Johnson & Johnson's Earnings: The Good, The Bad and The Ugly

After a stellar 2014, Johnson & Johnson's stock has lagged behind the broader market this year:

To gain some insight into this top healthcare stock's weakness so far in 2015, let's dig into the company's first-quarter earnings, released earlier this week. Here are the good, the bad, and the ugly from J&J's first-quarter.

The GoodPharmaceutical sales, the company's largest and strongest business segment, still posted a 3% growth rate, despite losing exclusivity for Remicade in some EU territories, Olysio sales plummeting, and the negative impacts of a strong dollar.

In fact, the pharma giant actually saw sales grow by a respectable 10.2% on an operational basis, buoyed largely by soaring sales of the diabetes drug Invokana. Specifically, Invokana sales nearly tripled year-over-year to $278 million compared to $94 million a year ago.

Imbruvica sales are also skyrocketing, fueled by successful label expansions that should push sales into the blockbuster realm within the next twelve months. As a reminder, J&J splits net sales from Imbruvica with AbbVie/Pharmacyclics per their marketing agreement. Nonetheless, this broad-based cancer drug will be an important revenue driver for the foreseeable future, especially as additional indications for hematological malignancies, and perhaps even inflammatory diseases, potentially come into play.

Sales of the prostate cancer drug Zytiga performed admirably in the face of growing competition from Medivation/Astellas Pharma's Xtandi. Per the first-quarter numbers, Zytiga's global sales grew by 8.6% year-over-year (19.2% on an operational basis). That said, this single digit growth rate is somewhat alarming given that the drug has typically posted annual growth rates exceeding 40%. Put simply, Xtandi does appear to be cutting into Zytiga's monstrous growth rate, although foreign exchange rates, or FX, also played a major role in this decline.

The Bad Remicade has been one of J&J's strongest performers. But the loss of patent exclusivity in the EU combined with unfavorable exchange rates led to an 18% drop-off in annual ex-U.S. sales.

The company does have patent protection for the cancer drug in the U.S. until 2018, and is attempting to extend this period by a couple more years through various legal means. Unfortunately, the U.S. Patent Office has continually ruled against J&J, meaning that Cellitron and Hospira (now owned by Pfizer) may decide to try to launch their biosimilar, called Remsima, "at-risk" in 2018. I mention that this would be an at-risk launch because an appeals court could overturn the decision of the U.S. Patent Office down the line, which would force Remsima's launch to either be significantly delayed or potentially pulled from the market, depending on how this plays out.

The Ugly As I mentioned a few months back, the hep C drug Olysio was easily J&J's biggest growth driver in 2014. But the launch of Gilead Sciences' Harvoni essentially made the drug obsolete. Following this event, I suggested that Olysio sales could crater by 99%, and so far, this prediction is turning out to be on target.

In the first quarter, U.S. sales of the drug dropped by a staggering 66% year-over-year, although a fair amount of growth in international markets helped to soften the overall drop to 34%. Regardless, I still think Olysio will become obsolete before year's end, making it a non-factor for J&J's infectious disease unit.

The international scope of J&J's three business segments exposed the company in a big way to the effects of a strong dollar on currency exchange rates. For the quarter, J&J reported a total decline in revenue of 4.1% compared to a year ago, reflecting a 7.2% negative impact stemming from FX. If we exclude FX, J&J actually grew revenue by 3.1% for the year.

Unfortunately, the dollar is expected to remain strong for the time being, so this issue will probably end up hurting the company's growth prospects for the remainder of the year.

What's next? J&J has a mountain of cash, shown by the chart below. And as we learned a month ago from its pursuit of Pharmacyclics, the company is interested in joining the M&A frenzy in healthcare. So, with Olsyio, Remicade, and Zytiga seeing sales start to fall off, I think the pressure is on to put some of this cash to work via a buyout.

If the Pharmacyclics buyout attempt is any guide, considering J&J's core strengths in pharma, I think there are three names the company could potentailly target next: Acadia Pharmaceuticals for its Parkinson's disease psychosis drug Nuplazid, Juno Therapeutics for its CAR-T immuno-oncology platform, or perhaps Seattle Genetics for its antibody drug conjugate technology.

The problem is that some of the most promising mid-sized biopharmas have already gotten snatched up (Pharmacyclics and Hospira are two examples), leaving a population of buyout candidates with comparatively riskier assets.

Puma Biotechnology, for instance, looks like a great fit for J&J, but there are too many unanswered questions regarding its drug neratinib's efficacy at this point. And an antisense drugmaker likeIsis Pharmaceuticals simply wouldn't be a great fit with J&J's core areas of expertise from a technology standpoint -- although Isis probably offers one of the best valuation propositions in the pharma landscape right now, in my opinion.

All told, I think investors should expect J&J to execute a buyout sometime this year, especially in light of its mixed first-quarter earnings report and full-year guidance.

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George Budwell owns shares of AbbVie, Gilead Sciences, and Isis Pharmaceuticals. The Motley Fool recommends Gilead Sciences, Isis Pharmaceuticals, Johnson & Johnson, and Seattle Genetics. The Motley Fool owns shares of Gilead Sciences and Johnson & Johnson. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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