Eli Lilly and Company

Ladies and gentlemen, thank you for standing by and welcome to the Eli Lilly fourth quarter 2018 earnings call. At this time, all the participant lines are in a listen-only mode. There will be an opportunity for your questions and instructions will be given at that time. If you need any assistance during the call, please press star zero and operator will assist you offline. As a reminder, today's call is being recorded. I'll turn the conference over to Mr. Kevin Hearn, Vice President of Investor Relations. Please go ahead, sir.

Good morning. Thank you for joining us for Eli Lilly and Company's Q4 2018 earnings call. I'm Kevin Hearn, Vice President of Investor Relations. Joining me on today's call are Dave Ricks, Lilly's Chairman and CEO, Josh Smiley, our Chief Financial Officer, Dr. Dan Skowronski, President of Lilly Research Laboratories, Christy Shaw, President of Lilly Biomedicines, Ann White, President of Lilly Oncology, and Enrique Quintero, President of Lilly Diabetes and Lilly USA. We're also joined by Kim Macko and Mike Sapar of the Investor Relations Team. During this conference call, we anticipate making projections and forward-looking statements based on our current expectations. Our actual results could differ materially due to a number of factors, including those listed on slide three and those outlined in our latest forms 10-K and 10-Q filed with the Securities and Exchange Commission. The information we provide about our products and pipeline is for the benefit of the investment community. It is not intended to be promotional and is not sufficient for prescribing decisions. I will now turn the call over to Dave for a summary of our progress in Q4. Thanks, Kevin.

We continued our strong performance in 2018 with a fourth quarter revenue growth of 5%, non-GAAP operating income growth of 15%, and non-GAAP EPS growth of 17%. Newer pharmaceutical products, which represented 38% of human pharma revenue in the quarter, continue to be the driver of our worldwide revenue growth, led by TruLicity, Tulse, Basiglar, Fresenio, and Jardiance. Highlights of our strong volume-based growth include 31% U.S. diabetes volume growth and 11% total pharma volume growth. This was achieved despite the significant headwind from the loss of exclusivity of Cialis in the U.S. We continue to see our year-over-year expansion in operating margins. Excluding the effect of FX on international inventory sold, Q4 non-GAAP operating income as a percent of revenue increased by over 165 basis points while investing in new product launches. We made significant progress with the pipeline, including the approval of EMGALITY for the prophylaxis of migraine in Europe, the submission of EMGALITY for the prevention and treatment of cluster headache in the U.S., results from a Phase III study of tenazumab in patients with moderate to severe osteoarthritis pain, and the results of two Phase III studies of baricitinib in atopic dermatitis. We also provided an update on ANALS, the confirmatory Phase III study of Lortruvo in combination with doxorubicin for advanced or metastatic soft tissue sarcoma. This study did not meet the primary endpoint of overall survival, and there was no difference in survival between the study arms. We are now working with global regulators to determine the next steps for Lertruvo and will present the announced data at an upcoming medical conference. In terms of capital deployment, we continue to utilize our strong operating cash flow to access value-creating external innovation that will enhance our future growth prospects. We announced a definitive agreement to acquire Loxo Oncology, a biopharmaceutical company focused on the development and commercialization of highly selective medicines for patients with genomically defined cancers, which would add multiple first-in-class medicines to the Lilly portfolio and expand our oncology presence into precision medicines. We also announced several other business development transactions, including an agreement with AC Immune to develop small molecule tau inhibitors for Alzheimer's and other neurodegenerative diseases. We announced an agreement with Hydra Biosciences to acquire all assets related to their preclinical TRIP A1 antagonist program, currently being studied for the treatment of chronic pain, and an agreement with Aduro Biotech to develop novel immunotherapies for autoimmune and other inflammatory diseases. In addition, we returned over $600 million via the dividend and announced a 15% dividend increase for 2019. We also repurchased $1.1 billion of stock. I'd also like to provide an update on our plans for completing the full separation of Elanco. As we stated during our December investment community meeting, operationally we are ready to effect the full separation. Today, we are providing a timeline for the separation as well as the method we'll use to dispose of our remaining 293 million Elanco shares. Specifically, we plan to launch an exchange offer to Lilly shareholders in the first half of this year to exchange our remaining Elanco shares for Lilly shares. The exact timing of our decision to launch this exchange offer will depend on market conditions, but the launch of the tender could occur as early as the coming days. We're pleased with the market reception of the Elanco IPO and with Elanco's performance as a publicly traded company. Jeff and his team are well prepared to take the next step, and Elanco employees are excited about their future. We're proud of what we've accomplished together, and we share their enthusiasm for Elanco's future. Moving to slides five and six, you'll see more detail on the key events since our November earnings call. Now I'll turn the call over to Josh to review the Q4 results and to provide an update on our financial guidance for 2019.

