What’s Happening With Johnson & Johnson Stock?

[Updated 11/18/2020] Johnson & Johnson Update

Earlier this month, Johnson & Johnson (NYSE: JNJ) failed in an attempt to overturn a $2 billion verdict related to asbestos in its baby and other talc products. Though the company plans to appeal in the supreme court, it has set aside the $2 billion amount as a reserve for the verdict. Johnson & Johnson has faced several litigations in the past and it has spent around $9 billion in litigation expenses since 2017. That said, the $2 billion verdict should not be a big concern for the investors even if the company fails to overturn it in the supreme court, given that Johnson & Johnson’s cash balance and investments are well over $30 billion, while its short term debt is just $5 billion. Additionally, the company generated $15 billion in cash from operations thus far in 2020, implying the company has enough cash to service its near term debt and other obligations. We believe the focus should remain on Johnson & Johnson’s potential earnings growth over the coming years led by market share gains for its blockbuster drugs, including Stelara, Imbruvica, and Darzalex, which combined garnered $11.4 billion in sales in the first nine months of 2020, reflecting a 22% y-o-y growth. While Johnson & Johnson stock has rallied by about 34% since its March lows, it still appears reasonably valued, trading at just about 16x projected 2021 earnings of $9.00, compared to levels of 18x seen as recently  as late 2019.

Johnson & Johnson’s Vaccine Update

On the vaccine front, Johnson & Johnson is expanding its partnership with the Department of Health and Human Services (HHS) for the ongoing development of Johnson & Johnson’s investigational Covid-19 vaccine candidate. Johnson & Johnson is committing $604M and HHS’s Biomedical Advanced Research and Development Authority will commit $454M to support the ongoing Phase 3 ENSEMBLE trial evaluating the company’s investigational Covid-19 vaccine candidate as a single-dose in up to 60,000 volunteers worldwide. Recently, Senator Rob Portman announced that he has participated in Johnson & Johnson’s vaccine trial to encourage vaccination. Johnson & Johnson is targeting a single-shot vaccine, unlike most other vaccine candidates, which are likely to require two shots. Though Johnson & Johnson earlier this week initiated a new trial targeting 30,000 volunteers for a two-dose vaccine.

[Updated 10/26/2020] Johnson & Johnson’s Valuation

Johnson & Johnson’s stock (NYSE:JNJ) lost more than 23% – dropping from $146 at the beginning of the year to below $112 in late March – then spiked 30% to around $145 now. That means it has fully recovered to the levels where it started the year.

Why? While the Covid-19 outbreak and associated lockdowns resulted in an uncertain outlook for the broader markets, the multi-billion-dollar Fed stimulus announced in late March helped the markets stage a strong recovery. The opening up of economies, and resumption of elective procedures, will bode well for Johnson & Johnson. In addition, the company posted a better than expected Q3, led by steady growth in its Pharmaceuticals business.

But is this all there is to the story?

Not quite. Despite the recent rally, Trefis estimates Johnson & Johnson’s Valuation at about $178 per share, roughly 23% above the current market price based on two key opportunities and a near term risk.

The first opportunity we see is to Johnson & Johnson’s Revenue growth over the coming years. Now that lockdown restrictions are being lifted in most of the cities, the healthcare institutions have begun attending to elective surgeries, which were deferred earlier. This means a gradual increase in hospital visits, number of procedures performed, and higher number of prescriptions issued, boding well for Johnson & Johnson. The company’s 3 important drugs – Imbruvica, Darzalex, and Stelara  – are gaining market share, and they will likely garner over $20 billion in 2022 sales, reflecting a strong 60% growth since 2019.

The second key opportunity stems from Johnson & Johnson’s valuation multiple compared to its peers. The stock now trades at 18x its projected 2020 adjusted earnings per share of about $8.01. In comparison, to earn close to $8 per year from a bank, you’d have to deposit about $800 in a savings account today (assuming 1% interest rate), so about 100x desired earnings. At Johnson & Johnson’s current share price of roughly $145, we are talking about a P/E multiple of around 18x based on expected 2020 adjusted earnings of $8.01, lower than the levels of 19x seen in 2017. And we think a figure closer to 22x will be appropriate. While the 22x number appears high compared to levels seen over the recent years, it is due to the fact that 2020 EPS will be lower given the impact of Covid-19. The estimated Non-GAAP EPS of $8.01 in 2020 compares with $8.18 and $8.68 figures seen in 2018 and 2019 respectively. With the company’s businesses expected to see steady growth from next year, and market share gains for some of Johnson & Johnson’s blockbuster drugs, clubbed with margin expansion due to better product mix and cost cutting measures, will result in strong earnings growth over the coming years. In fact, we estimate the 2021 Non-GAAP EPS to be $9.02 per share, and at the current price of $145, JNJ stock is trading at just 16x 2021 (expected) earnings. Also, Johnson & Johnson’s P/E multiple is lower compared to some of its peers, such as Eli Lilly which currently trades at 20x its projected 2020 earnings, while Abbott trades at 33x.

That said, there is a near term risk in the company’s Medical Devices segment.

Given the current Covid-19 pandemic, several types of elective surgeries were postponed in the first half of the year, resulting in a significant impact on the Medical Devices business for Johnson & Johnson. In fact, the company saw a massive 34% dip in Medical Devices segment sales in Q2. However, the situation improved in Q3 with economies gradually opening up, and the segment sales were down only 3.6% (y-o-y) in Q3. Seeing the recovery, Johnson & Johnson also raised its earnings guidance for the full year  to be in the range of $7.95 to $8.05 on an adjusted and per-share basis, compared to the earlier provided range of $7.75 and $7.95.

The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Brazil and Russia. Following the Fed stimulus — which set a floor on fear — the market has been willing to “look through” the current weak period and take a longer-term view. With investors focusing their attention on 2021 results, the valuations become important in finding value. Though market sentiment can be fickle, and evidence of an uptick in new cases could spook investors once again.

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