Financial Management Analysis - Johnson & Johnson and Pfizer Inc - Case Study Example

Financial Management Analysis Table of Contents Introduction 3 Johnson & Johnson 3 Pfizer Inc 5 Outlook of the industry 6 Ratio analysis 8 Profitability ratio 8 Liquidity ratio 10 Efficiency ratio 12 Capital Structure ratio 13 Investor ratio 15 Conclusion 16 Reference List 17 Introduction The healthcare industry in the US is dominated by a number of distinct organizations representing the hospitals, pharmaceutical companies, which are generally privately owned. The pharmaceutical companies within the healthcare industry aim at developing, producing and marketing licensed drugs, which are used as medications (Select USA, 2015). The pharmaceutical companies have to comply with a number of regulations and laws that are related to patents, assuring safety, testing and measuring the efficacy of drugs that are marketed in the US. There are many repudiated pharmaceutical companies in the US, which have served patients worldwide (Select USA, 2015). The US has the largest market for pharmaceutical companies in the world and also leads in the biopharmaceutical research (Select USA, 2015). Among those pharmaceutical companies, few have captured a larger portion of the market over the time and have served the UK market with right medicinal products and devices. Two pharmaceutical companies are chosen for evaluating its financial health such as Johnson & Johnson and Pfizer Inc. The report aims at examining the financial health of the companies by giving emphasis on the ratio analysis. The ratios help in gauging the liquidity, profitability, investment, efficiency and capital structure position of the companies. The ratios are calculated based on the financial data for the past two years i.e. 2012 and 2013. Johnson & Johnson Johnson & Johnson aims at inspiring and uniting ideas that are related to science and research. It is regarded as the sixth largest American multinational pharmaceutical company in the world, which is headquartered in New York. Its trades shares on the New York Security Exchange (NYSE) and is listed under Fortune 500 companies (Johnson & Johnson, 2013). The products of the company include first aid supplies and medications. Its popular products are bandages, baby products, Tylenol medications and beauty products. However, it also sells and manufactures pharmaceutical products for the neuroscience, oncology, infectious disease and immunology (Johnson & Johnson, 2013). The company has invested about $5.3 million for research and development activities in the pharmaceutical segment (Johnson & Johnson, 2015a). Janssen Pharmaceutical Companies is formed for addressing and solving the significant medical needs of the patients worldwide. This includes medicines for immunology, oncology, neuroscience, cardiovascular, metabolic and infectious diseases. The company provides sustainable products and integrated healthcare solutions to the stakeholders, which are based on trust, transparency and partnership (Johnson & Johnson, 2015a). The financial performance of the pharmaceutical segment was observed to be exceptional during the year 2013. The success of the company is driven by researches in science and it has constantly delivered improvement in the existing therapies. In Johnson & Johnson, every product is manufactured with innovative ideas and after rigorous study of the marketing needs (Johnson & Johnson, 2013). Figure 1: Segment sales in pharmaceutical sector (Source: Johnson & Johnson, 2013) In the above figure it can be noticed that the highest sales in the pharmaceutical segment comes from immunology products during 2013; apart from that other products have also performed well and the demand for this products are increasing every year. Hence, the pharmaceutical segment has gained prominence over the past few years due to increase in demand. Pfizer Inc Pfizer Inc is a renowned multinational pharmaceutical company, which is headquartered in New York. The company produces and develops vaccines and medicines for a number of diseases related to oncology, immunology, endocrinology, cardiology and neurology. The key product of Pfizer is the drug Lipitor, which is used for lowering the LDL blood cholesterol (Pfizer, 2015a). The company performs extensive research for extending and improving the range of products, which will improve the lives of the individuals through development, discovery and manufacturing of health related products (Pfizer, 2015a). Majority of the revenue of the company is derived from manufacturing and selling of biopharmaceutical products. It is observed that the biopharmaceutical industry has become very competitive and is well regulated by the medicinal boards. Due to the competition, the company has to experience several challenges, which have significant effect on its financial results. The revenue of Pfizer has decreased during 2013 by 6% because of the operational decline (Pfizer, 2015a). The decline was mainly due to the continued erosion of the brand Lipitor in Europe and the US (Pfizer, 2015a). Outlook of the industry The pharmaceutical industry has shown significant growth in the past few decades due to the increase in number of multinational pharmaceutical companies (PwC, 2015a). These companies have served the patients and customers with life saving drugs and medical devices and have experienced growth in the market segment with the increase in demand for the products. The pharmaceutical companies in the US have developed a number of life saving drugs, which have