Novartis Moving Forward In Generics

| About: Novartis AG (NVS)
This article is now exclusive for PRO subscribers.

Novartis (NYSE:NVS) recently acquired approval from the U.S. Food and Drug Admin (FDA) for its Flucelvax, a seasonal flu medicine, the first vaccine based on cell-culture technology. The company has been working closely with the U.S. Department of Health and Human Services who has subsidized Novartis by $1 billion to further develop this technology. This encouraging news comes just four days after the Italian drug authority AIFA temporarily lifted the ban from Agrippal and Fluad. Italy, along with other countries such as Canada, Switzerland and Singapore put a halt on the sale of the two Novartis drugs about one month ago when unusual protein aggregates were reported in some of the batches but the ban was lifted after Novartis provided more information and no harmful side effects were reported.

Novartis also plans to spend more than $500 million on the construction of a new biotechnology production facility in Singapore which will become operational by 2016.

In its most recent quarterly filings, Novartis has reported a 7% drop in revenues and a 1% drop in EPS to $13.8 billion and $1.01 respectively. The decline has come due to falling sales as its Pharmaceutical unit's revenues dropped by 5% to $7.8 billion from the expiration of Diovan's patent during the quarter and the blood pressure control drug's replacement has been a disaster and no replacement is forthcoming from Novartis. The Consumer Health division saw a revenue decline of 22% to $938 million due to Diovan and the quality control issues which have kept the Lincoln, Nebraska plant from being re-opened. Further declines are also expected in the coming quarters. Similarly, Pfizer (NYSE:PFE) and Teva Pharmaceutical Industries (NYSE:TEVA) have both reported a drop in revenues on similar patent expirations.

While Teva went from making a profit of $916 million in the year-ago-quarter to the current loss of $79 million due to $670 million in patent litigation and $481 million as impairment, Pfizer's quarterly profit dropped by 14% YoY to $3.2 billion due to intense competition from generic drug manufacturers, such as Teva themselves. Pfizer's loss can be attributed to the patent expiration of its extremely successful cholesterol medicine Lipitor whose sales slumped by 71% YoY to $749 million. However, Pfizer still has other revenue generating medicines, such as Enbrel, Celebrex and Lyrica, which are performing well. The company is also planning a spinoff for its Animal Health unit which will feature an IPO under the name 'Zoetis' in H1-2013. Pfizer is also expected to pay $825 million in the resolution of several lawsuits.

On the other hand, despite the recent setbacks by Novartis, the company's fundamentals remain strong. It has a much lower debt/asset ratio than both Pfizer and Teva. Moreover, its stock has a much lower historic beta while it gives a higher yield, for those risk-averse investors who are looking for something approximating a positive real return with central banks purposefully pushing real rates negative. Almost 30% of its Pharmaceutical's revenues are now coming from new drugs which will guarantee a continuous stream of revenues in the coming years. Besides Flucelvax, the advance stage breast cancer drug Afinitor has been approved from both U.S. and E.U authorities and its impact on the sales will be apparent in the next filing.




Stock YTD








Current Ratio




























Nonetheless, this year will be remembered by Novartis as a series of missteps and quality control issues that one has to lay at the feet of company management. The Nebraska facility alone accounts for a quarter of Novartis's over-the-counter sales and its continued closure, coupled with the fact that the company has missed its own estimates of reopening the plant places the company is a difficult position. Pharmaceuticals, like banking, is a business built on very intimate trust as people value their life and their money more than other things. Food and drug safety are issues that when questions arise take a long time to rebuild consumer trust. Loss of trust in a bank results in a run and collapse. Novartis's CEO Joe Jimenez expressed his frustration when he said, "What I would like to do is stop making projections because we have proven that we're not able to accurately project."

It will be, however, in the generics market of Asian markets where Novartis will be generating good cash flow in the coming years which will protect that dividend yield. The model of government-protected drug monopolies is swiftly coming to an end, however. Asians will dominate the revenue streams of these companies and Asians have little respect for IP issues, so expecting the same protection from China as they've gotten from the E.U. or the U.S. going forward is a losing proposition. So, if Novartis can survive these hits to its reputation, between the plant in Singapore and their willingness to sell the same drugs out of patent for less than they did with patent puts them in a good position to supply the evolving middle class in emerging Asia.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.