Thanks, Dave. Slide 7 summarizes our presentation of GAAP results and non-GAAP measures, while slide 8 provides a summary of our GAAP results. I'll focus my comments on our non-GAAP adjusted measures to provide insights into the underlying trends in our business. So please refer to today's earnings press release for a detailed description of the year-on-year changes in our fourth quarter GAAP results. So looking at non-GAAP measures on slide 9, you'll see the revenue increase of 5% that Dave mentioned earlier. Gross margin as a percent of revenue increased 50 basis points to 76.6%. Excluding the effect of foreign exchange rates on international inventory sold, gross margin as a percent of revenue declined about 25 basis points. Total operating expense increased 1%, with marketing, selling, and administrative expense increasing 3%. driven primarily by increased expenses to support our newer product launches, including the U.S. launch of Emgality, while R&D expense declined 2%. Total operating expense as a percent of revenue compared to Q4 2017 declined by over 190 basis points, benefiting from previously announced actions taken to reduce the company's cost structure, partially offset by investments in new launches in our newest late-phase pipeline entries. Operating income increased 15% compared to Q4 2017, which put our operating margin at 25.1% for the quarter. And our operating margin, excluding the effect of FX on international inventory sold, was 24.8% of revenue, an improvement of over 165 basis points versus last year's quarter. Other income and expense was expense of $4.8 million for this quarter, compared to income of $111.9 million in last year's quarter. driven by approximately $100 million less in gains on investments. This reduction was due primarily to a large gain on the sale of an equity investment in last year's quarter and, to a lesser extent, mark-to-market reductions in strategic partnership or VC investments in public biotech companies in this year's quarter. Our tax rate was 15.8%, a decrease of 440 basis points compared with the same quarter last year, driven primarily by the impact of U.S. tax reform. So at the bottom line, net income increased 13%, while earnings per share increased faster at 17% due to a reduction in shares outstanding from share repurchases. Earnings per share also included a reduction of approximately two cents per share to reflect the non-controlling interest in Elanco. Consistent with our performance throughout the year, we achieved significant earnings growth this quarter by delivering mid-single digit revenue growth while carefully managing our operating expenses, leading to meaningful improvement in profitability versus last year. Slide 10 details the same non-GAAP measures for the full year, where you can see the full year impact of our strong top line growth and margin expansion, as revenue grew 7% while operating expenses declined by 1%, which led to a 30% growth in non-GAAP EPS. Excluding the impact of FX on inventory sold, operating income as a percent of revenue for the full year was 28.4%, an increase of 470 basis points compared to 2017. Moving to slide 11 provides a reconciliation between reported and non-GAAP EPS, and you'll find additional details on these adjustments on slides 25 and 26. Moving to slide 12, let's take a look at the effect of price, rate, and volume on revenue growth. This quarter, foreign exchange reduced growth by one percentage point. On a performance basis, worldwide revenue grew 6%, driven by an 11% increase in volume, partially offset by price. Q4 represented the second straight quarter our human pharma business delivered double-digit volume growth. U.S. pharma revenue increased 6%. Like last quarter, strong volume growth, which was 12%, led by Trulicity, Taltz, Basiglar, and Versenio, was partially offset by price. Excluding Cialis, volume grew nearly 21% in the U.S., highlighted by U.S. diabetes products delivering over 31% volume growth. While the U.S. pricing environment continues to evolve, our sustained success is driven by the execution of our volume-based growth strategy. U.S. price declined 6%, which was similar to Q3. Approximately three points of the U.S. price decline was driven by changes to estimates of rebates and discounts and disproportionate volume growth in certain government segments for trulicity. Roughly one point of the decline was driven by new access and corresponding volume for Basiglar in Medicare Part D, which we didn't have in last year's quarter. We also had approximately two points of decline associated with increases in patient affordability and access programs for TALTS and Humalog, which also drove increased volumes. Looking forward to 2019, we remain comfortable with our projection of mid-single-digit declines in U.S. price, more than offset by increased volumes. Moving to Europe, pharma revenue grew 3% driven by volume, largely offset by the negative effect of price in foreign exchange. This volume growth was achieved despite the loss of exclusivity for Cialis. Excluding Cialis, volume grew over 16%. This robust volume growth was led by Illumiant, Truelicity, and Tulse. In Japan, pharma revenue was up 1%, with 9% volume growth largely offset by a drag of 8% from the impact of the biannual price in cuts, which took effect in Q1. Volume growth was driven by newer products led by Trulicity, Jardiance, and Illumiant, with a significant contribution also coming from Cymbalta. Our farmer revenue in the rest of the world increased 10% on a performance basis this quarter, led by volume growth from our diabetes portfolio, namely Humalog, Trulicity, and Jardiance, in collaboration with Beringer Ingelheim. Turning to animal health. Worldwide revenue grew 6% on a performance basis this quarter, driven by higher volume. Higher sales of companion animal disease prevention and future protein and health products was partially offset by lower sales of products that are being exited and, to a lesser extent, declines in products for ruminants and swine and companion animal therapeutics. Slide 13 outlines the same information for our full-year results. Now let's take a look at the drivers of our 11% worldwide volume growth on slide 14. Once again, our newer products were the engine of our worldwide volume growth. These products drove 13.7 percentage points of volume growth this quarter, nearly identical to their contribution in Q3. Brands that have experienced loss of exclusivity provided a drag of 450 basis points, driven almost entirely by Cialis. You may recall the generic versions of Cialis entered the US market at the end of September last year, and as expected, we've seen a rapid erosion of sales. When excluding LOEs, the rest of our products posted Q4 volume growth of over 18%. Slide 15 provides a view of our newer product uptake. In total, these brands generated over $2.1 billion in revenue this quarter, representing 38% of our human pharmaceutical revenue. Our newer product growth demonstrates the successful execution of our commercial strategy. We're particularly excited about the launch of Emgality in the U.S. for the preventative treatment of migraine. While still early, the NBRX share gains we have experienced to date have been impressive. Combined with best-in-class U.S. payer access, we anticipate Amgality will be a meaningful growth driver going forward, demonstrating the promising future for our paying franchise. Moving to slide 16, and continuing with our non-GAAP explanations, this quarter the effect of FX had a relatively minimal impact on our income statement, with a small negative impact on revenue and a small positive impact on operating income and EPS. Turning to our 2019 financial guidance on slide 17, you will see that we've updated our non-GAAP guidance to reflect an approximate $0.34 impact of the anticipated LOXO oncology acquisition, which we assume closes this quarter. Additionally, the approximately $0.17 negative impact of Lartruvo's Phase III announced study results was offset by positive trends in our core business performance and an improved tax rate versus what we projected in December. This updated non-GAAP guidance by line item includes a decrease of $200 million on the top line, driven by the impact of Lartruvo, partially offset by the inclusion of Victrac-V, and an improved sales outlook across other products based on Q4 momentum. An increase of $200 million for R&D expense due to the addition of the LOXO oncology pipeline. and a decrease of $100 million for other income and expense to a range of between $175 million and $325 million of expense, which is driven by higher net interest expense due to the Loxo Oncology acquisition. As we stated during our investor call for the acquisition, the incremental interest expense reflects only a portion of the financing, as our 2019 guidance in December had already contemplated business development financing needs for roughly half the size of the transaction. a decrease in our effective tax rate from 16% to 15%, driven by adjustments for U.S. tax reform, and this results in a decrease in our non-GAAP earnings per share range to $5.55 per share to $5.65 per share. I would note that the revised guidance continues to include a reduction of approximately $0.08 per share to reflect the non-controlling interest portion of Elanco profits for the full year. The average of the 2019 non-GAAP earnings per share estimates for analysts who have updated their model since the LOXO oncology and Lartrula announcements is $5.55. And for those who haven't updated since our December meeting, the average estimates for those is $5.94. Touching briefly on our updated GAAP guidance, the 50 basis point increase in the effective tax rate is due to certain LOXO oncology acquisition and integration expenses not being deductible for tax purposes. In addition, GAAP earnings per share for 2019 is now expected to be in the range of $4.57 per share to $4.67 per share. I'd note that currently the euro is slightly weaker and the yen and renminbi are slightly stronger than what we assumed in our guidance in December, but in total, FX impacts are modest. We'll monitor FX movements and incorporate changes as appropriate in our quarterly updates. Moving to slide 18, the numbers here should be helpful as you think about our business on a go-forward basis post the separation of Elanco. Our pharma-only expectations for 2019, first shared with you at our December investment community reflect, community meeting reflect, mid-single-digit revenue growth, relatively flat marketing, selling, and administrative expenses, R&D growth to accommodate the LOXO oncology acquisition and other phase three investments, and operating income as a percent of revenue at approximately 28% or 27.5%, excluding the effect of FX on international inventory sold. We will provide an EPS range once we have executed the Elanco exchange offer and know the number of Lilly shares retired. Although our updated full company EPS guidance is lower than our December guidance due to the LOXO oncology acquisition, we still expect strong full-year performance, led by volume gains in our newer products. We remain committed to our innovation-based strategy and are making substantial investments in 2019 to bring forward our next generation of new products. And I'd also note that despite the incremental costs associated with the LOXO oncology pipeline and the unexpected LocTrulo impact, we are committed to and confident in achieving our 2020 sales and operating margin goals. As we move forward, we'll continue to prioritize funding for our existing marketed products, new launches, and lifecycle opportunities in addition to replenishing our pipeline. We'll also continue to leverage business development to upgrade our pipeline and future growth prospects. And finally, we'll return excess cash to shareholders via increases to the dividend and share buybacks. Now I'll turn the call back over to Dave to review the pipeline and key future events.

