Eli Lilly and Company — Q1 2014 Form 10-Q
Business context and reporting period
Unaudited results cover the three months ended March 31, 2014; balance-sheet comparisons are with December 31, 2013. Lilly operates in human pharmaceuticals and animal health. The company attributed a sharp revenue decline primarily to U.S. patent expirations for Cymbalta and Evista.
Key financial metrics
| Metric | Q1 2014 | Q1 2013 / prior date |
|---|---|---|
| Revenue | $4.683 billion | $5.602 billion; down 16% |
| Income before taxes | $890.8 million | $1.951 billion |
| Net income | $727.9 million | $1.548 billion; down 53% |
| Diluted EPS | $0.68 | $1.42; down 52% |
| Gross margin | 73.9% of revenue | Down 5.4 percentage points |
| Operating cash flow | $272.3 million | $379.4 million |
| Cash and cash equivalents | $3.888 billion | $3.830 billion at Dec. 31, 2013 |
| Total investments | $8.529 billion | $9.192 billion at Dec. 31, 2013 |
| Total debt | $5.264 billion | $5.213 billion at Dec. 31, 2013 |
Research and development expense was $1.109 billion, down 18%; marketing, selling, and administrative expense was $1.485 billion, down 10%. The effective tax rate was 18.3%, compared with 20.7%. Dividends paid per share remained $0.49.
Cash flow from investing activities was positive $388.4 million, including investment sales and maturities; capital expenditures were $202.0 million. Financing activities used $595.1 million, including $524.1 million in dividends, $55.0 million in share repurchases, and a $1.0 billion debt repayment, largely offset by $992.9 million of new debt issuance. Lilly reported $1.36 billion of unused committed bank credit facilities, including $1.20 billion supporting its commercial paper program.
Material changes versus the prior period
- U.S. revenue fell 34% to $2.084 billion, while revenue outside the U.S. rose 5% to $2.599 billion. Worldwide revenue declines reflected lower volume (8%), prices (6%), and foreign exchange (2%).
- Cymbalta revenue fell 64% worldwide to $478.2 million, including an 83% decline in U.S. sales, following U.S. loss of exclusivity in December 2013. Evista revenue fell 38% worldwide to $150.1 million; U.S. exclusivity ended in March 2014.
- The comparison is affected by a $495.4 million pretax gain recognized in Q1 2013 from transferring exenatide commercial rights outside the U.S. to Amylin. Q1 2014 also included $31.4 million of restructuring and special charges, versus $21.7 million in Q1 2013.
- Human pharmaceutical revenue declined to $4.156 billion from $5.103 billion; animal health revenue increased 6% to $527.4 million.
Outlook, commentary, risks, and unusual items
- For full-year 2014, Lilly revised guidance to revenue of $19.4–$20.0 billion, diluted EPS of $2.70–$2.78, gross margin of approximately 73%, and net income of at least $2.9 billion. It expects operating cash flow of at least $4.0 billion. R&D expense guidance remained $4.4–$4.7 billion; marketing, selling, and administrative expense was projected at $6.3–$6.6 billion.
- Management expects Cymbalta and Evista declines to be partly offset by products including Humalog, Trajenta, Cialis, Forteo, Alimta, and animal health. It cited expected growth in China and foreign-exchange pressure from a weaker yen. Guidance assumes the Novartis Animal Health acquisition does not close in 2014.
- On April 22, 2014, Lilly announced a proposed $5.4 billion all-cash acquisition of Novartis Animal Health, expected to close by the end of Q1 2015 subject to approvals. Lilly anticipated funding it with approximately $3.4 billion of cash, primarily held outside the U.S., and $2.0 billion of new debt. In February, Lilly also agreed to acquire Lohmann Animal Health for approximately €440 million, subject to approvals.
- Pipeline and regulatory uncertainties include an FDA complete response letter for empagliflozin due to manufacturing-facility deficiencies; Lilly and Boehringer Ingelheim said they were working on a response. The new insulin glargine product faces a Sanofi patent lawsuit and an associated 30-month stay of FDA approval. Tanezumab remains under a partial FDA clinical hold; further payments under its collaboration depend on conditions including the FDA response.
- Patent protection and pricing are key business risks. Lilly warned of rapid and severe revenue declines following generic entry, and cited possible U.S. and international price, reimbursement, tax, and healthcare-policy changes. It also identified research and development failure and regulatory delays as material uncertainties.
- After quarter-end, an Actos product-liability jury awarded $1.5 million in compensatory damages and punitive damages of $6 billion against Takeda and $3 billion against Lilly. Lilly disputes the verdict and intends to challenge it. Lilly asserts it is entitled to indemnification from Takeda, but Takeda reserved its position on its indemnification obligations in this case; full indemnification is not assured.
- Alimta patent litigation remains consequential: a U.S. court ruled in March 2014 that the asserted vitamin-dosage patent claims were valid, but appeals and other proceedings remain unresolved. Lilly stated that an unfavorable outcome could materially harm future results, liquidity, and financial position.
Most important facts for investors to verify
- Whether Cymbalta and Evista erosion, and any further generic or biosimilar competition, exceed the assumptions embedded in 2014 guidance.
- Whether the $2.70–$2.78 EPS, $19.4–$20.0 billion revenue, and at least $4.0 billion operating-cash-flow outlook is achieved, including the effects of foreign exchange and product mix.
- Regulatory and litigation developments for empagliflozin, insulin glargine, Alimta, Effient, and tanezumab, and their potential impact on timing, exclusivity, and revenue.
- The Actos verdict, Takeda’s indemnification obligations, and any subsequent legal or financial developments; the filing does not establish the ultimate outcome or a clear maximum exposure.
- Completion, financing, and integration of the Novartis Animal Health and Lohmann Animal Health transactions, including the effect of acquisition debt and cash held outside the U.S.