Johnson & Johnson competitive position looks strong, but growth prospects don’t appear strong enough to support the current market price.
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By Damien Conover, CFA | 04-18-17 | 11:59 AM | Email Article

 Johnson & Johnson reported first-quarter results largely in line with our expectations, and we don’t expect any major changes to our $108 fair value estimate. We continue to view the stock as slightly overvalued as the growth prospects for the company’s divisions don’t appear strong enough to support the current market price. Further, we are concerned that the pending acquisition of Actelion is an overpayment, partly motivated by an effort to accelerate growth in the drug group. Despite valuation concerns, the company’s wide moat continues to look strong with innovation and brand power continuing to drive stable cash flows.

Damien Conover, CFA, is director of healthcare equity research and equity strategy for Morningstar.

Modest growth across the board led to the company’s largely flat operational growth of 1% year over year, excluding acquisition and divestitures. In the pharmaceutical group, price discounts, competitive pressures, and an unfavorable prior period adjustment weighed on sales. We expect increasing generic competition to lead to 3% average annual growth for the segment over the next three years. While we remain optimistic about cancer drugs Imbruvica and Darzalex, the increasing competition for the company’s leading drug Remicade from both branded and biosimilar drugs will create a tough headwind for growth. Additionally, while the Actelion drugs help boost top-line growth, we believe the deal came at too high of a price. Nevertheless, we expect the deal to close late in the second quarter, in line with management guidance. Outside of the drug group, the device and consumer divisions look poised to contribute similar long-term growth, resulting in overall company growth of close to 3% annually over the next three years. While the consumer group posted growth below this longer-term view in the quarter due partly to competitive pressures, we believe the brand power and entrenched products should return to a more normalized growth rate in the remainder of the year.

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Damien Conover, CFA does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.
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