Why AstraZeneca Will Disappoint In 2013

Mar.17.13 | About: AstraZeneca Group (AZN)

2013 will be a year of prosper for some pharma companies, but it also will be a year of turmoil for some of large pharma (see my Previous article about Eli Lilly). An organization that I believe will be lose shareholder value in 2013 and beyond is AstraZeneca (AZN). While 1 year performance has been flat (up 1%), 3 month performance is -3%, and I foresee a long term continued slide for AstraZeneca. Declining revenues, a lackluster pipeline, and increased R&D expenditure will affect EPS and PPS for 2013. While AstraZeneca can be considered "cheap" with a P/E of 9.2, or less than half that of Pfizer (PFE) and one third of Bristol-Myers Squibb (BMY), many investors are staying away due to its outlook.

Q4 2012 revenues were down 16% YOY from 2011 and full year 2012 revenues declined 17% to $27.93 billion. Full year operating profits also declined 36% to $8.15 billion. Q4 revenues were down worldwide including a 23% decline in the US, a 16% decline in Western Europe, and a 9% decline in the ROW. Full year EPS were also down 29% with a constant exchange rate. One area where AstraZeneca has strengthened during 2012 was with its total equity and free cash. Total equity and free cash slightly increased to $23.95 billion and $7.70 billion respectively even with the joint acquisition of Amylin with Bristol-Myers Squibb. Core gross margins in 2012 also slightly declined YOY and with increased R&D expenditure/slightly declining revenue in 2013, I would expect margins to decline to the 19% range.

Job cuts

AstraZeneca has cut 15,500 net jobs since 2006, which has reduced overhead, but is certainly not the sign of a healthy company. While some of these jobs were outsourced to CROs, thus reducing the costs for similar work, many were also sales-based jobs. The C-level execs at AZ would like us to think this has made them much more efficient, but the loss of over 10,000 sales jobs will ultimately affect revenues. While many of these positions were based around the sales of Seroquel/Nexium and may not be necessary after patent losses, performance and ultimately morale within the company will be affected. This will affect productivity and revenue in the long term all the way down the corporate structure. Furthermore, AZ executives have not ruled out further cuts beyond that in their restructuring plan, which will add further uncertainty to the company's future. Going forward, R&D costs are also expected to slightly increase in 2013, which will affect margins.

Increased 2013 Tax Guidance

In 2012, AstraZeneca paid 18% taxes for the full year compared to 19% during 2011. In 2013, the rate will increase to around 23%, which will further affect cash flow and revenue. The reported tax rate for 2012 benefited from a non-taxable gain on the disposal of Astra Tech and a favorable adjustment to tax provisions of $520 million on following the announcement in March 2011 that HM Revenue & Customs in the UK and the US Internal Revenue Service had agreed the terms of an Advance Pricing Agreement regarding transfer pricing arrangements for AstraZeneca's US business from 2002 until 2014. While the Swedish corporate tax rate is declining in 2013 to 22%, 2013 guidance is still above that of 2012. Heading into 2013, AZ expects this increased tax guidance to cause a 53 cent per share headwind.

Continued Loss Of Revenue Due To Generics

2012 revenues for AZ were heavily affected by the loss of exclusivity for several products. While this happened for several companies including Eli Lilly and Bristol-Myers Squibb, AZ has not positioned itself as well to make up for these losses. Seroquel IR's patent loss combined with regional losses for Atacand, Crestor, and Nexium combined to cost AZ about $4 billion in 2012.

Q4 sales for Crestor, AZ's best selling product, were down 6% worldwide towards that of 2011 even as Japanese sales increased. Generic Lipitor will continue to affect sales as patients transition to a cheaper alternative. With less than a full year of generic Lipitor in most markets, I would anticipate that full year sales of Crestor come in at around $5.5 billion. US total prescriptions were only down 6% in 2012, and ROW sales heavily affected revenue and will continue to do so in 2013. Crestor has become the most popular statin in Japan, but the loss of exclusivity Canada in March 2012 will continue to affect ROW revenues.

