Lilly(Eli) & Company (LLY) — Q2 2019 Earnings Call Transcript

Good morning. Thank you for joining us for Eli Lilly and Company's Q2 2019 Earnings Call. I'm Kevin Hern, 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 Skovronsky, President of Lilly Research Laboratories; Anne White, President of Lilly Oncology; Enrique Conterno, President of Lilly Diabetes and Lilly U.S.A; and Patrik Jonsson, who is joining us for the first time as our Incoming President of Lilly Bio-Medicines. We're also joined by Kim Macko and Mike Czapar 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 3 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. As we transition to our prepared remarks, a reminder that our commentary will focus on non-GAAP financial measures, which exclude the financial contribution from Elanco during 2018 and 2019, and present earnings per share as though the full disposition via the exchange offer was complete on January 1, 2018. Now I'll turn the call over to Dave for a summary of our progress in Q2.

Thanks Kevin. Well, it's an exciting morning for us here at Eli Lilly and an important day for women around the world living with breast cancer. As we have just announced the positive results showing that Verzenio extends the life of women with breast cancer in the MONARCH 2 trial, more on that in a few minutes, but first let me make a few comments on the overall performance in the quarter. We continue to execute on our strategic objectives, focusing on launch excellence, progressing our pipeline, and improving productivity and our capabilities. Second quarter revenue grew 1% and 3% in constant currency, despite the loss of U.S. exclusivity for Cialis late last year and the impact of Lartruvo’s impending product withdrawal. Q2 marked our 15th consecutive quarter of worldwide revenue growth. Our performance was driven by volume growth of 6%, excluding the Cialis loss of exclusivity and the impact of Lartruvo, volume grew nearly 15% led by our key growth products which accounted for 43% of the company's revenue. Q2 non-GAAP operating margin was 27.9%, representing a 250 basis point decline versus last year. This reflects a decrease in gross margin and increased investment in both our launches and our pipeline. Operating margin improved by 170 basis points versus Q1 of this year, reflecting progress toward our margin goals for 2019 and 2020. We achieved milestones on several pipeline assets since our last earnings call, including the FDA approval of Emgality for treatment of episodic cluster headaches in adults. The FDA approval of CYRAMZA as a single agent for patients with High-AFP Second-Line Hepatocellular Carcinoma and FDA approval of Baqsimi, our nasal glucagon for the treatment of severe hypoglycemia in patients with diabetes. We're pleased to note that for all three of these approvals, the Lilly product represents a first-in-class opportunity within their respective indications. Additional milestones to highlight include the positive Phase 3 data for higher doses of Trulicity in patients with Type 2 diabetes. And the positive Phase 3 overall survival data for Verzenio from the MONARCH 2 study which I mentioned earlier, an exciting milestone for Verzenio differentiating this medicine from others in the CDK 4 & 6 class. Also in partnership with Pfizer, we're prioritizing a potential U.S. submission of Tanezumab in patients with moderate to severe osteoarthritis pain by Q1 2020, followed by submissions in the EU and Japan. At this time, we are not planning regulatory submissions for moderate to severe chronic low back pain. We continue to leverage our strong operating cash flow to augment our pipeline through external innovation and return capital to shareholders. We announced a worldwide licensing agreement for a novel small molecule from Centrexion Therapeutics that is currently being studied as a potential non-opioid treatment for chronic pain conditions. We completed the $3.5 billion accelerated share repurchase program announced in Q1. And we returned nearly $600 million to shareholders via the dividend. Moving on to Slide 5 you'll see more detail on the key events since our last earnings call in April. In our continuing efforts to make medicines more affordable for patients, we launched Lily insulin Lispro this quarter, at a list price of 50% lower than current Humalog list price. While an important solution for patients access so far has been limited. We will continue to work with payers to make this important solution accessible to patients. I would also like to highlight our leadership changes. First, a sincere note of gratitude to Mike Harrington, for his tremendous leadership and service to our company. Mike, you've done a great job defending the company and serving as a key advisor to our leadership team and our board. Second, I would like to welcome Patrik Jonsson as he assumes leadership for our Biomedicines business unit. Patrik is a patient-focused leader with a long track record of delivering results in some of our largest markets. Under Patrik's leadership, Lilly Japan has climbed from the 17th ranked Pharma Company in Japan in 2014 to the number six ranking at the end of this year. We delivered the highest growth rate in Japan during that period of time, which included the successful launches of our key growth products. It's great to have Patrik join the senior leadership team. Now I'll turn the call over to Josh to review our Q2 results and to provide an update on the financial guidance for the balance of 2019.

