This week and last, we're presenting 10 core stock ideas -- stocks our writers believe can serve as the foundation for a long-term-focused portfolio.
You probably know Johnson & Johnson because of products like Tylenol, Band-Aids, and Johnson's Baby Shampoo.
But if you think those brands are why I'm choosing Johnson & Johnson as one of our 10 core stocks, you're only 15% correct.
That's how much consumer brands like the three above contribute to Johnson & Johnson's profits.
Before I explain further, take a quick look at J&J by the numbers:
|
Company |
Johnson & Johnson |
|
What it does |
J&J is a major player all over the health-care space, from consumer products to prescription drugs to medical devices. |
|
Recent Price |
$61.97 |
|
Market Cap |
$170.6 billion |
|
Trailing P/E Ratio |
12.8 |
|
Return on Equity, Last 12 Months |
27.3% |
Source: Capital IQ, a division of Standard & Poor's.
The business
It's popular to call Johnson & Johnson a health-care mutual fund. This is a fair characterization. It has over 250 business units located in 60 countries throughout the world. These 250-plus business units contribute to three main lines of business. Here's a summary:
|
Line |
% of Sales |
% of Profits* |
Key Brands |
|---|---|---|---|
|
Consumer |
26% |
15% |
Tylenol, Band-Aid, Johnson's Baby, Stayfree, Neutrogena, Sudafed |
|
Pharmaceuticals |
36% |
39% |
Remicade (inflammatory disorders), Procrit (red blood cell booster), Levaquin (anti-infective), Risperdal Consta (schizophrenia) |
|
Medical Devices |
38% |
46% |
Cordis (heart), DePuy (joint reconstruction, spine), Ethicon (surgical care) |
Source: Capital IQ, a division of Standard and Poor's. *Segment information uses operating profits before taxes.
A couple things to note. 1) I could have kept going ... and going ... on the brands. J&J is rife with them. 2) Notice that medical devices and pharmaceuticals drive much more profits (and higher margins) than the more famous consumer brands.
This is important because that means Johnson & Johnson has to keep up its research and development pipelines and/or acquire replacement businesses to replenish patent expiries and keep growth going. This is in contrast to purer consumer goods plays like Kimberly Clark
In the last 12 months, J&J has continued its long-standing practice of making acquisitions and spent $7 billion on R&D -- that's over 10% of sales. As a percentage of sales, this is less than pharmas Merck
Why it's a core stock
There are only a handful of companies left that have the top AAA rating on their debt. Johnson & Johnson is one of them. That's a nod both to its conservative capital structure (it had more cash than debt as of its last quarterly filings) and to its ability to generate cash flows to cover its obligations (it converts over 20% of its sales into free cash flow).
J&J's stable of recognized brands and patents form a strong moat to protect its business. To give you an idea of how strong its business is, Johnson & Johnson ranks No. 1 or No. 2 for 70% of its products. And its practice of decentralizing its operations ensures that the behemoth can stay nimble and entrepreneurial to refill the moat.
Risks
Near-term, Johnson & Johnson has had trouble with numerous recalls on its products. If handled improperly, this kind of bad press can seriously hurt its brands. In addition, there is related litigation risk.
Longer-term, as I talked about earlier, J&J must be efficient in replenishing its drug and medical device pipelines as patents expire.
In sum
Johnson & Johnson is a robust global health care play that is trading for around 11 times trailing free cash flow and is throwing off a 3.5% dividend yield. At current prices, I believe Johnson & Johnson is a solid addition to your portfolio's core. And I'm not the only one. It's recently been picked in our 50 Stocks in 50 Days series, Warren Buffett's Berkshire Hathaway
Interested in reading more about Johnson & Johnson? Add it to My Watchlist, which will find all of our Foolish analysis on this stock.