Thanks, Josh. Slide 19 shows select pipeline opportunities as of February 1st. In addition to the pending addition of LOXO assets, movement since our last earnings calls include the U.S. submission of Immigality for episodic cluster headache, the start of phase three for terzipatide and type two diabetes, the start of phase two for a once weekly basal insulin, an automated insulin delivery system, which is part of our connected care efforts that Dan highlighted at our December investment community meeting, and a new indication for Versenio in prostate cancer. The initiation of phase one testing for eight biologic entities across our therapeutic areas, and the attrition of three early stage molecules. On slide 20, we provide a final tally on the key events we expected for 2018. As we reviewed in detail at our December investment community meeting, 2018 was a strong year for progress in our pipeline and in execution of our innovation-based strategy. And while we experienced a setback on LaRTruvo in January, we entered 2019 with great momentum. Slide 21 shows the early progress we've made on key events and we're monitoring for 2019. These include the initiation of a phase three study of Mpegaflozin in chronic kidney disease, results from a phase three study of Tenazumab in osteoarthritis pain, results from two phase three studies for baricitinib and atopic dermatitis, and the previously announced and discussed Lartruvo study. Now let me briefly sum up the progress we've made in the past 12 months and our priorities moving forward. In 2018, we delivered strong volume-based revenue growth of 7%, driven entirely by our new products, which accounted in the calendar year for 34% of farmer revenue. We continued our strong operating performance and our margin expansion of over 470 basis points, excluding the impact of foreign exchange on international inventories sold. We've seen excellent progress in our pipeline, with our internal and external innovation investments yielding multiple approvals, submissions, and positive Phase III readouts, along with several significant first-in-class additions to our late-stage pipeline. We completed a review of the strategic alternatives for Elanco. Through a well-received initial public offering, Elanco Animal Health became a publicly traded company. Elanco raised over $4 billion through the IPO and debt offering, the vast majority of which was provided to Lilly as consideration for the businesses Lilly transferred to Elanco in connection with the IPO. We also returned approximately $6.5 billion to shareholders via the dividend and share repurchase, announced the pending acquisition of Loxone Oncology, and bolstered our early phase pipeline and preclinical platforms with numerous business development deals. Moving into 2019, we remain focused on launching with excellence and continuing to replenish our pipeline. Before moving to Q&A, I'd like to take a moment to comment on the latest news regarding potential U.S. healthcare system reform. The proposed rule that would eliminate the safe harbor protections for rebates within the Medicare and managed Medicaid segments would represent meaningful change to the system. While it's still a proposal, we see this as potentially accomplishing the following. First, this could be a win for patients, lowering their out-of-pocket costs at the pharmacy counter with the greatest benefit realized by patients taking more highly rebated products, such as insulin. Second, for innovative products and companies, the rule will shift the focus to demonstrating the value of our medicines and partnering with health insurers and systems to improve quality, outcomes, and lowering overall medical costs. Patients should directly benefit from price reductions and concessions in federal and commercial plans. Unfortunately, as you know, this rarely occurs today. Finally, this change could remove an artificial barrier to competition, creating space for innovation that addresses unmet needs for patients. We continue to support making medicines more affordable and accessible to patients. Too often, the sick are subsidizing the well in our current system, and this appears to be a positive tool to address this issue. We offer improvements to the U.S. healthcare system like this, which appropriately balance patient affordability, market-based principles, and reward innovation. While I know you likely have many questions on this, I'm sure we'll continue to talk about this as more details emerge about the rule. This concludes our prepared remarks, and now I'd like to turn the call back over to Kevin to moderate the Q&A session. Thanks, Dave.

