J&J Announces Divestment of Consumer Group

Johnson & Johnson's JNJ abrupt announcement of plans to divest its consumer healthcare division doesn't have a major impact on our fair value estimate, but the strategic move is likely to create two powerful new companies in 2023. After many decades of operating as a diversified healthcare conglomerate focused on drugs, devices, and consumer healthcare, the firm's timing is surprising, as we don't see any major catalyst for the move. However, if the consumer division no longer holds the deep pockets of the combined company, the risk of future consumer product litigation--such as the large talc settlement--may decrease. While we agree with management's assessment that the breakup will allow both new companies to operate with more focus and agility, we don't believe the current structure has impeded much operational execution in the past. The loss of the rare synergies between the drug and consumer groups, focused largely on prescription to over-the-counter switches, is not likely to significantly affect future cash flows. We continue to view limited synergies among the drug, device, and consumer healthcare groups and wouldn't be surprised if J&J (especially given today's news) eventually decided to break up the drug and device divisions. J&J's consumer healthcare divestment follows a path similar to GlaxoSmithKline's divestment of its consumer group. However, with J&J trading at a higher valuation multiple versus Glaxo, we see less potential for it to create value with its consumer healthcare divestment, even with the strong comparable valuations of stand-alone consumer health companies. We don't expect any changes to J&J's wide economic moat in the core drug and device businesses. We believe the strong brand power of the consumer group rarely helped the drug and device businesses, which independently gain competitive advantages largely through patents and switching costs, respectively.

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