01—Abstract
Summary
Summary of the 10-K filed March 14, 2006. Cited figures are marked; the original filing is the authoritative source.
Johnson & Johnson's fiscal 2005 10-K (fiscal year ended January 1, 2006) shows a company growing sales 6.7% to $50.5 billiona, with net earnings up 22% to $10.4 billion and diluted EPS of $3.46 (up 21.8%).
Growth was driven mainly by Medical Devices and Diagnostics (sales up 13.1% to $19.1 billionb, led by the CYPHER drug-eluting stent in Cordis), while the Pharmaceutical segment grew only 0.9% to $22.3 billion amid generic erosion of DURAGESIC and competition for PROCRIT/EPREX. Operating profit in Pharmaceuticals fell 13.1% as R&D spending rose sharply, while the 23.8% effective tax rate, lowered by a $225 million AJCA-related benefit, flattered earnings relative to 2004's 33.7%. Cash generation and balance sheet strength were key positives.
Operating cash flow reached $11.9 billionc, cash and current marketable securities totaled $16.1 billion against only $2.7 billion of borrowings, and the company retained its AAA rating. R&D expense rose 21.3% to $6.3 billion (12.5% of sales). Management also announced a new $5 billion share repurchase program on March 8, 2006, and reiterated a regular dividend of $0.33 per quarter, with 43 consecutive years of dividend increases.
Investors should note several risks flagged in the filing: the RISPERDAL U.S. patent expires in December 2007, with 30-month ANDA stays expiring in 2006 for ORTHO TRI-CYCLEN LO, RISPERDAL and TOPAMAX; NATRECOR sales declined on negative media coverage; and the company faces extensive product liability (PROPULSID), patent (Boston Scientific stent litigation), and government investigation matters. Note that the filing states Item 1A Risk Factors as 'Not applicable,' so these risks are disclosed only in the business and legal sections.
02—Key points
Key Highlights
- Worldwide sales rose 6.7% to $50.5 billion in 2005, driven mainly by volume (+5.4%), with international sales up 13.1% to $22.1 billion.
- Net earnings increased 22.4% to $10.4 billion; diluted EPS rose 21.8% to $3.46, helped by a $225 million tax benefit and a lower effective tax rate of 23.8% (vs. 33.7% in 2004).
- Medical Devices and Diagnostics was the growth engine, with sales up 13.1% to $19.1 billion; Cordis grew 24.0% on the CYPHER stent.
- Pharmaceutical sales grew just 0.9% to $22.3 billion, with Pharma operating profit down 13.1% due to higher R&D and $302 million of IPR&D charges; RISPERDAL franchise sales rose 16.5% to $3.6 billion.
- R&D spending increased 21.3% to $6.3 billion (12.5% of sales), signaling continued investment in the pipeline.
- Strong liquidity: $16.1 billion in cash and current securities versus $2.7 billion in total borrowings; operating cash flow of $11.9 billion; AAA credit rating maintained.
- Capital return: new $5 billion share repurchase authorization announced March 8, 2006, and dividends of $1.275 per share in 2005, up 16% from 2004, with a $0.33 quarterly dividend declared for March 2006.
03—Questions
Frequently Asked Questions
Why did Pharmaceutical earnings fall while overall profit rose?
Pharmaceutical segment operating profit declined 13.1% to $6.6 billion, as sales grew only 0.9%, R&D spending rose significantly, and the segment absorbed $302 million of in-process R&D charges. Overall profit growth was carried by Medical Devices and Diagnostics, where operating profit rose 32.4% to $5.4 billion, and by a lower effective tax rate.
How much of the 2005 earnings growth came from one-time or non-operating items?
Some earnings were affected by non-recurring items. The 2005 results included $362 million of pre-tax IPR&D charges (about $353 million after tax in Q2) and a $225 million tax benefit from an American Jobs Creation Act technical correction. The 2004 results included an $789 million tax charge on repatriation of foreign earnings, which depressed that year's earnings. Excluding these, the year-over-year comparison would look different, so investors should weigh the underlying operating growth accordingly.
What are the biggest patent and competitive risks to revenue?
DURAGESIC sales fell 23.9% to $1.6 billion due to generic competition, and PROCRIT/EPREX sales dropped 7.4% to $3.3 billion from competitive share loss. RISPERDAL, the largest product at about 6% of revenue, has U.S. patent expiration scheduled for December 2007, with a possible pediatric extension. The filing also notes 30-month ANDA stays expiring in 2006 for ORTHO TRI-CYCLEN LO, RISPERDAL and TOPAMAX, and at-risk generic launches (such as Caraco's ULTRACET) cannot be ruled out.
What is the company doing with its excess cash?
J&J had $16.1 billion in cash and current marketable securities at year-end 2005, with net cash of $13.5 billion. The board approved a $5 billion common stock repurchase program on March 8, 2006, with open-market buybacks at management's discretion and no time limit. The company also paid $3.8 billion in dividends in 2005 and continues to pay regular quarterly dividends, having raised them for 43 consecutive years. The company also received a $705 million termination fee after Guidant terminated its acquisition agreement in January 2006.
Are there material legal or regulatory exposures investors should watch?
Yes. Key matters include PROPULSID product liability claims (settlement programs in place, with excess insurers disputing coverage), patent litigation with Boston Scientific over CYPHER stents (jury verdicts against Cordis with possible injunction and damages in 2006), and multiple government subpoenas and investigations covering TOPAMAX, RISPERDAL, REMICADE, PROCRIT, NATRECOR and the Foreign Corrupt Practices Act. Management states that these are not expected to have a material adverse effect on financial position, though the timing of resolutions could significantly affect results in a given period.
04—Continue