UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 for the quarterly period
ended October 2, 2005
or
( ) Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 for the for the transition
period from
to
Commission file number 1-3215
JOHNSON & JOHNSON
(Exact name of registrant as specified in its charter)
NEW JERSEY 22-1024240
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
One Johnson & Johnson Plaza
New Brunswick, New Jersey 08933
(Address of principal executive offices)
Registrant's telephone number, including area code (732) 524-0400
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes (X) No ( )
Indicate by check mark whether the registrant is an
accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes (X) No ( )
Indicate by check mark whether the registrant is a shell
company (as defined in Rule 12b-2 of the Exchange Act).
[ ] Yes [x] No
Indicate the number of shares outstanding of each of the
issuer's classes of common stock, as of the latest practicable
date.
On October 30, 2005, 2,974,929,975 shares of Common Stock,
$1.00 par value, were outstanding.
1
JOHNSON & JOHNSON AND SUBSIDIARIES
TABLE OF CONTENTS
Part I - Financial Information Page No.
Item 1. Financial Statements (unaudited)
Consolidated Balance Sheets -
October 2, 2005 and January 2, 2005 3
Consolidated Statements of Earnings for the Fiscal
Quarters Ended October 2, 2005 and
September 26, 2004 6
Consolidated Statements of Earnings for the Fiscal
Nine Months Ended October 2, 2005 and
September 26, 2004 7
Consolidated Statements of Cash Flows for the Fiscal
Nine Months Ended October 2, 2005 and
September 26, 2004 8
Notes to Consolidated Financial Statements 10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results
of Operations 31
Item 3. Quantitative and Qualitative Disclosures
About Market Risk 43
Item 4. Controls and Procedures 43
Part II - Other Information
Item 1 - Legal Proceedings 44
Item 2 - Unregistered Sales of Equity Securities
and Use of Proceeds 44
Item 6 - Exhibits 44
Signatures 45
2
Part I - FINANCIAL INFORMATION
Item 1 - Financial Statements
JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited; Dollars in Millions)
ASSETS
October 2, January 2,
2005 2005
Current Assets:
Cash and cash equivalents $14,825 9,203
Marketable securities 354 3,681
Accounts receivable, trade, less
allowances for doubtful accounts
$173(2004, $206) 7,154 6,831
Inventories (Note 4) 4,015 3,744
Deferred taxes on income 1,813 1,737
Prepaid expenses and other
current assets 2,415 2,124
Total current assets 30,576 27,320
Marketable securities, non-current 44 46
Property, plant and equipment,
at cost 19,086 18,664
Less accumulated
depreciation 8,859 8,228
Property, plant and equipment, net 10,227 10,436
Intangible assets (Note 5) 15,675 15,105
Less accumulated amortization 3,589 3,263
Intangible assets, net 12,086 11,842
Deferred taxes on income 658 551
Other assets 2,983 3,122
Total assets $56,574 53,317
See Notes to Consolidated Financial Statements
3
JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited; Dollars in Millions)
LIABILITIES AND SHAREHOLDERS' EQUITY
October 2, January 2,
2005 2005
Current Liabilities:
Loans and notes payable $ 278 280
Accounts payable 3,684 5,227
Accrued liabilities 3,164 3,523
Accrued rebates, returns
and promotions 2,120 2,297
Accrued salaries, wages and
commissions 1,144 1,094
Taxes on income 1,657 1,506
Total current liabilities 12,047 13,927
Long-term debt 2,139 2,565
Deferred tax liability 409 403
Employee related obligations 3,055 2,631
Other liabilities 2,077 1,978
Total liabilities 19,727 21,504
Shareholders' equity:
Preferred stock - without par
value (authorized and unissued
2,000,000 shares) - -
Common stock - par value $1.00
per share (authorized
4,320,000,000 shares; issued
3,119,842,000 shares) 3,120 3,120
Note receivable from employee
stock ownership plan - (11)
Accumulated other comprehensive
income (Note 8) (751) (515)
Retained earnings 40,422 35,223
4
Less common stock held in treasury,
at cost (144,828,000 & 148,819,000
shares) 5,944 6,004
Total shareholders' equity 36,847 31,813
Total liabilities and shareholders'
equity $56,574 53,317
See Notes to Consolidated Financial Statements
5
JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited; dollars & shares in millions
except per share figures)
Fiscal Third Quarter Ended
October 2, Percent Sept. 26, Percent
2005 to Sales 2004 to Sales
Sales to customers
(Note 6) $12,310 100.0% 11,553 100.0
