Healthcare Giant's Giant Drug

Reuben is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Dow-30 component Johnson & Johnson (NYSE: JNJ) is a giant healthcare company, with exposure to the consumer products, medical devices, and pharmaceuticals arenas. It's a virtual one-stop shop for investors seeking exposure to the healthcare market. However, within the company's drug business, biologic Remicade accounts for a disproportionate share of revenues. It also has a material impact on the company's top line. Investors need to keep an eye on this drug.

What is Remicade?

Remicaide (infliximab) is a biologic drug approved for the treatment of a number of immune mediated inflammatory diseases. A biologic is created using biological processes, as opposed to chemicals (pharmaceuticals). According to Johnson & Johnson, it was the first anti-TNF-alpha treatment approved in the United States in August 1998. It is approved for treatments in the gastroenterology, rheumatology, and dermatology areas.

The drug's specific markets include Crohn's disease and pediatric Crohn’s disease, rheumatoid arthritis, ankylosing spondylitis, psoriatic arthritis, ulcerative colitis and pediatric ulcerative colitis, and psoriasis.

Ulcerative colitis is a chronic inflammatory bowel disease affecting nearly 700,000 people in the United States. It is basically the result of inflammation in the colon. There is no cure, which means that patients for which this medication is effective are, essentially, an annuity like revenue stream.

Crohn's disease and pediatric Crohn’s disease are also typified by inflammation of the gastrointestinal tract. However, Crohn's is believes to be associated with abnormalities of the immune system. There are approximately 500,000 people, including approximately 150,000 pediatric patients, suffering with this chronic disease, for which there is no cure.

Rheumatoid arthritis is persistent and progressive joint inflammation. It can cause pain and, eventually, functional disability. It is believed that this form of arthritis effects 1.3 million people. Psoriatic arthritis is chronic arthritis inflammation that can lead to joint destruction. Psoriatic arthritis is frequently associated with inflamed, scaly, red patches of skin psoriasis and nail psoriasis. Ankylosing spondylitis is a progressive form of spinal arthritis. The company believes there are 500,000 people in the United States with ankylosing spondylitis.

Psoriasis is a chronic, immune-mediated disease that results from the overproduction of skin cells. These cells accumulate and cause red, scaly patches. JNJ believes there are approximately 7.5 million Americans, and nearly 3 percent of the world's population, living with psoriasis. Moreover, according to the National Psoriasis Foundation, up to 30 percent of people with psoriasis also develop psoriatic arthritis.

Why Remicade is important

Although the 2012 breakdown isn't yet available, Remicade had sales of $5.5 billion in 2011. The entire pharmaceutical division had sales of $24.4 billion. It's simple math, but that means that sales of that one drug accounted for 23% of the division's revenues. That's a big number.

In fact, the company warned in 2011 that Remicade represented 8.4% of Johnson & Johnson's total revenue. It isn't surprising then, that the company warned, “Accordingly, the patents related to this product are believed to be material to Johnson & Johnson.” The reliance on one drug for so much revenue is a notable risk.

How big is that risk? Remicade is patented, and thus protected from competition. But that protection only lasts so long. When drug patents expire, sales usually fall quickly. For example, in June of 2011, Johnson & Johnson's Levaquin lost its patent protections. Generics quickly entered the market and sales of Levaquin fell 54% in 2011.

To put dollar figures on that, the drug had sales of $1.4 billion in 2010. In 2011, with only six months of competition, sales fell to 623 million. Assuming that sales in the previous year were equally spread across the full 12 month period, it means that the second half of 2011 saw sales drop close to zero. It's going to be a bigger deal when this happens to Remicade, a drug that generates almost four times the revenue.

A relationship change

One interesting thing about this drug is that JNJ had an agreement with Schering-Plough to distribute Remicade in many foreign markets. When Merck (NYSE: MRK) purchased Schering, Johnson & Johnson contented that the acquisition constituted a change of control based on the distribution contract, and attempted to void it in its entirety.

In mid-2011, the two companies reached an agreement in which Merck retained the rights to distribute Remicade and another drug in Europe, Russia, and Turkey. These areas accounted for the vast majority of Merck's profits from the two drugs. This relationship, which has obviously been tenuous at times, is an important one to watch. While Merck is involved, JNJ has to give up a piece of the action. If the company can remove Merck from the equation, as it did in notable markets like Canada, Brazil, Australia, and Mexico, JNJ will retain more of the revenues.

Extending the date

It's hard to put exact dates on patent expirations, because companies can extend the date by creating slightly different formulations. For example, making a 24 hour version of a drug that had typically been available only in 12 hour formulations. However, generic drug manufacturers can also challenge patents, which can shorten their lifespans. All of this is complicated, but vital to watch, particularly for Remicade.

Inflammation is increasingly being targeted for its negative impact on health. Remicaide's obvious benefit with inflation issues makes it a powerful drug. It has a long history of safety and success, off of which Johnson & Johnson can build its research in an attempt to broaden the indications for which it is being used. For example, the pediatric use of the drug is a relatively new development.

The competition

Abbott Labs' (NYSE: ABT) Humira is a major competitor to Johnson & Johnson's Remicaide, with approval for virtually all of the same illnesses. In 2011, Humira garnered nearly $8 billion in sales, making it even more important to Abbott's top line than Remicaide is to Johnson & Johnson. The company is putting some heavy muscle behind the drug, as well, studying it for several additional indications.

There is plenty of room in the market for both drugs to survive, but investors should keep their eyes out for Humira and Abbott Labs. Note that generic versions of either drug could materially impact both drugs, as third party payers would likely insist on the cheaper version being the first line of defence.

While increasing sales of Remicaide is a good thing, it also increases the top- and bottom-line risk this one drug poses to the company. At the end of the day, then, it is something of a double-edge sword. Investors need to watch both this drug's developments, those of key competitors, and new drugs that may be approved for the same indications.

Yours,
 

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Reuben Gregg Brewer has no position in any stocks mentioned. The Motley Fool recommends Johnson & Johnson. The Motley Fool owns shares of Johnson & Johnson. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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