J&J Looks Poised for Steady Long-Term Growth

Johnson & Johnson JNJ continues to look slightly undervalued in the backdrop of fourth-quarter results that fell a little below our expectations, but we don't expect any changes to our fair value estimate. The results reinforce our conviction for solid future growth, especially in the drug group (close to 60% of sales) that carries some of the most innovative products and support the firm's wide moat. The device group looks well positioned for growth partly driven by innovation, but also supported by a buildup of demand that has been suppressed by the coronavirus pandemic keeping patients out of hospital. The strong switching costs that support the device segment's moat should enable the firm to hold on to market share as patients increasingly return to hospitals. The final division of consumer health appears to hold more modest growth potential over the next three years, but the planned divestment of the unit in 2023 should still yield a very strong valuation based on comparable analysis that suggests a stand-alone valuation of $50 billion-60 billion. With nonprofit COVID-19 vaccine sales helping boost sales by close to 6%, we estimate normalized underlying quarterly sales growth at close to 6% with the drug unit posting strongest growth. The high-margin drug group should disproportionately continue to help earnings in 2022. With modest patent pressures and likely continued strong growth from cancer and immunology drugs, we expect almost 10% earnings growth for the company in 2022. Overall increased inflation is adding to costs, but the firm seems to be able to pass along some of these expenses with price increases, especially in the consumer group. While patent pressures begin to increase in 2023, we expect J&J to continue to grow earnings consistently over the next five years. Longer term, the firm will need to successfully develop its late-stage pipeline, which we expect will be complemented by acquisitions, especially given the firm's current strong cash levels.

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