We'd like to take questions from as many callers as possible. So we ask that you limit your questions to two or to a single question with two parts. John, please provide the instructions for the Q&A session, and then we're ready for the first caller.

Certainly. And ladies and gentlemen, if you would like to ask a question, please press star 1. You'll hear a tone indicating you've been placed in the queue. If your question gets answered, you wish to remove yourself from the queue, please press the pound key. Again, star 1 if you have a question. First, we'll go to the line of Seamus Fernandez with Guggenheim. Please go ahead.

Oh, thanks very much for the question. So just really quickly to both on pipeline products, just can you guys give us a quick sense of the expectations for how Tenezumab at REMS program might be implemented and, you know, what that might look like in terms of its impact on the launch of that product? And then the second question is, Just relative to the data that we got recently, or at least the headline announcement for atopic dermatitis with baricitinib, can you just give us a general sense of how you see those data competing in the market versus the existing product, Dupixent? Thanks so much.

Okay, thanks, Seamus. We'll go with Dan for the expectations for the Tenezumab REMS program. Christy, if you want to weigh in on the commercial, potential commercial impact, and then to Christy for bariatric atopic dermatitis.

Yeah, thanks for the question on Tenezumab. Of course, we're excited to, along with our partner Pfizer, announce the date on the latest Phase III trial. We still don't have the full data package, of course, on this molecule in OA. As we said before, though, we're very confident in the efficacy. We continue to see that replicate, and that's encouraging. The risk, obviously, we've been looking at is rapidly progressive osteoarthritis, RPOA. And the data that we continue to get, I think, is a very encouraging picture. This molecule, I think, if you take the context of the vast unmet medical need for chronic pain, and the deficiencies with the existing therapies that are available, including opioids and NSAIDs, I think really this offers a compelling benefit. So we have to wait and see what the next trials read out, particularly the long-term safety study. But if we can continue with the pattern of results that we've seen so far, I think we have great reason to be encouraged. With respect to your specific question about post-approval REMS and things like that, I would just say it's premature to discuss it. Let's get the full data package and then move forward with the FDA.

And, you know, to what Dan's talking about, if you look at the commercial data, The number of patients that are suffering from osteoarthritis is 27 million. And if you just look at the patients that are similar to what we enrolled in the study, 11 million of those patients are very similar, which is they've been on at least three different classes of analgesics. It's been over six years. They changed medications multiple times. So the unmet need, even in the most severe market, is extremely high. So as we look at the safety and REMs, et cetera, that high unmet need, the opportunity is still huge in the most severe patients. Turning to atopic dermatitis, yes, we reported out positive results in terms of our atopic dermatitis meeting our primary endpoints. Recall this is two of five studies, so we have three more readouts this year. That combination of studies will then support a global package. Just to give you a little bit about the atopic dermatitis market, as you may or may not know, 54 million patients suffer from atopic dermatitis, 18 million of those moderate to severe. And if you talk to thought leaders, whether it's one-on-one or from the podium, they see this market like the psoriasis market was 15 years ago. And to be able to come to market with the very first oral is our goal. as these patients suffer and need new therapies.

Thanks, Christy. John, next caller.

And that will be from the line of Steve Scala with Cowan. Please go ahead.

Thank you. I have two questions. Were the baricitinib trials in atopic dermatitis only positive in the 4-milligram arm, or was statistical significance achieved on the 1- and 2-milligram cohorts as well? And then the second question is, the impact on 2019 P&L of the Lartruvo failure was not small. I appreciate there were reasons for this. But as we look to critical 2019 readouts, what can you tell us about their contribution to guidance? I am specifically thinking about the LOXO292 libretto trial, the tenazumab safety trial, Trulicity Ward 11, and Versenio Monarch Plus trial. Thank you. Thank you.

Thank you. Christy, we'll have you answer the question on baricitinib, and then go to Josh for the guidance question. Thanks, Steve.

Yes, so as you look at the trial, it included three doses, one milligram, two milligram, and four milligram. One milligram did not meet the primary endpoints, but two milligram and four milligram did meet the primary endpoints. As you look at the pain... and the global assessment scores at three primary endpoints, four milligrams did meet all of those, and two milligrams met two of the three. So as we look at those, you know, we know in the atopic dermatitis market, the four milligrams is an effective dose. It will be something that, as we look at the total package, we'll be submitting to FDA for approval.

Hi, Steve. It's Josh. On the guidance, I'd first say that for all the R&D pipeline items you mentioned, our R&D range funds and contemplates success in those categories. Obviously, with the LOXO addition, 292 is the primary driver of the $200 million R&D expansion in our line item guidance. In terms of the top line, we look at all the opportunities and potential sales impacts and probabilize those. So they're contemplated in our range, although I would say most of the things that you mentioned really will have more of an impact in 2020 to the extent that they're positive. As I mentioned in the upfront comments earlier, Even with the impact of Lartuga coming out, we're confident in achieving our sales goal for 2020, which would be the 7% compound annual growth rate for the pharma business between 2015 and 2020. To achieve that, based on the guidance we're giving for 2019, that assumes a minimum growth of about 6%. And that's not dependent on any individual product launch or R&D readout at this point. We're confident with the number of launches that we're in the midst of now and the clinical data that are still accruing, we're confident that we can hit that number in 2020. Thank you. John, next caller.

We'll go to Chris Schott with J.P. Morgan. Please go ahead.

Great. Thanks very much for the questions. My first one was on your expectation for mid-single-digit decline in U.S. price. I was just wondering, can you give us a bit more granularity like you did in the 4Q about the driver's assumption? I guess what I'm really trying to get at here is, should we be thinking about a similar dynamic like we saw in 4Q, where it's channel mix and patient affordability initiatives, so the primary drivers of price decline, or is this more about greater rebates and contracting pressures driving that erosion? My second question was just about the operating margin targets as we think out to 2020 on pharma. I think you're looking at about a 200 basis point impact versus prior guidance on pharma for 19. So maybe just elaborate some of the dynamics as we think out to 2020 and what we should be thinking about for the pharma business there. Thank you.

