Novo Trades at Less Than 12 Times Earnings. Is This the Buying Opportunity of the Decade?

It's been a rough past two years for Novo (NYSE: NVO). The healthcare giant has lost market share in the GLP-1 industry, leading to a more than 60% drop in its share price. Novo is now trading at 11.8x forward earnings, well below the 18.6x average for healthcare stocks. Is Novo far too cheap to ignore at current levels? Or is it a value trap? Let's find out.

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Digging deeper into Novo's troubles

Novo generates the lion's share of its revenue from its GLP-1 products, particularly Wegovy, a weight-loss medicine, and Ozempic, a diabetes drug. Competition from Eli Lilly (NYSE: LLY) has led to declining sales growth for both products. But that's only part of the story. Another issue is that Novo has experienced several clinical setbacks, prompting many investors to question whether it can remain a leader in the GLP-1 space.

For instance, the company's CagriSema, although highly effective, fell short of management's 25% mean weight-loss target in a Phase 3 study. Also, CagriSema lost to Eli Lilly's Zepbound in a head-to-head weight-loss clinical trial. CagriSema could earn approval by the end of the year, but based on clinical trial data, it may not allow Novo to close the gap with Eli Lilly.

Further, Novo has also experienced setbacks outside of its core area of expertise. For instance, the company's ziltivekimab failed to show significant efficacy in a Phase 3 clinical trial targeting risk reduction of major adverse cardiovascular events in patients with atherosclerotic cardiovascular disease, chronic kidney disease, and inflammation.

This setback dealt a blow to Novo's efforts to diversify its pipeline. Some analysts projected that ziltivekimab could achieve peak revenue of about $3 billion, and in fairness, the medicine is undergoing studies in other indications. Still, it was yet another letdown for a company that is desperate for wins. Meanwhile, Novo's financial results have been mediocre.

In the second quarter, the company's net sales increased by just 2% year over year to 78.5 billion Danish kroner (about $11.8 billion), while its adjusted earnings per share came in at 6.18 DKK (about $0.93), 5% higher than the prior-year quarter.

The path forward

There has been one area where Novo has made good progress: The oral weight loss market. In January, the company launched the Wegovy pill, the first oral GLP-1 medicine approved for weight loss. Oral Wegovy has helped the company expand its addressable market. As it pointed out, as of June, more than three million prescriptions had been filled in the U.S., and more than 80% of them were for people who had never taken GLP-1s before.

Oral Wegovy won't be enough to allow the company to bounce back, though. Novo will have to develop new products. The good news is that the Denmark-based pharmaceutical giant boasts several exciting candidates. One of them is called zenagamtide. It is currently undergoing Phase 3 studies for weight loss. There are at least two things to note about this investigational medicine. First, it mimics the action of two gut hormones: GLP-1 and amylin.

Novo hopes that the dual-hormone pathway approach will yield greater efficacy. Second, and relatedly, zenagamtide has already posted very promising clinical trial results. In a Phase 1b/2a study, it resulted in a mean weight loss of up to 24.3% over 36 weeks. If it can deliver similarly strong results over longer periods in Phase 3 studies, it could eventually become a leader in the weight-loss market and help Novo improve its position in the industry. Novo has several other promising pipeline candidates, including some triple agonists (medicines that mimic the actions of three gut hormones).

The healthcare company is also pursuing diversification efforts, with several products in Phase 2 and Phase 3 studies. Novo's pipeline is deep, and even though it's important to recognize that some of its advanced programs might fail, my view is that the market has already partially factored this into the share price after recent clinical setbacks. Novo's outlook remains somewhat uncertain, but at current levels, it could gain substantial market value over the next five years, provided it can expand its approved portfolio.

Is Novo the buying opportunity of the decade? Not really. There's too much uncertainty for that to be the case. But at current levels, it could deliver solid returns over the medium term.

Prosper Junior Bakiny has positions in Eli Lilly and Novo Nordisk. The Motley Fool has positions in and recommends Eli Lilly and Novo Nordisk. The Motley Fool has a disclosure policy.