EUR 850.00 For Business Accounts Only

Morningstar | Roche's Strong 2018 Results and Solid 2019 Outlook Support Our Bullish Call and Wide Moat Rating

We're maintaining our Roche fair value estimate of CHF 333 per nonvoting share and $42 per ADR following a particularly strong fourth quarter and solid guidance for 2019 despite increasing biosimilar threats. While shares reacted positively to the news, we continue to believe that the market underappreciates the ability of the firm's pipeline and newer marketed drugs to offset biosimilar headwinds. Management's guidance for 2019 for low- to mid-single-digit top-line growth, similar core EPS growth, and a higher proposed dividend align with our view that the firm's wide moat protects cash flows despite strong headwinds from biosimilar versions of Herceptin, Rituxan, and Avastin (which together represented 36% of 2018 sales). Roche also announced this week that it has halted trials of Alzheimer's drug crenezumab after an interim futility analysis. The firm is continuing studies with another phase 3 amyloid antibody, gantenerumab, and while this drug looks more similar to Biogen's aducanumab and has produced evidence of plaque clearing, this remains a small driver in our model, and data aren't expected until 2021.

Roche appears poised to weather the worst of the biosimilar hit with positive growth intact. Overall, biosimilars were a CHF 1.2 billion headwind in 2018, with Rituxan (CHF 900 million hit) and Herceptin (CHF 300 million hit) both exposed in Europe and Japan. Erosion rates for Rituxan in Europe are stabilizing, but Herceptin declines in Europe should accelerate in 2019, and biosimilars for both drugs (and Avastin) are launching in the U.S. in 2019. We expect these three drugs will see combined sales decline by more than CHF 2 billion in 2019 and again in 2020, before declines begin to decelerate in 2021.

Heading into 2019, several newer drugs are countering biosimilar pressure. We expect Hemlibra (recently approved in broader hemophilia A market in U.S.), Xofluza (first quarter should be a high demand quarter for the new flu drug) and Tecentriq (with a new first-line non-small-cell lung cancer indication with Avastin and upcoming 2019 approvals in PDL1-positive triple-negative breast cancer and small-cell lung cancer) to drive growth and counter pressure from older therapies. Kadcyla's upcoming approval in the adjuvant setting should also drive growth, although data with Perjeta in this setting isn't expected until 2020. Venclexta should also contribute to earnings growth, as a profit share with AbbVie will benefit from the drug's approval in first-line treatment of AML and upcoming first-line CLL approval (with Gazyva). In the pipeline, oncology therapies polatuzumab vedotin (aggressive lymphoma) and entrectinib (ROS1 positive/NTRK fusions) have been filed and should receive U.S. Food and Drug Administration approval later this year.

As we discussed in our recent Healthcare Observer, "Annual Drug Pipeline Report: Moats Remain Secure as Innovation Counters Pricing and Generic Headwinds, but M&A Accelerating," Roche has a leading number of catalysts in 2019 among its peers. While we don't see the firm undertaking large-scale mergers or acquisitions, we think cash flows could support smaller deals both in pharma and diagnostics.