Johnson & Johnson does not have the profile of a defensive investment based on the requirements of Ben Graham. The Pharmaceutical firm may nonetheless be of interest to more risk-oriented investors who have a solid thesis on the company's future growth. At Market Inference, we remain agnostic as to such further developments, and prefer to use a company's past track record as the bellwether for future potential gains.
Johnson & Johnson Is Probably Overvalued
Graham devised the below equation to give investors a quick way of determining whether a stock is trading at a fair multiple of its earnings and its assets:
√(22.5 * 5 year average earnings per share (6.37) * 5 year average book value per share (29.39) = $64.9
At today's price of $153.03 per share, Johnson & Johnson is now trading 135.79% above the maximum price that Graham would have wanted to pay for the stock.
Even though the stock does not trade at an attractive multiple, it might still meet some of the other criteria for quality stocks that Graham listed in Chapter 14 of The Intelligent Investor.
Positive Retained Earnings From 2008 To 2023, A Decent Dividend Record, and Eps Growth In Excess Of Graham'S Requirements
Ben Graham wrote that an investment in a company with a record of positive retained earnings could contribute significantly to the margin of safety. Johnson & Johnson had positive retained earnings from 2008 to 2023 with an average of $97,848,461,538 over this period.
Another one of Graham's requirement is for a 30% or more cumulative growth rate of the company's earnings per share over the last ten years.To determine Johnson & Johnson's EPS growth over time, we will average out its EPS for 2007, 2008, and 2009, which were $3.63, $4.57, and $1.20 respectively. This gives us an average of $3.13 for the period of 2007 to 2009. Next, we compare this value with the average EPS reported in 2021, 2022, and 2023, which were $5.51, $7.81, and $6.73, for an average of $6.68. Now we see that Johnson & Johnson's EPS growth was 113.42% during this period, which satisfies Ben Graham's requirement.
Johnson & Johnson has offered a regular dividend for decades, and over the last 12 months, investors have enjoyed a 2.94% dividend yield.
JNJ Does Not Have Enough Current Assets to Cover Liabilities
Graham sought companies with extremely low debt levels compared to their assets. For one, he expected their current ratio to be over 2 and their long term debt to net current asset ratio to be near, or ideally under, under 1. Johnson & Johnson fails on both counts with a current ratio of 0.99 and a debt to net current asset ratio of -0.51.
Conclusion
According to Graham's analysis, Johnson & Johnson is likely a company of decent quality, which at current prices does not offer a significant enough margin of safety for a risk averse investor.