Great. Thank you, Chris.

We'll go to Josh for both those questions. Chris, first on the price decline for 2019, so one thing that we have that is new in 2019 is the Medicare donut hole expansion, the move from 50% to 70%. And that's got about a $200 million impact or close to two points of the mid-single-digit decline we'll have. So that's a new item in 2019. Otherwise, we are seeing generally the same things. We're seeing an increase in our patient affordability efforts. These are around Humalog. They're around new launches like Trulicity and Emgality. We're We're very confident that those kind of impacts are positive. In the long run, they lead to volume gains over time. We're seeing that certainly in TALTS right now. So we do expect a few points of drag there. And then I think the rest is mostly going to be either mix or positive. you know, small unit declines, but nothing that, you know, they're all sort of related to, you know, maintaining or improving access. We obviously are always looking at diabetes as a big segment, one that faces a lot of competition, but we're very happy with the access that we have going into 2019 and aren't, I don't think you'll see any, you know, big new headwinds from a pricing perspective. As it relates to the operating margin targets for 2020, yeah, I think if you look at where, you know, the guidance we have for 2019, I think, you know, sort of is about probably about 27% at the midpoint ranges. Remember, our guidance for 2020 now is that when you take out Elanco is to get to 31. Elanco, when we take it out, gives us about a point or so of benefit. So, yeah, we're looking at about 300 basis points improvement. versus our midpoint range this year to 2020. We think that's very achievable. If you look at in 2018, we improved operating margin by about 450 basis points. We got there through mid to high single digits, top line growth, and relatively flat expenses. As I mentioned, to achieve our minimum revenue growth, we'd need about 6% growth in 2020, which we feel good about. So So, you know, mid-single-digit top-line growth with good control on expenses gives us, I think, a very good, just mathematically gets us there. So we're comfortable with the ability to achieve that minimum.

Thank you.

John, next caller, please.

And that will be Jason Gearberry with Bank of America Merrill Lynch. Please go ahead.

Hi, good morning, everyone. This is Chi on for Jason. Thanks for taking our questions. One on pricing and one on endality. First one, can you give a little color on how you think about the impact of Card D rebate reform on exclusive contracting, specifically on products with high gross net threat like diabetes treatment? Just curious, does the company see and end to exclusive contracting if rebates are taken broadly away, or does Lilly believe lower net cost provider will win the exclusive contract? Second, on mGalaxy, I'm curious to know how you think about the puts and takes for the progression of mGalaxy over 2019. Is Lilly's focus on primary care the reason Lilly might be lagging competitors in the space, given neuro and head specialists are early adopters? And if you could quickly comment on the mGalaxy pay prescription ratio look, how it compares to MD50% right now, that would be great. Thank you.

Okay, thank you. We'll go to Enrique for the question on Part D rebates, and then Christy for Emgality.

Yeah, I'm not sure that I understood the full question, but at this point in time, I think as we look at the status quo, we basically see a continued trend when it comes to exclusive contracting. As we all know, mealtime insulins is already contracted that way, and we see basically trends where most payers are trying to restrict utilization, maybe have fewer products and extract rebates and concessions clearly. Right now, there's some uncertainty when it comes to the new proposed rule, and we really need to see how that is going to play out. I won't be able to speculate at this time.

Yes, and on Mgality, we're so excited with, you know, the number of patients that are being helped by the CGRP agents. You know, we expect probably 6 million patients to be eligible. If you look at Mgality specifically in your questions, we launch in October. Obviously, so we just have a couple of months of data, but right now what we're seeing is similar that our pay prescriptions are at about 50%. The marketplace splits up about a third of the prescriptions come from primary care, a third come from neurologists, and a third come from mid-levels. So this very much will be an expansion into primary care beyond the neurologist as well. Specifically looking at Emgality's performance, we ended the year, even though we launched late, at a 20% NBRX. And we're currently looking at a 26% already in January. So as you look at these launches, we just launched our direct-to-consumer TV ad campaign this week. We know that Lilly has very strong consumer activation relative to our competitors. We know that we have a drug that has not just demonstrated 50% improvement, but 75% and 100% reduction in monthly headaches that our competitors don't have, as well as quality of life. And we have the unique platform and device that Trulicity uses that we know over a million patients really like. So we're very bullish on both the market and on Engality's ability to compete.

Thanks, Christy. John, next caller, please.

That will be Louise Chen with Kantor. Please go ahead.

Hi. Thanks for taking my questions. My first question here is how long do you think it will take for Trulicity sales to benefit from your rewind presentation at ADA, and what type of uptake do you think we should see after that? And then secondly, on the market opportunity for lesmidodan, just curious how you think about it now in light of the injectable CGRPs being approved and the potential for oral CGRPs to come to the market. Thank you.

Thank you. So Enrique will take Trulicity, and then Christy will handle the question on lesmidodan.

Clearly, Trulicity has an outstanding run right now and benefiting from a huge growth of the GOP1 market. We are seeing the GOP1 market accelerate from already very high levels, growing at nearly 30% on a year-on-year basis. And importantly, in that market, electricity has continued to perform well, and we've been able to gain share, in fact, over five share points since the launch of OCEMPIC. Now, as we look at Rewind clearly, we see this as a critical trial and data set that's going to benefit patients. The big impact is when we basically start promotion of of this important data, and I think it basically solidifies, I think, the bright future that Trudicity already had. We expect that impact, of course, sometime in the 2020, once we get the FDA action on the new label.

Yes, and then on lasmidedan and how it will play in the marketplace, we will have some regulatory action this year. So we're looking forward to that. If you look at the marketplace, kind of how we look at it with the 36 million patients who suffer from migraine, there's about 16 million of those that are diagnosed and 6 million that suffer from acute migraines and are taking therapy. And that is overlapping only somewhat with the prevention market. So as you look at prevention, CGRPs versus acute use, There's obviously a huge need for both distinctly. And CGRPs also obviously don't clear 100% of all patients of their migraines. So we see the use obviously may overlap there. And we think LASME has a really great positioning versus the oral CGRPs. You know, if you're taking a preventative CGRP, you may want to look at a different mechanism if you have to add to that. And then if we look at the acute marketplace, so many patients have fallen out of the market because of lack of efficacy or they can't tolerate the safety. So Lasminidan will be a great option for them.

