Bristol-Myers - Nivolumab's Delays Warrant Friday's Sell-Off

| About: Bristol-Myers Squibb (BMY)
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Investors in Bristol-Myers Squibb (NYSE:BMY) have not been pleased with the fourth-quarter results. Notably the delay in the trials of nivolumab, the most promising drug in the company's pipeline have been a big disappointment.

With much of the current valuation being tied to the promising development of the drug, it is understandable why investors are disappointed and selling their holdings on Friday.

Fourth Quarter Highlights

Bristol Myers generated fourth-quarter revenues of $4.44 billion, up 6.0% on the year before, and ahead of consensus estimates at $4.32 billion.

GAAP earnings fell by 21% to $0.44 per share as net earnings fell from $925 million in the fourth quarter of last year to $726 million over the past quarter. The company did see operating profit growth as last year's GAAP earnings were "inflated" through a $411 million tax benefit which was tied to the write-off of drugs in development.

Note that on a non-GAAP basis, earnings rose by 9% to $0.51 per share.

Fourth Quarter Highlights

Revenue growth has been driven by the company's international operations, with US revenue growth stagnating to 1.2%. Still, the US accounts for roughly half of the company's revenues.

Growth was seen in all segments with exception of neuroscience revenues as sales of Abilify fell by 22% to $635 million. This was the result of a new agreement with partner Otsuka Holdings which limited the share of Bristol-Myers of the actual sales.

Gross margins have been under a pressure, compressing by 310 basis points to 71.3% of total revenues. This margin pressures was offset by strong leverage in marketing, selling and administrative expenses. These expenses fell by a combined 320 basis points to 24.0% of total revenues. Lower R&D expenses and one-time charges resulted in a healthy improvement in operating earnings.

Operating earnings improved to 19.6% of total revenues, up 730 basis points on the year before.

Drug Trial Disappointment

It weren't the results, causing the modest correction in the shares but rather the news that the company is not ready to move forward with the final stage of trials in the development of lung cancer medicine nivolumab. The drugs which is tested for various sorts of cancer could be used alone, or in combination with existing drug Yervoy.

This does not say much about the potential effectiveness of the drugs, it just says the drug is delayed. The mid-stage results are now expected to be released in May or June of this year. The promise of cancer drugs is big. Yervoy's sales rose by 23% to $260 million, generating sales at a rate of over a billion at the moment.

The delay is important with some analysts believing the drug could fetch annual sales of $10 billion in a few years down the road, anticipating the drug to hit the market in 2015. This seems no longer feasible, and being a late-mover in the market could be a severe disadvantage.

2013 In Review

The past year has been difficult for the company as it posted a 7.0% decline in revenues to $16.39 billion.

On the back of a more than $1.8 billion impairment charge in 2012, Bristol-Myers was able to report earnings growth, with earnings for 2013 coming in just above $2.5 billion.

Reported revenue growth in the fourth quarter is not necessarily a sign of strength after showing revenue declines for the full year. The expiration of Plavix no longer impacted the comparisons on an annual basis, after the company recorded a 90% drop in sales for the full year. In 2012, Plavix still generated revenues north of $2.5 billion.

Bristol-Myers ended the year with $8.3 billion in cash, equivalents and marketable securities. This gives the company sufficient financial flexibility while total debt stands at a similar amount, resulting in a flat net cash position.

Looking At 2014

For the current year, Bristol-Myers guides for earnings between $1.75 and $1.90 per share on a GAAP basis. Non-GAAP earnings are seen ten cents lower.

Both profit metrics might not be extremely useful as GAAP earnings are inflated through sale of activities, while non-GAAP earnings still exclude charges which should be taken through the income statement. Even then, at the midpoint of the non-GAAP guidance, shares trade at 30 times earnings.

Evolution To Specialty Care

During the quarter, Bristol-Myers announced its intentions to sell the diabetes business to AstraZeneca (NYSE:AZN) turning from a BioPharma strategy to specialty care. As part of this changed strategy, the company focuses on the opportunities in immuno-oncology and hepatitis C, which both should be drivers for future growth. The specialized focus on cancer drugs and rare diseases has been applauded despite the Plavix expiration as shares have risen nearly 40% over the past year.

Bristol-Myers received $2.7 billion upfront from AstraZeneca and already earned another $600 million of potential $1.4 billion in milestone payments. This came after the FDA approval of Farxiga to improve glycemic control for adults with type 2 diabetes. The deal is accretive in the short term, but given the growth of the business it could be dilutive in the coming years.

Takeaway For Investors

I am not at all convinced with the report and the current valuation of the firm. Despite a nearly 6% correction on Friday, the company is still valued at $84 billion, or 34 times GAAP earnings over the past year. The latest delays in the cancer research and very slow start of potential blockbuster Eliquis, which generates sales of $71 million in the past quarter, are not convincing to me. Analysts and the company remain hopeful that the drug could generate billions of revenues per year.

The sale of the business to AstraZeneca could cost about 10% of annual revenues while most of the drugs involved in the sale show above average growth. As such the company remains focused on business development, followed by dividends, which total $0.36 per quarter, providing investors with a 2.8% dividend yield.

To justify the current valuation, success in Eliquis and nivolumab is required, at least to some degree. With development in nivolumab slowing down and Eliquis being off to a slow start, the sell-off is warranted and I remain cautious as well.

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.