Novo Nordisk has delivered some of the best return on invested capital I have ever seen.
Opdateret: 5. jul. 2022
If you regularly read my posts, you would probably know that I like to invest in pharmaceuticals. And as I'm Danish, I thought it would be a good time to investigate the large Danish pharmaceutical company Novo Nordisk and determine if you should open a position and at what price.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
I should probably start by telling you that I do own shares in Novo Nordisk outside of eToro. It was actually the first stock I ever bought, which is natural as a Dane, as I believe it is the most popular stock to own in Denmark. If you follow me here or on eToro, you would also know that I really like to invest in pharmaceuticals, as they are protected by their patents. However, I will not let any of these things influence my analysis of Novo Nordisk, as I will stay objective throughout this analysis.
I know that everyone in Denmark knows Novo Nordisk but maybe it isn't as well known outside of Denmark. Novo Nordisk is a multinational pharmaceutical that manufactures and markets pharmaceutical products and services specifically diabetes care medications and devices. It was founded in in 1989, where Novo Industri and Nordisk Gentofte merged, and their most sold drugs are Ozempic, Victoza and NovoLog. Novo Nordisk' headquarter is located in Bagsværd, which is in greater Copenhagen. As with all other pharmaceutical companies, it is not difficult to determine a moat for Novo Nordisk. All pharmaceutical companies, including Novo Nordisk, have a secret moat due to their patents. Meaning that when investing in a pharmaceutical company, you need to know when those patents expire.
Their CEO is Lars Fruergaard Jørgensen. He joined Novo Nordisk all the way back in 1994 and have held various positions until he became the CEO in 2017. He has a Master of Science in Finance and Business Administration from Aarhus School of Business. He is also part of the supervisory board at Carlsberg and serves as the vice president elect of the European Federation of Pharmaceutical Industries and Associations. His management style is something that I will describe as typical Danish, which I obviously like. He hosts something called Lars Live meetings, where everyone can participate and ask him whatever questions they want. He believes that these meetings build trust among the employees. He believes that the most important qualities as a leader is to listen and that a CEO shouldn't focus on dealing with their own problems first. Another interesting thing about Lars Fruergaard Jørgensen is that he allocated time in his calendar for reflection, so he doesn't just have a to-do list every day at work. He won the award as the leader of the year in 2020, and he also managed Novo Nordisk to have a great year in 2020.
I believe that Novo Nordisk has strong secret moat. And we really like the management as well. Now let us investigate the numbers to see, if Novo Nordisk does live up to our requirements for a strong moat. In case you want an explanation about what the numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all the years. Novo Nordisk has delivered a fantastic ROIC in every year the last 10 years. I honestly don't think that I have ever seen a company delivering a ROIC like this before. There really shouldn't be a concern when looking at numbers like these but it is worth noticing that last year has been the year where Novo Nordisk has delivered the lowest ROIC in the last 10 year, and 2020 was one of the lower years as well. I don't think it is anything to worry about, but I would like to see the trend reverse moving forward.
The next numbers are the book value + dividend. In my old format this was known as the equity growth rate. It was the most important of the four growth rates I used to use in my analyses, which is why I will continue to use it moving forward. As you are used to see the numbers in percentage, I have decided to share both the numbers and the percentage growth year over year. Over the past 10 years Novo Nordisk only had two minor bumps along the way, else Novo Nordisk has grown their book value + dividend every single year. It is very encouraging to see numbers like these.
Finally, we investigate the free cash flow. In short, free cash flow is the cash a company generates after it has paid for operating expenses and capital expenditures. The first thing I notice is that Novo Nordisk has delivered a positive free cash flow each year in the last 10 years. There are some years that are better than others and Novo Nordisk had a record year in 2016 and couldn't quite reach these highs in the period from 2017 to 2020. However, 2021 was a great year and they reached new highs. Hopefully, it is a trend that will continue. All in all, I'm very happy with the numbers.
Another important thing to investigate is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by earnings Making the calculations on Novo Nordisk it shows that Novo Nordisk has 0,2 years earnings in debt, which is great. Hence, debt is no concern if you consider investing in Novo Nordisk.
