Oct 24 - Eli Lilly & Co., Inc. (Eli Lilly) reported an 11% drop in
its third-quarter revenue on Oct. 24, clearly demonstrating the negative impact
patent expiration can have on earnings. Earlier this week, Fitch Ratings
affirmed Eli Lilly's issuer default (IDR) rating at 'A,' but revised its Rating
Outlook to Negative from Stable, as the company still faces the industry's most
severe patent expiration period over the next three years, with approximately
35% of sales subject.
Significant 3Q12 losses were largely a function of the company's patent loss on
its top-selling pharmaceutical Zyprexa in 2011. According to Eli Lilly, the drug
once recorded annual sales of over $5.0 billion, but sales during 3Q12 totaled a
mere fraction of that number at $374.5 million. In the first nine months of
2012, sales decreased by more than $2.5 billion.
We remain highly concerned about the company's ability to counter the negative
effects on earnings and cash flows from a patent cliff that accelerates with the
loss of market protection for its top-selling antidepressant, Cymbalta, in
December 2013. By then, Cymbalta will be Eli Lilly's best-selling product,
generating well over $5 billion in revenues. Additionally, the company loses
market protection next year on Humalog, another of its top-selling drugs.
We believe the company has sufficient margin flexibility under the current
rating in 2012 and 2013, but deterioration in financial flexibility due to
margin erosion in 2014 as a result of losses from the Cymbalta and Humalog
patents could potentially place additional pressure on the company's credit
profile resulting in a review of its 'A' IDR. Free cash flow (FCF) generation is
expected to remain indicative of the current rating, with FCF margin greater
than 10% until the potential lapses of Cymbalta and Humalog.
Along with a potential deterioration of financial flexibility, an increased
focus on shareholder returns as a use of cash could pressure ratings through
2014. The recent resumption of share repurchases after a long pause in activity
and the potential for incremental dividends show a shift in focus that may
strain Eli Lilly's ability to address $1 billion of debt maturing in March 2014.
We maintain the company's ability to mitigate the impact of key drug patent
expiration relies on a combination of successful commercialization of the
late-stage research and development pipeline, continued debt reduction, and
significant proactive cost control. Eli Lilly has several late-stage studies
underway, including those for a broad diabetes portfolio, and we will continue
to monitor its research and development pipeline.