“Not just a band-aid”, Andrew Bary. Barron’s, December. 15, 2012. [Excerpts]
Led by its underappreciated pharmaceutical division, the giant health-care conglomerate may be poised to deliver mid-single-digit revenue growth and high-single-digit profit growth in the coming years after a forgettable multiyear stretch marred by persistent factory problems in its consumer division and a $2.9 billion charge related to the recall of artificial hips.
With its missteps, J&J (ticker: JNJ) managed to alienate the normally patient Warren Buffett, whose Berkshire Hathaway (BRK.B) has sold nearly all of its investment in the company.
Berkshire's holding stood at just 492,000 shares at the end of the third quarter, down from 31.4 million shares at the end of 2011 and 45 million a year earlier. The company "obviously messed up in a lot of ways in the last few years," Buffett told CNBC earlier this year, marking a rare corporate critique by the Berkshire CEO.
While Berkshire was selling, Wall Street started warming to the J&J story. Its shares have risen to about $70 from a June low of $62. There could be further upside in the next year, to $80 or higher, assuming the company is able to build on the momentum shown in the third quarter, when organic, currency-adjusted revenue growth of 5% was its best showing in five years. The stock has disappointed for a decade, having traded at $65 in 2002.
"Revenue growth is improving in all three businesses. That leads to the potential upside for earnings per share," says Barclays analyst C. Anthony Butler, who has called J&J "the misunderstood giant." He carries an Overweight rating and an $85 price target. J&J's three businesses are pharmaceuticals, medical devices and diagnostics, and consumer.
[ ], Butler has set an optimistic sum-of the-parts value of $85 on three divisions based on projected 2013 earnings. His 2013 estimate of $5.75 a share is above the consensus of $5.49 a share. His low-end, sum-of-the-parts valuation is $68, suggesting limited downside. This year's operating profits are expected to total $5.05 to $5.10 a share. The company is valued at $195 billion, making it the largest publicly traded health-care company in the world.
"If you look at J&J like a bond, it's very attractive," says David King, lead manager of the
Columbia Flexible Capital Income Fund. "The dividend yield is much higher than J&J's 10-yearbond yield." J&J's dividend is now 3.4%, versus a roughly 2% yield on its 10-year debt.
The dividend has grown at an 8% annual rate for the past five years and could rise at a similar pace in the next few years, making the stock like a bond with a rising interest rate. There obviously is no guarantee that J&J will maintain or continue to raise its dividend, but, as King notes, the company has a widely diversified business mix, limited economic sensitivity, and a
50-year history of dividend increases.
J&J trades for 13 times projected 2013 earnings, and is in line with most major drug stocks, as
J&J has lost its historic premium to the sector. J&J shares are up 8% in 2012, trailing Pfizer
(PFE), Abbott Laboratories (ABT), and Merck (MRK), which all are up about 15%.
Detractors say J&J is a stodgy, slow-growth company that now lacks its former innovative edge, and is run by an overly conservative management team that allowed a series of costly and embarrassing quality problems to occur on its watch.
J&J'S CONSUMER DIVISION, which includes Tylenol, Sudafed, Band-Aid, Listerine, and
Johnson's baby products, has had 25 product recalls in the past few years, and one of its three
North American plants, in Fort Washington, Pa., has been shut since 2010. That plant and two others in North America operate under a federal consent decree, as J&J seeks to satisfy regulators that its manufacturing processes are being fixed. The factory problems have led to shortages of products like children's liquid Tylenol.
J&J hasn't said when it…