Thanks, Dave. Slide 6 summarizes our presentation of GAAP results to non-GAAP measures. And Slide 7 provides a summary of our GAAP results. Looking at the non-GAAP measures on Slide 8 you'll see revenue increased 1%. Gross margin as a percent of revenue increased to 81.0%, excluding the impact of FX on international inventory sold, gross margin as a percent of revenue was 80.2%, keeping us on track to achieve our long-term goals for manufacturing efficiency and profitability. On the same basis our gross margin declined approximately 60 basis points compared to Q2 2018 driven by the unfavorable impact of product mix and a negative impact of price on revenue, partially offset by manufacturing efficiencies. Total operating expense increased 8%, with marketing selling and administrative expense increasing 7%, driven primarily by higher marketing investments to support the recent launch of Emgality in the U.S. as well as other key growth products. R&D expense increased 10% reflecting higher development expenses for late-stage assets, including tirzepatide, our RET-Inhibitor, and mirikizumab. Total operating income decreased 7% compared to Q2 2018 driven by all the investments that I just mentioned, which put our operating income as a percent of revenue at 27.9% for the quarter. As our recent launches continued to drive revenue and operating leverage, we expect income growth and improvements in operating margins, while we remain on track to achieve our full-year guidance of 28% as well as our 2020 target of 31%. Other income and expense was an expense of $32 million this quarter compared to income of $21 million in Q2 2018. This was driven by higher net interest expense primarily related to the Loxo acquisition. Our tax rate was 10%, a decrease of 670 basis points compared with the same quarter last year, driven primarily by a net discrete tax benefit associated with the resolution of U.S. and foreign tax audits as well as the timing associated with the impact of U.S. tax reform. At the bottom line, net income declined 3%, while earnings per share increased 1% due to a reduction in shares outstanding from share repurchases. In Q2 we made good progress aligned with our strategic priorities as evidenced by driving strong volume-based revenue growth despite significant headwinds from the loss of exclusivity of Cialis in the U.S. and the impact of Lartruvo. Investing behind key growth brands such as Emgality, Verzenio, Taltz, Jardiance, and Trulicity and continued pipeline progress, including three regulatory approvals, two submissions, and positive Phase 3 readouts for two key growth products. Slide 9 outlines these same non-GAAP measures year-to-date, while Slide 10 provides the reconciliation between reported and non-GAAP EPS and you'll find additional details on these adjustments on Slides 27 and 28. Moving to Slide 11, let's take a look at the effect of price rate and volume on revenue growth. This quarter, worldwide revenue grew 3% on a performance basis, driven by a 6% increase in volume, partially offset by price. Foreign Exchange reduced revenue growth by 2%, for the tenth straight quarter we delivered volume growth in each major geography. U.S. revenue was flat compared to the second quarter of 2018, volume growth of 5% was led by Trulicity, Taltz, Jardiance, and Alimta, excluding Cialis and Lartruvo, volume grew nearly 17% in the U.S., with our diabetes products delivering over 24% volume growth. Consistent with our 2019 financial guidance, U.S. price declined 4% with nearly 3% driven by increased rebates in the Medicare Part D coverage gap resulting from the change this year that moved manufacturing funding from 50% to 70% of the doughnut hole. Approximately 2% was due to unfavorable segment mix. The remaining 1% price favorability is a mix of modest list price increases and favorable adjustments to estimates for rebates and discounts, partially offset by higher contracted rebates and patient affordability. Going forward, we expect the changes in coverage gap funding to continue to impact Q3 with less impact in Q4, and we still anticipate mid-single-digit declines in U.S. price for the full year. Moving on to Europe, revenue grew 6% excluding FX, driven by volume partially offset by the negative impact of price. Volume growth is led by Trulicity, Olumiant, and Taltz. In Japan, revenue growth of 4% excluding FX was driven by volume, with Verzenio, Olumiant, and Cymbalta as key contributors to the growth. Revenue in the rest of the world increased 12% excluding FX led by 26% growth in China on the same basis. At the bottom of the Slide is the same information for our June year-to-date results. As shown on Slide 12, our key growth products were once again the engine of our worldwide volume growth. These products drove 15.4 percentage points of volume growth this quarter, reinforcing our confidence in achieving our 2020 revenue goals. Branded that have experienced loss of exclusivity provided a drag of 650 basis points driven primarily by Cialis. As expected, and we've seen a rapid erosion of Cialis sales following the entry of generics in the U.S. market at the end of September last year. We expect this drag to continue in Q3 and begin to normalize in Q4. Slide 13 provides a view of our key growth products. In total, these brands generated over $2.4 billion in revenue this quarter growing to 43% of revenue. In addition to the sustained strong performance of Trulicity, Taltz, and Jardiance, I'd like to highlight the performance of CYRAMZA, which grew 19% in the U.S. as our share of market doubled in second-line lung. We look forward to continued growth as we launch the High-AFP HCC indication in the second quarter and expect to submit first line metastatic EGFR mutated non-small cell lung cancer in the U.S. later this year. We're excited to see Emgality continue to gain share, exiting Q2 at 41% share of market for new-to-brand prescriptions in the U.S., which is an increase of approximately 9 share points compared to where we exited Q1. As our best-in-class access continues to grow, we exited the quarter with paid scripts of approximately one-third of total U.S. scripts. We look forward Emgality continuing its strong uptake in the U.S., contributing meaningfully to sales in the second half of 2019. Slide 14 shows the year-over-year select lines of our income statement, focusing on our non-GAAP results, foreign exchange rates had little impact on gross margin and modest positive impact on operating expenses, operating income, and EPS. Turning to our 2019 financial guidance on Slide 15, you'll see that we've updated our non-GAAP guidance that reflects an increase in our bottom line results for the year. Specifically, we're raising and narrowing the range for SG&A expense of $5.9 billion to $6.1 billion, reflecting continued investments in recent launches. We are lowering the range for other income and deductions to zero to an expense of $150 million reflecting first half gains in our equity portfolio. We're decreasing our tax rates from a range of 14% to 15%, to 13% to 14% to reflect the net discrete tax benefits associated with the resolution of tax audits in the future. And we are raising our non-GAAP earnings per share range to $5.67 per share to $5.77 per share, which reflects the Q2 discrete tax benefit as our performance expectations remain unchanged. On a reported basis, the tax rate is expected to be in the range of 14% to 15% and our earnings per share for 2019 is now expected to be in the range of $8.58 per share to $8.68 per share. Slide 16 shows the progress we've made towards our 2020 revenue and operating margin goals. On the left of the slide, the midpoint of our 2019 guidance represents 5% revenue growth over 2018 in constant currency, despite headwinds from the loss of exclusivity for Cialis and the impact of Lartruvo. With that performance in 2019, we would need to grow sales at 6% in 2020 to achieve the 2015-2020 minimum compounded annual growth rate of 7% that we've outlined. As the headwind from Cialis LOE and Lartruvo abates in 2020 and our new products continue to scale, we're confident that we'll achieve that minimum revenue goal. On the right, you can see that we've delivered significant margin expansion since 2015, increasing from just under 20% to over 29% last year. Again, as the impact of the Cialis LOE and Lartruvo diminishes this year, as our new products continue to scale, we're confident we'll achieve our 2020 goal at 31% operating margin. On Slide 17, we provide an update on capital allocation. Aligned with our strategic priorities, we spent over $10 billion in the first half of the year to drive future growth between our business development activities, capital expenditures, and internal investment in R&D. In addition, we've returned nearly $5 billion to shareholders. As we look ahead to the second half of the year, we'll continue to fund the growth of our new key products and recent launches, invest in our pipeline, seek external innovation to augment our future growth prospects, and return capital to shareholders. Now, we'll turn the call over to Dan to highlight our progress on R&D.

