Why I am Bullish on Johnson & Johnson
Ashish is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Johnson & Johnson (NYSE: JNJ) is one of the largest and most diversified healthcare businesses in the world, with over 200 operating companies encompassing a broad range of products across the healthcare field. The company's worldwide business is divided into three segments: Pharmaceutical (36% of sales), Medical Devices & Diagnostics (38%), and Consumer (26%). Even during unfavorable times for healthcare industry when some of its peers are struggling, Johnson & Johnson reported a 3.5% sales increment in Q2. Though many fear that discontinuation of Bapineuzumab program will provide a downside to the consensus estimates, I don’t expect that it will bring any material change. I believe Johnson & Johnson's business is starting to turn the corner overcoming many of the past challenges with strong product pipeline and I expect the company to deliver accelerating growth.
Failure of Bapineuzumab is not a big deal
Recently, Pfizer, Johnson & Johnson, and Elan announced that bapineuzumab failed to meet the co-primary endpoints in the second U.S. Phase III Trial. Bapineuzumab was an investigational therapy intended for the treatment of mild-to moderate Alzheimer's disease. The news is disappointing but is not surprising given the historical lack of success in developing an effective therapy to treat Alzheimer’s disease and the failure of one of these studies (study 302), announced late last month. I don't expect material changes to earlier consensus estimates, due to the disappointing outcome. The discontinuation of the program does not change my view that Johnson & Johnson has one of the more attractive near-term growth profiles among the pharma companies given the fact that they have recently launched a set of promising new compounds (Stelara, Arelto, Zytiga, Incivo) with the potential upcoming approval of Canaglaflozin.
Additionally, company is all set to release new products in Knee segment later this year and throughout 2013. As Knee segment is experiencing accelerated trend (as seen in Biomet’s and Stryker’s numbers), I see a huge opportunity for Johnson & Johnson to gain market share from companies concentrated in this segment like Stryker (NYSE: SYK), Biomet and Zimmer (NYSE: ZMH).
Synthes acquisition: A Lucrative Buy
I am optimistic that Johnson & Johnson’s Medical Devices and Diagnostics segment will grow in FY13 given the integration of Synthes. The closing of the Synthes acquisition and a lapping of Johnson & Johnson's exit from the drug eluting stent market will improve Johnson & Johnson's competitive positioning and growth prospects in the later half. The integration of Synthes with DePuy (Johnson & Johnson’s orthopedic unit) will create infrastructure leverage and cost-saving opportunities and are expected to add ~$4 billion of high margin revenues. As a result, the acquisition of Synthes will drive double digit sales in the coming quarters.
Offensive & Defensive Characteristics
Easy access to debt and Johnson & Johnson’s standout free cash flow generation enable management to continue deploying cash to build shareholder value. Following completion of the Synthes purchase in mid-2012, I expect Johnson & Johnson will resume share repurchases. Thus, I expect an upside to EPS targets. Further, I expect management to continue to acquire higher-margin, innovative franchises, particularly in MD&D to supplement revenue and EPS growth. Hence, I continue to see Johnson & Johnson as a name with both offensive (accelerating growth) and defensive characteristics (3.5% dividend yield, share buybacks).
I believe Johnson & Johnson is not expensive on an absolute basis (given 8% FCF yield) and new products provide several years of visibility on the top-line (estimated ~5% sales CAGR 2013-15). Over this period, Johnson & Johnson is well-positioned for sustained margin expansion despite headwinds in healthcare and the broader economy. Johnson & Johnson is expected to deliver significantly faster growth than the peer group starting in 2H12 given its strong pipeline. Further, I believe that Johnson & Johnson is having the breadth and scale to gain traction in the high-growth emerging markets faster than its peers and the potential for some cost synergies with the recent Synthes. In addition to improving fundamentals, Johnson & Johnson provides a strong defensive play, outperforming both the market and its benchmark of comparably weighted healthcare stocks during periods of negative market returns. Thus, I recommend it a buy.
The article was written by Ankit Agrawal and edited by Ashish Sharma. Both have no positions in the stocks mentioned above. The Motley Fool owns shares of Johnson & Johnson and Zimmer Holdings. Motley Fool newsletter services recommend 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.If you have questions about this post or the Fool’s blog network, click here for information.
