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Morningstar | NVO Updated Forecasts and Estimates from 09 Aug 2018

We're not making any significant changes to our Novo Nordisk valuation following second-quarter results that put the firm on track to meet our expectations for the year after adjusting for some one-time effects on comparisons in the second quarter. We slightly increased our fair value estimate to DKK 284 per share (from DKK 276) and maintained our $44.50 per ADR valuation, due to foreign exchange impacts. Negative adjustments for Victoza rebates applying to sales in previous quarters (as the channel mix became clear) were taken in the second quarter, weighing on Victoza's reported sales in the second quarter, and comparisons for Tresiba and NovoLog were also negatively impacted by positive rebate adjustments in 2017. This contributed to the firm's 2% local currency top-line growth in the quarter, down significantly from 5% in the first quarter. However, management maintained guidance for 3%-5% local currency top-line growth for 2018, and our own forecast is near the high end of this range. Management also gave an initial read on their outlook for 2019, which continues to factor in U.S. basal insulin pricing pressure as well as an impact from the Medicare Part D coverage gap legislation, in line with our own assumptions. While we see Novo's innovative diabetes portfolio as supporting a wide moat, we think shares look relatively fairly valued at recent prices, as the GLP-1 opportunity with Ozempic and oral semaglutide looks priced in. That said, if Novo reports positive phase 2 data for novel hemophilia therapy concizumab later this year, there would be upside to our valuation, as this could reverse some of the headwinds to the firm's hemophilia franchise in the long run.

Our long-term top-line estimates for Novo are heavily reliant on GLP-1 portfolio potential, as we see GLP-1 therapies growing 13% on average annually (at constant currencies) over the next five years, versus roughly 4% for the firm as a whole. Sales of GLP-1 therapies (injectable diabetes therapies Victoza and Ozempic, and injectable obesity treatment Saxenda) are in line with our expectations and have driven Novo's growth so far in 2018, as the firm is fighting competition in basal insulin (biosimilar version of Sanofi's Lantus) as well as hemophilia (Roche's Hemlibra). Also, based on recent positive phase 3 data readouts, oral semaglutide compares favorably with Lilly's Jardiance (superior on blood glucose lowering), Merck's Januvia (superior on blood glucose lowering and weight loss), and Novo's current injectable standard-of-care Victoza (superior on weight loss), and we think Novo is on track to file for approval in 2019. We expect Novo to see gross margins on oral semaglutide slightly lower than the firm's average gross margins, putting pressure on overall margins as hemophilia and insulin competition continues (see our recent Healthcare Observer, "Drug Industry Gross Profits in a Tough Pricing Environment: Manufacturing Improvements Support Undervalued Drug Stocks").

As we discussed in our recent Healthcare Observer, "U.S. Drug Pricing Reforms Weigh on Valuations, but Moats Look Secure and Drug and Biotech Industries Look Undervalued," we think the impact of Medicare Part D coverage gap legislation (increasing drug manufacturer responsibility in the doughnut hole from 50% to 70% of drug costs) will be manageable overall, and Novo's exposure looks average. With half of Novo's sales stemming from the U.S. and roughly a quarter of Novo's U.S. sales from Medicare, we think this could amount to a 1-percentage-point hit to the firm's earnings next year.