Eli Lily and Co is a U.S.-based pharmaceutical company.
Eli Lily and Co (Eli) researches and sells medicine and pharmaceutical products in the U.S. and other countries around the world. Most of its sales are concentrated in the U.S., encompassing about 64% of its total revenue. Meanwhile, Eli’s main business is the diabetes segment, driving about 51% of its sales, followed by oncology (20%) and immunology (12%).
Eli’s biggest product is Trulicity, which treats type 2 diabetes, encompassing about 26% of its revenue. Verzenio, which comes in second most important, takes up about 9% of its revenue, and is used to treat breast cancer.
Eli can be classified as a CAPEX and R&D-heavy company, which means that Eli needs to make substantial investments into its products before being able to market or sell them. According to its annual report, it takes about US$2 billion to bring one product to market all the way from research to sales.
Revenue Breakdown by Country and Product Segments for 2022 (%)
Impressive Revenue and Profit Growth Over the Years.
Eli’s profits have doubled in the past five years, growing from US$3.2 billion in 2018 to US$6.2 billion in 2022. Meanwhile, revenue has grown by about one-third from US$21 billion to US$29 billion over the same period. While the diabetes segment remains the main core business of Eli, the immunology segment has tripled in revenue from US$1.1 billion in 2018 to US3.4 billion in 2022, marking this the strongest segment in terms of growth. If there is one segment that could be driving growth in the future, it could be the immunology segment. Both diabetes and oncology segments grew by 24% and 33% respectively over the same period.
Furthermore, profit margins have also improved to 22% in 2022 from 15% in 2018, marking an improvement in its cost management and return on investments. As was mentioned earlier, Eli requires deep funding for its products which is estimated to take up about US$2 billion for each product to bring them to market. Increasing profit margins could mean that its research is paying off.
Eli must spend a lot on research and development to securefuture revenue streams.
For every pharmaceutical company out there, spending on research and development is a necessity. Every few years, a new drug will come into the market, and replace the existing ones. Competition is stiff for many of the companies out there. The research process is long, and the regulatory environment is harsh. A small mistake basically means you might be looking at US$2 billion of money being sunk cost.
For Eli, it spends about one-fourth of its revenue on research and development alone. You are looking at an average of US$6.2 billion spent annually in the past 5 years and Eli currently has about 45 new medicine candidates in clinical development or regulatory review. Hence, it’s important that Eli need to have substantial cash balances to invest in these projects.
Most of these cash comes directly from its operations. This means that a substantial portion of money Eli gets from its operations is reinvested into research and development. This seems to have been the case since 2018. The retention ratio (which is the percentage of profits that are reinvested) have rose from 27% in 2018 to as high as 57% in 2020, and is currently sitting at 43% in 2022. Furthermore, its total debt have also increased from US$9 billion in 2018 to about US$15 billion in 2022, to fund its massive R&D requirements.
Continued demand for healthcare medications will drive Eli’s growth, but many risks remained.
Basically, there are 3 factors that could drive Eli’s prospects moving forward.
- Higher demand for healthcare services especially for diabetes-related illnesses. Total number of people living with diabetes projected to increase from 537 million in 2021 to 643 million by 2030.
- Continued investments into its research and development that could secure its future revenue streams.
- Higher spending by governments around the world especially in middle and high income countries.
Source: World Health Organisation
However, similar to many pharmaceutical companies, Eli is exposed to significant risks from
- High risks in the process of bringing products to market. Many research and development projects fail in the initial stages, with risks taken on projects that show the greatest of promises. Even then, getting through the approval and regulatory process is also fraught with uncertainties from the government’s relevant bodies.
- Very intense competition in the pharmaceutical industry. Eli is currently not in the top 10 global pharmaceutical companies and faces stiff competition from bigger players.
- CAPEX heavy business model. Eli’s gross property, plant, and equipment assets make up about 40% of its total assets and Eli has to invest in maintaining research and testing facilities.
The market currently has a BUY recommendation on Eli Lily.
Market analysts currently have a BUY recommendation on Eli, with a median target price of US$400. This implies an upside of about 3.6% from its current share price of US$386. Eli is currently trading at a high price-to-earnings ratio of 55.6 times, where it traded at a historical median of about 41.9 times.
Is this expensive? Yes. Based on a discounted cash flow valuation, Eli’s revenue would have to grow by 26.0% every year from 2023 to 2027, with an EBITDA margin of 33.0%. For context, Eli’s revenue only grew by 7.3% every year from 2018 to 2022. Investors are looking for Eli’s revenue to triple in 5 years’ time, which seems improbable. You can find the valuation I did here to match against market expectations. Finally, here’s a sensitivity analysis of the revenue growth impact on the share price of Eli.