18 Jul

Litigation Looms in the Wake of JNJ’s Solid Q2 Earnings

WRITTEN BY Margaret Patrick

Johnson & Johnson (JNJ) reported its second-quarter earnings results before the market opened on Tuesday. The company reported revenue of $20.56 billion, a YoY (year-over-year) fall of 1.29%. Its revenue was $173.66 million higher than the consensus estimate.

Unfavorable foreign exchange movements negatively affected Johnson & Johnson’s performance in the second quarter. The company reported YoY operational revenue growth of 1.6% resulting from a 2.9% decline in the US but a 5.5% rise in ex-US markets. The company’s YoY adjusted operational sales growth was 3.7% excluding the impact of divestitures and acquisitions. The company reported a flat revenue performance in the US market and 7.6% YoY growth in ex-US markets.

In the quarter, Johnson & Johnson reported non-GAAP (generally accepted accounting principles) EPS of $2.58, a YoY rise of 22.86%. This amount was $0.14 higher than the consensus estimate. The company reported GAAP EPS of $2.08, a YoY rise of 43.45%. Its non-GAAP net income was $6.95 billion, a YoY rise of 21.55%. Its GAAP net income was $5.61 billion, a YoY rise of 41.81%.

Revenue and earnings drivers

All three of Johnson & Johnson’s business segments outperformed consensus revenue estimates in the second quarter. The Pharmaceutical segment reported revenue of $10.5 billion, a YoY rise of 4.4%. The Medical Devices segment reported revenue of $6.5 billion, a YoY fall of 4.1%. Finally, the Consumer segment reported sales of $3.5 billion, a YoY rise of 4.6%.

According to JNJ’s second-quarter earnings conference call, sales volumes of Darzalex, Imbruvica, Invega, and Stelara drove its Pharmaceutical segment’s revenue. The oncology, immunology, and pulmonary hypertension portfolios are the segment’s key growth drivers. However, increasing generic and biosimilar competition for Zytiga and Remicade resulted in a sequential revenue decline for the company.

According to the call, beauty brands such as Neutrogena and Aveeno were the main revenue drivers of the company’s Consumer segment. In the Medical Devices segment, the company reported robust performances for its electrophysiology, energy, and endocutter franchises. Its revenue mainly fell due to certain supply disruptions in the segment.

According to its second-quarter earnings conference call, Johnson & Johnson’s EPS benefited from a robust revenue performance as well as a significant rise in other income. The company recorded a $2.0 billion pretax gain as other income related to the sale of its Advanced Sterilization Products business. This transaction closed in April.

Oncology portfolio

Oncology is the fastest-growing franchise in Johnson & Johnson’s Pharmaceutical segment. The company reported worldwide oncology sales of $2.70 billion in the second quarter, a YoY operational rise of 14.1%.

According to JNJ’s second-quarter earnings conference call, Darzalex is a major revenue driver in its oncology portfolio. The drug reported a 57% YoY rise in worldwide sales in the second quarter. Darzalex’s sales also benefited from 100 basis points worth of favorable pricing adjustment after the completion of pricing and reimbursement agreements in certain European countries. But after excluding this one-time impact, the drug reported 41% YoY revenue growth in the second quarter. Darzalex reported a robust uptake and increasing market share across all of its approved indications and markets.

Johnson & Johnson and AbbVie’s Imbruvica reported a 39% YoY rise in revenue in the second quarter. The drug benefited from gains in market share and overall market growth across multiple indications in US and ex-US markets. At the end of the first quarter, Imbruvica was the leader in new patient and total patient shares in chronic lymphocytic leukemia indications in the US.

Johnson & Johnson’s prostate cancer drug, Zytiga, reported a 20% YoY sales fall, with its US sales falling 59% YoY. However, the drug’s ex-US sales were up 25% YoY due to increasing market share and overall market growth in metastatic high-risk castration-sensitive prostate cancer. The company is progressing satisfactorily with the commercial launch of cancer drug Erleada and metastatic urothelial cancer drug Balversa.

Immunology portfolio

Johnson & Johnson’s immunology portfolio reported revenue of $3.47 billion in the second quarter, a YoY operational rise of 5.7%. Stelara has continued to rapidly gain market share in the US in Crohn’s disease indications. Tremfya has managed to attain a 7.6% share of the US psoriasis market. The company’s immunology sales, however, suffered from revenue erosion and Remicade’s loss of market share in the US.

Other therapeutic areas

JNJ’s infectious diseases portfolio reported revenue of $862 million, a YoY operational rise of 5.4%. This performance was driven by the uptake of HIV products Juluca and Symtuza.

Johnson & Johnson reported revenue of $1.54 billion in its neuroscience portfolio, a YoY operational rise of 3.9%. The company benefited from market share gains for its paliperidone long-acting portfolio and the commercial launch of Spravato for treatment-resistant depression. However, Risperdal Consta and Concerta reported reduced uptake in the quarter.

The CVM (cardiovascular, metabolism, and other product) portfolio reported sales of $1.27 billion, a YoY operational decline of 14.7%. This performance was driven by increasing biosimilar competition for Procrit and reduced sales of Invokana and Xarelto.

Finally, Johnson & Johnson reported sales of $690 million in its pulmonary hypertension portfolio, a YoY operational rise of 6%. Opsumit and Uptravi continued to drive this growth. Tracleer, however, reported a YoY revenue drop due to cannibalization by Opsumit and increasing generic competition.

