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This article was written by Cole Winston, a Financial Analyst at I Know First.

Johnson and Johnson: Room to Grow

Summary

• Healthcare
• Governance
• Business and Financial Performance
• Price Action
• Conclusion

It is something of an incontrovertible truth that one should try and avoid markets that are trading at all time highs for long positions or all time lows for short positions. This guiding principle, however, is false. There are countless examples of past assets that were believed to be either overvalued or undervalued, yet continued to rise or fall for much longer afterwords, causing many missed opportunities. This is especially true when the underlying fundamentals support this technical possibility. As a reference, the dot.com bubble and bust of the late 1990’s and early 2000’s, and the housing bubble of the mid- and late 2000’s, took much longer than predicted to crash. The thing that stands out about these two manias, however, is that the technicals became wildly uncoupled from the fundamentals; as bubbles always do.

Johnson and Johnson (NYSE: JNJ), an American multinational healthcare holding company founded in 1886, is one such company where its fundamentals support its extremely bullish technical price action.

Healthcare

The Healthcare sector is comprised of several sub-industries. These include Payers (Insurance), Distribution, Facilities, Medical Equipment and Devices, and Life Sciences (Pharmaceuticals and Biotechnology). The Healthcare sector is one of the best and most profitable to be operating in now and the near future, due to two major factors: growing demand and innovation.

Demand for healthcare services is rapidly expanding as the wave of retiring and aging baby boomers increase their medical needs. Not only do changing demographics make this sector interesting, but also the degree of economic development taking place across the world in emerging and frontier markets. As these nations continue to grow and develop, their citizens will increasingly demand healthcare services as the countries industrialize and reach developed market status. The size of the healthcare sector is expected to reach $1.5 trillion in market value within the next 3 to 4.5 years, as one of the largest sectors by both volume and value.

Additionally is the degree of technological innovation occurring worldwide today. The wave of new technology that has been introduced by the fourth industrial revolution seems to be taking over the world and reaching most of every sector and/or industry in existence; either through replacement, supplementation, modification, or creation of new/old industries respectively. Healthcare is one such area where new methods and a constantly growing body of knowledge will unlock treatments and even cures for a whole host of diseases and conditions, making the prospect of profits even greater than it already is for the players in this space.

Healthcare is therefore one of the best spots with the one of the brightest prospects down the road. The key to identifying attractive investment opportunities in this space include identifying those businesses that provide attractive return prospects without the usually-high level of risk associated with some of the above sub-industries.

Governance

Management and the board have elected to align their strategic management and positioning according to the following principles and values: diversification across the healthcare space, a long-term focus or orientation, decentralization of management, global reach with local focus, and a resolute concentration on JNJ customers and employees.

This is a very positive sign as many of the most revered and iconic business legends throughout business history have operated along these lines. Names such as Henry Singleton from Teledyne, John Malone from Liberty Media, Katherine Graham from the Washington Post, Tom Murphy from Capital Cities Broadcasting, and Warren Buffett of Berkshire Hathaway, are all among this list. These names also ultimately led their companies to become some of the most dominant players in their respective industries, of all time.

With over 100 years of collective experience in healthcare and/or with JNJ, the company is primed to continue performing along the above outlined business model as successfully as it has. This will undoubtedly be a confidence booster for market participants. This is a key – although not the only – component to the success of any investment as any corporation relies heavily on the decisions made at the top of the hierarchy.

One can also identify with relative ease how the company is acting according to the above fundamentals. For example, “diversification across the healthcare space” is currently being executed by operating across several different unrelated business lines, as outlined in the next section. This fact highlights that JNJ, more so than its main Big Pharma competitors, is less exposed to the risk and uncertainty that is associated with drug research and development. That is not to say that JNJ does not rely heavily on this area for growth and profitability, but rather it would be able to survive without it.

Business and Financial Performance

JNJ dominates many different areas across the healthcare supply chain and is therefore well-diversified across the landscape, with its three business segments: pharmaceuticals, medical devices, and consumer packaged healthcare products.

