Business context and reporting period
Eli Lilly and Company’s unaudited Form 10-Q covers the quarter and six months ended June 30, 2014. Lilly operates in human pharmaceuticals and animal health. Results were significantly affected by U.S. patent expirations for Cymbalta and Evista.
Financial performance
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Revenue | $4.94B | $5.93B | $9.62B | $11.53B |
| Net income | $733.5M | $1.21B | $1.46B | $2.75B |
| Diluted EPS | $0.68 | $1.11 | $1.36 | $2.53 |
| Gross margin | 75.9% | 80.3% | 74.9% | 79.9% |
| Operating cash flow | Not separately stated | Not separately stated | $1.33B | $2.02B |
- Q2 revenue fell 17%; six-month revenue also fell 17%. U.S. revenue declined 30% in Q2 and 32% for the six-month period; outside-U.S. revenue rose 1% and 3%, respectively.
- Q2 net income declined 39%; six-month net income declined 47%. Lower sales and gross margin were partly offset by lower R&D and marketing, selling, and administrative expenses. Six-month 2013 results included $495.4M of pretax income from the exenatide collaboration termination, making the year-over-year comparison less like-for-like.
- Six-month R&D expense was $2.30B, down 14%; marketing, selling, and administrative expense was $3.15B, down 11%. Interest expense for the six months was $73.3M.
- Cash and cash equivalents were $3.77B at June 30, 2014, versus $3.83B at year-end 2013. Cash plus investments totaled $11.78B, compared with $12.02B at year-end.
- Total debt was $5.31B versus $5.21B at year-end. Current liabilities were $7.42B and current assets $13.16B. Lilly had $1.36B in unused committed bank credit facilities.
- Six-month cash used in investing was $80.5M; cash used in financing was $1.30B. Capital expenditures were $456.9M. Dividends paid were $1.05B and share repurchases were $200M.
Material changes versus the prior comparable period
- Cymbalta U.S. sales fell 91% in Q2 and 87% for the six months after U.S. exclusivity expired in December 2013. Evista U.S. sales fell 72% and 59%, respectively, after exclusivity expired in March 2014.
- These products drove the decline in revenue and gross margin. Other growth included Q2 Humalog revenue up 11% worldwide, Alimta up 6%, and animal health up 11%. Lohmann Animal Health contributed $23.9M of revenue after its acquisition.
- Six-month 2014 results included $31.4M in restructuring and special charges, compared with $85.2M in the prior-year period. Q2 2014 had no such charges, versus $63.5M in Q2 2013.
- In February 2014, Lilly issued $1.0B of fixed-rate notes and repaid $1.0B of maturing debt. Long-term debt increased year over year on the balance sheet, including the effect of fair-value changes to hedged debt.
Guidance, outlook, risks, contingencies, and unusual items
- Full-year 2014 guidance: revenue of $19.4B–$20.0B; diluted EPS of $2.67–$2.75; gross margin of approximately 73%; R&D expense of $4.4B–$4.7B; marketing, selling, and administrative expense of $6.3B–$6.6B; net income of at least $2.9B; operating cash flow of at least $4.0B; and capital expenditures of approximately $1.2B.
- EPS guidance was revised to reflect a planned $45M pretax acquired in-process R&D charge in Q3 for an Immunocore collaboration. Revenue guidance was unchanged. Guidance assumes the Novartis Animal Health acquisition does not close in 2014.
- Lilly agreed to acquire Novartis Animal Health for approximately $5.4B in cash, expected to close by the end of Q1 2015 subject to regulatory and other conditions. Lilly anticipated using about $3.4B of cash and investments and issuing $2.0B of debt.
- Key pipeline developments included positive Phase III results for basal insulin peglispro and a European marketing authorization for empagliflozin. The FDA accepted a resubmitted empagliflozin application, with a response expected in Q3 2014. Tanezumab remained subject to a partial FDA clinical hold; the filing describes substantial potential contingent payments if the collaboration continues and the drug succeeds.
- Alimta patent challenges remain material: an unfavorable outcome could cause a rapid and severe revenue decline in affected markets. The U.S. validity ruling was appealed; European proceedings had mixed outcomes.
- In Actos litigation, a jury awarded $3B in punitive damages against Lilly and $6B against Takeda, plus compensatory damages. Lilly and Takeda intended to challenge the verdict; Takeda reserved its position on indemnification, which Lilly believes it is entitled to receive.
- A Brazil labor-court ruling was estimated by the judge to have a financial impact of approximately $450M plus interest; Lilly appealed and said it could not estimate the reasonably possible loss. Lilly is self-insured for product liability losses on currently marketed products.
- Other risks include generic competition, pricing and reimbursement pressures, regulatory and clinical-development uncertainty, foreign exchange, and tax-policy changes. Management reported no material change to previously disclosed risk factors.
Most important facts for investors to verify
- Whether Cymbalta and Evista declines, and growth from other products and the pipeline, track management’s expectations and full-year revenue guidance.
- Progress and closing conditions for the $5.4B Novartis Animal Health acquisition, including its financing and effect on debt and liquidity.
- Outcomes and potential financial exposure in the Alimta patent, Actos, and Brazil litigation, including the disputed indemnification obligations in Actos.
- Whether Lilly meets its revised EPS guidance and cash-flow target, including the planned Q3 Immunocore charge and expected investment gains.
- Regulatory decisions and development results for empagliflozin, insulin glargine, and other late-stage candidates, along with any effect on anticipated launches.