Thanks, Josh. It's been an exciting quarter for R&D results, really capped off with a big news this morning that Verzenio’s MONARCH 2 trial demonstrated positive efficacy at the interim analysis, improving overall survival for women with HR-positive, HER2-negative breast cancer. A bit more color on Verzenio and its important results in a minute. But first I'll summarize some of the other R&D highlights for the quarter. Slide 18 shows select pipeline opportunities as of July 25th. Movements since our last earnings call includes the regulatory approvals that Dave mentioned earlier, the regulatory submission of empagliflozin in collaboration with Boehringer Ingelheim for type 1 diabetes, and the regulatory submission of CYRAMZA for first-line EGFR-positive non-small cell lung cancer. The initiation of Phase 3 testing for baricitinib and alopecia areata. Initiation of Phase 1 for five assets including our Oral GLP-1 Receptor Agonist and the attrition of two Phase 1 molecules. Moving to Slide 19, since the last earnings call, we've made progress on a number of key events that we're monitoring for 2019, including the approvals, submissions, and top line disclosures that Dave and I have already mentioned. New this quarter, we've added the top line readout for pegilodecakin SEQUOIA trial to the Phase 3 trial in combination with FOLFOX with second-line pancreatic cancer. And we expect this event-driven trial to read out later this year. We'll recall that ARMO had moved this program into Phase 3 based on limited data for Phase 1, this was driven by the high unmet medical need in second-line pancreatic cancer. As we've shared in previous updates, we still see lung and renal cancer as the key indications for this molecule. Later this year, we'll initiate a study in renal cell cancer, as well as biomarker-driven studies in lung cancer. In diabetes, we had a number of medical presentations at this year's American Diabetes Association meeting, including Ultra Rapid Lispro for type 1 and type 2 diabetes, the Trulicity REWIND CV outcome study, as well as several tirzepatide datasets. I'll share a few key takeaways from the ADA meeting. Moving to Slide 20, I'll highlight the tirzepatide dose escalation study. The study demonstrated consistent efficacy with improved tolerability relative to the Phase 2b study that we shared at EASD in 2018. This is evidenced by a significant reduction in the treatment discontinuation rates shown here. The GI side effects that did occur were mostly mild to moderate and were less severe than in the first Phase 2b study. These results are encouraging, particularly because the dose escalation in the Phase 3 study was a slower step-wise design and was tested in the Phase 2 dose escalation study. We believe tirzepatide has the opportunity to reset treatment expectations for patients for HbA1c and weight loss relative to current therapies. Five trials in the surpass program are already underway and we look forward to data readouts beginning in 2021. Turning to Slide 21, you'll see summary data regarding the REWIND cardiovascular outcome study for Trulicity. As a reminder, the patient population included in REWIND was different from other CV studies for GLP-1s, as observed by the notably lower rate of MACE events in the placebo arm updated on the left. Studying a lower CV risk patient population established a high bar to demonstrate efficacy and generated data in a population that's more representative of diabetes patients seen in physicians’ offices. Despite the high bar for efficacy, Trulicity demonstrated a clinically meaningful 12% reduction in MACE while demonstrating safety consistent with prior studies. Equally impressive is the consistency of MACE results, which showed a benefit across a variety of measures, most notably the prespecified subgroups of patients with and without prior CV disease. We expect the label to reflect the broad population we studied, and we look forward to hearing from regulators on our submissions. Moving to Slide 22. Last quarter, we highlighted the four big late-phase bets we've made over the last 12 months. This quarter, I'd like to highlight select Phase 2 opportunities. But first, let me start with some comments on Verzenio. Obviously, we've made exciting progress with this medicine, now generating additional data in Phase 2 and Phase 3, which highlight Verzenio's important differentiation versus other CDK 4/6 inhibitors. When we previewed upcoming data readouts at our December 2018 investor meeting, we highlighted three important readouts that we expected over three consecutive years. We said we expected Phase 2 data in HER2-positive patients in 2019, Phase 3 data for overall