Cost of products sold 3,340 27.1 3,187 27.6
Gross profit 8,970 72.9 8,366 72.4
Selling, marketing and
administrative expenses 4,078 33.1 3,854 33.3
Research expense 1,502 12.2 1,198 10.4
Purchased in-process
research and
development - - 18 .2
Interest income (123) (1.0) (49) (.4)
Interest expense, net of
portion capitalized 22 0.2 30 0.2
Other (income)expense, net (63) (0.5) 41 0.4
Earnings before provision
for taxes on income 3,554 28.9 3,274 28.3
Provision for taxes on
income (Note 3) 929 7.6 933 8.0
NET EARNINGS $2,625 21.3 2,341 20.3
NET EARNINGS PER SHARE
(Note 7)
Basic $ .88 .79
Diluted $ .87 .78
CASH DIVIDENDS PER SHARE $ .33 .285
AVG. SHARES OUTSTANDING
Basic 2,974.6 2,968.1
Diluted 3,017.1 3,009.0
See Notes to Consolidated Financial Statements
6
JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited; dollars & shares in millions
except per share figures)
Fiscal Nine Months Ended
October 2, Percent Sept. 26, Percent
2005 to Sales 2004 to Sales
Sales to customers
(Note 6) $37,904 100.0% 34,596 100.0
Cost of products sold 10,330 27.3 9,716 28.1
Gross profit 27,574 72.7 24,880 71.9
Selling, marketing and
administrative expenses 12,315 32.5 11,205 32.4
Research expense 4,336 11.4 3,476 10.0
Purchased in-process
research and
development 353 0.9 18 0.1
Interest income (316) (0.8) (123) (0.4)
Interest expense, net of
portion capitalized 52 0.1 127 0.4
Other (income)expense, net (184) (0.5) (36) (0.1)
Earnings before provision
for taxes on income 11,018 29.1 10,213 29.5
Provision for taxes on
income (Note 3) 2,790 7.4 2,921 8.4
NET EARNINGS $8,228 21.7 7,292 21.1
NET EARNINGS PER SHARE
(Note 7)
Basic $ 2.77 2.46
Diluted $ 2.73 2.43
CASH DIVIDENDS PER SHARE $ .945 .81
AVG. SHARES OUTSTANDING
Basic 2,973.5 2,968.1
Diluted 3,019.0 3,004.4
See Notes to Consolidated Financial Statements
7
JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited; Dollars in Millions)
Fiscal Nine Months Ended
October 2, Sept. 26,
2005 2004
CASH FLOWS FROM OPERATIONS
Net earnings $ 8,228 7,292
Adjustment to reconcile net
earnings to cash flows:
Depreciation and amortization of
property and intangibles 1,586 1,506
Purchased in-process research and
development 353 18
Deferred tax provision (410) (424)
Accounts receivable allowances (24) 68
Changes in assets and liabilities, net
of effects from acquisition of
businesses:
Increase in accounts receivable (646) (452)
Increase in inventories (433) (91)
Decrease in accounts
payable and accrued liabilities (1,732) (787)
Decrease in other current
and non-current assets 860 545
Increase in other current
and non-current liabilities 912 995
NET CASH FLOWS FROM OPERATING
ACTIVITIES 8,694 8,670
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to property, plant
and equipment (1,490) (1,142)
Proceeds from the disposal of assets 152 235
Acquisitions, net of cash
acquired (747) (330)
Purchases of investments (5,095) (9,121)
Sales of investments 8,324 7,508
Other (Primarily intangibles) (295) (91)
NET CASH PROVIDED/(USED) BY INVESTING
ACTIVITIES 849 (2,941)
CASH FLOWS FROM FINANCING ACTIVITIES
Dividends to shareholders (2,810) (2,404)
Repurchase of common stock (1,164) (985)
Proceeds from short-term debt 537 313
Retirement of short-term debt (602) (1,114)
Proceeds from long-term debt 4 16
Retirement of long-term debt (196) (1)
Proceeds from the exercise of
stock options 534 434
8
NET CASH USED BY FINANCING
ACTIVITIES (3,697) (3,741)
Effect of exchange rate changes
on cash and cash equivalents (224) (17)
Increase in cash and
cash equivalents 5,622 1,971
Cash and cash equivalents,
beginning of period 9,203 5,377
CASH AND CASH EQUIVALENTS,
END OF PERIOD $14,825 7,348
ACQUISITIONS
Fair value of assets acquired 883 369
Fair value of liabilities assumed (136) (39)
Net cash paid for acquisitions $ 747 330
See Notes to Consolidated Financial Statements
9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - The accompanying unaudited interim financial
statements and related notes should be read in conjunction with
the Consolidated Financial Statements of Johnson & Johnson and
Subsidiaries (the "Company") and related notes as contained in
the Company's Annual Report on Form 10-K for the fiscal year
ended January 2, 2005. The unaudited interim financial
statements include all adjustments (consisting only of normal
recurring adjustments) and accruals necessary in the judgment of
management for a fair statement of the results for the periods
presented.
