Johnson & Johnson Earnings Call Insights: Turn in Consumer Business and Slowed U.S. Businesses

Johnson & Johnson (NYSE:JNJ) recently reported its fourth quarter earnings and discussed the following topics in its earnings conference call.

Turn in Consumer Business

Michael Weinstein – JPMorgan: So, two questions, Alex and the first is you’ve identified the OCD business as one to evaluate today where you said you’d be exploring strategic options. Could you spend a minute on why that business first, you said there was a lot you contextually do with the portfolio, so, why would that business necessarily call it first on the list? Then second you showed a great chart which showed the turn in the pharma business over the last couple of years. Can you – since we’re going to spend the day today talking about MD&D? Can you spend a minute on Consumer and how we think about the turn in the Consumer business over the next couple of years with McNeil products coming back and what gets that back into a growth phase?

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Alex Gorsky – Chairman and CEO: Sure. Thanks for the thoughtful questions, Mike. Let’s start first with OCD and let me first start by making a strong statement about our continued commitment to our employees in OCD and what they are doing each and every day to make a difference for healthcare around the world but with only Johnson & Johnson and as we talked about a number of times in the past, as we are looking or as we look at our strategies, as we look at our portfolio, we realized that it’s more and more important particularly in today’s healthcare marketplace to be very decisive and deliberate about where we believe we can make investments that number one, make the biggest difference for patients and number two, they can drive the greatest growth for our business. And as we conducted our portfolio review looking across our enterprise, when we looked at diagnostics what we see is a business with many very good technologies. We also saw business that did not have a number one or number two position within their respective marketplace. We also look obviously at the future pipeline. Could we in fact and did see a path forward to be able to be in a more competitive position. And three, how did we see it fitting in a more complementary way with some of our other businesses. While we certainly believe in the future of diagnostics, we think that that will more likely be in an area outside of clinical diagnostics, such as molecular diagnostics, biomarkers, some of the other things that we’re already working on with some of your oncology programs. So when we looked at that in total, we felt that stepping back and looking at broader strategic options for that business was in fact the best thing to do for that business longer-term as well as for more broadly across Johnson & Johnson. I also just think it is indicative of the need for us to continue to look for ways, again, to make a better difference for patients and to drive growth in our organization. Now to your second question, if I look more broadly across Consumer, I’d start by saying that we remain very committed and excited about the future of our Consumer group. It’s been central to J&J for many, many years. And as we look to the future, there’s a couple of aspects that I think are very important. One, and something that we’ve been extremely consistent about over the past several years, is returning and repairing some of the quality and supply issues that we’ve had in our OTC, particularly in the OUS division. I’m very pleased with the progress that we’re making in that. We mentioned to you that the consent decree that we had designed in conjunction with the FDA was approved and reviewed in October with very few comments, and given the breadth and scale of that agreement we felt very good about that. We’ve had teams working hard since then. We’ve achieved all of our major milestones since we’ve submitted that agreement. And very importantly, we’re starting to see some of that pay off in the marketplace. So over the past six months, we’ve seen the re-entry of things like children’s TYLENOL, children’s MOTRIN. And what we’re particularly pleased about is that if you look at some of the consumer ratings of the quality of those brands, we’ve seen them be remarkably resilient through this period. And when we get them back to the market, we’ve seen uptick occurs. So we’re cautiously optimistic. Our plan through 2013 continues with this driving performance, consistent with the consent decree. We would expect that over the course of 2013 to return about 75% of the brands to the marketplace. Of course, as we do that, we will also begin shifting our focus, not only from making sure that we can have a consistent and reliable supply of that product, but also that we can truly re-launch working with our trade partners, working with our great marketing teams to reestablish those brands and their leadership positions in the market. And we’ll do that as the brands reenter over the course of 2013. Let me just make one other comment. We’re also very pleased to see, particularly in the fourth quarter, the upper respiratory strong performance of our consumer brands. So we believe that we continue to have a lot of skills and capabilities that are going to be important for us to continue to build on going forward. Now outside the OTC business, I think, there’s, again, a lot of other reasons to be optimistic. And granted as we looked at the results, we’d be the first ones to say, while we’re pleased in some areas, we’re not satisfied, and that we know we need to do a better job across the portfolio. Also some of the results were impacted by divestitures and portfolio decisions that we made in our Consumer group. But when we look at some of the core areas such as skin care, our NEUTROGENA business, and some of the things that they have in CYTOMIMIC, wrinkle reduction, other technologies, really science-based technology and what we think we can do there, if you take a look at things like oral care where we’ve driven strong growth, great opportunity to build on that brand, LISTERINE, in a global fashion. When we look to an opportunity to grow and expand our business globally, particularly in emerging markets, and we admit we’ve seen some setbacks in China due to some of the ingredient issues, but our teams have addressed that over the past year and we’re confidence that we have a path forward. And finally last, but certainly not least, our Johnson’s Baby line, which is really an iconic brand that we still know has a lot of potential, we see it as an important driver of growth in the future. And I think for 2013, to be clear, our projections are very consistent with many of yours, but beyond that our Consumer group remains a very important strategic driver at Johnson & Johnson.

