After 2015 Hiccup, J&J Was Back On Track In 2016

It is no news that Johnson & Johnson (NYSE:JNJ) has increasingly focused on its pharma business over the last five years. It has grown from roughly 37% to 47% of the business.  This transition was interrupted briefly in 2015, but the year 2016 saw a renewed focus and investor optimism around J&J’s pharma business. After a prolonged lull, the medical devices business also saw mild growth, which is reassuring to considering that this segment still constitutes nearly 35% of the company’s total revenues. Overall, J&J’s stock did reasonably well in a challenging environment, but a lot rides on new product launches and the company’s pipeline as far as the next few years are concerned. The current drug portfolio, barring a few drugs, is nearing its maturity. Let’s take a look at key highlights for 2016 for J&J.

Our price estimate of $115 for Johnson & Johnson is roughly in line with the market.

2016 Infused Some Life In J&J’s Dying Momentum

The momentum in J&J’s pharmaceutical business built up strongly between 2010 and 2014, but faded in 2015 casting doubts over the company’s long term growth. However, 2016 demonstrated that J&J, despite being huge, still has the capability to grow.

J&J’s revenue growth between 2010 and 2014 was primarily driven by the expansion in its pharma business. The EBITDA contribution of pharma segment increased from 39% in 2010 to just over 50% in 2014, thanks to the adoption of its immunology and oncology drugs. The combined sales of the immunology drugs Remicade, Simponi and Stelara nearly doubled during this timeframe reaching more than $10 billion, with the contribution from oncology drugs Zytiga and Velcade growing by nearly a factor of four  to about $3.9 billion. The unprecedented initial success of  Hepatitis C drug Olysio was another significant contributing factor, as the drug garnered nearly $2.3 billion in sales in 2014 following its launch.

However, the situation changed in 2015 as J&J’s growth suffered due to the downfall of Olysio and the negative impact of currency movements. Additionally, its key drugs Remicade and Zytiga reached a mature stage of growth, and Velcade lost its patent protection. The honeymoon period for J&J’s pharma business seemed over and the market was betting primarily on new launches and drugs still in the pipeline. These bets haven’t really disappointed. Not only did J&J manage to grow its pharma business, its ailing medical devices segment also appears to be reviving, albeit slowly.

Remicade is still resilient, and Simponi and Stelara are still growing. Additionally, the oncology drugs Imbruvica and Darzalex can be seen as future growth drivers and are off to a decent start. The combined peak sales of these two drugs are estimated to be nearly $10 billion. Additionally, vision care has done reasonably well, and we expect further market expansion in Orthopedics and Advanced Surgery to help fuel the recent revival of J&J’s medical devices business.

J&J Was One Of The Better Stocks Among Big Pharma In 2016

J&J’s stock returned more than 15% this year despite the pharma industry facing multiple headwinds including the slowdown in China and broader concerns over drug pricing that emerged during the recently conducted U.S. presidential elections. So why did this happen? Much of this can be attributed to the consistent increase in the stock price in the first half of the year. We believe this was driven by the optimism around new launches and the revival of the medical devices business. The slight decline in the latter half of the year can be attributed to presidential candidates being vocal against drug pricing policies. The big picture is that investors continue to value J&J’s stock. Even though the growth hasn’t been stellar this year, investors have bid up the prices to reflect the promise that new launches and the pipeline holds.

M&A Activity Continued, With Potential Actelion Bid Being The Highlight

According to a report, J&J approached pharmaceutical company Actelion to negotiate a potential acquisition, which could be valued upwards of $20 billion. Overall, we believe that this deal makes sense for J&J at this point and the market is likely to be forgiving as far as the huge investment goes. With Pfizer’s launch in the U.S. of a biosimilar against Remicade (an immunology drug), J&J’s reliance on oncology drugs to offset the expected sales slump will increase significantly. That’s not very comforting since the market for cancer therapies itself is getting increasingly competitive, with nearly every big player investing heavily in immuno-oncology research and marketing. Actelion is focused on rare diseases ,which tend to have more price protection and fewer competitors.  This could help J&J plug the gap. Global orphan drug sales (i.e., for rare diseases) are expected to grow at a CAGR of 11.7% between 2015 and 2020, adding more than $55 billion in incremental revenue. ^[1] This is much higher than the expected growth for the overall pharma market.

J&J also announced its acquisition of Abott’s optics unit. J&J’s main product in the eye care segment is the Acuve brand of contact lenses. With this acquisition, the company will be able to broaden its portfolio in the vision-care by adding products in cataract surgery, laser refractive surgery (LASIK) and consumer eye health products such as over-the-counter drops. Furthermore, J&J overall has been aligning its medical-devices portfolio towards surgical devices. Abbott Medical Optical’s significant presence in cataract and LASIK surgery  reinforces this trend. The consumer eye health products that the acquisition will bring in fits well with J&J’s existing consumer oriented product in vision-care.

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1. Orphan Drug Report 2015, EvaluatePharma [↩]