NOTE 2 - FINANCIAL INSTRUMENTS
The Company follows the provisions of Statement of Financial
Accounting Standards (SFAS) 133, SFAS 138 and SFAS 149 requiring
that all derivative instruments be recorded on the balance sheet
at fair value.
As of October 2, 2005, the balance of deferred net losses on
derivatives included in accumulated other comprehensive income
was $49 million after-tax. The Company expects that substantially
all of this amount will be reclassified into earnings over the
next 12 months as a result of transactions that are expected to
occur over that period. The amount ultimately realized in
earnings will differ as foreign exchange rates change. Realized
gains and losses are ultimately determined by actual exchange
rates at maturity of the derivative. Transactions with third
parties will cause the amount in accumulated other comprehensive
income to affect net earnings. The maximum length of time over
which the Company is hedging is 18 months. The Company also uses
currency swaps to manage currency risk primarily related to
borrowings, which may exceed 18 months.
For the first fiscal nine months ended October 2, 2005, the net
impact of the hedges' ineffectiveness to the Company's financial
statements was insignificant. For the first fiscal nine months
ended October 2, 2005, the Company has recorded a net loss of $4
million after tax in other (income) expense, representing the
impact of discontinuance of cash flow hedges because it is
probable that the originally forecasted transactions will not
occur by the end of the originally specified time period.
Refer to Note 8 for disclosures of movements in Accumulated Other
Comprehensive Income.
NOTE 3 - INCOME TAXES
The worldwide effective income tax rates for the first fiscal
nine months of 2005 and 2004 were 25.3% and 28.6%, respectively,
representing a decrease of 3.3%. Of this decrease, 2.1% was
attributed to increases in taxable income in lower tax
jurisdictions relative to taxable income in higher tax
jurisdictions. The remaining net decrease of 1.2% was attributed
to a one-time tax benefit partially offset by IPR&D, as described
below.
The fiscal second quarter of 2005 included a benefit of $225
million, due to the reversal of a tax liability previously
10
recorded during the fiscal fourth quarter of 2004, associated
with a technical correction made to the American Jobs Creation
Act of 2004 (AJCA), in May 2005. Under the AJCA, approximately
$8 billion, of the previously disclosed $10.8 billion, has been
repatriated through the fiscal third quarter of 2005.
Acquisition related In-process Research & Development (IPR&D)
charges of $353 million that are non-deductible for tax purposes
were recorded in the fiscal second quarter of 2005.
In the fiscal third quarter of 2004, the Company recorded IPR&D
charges of $18 million before tax and $12 million after tax as a
result of the acquisition of U.S. commercial rights to certain
patents and know how in the field of sedation and analgesia from
Scott Lab, Inc.
NOTE 4 - INVENTORIES
(Dollars in Millions)
October 2, 2005 January 2, 2005
Raw materials and supplies $ 1,246 964
Goods in process 1,021 1,113
Finished goods 1,748 1,667
$ 4,015 3,744
NOTE 5 - INTANGIBLE ASSETS
Intangible assets that have finite useful lives are amortized
over their estimated useful lives. Goodwill and indefinite lived
intangible assets are assessed annually for impairment. The
latest impairment assessment of goodwill and indefinite lived
intangible assets was completed in the fiscal fourth quarter of
2004 and no impairment was determined. Future impairment tests
will be performed annually in the fiscal fourth quarter, or
sooner if warranted by economic conditions.
