Johnson & Johnson's Medical Device Business: What Investors Need to Know

By Motley Fool Staff Markets Fool.com

Johnson & Johnson's (NYSE: JNJ) medical device business includes products that address everything from heart disease to hip replacement, and it accounts for about one-third of the company's total sales. In the first quarter, demand for various products were mixed, with strength in cardiovascular being somewhat offset by weakness in diabetes.

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In this clip from The Motley Fool's Industry Focus: Healthcare podcast, analyst Kristine Harjes is joined by Todd Campbell to discuss which medical devices were winners and losers last quarter, and how the company's acquisition strategy is shaping the segment.

A full transcript follows the video.

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This video was recorded on April 19, 2017.

Todd Campbell: Investors have to realize theconsumer products are not going to be a huge source of revenue orearnings growth. It's just a steady business. Maybe there's more of an opportunity in theirmedical device unit, for example.

Kristine Harjes:Sure. Let'stalk about that one. This one is 35% of total revenue, so,starting to be a little bit more important on a cash basis to this company.

Campbell:$6.3 billion in sales for the quarter, up 3%roughly year over year. You back out deals, and sales globally were up 1.7%, so, faster,a little bit better than consumer,larger percentage of the total overall pie. Theyhave a lot of different businesses, part of the 250, that are operating under themedical-device umbrella. They haveexposure to cardiovascular,diabetes, orthopedics. But not all of those businesses performed equally. You had some winners likecardiovascular, and you had some losers like diabetes.

Harjes:Right. This is a businesssegment that is very much managed by adding on small acquisitions and getting rid of low performers. It'sdefinitely a very componentizedpart of the company. They had a couple of interesting acquisitionsin the first quarter. For example, they bought themedical-optics subsection of [Abbott Labs], whichclosed on Feb. 27. This was called Abbott Medical Optics. That rounded out their eye-healthoffering, particularly within the surgery category of vision care. That vision-caresegment was actually up the most of any segmentwithin medical devices, and it now counts for about 13% ofmedical devices.

Another acquisition -- I'll call out two more. The first one wasMegadyne Medical Products, andthe other one wasTorax Medical. Basically, the way that I view this business here is that they're going to keep buying different products and companies that are profitable and can boostthe places in which they already havea little bit of a footprint. When you look at Johnson & Johnson's size,they have so much distribution power,they have so many relationships with different providers of medical devices, that they'rereally able to take these smaller companies and leverage them andmake them more valuable than they would have been as stand-alones.

Campbell:I think you make a very good point, Kristine,in that the way they'remanaging this company is very opportunistically. They'relooking at it and saying, "Where have wedelivered the growth in these particular areas, andcan we sell those and take that money and buy something else that's bolt on, and kick-start growth andimprove profitability that way?" They have, for example, some really gooddemand in cardiovascular thanks tosome of their products that are usedto treat atrial fibrillation. Treating a-fib throughcatheterization,that's basically what they're doing. It's complicated, butwhat they're doing is,if you have an irregular heartbeat, they'llput a catheter in to fix the part of the heartmuscle that's setting off the wrongelectrical signal.Anyway,more procedures are being done, andthat's helping the cardiovascularside of the world.

They do have some question marks. Theorthopedic part of their businessis the biggest part of their medical-device sales. Hips, knees, spine. And there's been some pricing pressure there. It's ahighly competitive market. It's tied a little bit to the whims and whispers ofwhat's going on with the economy,because it does require a lot of out-of-pocket spending. So, that business has some question marks. Also, there's some question marksassociated with the diabetes franchise, wherethey make things likeinsulin pumps. They actually saidin January that they're thinking of looking atstrategic options for that business. Perhaps, by the end of the year,they make a decision about what to do with i; either they partner it or sell it off, orwhatever. So, there are some changesthat are going to be going on over the course of the year, some things to watch within this basket. But again, an important part, and it is growing.

Harjes:Ifyou look at overall trends,macro level,medical devices in general,you can probably expect they're going to do pretty well. As people get older, they live longer,they're going to need more ofthis type of surgery,for example, that this segment would address.

Campbell:Yeah,larger patient pool plays into pretty much all ofJohnson & Johnson's product lines. You're talking about a 50-year megacycle. Longer living, larger global population,definitely plays intoprocedure volume, and that should be a netbenefit or tailwind for the company.

Kristine Harjes owns shares of Johnson & Johnson. Todd Campbell has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Johnson & Johnson. The Motley Fool has a disclosure policy.