JP Morgan Analyst: Johnson & Johnson Not Worth the Sum of Its Parts

Johnson & Johnson (JNJ), one of the market’s best large cap performers year-to-date, was downgraded by JP Morgan in a contrarian call as a result of its now hefty premium to the sum of its parts.

The stock has fallen just 4% so far in 2008, compared to 36% for the S&P 500.

Analyst Michael Weinstein said in a note:

And with the market’s demise, arguably no other stock has been as consensus a relatively safe haven pick.

But J&J now trades at a 27% premium to its constituent Pharma, MedTech and Consumer businesses. It has only climbed above the 15% level once in the past 20 years and that was during the prior market trough in October 2002. It has always failed to sustain such a premium, Mr. Weinstein noted. In fact, during the past two decades it has averaged a 1% discount to its sum of the parts valuation.

A spike in this premium has historically been an indicator to sell the stock, the analyst said. “J&J’s premium in particular to its pharma peers has gone hyperbolic.” It now trades at a 64% premium to its pure pharma peers, while at no point in the past 20 years exceeding 35%. They include Bristol Myers Squibb Co. (BMY), Eli Lilly & Co. (LLY), Merck & Co. (MRK), Pfizer Inc. (PFE) and Wyeth (WYE).

Mr. Weinstein added:

In short, our long-term view has, in a relatively short period of time, more than played itself out, and... the near-term view is less than stellar.

His rating moves from “overweight” to “neutral.”

While J&J is defensive, has a AAA credit rating and is essentially a heath care mutual fund, 2009 is shaping up to be one of the toughest years in its history as two of its three largest and most profitable drugs are in the process of going generic, the analyst noted. As a result, earnings growth is expected to be very challenging.

However, beyond 2009, the JP Morgan analyst sees things accelerating again thanks to the company’s relatively strong pipeline. As a result, he would consider revisting the stock, but not until later in 2009.

Comments

[winslow:]

JNJ has the best management in the world. This is worth a premium. Ethical management, trustworthy, shareholder-viewed decisions. If all companies (and our country) were managed by these standards, the US would continue to be the leader of the world.

2008 Oct 29 04:16 PM

[Eric K:]

Didn't Baron's just come out recently and call J&J extremely UNDERVALUED?! This is why analysts are completely worthless. Someone is way off here.

Even this analyst treats JNJ as a stock that should be traded and not invested in by saying after 2009 things look up.

2008 Oct 29 08:16 PM

[Tom Armistead:]

My method for a steady earner like JNJ is to use 5 year average EPS. Based on its normal multiple to that metric, the stock is extremely cheap, especially when compared to where it traded in 2002, when its defensive characteristics made it very highly valued.

I have had good luck buying calls at 50, LEAPS, and now might be a good time to try that strategy again.

The last time I did the sum of parts thing JNJ looked undervalued to me.

2008 Oct 30 07:17 PM