grown popular over the passage of use due to its usefulness. The following figure identifies the sales in the pharmaceutical industry by 2020 (PwC, 2015a). Figure 2: Sales of pharmaceutical industry by 2020 (Source: PwC, 2015a) It is observed that sale of pharmaceutical products in the US is observed to increase by a significant percentage by 2020 as compared to 2011. The main reason behind this increase was the demand for the medicinal products. Followed by the US market, other developed markets will also experience high growth in sales due to the same reason. Ratio analysis Ratio analysis helps in determining the financial health of a company with respect to its liquidity, efficiency, profitability and capital structure (Banerjee, 2010). The ratio not only state the financial status of a company but it also helps in comparing it with other companies and even with the industry (Francis, 2010; Edwards, 2008). The industry average is calculated based on the performance of the companies and the data are summed together to generate the value. Hence, the ratios have the ability to compare the financial performance of the companies and measure their strength. There are few ratios which denote the exact financial health of the company (Banerjee, 2010). These values are significant to the management of a company as it helps in decision making process. The ratios are also helpful to the investors and stakeholders of the company as it assists in ascertaining whether a company is steady enough to provide good returns on the investments (Jennings 2006). The ratios are profitability ratio, liquidity ratio, efficiency ratio and capital structure ratio. These ratios are elaborated henceforth with respect to the two companies such as Pfizer Inc and Johnson & Johnson. Profitability ratio Profit is a significant key performance indicator of a company as it ascertains whether it has the ability to generate enough sales revenue in the course of business (Edwards, 2008). The profitability ratios determine the net income of the company over the sales revenue and the ratio also helps in ascertaining whether it has increased its operating expense. Increase in operating expense affects the profit negatively; hence despite the increase in sale revenue, the company fails to generate positive or increasing profit (Francis, 2010; Edwards, 2008). The following profitability ratios of Johnson & Johnson and Pfizer Inc are calculated in order to highlight the compare the financial performance of the both over the past two years. Profitability ratio Johnson & Johnson   2013 2012 Gross profit margin 68.67 67.78 Net profit margin 19.39 15.64 Return on equity 18.67 16.21 Pfizer Inc Gross profit margin 81.41 82.03 Net profit margin 22.11 16.5 Return on equity 15.40 13.9 From the above table the following results can be deduced: 1) The gross profit margin of Johnson & Johnson is observed to have increased in 2013 than in 2012; however, the gross margin of Pfizer Inc is noticed to have decreased during the period. The main reason behind the decline in gross profit margin is the decrease in sales revenue of Pfizer over the year from 2012 to 2013 (Yahoo Inc! 2015a). The decrease in sales was due to the increase in competition of the generic drugs providers. However, the positive step taken by the company was the decline in research and development spending. The company was experiencing loss in market share since 2011 due to the decline in sales of cholesterol-lowering drug, Liptor (Loftus, 2013). When the gross profit margin of both the companies is compared, it is noticed that Pfizer Inc has higher gross profit margin due to low cost of sales of the company as compared to Johnson & Johnson. 2) The net profit margin of both the companies is observed to have increased over the years from 2012 to 2013. Though Pfizer has experienced decrease in sales in 2013 as compared to 2012 yet it has successfully generated considerable and increased profit during 2013. This indicates that the company has maintained a steady operating expense. This has supported Pfizer to increase its profit margin in 2013 as compared to 2012. On the other hand, Johnson & Johnson is seen to have generated the highest sales in the third quarter of 2013. The sales value of the company even beat the analyst’s estimate as the new drugs continued to drive the company growth as compared to its competitors (Cortez, 2013). 3) The return on equity (ROE) of Johnson & Johnson is observed to be higher than Pfizer; this indicates that the former has used the equity investments by the shareholders more efficiently than later. However, if both the companies are treated individually, it can be stated that Pfizer has also performed well as the ROE has increased to 15.40% in 2013 from and 13.9% in 2012 (Cortez, 2013). The sale of prescription drugs of Johnson & Johnson has increased by 9.9% during 2013 and the medical device sector and the diagnostic unit of the company also gained prominence. However, the sale of device fell by 2% during the same period of time (Cortez, 2013). Liquidity ratio The liquidity ratio helps in comprehending whether a particular company has the capability to pay back its current obligations i.e. whether it possesses enough asset bases for the purpose (Albrecht, 2011). The liquidity ratio assists the shareholders to understand whether the company will able to provide them good return after meeting the debt obligations. In due course of business, the company has to make payments to the suppliers in the short run. For these reason it needs enough