Steady Growth Supports J&J’s Wide Moat

As expected, the pharmaceutical division (up 7% operationally) led overall growth (up 6%), but we expect that maturing drugs and a weaker pipeline will slow this group’s growth over the next two years. In particular, emerging competition will likely create headwinds for immunology drugs Remicade, Simponi, and Stelara, as well as diabetes drug Invokana. Also, generic threats to hard-to-manufacture drugs Concerta, Invega Sustenna and Risperdal Consta will likely emerge in 2017-18. While J&J has some late-stage assets in its pipeline that should help mitigate the increasing competition, we expect the firm will use its high level of cash ($18 billion net) to acquire new products.

Growth in devices (up 5%) and consumer (up 6%) is returning to steadier levels, which should help offset the slowing growth in the drug group. Restructuring in the device group and lower manufacturing remediation costs with consumer products should expand margins in these groups, partly leading to J&J’s 200-basis-point margin-expansion guidance for 2016. However, 2015 was a heavy investment year (particularly because of high research and development expenses), making the 2016 margin expansion slightly less impressive. To digest the heavy costs of investment in 2015, J&J recorded over $4 billion in one-time divestiture gains in 2015, which we expect will fall closer to the normalized level of $1 billion over the long term, partially reducing the impact of the 2016 margin expansion.

Morningstar Premium Members gain exclusive access to our full J&J report, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.