Shares of global pharma giant Eli Lilly (NYSE:LLY) have performed incredibly well over the past decade, rising more than 350% as the market gained 300%. But, the LLY stock rally has kicked into overdrive during the past year. Shares are up more than 60% while the Dow Jones Industrial Average is pretty much flat over that same stretch.
This big rally against the backdrop of a flat market has some investors concerned. Are these gains sustainable? Or is LLY stock out over its skis here?
As we head into the close of the first quarter, the numbers support the bull thesis. Eli Lilly stock is a powered by healthy tailwinds from pharma product portfolio expansion and increased global healthcare spend. Rounding out this story are steady positive revenue growth, margin expansion and healthy profit growth. Assuming this persists — and it should — LLY stock has upside to prices above $135 in 2019.
Eli Lilly stock currently trades around $125, so the shares should reasonably head 8% higher into the end of the year. Coupled with a 2%+ yield, LLY stock should produce about 10% return from here over the next 12 months. That is fairly good return from of a low-risk, stable-growth company like Lilly. As such, the bull thesis here looks pretty good.
Stable Growth Story
In the big picture, Eli Lilly has a large and growing portfolio of drugs and treatments that span a wide range of illnesses and conditions. It has broad exposure to the global healthcare market. That market is largely characterized by competitive stability, enduring demand, and mild growth.
Zooming in, Eli Lilly has a heavy focus on the oncology and diabetes markets, including a distinguished leadership in the diabetes market with a robust pipeline of insulin-related products. These sub-sectors of the global healthcare are likewise characterized by competitive stability, enduring demand, and mild growth.
As such, so long as Eli Lilly management continues to execute on its product road-map and maintain the company’s competitive positioning in the global healthcare market, this company will benefit from stable and steady revenue and profit growth.
This should happen. Management has successfully navigated the healthcare market over the past decade. During that time, they’ve not just maintained Eli Lilly’s competitive positioning. They’ve actually improved it. There’s no reason to believe that this won’t continue. Also, the company has a promising pipeline of forthcoming products. Gross margins are guided to head higher, while opex rates have room to fall.
Overall, the growth story underlying Eli Lilly stock is stable and solid. That stable and solid narrative should be enough to keep the shares on a winning track.
Numbers Confirm Further Upside Potential
Given reasonable long-term growth assumptions, it is reasonable to conclude that LLY stock is slightly undervalued at the current moment.
The math here is very simple: U.S. healthcare spend is expected to rise by 5.5% per year over the next several years, and global healthcare spend will likely rise at a similar, if not higher, rate. Allowing for competitive slippage but also accounting for management’s strong track record and the healthy product pipeline, that should flow into roughly 5% revenue growth per year for Eli Lilly. Meanwhile, margins should track higher as the company leverages acquisitions and the current pipeline — not internal R&D — to grow. Long term, operating margins have the potential to stabilize in the mid-30’s range.
Given those assumptions, I think Eli Lilly can do about $10 in EPS by 2025. Based on a historically average 20x forward multiple, that equates to a fiscal 2024 price target of $200. Discounted back by 8% per year (two points below my normal 10% discount rate to account for the yield), that results in a fiscal 2019 price target of over $135.
Bottom Line on LLY Stock
It increasingly appears that Eli Lilly is on a long term winning trajectory defined by stable mid-single-digit revenue growth and steady margin expansion. If so, LLY stock has the potential to hit $200 in the long run, implying healthy multi-year upside from current levels.
As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.