survival for MONARCH 2 in 2020, and Phase 3 adjuvant data in 2021. We're pleased to show today that the first two of these readouts have occurred and both are positive. As per our press release this morning, the MONARCH 2 readout occurred earlier than expected and showed Verzenio extended life for women with metastatic HR-positive HER2-negative breast cancer. This interim analysis was the first robust analysis of overall survival and required a stringent p-value. While we had originally expected this trial to go to its final analysis in 2020, the results were strong enough to meet the endpoint at the interim analysis, making Verzenio the first and only CDK 4/6 inhibitor in combination with fulvestrant to achieve statistically significant improvement in overall survival. We look forward to presenting these results later this year and working with regulators to submit this important new data. In addition, we're announcing today that our Phase 2 trial in HER2-positive breast cancer was positive, making Verzenio the first CDK 4/6 inhibitor to show positive efficacy in a randomized controlled trial in this HER2-positive population. We'll work with regulators to determine the appropriate next steps. Also, we're pleased to hear today that MONARCH plus, our Phase 3 study in China, was stopped early due to efficacy. This data will support our upcoming submission for approval in China. Finally, I should say we're still very much looking forward to receiving data in the adjuvant population, and our Phase 3 trial in this population is still expected to read out in 2021. Now let me turn back to the topic of ongoing Phase 2 trials. Touching briefly on pegilodecakin, in addition to the Phase 3 pancreatic cancer results we now expect in 2019, the Phase 2 lung cancer trials, Cypress 1 and Cypress 2, are on track to complete later this year, and we expect data disclosures to come in 2020. Moving to neuroscience. Zagotenemab is our anti-tau antibody currently in a placebo-controlled study of nearly 300 patients. This study uses a tau imaging agent to identify early symptomatic Alzheimer's patients whose disease has not progressed beyond the potentially treatable state. While Alzheimer's is a higher-risk area, we believe our molecule uniquely targets aggregated forms of tau, a key pathologic hallmark of the disease. And our trial design incorporates unique elements that will help us best learn if a treatment with a tau antibody is a beneficial strategy for Alzheimer's disease. We look forward to seeing the data in 2021. In addition, D1PAM is our positive allosteric modulator that targets the dopamine D1 receptor. We previously shared some encouraging Phase 1 data, and we're now studying this molecule in Phase 2 in the symptomatic treatment of Lewy body dementia, which includes patients with both dementia with Lewy bodies and Parkinson's disease dementia, focusing on improving attention and cognition. Based on enrollment, we expect data in early 2020. If we see a signal in the Phase 2 data, we're prepared to move quickly into symptomatic treatment of Lewy body dementia as well as Alzheimer's disease. In immunology, we recently moved our anti-IL-33 antibody into Phase 2 development in patients with moderate-to-severe atopic dermatitis, an area of high unmet medical need. We're excited about the potential of this target and this molecule. This asset builds on our emerging immunology portfolio, and we anticipate seeing data in the first half of next year. Finally, I'd like to highlight two diabetes programs. First is our Basal Insulin-FC, which is a next-generation basal insulin. Basal Insulin-FC uses the same time extension technology that we used to create Trulicity, enabling convenient once-weekly dosing. This asset has the potential to be the first weekly basal insulin and could be an important new treatment option for people with diabetes. We're anticipating reporting top line data next year. Second, we have ongoing efforts focused on improving the delivery of insulin and improving patient outcomes. We know that more than half of people on insulin today are not achieving their A1C treatment goals. The ongoing Phase 2 efforts of our automated insulin delivery system are the first step in an iterative process towards a closed-loops system that we believe has the potential to significantly increase the number of patients achieving their A1C goals. Pending positive Phase 2 data will move into Phase 3 in 2020 with a potential launch in 2021. We look forward to tracking the progress of these assets over the coming years and will share additional pipeline updates on our next earnings call. Now, I turn the call back over to Dave for some closing remarks.

