Eli Lilly (NYSE:LLY) is a major manufacturer of prescription drugs that treat a wide range of conditions. The company also has a division that produces animal health products. Sales to foreign countries comprise about 43% of total revenue.
The top selling drug in the past few years for Eli Lilly had been Zyprexa, which treats schizophrenia and bipolar disorder. However, the US patent protection for this medication expired in October 2011. Annual revenue had reached $5 billion for Zyprexa. The company still holds an exclusive patent for antidepressant Cymbalta, but it expires in 2013. This drug has surpassed $4 billion of annual sales.
To remain relevant in the competitive pharmaceutical market, Eli Lilly must replace revenue from Zyprexa and Cymbalta with growing sales of other products. In addition, development of new drugs is vital to enhancing the company's value for the future. This article evaluates the present conditions and future expectations in fighting the erosion of revenue caused by patent expirations. That requires examination of the trend for existing key medications as well as company profit margin, which impact spending for new drugs to reach the market.
When Eli Lilly reported first quarter 2012 results, revenue of $5.6 billion amounted to a 3% decrease from the same quarter one year ago. Strong growth for several products helped to maintain momentum in the face of the Zyprexa patent loss. In fact, management projected annual revenue of around $22 billion despite a $3 billion decline for Zyprexa.
Revenue from Zyprexa declined 56% for the quarter. Cymbalta revenue increased a substantial 23%. I expect that annual 2012 revenue for the antidepressant will surpass $5 billion and thus reach the lofty level previously claimed by Zyprexa. In addition, Zyprexa should still deliver well over $1 billion of sales in 2012.
Sales of diabetes drug Humulin experienced a 12% increase in the first quarter of 2012. Cancer treatment Alimta and ED drug Cialis both provided 6% more revenue for the quarter. I forecast that Eli Lilly will have more than $2 billion of sales for each of these three blockbuster pharmaceuticals in 2012. Osteoporosis treatments Evista and Forteo had quarterly revenue increases of 4% and 26%, respectively. Both should top more than $1 billion in 2012 sales.
Sales in the animal health segment were 33% higher in the first quarter of 2012 compared to one year ago. This is mostly attributable to the acquisition of the Janssen Pharmaceutical animal health business within the past year.
Research and development expenses at Eli Lily in the first quarter were 25% of revenue. This is a bit high for the industry. For comparison, similarly sized competitor Bristol-Myers Squibb (NYSE:BMY) had R&D spending at 17% of sales. Administrative and selling overhead expenses comprised 32.9% of revenue. Again, that is higher than average. In its quarterly report, management stated that it remains focused on containing operating expenses. Cost of goods sold was 21.3% of sales, which is about average. The resulting operating margin of 25% is average for the industry.
Eli Lilly has several drugs under development. Of more than 60 drugs in its pipeline, over half are in Phase II or III clinical trials or undergoing regulatory review. The medications include treatments for psychosis, depression, cancer, and diabetes.
I think the drugs with the greatest potential for blockbuster appeal are dulaglutide for diabetes patients and solanezumab for treating Alzheimer's disease. Other products that I find have attractive market potential are cancer medications alimta and erbitux, which are both under FDA scrutiny, plus psoriasis treatment Ixekizumab, which is in Phase III clinical trials.
Some of the developmental products are part of R&D alliances with other companies. Eli Lilly ended its alliance with Amylin Pharmaceuticals (AMLN) last November. This long standing partnership had developed the diabetes drugs Byetta and Bydureon. As part of the split, Eli Lilly retained a minority interest in sales of these medications along with cash consideration. Most of all, the deal cleared the way for Eli Lilly to pursue its development of oral diabetes treatments with German drug company Boehringer Ingelheim.
Eli Lilly has also strengthened its position in the Far East markets. Most recently, the company announced a move to capture growth opportunities in China by increasing its equity position in Chinese pharmaceutical company Novast. The arrangement calls for Novast to expand its manufacturing capacity and support Eli Lilly branded generic products.
Patent expirations for the two highest selling products loom large over Eli Lilly. I find this is already at least partly reflected in a stock price that renders a price to earnings ratio of about 12. However, this ratio is higher than Pfizer (NYSE:PFE), which also experienced a recent major patent expiration.
In the near term, management expressed in the recently quarterly earnings report that its plans to combat patent losses include possible acquisitions, bolstering sales in Japan and emerging markets, expanding animal health product revenue, and increasing market share for existing oncology and diabetes drugs. I am not convinced that these measures will sufficiently sustain revenue growth while new drugs are developed.
Alternatively, successful cost cutting combined with minimal revenue growth supports the likelihood of a stable to slightly higher stock price in the near term. I therefore believe current investors in Eli Lily should retain their holding of shares. However, caution is warranted for investors accumulating more shares of Eli Lilly. The company needs new blockbuster drugs to replace Zyprexa and Cymbalta.
Two factors are moving the company in the right direction. First, the sales trends are quite positive for existing drugs. Secondly, cash flow is sufficient to fund management's planned $800 million of 2012 capital expenditures plus support the present dividend. With a dividend yield of 4% to 5%, Eli Lilly appears like a sound choice for investors seeking solid yield and stable price.
Nevertheless, I believe the product pipelines for both Pfizer and Bristol-Myers Squibb have more attractive long-term potential than the developments at Eli Lilly. In order to recommend Eli Lilly just as strongly as these competitors, I need to see more evidence of cost containment plus approval for some of the drugs presently in Phase III development.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.