Healthcare conglomerate Johnson & Johnson (JNJ -1.10%) is a staple holding for quite a few long-term investors and retirees, and there's a long list of reasons why. The company has a well-diversified business model with more than 250 subsidiaries, and it tends to be pretty much recession-proof considering that people can't choose when they get sick, or what ailment they'll come down with.
Johnson & Johnson is also one of two remaining publicly traded companies that possesses the highly coveted AAA credit rating from Standard & Poor's, implying the utmost faith in repaying its debts. The company is also working on a 54-year streak of increasing its annual dividend, putting it among the most elite dividend-paying stocks.
But one of the most overlooked reasons why J&J is such a great company is its straight-shooting management team, headed by Alex Gorsky. Gorsky, during the flagship J.P. Morgan Healthcare Conference earlier this year, made it abundantly clear during his presentation that J&J is on the acquisition hunt, but that it greatly prefers to purchase smaller companies and assets. In Gorsky's own words from the conference:
We've tended to focus more on smaller opportunities. We would prefer to find... the next Imbruvica, we'd like to find the next Darzalex. We'd like to find the next minimally invasive surgery platform with a contact lens.
Two companies that could be on Johnson & Johnson's radar
The big question is, which companies could be on J&J's radar? That's what we'll attempt to answer today. As a word of caution, the following two acquisition candidates are nothing more than speculation on my part at this point, and it's not a smart investment move to buy a stock simply because you think it might be acquired. Keep that in mind as you read on.
Arguably, the most logical acquisition candidate for Johnson & Johnson would be clinical-stage biotech Geron (GERN -6.48%). The reason why I say "logical" is that J&J and Geron already have a collaborative relationship for Geron's lead clinical product, imetelstat, which is being geared to be a treatment for myelofibrosis and myelodysplastic syndromes. J&J laid out $35 million in upfront capital, and dangled up to a $900 million carrot for Geron's lead drug based on certain development, regulatory, and sales-based milestones.
What makes imetelstat such an intriguing drug is what it did in early-stage clinical trials for myelofibrosis (MF) patients. The only drug currently approved to treat MF is Incyte's (INCY -1.55%) Jakafi, which is a JAK-inhibitor designed to reduce the side effects that accompany MF, such as an enlarged spleen and anemia. However, Incyte's Jakafi doesn't do anything to reverse the effects of MF, which leads to the scarring of bone marrow.
No clinical study to date had ever demonstrated a partial or complete response in MF patients -- until Geron's phase 1 study with imetelstat. If imetelstat breezes through its phase 3 studies and is approved by the Food and Drug Administration (FDA), it could make a run at blockbuster status and eat Incyte's revenue for lunch. Note, this sales estimate doesn't even take into account what imetelstat could bring to the table for myelodysplastic syndromes, if successful.
As for J&J, it can take its time assessing Geron and imetelstat. It already has a collaboration with Geron firmly in place, and has the luxury of holding off until after late-stage data is released before it considers making an offer to purchase Geron. If imetelstat shines in its pivotal studies, don't be surprised if J&J makes a play to gobble it up.
Johnson & Johnson is a cash-flow cow, and over the trailing 12-month period, has generated more than $14 billion in free cash flow. That makes, in my opinion, an investment in micro-cap robotic surgical device maker TransEnterix (ASXC 3.98%) potentially worthwhile and affordable.
Though J&J has been working in recent years to promote areas of strength within its medical-device segment, such as trauma, spine, and hip/knee replacements, growth in medical devices, as a whole, has been subpar. Weakness in Europe and slower growth in the U.S. coupled with Affordable Care Act uncertainties have delayed consumers' decisions to get elective procedures, hampering J&J's medical-device operating results. One area where J&J can potentially find rapid growth within the device segment is robot-aided surgeries.
Currently, the robotic surgical market is dominated by Intuitive Surgical (ISRG -1.74%). The maker of the da Vinci surgical system has more than a one-decade head start over its peers, and in just the second quarter alone, it wound up shipping 130 da Vinci systems to clients. Worldwide, Intuitive Surgical had 3,745 da Vinci systems installed as of the end of June 2016 compared to one ALF-X surgical robotic system. It's going to take time for its competitors to take a notable bite out of its leading market share. However, TransEnterix could do it with some help.
Earlier this year, TransEnterix shares plummeted in April after the FDA notified the company that its 510(k) submission for its SurgiBot System didn't meet the criteria for substantial equivalence, based on the data and evidence that was submitted. In easier-to-understand terms, TransEnterix is going to have to resubmit its 510(k), which is going to take time and money.
As a predominantly developmental-stage company, TransEnterix doesn't have a lot of cash on hand. Its $64.6 million in cash as of the end of Q2 2016 is only expected to give the company enough of a cash runway to last until the third quarter of next year. Partnering with J&J, or having J&J gobble up TransEnterix, would resolve the company's cash issues and give J&J the opportunity to ramp up its medical-device growth in the years to come.
One last tip of the cap could be that TransEnterix's CEO, Todd Pope, previously served as the CEO of Cordis, a medical division that at one time was under the J&J umbrella, but has since been divested.
Once again, buying stocks on the sole basis of a potential buyout isn't a smart maneuver. But in the grand scheme of things, it wouldn't shock this Fool if J&J had Geron and TransEnterix on its radar.