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Morningstar | Zoetis Posts Strong 3Q Results, Consistent With Our Expectations.

Zoetis reported a strong third-quarter performance that held few surprises, and we’re leaving our fair value estimate unchanged, as the firm is on track to meet our full-year projections. Although the cattle segment displayed some softness, the entire livestock division saw healthy quarterly operational growth of 6% thanks to double-digit growth from poultry and fish. As is typical, the companion animal segment grew faster at 19% operationally in the third quarter, which includes the addition of the Abaxis diagnostic business. Continuing strength from the firm’s new products and additional investments in R&D, manufacturing capacity, and its commercial organization only underscores Zoetis’ wide economic moat.

Zoetis has been able to reap the rewards of its investment in novel therapeutics, specifically developed for the companion animal market. Apoquel and Cytopoint are dominant leaders in the U.S. dermatology market with an estimated 63% share. Along with Simparica, this collection of novel products has fueled double-digit growth in Zoetis’ companion animal segment, more than offsetting declines in older products. Management revealed that it is working on a new monoclonal antibody for pain in dogs and cats. This could be a big opportunity, as arthritis in older companion animals is quite common. The main treatment option for these pets is currently a non-steroidal anti-inflammatory, which may or may not be effective over the long term. While it’s not clear what mechanism of action characterizes this new therapy, we have seen some human pharmaceutical companies attempt to address pain with monoclonal antibodies that target nerve growth factors. In these cases, the therapy turned out to be significantly more efficacious than NSAIDs in humans, but the entire class of drugs has been dogged by troubling side effects.

The most recent human side effect concern has been an acceleration in the deterioration of affected arthritic joints leading to earlier and greater incidence of joint replacement. However, it’s not clear whether the deterioration is due to the actual therapeutic agent itself, or simply driven by more aggressive patient use of the joint once the pain is relieved. If this class of drugs is eventually approved for human use, we expect the market potential could be substantial. However, considering the number of times the regulators have intervened to halt clinical trials due to the emergence of side effects, we’re less confident these therapies will reach commercialization for humans. On the other hand, the lower hurdles for animal use could work in Zoetis’ favor. We expect a monoclonal antibody for pain will reach the canine market before the human market.