Thank you. John, next caller, please.

That will be from Alex Arfai with BMO Capital Markets. Please go ahead.

Great. Good morning, and thank you. Virginia was notably below our expectations. You mentioned buying patterns in the U.S. impacted this. Could you please quantify the inventory impact and your latest long-term expectations for this product? given the apparent slowdown in the CDK46 market. And just a follow-up, a bigger picture question on your operating margin. I'm just trying to look past 2020 here. Historically, you've invested more in internal innovation as opposed to external innovation, and with that higher R&D, your operating margin was relatively lower to your peers. Now that you seem to have a more balanced approach with increased contribution from acquisitions, As your top line grows in the mid-single digits, is it reasonable to expect that Lilly can get to mid-30s operating margin? Thank you.

Okay. Thank you. We'll go to Ann for the question on Versenio, and then Dave will take the question on operating margin post-2020.

Thanks, Alex, for the question. So we saw about $4 million in inventory impact in 2018. As you mentioned, we are seeing flattening in the CDK4-6 market as penetration has occurred. With Versenio, our focus is clearly on execution to drive new trial of Versenio and increasing our share of market. On a positive note, we're encouraged that we're seeing high conversion rates with over 50% of physicians who trial Versenio moving on to write additional prescriptions. We're also really looking forward to the launches outside the U.S. We've launched in Japan recently. and in several countries in Europe, and the uptake has been strong as well. In particular, what we're seeing is good uptake in patients with a poor prognosis, and so that will be patients with visceral disease or liver metastases. So we're also driving execution in there. So we have hopes for continued growth for Versenio as we really focus on a strong year of execution across the globe.

Yeah, and as it relates to sort of margins and long-term R&D strategy, it's a good question. I know there's a lot of appetite for us to nail down some long-term target number. We're not going to do that because I think really at the core of this is a question of what are our opportunities, which we don't have full visibility to beyond 2020. But let me just tell you how we think about this. We see a period ahead of prolonged revenue growth for the company because we have a relatively new lineup of products that should continue to grow. We're adding to that even this year and next with additional launches. We do see ourselves balancing R&D spending, both with balance sheet M&A as well as partnerships, and continue to spend it, I would say, toward the top of the industry on internal income statement-based R&D because we see good opportunities today. But that is not a fixed line item. It's based on what we see in front of us and the opportunity to create value for shareholders and patients with innovation. I would expect long-term to continue to see, as we grow top line, better gross margins and better SG&A as a percent of sales. So those will be helpful long-term to that continuing expansion. R&D will be more a function of our choice-making on growth drivers for the future, and it's hard to speculate on which direction that would go. We would hope, actually, to be able to spend more because that would mean the science is promising and we see opportunities to grow the value of the company and improve therapies for patients. Thanks, Dave. John, next caller, please.

We'll go to Jeff Meacham with Barclays. Please go ahead.

Morning, guys. Thanks for the question. I just had a few. Enrique, you saw some good sequential trends for Jardians in 3Q as well as 4Q. So the question is, what do you attribute that to, and should the demand backdrop continue into 2019? I know most investors were initially expecting more of an inflection after Empiric. It hasn't happened yet, but are you seeing signs of that happening now? And then just a bigger picture for Josh, on the back of the LOXO deal, obviously you guys have broadened, even more broadened your oncology presence. So from maybe a capacity or from a priority standpoint, you know, where do you see BD fitting in? Is there a therapeutic category that you feel like you may need a little bit more help in? Thank you. Thanks, Enrique.

Very good. As we look at 2019, I'm particularly bullish when it comes to Jordians because we have a number of inflection points that I think are playing a strong tailwind for the success of the product. As you know, we have new updated ADA and EASD guidelines, I think, that place emphasis on SGLT2s, but in particular preference for Jordians within that class. Clearly, we have the re-inclusion of Jordans in the CVS formularies, and that's pretty significant in that now Jordans has basically 90-plus access across commercial and Part D. It is likely that we're seeing, as we look at some of the data, when we look at market data, It is likely that we're seeing some spillover effect of that reclusion even beyond some of the formulary itself. It's basically running in the low to mid-60s when it comes to NBRX share. And we're actually seeing the SGLT2 class accelerate and now basically showing growth in double digits. I think all of that I think is very encouraging. And finally, given the profile that we basically have, The increased investment in terms of our competitors, we see that also as beneficial to the product. So very bullish in terms of how I see this overall class accelerating, and more importantly, Jardians basically capitalizing as the share leader.

Hi, Jeff. Thanks for the question. I think as it relates to business development capacity and interest, first I'd go back to Dave's earlier comments about how we think about the future. We see a period of good growth in front of us, and that good Sales growth and operating income growth translates to strong cash flow generation. So I think in terms of capacity, we feel like we've got very good capacity going forward. So really from a business development perspective, we're going to be mostly constrained by the opportunities that we see. We're not particularly tilted towards one therapeutic area. It's really the therapeutic areas that we're invested in today. When we see good assets where we, like the science, can enhance the portfolio and can create value for shareholders with the acquisition, we'll pursue those and we'll pursue them aggressively. I think just given where investment and the progression of opportunities in science is, you'd have to expect that we will continue to be looking at oncology and immunology are two areas where there's just a lot of opportunity, but all of our therapeutic areas are open for us, and when we can find the best assets, really we've got the balance sheet and cash flow capacity to act.

Thank you.

John, next caller, please.

That will be David Reisinger with Morgan Stanley. Please go ahead.

