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Johnson & Johnson Sell-Off: Is It a Buying Opportunity?

By Kody Kester – Oct 3, 2021 at 6:10AM

Key Points

  • Johnson & Johnson has recently dropped 9% from its 52-week high.
  • With several blockbuster drugs growing rapidly and under patent protection into the next decade, Johnson & Johnson's core business is in great shape.
  • It's one of the largest healthcare companies in the world -- and the 34th largest publicly traded company across all sectors.

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Buying Dividend Kings at fair prices is a one way to achieve strong total returns with lower volatility.

With the S&P 500 just 4% off of its all-time high, investors looking for safe and growing income are having to look much more closely than they did five or 10 years ago. Fortunately, there are still viable options for investors seeking income with reduced volatility.

Stocks that have raised their dividends for at least 50 years straight are referred to as Dividend Kings. Dividend Kings have historically provided the appealing combination of increasing dividends and more resilient stock performance through inevitable market downturns. Now that Dividend King Johnson & Johnson (JNJ 0.09%) is 8% off of its all-time high, let's look at why the recent weakness could be a buying opportunity for income investors.

A patient sits in a treatment room with a physician.

Image source: Getty Images

The (likely) reason for Johnson & Johnson's pullback

Recently, House Democrats put forth a bill that would allow Medicare to leverage its size and scale to negotiate lower drug prices with pharma companies. It's estimated that the approach would save the U.S. Government $500 billion over the course of a decade. 

The bill hit a roadblock after a few moderate Democrats and many Republicans voted in opposition. Thus, it appears that the odds of passing the House and Senate to make it to the desk of the White House for enactment are rather low.

And since the U.S. pharma industry took in $539 billion last year alone, a $500 billion decline in U.S. pharma industry revenue for an entire decade would only result in a modest hit to the industry's sales anyway. 

Despite the pressure on Johnson & Johnson's stock price as a result of the bill, the impact on a diversified healthcare company such as Johnson & Johnson would be about a 3% decline in total revenue.

The first cushion for the business is that 49.5% of Johnson & Johnson's $45.63 billion in total first-half sales this year was derived from outside the U.S. Since the bill does not apply to Johnson & Johnson's consumer health segment (which sells key brands such as Neutrogena and Band-Aid) and medical devices segment (which treats cardiovascular, orthopedic, and other conditions), only Johnson & Johnson's U.S. pharmaceutical revenue would be adversely impacted. For context, U.S. pharmaceutical revenue accounted for only 29.2% of first-half sales for Johnson & Johnson.

A lengthy growth runway

Regardless of whether the aforementioned Medicare negotiation bill ever materializes, Johnson & Johnson is delivering satisfactory financial results, and this will likely not change in the foreseeable future.

Johnson & Johnson's top-selling drug, Stelara (used to treat inflammatory bowel diseases and plaque psoriasis), will see its last patent expire in 2023. But even with that, Johnson & Johnson is a diversified pharmaceutical company. Stelara comprises $4.42 billion, or less than 10% of total first-half revenue, and under 20% of total pharmaceutical segment revenue. Multiple fast-growing drugs in Johnson & Johnson's portfolio should be able to offset Stelara's eventual drop-off in revenue.

Johnson & Johnson's Tremfya (approved to treat plaque psoriasis and psoriatic arthritis) was first approved by the U.S. Food and Drug Administration (FDA) in 2017, which should translate into revenue growth for the drug this decade and into the beginning of next decade. Tremfya's first-half sales soared over 40% year over year to $897 million this year, the drug is being widely accepted by doctors and patients across the world. Tremfya alone should be able to offset much of Stelara's post-patent cliff revenue declines.

Johnson & Johnson's blood cancer drug Darzalex was first approved by the FDA in 2015, which also gives the drug a growth runway extending beyond this decade due to patent protection. Darzalex's first-half revenue skyrocketed 50%-plus year over year to $2.80 billion this year, the drug is on track to record over $5 billion in sales in its sixth full year on the market.

Johnson & Johnson and AbbVie's (ABBV -0.37%) blockbuster oncology drug Imbruvica was first approved by the FDA in 2013 and won't likely face any competition from generic drugs until at least early next decade. And even though Imbruvica is closing in on a decade since its first approval, Johnson & Johnson's share of the drug's sales in the first half were up 13% to $2.24 billion.

Johnson & Johnson's well-positioned pharmaceutical segment explains why analysts expect the stock to grow its earnings per share (EPS) at 8.9% annually over the next five years. 

A reasonably valued Dividend King

With a great deal of earnings stability built into the foreseeable future, Johnson & Johnson is an ideal stock to own for the long term. I might argue that Johnson & Johnson was a buy near its 52-week high, but the company is much more compelling at the current price, especially since its long-term outlook hasn't changed in recent weeks.

At the current price of $163 a share, Johnson & Johnson is trading at 19 times its trailing 12 months' free cash flow (operating cash flows less capital expenditures), which is a tad below its 13-year median price-to-FCF of 19.7. This is moderately more attractive than when Johnson & Johnson was trading at its 52-week high of $179 a share and a price-to-FCF ratio of over 21.

Johnson & Johnson's beta of just 0.7 is a great fit for investors seeking a less volatile stock. A market-beating 2.6% dividend yield is just one more reason why the recent sell-off looks like a gift from the market to long-term investors.

Kody Kester owns shares of AbbVie and Johnson & Johnson. The Motley Fool recommends Johnson & Johnson. The Motley Fool has a disclosure policy.

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