Continue To Ride Johnson & Johnson Stock For Higher Levels

We believe that the stock price of Johnson & Johnson (NYSE: JNJ) has more room for growth from its current levels of $166. JNJ stock is up only 10% from the levels of around $150 it was at in mid-February, 2020, before the pandemic led to a steep correction in the stock markets. This marks an underperformance compared to the broader markets with the S&P 500 rising 28% over the same period. The underperformance of JNJ stock can primarily be attributed to the impact of the pandemic on all of its businesses, and the developments around its Covid-19 vaccine.

Looking at a longer time period, JNJ stock is up only 29% from the levels of around $129 seen toward the end of 2018 (vs. an S&P 500 rise of nearly 72%). Much of this underperformance can be attributed to its talcum powder litigation, as well as slower growth in the company’s revenue-per-share (RPS). Johnson & Johnson’s total revenue grew only 3.3% to $84.3 billion over the last twelve month period, compared to $81.6 billion in 2018. Most of this revenue growth was being led by increased pharmaceuticals sales, which offset the decline seen in the company’s medical devices business. The company also saw a 1.7% decline in total shares outstanding due to share repurchases.

As such, on a per share basis, Johnson & Johnson’s revenue grew 5.1% to $31.95 for the last twelve month period, compared to $30.40 in 2018. Despite a nominal 5% rise in RPS over the recent years, Johnson & Johnson’s P/S multiple has risen 25% to 5.2x currently, compared to levels of 4.2x seen in 2018. Our dashboard, ‘What Factors Drove 29% Change In Johnson & Johnson Stock between 2018 and now?‘, has the underlying numbers.

Outlook

Johnson & Johnson’s medical devices business has seen more profound impact of the Covid-19 pandemic, compared to its other segments. Medical devices revenue were down 12% y-o-y in 2020, compared to an 8% and 1% growth for its pharmaceuticals and consumer healthcare business, respectively. This can primarily be attributed to hospitals as well as people choosing to postpone elective surgeries. Fewer visits to doctors during the pandemic also weighed on its pharmaceuticals business.

That said, the stock remained in the limelight given its single-dose Covid-19 vaccine, which was rolled out in the U.S. in early March 2021. While the vaccine did face headwinds due to manufacturing challenges and reports of a few people developing serious blood clots after receiving Johnson & Johnson’s Covid-19 vaccine, the company is making progress with its rollout, especially in the international markets. However, we don’t see much upside from a stock price appreciation point of view, given that the company’s Covid-19 vaccine is a not-for-profit product, at least for the period of the pandemic.

What will drive JNJ stock going forward is the medical devices and pharmaceuticals business. Medical devices business is poised to see a rebound in demand, given that nearly half of the U.S. population is fully vaccinated, and the economy is opening up gradually. With people being more confident to head out of their homes and hospitals being able to allocate resources outside of Covid-19 cases, the overall volume of procedures is expected to rise. This factor also applies to the company’s pharmaceuticals business. Within pharmaceuticals, we continue to believe that Johnson & Johnson will see strong gains for some of its drugs, including Stelara, Imbruvica, and Darzalex.

Stelara, which is used for the treatment of plaque psoriasis (psoriatic arthritis), Crohn’s disease, and ulcerative colitis, has seen its sales double to nearly $8 billion between 2017 and 2020. The growth has been even higher for its cancer drugs, with Darzalex sales growing 3.4x over the same period. This trend is expected to continue in the near term, bolstering Johnson & Johnson’s overall top-line growth. In fact, we forecast the company’s sales to grow nearly 11% in 2021, and this is meaningful, given that the company hasn’t seen double-digit top-line growth in over a decade.

Now, looking at valuation, JNJ stock at the current levels of $166 is trading at a P/S multiple of under 5x its estimated RPS of $34.70 in 2021. While the P/S multiple is broadly in-line with the comparable figures for JNJ seen over the recent years, we believe that the multiple will rise going forward. This can be attributed to continued strong sales growth expected even after 2021, partly driven by the company’s pharmaceuticals pipeline, with multiple potential blockbuster drugs.

While JNJ stock may see higher levels, 2020 has created many pricing discontinuities which can offer attractive trading opportunities. For example, you’ll be surprised how counter-intuitive the stock valuation is for Heico vs AbbVie.

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