Yes, thanks very much. First, could you please discuss the forthcoming LOXO292 readouts to watch? And if possible, it would be helpful if you could characterize what percentage of patients could be candidates in each tumor type. Second, with respect to Novo's oral semaglutide, I think the expectation is that it will be priced lower as an oral. could you discuss potential implications for the GLP-1 market, including trulicity? And then I just have one little knit question, which is for Trojanta, the Carolina study versus sulfonylurea completed six months ago in August, when should we expect a top line? Thank you.

Okay, thank you. We'll go to Ann for Luxo, and then Enrique will take the final two questions.

Yes, so for LOXO292, you can expect to see an additional readout at a scientific meeting in the second half of 2019, so we'll be looking forward to that. The study, the Lobretto study, is enrolling very well. It has over 300 patients in it now, and so there will be robust data reported at the end of this year. Importantly, as we saw some of the data that was reported last year at some of the various meetings, such as World Long, we saw response rates between 60% and 80%, depending on the tumor type, and then seeing patients stay on therapy 90% or higher staying on that therapy. So we remain very excited and encouraged by the 292 data. We think it's transformative for patients with RET fusions or mutations. And so you'll continue to hear more from that. On the actual incidence rate, so what we know as far as conversations with thought leaders and also reviewing literature, is that with RET fusions in lung cancer, it happens in about 2% to 3% of lung cancers. And so, as you know, that's a substantial market, and so that's one of the largest growth opportunities. That could be over 3,000 patients in the U.S. In papillary RET fusions, it's about 10% to 20%, a smaller population, but, again, a very strong response rate in those patients. And then in tumors such as medullary thyroid, which has activating RET point mutations, that actually happens to about 60% of those patients that they see that RETs. that RET mutation. And so, again, that could be an additional 500 patients in the U.S. alone, and these don't include the global numbers. So while the incidence rates are not high, the response rates are really remarkable, and so we do believe that we'll see strong penetration and also a long durability of response. So, again, very excited about looking forward to those readouts.

Very good. David, thank you for the question on oral SEMA. That is a question for Novo Nordisk. Unfortunately, I'm unable to really speculate on how they're going to price the product and some of the implications. As far as Trajenta and Carolina, we expect to release the top results this quarter, the top-line results.

Thank you, Enrique.

Next caller, please.

We'll go to Vamil Devan with Credit Suisse. Please go ahead.

Hi, great. Thanks for taking my question. So first on aluminum, just following up on some of the earlier questions, I know the four milligram dose may be coming, but at least for now, with the two milligram dose in the U.S., how should we think about the uptake potential, I guess, say for this year, maybe early next year? Pretty limited sales in the fourth quarter, at least. So just trying to get a sense of U.S. versus ex-U.S. dynamics there. And then for Emgality, I appreciate some of the comments you made there around the dynamics, but just curious how you're seeing the the discounting or say the net pricing evolved for that market with three players in the space. It looks like you guys have done pretty well in terms of gaining access based on the announcements you've seen, but any longer-term insights would be helpful.

Thanks. Sure. Thanks, Emil, for the question. So I guess I'll take both of those. I'm sorry, Kevin. I kind of just put it in there in front of you. So on Illumia, what we see, you know, across the globe is really strong uptake, especially with our clinical experience that the patients are having. fast pain relief. And what we see with the two versus the four is very similar from an efficacy standpoint. The ACR 20, it's about 1% less on the two versus the four milligram, and ACR 70, it's about 4% less. So in the US, those physicians who have tried it and the patient's feedback has been extremely positive. Obviously in the US, our indication places us post-TNF. At a 60% discount to the market leader, our access hasn't been an issue. and we think, you know, this will be a continued growth product in that smaller market that we're playing in right now. We obviously continue to look at the 4 milligram across multiple indications, as I talked about earlier with atopic dermatitis, lupus, obviously the discussion is ongoing in rheumatoid arthritis, et cetera. So we're still very confident in that dose and the benefit-risk profile of that. As I move on to Emgality then, thanks for asking about – the discounting and the net pricing, because I forgot to mention, we're very excited to know that starting February 1st, we will have best-in-class access in 2019 versus the other CGRPs. We are on all three major PBMs. There has been only one regional player, small regional player, that has disadvantaged us to the other CGRPs. So we have wide-open access and, relative to our competitors, better access. I can't really comment on the discounting piece. I can tell you, you know, what we're seeing as the market plays out is, you know, the sampling happens in the physician's office. We started right away in the physician office sampling and in retail. So what you see in our NBRX rates is actually no samples in there. It's pure play, only the copay piece of it. And what you see with the market dynamics as well, I've gotten a lot of questions on is the market flat. We think the market continues to grow. Huge opportunity, up to 6 million patients. And with the market dynamics of our competitors changing from specialty mail order into retail has kind of made that market chart look a little bit flat versus what we actually think the underlying demand is.

Thanks, Christy. Next caller, please.

And we'll go to Andrew Baum with Citi. Please go ahead.

Hi, this is Vinita Grewal for Andrew Baum at Citi. Two questions, please. The first one is, while the HHS net pricing proposal might reduce near-term political pressure on drug price affordability, how concerned are you that it will ultimately spill into the much more profitable commercial plans with material negative pricing implications for you? Secondly, do you think a second NDC brand strategy for Medicare formularies is commercially viable, or does it materially increase risk of fraud at independent pharmacies? Thank you.

So we'll go to Dave for the initial question on the pricing pressure and what we're seeing in the government and any potential spillover to the managed care, and then we might need to come back for clarification on the second question.

