Will This Company Face the Same Restructuring as Merck?

On Thursday, Eli Lilly (NYSE: LLY  ) announced a plan to buy back $5 billion of its shares and maintain its dividend at $1.96 per  share, or 3.9% yield at today's prices.  But in keeping with its recent wave of optimism in the face of adversity, it supplemented this bullish view with skepticism toward its 2014 revenue goal of $20 billion. With recent challenges in developing drugs in its pipeline, is now the time to return value to shareholders, or undertake the strategy of its organizational-overhauling peers Merck  (NYSE: MRK  )  and AstraZeneca  (NYSE: AZN  ) ?

Lilly's revenue growth has stalled in the past several quarters, and it's poised to fall further with the loss of patent protection on blockbusters Cymbalta and Evista. Meanwhile, its R&D expenses have been steadily growing with huge investments made in, among other programs, its experimental Alzheimer's drug solanezumab and cancer treatment ramucirumab. This divergence has been one factor that has affected its operating cash flow.

LLY Revenue TTM Chart

Source: YCharts.

And yet, rather than selectively allocate its $3.78 billion in cash and equivalents (as of June 30) to add to its pipeline, Lilly will continue focusing on short-term shareholder value with close to a 50% dividend payout ratio and share repurchases.  

Will Lilly face a restructuring?
Within the last year, two of pharma's biggest players made decisive commitments to cut spending and streamline R&D. Let's look at some of the parallels between these companies and Eli Lilly.

In large part, the organizational adaptations were a response to the patent cliff. AstraZeneca lost several billion dollars in revenue to generic versions of Arimadex and Toprol and is facing the loss of Seroquel and Nexium. Merck saw sales of Singulair plummet. Likewise, Lilly is facing the loss of Zyprexa, which brought in $5 billion annually, and Cymbalta, which brought $5 billion in 2012.

All three companies have also faced serious product development woes. AstraZeneca scratched rheumatoid arthritis drug fostamatinib after it failed to compete with AbbVie's blockbuster Humira, and was disappointed by diabetes drug Onglyza.  Merck was faced with FDA resistance for several drugs, including the second rejection of anesthetic suggamadex. Lilly continues to develop its experimental Alzheimer's drug solanezumab -- though the clinical results have been mixed so far -- and will now face headwinds from a lack of Medicare coverage its Alzheimer's diagnostic Amyvid. The development of ramucirumab has delivered an even bigger blow to growth prospects after it failed to delay breast cancer progression in a phase 3 clinical study.

There are some interesting parallels between pipeline sizes as well.

Company Phase 2 drugs Phase 3 drugs
Eli Lilly 27 8
AstraZeneca 23 8
Merck 22 13

Source: Company websites as of Oct. 3.

All of these pipelines are heavily weighted in phase 2 trials.  Part of the restructuring plan at both AstraZeneca and Merck involves streamlining R&D to more efficiently promote the best phase 2 prospects, and reorganizing based on scientific expertise. A financial and organizational investment in this type of mind-set could help Lilly greatly as revenues fall and the current development strategy flops.

The Foolish bottom line
Investors can often profit greatly when management has shareholder value in mind. However, a more Foolish approach would be to find companies with business growth as a priority, and shareholder value will follow. Lilly's commitment to share buybacks could spell trouble in the face of dwindling product sales and a struggling pipeline. I think management would do better to reserve its cash for intelligent R&D investment for long term sustainability. Merck and AstraZeneca could provide interesting case studies against which to compare Eli Lilly going forward.

Two more companies to watch
Eli Lilly seems to be stuck in a rut, and could really use the added boost and excitement of a revolutionary treatment. The best way to play the biotech space is to find companies that shun the status quo and instead discover revolutionary, groundbreaking technologies. In the Motley Fool's brand-new FREE report "2 Game-Changing Biotechs Revolutionizing the Way We Treat Cancer," find out about a new technology that big pharma is endorsing through partnerships, and the two companies that are set to profit from this emerging drug class. Click here to get your copy today.


Read/Post Comments (0) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2667194, ~/Articles/ArticleHandler.aspx, 10/22/2014 10:14:02 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement