Morning Note: Market news and updates from Johnson & Johnson and Diploma.

Market News

US equity markets fell last night – S&P 500 (-1.4%), Nasdaq (-2.8%) – on the back on a deepening Sino-US chip war. The Dow Jones Index rose by 0.6% as investors rotated away from tech. This morning in Asia, markets were mixed: Nikkei 225 (-2.4%); Hang Seng (+0.6%); Shanghai Composite (+0.5%). The yen steadied after breaking through 156 per dollar. Xi Jinping will unveil his long-term vision for China’s economy as he wraps up a twice-a-decade conclave on reform.

European markets opened on a mixed note, with the focus on the ECB rate decision. The central bank is expected to hold fire before key data arrive – all economists see deposit rate staying at 3.75%. Most analysts predict two more quarter-point rate cuts later this year.

The FTSE 100 is currently trading 0.9% higher at 8,265. There is less chance of an August rate cut in the UK following the release of data highlighting average weekly earnings growth of 5.7% in May and an unemployment rate of 4.4%. Sterling remains firm at $1.2995 and €1.1890.

The oil price extended gains (to $85 a barrel) from the previous session, buoyed by a bigger-than-expected decline last week in US crude stocks. After a mild wobble yesterday, gold has regained its poise amid growing optimism that the Federal Reserve will reduce rates as early as September. It currently trades at $2,071 an ounce.

The global shipping-market strain is reviving fears of an inflation comeback. “We better start planning,” Jason Starr, operations VP at Globe Electric, said as he heard something he hadn’t in 18 months: Bookings on cargo ships from Asia were getting tight.

Source: Bloomberg

Company News

Yesterday lunchtime, Johnson & Johnson released its Q2 results and upgraded its full-year guidance for operational performance. In response, the shares were marked up 3% in US trading hours against a weak market backdrop.

J&J is a global healthcare company with leading positions in pharmaceuticals and medical devices. The group has more than 20 products/platforms each with sales of more than $1bn. The group’s strategy is to grow sales faster than the market, and to grow earnings faster than sales. Given its broad spread of businesses, J&J is considered the bellwether of healthcare companies, providing a good read-across for a range of other stocks.

The company’s former Consumer Health unit has been spun off and now trades as a separate listed company (Kenvue). J&J still owns around 9% of the stock, a stake currently worth around $3.5bn.

In the latest quarter, reported sales grew by 4.3% to $22.4bn, in line with the market forecast. On an adjusted operational basis, which excludes the impact of acquisitions and disposals, growth was 6.5%, with US domestic sales (+7.6%) outpacing international sales (+5.3%). Operational growth excluding the impact of revenue from Covid-19 vaccine was 7.1%.

The group’s performance demonstrates continued strength and resilience across both of its businesses. Innovative Medicine (i.e., Pharmaceuticals, 64% of sales) grew by 8.0% during the quarter, or 8.8% excluding Covid-19 vaccine. Growth was driven by a broad range of products, particularly its blockbuster psoriasis treatment Stelara.

MedTech (i.e., medical devices, 35% of sales) increased by 4.0%, driven primarily by electrophysiology products and Abiomed in Cardiovascular, and wound closure products in General Surgery. The business has been bolstered by the $13bn acquisition of cardiac medical device company Shockwave.

The gross margin remained very high at 69.4%, albeit down from 70.0% last year. Adjusted EPS grew by 10.2% to $2.82, batter than the consensus forecast of $2.70.

J&J has a very strong balance sheet and ended the quarter with net debt of $16bn on the back of free cash flow generation of c. $7.5bn. The group has consistently invested in organic growth – R&D spend was $3.4bn in Q2 – and, as a result, around 25% of sales come from products launched in the last five years. J&J increased its dividend by 4.2% to $1.24 per share – a similar rise for the full year would equate to a yield of 3.2%

The group updated its full-year guidance to reflect improved operational performance and the impact for the recent acquisitions of Shockwave Medical, Proteologix, and NM26 Bispecific Antibody. Adjusted operational sales are expected to grow by 5.0%-6.0% to $89.2bn-$89.6bn (vs. $88.7bn-$89.1bn previously). Guidance for adjusted operational EPS was reduced from $10.60-$10.75 to $10.00-$10.10.

Source: Bloomberg

Diploma has this morning released brief trading update for the nine months to 30 June which highlights continued strong performance in line with management expectations. Full-year guidance has been maintained. The shares have been a very strong performer, and with little new news in today’s update, they have experienced some profit taking in early trading.

Diploma operates a decentralised collection of distribution businesses which supply specialised industrial and healthcare products and services to a wide range of niche end markets, in which service, rather than price is the key reason business is won and retained. The focus is on the supply of low cost, but essential products, such as a seal for a hydraulic cylinder. Most of the revenue is generated from consumable products, usually funded by the customers’ operating budgets rather than their capital budgets, providing a recurring revenue base. By supplying essential solutions, not just products, Diploma has built strong long-term relationships with its customers and suppliers, which support attractive and sustainable margins (in the high teens) and consistently strong cash flow.

The strategy is to build high-quality scalable businesses that deliver sustainable organic growth. Acquisitions are an integral part of the strategy, with a disciplined focus on acquiring value-added businesses in fast growing niches, with great management teams, to accelerate organic growth and generate attractive returns on investment.

In the latest quarter to 30 June, performance has been strong and in-line with management expectations. This momentum has continued into the current quarter.

Organic revenue growth in nine months to 30 June was 6%, a slight acceleration versus the 5% generated in the six months to 31 March. Growth was volume-led across the group with all three divisions – Controls, Seals, and Life Sciences – performing as expected.

Reported revenue growth was 13%, with a 10% contribution from acquisitions partly offset by a 3% headwind from foreign exchange.

As expected, there was little detail on the group’s profitability and financial position in today’s statement, other than to highlight that the operating margin remains strong, in line with management expectations. The company is financially strong – at the last balance sheet date (31 March 2024), gearing was 0.9x net debt to EBITDA, well below the 2.0x target.

Acquisitions continue to be an integral part of the group’s growth strategy, with recent deals onboarded smoothly. The largest was Peerless Aerospace Fastener (for £236m) which extended the group’s established position in aerospace specialty fasteners and accelerated organic growth through product and geographic expansion. The group remains disciplined in its approach to acquisitions and has a strong pipeline diversified by sector, size, and geography.

Guidance for the full year to 30 September 2024 has been reiterated:

-          organic revenue growth of 6%.

-          recent acquisitions will add 10% to reported revenue growth.

-          operating margin of 20.5%, a big step-up from last year’s 19.7%, driven by strong underlying performance and recent acquisitions.

-          free cash flow conversion of 90%.

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Source: Bloomberg