Monday, February 06, 2006

Bottom Fishing: JNJ

Morningstar makes quite the bull case for house favorite Johnson and Johnson (JNJ):

...the hot-money folks on Wall Street have slapped down J&J's shares to a point at which they look very, very attractive. I've always thought of J&J as a well-run health-care mutual fund, without the expense ratio. Consider that its various biotech products would make up one of the largest biotech firms in the world, or that its DePuy orthopedic devices unit would also be the second-largest company of its type if it were a stand-alone firm.

...slowing growth in pharmaceuticals is one of the reasons why J&J's shares have been whacked lately. Sure, sales of a couple of the firm's large drugs have slowed recently as generics have taken market share (Duragesic) and competition has increased (hormonal contraceptives). But most are chugging along nicely, and J&J has a solid pipeline of new drugs -- J&J should file 10 new drug approvals between now and the end of 2007.

... we think that J&J will still generate earnings growth of about 9% over the next five years, and share repurchases from the firm's burgeoning free cash flow could add a bit to the per-share earnings growth rate. Also, growth could be a good deal higher if the company's new drugs surprise on the upside.

J&J is still J&J, converting almost 20% of sales to free cash flow, generating returns on capital of 30%, and increasing its dividend in near-lockstep with its earnings. Few companies have a more consistent track record of superior capital allocation. J&J shares are worth $76, substantially above the current price.

Johnson & Johnson is generating substantially more operating cash flow per share than it was five years ago, yet the stock has largely traded sideways. Moreover, the current price/earnings ratio of 16 is not only lower than it has been in a decade. Add a 2.2% yield to the 9%-plus earnings growth rate, and you've got a decent prospective total return...

We own 1,000 shares of the stock and have our own price target set at $66.

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