Hitting consistent singles and doubles in investing with well-established companies is arguably the secret to successful investing. Sure, it's more exciting to hit a home run with less established businesses. But that also often carries significantly more risk.
Founded in 1886, Johnson & Johnson (JNJ -0.58%) is one of the oldest pharmaceutical companies in the world. As a well-established business, J&J has been able to raise its dividend for 60 consecutive years. This makes the company a Dividend King with the longest dividend growth streak in all of healthcare.
But don't mistake J&J's age and impressive dividend growth streak as a sign of a stagnant business whose best days are behind it. The stock appears to be a buy for value- and income-oriented investors this year and well beyond. Let's dive into J&J's fundamentals and valuation to elaborate on this argument further.
Decent results during a challenging quarter
J&J reported $23.8 billion in total sales for its third quarter, ended Sept. 30, which was 1.9% higher year over year. On the surface, this seems to be somewhat uninspiring sales growth.
But the company's international sales ($11.3 billion) were subject to a 12.6% foreign currency translation headwind due to the continued strength of the U.S. dollar. Accounting for this factor, J&J's adjusted operational sales were up 8.2% over the year-ago period.
The company's pharmaceutical and medtech segments were its drivers, delivering respective sales growth of 2.6% and 2.1% during the quarter. The consumer health segment , which will be spun off into a separate company in 2023, lagged behind with sales down 0.4% year over year in the quarter.
The pharmaceutical segment's sales were led higher to $13.2 billion for the quarter. This was the result of double-digit sales growth from J&J's immunology drug Tremfya and cancer drugs Darzalex and Erleada. Increased sales in the company's vision, trauma, and general surgery categories helped the medtech segment record $6.8 billion in sales during the quarter.
J&J posted $2.55 in non-GAAP (adjusted) diluted earnings per share (EPS) in the third quarter, which was 1.9% lower than the year-ago period. Elevated costs stemming from inflation and supply chain issues resulted in a nearly 140-basis-point decline in the company's non-GAAP net margin to 28.5% for the quarter. This downturn in profitability wasn't able to be offset by a larger sales base and a 0.5% reduction in the average diluted share count to 2.7 billion during the quarter. This is how J&J's adjusted diluted EPS growth came in lower than its total sales growth in the quarter.
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An enviable drug pipeline
As inflation cools off, J&J should return to solid earnings growth in the future via its tremendously deep drug pipeline. Due to J&J's heavy investment in research and development (15.1% of year-to-date sales or $10.8 billion), it shouldn't be a surprise that the company culture is characterized by innovation.
This is how J&J's pipeline has grown to more than 100 projects currently in clinical development. And it explains why analysts are anticipating mid-single-digit annual adjusted diluted EPS growth from the company through the next five years.
A safe and market-beating dividend
J&J's 2.7% dividend yield is markedly higher than the S&P 500 index's 1.7% yield. Yet the dividend is also poised to keep growing at a healthy clip.
This is because J&J's dividend payout ratio will come in just above 44% in 2022. Thanks to this modest dividend obligation, the company has more than enough funds to finance bolt-on acquisitions, repay debt, and repurchase shares. That's why I am forecasting at least 6% annual dividend growth for the next few years.
The valuation is within reason
J&J is a thriving business. And the stock doesn't seem to be trading at an excessive valuation either. The stock's forward price-to-earnings (P/E) ratio of 16.9 is a modest premium over the S&P 500 healthcare sector's P/E multiple of 15.1. In my opinion, the company's track record and great fundamentals completely justify this premium valuation.
