Business context and reporting period
Eli Lilly and Company’s unaudited Form 10-Q covers the three months ended March 31, 2012, compared with the three months ended March 31, 2011. Lilly operates primarily in human pharmaceuticals; animal health is included in its pharmaceutical reporting segment.
Financial performance and position
| Metric | Q1 2012 | Q1 2011 / prior balance-sheet date |
|---|---|---|
| Revenue | $5.602 billion | $5.839 billion; down 4% |
| Net income | $1.011 billion | $1.056 billion; down 4% |
| Diluted EPS | $0.91 | $0.95; down 4% |
| Gross margin | 78.6% of revenue | Down 1.2 percentage points |
| Effective tax rate | 24.3% | 17.1% |
| Operating cash flow | $852.5 million | $1.176 billion |
| Cash and cash equivalents | $4.122 billion | $5.923 billion at Dec. 31, 2011 |
| Cash, cash equivalents and short-term investments | $4.925 billion | $6.897 billion at Dec. 31, 2011 |
| Total debt | $5.41 billion | Down $1.57 billion from Dec. 31, 2011, per management |
Investing activities used $652.3 million, including $130.7 million of net property and equipment purchases and $195.4 million of cash paid for acquisitions. Financing activities used $2.057 billion, including $1.5 billion of long-term debt repayment and $544.6 million of dividends. The quarterly dividend was $0.49 per share.
Material changes versus the prior period
Revenue fell mainly because of Zyprexa’s loss of patent exclusivity in the U.S. and most major markets outside Japan. Zyprexa revenue declined 56% to $562.7 million. Total net product sales decreased 5%, partly offset by collaboration and other revenue growth of 26% to $188.2 million. Reported revenue mix showed growth in Cymbalta (+23%), animal health (+33%), Forteo (+26%), and Effient (sales of $115.8 million versus $56.3 million); these gains did not offset Zyprexa erosion.
Gross margin declined 1.2 percentage points, primarily due to lower Zyprexa sales. Research and development expense rose 2% to $1.152 billion, and marketing, selling, and administrative expense rose 3% to $1.848 billion. The 2012 quarter included $23.8 million of impairment, restructuring, and other special charges, primarily related to Xigris return estimates; the 2011 quarter included $76.3 million of severance and other charges and a $388.0 million acquired in-process R&D charge for the Boehringer Ingelheim diabetes collaboration. Despite the absence of that prior-year charge, net income declined, reflecting lower revenue and gross margin and a higher tax rate. The 2011 tax rate benefited from the IPR&D charge and the U.S. R&D tax credit then in effect.
Cash and short-term investments declined by about $1.97 billion from year-end, primarily reflecting debt repayment and dividends. Lilly acquired ChemGen Corporation in February for approximately $205 million; acquisition accounting was not finalized. The filing reports a $195.4 million net cash outflow for acquisitions.
Outlook, commentary, risks and contingencies
Lilly raised 2012 EPS guidance to $3.14–$3.29. Other stated guidance remained unchanged: revenue of $21.8–$22.8 billion; gross margin of approximately 77%; marketing, selling, and administrative expense of $7.4–$7.8 billion; R&D expense of $5.0–$5.3 billion; and other-net ranging from $50 million net expense to $100 million net income. Management expected operating cash flow to more than fund approximately $800 million of capital expenditures, business development activity, and the current dividend.
Management expected Zyprexa sales to decline by more than $3 billion in 2012 because of patent expirations, with growth in selected franchises and animal health partly offsetting the decline. It also expected continued Zyprexa erosion during 2012. The company cited patent expirations and potential generic competition as significant risks, including pending Alimta patent challenges; an adverse outcome could materially affect results, liquidity, and financial position. Cymbalta U.S. patent protection was expected to end in June 2013, Evista in March 2014, and Humalog’s U.S. patent in May 2013.
Other risks include drug-development and regulatory uncertainty, pricing and reimbursement pressure, health-care legislation, tax-policy changes, foreign exchange and macroeconomic conditions, and litigation. Lilly disclosed product-liability matters involving Zyprexa, Byetta, and diethylstilbestrol, among others. It said it was substantially self-insured for future product-liability losses on currently marketed products. Management stated that operating cash, available cash, and credit-market access were expected to support normal 2012 needs; $1.24 billion of committed bank credit facilities remained unused, including $1.20 billion supporting commercial paper.
The solanezumab Phase III trial results were expected in the second half of 2012. Lilly reported approximately 65 potential new drugs in human testing or under regulatory review. Disclosure controls were assessed as effective; management noted that ongoing finance-process changes could increase short-term control risk.
Important facts for investors to verify
- Whether Zyprexa erosion and growth in other products tracked the assumptions behind the $21.8–$22.8 billion revenue and $3.14–$3.29 EPS outlook.
- Developments in Alimta patent litigation and the potential timing and financial impact of generic entry.
- Cash generation, liquidity, debt repayment, and the ability to fund dividends and planned investment as cash balances fall.
- Progress, regulatory outcomes, and commercial potential for late-stage pipeline candidates, particularly solanezumab, and the timing of expected trial results.
- Updates to product-liability claims, self-insurance exposure, and other contingencies; the filing says maximum exposure or possible losses beyond accruals cannot be reasonably estimated for the described matters.