Thanks, Dan. Before we go to Q&A, let me briefly sum up the progress we've made in the second quarter. We delivered volume growth of 6%, despite the continued erosion of Cialis due to generic competition and the withdrawal of Lartruvo, key growth products delivered impressive volume growth of 15%, which now represents 43% of our revenue. We made strategic investments in commercial and late-stage pipeline products to reach more patients today, and improve the standard of care in the future. Meanwhile, we continued to progress towards our margin goals as operating margin improved to 170 basis points versus Q1 2019. We made progress with the pipeline this quarter, including three regulatory approvals, along with the exciting MONARCH 2 overall survival readout for Verzenio. In addition, we moved one asset into Phase 3 development, while also advancing multiple assets into the clinic. Looking ahead, we're excited about the data disclosures for our RET inhibitor at a major medical meeting and subsequent submission later this year. We also returned over $600 million to shareholders via the dividend, and completed our $3.5 billion accelerated share repurchase program. Finally, last week, the Senate Finance Committee released details of its plan to address drug pricing and improve patient out-of-pocket costs for patients. This is of course just the latest in a continuing discussion in Congress and the administration, and it won't be the last word we'll hear from the Senate on this subject. I know there may be a lot of questions about this particular package, so let me make a few points here in the hopes of allowing our Q&A to focus on the solid Q2 results we delivered and the strong prospects for Lilly's future. First, I want to assure investors that the industry has and will continue to focus on shaping this to be guided by our core principles of encouraging and protecting innovation, fairness, and transparency in the pharma industry and all healthcare, and lowering costs at the pharmacy counter for patients who use our medicines. While the Senate Finance Committee package advances some of these ideas, it falls short on many others. We'll be working with all stakeholders over the coming weeks and months to try to better align legislative proposals to our core principles. I know many of you have and will continue to work to size the impact of these proposals on the industry and on patient care. So let me make a few comments here to help. We're reserving a more detailed numeric answer for a later time when there's more clarity and less uncertainty. The three parts of this package I'll highlight are the Part D redesign, resetting the 100% rebate cap in Medicaid, and capping list price increases in Part B and D. Pharma has already put out a public statement on the policy concerns from a patient innovation perspective, so I'll just focus on the practical implications here and assess the likelihood and the impact to Lilly. This strategy just follows. A Medicaid Part D redesign, which includes an out-of-pocket maximums beneficiaries seems, the most important and the most needed to be legislated in some form, and is a proposal, which would deliver savings to patients for use higher cost medicines with the addition of this out-of-pocket cap. Based on our current portfolio, we should have a neutral to positive impact on our diabetes portfolio, which currently is our primary exposure in the Part D benefit. But it would have a negative impact on our immunology and oncology business. Removing the 100% rebate cap in Medicaid is the next most likely proposal in our view, as it was – it has also shown up in a draft house legislation as well. The current finance version bases in the new cap at 125% in late 2022, raising money for the government, but delivering no benefit to patients. In the near-term, this would represent a larger headwind for us in the general industry, primarily due to our insulin business. Medicaid represents a little more than 10% of the U.S. Humalog and Humulin volume, so a 25% increase rebate would represent a moderate negative impact on our insulin revenue. Finally, capping list prices, it was price increases at the rate of CPI inflation in Medicare Part B and D will perhaps be the less likely to be enacted proposal that we've seen. Medicare Part D is a market-based structure, which has worked quite well, coming in under budget, while expanding access to innovation for millions of seniors. We're concerned about the price controls this represents. And mechanisms already exist to limit price increases in these segments and contracting in Part D and the ASP reporting system in Part B. While Lilly has already significantly moderated list price increases for our medicines, this policy, if enacted, would continue to encourage this kind of moderation. Patient impact will be quite modest from this proposal, although accumulate through time as do the government savings. Unfortunately, none of these proposals address the fundamental structure issue of the gross to net spreads, and this will remain a centerpiece of our advocacy over the coming months to remake the incentives for all actors and deliver substantial out-of-pocket savings to patients who use innovative medicines. I would note that, as currently constructed, these proposals would begin to take effect in 2021 and 2022, and currently would have no impact on our 2020 guidance. Longer term, in any case, we will continue to focus on volume-driven growth through innovation. Across our Company, Lilly employees remain energized and motivated to progress the pipeline to bring innovative medicines to millions more patients who need solutions for different diseases. We are excited to execute our strategic priorities to deliver not only our 2019 and 2020 goals but also to realize the long-term growth opportunity in front of us. This concludes our prepared remarks. Now I'll turn the call 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. Cynthia, please provide the instructions for the Q&A session. And then we're ready for the first caller.