Louise Mehrotra – VP, IR: Next question, Matt, fourth row.

Matthew Dodds – Citi: It’s Matt Dodds from Citigroup. Probably a little for Alex and Dominic on this one, if you look at the ’13 guidance, the op margin increasing next year, this year you got a lot of that SG&A, but I would assume you also did bring down some cost in the gross margin. If you look at ’13 broadly, should we assume it’s mostly SG&A or is there more cost on the COGS line in 2013 and (I’ll wrap in the end with a question) for Alex.

Dominic Caruso – VP, Finance and CFO: So I could take that. So yeah we did see actually in ‘13 pretty dramatic reduction in SG&A cost in ‘12. In ‘13, we don’t have as significant an overall pretax margin expansion as we saw in ‘12, but we will still expand these operating margins, some again in the SG&A line not so much in the R&D line, but we will see cost improvements kick in the COGS line in 2013.

Matthew Dodds – Citi: Then Alex just to follow-up on that, with the U.S. still kind of sluggish in devices and consumer. Can you provide enough cost over the next couple of years to maintain the margins in that business? I know you’ve done some restructuring changes in some of the sales force or some things. Where do you look at the profits in the U.S., if we don’t get a bit of a bounce in the overall growth rates?

Alex Gorsky – Chairman and CEO: That was your question specifically for consumer or…

Matthew Dodds – Citi: It’s overall, but I think MD&D and consumer the two, you’ve seen the weakness pharmas comeback quite well?

Alex Gorsky – Chairman and CEO: Right, well. Certainly, the macroeconomic situation is something that influences I believe our medical device business and our consumer business to a greater degree. And as we look at some of the underlying dynamics in the market and some of these metrics, of course, we talked about with you in the past, if we look at hospital admissions, if we look at surgical procedure rates, if we look at things such as diagnostic rates in hospitals, and even primary care physician’s visits. Most of those categories appear to be about between minus 1 and plus 1 depending on the specifics so like negative 4.4 plus 4.7. So, we’re projecting is likely for a pretty flat trend to continue in the short-term and I think it’s very – that we have to work our way through what happens with some of the fiscal discussions here in the United States that’s very difficult to predict and I don’t think any of us would try to make a projection on that going forward. I think beyond that, we still see a lot of reasons to believe in underlying growth and as procedures are delayed and in certain areas by the way we are very pleased with some of the resurgence that we saw for example in the hip and knee categories, especially in the fourth quarter of this past year in MD&D. Michel is going to take you through that later on, but as you heard in Louise’s discussion earlier, we saw a 7% growth rate in the U.S. excuse me — worldwide we saw 7% and 4%, 6% on a worldwide basis. So, we are pleased with what we’ve been seeing there and particularly pleased with that team because I think that there was some significant challenges and they seem to be making some really good headway. But I think overall in MD&D, we would expect there to be continue pricing pressure. In Consumer’s, in the Consumer area, again, I think a lot is going to depend on the macroeconomic environment, but I would get back to some of the drivers that I mentioned as part of my last response to say why we are still optimistic about that area going forward.

