Eli Lilly (LLY) USD (CDI)

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Eli Lilly’s third quarter revenue grew by 20% to $11.4bn, missing analyst forecasts of $12.1bn. Lilly noted the adverse impact of inventory reductions by wholesalers of its high-profile diabetes and obesity treatments Zepbound and Mounjaro. Nonetheless sales of these products trebled to $4.4bn.

Breast cancer treatment Verzenio was another strong growth driver while sales of Trulicity, a diabetes treatment that pre-dates Mounjaro, fell by 22%.

Operating profit rose sharply from $0.5bn to $1.5bn reflecting strong pricing and a favourable shift in product mix.

The mid-point of full-year revenue guidance has been reduced from $46.0bn to $45.7bn. Underlying earnings per share is now expected to come in at around $13.27, some 19% below the previous steer. The reduction was largely due to an accounting adjustment relating to the acquisition Morphic Holdings.

The shares fell 6.3% following the announcement.

Our view

Lilly’s third quarter downgrade took the market by surprise, and has raised some questions about the immediate demand picture for its diabetes and obesity treatments.

The global pharmaceutical company is one of the trailblazers helping to revolutionise treatments for hormone deficiencies such as diabetes. But sales of these treatments (namely a class of medicine known as GLP-1) have also been grabbing attention for their effectiveness as a weight management tool.

Obesity’s reached epidemic proportions in the modern era. In the UK alone the economic cost of obesity could be close to £100bn. There’s growing evidence that these medicines can effectively reduce and treat the associated health risks.

Recent late-stage clinical data showing that Eli Lilly’s lead GLP-1 compound tirzepatide, (current trade names are Mounjaro and Zepbound) could prevent the onset of diabetes in certain high-risk groups, point to just one potential avenue to expand the addressable patient population of this revolutionary class of drugs. Lilly wasn’t the first to market, and there are competing products in development, but the products look sufficiently differentiated to hold their own.

Supply disruptions remain a risk, but the company is making good strides towards increasing capacity. There are also concerns about the high price tag, particularly in the United States where Zepbound costs $1,059 per month. There have been steep discounts for those who aren’t covered by insurance, but most plans now accept Zepbound prescriptions. Employers are also increasingly footing the bill. But there remains intense political pressure for prices to fall.

Lilly certainly doesn’t have all its eggs in one basket though. Its breast cancer treatment Verzenio for one, is also proving to be a key growth driver. The company’s relatively aggressive when it comes to its Research & Development budget and that’s helped to create a robust pipeline. There’s blockbuster potential in complementary drugs in the cardiometabolic space, but also in the skin condition atopic dermatitis and Alzheimer’s disease, where it has recently been approved in the US.

However, drug development is a high-risk activity and there’s no guarantee of further product launches or commercial success. That would compound the industry-wide pressure of patent expirations where manufacturers eventually lose exclusivity over medicines. However, this is not as big an issue as it has been for Lilly. Its dominant positioning in certain disease areas and expertise in manufacturing helps provide a competitive edge.

Eli Lilly’s strong cash flows, and comfortable net debt position, give it flexibility to keep pushing the bar in research & development while continuing to invest in manufacturing and distribution capabilities. It also supports a modest dividend yield although payouts can never be guaranteed.

Overall, we’re excited by the company's growth prospects. But despite the recent setback, the valuation is at the top of its peer group, leaving it vulnerable to disappointments.

Environmental, social and governance (ESG) risk

The pharmaceuticals sector is relatively high-risk in terms of ESG. Product governance, particularly with safety and marketing, and affordable access to treatment are the key risk drivers. Labour relations, business ethics and bribery and corruption are also contributors to ESG risk.

According to Sustainalytics, Eli Lilly’s management of ESG risks is strong. Executive pay is linked to climate-related targets, but the exact mechanism is unclear. Similarly, there are no targets or deadlines set for improving employee diversity and engagement. Its initiatives related to value-based healthcare, as well as ensuring access to its medicine in developing countries, are considered adequate. Disclosure of clinical trial data is strong, but information about quality control in medical manufacturing could be clearer. The company is the subject of several lawsuits alleging anti-competitive practices in the pricing of insulin.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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