Hi. Thanks so much for taking my questions. First, I read the blog post with a lot of interest on Medicaid Max rebate caps. And my question is what's the dollar impact if that cap is raised to 125% and what's that dollar impact if there is no capital? I think this is one of those questions every investors is very curious about given the exposure here. So that's first. Secondly, on R&D, I was curious on Cyprus 1 trial for ARMO which is due this fall. I understand it's an open-label trial, how would you set the investor expectations going into that readout knowing that IO-IO of late, has been very disappointing? Thank you very much.

Thanks, Umer. We'll have Dave take the first question and then Anne, your second.

Thank you for the question. While I was hoping to address most of these points in my prepared remarks, I want to emphasize that any version of a Medicaid Max rebate cap is seen as a regressive policy. It puts pressure on companies by requiring us to subsidize state Medicaid, resulting in rebates that exceed our list price. To address your concern about the company's exposure, this mainly affects our insulin portfolio among the Lilly medicines, and Medicaid constitutes only a small percentage of our total volume in that area. Therefore, the potential impact on our insulin revenue would be manageable, with a 25% increase in rebates suggesting a moderate negative effect. Finally, regarding the proposal to cap list prices with increases aligned with the rate of CPI inflation in Medicare Part B and D, it is less likely to be enacted. Medicare Part D has been performing well within budget while enhancing access to innovations for millions of seniors.

Pegilodecakin, so it's – Dan mentioned, we look forward to completing the studies and sharing that data at the beginning of Q1. We are particularly looking forward to the results in Cyprus 1. This is a patient population where we've added the Keytruda in high-expressers, so those are the PD-L1 over 50%. Positive data from those trials would trigger additional long trials, potentially registration trials. We do continue to believe that the greatest opportunity for pegilodecakin is in lung cancer in the first line setting and then also in later lines whether following or combination with other IO agents. And then the other area of great interest is renal cell cancer. Both lung and renal had encouraging data in the Phase 1 study. So as Dan mentioned, we do see this as a rapidly evolving landscape and then working on our plans to optimize peg in that setting. And so look forward to starting those studies at the end of the year, as well as biomarker-driven studies in lung cancer and other tumor types. So more to come and Cyprus and pegilodecakin.

Thanks Umer. Next caller, please, Cynthia?

Hi. Thanks for taking the questions. Maybe first just would love some perspective on Trulicity growth in the second half, given the dynamics you saw in the first half, there. And then can you help frame for us, the high dose data for Trulicity in the context of tirzepatide? And then my second question is on the LOXO-292. You mentioned you're going to have data presentation later this year. Just would love high-level thoughts on kind of the durability and safety, tolerability, you're seeing to date. Thanks.

Thanks, Terence. So we'll go to Enrique for the first question, and then Anne on that 292.

Very good. Well, we are pleased with the performance of Trulicity. We got sustained strong volume growth. We saw a 41% prescription growth in the United States when we look at the second quarter of 2019 relative to the second quarter of 2018. As we look at that, our sales growth was below that. Clearly there were some price erosion. The bigger pieces of this price erosion were the high rebates that were somewhat offset by modest list price increases. And then about seven points was the incremental funding of the donut hole, going from 50% to 70%. Clearly, when we look at relative to Q1, we did see good continued sequential growth when we look at volume. I think importantly, I think the fundamentals of the business are very strong, as we think about both class growth of about 30%, and when we look at their share performance. We do have, as you mentioned, significant catalysts with REWIND, and of course when it comes to the higher doses 3.0 milligrams and 4.5 milligrams for Trulicity. We are excited about the opportunities with both. When we think about tirzepatide, we sort of think of tirzepatide being in a completely different zip code when it comes to efficacy. That's why we utilize it in the worse of resetting expectations of treatment for people with type 2 diabetes. When we look at both A1C and weight, so we continue to be very excited about that particular asset.

And then with LOXO-292, thank you for that question. We will present, as you said, an update on the registrational data in the second half of 2019 at one or more medical meetings, and that's in advance of the regulatory filing, which is on track for the U.S. by the end of the year. And we really do look forward to sharing that robust data set. It's now over 500 patients enrolled and it's rolled across tumor types with RET fusions or mutations. And we continue to be very excited about the profile as both a first and the best in class RET inhibitor. So LOXO-292 is highly potent and we've seen robust response rates and exciting emerging durability as well. And also a safety profile that doesn't carry the burden of cytopenia that can require costly supportive care interventions. So again enrollments continue to be strong. The LOXO team is continuing to do a fantastic job in this program. And so we're very much looking forward to sharing that data at upcoming meetings.

Thanks, Anne. Thank you, Terence. And next caller, please?

Thank you. First question, could you break down for us the initial versus subsequent lines of CDK 4/6 therapy for the entire market, and give us some idea whether you can use the MONARCH 2 data to cure formal status on that commercial and Medicare plan for 2020? And then second, if we take the inflation cap as something that will happen with the Medicare Part D. Is it possible that could relate concerns about rising insurance premiums to allow rebate reform to research as part of the proposal? Thank you.

Thanks. We'll go to Anne for the initial question and then Dave for the inflation cap question.

