The Future Of Johnson & Johnson: Growth And Stability

Aug. 5.14 | About: Johnson & (JNJ)

Summary

Johnson & Johnson has 30 years of consecutive earnings increases and 52 years of consecutive dividend increases.

Johnson & Johnson is the largest health care business in the world with a market cap of over $280 billion.

The company has the lowest volatility of any Dividend Aristocrat, stemming from its extreme stability and strong performance in recessions.

Johnson & Johnson grew pharmaceutical revenues over 20% in the 2nd quarter of 2014 versus the 2nd quarter of 2013.

The aging global population provides favorable macroeconomic conditions for Johnson & Johnson.

The last time I analyzed Johnson & Johnson (NYSE:JNJ), they had posted strong first-quarter results with constant currency revenue rising over 5%, and international constant currency revenue up nearly 8%. Johnson & Johnson is not new to success. The company was founded in 1886 and has been publicly traded since 1944. Johnson & Johnson's $282 billion market cap makes it the 6th largest publicly traded corporation in the world, and he largest health care industry business.

Not only is Johnson & Johnson large, they are consistently profitable. The company has an unprecedented streak of 30 consecutive years with an earnings increase. Johnson & Johnson has also increased its dividend payments for 52 consecutive years.

Source: Johnson & Johnson Investor Relations

Strong 2nd Quarter Results Show Continued Growth

Johnson & Johnson divides its operations into 3 divisions: pharmaceutical, medical devices and diagnostics, and consumer. The company's second-quarter revenue by division breaks down as follows:

  • Pharmaceutical revenue of $8.5 billion (44% of sales)
  • Medical devices and diagnostics revenue of $7.2 billion (37% of sales)
  • Consumer revenue of $3.7 billion (19% of sales)

Pharmaceutical Division Delivers 20%+ Growth

The pharmaceutical division is the company's most important segment. Pharmaceutical division adjusted revenue grew 21.1% versus the 2nd quarter of 2013. US sales grew 36.6%, and international sales grew 6.9%. Johnson & Johnson has grown pharmaceutical sales for 17 consecutive quarters, with growth accelerating during that time period.

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Source: Johnson & Johnson 2nd Quarter Presentation

Johnson & Johnson has managed to grow pharmaceutical revenues consistently by constantly creating and marketing new pharmaceutical products. Johnson & Johnson is the industry leader in new product revenue, with over twice as much revenue generated from new pharmaceutical products as its nearest competitor (Novartis). Johnson & Johnson's pharmaceutical pipeline is full. The company plans to release 10 new pharmaceutical products and 25 line extensions in the next 3 years.

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Source: Johnson & Johnson 2nd Quarter Presentation

Consumer Division: Growth Despite Divestiture

Johnson & Johnson's consumer division grew adjusted revenue 3.6% for the 2nd quarter of 2014 compared to the second quarter of 2013. International sales were up nearly 6%, while US sales declined 0.5%. The company's US revenue decline was due to the divestiture of the North American sanitary business (Stayfree and Carefree brands, among others) to Energizer (NYSE:ENR) in October of 2013 for $185 million.

Johnson & Johnson's highest growth was in analgesic (Tylenol and Motrin) sales, which grew 25% in the US and 17% worldwide from strong market share gains. The company also saw positive growth in baby care, oral care, and skin care consumer categories.

Medical Devices & Diagnostics: Sluggish Growth

Johnson & Johnson's medical devices and diagnostics division grew adjusted revenue 0.9% for the 2nd quarter of 2014 versus the second quarter of 2013. The bright spot for the company was strong growth in its cardiovascular division which was up 7.3% due to new catheter launches and expansions.

Revenue declined in the company's diabetes, diagnostics, surgical care, and vision care segments of medical devices and diagnostics. The diabetes, surgical, and vision segments all saw declining revenues due to loss of market share from strong competition. The diagnostic segment was divested on June 30th to The Carlyle Group (NASDAQ:CG) for $4 billion dollars. The divestiture will give Johnson & Johnson a clearer focus within the medical devices and diagnostics division, which underperformed the company's consumer and pharmaceutical divisions this quarter.

The Future Growth Potential of Johnson & Johnson

Johnson & Johnson is the largest publicly traded health care business in the world based on market capitalization of over $280 billion. It is small relative to the size of the $8 trillion dollar health care industry. The health care industry is rapidly evolving as several trends are creating new opportunities for Johnson & Johnson to grow.

Aging Population

The global population is slowly rising. Not only are we as humans expanding our numbers, we are living longer. The percentage of those 65 or over is expected to grow from just 7% in 2000 to 16% in 2050, more than doubling on a percentage basis.


Source: The Wisdom Years

As a general rule, we take more prescriptions as we age. Less than 8% of adults age 20 to 59 take 5 or more prescriptions, compared to 36.7% of adults age 60+ who take 5 or more prescriptions on a regular basis.

