Over the past five years, it’s been Eli Lilly (NYSE:LLY) that’s been the best large-cap pharmaceutical play. Including dividends, LLY stock has a little better than doubled investors’ money.
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Among pharma stocks with a market cap over $100 billion, only Johnson & Johnson (NYSE:JNJ) comes close. Better-covered names like Pfizer (NYSE:PFE) and Bristol-Myers Squibb (NYSE:BMY) have lagged badly, with total returns of 30% and 14%, respectively.
Obviously, the important question at the moment is whether that outperformance will continue. And I believe it will. Lilly has one of the best portfolios in the entire industry. Valuation is somewhat expensive by sector standards, but reasonable given growth potential. And there’s a potential play on the novel coronavirus as well.
Certainly, it’s not guaranteed that LLY stock will be the winner over the next five years, as it’s been over the last five. But there’s certainly a good chance, and a solid bull case to stick with Lilly even after an impressive run.
A Strong Portfolio
What stands out when looking at Eli Lilly is how strong the current products are. That’s true not just in the sense of the market share of the company’s various products, but in the potential growth in those markets.
For instance, Lilly is a clear leader in diabetes, a condition which unfortunately is likely to both grow and see more diagnoses going forward. The company’s top two drugs in 2019 (Trulicity and Humalog) both treat the condition; so does Jardiance, Lilly’s eighth-biggest seller. The portfolio expanded in Q2 with the launch of Lyumjev.
Lilly also has a strong franchise in cancer. Alimta and Cyramza combined for nearly $3 billion in revenue last year. LLY stock soared last year on strong results for Verzenio in preventing recurrence of breast cancer. Here, too, a Q2 launch adds to the opportunity, with Retevmo approved to treat lung and thyroid cancers.
Like most diversified pharma companies, Lilly does have drugs whose sales are fading. Erectile dysfunction drug Cialis, for instance, is facing generic competition. But overall, this is one of the stronger portfolios in the space. And that’s obviously a key reason why LLY stock has been a winner in recent years.
A Covid-19 Play?
Despite that strength, Eli Lilly likely hasn’t been on the minds of investors looking for a Covid-19 play. J&J and AstraZeneca (NYSE:AZN) garnered the headlines among Big Pharma names. Among early-stage players, the likes of Moderna (NASDAQ:MRNA) and Inovio (NASDAQ:INO), among many, many others, attracted investor attention and optimism.
But Lilly has irons in the fire itself. It’s created partnerships for development of both a vaccine and a treatment. And it’s launched a Phase III study of an arthritis drug for potential use with hospitalized victims of Covid-19.
To be sure, given a roughly $150 billion market capitalization, success on the Covid-19 front won’t move LLY stock the way it would INO or even MRNA. But investors have bid up AZN, Gilead Sciences (NASDAQ:GILD) and other large-cap names on coronavirus hopes. Lilly likely deserves at least the same boost.
Valuation Concerns for LLY Stock
Meanwhile, valuation seems reasonable. LLY trades at 21x the midpoint of this year’s adjusted earnings per share guidance, and about 19x analyst estimates for next year.
It’s worth noting that those numbers aren’t as cheap as they seem. Pharma stocks in general merit lower multiples, owing to the fact that product lifespans can be relatively short. Indeed, 19x forward EPS is expensive relative to peers.
After all, JNJ trades at less than 17x. Merck (NYSE:MRK) is at just 13x, PFE 11x, and Bristol-Myers at a seemingly cheap 8.5x. We’ve already seen one analyst recently downgrade LLY stock based on valuation, and the average Street price target suggests about a 10% return (including the dividend) over the next 12 months.
But I’d suggest investors consider the context of the valuation. Yes, LLY is more expensive than peers. But the strength in the diabetes and cancer franchises suggests it probably should be. Many of those large-cap peers have significant concerns. Even Bristol-Myers Squibb, which I’ve recommended in the past (and still like), faces a looming “patent cliff” for its revlimid and has seen disappointing results from cancer drug Opdivo.
Meanwhile, 10% returns for a defensive stock are nothing to sneeze at. That’s doubly true at a time when the 10-year Treasury bond yields less than 1%.
Finally, it’s worth noting that investors in this market repeatedly have been rewarded for paying up for quality. The five-year return in LLY stock is another example of that trend. As long as that trend holds, investors in LLY stock should be just fine.
Vince Martin has covered the financial industry for close to a decade for InvestorPlace.com and other outlets. He has no positions in any securities mentioned.
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