Furthermore, the fact that Crestor patents have been found invalid in Australia may open up a wave of generics coming to market sooner than expected, thus affecting Crestor sales worldwide. Even if only the established ROW is affected by this loss, AstraZeneca could lose an unexpected $1 billion in revenues in the coming 24 months. Combining this and the generic Actavis product that could be coming to the US in 2013 (FDA granted tentative approval to Watson's rosuvastin zinc NDA in August 2011), Crestor, AZ's top selling product, could potentially lose 80% its revenues within 2 years.

Seroquel XR had a 4% growth in 2012 at CER, but the IR version of the drug saw a 70% loss in revenues during the year. This equated to a total of a $2.95 billion loss for Seroquel ($64 million increase for XR and $3.026 billion loss for IR) In December 2012, Seroquel IR prescriptions dropped to only 2.8% of the total quetiapine prescriptions, meaning that generics have taken the bulk of the market. Atacand, Merrem, and Nexium also saw revenue declines in 2012 with the loss of patent on the first two. Nexium will become an OTC within 2 years if approved by the FDA, but AstraZeneca will lose revenue either way as the partnership with Pfizer will provide nowhere near the $4 billion they are currently bringing in on Nexium.

Key Brand Revenue 2013 Estimates (In Million USD)
Crestor 5500
Symbicort 3360
Seroquel XR 1600
Faslodex 785
Iressa 670
Onglyza 400
Byetta 250
Brillinta 275
Nexium 3200
Seroquel IR 700
Atacand 500
Merrem 350
Forxiga 200
Click to enlarge

AZ's Plan for Growth

AstraZeneca has 5 growth platforms that they believe will ultimately allow them to recoup revenues lost by recent patent expirations. These are diabetes drugs, Brilinta, respiratory meds, emerging markets and the Japanese market. Forxiga, a first-in-class SGLT2 inhibitor that works independently of insulin should be a blockbuster drug by 2015 that will help drive the growth in metabolics for AZ and BMY. Forxiga is licensed on a 50/50 basis with Bristol-Myers Squibb after their joint acquisition of Amylin in 2012. In this acquisition, AZ also has 50/50 rights with BMY on Byetta, Onglyza, Bydureon, and several other products. Byetta and Onglyza have been under scrutiny during the past several weeks as the FDA believes that their use may cause an increased risk in pancreatitis and pancreatic cancer. While this has not been proven to date, it will certainly change physician prescribing habits. Januvia, a Merck & Co. (MRK) is under similar investigation, but since it is an important first-line therapy and its safety profile is very well known.

Forxiga will see competition from Johnson and Johnson's Canagliflozin, a similar SGLT2 inhibitor, which will most likely receive approval for marketing in the USA first, as the FDA Advisory Committee recommended its approval in January. Forxiga and Canagliflozin stand out from other type II diabetes drugs due to the fact that they not just lower serum blood glucose levels, but can help reduce weight more effectively than other type II diabetes drugs. Forxiga was also found to have a low occurrence rates of adverse events seen in patients who take other type II diabetes drugs (3.5% hypoglycemia, .4% increased serum creatinine levels, and increased UTI rates). Canagliflozin may beat Forxiga in total market share is it will most likely be on pharmacists' shelves before Forxiga is approved in the USA. Also, Forxiga was shown to possibly increase risk of certain cancers, which will stop some physicians from prescribing it until further studies are completed.

I anticipate EU sales for Forxiga to be more bullish than others with a total of $500 million for 2013 split between BMY and AZ. If FDA approved, which it should be, revenues will be negligible in the USA for 2013. Forxiga may also be able to take advantage of Canagliflozin's potential to cause cardiovascular events. J&J is studying these events in its CANVAS trial, but during the first 30 days, there were 13 CV events towards 1 in the placebo group. Furthermore, there is some concern from thought leaders on the drug's efficacy impairment in patients with renal insufficiencies, which have not been seen in Forxiga patients.