The Pharmaceutical Products segment, operated through Janssen Pharmaceuticals, contains 10 different medicines in the pipeline of clinical trials, and over 17 others available to the public and currently being marketed. Blockbuster ($1B+ brands) and mega-blockbuster ($4B+ brands) medicines largely populate JNJ’s pipeline, making this division the most profitable of the three and a hallmark of the JNJ brand. Additionally, with this many compounds, concentration risk is significantly lowered by this diversification. JNJ has chosen to focus strategically on Immunology, Cardiovascular & Metabolic Disease, Infectious Diseases, Vaccines, Neuroscience & Oncology. Most notable among these are Stelara (ustekinumab), Xarelto (rivaroxaban), Invega Trinza (paliperidone palmitate), Trevicta (paliperidone), Imbruvica (ibrutinib), and Darzalex (daratumumab). Collectively, these drugs alone account for over $33.5 billion in annual sales. It goes without saying that JNJ has one of the strongest pharmaceutical portfolios around.

The Medical Devices segment is split up into … . While the division contributes approximately $25.1 billion in annual sales, there is no question that Orthopaedics and Surgery account for the majority of sales; each around $9.3 billion for a total $18.6 billion, or close to 75%.

With brands including Listerine, the Aveeno, Clean & Clear, and Neutrogena brands, and over-the-counter names like Tylenol, Benadryl, Neosporin and Band-Aid, JNJ’s Consumer Products division is hardly something to gloss over (as demonstrated by sales of $13.3 billion in 2016), even as it is the least profitable of the group.

Sales of JNJ have grown a healthy year-over-year rate of 2.6% to $70 billion in 2016, and have broken through the 10-year average of $66.8 billion. This performance has trickled down to the bottom line, for a year-over-year growth in Net Income of 7.3% to to $16.5 billion in 2016, and a breakthrough past the 10-year average of $13.1 billion.

It is a very encouraging sign to see that EPS and Dividend payment have also exhibited this trend growth, with EPS growing 8.6% (from $5.56 to $6.04) and Cash Dividends growing 6.8% (from $2.95 to $3.15). Lastly, regardless of a marginal drop in Cash Flow from Operations, JNJ’s overall cash position grew markedly from $13.7 billion to $19 billion; an almost 40% increase. All growth has been primarily from volume – and not price – increases. This has allowed JNJ to continue its sustained 55-year dividend payment. These results point to very attractive business and financial performance, and encouraging execution by management and oversight by the board.

Price Action

As can be seen below, the common shares of JNJ have been on a tear towards the upside on both the weekly and daily timeframes, both of which are contributing towards the solid positive movement on the monthly timeline. There is an old adage in the financial markets that “the trend is your friend.” It is also true that the strongest trends that turn out to be most profitable are commonly those where there is confluence among the different timeframes, as is the case with JNJ. This is ultimately very bullish for the stock.

These developments signal to market participants interested in the stock that the rest of the market has recognized that JNJ is a healthy company with solid prospects. As long as this price action remains, JNJ is will continue

Conclusion

In conclusion, Johnson and Johnson is a sound business, being led by highly-qualified management and overseen by a board that has depth, both of which operates along established strategic methods. Now, a great business doesn’t necessarily always prove to be a great investment. However, it currently appears as though JNJ has both going for them, and it deserves closer examination.

The I Know First algorithm is bullish on JNJ over the short-term, spanning 14 days, 1 month, and 3 months. JNJ has been on a noticeable uptrend on all timeframes for all of 2017 thus far, year-to-date. It is therefor reassuring that the algorithm agrees.

This bullish forecast for JNJ was sent to I Know First subscribers on June 27th, 2017. To subscribe today click here.

I Know First Algorithm Heatmap Explanation

The sign of the signal tells in which direction the asset price is expected to go (positive = to go up = Long, negative = to drop = Short position), the signal strength is related to the magnitude of the expected return and is used for ranking purposes of the investment opportunities.

Predictability is the actual fitness function being optimized every day, and can be simplified explained as the correlation based quality measure of the signal. This is a unique indicator of the I Know First algorithm, allowing the user to separate and focus on the most predictable assets according to the algorithm. Ranging between -1 and 1, one should focus on predictability levels significantly above in order to fill confident about/trust the signal.