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BEHIND THE NEWS: Even after Zyprexa victory, Lilly faces many obstacles

April 25, 2005

On the surface, the news about Eli Lilly and Co. in recent days has been almost all good. The company averted catastrophe by prevailing in an Indianapolis lawsuit challenging U.S. patent protection for the blockbuster Zyprexa. Then it announced first-quarter profit that beat analysts' consensus by two pennies a share.

Pessimists who take a closer look, however, may want to pop a Prozac.

Analysts note that the stable of new drugs that are supposed to pick up the slack as Zyprexa loses steam are performing inconsistently, while increased competition and other pressures are sapping the antipyschotic's sales more than expected.

The bottom line: Lilly's research-anddevelopment machine has yielded a gusher of new products. But that doesn't mean it will be easy for the Indianapolis company to wean itself from its reliance on Zyprexa, which accounted for nearly one-third of its $13.8 billion in sales last year.

"Despite its bullish outcome, this [court] case drove home the reality of Lilly's dependence on one drug, a drug that is in serious decline in the U.S.," wrote Gimme Credit analyst Carol Levenson in a report last week.

Indeed, the company's first-quarter report offered little comfort to investors worried that Zyprexa sales will be hard to sustain amid strong competition from New York-based Bristol-Myers Squibb Co.'s Abilify, and studies linking the medicine to weight gain and diabetes.

Worldwide sales of Zyprexa slipped 5 percent in the first quarter, to $1 billion. The news was worse in the United States, where the drug's sales fell 17 percent, to $517 million.

Counting on new drugs

Meanwhile, eight newer drugs accounted for 14 percent of sales, compared with 9 percent of sales a year earlier. And the newcomers might have fared even better had the company not restructured its pacts with wholesalers, a move aimed in part at discouraging speculative buying ahead of price increases.

Even so, the disappointing performance of one of those eight-Strattera, a treatment for attention deficit/hyperactivity disorder-underscored just how hard it is for analysts to assess the sales firepower for new drugs.

For the quarter, Strattera racked up $120 million in sales, 21 percent less than the investment firm Merrill Lynch had estimated and 15 percent below the same quarter a year earlier.

Just before the quarter began, Lilly added a safety warning to the Strattera label after two patients taking the drug experienced severe liver injury. In addition, Canadian regulators in February suspended sales of a rival ADHD medication because of 20 reports of sudden deaths.

"Given what's happening in the category, we've seen a significant slowdown," Craig Hartman, Lilly's manager of investor relations, said in a conference call with analysts last week. "We think Strattera could decline for the year."

Analysts say that disappointment was partly offset by other bright spots, including higher-than-expected sales for the new antidepressant Cymbalta. Its $103 million in sales for the quarter was 19 percent above the Merrill Lynch estimate.

Falling short of goal?

Nonetheless, CEO Sidney Taurel seemed to have higher hopes for the newcomers three months ago, when he predicted they would account for 20 percent of sales this year. Analysts increasingly doubt he'll pull that off.

Lilly's stock price these days reflects the uncertainties. The shares last week were fetching $59-down 23 percent since May and down 45 percent since Aug. 8, 2000, when a federal appeals court stripped Prozac of U.S. patent protection.

Since that dark day, analysts say, company executives have taken the right steps to reposition the company. Still, replacing the sales for blockbusters Prozac and Zyprexa is a tall order. Prozac at its 1998 peak pumped out $2.8 billion in annual sales; Zyprexa topped $4.4 billion in 2004.

"They have a young, deep pipeline," Jake Dollarhide, an analyst with Longbow Asset Management, told Bloomberg TV last week. Yet there are no guarantees. "There's a difference in having a drug with a lot of potential and actually getting the market to buy as much as you would like them to."

Fretting over future

Even with the swoon in Lilly shares, they're not cheap compared with other drug stocks, as measured by price-toearnings ratios-a fact that's adding to investor angst.

CJ Sylvester, an analyst with Banc of America Securities, last week reiterated his "buy" recommendation on Lilly. But in a report he acknowledged the company's margin for error is shrinking.

"We believe it is imperative for the company to show stabilization in U.S. Zyprexa trends while maintaining growth internationally," he wrote.

Added David Moskowitz, an analyst with Friedman Billings Ramsey: "Although new launches are going well ... we believe that these products have a heavy burden to lift, and it may be some time before the company can achieve truly superior growth rates."
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