Complaining about the valuation on Novo Nordisk (NVO) shares is a fruitless exercise. It's one of the strongest growth stories in healthcare, and so long as the company continues to execute, those premium multiples are likely to stay in place. I don't really embrace the "buy high, sell higher" philosophy, but it's difficult for me to ignore the growth and potential at this highly-focused biopharmaceutical company.
Another Quarter Of Exemplary Growth
There aren't many growth stories in healthcare that compare with Novo Nordisk, certainly not when you're talking about companies with more than $5 billion in annual sales. And yet, even while the diabetes market is pretty closely monitored by analysts, Novo still delivers beat-and-raise quarters.
Revenue rose about 22% this quarter as reported in Danish krone and about 14% in local currencies. Growth was led by the large diabetes franchise, where revenue rose 24% as reported or 15% in local currency. NovoSeven saw reported sales growth of 15% this quarter, while Norditropin revenue rose 22%.
Novo Nordisk continues to post impressive profitability as well. Gross margin improved about a point and a half from last year, while operating income jumped 45% and beat the average sell-side guess by more than 15%.
Plenty Of Good Data
For the most part, I'd say that Novo Nordisk is a strong story that continues to get stronger.
Although the company has continued to run into review delays with the FDA, the data on degludec looks very strong - maybe even strong enough to suggest that degludec will be as much of an improvement on Sanofi's (SNY) Lantus as Lantus was over the state of the art at its beginning. While Lilly (LLY) is working on a Lantus biosimilar and Sanofi is developing a next-gen Lantus, this looks like Novo's race to win at this point.
Likewise, the data on Novo's Victoza-degludec combination is not only encouraging, but stronger than the data seen to date from Sanofi's Lantus-lixisenatide combination. This ought to be an interesting product to watch. Bristol-Myers (BMY) and AstraZeneca (AZN) now have an excellent GLP-1 platform but no insulin, while Sanofi and Lilly have solid insulin platforms but less impressive GLP-1 drugs.
Last and not least, the phase two data on semaglutide, Novo's longer-acting GLP-1 drug, has been encouraging. I do worry that the company will be late to market here, but physician/patient adoption of the Victoza/degludec combo could mitigate that.
Not Everything Is Perfect
Novo Nordisk is not a flawless company or stock, though I'll admit that its primary problems don't look so threatening as at other biopharmaceutical companies.
For starters, trial data on its new clotting factor drug vatreptacog alfa showed some discouraging immune response. While I know Novo bulls will try to talk down the significance of the data (not that many patients, not that serious, etc.), the fact remains that the FDA and docs take immune response in recombinants pretty seriously. Although I don't think Baxter (BAX), Pfizer (PFE), Biogen Idec (BIIB) or other recombinant players will take away Novo's business here any time soon, it does hamstring the company's non-diabetes growth story.
Along similar lines, I do wonder if the company is under-investing in its future. I like the early-stage anti-inflammatory pipeline and the very early-stage oral insulin opportunities. That said, I do wonder if the company would benefit from investing more into research lines like SGLT-1/2 inhibition or other emerging segments of Type 2 diabetes care.
Of course, as an owner of Lexicon Pharmaceuticals (LXRX), a company with a potentially very interesting dual SGLT-1/2 inhibitor, I'd certainly be happy to see Novo Nordisk patch this gap with a licensing deal or acquisition. My concern, though, is that the company finds itself in a situation like Forest Labs (FRX) or Amgen (AMGN) where it thrives with a highly-focused business model but ultimately finds that it under-invested in opportunities to broaden the portfolio.
The Bottom Line
I still have my issues with Novo Nordisk's valuation, even though I fully expect to hear from shareholders talking about how much they've made from these shares and how they don't care about valuation so long as the stock keeps going up. Fair enough. But as I said in the open, I don't really do momentum investing and I have to stick to the philosophies that work for me.
The trouble with Novo Nordisk is that it could be as big as Lilly in 2022 (and more than half as large as Sanofi) in 2022 and still be overpriced today. Compound annual free cash flow growth of more than 10% is difficult for a company of Novo's size, but it takes close to 13% just to equal today's value - and while a 3% difference in annual growth doesn't sound like much, it adds up over a decade.
Even at these high levels, I wouldn't be shocked if Novo Nordisk got a bid from a Big Pharma player. Insulin throws off the sort of lucrative free cash flow that companies adore and the approval of degludec (whenever that may happen) would certainly de-risk the story. So, although I can't really generate a fundamentals-driven price target that shows much upside to the shares, common sense tells me not to bet against this company today and to be opportunistic if a sell-off comes.
Disclosure: I am long LXRX.