Slowed U.S. Businesses

Lawrence Biegelsen – Wells Fargo: One question for Dominic, one for Alex. Dominic, the contribution from Synthes in 2013, is it similar to 2012 about 3% and the reason, I’m asking is because your guidance, if it is similar would be about 2% to 3% organic growth, which will be a lot lower than what we saw in the second half of 2012. I understand the generic impact, but you do have Consumer potentially coming back, DOXIL potentially coming back. So, is the math right and why the conservatism that’s where it is in the guidance? Then one for Alex, just your U.S. businesses in the fourth quarter, all seemed to have slowed a little bit. Were there specific issues to J&J or is there anything in the U.S. market that you saw? Just lastly, maybe an update on Europe, just the state of Europe from your big picture perspective.

Dominic Caruso – VP, Finance and CFO: Let me take your first set of questions. The impact with Synthes is about the same in both years. I think therefore your observation is that the growth rate ex-Synthes is also similar and couple of points are on that. One is that yes, the consumer business is coming back although as Alex mentioned throughout the year, so take some time by the time all of those products get back on the shelf. The MD&D business will do better in 2013 than in ‘12. The growth rate in the pharma business of course in ‘12 was dramatically fuelled by the launch of the new products that came into the market, so the growth rate in ‘12 versus ‘11 is impacted by that we don’t have that same phenomenon in ‘13 over ‘12. Those products continue to do well, relatively speaking compared to the two years. The growth rate in pharma would be not as dramatic, as the growth rate we saw in ‘12 over ‘11. You asked about why the conservatism and – look it’s early, January 22nd. So we’ll keep you posted throughout the year.

Alex Gorsky – Chairman and CEO: What I would say is, if we look at the U.S. business particularly in the back end of the year, as you noted, I think it started on – this started on strong with our pharmaceutical business. We saw very strong performance. Particularly in our launch brands, XARELTO, ZYTIGA, with some of the new indication information data that was being released, but really across that portfolio, even the immunology is well, very strong performance. As we look at MD&D, we did have some challenges in certain areas of our business. I think it’s important to acknowledge that. Some of them do competitively, some of them due to some disruptions in supply, but I would characterize those as I think more event driven versus systemic in nature and I think you’ll hear later today from Gary and Michel and Karen about the pipeline, about their competitiveness, about some of the very innovative programs they are driving that you’ll walk away confident with the plans that they have in place. And then just a couple of things that I would note there, one was the – we’re really starting to see a pickup in our Vision Care business, for example in the fourth quarter this year, as you heard 6% and 7% growth respectively. We’ve got a very exciting portfolio there. So we’re excited about that opportunity. And as I just mentioned a couple of minutes ago, in Synthes in particularly, in core, hip and knee business, we also saw some strong performance. Then we’re offsetting that in orthopedics or the Synthes. We did have the (indiscernible) in trauma which was again was more event specific, the only thing longer term. I really think that the DePuy Synthes team has done a great job in managing that, in fact by later in the quarter, very early in January, where product back-in. The operating rooms and we’re real confident in our ability in managing that going forward. Now if I look at consumer, what we would say in that there were some areas of softness, again that we think were more related to some regulatory actions that were earlier in the year, related to our Skillman facility. But if we look more broadly, and we look at things like our OTC performance – again, this was a business that’s been under a significant amount of pressure in a very competitive category and to drive the kind of growth they did in upper respiratory, we’re really proud of that team and oral care also turned in a strong performance as well. So, as Dominic just mentioned, I think we look at all of these markets right now, given the macroeconomic issues and we have to be realistic. But, nonetheless, I think overall the trends that we mentioned we think are manageable and you’ll see that as performance grows in 2013.

Louise Mehrotra – VP, IR: Rick, third row from the front here.

