Eli Lilly and Company — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. U.S. pharmaceutical and animal-health company; comparisons are with Q1 2017 unless otherwise noted. Amounts are in U.S. dollars.
Financial results
| Metric | Q1 2018 | Q1 2017 | Change/comment |
|---|---|---|---|
| Revenue | $5.70 billion | $5.23 billion | Up 9%; higher volume, realized prices, and favorable foreign exchange |
| Gross profit / margin | $4.13 billion / 72.4% | $3.88 billion / 74.2% | Margin down 1.8 percentage points |
| Operating expenses (R&D and marketing, selling, and administrative) | $2.68 billion | $2.83 billion | Down 5% |
| Income before taxes | $1.44 billion | $61 million | Q1 2017 included a large acquired IPR&D charge |
| Net income (loss) | $1.22 billion | $(111) million | EPS: $1.16 versus $(0.10) |
| Effective tax rate | 15.5% | Not directly comparable | Q1 2018 benefited from U.S. tax reform; Q1 2017 tax expense included the nondeductible CoLucid IPR&D charge |
| Cash from operations | $437 million | $340 million | Working-capital and other operating-asset/liability changes used $1.27 billion |
| Cash and cash equivalents | $3.08 billion | $6.54 billion at Dec. 31, 2017 | Quarter-end cash fell $3.45 billion |
| Total debt | $11.70 billion | $13.65 billion at Dec. 31, 2017 | Lower commercial paper and long-term debt repayments |
Cash and short-term investments totaled $4.79 billion at quarter-end; total investments, including noncurrent investments, were $7.08 billion. The company reported $5.57 billion in committed bank credit facilities, with $5.00 billion available to support commercial paper. It stated that cash, operating cash generation, and available facilities should fund normal needs, including dividends, repurchases, and capital spending.
Changes and business drivers
- U.S. revenue grew 8% and revenue outside the U.S. grew 11%. Foreign exchange contributed to international growth.
- Human pharmaceutical revenue was $4.94 billion; animal-health revenue was $761 million. Trulicity revenue rose 82% worldwide to $678 million, while Jardiance rose 104% to $151 million and Basaglar increased to $166 million.
- Revenue declines included Effient, down 75% following U.S. generic entry; Strattera, down 33%; Cialis, down 7%; and animal-health revenue, down 1%.
- Gross margin percentage declined mainly because of foreign-exchange effects on international inventory and product mix, partly offset by higher prices and manufacturing efficiencies. R&D expense fell 6%; marketing, selling, and administrative expense fell 4%.
- Net income improved substantially from the prior-year loss, primarily because Q1 2017 included $857.6 million of acquired in-process research and development expense related to CoLucid and higher restructuring charges. Q1 2018 included no acquired IPR&D charge.
Cash, capital allocation, and unusual items
- Investing activities used $170 million; financing activities used $3.87 billion. Financing included $1.10 billion of share repurchases, $587 million of dividends, a $1.20 billion net reduction in short-term borrowings, and $800 million of long-term debt repayments.
- Q1 2018 special charges were $78 million, primarily impairment, exit, and severance costs related to ending Posilac production at the Augusta, Georgia site, plus costs associated with reviewing Elanco strategic alternatives. Comparable 2017 charges were $214 million.
- The company repurchased 14.1 million shares during the quarter under its existing $5.00 billion program; $950.7 million remained authorized at March 31. Dividend paid per share was $0.5625, versus $0.52.
- Accounting adoption items included an approximately $2.5 billion increase to deferred tax assets and retained earnings from the intra-entity asset transfer standard, and a $105 million increase to retained earnings from reclassifying unrealized investment gains. The company said these adoptions did not materially change Q1 net income.
Guidance and management commentary
For full-year 2018, management expected revenue of $23.7–$24.2 billion and diluted EPS of $4.52–$4.62. It expected gross margin of approximately 73%, R&D expense of $5.2–$5.4 billion, marketing, selling, and administrative expense of $6.2–$6.5 billion, other income of $75–$200 million, an effective tax rate of approximately 17%, and capital expenditures of approximately $1.2 billion. Revenue and EPS expectations had increased from prior guidance; management cited lower expected U.S. rebates and discounts, favorable payer mix, foreign exchange, higher expected operating income, and a lower expected tax rate. R&D expectations increased due to pipeline investment and foreign exchange.
Management expected growth from newer products including Trulicity, Taltz, Basaglar, Jardiance, Verzenio, Cyramza, Olumiant, and Lartruvo. Pipeline milestones included anticipated U.S. regulatory action on Olumiant by year-end and expected FDA submission of lasmiditan in the second half of 2018. The company was reviewing Elanco alternatives, including an IPO, merger, sale, or retention, and expected to provide an update by mid-2018.
Risks, contingencies, and outlook sensitivities
- Patent and generic exposure: The filing warned that loss of exclusivity for Cialis and Alimta could cause rapid, severe revenue declines. Alimta vitamin-regimen patents faced ongoing challenges; generic pemetrexed was already marketed in at least one major European market. Humalog also faced potential competition from similar insulin products and possible pricing pressure.
- Pricing and reimbursement: U.S. payer consolidation, rebates, formulary restrictions, proposed policy changes, and international price controls could pressure revenue, margins, and access. A higher Medicare Part D coverage-gap discount was scheduled to take effect in 2019.
- Litigation: The company said outcomes and potential losses could not generally be estimated. Alimta litigation was specifically identified as potentially materially affecting future results, liquidity, and financial position. In Brazil employee litigation, an appeals court press release indicated it would affirm a ruling with an estimated impact of about 500 million Brazilian reais (approximately $150 million); a written decision was expected in May 2018, and Lilly said it planned to appeal.
- Tax: Accounting for the 2017 U.S. tax law remained incomplete, including evaluation of GILTI and valuation allowances; updates could materially affect provisional tax amounts and the effective tax rate. An IRS examination of 2013–2015 tax years was ongoing.
- Other uncertainties: Foreign-exchange movements, product safety or efficacy, regulatory outcomes, manufacturing and supply disruptions, intellectual-property protection, and the Elanco strategic review could affect results. Lilly stated there had been no material changes to the risk factors in its 2017 Form 10-K.
Subsequent to quarter-end, Lilly entered a Sigilon collaboration and made an upfront payment and equity investment; it recorded $66.9 million of acquired IPR&D expense in Q2 2018.
Most important facts for investors to verify
- Whether 2018 revenue and EPS guidance was achieved, and how much growth came from new products versus price, foreign exchange, and rebate estimates.
- Whether the gross-margin decline persisted and whether operating cash flow recovered from the quarter’s substantial working-capital use.
- Revenue and market-share effects from generic competition, particularly Cialis, Alimta, Effient, and Strattera, and emerging insulin competition.
- Developments in Alimta patent proceedings and the Brazil employee litigation, including the final written ruling, appeal, and any recorded accruals or cash exposure.
- Final tax-reform accounting, the effective tax rate, and progress or outcome of the Elanco strategic review.