(Dollars in Millions)
October 2, 2005 January 2, 2005
Goodwill $ 6,732 6,597
Less accumulated amortization 713 734
Goodwill - net 6,019 5,863
Trademarks (non-amortizable) 1,207 1,232
Less accumulated amortization 134 142
Trademarks (non-amortizable)- net 1,073 1,090
Patents and trademarks 4,159 3,974
Less accumulated amortization 1,326 1,125
Patents and trademarks - net 2,833 2,849
Other amortizable intangibles 3,577 3,302
Less accumulated amortization 1,416 1,262
Other intangibles - net 2,161 2,040
Total intangible assets 15,675 15,105
Less accumulated amortization 3,589 3,263
Total intangibles - net $12,086 11,842
11
Goodwill as of October 2, 2005 as allocated by segment of
business is as follows:
(Dollars in Millions)
Med. Dev
Consumer Pharm & Diag Total
Goodwill, net
at January 2, 2005 $1,160 832 3,871 5,863
Acquisitions - 71 196 267
Translation & Other (62) (26) (23) (111)
Goodwill, net as of
October 2, 2005 $1,098 877 4,044 6,019
The weighted average amortization periods for patents and
trademarks and other intangible assets are 15 years and 17 years,
respectively. The amortization expense of amortizable intangible
assets for the fiscal nine months ended October 2, 2005 was $379
million and the estimated amortization expense for the five
succeeding years approximates $550 million, annually.
NOTE 6 - SEGMENTS OF BUSINESS AND GEOGRAPHIC AREAS
(Dollars in Millions)
SALES BY SEGMENT OF BUSINESS (1)
Fiscal Third Quarter
Percent
2005 2004 Change
Consumer
U.S. $ 1,075 1,023 5.1%
International 1,156 1,001 15.5
2,231 2,024 10.2
Pharmaceutical
U.S. $ 3,527 3,694 (4.5)%
International 1,930 1,791 7.8
5,457 5,485 (0.5)
Med Devices and Diagnostics
U.S. $ 2,365 2,073 14.1%
International 2,257 1,971 14.5
4,622 4,044 14.3
U.S. $ 6,967 6,790 2.6%
International 5,343 4,763 12.2
Worldwide $ 12,310 11,553 6.6%
12
Fiscal Nine Months
Percent
2005 2004 Change
Consumer
U.S. $ 3,281 3,090 6.2%
International 3,508 2,981 17.7
6,789 6,071 11.8
Pharmaceutical
U.S. $ 10,905 10,980 (0.7)%
International 5,935 5,308 11.8
16,840 16,288 3.4
Med Devices and Diagnostics
U.S. $ 7,104 6,306 12.7%
International 7,171 5,931 20.9
14,275 12,237 16.7
U.S. $ 21,290 20,376 4.5%
International 16,614 14,220 16.8
Worldwide $ 37,904 34,596 9.6%
(1) Export and intersegment sales are not significant.
OPERATING PROFIT BY SEGMENT OF BUSINESS
Fiscal Third Quarter
Percent
2005 2004 Change
Consumer $ 426 358 19.0%
Pharmaceutical 1,796 1,922 (6.6)
Med. Dev. & Diag.(1) 1,363 1,052 29.6
Segments total 3,585 3,332 7.6
Expenses not allocated
to segments (31) (58)
Worldwide total $ 3,554 3,274 8.6%
Fiscal Nine Months
Percent
2005 2004 Change
Consumer $ 1,301 1,187 9.6%
Pharmaceutical(2) 5,518 6,117 (9.8)
Med. Dev. & Diag.(3) 4,265 3,179 34.2
Segments total 11,084 10,483 5.7
Expenses not allocated
to segments (66) (270)
Worldwide total $ 11,018 10,213 7.9%
13
(1) Includes $18 million of IPR&D charges related to an
acquisition of rights to certain patents and know how
completed in the fiscal third quarter of 2004.
(2) Includes $302 million of IPR&D charges related to
acquisitions completed in the fiscal second quarter
of 2005.
(3) Includes $51 million of IPR&D charges related to an
acquisition completed in the fiscal second quarter of
2005 and $18 million for an acquisition of rights to
certain patents and know how completed in the fiscal
third quarter of 2004.
