We recently reiterated our Neutral recommendation on Merck (MRK) following the release of fourth quarter and 2010 results. Merck reported fourth quarter 2010 earnings per share of 88 cents, 5 cents above the Zacks Consensus Estimate and 9 cents above the year-ago earnings. Revenues for the quarter climbed 20% to $12.1 billion, above the Zacks Consensus Estimate of $11.5 billion. Products like Januvia, Janumet, Singulair, Isentress and Remicade performed well during the quarter.
Full year 2010 earnings came in at $3.42, up 5%. Earnings for the year surpassed the Zacks Consensus Estimate by 5 cents. Revenues for the year, however, remained flat at $46 billion.
Merck is currently facing issues such as patent expirations of key drugs, EU pricing pressure, US health care reform, and pipeline setbacks. We believe the company will have to resort to cost-cutting initiatives to drive the bottom-line. Meanwhile, some of the company’s recent launches should start contributing significantly to the top line in the forthcoming quarters.
With several products in Merck’s portfolio slated to lose patent protection in the next few years, the company is working on strengthening its pipeline. Merck has many pipeline candidates in advanced stages of development targeting multiple disease areas such as anemia, atherosclerosis, cancer, diabetes, and hypertension. About 19 candidates are in phase III development. The company has prioritized its pipeline so that the candidates with the highest potential get the required support. As part of its prioritization efforts, Merck discontinued the development of 13 phase II/III projects.
Near-term pipeline opportunities include Victrelis (boceprevir; hepatitis C, FDA priority review and EU accelerated assessment review ongoing), Janumet XR (diabetes; FDA review ongoing), NOMAC/E2 (oral contraceptive; EU review ongoing), and MK-0431D (Januvia + Zocor for the treatment of diabetes and dyslipidemia; standard review ongoing in the US).
Meanwhile, Merck’s diabetes products, Januvia and Janumet, continue to perform well. Combined sales of the two drugs were $3,339 million in 2010, an increase of 29.4% from the year-ago period. We expect the trend to continue going forward. An extended release (XR) formulation (once-daily dosing) of Janumet is currently under FDA review. Moreover, Januvia/Janumet should continue benefiting from the regulatory restrictions imposed on competitor GlaxoSmithKline’s (GSK) Avandia.
A big near-term overhang on the stock is the Remicade/Simponi arbitration situation. Johnson & Johnson (JNJ) discovered Remicade and Simponi and licensed ex-US rights to Schering-Plough (now a part of Merck). According to Johnson & Johnson, under the terms of the distribution agreement, the merger has triggered a change-of-control provision in the agreement allowing Johnson & Johnson to reclaim full rights to both drugs. Sales of Remicade and Simponi in 2010 were $2.7 billion and $97 million, respectively. The loss of ex-US rights to both the compounds would be a major setback for Merck. A decision could be out in the first half of 2011.
Besides the Remicade/Simponi situation, we are also concerned about the impact of the challenging pricing environment in the EU. With several countries like Greece, Spain and Germany announcing price cuts in generic and branded drugs, we expect revenues to be impacted going forward. We have reduced our 2011 earnings estimate by 10 cents to reflect the impact of the EU pricing pressure, US health care reform and the company’s guidance.
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