Pharmaceutical giant Johnson & Johnson (JNJ -0.46%) is no stranger to legal issues. The company is still dealing with a barrage of lawsuits alleging that its talc-based products gave customers cancer. This dark cloud has hovered above Johnson & Johnson's head for a while now, but it is facing another legal obstacle of a different nature.
In August 2022, President Biden signed the Inflation Reduction Act into law. Among the many things that landmark legislation achieved was to grant Medicare the ability to negotiate directly with drugmakers on the prices it pays for some of the drugs the U.S. government spends the most on each year.
Three of Johnson & Johnson's drugs targeted
The U.S. Centers for Medicare and Medicaid Services (CMS) recently released the first list of 10 drugs for which prices will be negotiated. The agreed-upon prices will take effect in 2026. Three of these medicines are marketed by Johnson & Johnson: the immunosuppressant Stelara, cancer drug Imbruvica (which it co-markets with AbbVie), and blood thinner Xarelto (rights for which it shares with Bayer).
Obviously, the negotiated prices will be lower than what Johnson & Johnson would otherwise charge for these medicines, leading to lower revenues for these products. That said, this first round of negotiations could have a relatively mild effect on the company.
Last year, Stelara, Imbruvica, and Xarelto combined made up almost 17% of Johnson & Johnson's total sales.
That's not negligible, but these products' sales won't drop to zero due to these regulatory developments. Further, Xarelto and Stelara will be facing generic competition by the time the negotiated prices take effect. As a result, Johnson & Johnson will be moving away from its reliance on these medicines anyway, as their revenues will drop once those cheaper generics enter the market.
Meanwhile, Imbruvica's sales have already been on the decline. In the first six months of the year, the cancer medicine had sales of $1.7 billion, down roughly 17% year over year. Johnson & Johnson blamed the decline on competitive pressures.
In sum, none of the three of the medicines targeted by Medicare for price negotiations were going to be part of the drugmaker's growth strategy regardless.
However, the danger is that more and more of Johnson & Johnson's products will find their way into the lists of drugs Medicare will target for price negotiations. In each of the next two rounds, Medicare will select another 15 drugs, and in the fourth, it will pick 20. So by 2029, the list of drugs for which the government has negotiated lower prices will have grown from 10 to 60.
What should investors do?
Johnson & Johnson, like other pharmaceutical companies, has filed a lawsuit challenging the drug price negotiation provision of the Inflation Reduction Act. It's impossible to predict what the results of these lawsuits will be, but if the rulings break the drug industry's way, this issue could disappear entirely. Even if they don't, Johnson & Johnson is about as well equipped as any drugmaker to handle this issue.
First, the healthcare giant has a large and diversified portfolio of medicines. Its single most lucrative drug in 2022 was Stelara, which accounted for 10.2% of its total sales. Johnson & Johnson had more than 10 products that generated over $1 billion in sales each last year.
Also, the company's pipeline is deep -- it currently features 98 clinical programs. Many of its trials are for existing drugs seeking label expansions, but the company is also developing brand-new medicines. For example, Johnson & Johnson earned approval for Akeega, a cancer medicine, earlier this year. And it is currently awaiting an approval decision from the Food and Drug Administration for milvexian, an anticoagulant it developed with Bristol Myers Squibb. Johnson & Johnson also has a medical devices division. The company has recorded steady sales and profits for decades thanks to its strong underlying business and innovative capabilities.
These qualities can allow it to survive this revenue headwind, too. And, of course, Johnson & Johnson remains an excellent dividend stock and a member of the exclusive group of Dividend Kings. In my view, it isn't yet time to give up on Johnson & Johnson's stock -- not even close.
