Johnson & Johnson — Q3 2010 Form 10-Q
Business context and reporting period. Unaudited consolidated results for the fiscal quarter and nine months ended October 3, 2010, compared with the periods ended September 27, 2009. Balance-sheet figures are compared with January 3, 2010. Johnson & Johnson operates in Consumer, Pharmaceutical, and Medical Devices & Diagnostics.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Sales | $14.982B | $15.081B | $45.943B | $45.346B |
| Gross profit / margin | $10.388B / 69.3% | $10.647B / 70.6% | $32.191B / 70.1% | $32.211B / 71.0% |
| Net earnings | $3.417B | $3.345B | $11.392B | $10.060B |
| Diluted EPS | $1.23 | $1.20 | $4.08 | $3.61 |
| Operating cash flow | Not presented separately for the quarter | $12.561B | $11.284B |
- Quarterly sales declined 0.7%; operational growth of 0.1% was offset by a 0.8% unfavorable currency effect. Nine-month sales rose 1.3%, with flat operational growth and a 1.3% favorable currency effect.
- Quarterly net earnings increased about 2.2% despite lower sales; diluted EPS rose 2.5%. Nine-month net earnings increased about 13.2%, with diluted EPS up about 13.0%.
- Gross margin contracted 1.3 percentage points in Q3 and 0.9 points year to date. Cost of products sold rose to 30.7% of sales for the quarter and 29.9% for nine months. Management cited recall and remediation costs, pricing pressure, and product mix.
- Selling, marketing and administrative expense was 31.4% of quarterly sales and 31.0% year to date, slightly lower as a share of sales than the comparable periods, partly reflecting restructuring-related cost savings. Research expense was $1.657B in Q3 and $4.862B year to date.
Cash, debt and liquidity
- At October 3, cash and cash equivalents were $14.338B and marketable securities were $7.788B, totaling $22.126B. Cash alone was down $1.472B from January 3, while cash plus marketable securities was up approximately $2.7B.
- Nine-month operating cash flow was $12.561B; investing activities used $6.450B and financing activities used $7.586B. Uses included $4.323B in dividends, $1.512B in share repurchases, $1.269B for acquisitions, and net debt retirement.
- Current liabilities were $17.414B; short-term loans and notes payable were $2.843B. Long-term debt was $9.182B, bringing reported debt to approximately $12.0B. Long-term debt was $8.223B at January 3. The company issued approximately $1.1B of long-term notes in August for general corporate purposes.
- Management said operating cash flows, existing credit facilities, and commercial-paper market access were expected to provide sufficient resources for operating needs. The quarterly dividend was $0.54 per share; nine-month dividends were $1.57 per share.
Material changes and business drivers
- By segment, Q3 sales: Consumer fell 10.6% to $3.567B, Pharmaceutical rose 4.7% to $5.495B, and Medical Devices & Diagnostics rose 1.3% to $5.920B. Nine-month sales changed by -5.0%, +1.0%, and +5.9%, respectively.
- Consumer performance was weighed down by voluntary OTC recalls and suspended production at McNeil’s Fort Washington facility. Management estimated the 2010 annual sales impact of not shipping products made there at approximately $600M; alternate supply was projected to begin in Q1 2011 and expand during the year.
- Pharmaceutical Q3 growth included REMICADE sales growth of 18.6%; declines included PROCRIT/EPREX (-25.1%) and TOPAMAX (-27.4%). Generic competition and loss of market exclusivity affected several products; U.S. LEVAQUIN exclusivity was due to expire in June 2011.
- Medical Devices & Diagnostics growth was supported by several franchises, while Cordis sales declined 6.9% in Q3, primarily due to competition for CYPHER stents.
- International sales rose 1.1% in Q3 while U.S. sales fell 2.5%. For the nine months, international sales rose 6.3% and U.S. sales fell 3.5%.
- Nine-month earnings included approximately $1.3B of net litigation gains; Medical Devices & Diagnostics segment profit also reflected a $1.5B gain from net litigation matters and a gain on the breast-care business divestiture. These unusual items materially affect comparisons.
Outlook, risks and contingencies
- No consolidated numerical earnings or sales guidance is provided in the supplied filing text. Management described liquidity as sufficient for operating needs and expected to continue regular quarterly dividends.
- U.S. health-care reform increased Medicaid rebates; the company estimated approximately $400M of additional 2010 sales rebates, including $260M in the first nine months and $110M in Q3. The filing also describes future branded-drug fees, Medicare Part D discounts, and a 2013 medical-device excise tax.
- McNeil recalls and manufacturing remediation create ongoing supply, sales, regulatory, and reputational risks. The company was responding to FDA, congressional, law-enforcement, and state inquiries related to recalls and facilities.
- Product-liability, patent, generic-entry, marketing, and other legal proceedings remain significant uncertainties. The filing says aggregate outcomes cannot be estimated with certainty; management did not expect the matters, net of accrued liabilities, to materially harm financial condition, but one or more resolutions could materially affect results or cash flows in a period.
- A Louisiana RISPERDAL-related false-claims jury verdict of $257.7M was being challenged; the company had not accrued a reserve because it considered an unfavorable outcome not probable. A separate $1.9B HUMIRA patent judgment was not reflected in the financial statements and was on appeal. The ASR hip recall’s potential future liability could not be reasonably estimated.
- On October 6, 2010, after quarter-end, J&J announced an agreement to acquire the remaining 81.6% of Crucell for approximately €1.75B in cash. The company was assessing the impact of a newly enacted Puerto Rico tax effective in 2011.
Most important facts for investors to verify
- How much of earnings growth reflects recurring operations versus litigation gains, divestiture proceeds, and other unusual items.
- The timing and effectiveness of McNeil remediation, alternate product supply, and any resulting sales, costs, or regulatory consequences.
- Developments in major product-liability, government-investigation, and patent cases, including the ASR recall and the unaccrued judgments.
- Exposure to generic competition and product exclusivity expirations, particularly for products identified in the filing.
- Cash generation, debt levels, acquisition spending, and the eventual financial impact of health-care reform and the Crucell transaction.