Well, thank you, Andrew. And you asked a really good question and thought about this carefully. So in a trial like this, the reason it's so difficult to show a survival advantage is because of patients crossing over. And the fact that we were able to demonstrate significance at a pre-planned interim confirms the strength of Verzenio, and we do believe differentiates our product. We do expect increased growth across all lines of therapy based on these results. And importantly, we will certainly share this data with those making access and treatment decisions. As we've heard overall survival is the most important outcome and most objective outcome as well, so this really verifies the importance of Verzenio to achieve that best outcome for patients. And we've heard repeatedly from patients that overall survival is the most meaningful one for both patients and the physicians who are treating them. And this is an incredibly devastating disease and women who are living with this disease want to do everything they can to be with their families as long as possible. So we're really glad to have delivered this result for women with metastatic breast cancer.

Thank you for your question, Andrew. I appreciate it. You're referring to the Part D CPI cap and its effect on the rebate reform score. The Senate finance package, which is currently the most comprehensive proposal we've encountered, is expected to generate substantial savings for the government, although a significant portion of that savings does not benefit patients. This is our main concern. The current reform plans for Part D, particularly the AF proposal, are largely self-sustaining and may even create some surplus. Our key question for policymakers is how we can reinvest those savings. While premium stability is essential—given that premiums in Part D have consistently been low for years—more importantly, we want to ensure that patients benefit at the pharmacy counter beyond what this package proposes. One of the ideas we are considering is the idea of passing through some or all negotiated discounts to seniors and linking their co-payments and deductibles to net pricing rather than list prices. Many people seem to think this is a viable option, but the challenge has been how it scores. If we can integrate this into Part D in tandem with the broader Finance Committee package, I believe we can achieve all these aims. We could also consider a phased approach, gradually implementing rebate pass-throughs over time. These are all concepts we as a pharmaceutical industry are exploring and advocating for. Importantly, while this package has generated a lot of attention, we are still a long way from finalizing anything. There will likely be numerous discussions involving policies we aren't in favor of alongside some we prefer, like the one you mentioned. We will work hard to mold this into a solution that effectively addresses the critical issue of out-of-pocket expenses for individuals using innovative medicines.

Thanks Andrew, for the question. Cynthia, next caller, please?

Thank you. I have a couple. First on tanezumab, how would you describe your level of confidence that the 2.5 milligram can be approved in OA, why are you no longer filing in chronic lower back pain, and where does cancer pain stand? So that's the first question. And then secondly, AbbVie's IL-23 SKYRIZI seems to be off to a great start, and AbbVie specifically said they were taking share from IL-17. So just curious what you're seeing. Thank you.

Thanks, Steve. Dan will have you take the tanezumab question, and Josh, if you can handle SKYRIZI.

Yes. Thanks, Steve for the question on the various tanezumab indications. In a sense, you're right, in the order that you put them in, which is that we sort of prioritize based on the data that we have and the overall benefit-risk in each of those populations. So based on that as well as the unmet medical need in osteoarthritis, we've prioritized moving that forward with the regulators. Overall, we wouldn't be proceeding with regulatory submissions and announcing that we're proceeding unless we had confidence in the overall benefit-risk that this medicine provides in that population. That's based on the trials that we have recently disclosed. It's also based on the totality of the evidence and that's a decision that we've come to together with our partners. At Pfizer, chronic lower back pain we've decided not to pursue at this time for almost exactly the same reasons, given the unmet medical need in that population and the benefit-risk in that population. Cancer pain is the third here in line and we don't have that trial. It's taking a bit of time to read out, and so it's hard to comment on what the benefits could be there given that we don't have that data yet.

Okay. On SKYRIZI, it's Josh. The launch is really in line with what we expected it to be. It's a good launch, if you look at it relative to Taltz and time normalize Taltz is a little bit better in terms of prescription trends. But in terms of what we see in the market place right now Steve first, we saw really – we're pleased with Taltz's performance in the U.S. In Q2 we saw TRx volume growth of 61%, and really we see share growth. Really as we look at SKYRIZI, we see – it looks like share coming primarily from the store in the IL-20 – IL12/23 class, maybe some from Cosentyx. But our growth continues and we feel good about the share performance that we're seeing.

Thanks, Josh. Thanks, Steve. And next caller, please?

Yes. Thanks very much. So I have two questions, please. First, Dave, you had mentioned that out-of-pocket costs for people who use innovative medicines are a challenge. But could you talk about what the industry is doing if anything with respect to such costs outside of Part B because the government's actions will likely only apply to Part D, that's where the government can affect drugs. And the industry has a major public relations problem with the majority of the population that is outside of Medicare Part D that struggle with out-of-pocket costs. So is the industry doing anything i.e. with the Chamber of Commerce or with major employer groups to try to change the dynamic of the out-of-pocket cost challenge? And one final thing I'll just make a statement which is that it does seem that the industry has not been able to overcome the unfair treatment of drug coverage, i.e., the fact that people pay too much out-of-pocket relative to the out-of-pocket costs for other healthcare utilization such as physician visits, hospital visits, etc. So anyway, sorry for the long diatribe but I did want to understand the industry's agenda outside of government reimbursement. And then second, could you just talk about Lilly's evaluation of oral GLP-1s as a potential pipeline product opportunity? Thank you.

Thanks. Dave will have a - Dave will take your first question, and then Dan will talk about glutathione oral pipeline.

