
20% range. This still remains somewhat weaker than peers, to the extent that 
we can isolate and compare the various business segments. Additionally, while 
we expect return on capital to improve to about 14% over the next few years, 
it will remain below peers, including Becton Dickinson & Co. (21%), and Baxter 
International Inc. (26%).

We believe Abbott's product portfolio offers diversity on many levels; in 
addition to product and geographic mix, there is a mix of insured versus 
self-pay products, and a variation of technology intensity. While we believe 
that high sales into emerging markets pose some risk (such as country and 
regulatory regime risk, transfer and convertibility risk, and foreign exchange 
risk) we believe that the benefits of further geographic diversity and strong 
growth prospects outweigh these negatives for the foreseeable future. Given a 
still-weak global economy, particularly in developed markets, we believe 
emerging market penetration will likely be the most significant contributor to 
revenue growth in the near term.

We believe diversification meaningfully enhances the company's corporate 
business risk profile to strong, above what a weighted average of each 
segment's business risk might suggest. We view the nutrition business as being 
the most consumer-oriented, particularly in the adult nutrition market, which 
is roughly one-half of nutrition segment sales. We believe that, while the 
branded pharmaceutical business in India may be more stable than generic 
pharmaceuticals, its products do not enjoy patent protection, so this business 
has greater business risk compared with proprietary pharmaceuticals.

Abbott should maintain its competitive position through product enhancements 
and next-generation systems, particularly in nutrition, core diagnostics, and 
diabetes. As the name implies Innovation-driven businesses should provide 
opportunities for higher technology, new product introductions with attendant 
higher EBITDA margins and growth potential. The pipeline includes products 
such as ABSORB, a drug eluting bioresorbable vascular scaffold and MitraClip, 
a percutaneous valve repair system. Due to its unique characteristics, ABSORB 
could become a leader in the $4 billion market for drug-eluting stents. 
MitraClip, a pioneering product in heart valve repair may provide a new, safer 
treatment for a poorly served patient population, estimated to be as large as 
4 million. Additionally, numerous new molecular diagnostic products, including 
oncology and infectious disease assays as well as improved instrument systems, 
are currently under development.

We expect Abbott's conservative financial policies to continue, with the 
potential for a "minimal" financial risk profile. However, we are currently 
revising Abbott's financial risk to modest, reflecting leverage of 1.6x and 
FFO to debt of 51% at the end of 2013. Abbott has used acquisitions, both 
strategic and opportunistic, to enter new markets and enhance product 
offerings, and we expect this growth strategy to continue. However, we do not 
expect significant, transformational acquisitions but rather a series of 
modest sized purchases. Acquisitions requiring less than $3 billion in debt 
are unlikely to engender downgrade risk.

Liquidity
Liquidity is deemed to be "exceptional" and supportive of an 'A-1+' commercial 
paper rating:
     -- We expect discretionary cash flow to be close to $1.9 billion at the 
weakest point in the three-year projection period.
     -- We expect liquidity sources (consisting primarily of cash of $6.0 
billion and free operating cash flow of at least $2.6 billion in 2013) will 
exceed uses by 2x over the next two years, including about $900 million common 
stock dividends and modest share repurchases that roughly equal share 
issuances related to employee programs.
     -- We expect liquidity sources to continue to exceed uses, even if EBITDA 
were to decline by 50%.
     -- Per the refinancing that will be associated with this transaction; we 
expect Abbott will have greater than a 30% covenant compliance cushion with 
the sole $7 billion consolidated net worth covenant. 
     -- We believe the company would be able to absorb a high-impact, 
low-probability event.
     -- We believe that the company has well-established bank relationships 
and solid access to capital markets.

Outlook
The stable outlook reflects expectations that, despite expected sales growth 
and margin improvement, the modest financial risk profile will be little 
changed, as we believe management will continue acquisitions to supplement 
sluggish organic growth. We believe that downside risk is mitigated by 
portfolio diversity, good cash flow and liquidity. A lower rating would 
require incremental debt in excess of $4.0 billion, which would push leverage 
beyond 2x for more than 2 years. An upgrade would be predicated on sustained 
achievement of minimal credit measures. Abbott would need to abstain from 
acquisitions and apply capital to permanent debt reduction for the next two 
years to achieve this level of credit quality, with funds from operations to 
debt above the 60% level and debt to EBITDA below the 1.5x needed for a 
minimal financial risk profile.

Related Criteria And Research
     -- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 
2012
     -- Methodology: Short-Term/Long-Term Ratings Linkage Criteria For 
Corporate And Sovereign Issuers, May 15, 2012
     -- Methodology And Assumptions: Liquidity Descriptors For Global 
Corporate Issuers, Sept. 28, 2011
     -- Use Of CreditWatch And Outlooks, Sept. 14, 2009
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List
Downgraded; CreditWatch Action; Rating Affirmed
                                        To                 From
Abbott Laboratories
 Corporate Credit Rating                A+/Stable/A-1+     AA/Watch Neg/A-1+
 Commercial Paper                       A-1+               A-1+/Watch Neg

Downgraded; CreditWatch Action
                                        To                 From
Abbott Laboratories
 Senior Unsecured                       A+                 AA/Watch Neg

Abbott Japan Co. Ltd.
 Senior Unsecured                       A+                 AA/Watch Neg
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