How High Can Eli Lilly Fly?

Shares of Eli Lilly (NYSE: LLY  ) hit a 52-week high on Friday. Let's take a look at how it got there and see if clear skies are still in the forecast.

How it got here
The fact that Eli Lilly hit a new high is a little bit of a head-scratcher because there are just as many negatives as there are positives.

For optimists, Eli Lilly provides shareholders relatively stable cash flow. It addresses the growing need for medical care in a growing and aging population, it has a diverse product pipeline, and it pays out a top-notch dividend yield of 4.7%. With many concerns about global growth, the steady cash flow and comfort of a strong dividend are enough to draw investors to Eli Lilly. Also adding some pop to Lilly's recent gains is the recent approval of its diagnostic drug, Amyvid, by the FDA, which can be used with a brain PET scan to detect plaque associated with Alzheimer's to help rule out an Alzheimer's diagnosis.

Then there's the other side of the coin. That side points to a company that The New York Times claimed in 2010 could have 74% of its then-revenue at risk of generic competition in just seven years. Lilly has already lost patent protection in recent years on chemotherapy drug Gemzar, as well as its blockbuster schizophrenia drug, Zyprexa. It's set to lose patent exclusivity on certain Evista patents beginning this year, and both Cymbalta and Humalog next year. That's a significant chunk of Lilly's revenue at risk, and generic provider Teva Pharmaceuticals is just waiting to pounce like a vulture in the desert on those expiring patents.

How it stacks up
Let's see how Eli Lilly compares to its peers.

LLY Chart

LLY data by YCharts.

Although the above returns do not factor in dividend payments, drugmakers overall haven't fared well in the past five years.

Company

Price/Book

Price/Cash Flow

Forward P/E

Dividend Yield

Eli Lilly 3.3 6.8 11.4 4.7%
Pfizer (NYSE: PFE  ) 2.0 9.6 9.6 3.9%
Merck (NYSE: MRK  ) 2.2 9.4 10.5 4.3%
Bristol-Myers Squibb (NYSE: BMY  ) 3.5 12.3 17.9 3.9%

Source: Morningstar. Yields are projected.

For the most part, big pharma companies all trade within a stone's throw of each other in terms of valuation and yield. They differ dramatically, however, in how they innovate and grow their pipelines and to what extent the patent cliff threatens to crush near-term earnings.

Back in February I anointed Pfizer as the worst stock in the Dow Jones Industrial Average because it was facing the loss of a considerable chunk of revenue to generic competition over the next few years. Losing patent exclusivity on Lipitor, the best-selling drug in the world, is sure to put a crimp in near-term results. Although Pfizer does have a deep pipeline, it will take a parade of successes to match the profit from Lipitor.

Bristol-Myers Squibb still has its bandages on from the fresh wound it suffered four weeks ago when it lost patent protection on its clot-fighting drug, Plavix, sure to sting its results for some time. Bristol-Myers turned to acquisitions to boost results. However, I'm not so sure paying $2.5 billion for Inihibitex's unproven and extremely early stage 2 clinical trial drug for hepatitis C was a smart move.

Merck is the one drugmaker that still has a lot going for it in terms of innovation and current pipeline. It will face headwinds from the expiration of its asthma treatment, Singulair, in the U.S. in August. Although the drug accounted for a tad more than 10% of revenue in its latest quarter, the company's diabetes drugs should help fill the void within a few years.

What's next
Now for the $64,000 question: What's next for Eli Lilly? The answer is going to depend on whether Eli Lilly can innovate its way out of its current bind. It can't stop its patents from expiring, but it could potentially pad its product portfolio by purchasing smaller companies (how's that for a tongue twister?).

Our very own CAPS community gives the company a four-star rating (out of five), with an overwhelming 93.1% of members who've rated it expecting it to outperform. Although I've made a CAPScall of underperform on Eli Lilly and find myself down eight points on that selection, I have no intentions of closing the pick.

Eli Lilly has a deep pipeline, but it's been slow to innovate and recognize that generic competition is waiting in the wings to steal sales. Its biggest growth driver would be Alzheimer's drug solanezumab awaiting phase 3 results in the third quarter, but the odds of success are low. Eli Lilly will remain profitable, will probably continue to pay out a solid dividend, and will live off legacy sales for years, but its growth levels have peaked (at least for what I suspect will be the next five to seven years). Even with cost cuts and a reasonable P/E ratio, there's just no reason to own a contracting company in the health-care sector like Eli Lilly.

Eli Lilly clearly has a pipeline that's changing lives. If you'd like the inside scoop on a stock our Motley Fool Rule Breakers team feels could offer the next revolutionary product, then click here for your free access to our latest report.

Craving more input on Eli Lilly? Start by adding it to your free and personalized watchlist. It's a free service from The Motley Fool to keep you up to date on the stocks you care about most.

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

Motley Fool newsletter services have recommended buying shares of Pfizer. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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