SALES BY GEOGRAPHIC AREA
Fiscal Third Quarter
Percent
2005 2004 Change
U.S. $ 6,967 6,790 2.6%
Europe 2,860 2,638 8.4
Western Hemisphere,
excluding U.S. 783 639 22.5
Asia-Pacific, Africa 1,700 1,486 14.4
Total $ 12,310 11,553 6.6%
Fiscal Nine Months
Percent
2005 2004 Change
U.S. $ 21,290 20,376 4.5%
Europe 9,222 8,124 13.5
Western Hemisphere,
excluding U.S. 2,259 1,858 21.6
Asia-Pacific, Africa 5,133 4,238 21.1
Total $ 37,904 34,596 9.6%
NOTE 7 - EARNINGS PER SHARE
The following is a reconciliation of basic net earnings per
share to diluted net earnings per share for the fiscal third
quarters ended October 2, 2005 and September 26, 2004.
(Shares in Millions)
Fiscal Third Quarter Ended
October 2, Sept. 26,
2005 2004
Basic net earnings per share $ .88 .79
Average shares outstanding - basic 2,974.6 2,968.1
Potential shares exercisable under
14
stock option plans 209.7 194.9
Less: shares which could be repurchased
under treasury stock method (174.3) (168.6)
Convertible debt shares 7.1 14.6
Average shares
outstanding - diluted 3,017.1 3,009.0
Diluted earnings per share $ .87 .78
The diluted earnings per share calculation included the dilutive
effect of convertible debt that was offset by the related
reduction in interest expense of $2 million for the fiscal third
quarter ended October 2, 2005 and $3 million for the fiscal third
quarter ended Sept. 26, 2004.
The diluted earnings per share calculation excluded 46 million
and 43 million shares related to options for the fiscal third
quarters ended October 2, 2005 and Sept. 26, 2004, respectively,
as the exercise price per share of these options was greater than
the average market value. If these shares were included it would
result in an anti-dilutive effect on diluted earnings per share.
The following is a reconciliation of basic net earnings per share
to diluted net earnings per share for the fiscal nine months
ended October 2, 2005 and Sept. 26, 2004.
(Shares in Millions)
Fiscal Nine Months Ended
October 2, Sept. 26,
2005 2004
Basic net earnings per share $ 2.77 2.46
Average shares outstanding - basic 2,973.5 2,968.1
Potential shares exercisable under
stock option plans 209.9 193.4
Less: shares which could be repurchased
under treasury stock method (171.5) (171.7)
Convertible debt shares 7.1 14.6
Average shares
outstanding - diluted 3,019.0 3,004.4
Diluted earnings per share $ 2.73 2.43
The diluted earnings per share calculation included the dilutive
effect of convertible debt that was offset by the related
reduction in interest expense of $9 million for the first fiscal
nine months ended October 2, 2005 and $11 million for the first
fiscal nine months ended Sept. 26, 2004.
The diluted earnings per share calculation excluded 46 million
and 44 million shares related to options for the first fiscal
nine months ended October 2, 2005 and Sept. 26, 2004,
respectively, as the exercise price per share of these options
was greater than the average market value. If these shares were
included it would result in an anti-dilutive effect on diluted
earnings per share.
15
NOTE 8 - ACCUMULATED OTHER COMPREHENSIVE INCOME
The total comprehensive income for the first fiscal nine months
ended October 2, 2005 was $8.0 billion, compared with $7.4
billion for the same period a year ago. The total comprehensive
income for the fiscal third quarter ended October 2, 2005 was
$2.7 billion, compared with $2.4 billion for the same period a
year ago. Total comprehensive income included net earnings, net
unrealized currency gains and losses on translation, net
unrealized gains and losses on available for sale securities and
net gains and losses on derivative instruments qualifying and
designated as cash flow hedges. The following table sets
forth the components of accumulated other comprehensive
income.
Total
Unrld Gains/ Accum
For. Gains/ Pens (Losses) Other
Cur. (Losses) Liab on Deriv Comp
Trans. on Sec Adj. & Hedg Inc/
(Loss)
January 2, 2005 $ (105) 86 (346) (150) (515)
2005 nine months changes:
Net change associated
with current period
hedging transactions - - - 414
Net amount reclassed to
net earnings - - - (313)*
Net nine months
changes (314) (23) - 101 (236)
October 2, 2005 $ (419) 63 (346) (49) (751)
Amounts in accumulated other comprehensive income are presented
net of the related tax impact. Foreign currency translation
adjustments are not currently adjusted for income taxes, as they
relate to permanent investments in international subsidiaries.