Brilinta, a platelet aggregation inhibitor approved in 88 countries, is targeted by AZ executives to be one of their growth platforms for the future. It is a direct-acting inhibitor of the adenosine diphosphate receptor P2Y12 that has a much more rapid onset (several hours towards several days for Plavix) and more pronounced platelet inhibition than clopidogrel (Plavix). The drug is indicated for the prevention of thrombotic events in patients with ACS or MI with elevation in their ST complex. In PLATO, it was shown that Brilinta reduced death from vascular causes to 9.8% compared to 11.7% in Plavix patients. MI's were also lower in the Brilinta group with a 5.8% occurrence towards 6.9% in Plavix patients. Brilinta was shown to increase non-procedure-bleeding, which has prevented the use by some physicians to date and partially contributed to weak sales.

While Brilinta did demonstrate superior efficacy at reducing cardiovascular events in patients with ACS versus clopidogrel, the clinical trials did not perform as well as either of the 3 companies may have liked. Brilinta was approved with a narrower indication than Plavix due to increased risks, limiting its use to the acute care setting and a limited window of follow-up treatment post-hospital, whereas Plavix is used in the acute and chronic care settings. Furthermore, many elderly patients (the majority of the patients taking this) have renal deficiencies, which is a contraindication of Brilinta. Plavix does not have this issue, which allows for a wider patient population to be captured. I am not as bullish on Brilinta's future, as generic Plavix has and will continue to affect sales figures. If an expanded use is approved, Brilinta will certainly expand its revenues and could become the blockbuster drug that AZ hopes it would.

Brilinta was approved on July 20, 2011, and only reached annual sales of $89 million in 2012. This is far short of the blockbuster status that was targeted at the launch of the drug. Part of this is due to the price of Brilinta towards the now generic Plavix. Plavix can be purchased by wholesales for around $1 per day's worth of medication towards Brilinta, which costs $7.25. Brilinta shows optimal efficacy in more patients, but with its still unknown bleeding profile in the real world clinic, Brilinta will not gain widespread use. Brilinta has continued to take more market share in hospitals and I believe this will continue as its rapid action allows for quick response, thus reducing overall patient care costs.

Japan is targeted to be an area of growth for AstraZeneca in the near future, but even with Crestor being the top selling statin in this region, revenues were down for 2012 here. There were significant advancements in regulatory approvals in this area with Symbicort SMART, Nexium low dose aspirin, Symbicort Turbuhaler, Oxis, and Nexium regulatory submission. Brilinta is also scheduled for regulatory submission in the 2nd half of 2013, but sales will be negligible there through 2014.

AZ's pipeline is rather weak for a company of its size with only 2 drugs with high revenue potential (naloxegol and fostamatinib) in Phase III trials. Naloxegol, partnered with Nektar Theraputics (NKTR), had results recently partially released in a PR. The results partially disclosed study results and informed investors that the main adverse events around the drug were abdominal pain, nausea, and diarrhea. Some cardiovascular serious adverse events (SAEs) were also seen in the KODIAC-08 trial. The advantage of naloxegol is that it would be an oral option for the Opoid Induced Constipation market. Fostamatinib also reported results for its phase IIb study in December. The OSKIRA-4 trial for fostamatinib met its primary but not secondary endpoint. The trial basically proved that fostamatinib was non-inferior to placebo, but not superior to Abbvie's (ABBV) Humira. Additional results will most likely be needed by the FDA to prove fostamatinib will be worth for marketing approval.

Only vaccines and respiratory therapeutic area products saw growth worldwide in 2012 for AstraZeneca. Even with the growth in emerging markets, Brilinta revenues, and AZ's diabetes products, a major change will be needed for revenues to be maintained and the company to provide shareholder gains. I believe a short-term dividend cut and M&A will be required as AZ's pipeline itself is not strong enough to bring earnings to shareholders. I anticipate that key brand revenues will be $17.34 billion in 2013, which is slightly lower than that expected by the AZ execs. 2012 key brand revenues was $19.35 billion in comparison.

I foresee AZ revenue declines in the 15-20% range for 2013, which is higher than estimated by the company's execs. This is mainly because they do not want to provide such low guidance and during their 2012 earnings call had not yet known about the nullifications of Crestor patents in Australia. I don't believe that AstraZeneca is in danger of losing all its revenues during the next few years, but without an acquisition or several partnerships, revenues could decline an additional 35% by 2015.

Disclosure: I am long MRK. 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.