Thank you, David, for your question. There’s a lot to unpack. Generally, we agree that we need to improve the conversation surrounding the industry, and we are actively working on that. However, our primary focus is enhancing the patient experience at the pharmacy counter. You mentioned the discussions about government programs, but it's important to note that over half of our business in the U.S. is commercially reimbursed, which is an area of growing focus for us. There are four key initiatives I would highlight. First, we are designing and implementing our own healthcare coverage. As a healthcare company, we aim to shape the market through our purchasing behavior. We're adopting progressive policies for our employees regarding drug coverage, including first-dollar coverage for essential medications like insulin, as well as innovative funding of deductibles. Our experienced physicians are in a position to recommend best practices to other companies and insurers. Recently, an IRS ruling has clarified that medicines can now be classified as preventive treatments under HRA and HSA designs in high-deductible plans, which we will leverage to assist insurers in creating plans with zero out-of-pocket costs for essential drugs, particularly for diabetes. Thirdly, Lilly is taking a leading stance on value-based pricing. While it has been challenging in government sectors, we are making significant progress in commercial markets. Although this does not directly address out-of-pocket costs at the pharmacy counter, it enables us to showcase the value of our medicines and share the associated risks and benefits with self-insured employers. We're seeing notable success in this area, and it shifts the conversation from viewing medicines as a cost to recognizing them as solutions, which is vital.

Great. Thanks for your question on oral incretins. It's obviously an area of interest for us. And maybe speak generally about our strategy here, which is that we want to be able to offer oral incretin therapy that meets sort of one of two criteria. First, it could have a significantly improved bioavailability versus what's currently under development. And that's important because that will translate to a more convenient experience for patients, more convenient dosing with more reliable efficacy. The other option is to offer greater efficacy in an oral product than the currently available once weekly GLP-1s. So we're pursuing those two tactics with different approaches. So to get something that's very highly bioavailable you need to move to small molecules. And so here we have a program, which is characterized by molecule just moved into Phase 1 this quarter, we call the GLP-1 NPA or non-peptide agonist, which is the product that was invented by Chugai, and we partnered with them on that. So we're excited to see Phase 1 data from that. We'll quickly learn what kind of bioavailability we get, and that will determine how we pursue that project. The other avenue to get better efficacy than currently available injectables really relies on next-generation incretins. So these are by specific molecules like our tirzepatide GIP/GLP where we are seeking to get the peptide to become orally bioavailable. And we have a number of purchases to accomplish that and look forward to moving those programs into the clinic soon.

Thanks, Dan. And thank you, Dave. Next caller, please?

Thanks very much. So just two very quick questions, first on Verzenio and HER2-positive disease. Can you just give us a quick sense of Lilly's definition of a clinically meaningful if the data registrational? And then just maybe give us an estimated market size or path to thinking about the market size? And then separately, on Taltz, gross to net, can you just give us the gross to net currently? And given the Company's need to reposition the product for growth in RA, should we anticipate further pricing concessions in the next formulary negotiation cycle? Thanks a lot.

Thanks, Seamus. Anne will review for the Verzenio question and then Josh will take the Taltz question.

Thank you, Seamus, for your question about the HER2-positive data. As Dan highlighted in his opening, we are very pleased to have achieved a positive outcome in that study. This study is the first randomized controlled trial to show positive results for HER2-positive breast cancer, which has historically been a challenging population to treat. Our goal has been to offer these patients alternatives to chemotherapy, and we believe that the positive outcomes, including meeting the primary endpoint of progression-free survival, are clinically significant. While I can't disclose the specific data now, we will present it at a scientific meeting later this year, and we believe it is relevant for patients, especially those looking to avoid chemotherapy. The next step is to discuss this data with regulators as we present it at the scientific meetings, so I cannot comment further on regulatory strategy at this moment. Regarding the market size, this accounts for about 15% to 20% of breast cancer cases, which represents a substantial market opportunity. We see this as a significant chance for patients with this difficult-to-treat breast cancer. Coupled with the overall survival data and the strong results from the China registration study, these factors underscore the benefits of Verzenio. It remains the only CDK 4/6 inhibitor with continuous dosing and a monotherapy indication, and continues to provide support for patients, particularly those with challenging diagnoses. We are excited to share these updates on Verzenio today.

In the second quarter, neither Taltz's pricing nor gross-to-net metrics were significant influences on U.S. growth. Our pricing and gross-to-net ratios have stayed relatively consistent. As noted in Q1, approximately two-thirds of Taltz prescriptions in the U.S. are currently being reimbursed, which remained unchanged in Q2. We are satisfied with our market share performance in psoriasis. As you pointed out in the discussion, we are eager to share data from our head-to-head trial against Tremfya, which we believe will strengthen our competitive position. Overall, the key factor we need to focus on is sustained growth within the category. Most prescriptions are still occurring in the TNF category, so any shifts towards the more advanced IL-17 and IL-23 treatments will benefit patients and be advantageous for us.

Seamus, thanks for your questions and next caller, please.

Thank you.

Thanks everyone for your participation in our call today, and your interest in Eli Lilly and Company.