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Source: CDC Data Briefing

Johnson & Johnson generates more revenue from pharmaceutical sales than from any other product. The combination of an aging global population and higher prescription rates amongst the elderly result in extremely favorable demographic trends for Johnson & Johnson. The global pharmaceutical business is expected to grow at 4.5% per year through 2017. Johnson & Johnson has the potential to grow pharmaceutical revenue significantly faster by gaining market share with its established research and development, regulatory, distribution, and marketing system.

Johnson & Johnson's pipeline of pharmaceutical products is full. The company's strong pharmaceutical growth over the last 5 years and ability to generate new pharmaceutical products that are well received by the health care industry will lead the company to strong continued growth.

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Source: Johnson & Johnson 2nd Quarter Presentation

Johnson & Johsnon Shareholder Return

Shareholders of Johnson & Johnson can expect solid returns of between 9% and 11% going forward. The company will generate returns from share repurchases (2%), dividends (~3%), and organic growth (4% to 6%).

Johnson & Johnson appears to be fairly valued at this time. Its P/E ratio is about in line with its 10-year average, and slightly lower than the P/E ratio of the S&P 500 which is currently about 19.

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Source: Ycharts

Comparison to Other Dividend Growth Stocks

Johnson & Johnson is a leader in the health care industry. The company has a solid dividend yield and favorable macro economic trends propelling long-term growth. Johnson & Johnson will be compared to other businesses with a long history of dividend increases using the 5 Buy Rules from the 8 Rules of Dividend Investing. The comparison will show if Johnson & Johnson compares favorably to other investment options investors currently have.

Consecutive Years of Dividend Increases

Johnson & Johnson has increased its dividend payments for 52 consecutive years. The company has one of the longest active streaks of any business. Companies that are able to increase their dividend year after year show evidence of a sustainable competitive advantage that allows them to grow profitably year after year.

Why it matters: The Dividend Aristocrats (stocks with 25-plus years of rising dividends) have outperformed the S&P 500 over the last 10 years by 2.88 percentage points per year.
Source: S&P 500 Dividend Aristocrats Factsheet

Dividend Yield

Johnson & Johnson's dividend yield of 2.80% is the 55th highest out of 132 businesses with 25+ years of dividend payments without a reduction. The company's dividend yield is fairly high for the extremely low interest rate environment of today.

Why it Matters: Stocks with higher dividend yields have historically outperformed stocks with lower dividend yields. The highest-yielding quintile of stocks outperformed the lowest-yielding quintile by 1.76 percentage points per year from 1928 to 2013.
Source: Dividends: A Review of Historical Returns

Payout Ratio

Johnson & Johnson has a payout ratio of 45.60%, which is the 76th lowest out of 132 businesses with 25+ years of dividend payments without a reduction. The company's payout ratio gives it some room to increase dividends faster than overall company growth.

Why it Matters: High-yield, low-payout ratio stocks outperformed high-yield, high-payout ratio stocks by 8.2 percentage points per year from 1990 to 2006.
Source: High Yield, Low Payout by Barefoot, Patel, & Yao, page 3

Long-Term Growth Rate

Johnson & Johnson has only grown revenues at under 4% per year for the last decade. Its somewhat sluggish 10-year revenue per share growth ranks the company at 84 out of 132 businesses with 25+ years of dividend payments without a reduction.

Why it Matters: Growing dividend stocks have outperformed stocks with unchanging dividends by 2.4 percentage points per year from 1972 to 2013.
Source: Rising Dividends Fund, Oppenheimer, page 4

Long-Term Volatility

Johnson & Johnson's 10-year price standard deviation is only 16.10%. The company has the lowest standard deviation out of the 132 businesses with 25+ years of dividend payments without a reduction. Johnson & Johnson's extremely low volatility should be especially attractive to risk averse investors.

Why it Matters: The S&P Low Volatility index outperformed the S&P 500 by 2 percentage points per year for the 20-year period ending September 30th, 2011.
Source: Low & Slow Could Win the Race

Performance Through Great Recession

Historically, the health care industry has not been severely affected by recessions. Johnson & Johnson's underlying operations performed well during the Great Recession of 2007 to 2009. The company managed to increase earnings per share and dividends per share each year throughout the recession. Health spending is one of the few areas that are essential and very difficult to cut back on in times of economic hardships. As a result, Johnson & Johnson performed well over the last recession.

Conclusion

Johnson & Johnson is the 21st highest ranked stock based on the 8 Rules of Dividend Investing. The company offers shareholders a solid dividend yield, reasonable growth, and extremely low volatility. The business is extremely stable with 30 consecutive years of earnings increases. Further, Johnson & Johnson is minimally affected by recessions. Investors in Johnson & Johnson can expect solid returns with little risk of business failure going forward.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.