From Backyard to Bedside: How Pet Humanization is Reshaping Animal Health Care
During the last decade, US and European households have significantly embraced pets in their daily lives. This increase in pet adoption has been accelerated by the COVID-19 crisis and the change in the way of working. An additional change is the place people give to their dogs, whether in the past, dogs were often kept in the backyard. Today, they have moved into the coach or, for some dogs, even into some owners’ beds. All these trends have had a significant impact on the spending towards pets and their healthcare.
Research and development landscape
This shift has had a significant impact on the revenue models and R&D prioritisation of publicly listed animal health care companies. Players such as Zoetis and Elanco were, before 2013 and 2018, entities of larger human health-focused pharma companies (Pfizer and Eli Lilly). Elanco itself is the combination of the Elli Lilly animal health care and the former Bayer animal health division. With this combined entity, Elanco significantly increased its exposure towards pet health care, next to its legacy business in livestock health care. On Zoetis' side, management is significantly prioritising R&D, with almost 60% of their annual $700 million R&D spending allocated to their pet care research branch. The large pharmaceutical players have significantly refocused on pet health care besides their legacy livestock divisions.
Compared to human healthcare R&D, developing new drugs for pets is much more attractive than it is for humans. The overall process is cheaper, more reliable, and there are many more unmet needs in the animal health care segment. Additionally, the pressure to develop new drugs is compared to human health care less the case, as the sales of animal health care drugs tend to fall less after patent expiration than is the case in human health care. The combination of these 2 factors also reveals the significant difference in R&D intensity (R&D costs divided by annual revenue) of human vs animal health care businesses.
Source: Bloomberg, Econopolis
Zoetis is historically perceived as the market-making innovator that levers their market-leading R&D budgets to be the first player to launch new drugs into the market. In the future, they are focusing on launching renal care and oncology solutions for dogs and cats, which could be a potential new catalyst for the competitive position of Zoetis.
Valuation reset for market-leader Zoetis
The acceleration in growth, in combination with investors acknowledging the more qualitative characteristics of animal health care companies, had a significant effect on Zoetis’ valuation in the 2020-2022 period. However, the market has become significantly less generous in the P/E multiple that it addresses to Zoetis. This is the result of 2 reasons: a rise in competition and the lack of new, successful product launches, also called air pockets.
Competition has increased as the success of Zoetis’ Simparica trio, which is a monthly chewable pill that protects dogs against ticks, fleas and worms, has attracted the launch of competitors’ parasite treatment drugs. Elanco has since 2024 launched their version of this drug: Credellio Quattro, and other companies like MSD and private Boehringer Ingelheim have launched their version of the drug. This has significantly changed the sentiment on Zoetis and its ability to maintain its position as a dominant market leader.
Even more remarkable is that the markets value competitor Elanco higher on a P/E basis than Zoetis at this moment. This significant change from the past completely makes abstraction from the higher leverage that comes with investing in Elanco and the lower margins that Elanco still has compared to Zoetis. A part of the lower margins can be explained by the excess manufacturing facilities that Elanco has acquired from Bayer, and their lower share of higher-margin pet health care sales. This implies that the market is, at the moment, very confident that Elanco is leading the parasiticides race, but important to note that a significant number of dogs are currently not being treated with a combo parasiticides pill. This provides all competitors more room to grow into this potential + $7bn market. At the moment, none of the 4 competitors’ drugs seems to have clearly the upper hand in label description, the room for growth seems to be there to keep growing due to price increases without cannibalising each other in this space. However, to regain the market's trust, Zoetis needs to deliver on its R&D pipeline, which could be a significant trigger of new growth and the market’s reassessment of its competitive position.
Disclaimer: This blog post does not contain any personal investment advice or investment recommendations as referred to in art. 2, 9° or 10° of the Act of October 25, 2016, on access to the activity of investment service provider. The information is of a general nature and does not take your personal situation into account. Investing involves risks, including loss of capital. Past performance is not an indicator of future results.