cash balance and cash equivalents, which can be easily convertible into cash. The lack of cash balance may affect the ability of a company to pay off its current obligations. Hence, it is evident that the company has to maintain a steady cash flow over the years so as to fulfill the daily needs of the business (Hoofman, 2009; Elmaleh, 2005). The following liquidity ratios of Johnson & Johnson are calculated henceforth. Liquidity ratio Johnson & Johnson   2013 2012 Current ratio 2.19 1.90 Quick ratio 1.89 1.59 Pfizer Inc Current ratio 2.40 2.22 Quick ratio 2.14 2.01 The following results can be deduced from the table provided above: 1) The current ratio of a company is a significant key performance indicator (KPI) of a company as it gauges its liquidity position, whether it has the ability to pay its suppliers and debtors in a short period of time (Hoofman, 2009; Elmaleh, 2005). The current ratio of Johnson & Johnson is observed to have increased to a considerable amount during 2013 as compared to 2012. This indicates that the company has increased its current asset base over the years to finance the current obligations. Johnson & Johnson is in a stable liquidity position in the industry as the current ratio is above 2. However, when the current ratio of Johnson & Johnson is compared with that of Pfizer Inc, it is observed that the latter is in a stronger liquidity position than the former. 2) The quick ratio of Johnson & Johnson is observed to have increased over the two years from 2012 to 2013. This denotes that the company does not have to harm its inventory level for paying off the debt obligations in the short run (Hoofman, 2009; Elmaleh, 2005). However, when both the companies are compared to each other, it is observed that the quick ratio of Johnson & Johnson is higher than that of Pfizer Inc. Efficiency ratio The efficiency ratio helps in analyzing the financial health of the company and whether it has used the liabilities and assets efficiently in order to generate revenue. The efficiency ratio is significant in a company as it helps in measuring whether the management needs to take further step for improving its profitability position (Hoofman, 2009; Elmaleh, 2005). It also indicates whether the company is able to collect cash from the debtors and customers within the specified period of time and how efficiently they are using the cash for generating further sales. The following efficiency ratio of Pfizer Inc and Johnson & Johnson is calculated for analyzing their financial efficiency. Efficiency ratio Johnson & Johnson   2013 2012 Accounts receivable turnover 6.088278 5.944292 Inventory turnover ratio 1.554655 1.616359 Pfizer Inc Accounts receivable turnover 5.512878059 5.120093677 Inventory turnover ratio 2.835998985 2.889659773 The following results can be deduced from the table provided above: 1) The accounts receivable turnover ratio measures the time in which the company can collect the accounts receivables during a period of time (Narayananswamy, 2008; Hoofman, 2009; Elmaleh, 2005). Higher account receivables ratio indicates that the company has extended the credit period for the debtors and it is operating efficiently. However, if the ratio is low it shows that the company does not have the ability to extend the credit period to its customers as they need cash balance. For both the companies, the account receivables ratio is low and this signifies that Johnson & Johnson and Pfizer Inc do not extend the credit period for the customers and debtors. Hence, the companies have low efficiency level during the two years. 2) The inventory turnover ratio identifies whether the company manages its inventory efficiently as compared to cost of goods sold. Hence, it actually measures the number of times the inventory is sold during a particular period (Narayananswamy, 2008; Hoofman, 2009; Elmaleh, 2005). The ratio is significant for management decision making as it is dependent on the two main elements of the company performance. The purchasing of stock is the first element whereas the other is sale of the goods. If the inventory is purchased too often, the company has to focus on manufacturing new goods as they have to maintain a particular stock level during the period of time (Narayananswamy, 2008; Hoofman, 2009; Elmaleh, 2005). The inventory turnover of both the companies is low, which indicates that the sale of pharmaceutical products is high. Moreover, it can be noted that the inventory position in the pharmaceutical industry should be low as the medicines with long manufacturing dates should not be consumed by the consumers. Capital Structure ratio The capital structure ratio of a company measures whether it has the ability to pay off its obligations. The ratio also helps in identifying whether the company uses excessive debt or equity for financing its operation (Narayananswamy, 2008). The following capital structure ratio of Johnson & Johnson and Pfizer is calculated in order to understand the source of finance for both of the companies. Capital structure ratio Johnson & Johnson   2013 2012 Debt-to-equity ratio 0.18 0.18 Equity-to-fixed asset ratio 1.65 1.45 Pfizer Inc Debt-to-equity ratio 0.40 0.38 Equity-to-fixed asset ratio 0.80 0.80 The results provided below are deduced form the table provided in the table: 1) Debt-equity ratio is an important measure for a company as it measures its source of finance and identifies whether the company has greater debt burden or owns adequate equity for financing its operation (Narayananswamy, 2008). If the debt obligations are higher than equity investment then the company is said to have undertaken aggressive financing policy. The risk of losing considerable amount and default payment are higher in this case of aggressive financing. However, higher equity investment denotes that the company has undertaken conservative financing policy. From the debt-to-equity ratio of both the companies it can be deduced that they have employed conservative financing policy for funding its operation; hence the investments are risk free and the investor’s gains confidence to invest in the company (Evaluate, 2013). 