Should Investors be Buying Eli Lilly on News?

Douglas is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Last week included two major news items for drug maker Eli Lilly & Co. (NYSE: LLY). Ringing in at the top of the audible gasp scale was the announcement that despite failing the primary study criteria in two late stage trials, the company’s development-stage Alzheimer’s drug was shown to slow the decline in cognitive function, particularly in mild cases. Of perhaps greater investment importance was the affirmation by the U.S. District Court of the company’s patent that protects one of its key cancer drugs. With the stock trading above its 52-week high during Friday’s session, one must wonder if the news should be seen as a catalyst to buy the stock.

The Alzheimer’s Study

In two separate trials of Lilly’s drug, solanezumab, study results showed that the treatment failed to stop the progression of the disease based on various testing protocol. Researchers found, however, that when the results of the two studies were combined, there was some statistically significant evidence that the drug will slow the progression in the decline of mental function in mild cases. While this conclusion can be called vague at best, the company said it wants to consult further with regulators to determine how to proceed. The news becomes of greater interest when considered in conjunction with the fact that similar Alzheimer’s drugs being developed by Pfizer Inc. (NYSE: PFE), Johnson & Johnson (NYSE: JNJ) and Elan Corp. (NYSE: ELN) were each scrapped after failed trials. Each of these three Lilly competitors slipped when their respective trial failures were announced. Despite the positive news for Lilly, its stock remains the most attractively valued on a P/E basis, trading at a 12 multiple relative to 18 for Pfizer, 21.5 for JNJ and 15 for Elan.

Lilly’s Cancer Drug Patent

Late last week, the federal appeals court upheld a ruling by the lower court finding Lilly’s patent on its cancer drug, Alimta, to be valid. The drug is used to treat certain types of lung cancer and mesothelioma; it is a chemotherapy class drug. This news is important for the company given the significant revenue stream it creates. In 2011, Alimta alone accounted for 10% of Lilly’s revenue, bringing in $2.46 billion. Furthermore, sales of the drug are on a positive trajectory, having grown 11% from 2010. The loss of exclusivity protection on the drug would have placed a serious dent in the company’s cash flow, but the ruling guarantees protection through 2017.

Trading the News

Given these two relatively positive developments for the company, it may seem like Lilly is well positioned to be added to one’s portfolio. The other consideration, however, is that the stock is trading just below its 52-week high, begging the question as to whether the positive news is already priced into the stock. While it is generally prudent to be cautious when considering stocks that are setting new highs, the strong relative valuation of the stock helps to reduce some of this concern.

As a final consideration, the stock currently carries a dividend yield of 4.5%, making it attractive as an income play as well. When U.S. Treasuries are yielding less than 2%, finding a solid company with both healthy upside potential and better than twice the yield makes a compelling case.  When all the factors are weighed together, Eli Lilly looks strong on both an absolute basis and relative to its peers. Adding to one’s core portfolio should yield positive results.

Mr. Ehrman has no positions in the stocks mentioned abovedsewrites has no positions in the stocks mentioned above. The Motley Fool owns shares of Johnson & Johnson. Motley Fool newsletter services recommend Elan and Johnson & Johnson. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

blog comments powered by Disqus