We may be over the earnings season hump, but some of the biggest pharmaceutical companies in the world are still lifting the covers on their first-quarter earnings results. On Thursday morning, Merck (NYSE:MRK) released its Q1 results, which, on the whole, left Wall Street modestly disappointed.
Merck's Q1, by the numbers
For the quarter, Merck recorded $9.31 billion in sales, a 1% decline from the prior-year quarter. However, foreign currency translation weighed on Merck's top-line to the tune of 4%, meaning it would otherwise have delivered operating sales growth of 3%. Adjusted net income nudged higher by $66 million to $2.49 billion, with adjusted EPS coming in at $0.89, a 5% improvement over the $0.85 per share profit the company reported in Q1 2015.
Comparatively, Wall Street had been looking for Merck to merely match its Q1 2015 EPS of $0.85, so its $0.89 represents a welcome $0.04 per share beat. However, Wall Street was also looking for very modest sales growth, meaning Merck's $9.31 billion in revenue fell more than $100 million shy of the consensus.
Merck also raised and narrowed its sales and earnings guidance for the full year. Based on mid-April exchange rates, Merck now anticipates $39 billion to $40.2 billion in sales and $3.65 to $3.77 in adjusted EPS. Previously, Merck had guided investors to expect $38.7 billion to $40.2 billion in revenue and $3.60 to $3.75 in adjusted EPS.
This newly launched drug stumbles out of the gate
While a lot of data in Merck's Q1 report was encouraging (and we'll get to a few key growth drivers below), one data point was so disappointing that Merck's stock ended Thursday down more than 1%. Despite being approved by the Food and Drug Administration in late January and having two full months to ramp up sales, oral, once-daily hepatitis C combo Zepatier managed only $50 million in Q1 sales.
The table appeared to be set for Zepatier to thrive. Merck had aggressively priced Zepatier at $54,600 on a wholesale basis, which is practically $40,000 lower than Gilead Sciences' (NASDAQ:GILD) Harvoni, the once-daily HCV drug with nearly all genotype 1 market share. Given that Zepatier is the only other once-daily HCV therapy, and it delivered similar efficacy to Harvoni in clinical trials, it looked poised to pick up modest share in Q1. Furthermore, Gilead Sciences' Q1 results showed that Harvoni sales dropped by 14% to $3.01 billion from Q1 2015, implying that competition could be the cause of Gilead's sales decline.
In reality, Zepatier's launch was very subdued. My suspicion is that two factors have weighed on its launch. First, Zepatier needs to be administered with a ribavirin in select patients. Ribavirins are known to cause unpleasant side effects that can include rashes and anemia. Harvoni doesn't need to be administered with any additional medication, making it a better choice in terms of quality of life during treatment for some genotype 1 patients even with the wholesale cost difference between the two drugs.
The other issue is that it could be difficult for Zepatier to infiltrate the HCV market when physicians and consumers understand that Gilead's Harvoni works well. Zepatier offers physicians and consumers a different choice, but it doesn't offer superiority to Harvoni, meaning physicians and consumers may be unwilling or unlikely to switch away from an HCV medicine that they know works. Gilead is also getting more aggressive with their discounting of Harvoni, which is likely also a factor.
Plenty went right, as well
However, Merck and its shareholders also had a few data points that they can be proud of.
For example, after a dismal Q4 report showed a 6% decline in operating sales of Januvia in Q1, notoriously the slowest quarter of the year for Januvia/Janumet, Januvia/Janumet sales expanded by 1%. This is critical, because a competing class of diabetes drugs known as SGLT2 inhibitors has shown the ability to induce weight loss and lower systolic blood pressure in addition to controlling blood sugar levels for type 2 diabetics in clinical trials. Januvia/Janumet is still, by far, Merck's biggest revenue generator, so to see a stabilization in sales is very encouraging.
Cancer immunotherapy Keytruda also delivered steady year-over-year and sequential quarterly growth. Revenue in Q1 totaled $249 million, putting Keytruda on pace to reach blockbuster status ($1 billion+ in sales) during 2016. Its solid market share in metastatic melanoma and share gains in second-line advanced non-small cell lung cancer in patients with high PD-L1 expression are Keytruda's current growth catalysts.
If there was one nitpick to be made, it's that Bristol-Myers Squibb's (NYSE:BMY) cancer immunotherapy Opdivo generated $704 million in Q1 sales and is pulling way ahead of Keytruda. Because Opdivo is approved to treat second-line NSCLC regardless of PD-L1 expression level in patients, it appears to be garnering a huge chunk of market share and a much quicker growth rate.
The acquisition of Cubist Pharmaceuticals and its acute hospital care medicines portfolio continues to pay dividends for Merck. Cubicin, the key cog of Cubist's product portfolio, delivered $292 million in Q1 sales, a 56% increase over the prior-year period. Although sales of Cubicin can be a bit lumpy from one quarter to the next, double-digit sales growth in 2016 for the antibiotic is possible.
We even witnessed some stabilization is sales of previously blockbuster-status Singulair. During Q1, Singulair generated $237 million in sales, just a 3% decline from the prior-year period.
A tough road ahead
Being blunt, Merck has a tough road ahead. Although the company has managed to stabilize its sales freefall, which was caused by a wave of patent expirations, the next wave of growth that investors had counted on is much tamer than expected. Keytruda is growing, but not nearly at the same rate as rival Opdivo; Zepatier's launch has been weaker than expected; and Januvia's hit the mature point of its growth cycle, meaning it could be tough for Merck to extract any additional profits from the drug.
If Merck's results suggest anything, it's that the company's strategy of focusing on bolt-on acquisitions to drive growth just became even more important. Merck very well may need product and pipeline acquisitions to drive top- and bottom-line growth as mature product sales languish. Personally, I'd look for Merck to be an active acquirer in 2016.
The good news for shareholders is that Merck is still generating healthy cash flow, meaning investors don't have to lose sleep thinking about where Merck heads next. Unfortunately, there's not a lot to suggest at the moment that Merck deserves a higher valuation. The next couple of quarters will be critical to outlining Merck's growth strategy and signaling what's next for Keytruda and Zepatier.