Zoetis: A global leader in veterinary medicine

UK investors looking to benefit from the increasing amounts of money being spent on pets might bemoan the recent acquisition of animal health business Dechra Pharmaceuticals (DPH) by the Swedish buyout group EQT. But there is an equivalent – or even superior –business in the US: Zoetis (US:ZTS), spun off from Pfizer (US:PFE) 10 years ago.

The company, which has a presence in more than 100 countries but derives half of its revenue from the US, can boast a return on equity (RoE) of more than 40 per cent each year since 2016. Dechra, by comparison, has only managed between 5 and 10 per cent across the same period.

Both are benefiting from structural trends. The millennial generation, born between the early 1980s and the late 1990s and facing a variety of cost of living pressures, appear to be having fewer children than their predecessors.

They are, however, particularly keen to look after their four-legged friends – and this, coupled with a general rise in pet ownership among wealthier households that was turbo-charged further by the pandemic – is proving to be a boon for animal health businesses.

These shifting trends are helping drive sales, but they are also prompting companies to think carefully about how to make the most of their revenues in the future. Zoetis, already a very profitable business, intends for margin expansion to play a more important role in supporting medium-term earnings growth than sales alone. This growth, as well as share buybacks, helps support forecasts of double-digit earnings growth in the years ahead. FactSet analyst consensus puts EPS growth at 11.2 per cent for Zoetis’s next full financial year, followed by 11.9 per cent the year after. 

One big focus is the recent US launch of Librela, a treatment for osteoarthritis in dogs, following an initial rollout in Europe. Zoetis has high hopes for the product, expecting it to aid with margin expansion once it reaches scale. Its launch is indicative of the ‘humanisation'” of pets, as owners increasingly think of their pets as family, and therefore see health treatments as essential, not discretionary, expenditure.

A similar product, known as Solensia, has been made available to treat cats with the chronic pain condition. The company hopes that these two products alone can ultimately deliver $1bn (£800mn) in annual revenues despite the current market size being just $400mn. 

As with any pharmaceutical, the need to invest in research and development to stay ahead of the competition is crucial. Those competitors include Merck (US:MRK), Virbac (FR:VIRP) and Germany’s privately held Boehringer Ingelheim. The latter has launched a rival to Simparica Trio, the anti-parasitical medicine that is one of Zoetis’s most successful products. But Trio revenue growth remains strong, rising 20 per cent year on year in the third quarter.

The livestock market, which accounts for a third of Zoetis sales, has proven to be more subdued. Revenue from products aimed at herd animals rose just 1 per cent across the quarter. US sales declined 2 per cent, in part because of lower disease prevalence in pigs. This was partially offset by growth in its poultry portfolio – where farmers are expanding the use of a product called Zoamix, an alternative to antibiotic feed additives. 

On the face of it, there certainly appears to be greater potential for volatility in the livestock segment. The culling of herds due to disease outbreaks is a consistent risk, as are changing dietary trends.

So the company sees the pets business as offering the most potential for future growth, notwithstanding its existing dominance of some segments. According to investment bank William Blair, Zoetis enjoys a 95 per cent share of the $1.4bn pet dermatology market – with the canine dermatitis drugs Apoquel and Cytopoint serving as the stars of its portfolio. The likes of Trio mean the company now controls nearly one-third of the larger pet parasiticides market, estimated to be worth $6.3bn. If the likes of Librela can help Zoetis continue to deliver on its enviable track record of margin expansion, a current forward price/earnings ratio in the high 20s may ultimately not prove to be too prohibitive.