2) The equity-to-fixed assets denote whether the shareholders are exposed to fixed assets. The percentage of ownership of the shareholders is dependent on this ratio (Narayananswamy, 2008). The ratio of Johnson & Johnson identifies that the shareholders owns a significant percentage of the company’s fixed assets as compare Pfizer Inc as the ratio of the former is higher than the latter. This also identifies that the shareholders are satisfied with the returns and dividend of Johnson & Johnson as compared to Pfizer Inc. Investor ratio The investor ratios are employed by the investors in order to appraise the investment opportunities that are provided by a company. It links the number of shares of a company with the stock exchange prices along with the profits, assets and dividend. The overall profit of the company is also measured with the help of the ratio. The earnings that can be retained by the company are measured so as to give an idea pertaining to the dividend received by the shareholders after a particular period of time. The following investor ratios are calculated for both the companies (Nasdaq.com. 2015a; Nasdaq.com. 2015b): Investor ratio Johnson & Johnson   2013 2012 EPS 4.81 3.86 DPS 2.59 2.4 Pfizer Inc EPS 2.22 2.10 DPS 0.98 0.90 The following results can be deducted from the table provided above: 1) The earning per share (EPS) of both the companies is observed to have increased over the years from 2012 to 2013. This indicates that the companies have focused on improving the EPS; this is indicative of the fact that the steps are undertaken in order to satisfy the shareholders so that they invest in the long run. 2) The dividend per share (DPS) of both the companies is also observed to increase over the years from 2012 to 2013; this denotes that both Johnson & Johnson and Pfizer Inc have earned enough profit to offer a considerable amount to the shareholders in the form of dividend. Conclusion Johnson & Johnson and Pfizer Inc are observed to have stable financial condition during the years 2012 and 2013 as per the ratio analysis. The liquidity, profitability and efficiency of the companies are measured in order to understand whether they have the financial stability to operate in the long run. However, it is noticed that both the companies have performed well during the period of time and contributed towards the growth of the industry to a great extent. Reference List Albrecht, W., 2011. Financial accounting. New York: South-Western Cengage Learning. Banerjee, B., 2010. Financial accounting. Delhi: PHI Learning Private Limited. Cortez, M., 2013. Johnson & Johnson Profit Beats Estimates on Drug Sales. [online] Available at: < http://www.bloomberg.com/news/articles/2013-10-15/johnson-johnson-profit-beats-estimates-on-drug-sales > [Accessed 12 February 2015]. Edwards, J., 2008. Financial accounting. New York : Routledge Elmaleh, M., 2005. Financial accounting. Union Bridge: Eplphany Communication. Evaluate, 2013. Press Release. [online] Available at: < http://www.evaluategroup.com/Public/PressReleases/Return-to-Growth-for-Pharmaceutical-Sector-World-Preview-2013-Outlook-to-2018.aspx > [Accessed 12 February 2015]. Francis, J., 2010. Financial accounting. New York: South-Western Cengage Learning. Hoofman, G., 2009. Financial accounting. Boston: Houghton Mifflin Company. Jennings, R., 2006. Financial accounting. Singapore: British Library Cataloguing-in- Publication Data. Johnson & Johnson, 2013. Annual Report 2013. [online] Available at: [Accessed 21 February 2015]. Johnson & Johnson, 2015a. Pharmaceutical Products – Prescriptions. [online] Available at: < http://www.jnj.com/healthcare-products/prescription > [Accessed 21 February 2015]. Loftus, P., 2013. Pfizers Earnings Decline 19% on Weaker Sales. [online] Available at: < http://www.wsj.com/articles/SB10001424052702303471004579165240668917018 > [Accessed 12 February 2015]. Narayananswamy, R., 2008. Financial accounting. Delhi: PHI Learning Private Limited. Nasdaq.com., 2015a. Johnson & Johnson. [online] Available at: < http://www.nasdaq.com/symbol/jnj/revenue-eps > [Accessed 12 February 2015]. Nasdaq.com., 2015b. Pfizer. [online] Available at: < http://www.nasdaq.com/symbol/pfe/revenue-eps > [Accessed 12 February 2015]. Pfizer, 2015a. Pfizer Financial Reports. [online] Available at: < http://www.pfizer.com/investors/financial_reports/financial_reports > [Accessed 12 February 2015]. PwC, 2015a. The Global Pharmaceutical Market Could Be Worth Nearly $1.6 Trillion By 2020. [online] Available at: < http://www.pwc.com/gx/en/pharma-life-sciences/pharma2020/market-opportunities-and-outlook.jhtml# > [Accessed 12 February 2015]. Select USA, 2015. The Pharmaceutical and Biotech Industries in the United States. [online] Available at: < http://selectusa.commerce.gov/industry-snapshots/pharmaceutical-and-biotech-industries-united-states > [Accessed 21 February 2015]. Yahoo Inc! 2015a. Pfizer Inc. (PFE). [online] Available at: [Accessed 12 February 2015]. Read More