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Eli Lilly using big dividend to prevent investor exodus

July 9, 2011

Nothing calms the nerves of jittery investors like a big cash dividend every quarter—a point executives of Eli Lilly and Co. clearly grasp.

Analysts attending Lilly’s investment community meeting on June 30 in New York City heard no revelations about the company’s R&D pipeline, which must score some big hits to offset a slew of patent expirations from late this year through 2017.

But they did hear an emphatic reassurance from company executives that they are committed to maintaining the 49-cents-a-share quarterly cash dividend, which gives the stock a rich annual yield of 5.2 percent.

“We will continue to pay the dividend at least at its current level. It is critically important to management, our board of directors and our shareholders, and we have no intentions of cutting it,” Chief Financial Officer Derica Rice said at the meeting.
 

Rice Rice

That dividend has served as scaffolding for Lilly shares during a time of historic uncertainty for the Indianapolis drug giant. Analysts say a cut likely would cause a marked drop in Lilly shares, wiping out billions of dollars in market value.

Morgan Stanley’s David Risinger noted in a report that when Pfizer Inc. announced two years ago that it was buying Wyeth for $68 billion and cutting its dividend by half to help fund it, Pfizer shares fell 10 percent in two days.

Lilly has paid a dividend to shareholders since 1885. And until the company held the annual payout steady at $1.96 a year in 2010, it had announced dividend increases for 42 consecutive years. The dividend gobbles up more than $2.1 billion a year.

Analysts will take all the reassurance they can get about the dividend, but they say that unless the pipeline starts producing in a big way, the company eventually will have no choice but to reduce it.

More than 60 percent of Lilly’s current revenue is set to face generic competition over the next seven years. Lilly says it hopes to have at least 10 drugs in Phase III by the end of this year. But getting them to market—particularly an Alzheimer’s treatment that would be a game-changer—is far from certain. And the new products aren’t expected to juice earnings until after 2014.

Goldman Sachs analyst Jami Rubin said in a report that “many at the meeting expressed skepticism and balked at the idea of blind faith for two-years plus, though absolute downside to the stock appears limited” because of the hefty dividend.

Morgan Stanley estimates paying the dividend will consume 45 percent of the $4.8 billion it expects Lilly to earn this year. The investment firm projects Lilly’s profit will fall the following three years, pushing the payout to 73 percent of profit in 2014.

“If the pipeline doesn’t work, we believe [Lilly] will be forced to cut its dividend and resort to other cost-cutting measures,” Goldman Sachs’ Rubin wrote, echoing other analysts.

The company might know as early as next year whether its R&D bets are paying off. Barclays Capital analyst Anthony Butler said in a report that “2012 may become a transformational year,” as the company releases pivotal data on six Phase III compounds.

CNO puts $25M with Paulson

First, famed hedge fund manager John Paulson made a big bet on CNO Financial Group Inc. Now, the Carmel-based insurer is making a big bet on him.

CNO said in a July 1 regulatory filing that it has subscribed to $25 million in limited partnership interests in Paulson Advantage LP, which “seeks to generate positive returns … from event-driven, distressed and merger arbitrage strategies with low volatility and correlation to the market.”


paulson-john-mug.jpg Paulson

Paulson gained fame for betting in 2007 that subprime mortgages would plummet—a prediction that soon came true.

Two years later, in October 2009, he bought $78 million in stock in CNO and $200 million of the company’s bonds, another bet that is paying off. CNO shares are up 58 percent since the day before the announcement.

In a regulatory filing, CNO said it made the Paulson investment to generate additional non-life-insurance income and to capitalize on a tax benefit that allows it to use prior losses to avoid taxes on future earnings.•

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