Yeah, I'm not sure I got all the detail of your question, but I guess I'll just caveat this answer by saying it's difficult to speculate right now. Of course, it seems like nearly every week we see some new proposed regulatory rule or introduction of some idea on the Hill as it relates to U.S. drug pricing. I'll give you our long-term outlook, which is as an innovative-based company, we're, of course, very excited about the underlying science in this industry and what it can do. The products we've been speaking about today are good examples of that. And I think an innovation-based strategy is the way to overcome whatever the pricing pressures are out there. So we like where we sit. We're in a period of strong growth, and we've got innovation flowing now as well as recently launched that gives us a strong base going forward. We'll adapt to whatever rules come out and how they get finalized. No doubt, I would say it's fair to say the administration is focused on both government formularies as well as spillover into commercial markets. We think that's fine. It's probably difficult to run two systems side by side. And their top priority is actually our top priority, which is lowering out-of-pocket costs for patients at the pharmacy counter. So things like in the new rebate rule, this ability to pass through savings in a chargeback form or some other form even as early as this year into Part D plan. That's a great idea, and I think that's highly consistent with the policy positions we've taken before. We'll have to see how the dynamics evolve, but, you know, Lilly's got a very strong capacity and capability in managed markets and in working with payer customers. That will serve us well as we navigate this period of change, and, you know, I'm confident based on innovation we'll emerge successful.

Could you please repeat the second question so we can try to answer that for you? We didn't pick it up in the room.

So do you think a second NDC brand strategy for the Medicare formula is commercially viable or does it materially increase the risk of fraud at independent pharmacies in the sense that the pharmacies dispense the lower-priced drug but bill for the higher-priced drugs?

Maybe I'll try to provide an answer to that question. This is Enrique. We do review all options available to us, including potentially having a second brand. There are a number of reasons why a second brand could be viable, and it really depends on the specific situation for the product. So that's something that we always study very carefully, but I'm not prepared to comment on that at this time. Thank you. Next caller, please.

We'll go to Amir Rafat with Evercore ISI. Please go ahead.

Hi, sorry. Thanks so much for taking my question. First, I noticed in some of the deal documents that came out on the LOXO deal, there was a sales estimate from LOXO management of sub $40 million for 2020. Can you comment on that and maybe just give us a little more specifics on specific metrics on what extent of testing is already happening and how you see that changing, let's say, by year-end 2019. Thank you very much.

Okay, thanks. We'll have Anne take those questions.

Well, on the going-forward sales forecast, we don't comment on those specifically, and so I won't comment on that, the details of forecasted sales. This is obviously the launch year for VITRAC-B, and so I think it's too soon to comment, I believe. Bayer would say that things are off to a good start. But again, we'll have to see the full year performance before we can comment on future performance. As far as the testing, so it's importantly what we're seeing in both TRAC and then in RET is obviously in lung cancer, we're seeing uptake of testing go rapidly. And our belief is that when we have good medicines, testing tends to follow pretty rapidly. And so it's important for us to accelerate bringing these medicines forward and then driving that testing quickly. Key, though, you're noting is success in these spaces is getting testing to be widespread. So our focus is not just on launching these drugs, but also partnering with pathologists and diagnostic laboratories and making sure that this testing is routine and available. We are seeing early adoption. It's just the academic central cancer centers. And so we expect that they'll help us scale getting particularly NGS testing to be more routine. And again, we're seeing an even increase in thyroid. So while it's fairly routine in lung, again, With the knowledge out there that there are opportunities in thyroid, we're seeing that testing go forward. And I do believe that advances in testing will also bring the cost down, so that's also what we see as key. So in our launch strategy, it's very much about the partnership with the laboratories, the pathologists, to make sure that they understand the value of testing. And I know that Bayer and Loxo agree with this as well. So we believe that good medicines will drive change in practice, and so we definitely are bringing forward good medicines, and we look forward to helping change the face of medicine, particularly in precision medicine, which is a very high-value driver with the fact that with these very strong response rates, the efficiency of the health care system is significant. Small numbers of patients, high response rates, a very efficient use of health care dollars. So we believe we can change that dynamic pretty rapidly. Thank you.

Thank you, Anne. Next caller, please.

And we'll go to Steve Scala with Cowan. Please go ahead.

Thank you. Christy, may I clarify your comment on the baricitinib atopic dermatitis data? There is only one primary endpoint in the trial. That's investigator global assessment. Is that the one that the two milligram missed? Secondly, Monarch HER and Monarch Plus are not listed in the key 2019 events. but both were expected. Can you clarify? And then lastly for Enrique, I hate to split hairs, but on the Q3 call, you referred to rewind as paradigm changing on several occasions. You did not say that today. What has changed in the last three months? Thank you.

Thanks, Steve. We'll go to Christy for the first one on Barry, then Ann for the Monarch readout, and then Enrique finally to close out on Rewind. Christy.

Yes, so we had a primary endpoint, and then we had multiple secondary endpoints, and we're going to be sharing that data at a future scientific meeting, especially as we gain more knowledge with the next three studies that I'll read out this year. There were multiple endpoints. We had a global assessment is a primary endpoint, but then we had multiple secondary endpoints to that, actually eight of them. And so as we know, the four milligram met all of the primary endpoints, as I said. The two milligram missed on some of the secondary endpoints. So I appreciate you allowing me to clarify that answer. Okay.

Yes, on the Monarch-Kerr study, we do expect the readout to be in the first half of this year. It is a Phase II study, so that's something that we wouldn't note necessarily on those listings. But we do look forward to that readout and then look forward to the next stages of that, whether we move forward to a Phase III study, depending on the robustness of the data. So you'll see that readout in the first half of this year.

Thank you. Enrique?

My enthusiasm for Rewind and Trulicity has not changed at all. If anything, we're even more bullish today than we were maybe a couple of months back. Thank you. Next caller, please.

And, Mr. Hearn, no further questions in queue.

Okay, great.

Thank you. We'll go to Dave for the close. Great. Thank you, Kevin, and we appreciate your participation in today's earnings call and your interest in the company. We demonstrated again in 2018 clear progress toward our revenue and profitability goals for 2020. The company is executing well. We continue to advance our innovation-based strategy through progressing internally discovered medicines augmented with business development transactions, highlighted by our recently announced acquisition of Loxo Oncology. With a robust pipeline and volume-driven revenue growth, Lilly continues to be a compelling investment as we move into 2019. Thanks again for dialing in today. Please follow up with our investor relations team if you have any additional questions we didn't address on the call, and hope you have a great day. Thank you.

Ladies and gentlemen, that does conclude your conference. Thank you for your participation. You may now disconnect.