Rick Wise – Stifel Nicolaus: Rick Wise, Stifel Nicolaus. First for Dominic and then for Alex. Dominic, both you and Alex have mentioned the seemingly better performance for ortho. Just can you help us understand, is it product driven, is it comps, is it – were there any difference in selling days? Seemed like a nice step-up versus the third quarter? Alex, a broader, bigger question for you. I’m always fascinated by leadership and change in leadership. Every leader brings a special passion and differentiates themselves versus their predecessors, no matter how excellent. And today you’re talking about decisiveness, many opportunities to manage the portfolio technology. Can you help us understand how we should be holding you accountable or thinking about your plans or what’s truly a special sauce, if you will, you’re going to bring to the job?

Dominic Caruso – VP, Finance and CFO: Alex will comment on the orthopedics business as will Michele later but just a reminder, we haven’t seen all the orthopedic companies report yet, right. So although we’re pleased with our results, a little too early for us to indicate that we’ve gained share or not, but certainly these results are impressive and our early indications are that we have done better in share in both hips and knees, especially in the U.S., but a little too early to comment on that, given the fact we haven’t seen the other competitors yet.

Alex Gorsky – Chairman and CEO: If could augment onto that and again, Michelle, the true expert can jump on this later, but I think if we looked particularly in knees, we are seeing the market come back a bit more than in hips right now. I think Dominic’s points are spot-on and that we believe although we haven’t seen everybody else report. So, so it’s preliminary that we performed well in both those categories. We saw knees come back a little bit more than hips, but fundamentally, we think that if you look at our product offering too that we have, you’re going to hear more about the new knee system that will be launching through the course of 2013 with the tune. We brought a number of new offerings in our hip portfolio out there. So, we think it’s a combination of one some internal market and some of that was what I would call is the fourth quarter dynamics in orthopedics that you sometime see is people go until the end of the year, but overall, we are encouraged by the signs that we saw back into 2014. Now regarding the broader agenda, and of course, I think that I’ve been very fortunate in taking over a great organization from Bill and his leadership and it’s really not about my agenda. It’s about the agenda the great leaders that we have sitting out in front of you and when you consider the scale, the breadth and the depth of our business, it’s far beyond one person. It really takes a team of great minds working together and what I’m particularly pleased about is that there is a strong recognition of wanting to what I would call respect the past and the great heritage that we have – many of our brands in our portfolios, but there is also a real recognition on this team and hunger for what do we need to do fundamentally differently to drive growth going forward around patients in our business. And that become the foundation for these strategy review that we pulled together looking hard at innovation and recognizing that while we have a good track record innovation, the markets is going to demand us to do even more and whether it’s Paulus Stoffels and his team, Martin Madden and his team and others that we have going that throughout our portfolio, our ability to bring technology to market that really makes a difference, it has the right clinical data around that including outcomes data to innovate in the way that we commercialize our products in the market. You are going to hear a lot of information about that this afternoon is that we fundamentally believe that as customers experienced the pressure when I say customers, it can be governments, it can be hospital systems. Of this increasing demand and increasing cost in a challenging economic environment that they are going to be looking for fundamentally different ways of engaging with partners and we think that’s where the breadth and the scale and the depth of our portfolio across areas such as orthopedics, such as general surgery, such as diabetes, such as immunology is going to better position us by having a broader, more comprehensive offering than frankly any of our customers. And you are going to hear a lot more specific examples of that this afternoon and in fact in the coming weeks and months because we want to be part of the solution in working in healthcare, we also want to be competitive and we are going to win. And – so that’s part of our mindset. I think the second component to that is global and we are spending a lot of time focusing on how can we accelerate our growth outside the United States. You have to figure earlier 56% of our sales are currently outside the U.S. We know we have even greater growth opportunities beyond just a BRIC markets, but I would say overall, the emerging markets, hence greater investments in those areas as well as different kind of product offerings in many cases and clearly those two things being topped off with a major focus on execution and leading with the purpose that really inspires our people.

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