Seeking Alpha
Long only, short only, growth at reasonable price, contrarian
Profile| Send Message|
( followers)  

After losing the exclusivity of some of its drugs Merck (NYSE:MRK) now strives to regain its market share through the launch of a new business and by introducing new drugs. The patent expires unfavorably impacted the company's third quarter financial performance and decreased worldwide sales by 4% to $11 billion.

The drug hit the hardest by patent expiry was SINGULAIR, effective treatment for chronic asthma and relief of symptoms of allergic rhinitis. The drug's YoY sales declined by 53% reaching $280 million compared to $602 million during the third quarter of 2012. Other drugs that lost market exclusivity include MAXALT, TEMODAR and COZAAR/HYZAAR. Besides that, ZILMAX, the company's feed supplement for cattle was voluntarily suspended in the United States and Canada and caused a decline in the sales of the animal health segment.

Merck is launching a new business focused on weight management and is planning to re-launch ZILMAX. The company's BRAVECTO received approval from the European Medicines Agency. Let us determine to what extent these launches would impact the shareholder's return and the company's revenue growth.

Launch of a New Business

On December 20 2013, Merck announced that it would be introducing a new business line focusing on providing comprehensive, evidence-based weight management intervention for employers, hospitals, medical groups, and patients. For this purpose a new company was created called HMR Weight Management Services Corporation. The business will provide a complete package that will eventually help people reduce the risks of chronic illnesses like diabetes and cardiovascular disease.

In a clinical study the median weight loss for participants completing the program was 23 lbs. at 12 weeks and 28 lbs. at 26 weeks following two different programs. These results reflect the effectiveness of the programs.

The demand for the company's new programs is expected to rise based on the level of obesity problems in the US and worldwide. There was a dramatic increase in obesity in the United States from 1990 onwards. According to the Centers for Disease Control and Prevention, 35.7% of American adults are obese. Obesity leads to many problems including heart disease, stroke, certain type of cancers, and type-2 diabetes. These conditions raise the severity of obesity and also raise the demand for programs such as Merck's. So in my opinion the new business will add growth to Merck's top line.

Tablets for Dogs

In December, the company received approval from the European Medicines Agency to launch BRAVECTO, a chewable tablet for dogs used to kill fleas and ticks. Pet spending in Europe has highly increased so I expect that the demand for flea and tick control will also rise. The European pet industry is considered to be recession proof as people are becoming more concerned about the food, health and grooming of their pets. The spending is projected to rise further in future.

However, BRAVECTO has to face tough competition in the market as in September 2013, Sanofi S.A.'s animal health division Merial announced that it received approval for NexGard, a chewablepill for the treatment and prevention of flea infestations. So the company now needs to set attractive pricing for its drug to beat the competition.

Product Pipeline

Currently the company has 13 programs in Phase III which are being evaluated in multiple clinical trials and 9 programs under review. One of the company's drugs, GRASTEK, has received positive critique from the Food and Drug Administration while another drug NOXAFIL received approval from the FDA. Both of the drugs have strong demand in the market.

GRASTEK is used for the treatment of Timothy grass induced allergic rhinitis, with or without conjunctivitis, for both adult and pediatric patients. Incidences of upper respiratory allergies have continued to rise over the past decade and are posing a heavy burden on health care systems so the demand for drugs to combat these allergies are also rising. Similarly the incidence of invasive Aspergillos is in the US and other developed countries have increased because of its use in chemotherapy for cancer and transplant surgery and as an immuno suppressive therapy for autoimmune disorders. This will result in a raise in the demand for Merck's NOXAFIL drug.

Once all of these drugs enter the market they will easily add considerable growth to the company's future growth offsetting the negative impact of its current loss of exclusivity.

Full Year 2013 Outlook

Merck's management has narrowed the range of its full year 2013 GAAP EPS to be between $1.61 and $1.79 as in the first three quarters of 2013 YoY EPS declined by almost 30%. Full year sales are expected to decline by 5% to 6% from its 2012 levels with the tax rate to be in the range of 22% to 23%.

During the first three quarters of 2013, the company's net earnings declined 31% due to negative revenue growth, a lower gross margin and higher restructuring costs compared to the same period last year.

Shareholder's Returns

Although per share earnings declined during the first nine months of 2013 Merck's management raised the dividend income for investors. The YoY dividend income was raised by around 2.4%. For the fourth quarter 2013management announced it would further increase the per share dividends. The dividend during the fourth quarter would be $0.44 per share compared to $0.43 per share during the third quarter of 2013 showing a QoQ increase of around 2.3%. The full year 2013 dividend would be $1.73 per share compared to $1.69 per share in 2012.

Apart from that, the company made share buybacks worth $6.3 billion during the first three quarters of $6.3 billion compared to $1.4 billion in 2012. On May 1, 2013 Merck's management enacted a share repurchase program under which it indeed to buyback $7.5 billion shares within 12 months following the date of the announcement.

Final Thoughts

Merck could not perform well in 2013 due to its patent expires and higher restructuring costs. However, since the company has launched a new business and in the coming days will launch some of its new drugs I believe that the growth in its top line will return. The company's products in Phase III, after receiving FDA's approval and entering the market, would also add growth to the 2014 revenues, and this would make its earnings next year quite attractive compared to its 2013 earnings.

The company has a strong operating cash flow and it is paying higher returns to investors in the form of dividends and share buybacks so I recommend holding the stock.

Source: Merck Is Still Offering An Upside Potential