Eli Lilly (NYSE:LLY) and Incyte's (NASDAQ:INCY) drug, Olumiant, has received emergency use authorization (EUA) from the U.S. Food and Drug Administration (FDA) to treat hospitalized COVID-19 patients with or without remdesivir. While the EUAs for Olumiant to be used as both a monotherapy or a combination therapy with remdesivir are a revenue boost to Eli Lilly, there's a different potential indication for Olumiant that's worth investors' attention.

Late last month, Eli Lilly and Incyte announced impressive results from phase 3 clinical trials examining the efficacy of Olumiant in helping patients with an autoimmune disease known as alopecia areata regrow their hair. But could an indication for Olumiant to treat alopecia areata be the next blockbuster indication for pharma stock Eli Lilly?

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The efficacy speaks for itself

Olumiant's two phase 3 clinical trials enrolled 1,088 adult patients who suffered from severe alopecia areata, which is defined as scalp hair loss of 50% or more. The severity of alopecia areata is measured by healthcare providers using the Severity of Alopecia Tool. The higher the number, the greater the proportion of scalp hair loss.

At their pretreatment baseline, the patients enrolled in Olumiant's two phase 3 clinical trials had an average SALT score of 85.5, which means that 85.5% of their scalp hair was gone. After 36 weeks of receiving the lowest once-daily dose of Olumiant (2 mg), one in five (or 20% of) patients experienced at least 80% scalp hair regrowth compared to only 5.3% of patients taking a placebo pill. Patients receiving the higher (4 mg) dose of Olumiant fared even better at 36 weeks, with one in three achieving at least 80% scalp hair regrowth.

A move from the FDA last month required Janus kinase (JAK) inhibitors such as Olumiant and AbbVie's (NYSE:ABBV) Rinvoq to carry a warning label disclosing serious potential side effects, such as cancer and blood clots. Despite this requirement, Olumiant has proven itself as a generally safe JAK inhibitor based on its phase 3 clinical trials treating alopecia areata to date.

Only 2.6% of patients receiving Olumiant to treat alopecia areata discontinued treatment due to adverse events. And of those 2.6%, the majority of these adverse events were mild to moderate in severity rather than serious events such as blood clots, according to Eli Lilly.

Based on the efficacy of Olumiant against the risks of the treatment, I believe that regulatory approval from agencies such as the FDA, with warning labels, is the most probable outcome.

An alopecia areata indication has near-blockbuster potential

Now that I have established Olumiant could be a game-changing treatment for the estimated 147 million around the world who live with alopecia areata, let's examine its sales potential if approved.

First, it would be helpful to know the arrangement that Eli Lilly and Incyte have for their partnership on Olumiant.

Eli Lilly purchased the rights to develop and commercialize Olumiant from Incyte in 2009 for an initial payment of $90 million. The agreement between the two companies also requires Eli Lilly to pay double-digit royalties of up to 20% on global net sales of Olumiant to Incyte (including for treatment of COVID-19).

For context, Olumiant generated $402 million in first-half sales this year through its rheumatoid arthritis indication and COVID-19 treatment, which is a 41% growth rate compared to the year-ago period. 

The market research firm Grand View Research anticipates that the global alopecia market will grow 8.1% annually from $7.6 billion in 2020 to $14.2 billion in revenue by 2028. Assuming that alopecia areata continues to hold approximately 35% of the total alopecia market, this would work out to an addressable market of $5 billion by 2028 for Olumiant. 

Since Pfizer's (NYSE:PFE) abrocitinib (known as Cibinqo) will likely be a solid competitor in the alopecia areata space, I believe a 15% global market share is realistic for Olumiant. This would translate into annual revenue of $750 million for Olumiant by the end of the decade, which would be around $600 million in additional sales for Eli Lilly after up to 20% royalty payments to Incyte. With Eli Lilly forecasting $26.8 to $27.4 billion in total revenue for this year, this suggests that an alopecia areata indication for Olumiant would be enough to move the needle for the company.

A strong pick for future growth

While an alopecia areata indication could be a growth catalyst for Eli Lilly, the company arguably doesn't need this to be a hit to do well in the future. That's because Eli Lilly has an up-and-coming diabetes drug known as tirzepatide, which could potentially expand its diabetes market share. The potential drug has already proven more effective than its competitor from Novo Nordisk (NYSE:NVO), Ozempic.

Eli Lilly isn't getting complacent about its status as a leader in the area of diabetes. Eli Lilly has ramped up its research and development (R&D) spending by 21% year over year to $3.36 billion in the first half of this year. While there are never any guarantees that higher R&D spending will lead to commercial success, it's arguably the only way for a pharmaceutical to keep its pipeline relevant aside from prudent acquisitions.

Eli Lilly's dividend payout ratio is set to be in the low 40% range for this year, which should allow for robust dividend growth going forward. This is especially true since analysts expect that Eli Lilly's earnings per share will grow at 16% annually over the next five years. Taken all together, even if Olumiant doesn't achieve blockbuster status, all of these factors make Eli Lilly a stock to buy and hold for the long haul.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.