Interventional solutions franchise

Johnson & Johnson’s interventional solutions franchise reported revenue of $750 million, a YoY operational rise of 15.6%. According to JNJ’s second-quarter earnings conference call, this performance was driven by growing electrophysiology sales fueled by double-digit growth in atrial fibrillation procedures. The company also benefited from new ablation and advanced catheter product launches. Its neurovascular business, Cerenovus, reported YoY double-digit growth in the second quarter.

Orthopedics franchise

Johnson & Johnson reported revenue of $2.22 billion, a YoY operational rise of 0.6%, in the orthopedics franchise. Pricing pressures continued to affect the performances of all the portfolios in the business. While pure pricing was down 2% YoY in the hips, trauma, and knees portfolios, it was down 4% in the spine portfolio.

According to the company’s second-quarter earnings conference call, its hips portfolio reported a 3.3% YoY rise in sales driven by ongoing leadership in the anterior approach hip replacement category. The uptake of the ACTIS Total Hip System and the KINCISE Surgical Impactor also proved beneficial for the company.

The knees franchise reported a 1% YoY revenue decline mainly due to competitive pressures in the US. However, the impact was partially offset by the continued uptake of the ATTUNE Revision Knee System in revision knee arthroplasty and a robust ex-US market performance. The company has also planned for a full commercial launch of its Cementless offering in 2019.

Surgery franchise

Johnson & Johnson reported revenue of $2.35 billion in the Surgery franchise, a YoY operational decline of 3%. The increasing penetration of endocutters and energy products fueled the growth of the advanced surgery portfolio. Revenue in the surgery franchise suffered due to stopped shipments of SURGIFLO in the US affecting biosurgery sales. Further, the recall of intraluminal staplers negatively affected the surgery franchise’s revenue by 250 basis points.

Other businesses

The trauma portfolio reported YoY growth of 1.7% driven by overall market growth and new product launches. The spine business, however, reported a 2% YoY revenue decline mainly due to weakness in the US market.

The company’s vision franchise reported sales of $1.16 billion, 1.5% YoY operational growth. A solid uptake in daily disposable contact lenses and astigmatism lenses from its OASYS family drove this performance.

Capital allocation strategy

At the end of the second quarter, Johnson & Johnson had $29 billion in debt and $15 billion in cash assets on its balance sheet. In the second quarter, the company invested $2.7 billion in R&D (research and development) to bolster organic growth. Johnson & Johnson also invested in inorganic growth through its acquisition of Auris Health. The company has returned $2.5 billion in dividends and $2.0 billion in share repurchases to shareholders.

Financial guidance for 2019

On its second-quarter earnings call, Johnson & Johnson revised its guidance for YoY operational sales growth upward from 0.5%–1.5% to 1.0%–2.0% for 2019. Its 2019 operational sales are expected to be $82.4 billion–$83.2 billion instead of the previously estimated $82.0 billion–$82.8 billion.

JNJ revised its adjusted operational sales growth up from 2.5%–3.5% to 3.2%–3.7%. The company, however, maintained its forecast for the negative impact of foreign exchange movements on revenue at 200 basis points. Johnson & Johnson expects the reported sales change to be -1.0%–0.0% in 2019, an improvement from the previous estimate of -1.5% to -0.5%. The company thus expects its 2019 reported sales to be $80.8 billion–$81.6 billion, significantly higher than its previous estimate of $80.4 billion–$81.2 billion.

Despite its revenue growth, the company expects its adjusted pretax margin to contract slightly YoY in 2019 due to increased investments in organic and inorganic growth strategies. The company expects net interest expenses of $0–$100 million in 2019, lower than the previous estimate of $100 million–$200 million. It increased its guidance for other income from $2.4 billion–$2.7 billion to $2.7 billion–$2.9 billion. However, it increased its effective tax rate guidance from the previous estimate of 17.0%–18.0% to 17.5%–18.5%. The change was attributable to tax payable on gains from the company’s divestiture of Advanced Sterilization Products.

Based on all these factors, Johnson & Johnson has maintained its adjusted non-GAAP EPS guidance of $8.53–$8.63, implying a YoY rise of 4.3%–5.5%.

Share price movements

Despite its beating both revenue and earnings estimates, Johnson & Johnson closed 1.63% lower than its previous day’s close of $132.50 on Tuesday. The company is already fighting thousands of lawsuits over the presence of asbestos—a carcinogen—in its talcum powder. The recent news of the launch of a criminal probe by the US Department of Justice into this matter came as a huge blow to the company’s share price. To learn more, read Here’s What’s Overshadowing JNJ’s HIV Vaccine Progress.

According to its second-quarter earnings conference call, Johnson & Johnson is preparing for a Daubert hearing in the State of New Jersey scheduled for July 22. At the hearing, the judges will determine what evidence standards have to be adhered to in the multidistrict litigation. This litigation covers over 85% of the outstanding talcum powder lawsuits.

Johnson & Johnson is also embroiled in a major lawsuit in Oklahoma. The state attorney is suing the company for more than $17 billion. It blames the company for adopting unethical and deceitful methods of perpetuating the opioid epidemic in the state.

Johnson & Johnson continues to deny any wrongdoing. On its earnings call, the company said it had incurred a charge of $190 million to cover the defense costs of the lawsuits. However, it didn’t make any provisions for liability or settlement payments. Amid this backdrop, investors seem worried about the huge charges the company may have to bear if it loses the lawsuits.

Johnson & Johnson’s valuation

Johnson & Johnson is trading at a PE multiple of 24.541x, which is lower than its peers Merck, Eli Lilly, and AstraZeneca but higher than Pfizer, Bristol-Myers Squibb, Sanofi, and Novartis.

The 20 analysts tracking Johnson & Johnson have an average target price of $149.28 on its stock. This target price indicates a potential upside of 13.21% in the next 12 months.

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