Based on my findings so far, I believe that Novo Nordisk is a great company. However, no investments are without risk and Novo Nordisk has risks as well. The most obvious risk is their patent on Victoza. The total sales of Victoza were DKK 15.054 million ($2.087) in 2021, meaning it is a big part of Novo Nordisk' portfolio, as it is the third most sold drug. The patent of Victoza has already expired in China, while it will expire in Japan in 2022 and in the U.S. and Europe in 2023. And while Novo Nordisk has made a settlement with Teva Pharmaceuticals, which means that Teva Pharmaceuticals won't launch a generic version until 2024, it is still a risk like all other patent expirations. As with all other pharmaceuticals, another risk is the research and development of new drugs. It is not only Victoza that has a patent that will expire. Other patents will expire too, it means that Novo Nordisk like all other pharmaceuticals will need to develop new drugs that can make up for the losses. It will always be a risk for pharmaceutical companies and something you need to be aware of when investing in the industry. Price cap on Insulin. President Biden has advocated for a $35 price cap on the monthly cost of insulin in his State of the Union address. It is a significantly cut as the cost of insulin can be up to $1.300 per month for those without insurance. It is still unclear if it will be approved and how it will affect companies in the sector. However, a price cap will always have a negative impact on companies and Novo Nordisk has a 43,8 % global market share in insulin, and if the United States passed the Affordable Insulin Now Act, it will affect Novo Nordisk in some way.
There are also plenty of potential for Novo Nordisk moving forward. One is their drug known as Rybelsus. It is the first and only oral GLP-1, which is believed to set new standards for treatment of patients with type-2 diabetes. Rybelsus is approved for treatment of type-2 diabetes in 29 countries, including United States, Japan, and countries in Europe. While it will certainly take market shares from Ozempic, as it is the same drug as a pill instead of an injection, it is expected that it will take market shares from other companies as well. Rybelsus is now the second largest contributor to growth in Novo Nordisk and management is very confident n the potential of Rybelsus. Another interesting drug is Wegovy. While Novo Nordisk has had some problems delivery of the drug, as their manufacturer had to temporarily stop production, it is still a drug with great potential. Wegovy is an injectable prescription medicine that is used for adults with obesity to help them lose weight and keep the weight off. Obesity care has great potential to grow for Novo Nordisk and the obesity care sales grew by 55 % in 2021 (Branded AOM Market, Saxenda, and Wegovy). Other areas of growth for Novo Nordisk are that it is suggested that Semaglutide (Ozempic and Rybelsus) might be able to cure mild forms of Alzheimers. Novo Nordisk is currently doing clinical trials on Rybelsus to see if it is an effective cure to mild forms of Alzheimers. Another (sad) upside for Novo Nordisk is that more and more people in the world are getting diabetes due to an unhealthy lifestyle. According to the International Diabetes Federation, the number of people with diabetes is projected to increase from 463 million today to 700 million om 2045. Diabetes and obesity care is Novo Nordisk's largest segment comprising 84% of sales. Besides the treatments we have already mentioned, Novo Nordisk will also roll-out other new products in that segment.
All right, we have gone through the numbers, potential and risk regarding Novo Nordisk, and now it is time for us to calculate a price for Novo Nordisk. In order to calculate price, we will need the numbers that I have explained in the "MY STRATEGY" section of the website, as I do not want to go through the whole calculation here. I chose to use an EPS as it was in 2020 of $18,35 (it was $20,74 in 2021). I chose an Estimated future EPS growth rate of 8 (management expects sales growth of between 6-10 % and operating profit growth between 4-8 %), Estimated future PE 16 (which the double of the growth rate, as the historically PE for Novo Nordisk has been higher) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $55,41, and we want to have a margin of safety on 50 %, so we will divide it by 2, meaning that we want to buy Novo Nordisk at price of $27,71 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". In order to do so, we need some numbers from their financial statements, keep in mind that all numbers are in millions. The Operating Cash Flow last year was 55.000. The Capital Expenditures was 7.385. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 5.169,5 in our further calculations. The Tax Provision was 11.323. We have 2.296,6 outstanding shares. Hence, the calculation will be like this: (55.000 - -5.169,5 + 11.323) / 2.296,6 x 10 = $266,28 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at $16,52 and a growth rate of 8 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $189,72.
I believe that Novo Nordisk is a great company with a great management. I believe they will do very good in the future due to the reasons mentioned in the analysis. There are some slight concerns regarding the patent loss of Victoza. It is also unclear how the price cap on insulin in the United States may affect future profits for Novo Nordisk. However, Novo Nordisk is developing treatments for areas that unfortunately will grow in the future as cases of obesity and diabetes are growing around the world. At two out of three calculations Novo Nordisk seem very cheap currently but Novo Nordisk had a great year last year, which might not be replicated. It is reflected in the margin of safety price, which is much lower than the two others. Personally, I think Novo Nordisk is a buy and hold stock. If you were to open a position in Novo Nordisk, I wouldn't hesitate to add at the current levels and dollar cost averaging over a longer period. For a larger position, I would probably wait and see if I can get it below $90, which is pretty much half of the PAYBACK TIME price. I don't own Novo Nordisk at eToro because they only have Danish stocks as CFD's and I prefer the Danish stock over the New York listed stock, as it is easier for me taxwise.
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