*Primarily offset in net earnings by changes in value of the
underlying transactions.
NOTE 9 - MERGERS, ACQUISITIONS AND DIVESTITURES
On December 15, 2004, the Company announced the signing of a
definitive agreement to acquire Guidant Corporation (Guidant), a
world leader in the treatment of cardiac and vascular disease,
for $25.4 billion in fully diluted equity value. The Boards of
Directors of the Company and Guidant, as well as the shareholders
of Guidant have given their respective approvals for the
transaction. On November 2, 2005, the Company was notified that
the Federal Trade Commission conditionally approved the proposed
transaction and that such approval was conditioned upon the
Company divesting certain rights and assets of its businesses
in drug-eluting stents, endoscopic vessel harvesting products,
and anastomotic assist devices. The Company continues to view
the previously announced product recalls at Guidant and the
related regulatory investigations, claims and other developments
as serious matters affecting both Guidant's short-term results and
16
long-term outlook. The Company believes that these events have
had a material adverse effect on Guidant, and, as a result, the
Company is not required under the terms of the merger agreement to
close the Guidant acquisition. The Company has had discussions
with Guidant regarding a restructuring of the terms of the
transaction, although those discussions have not resulted in any
agreement between the companies. The Company cannot assure that
the companies will resume those discussions or, if discussions do
resume, whether they will be able to reach agreement on revised
terms that would allow the Company to proceed with the
transaction. On November 7, 2005 Guidant filed a lawsuit against
the Company, which is described in Note 12 (Legal Proceedings).
On April 4, 2005 the Company completed its acquisition of
TransForm Pharmaceuticals, Inc., a company specializing in the
discovery of superior formulations and novel crystalline forms of
drug molecules, for $230 million. During the fiscal second
quarter of 2005 a one-time before and after-tax charge of $50
million reflecting the expensing of IPR&D charges was incurred.
On June 3, 2005 the Company completed its acquisition of Closure
Medical Corporation, a company with expertise and intellectual
property in the biosurgicals market, for a net purchase price of
$364 million. During the fiscal second quarter of 2005 a one-time
before and after-tax charge of approximately $51 million
reflecting the expensing of IPR&D charges was incurred.
On June 30, 2005 the Company completed its acquisition of
Peninsula Pharmaceuticals, Inc., a privately held
biopharmaceutical company focused on developing and
commercializing antibiotics to treat life-threatening infections,
for a purchase price of approximately $245 million. During the
fiscal second quarter of 2005, a one-time before and after-tax
charge of approximately $252 million reflecting the expensing of
IPR&D charges was incurred.
The Company's 2004 acquisitions included: Merck's 50% interest in
the Johnson & Johnson-Merck Consumer Pharmaceuticals Co. European
non-prescription pharmaceutical joint venture including all of
the infrastructure and brand assets managed by the European joint
venture; Egea Biosciences, Inc., which has developed a
proprietary technology platform called Gene Writer, that allows
for the rapid and highly accurate synthesis of DNA sequences,
gene assembly, and construction of large synthetic gene
libraries, through the exercise of the option to acquire the
remaining outstanding stock not owned by Johnson & Johnson;
Artemis Medical, Inc. a privately held company with ultrasound
and x-ray visible biopsy site breast markers as well as hybrid
markers; U.S. commercial rights to certain patents and know-how
in the field of sedation and analgesia from Scott Lab, Inc.;
Biapharm SAS, a privately held French producer and marketer of
skin care products centered around the leading brand BIAFINE(r);
the assets of Micomed, a privately owned manufacturer of spinal
implants primarily focused on supplying the German market; and
the acquisition of the AMBI(r) skin care brand for women of color.
17
NOTE 10 - PRO FORMA STOCK BASED COMPENSATION
At October 2, 2005, the Company had 17 stock-based employee
compensation plans. The Company accounts for those plans under
the recognition and measurement principles of Accounting
Principle Board Opinion No. 25 "Accounting for Stock Issued to
Employees" and its related Interpretations. Compensation
costs were not recorded in net income for stock options, as
all options granted under those plans had an exercise price
equal to the market value of the underlying common stock on the
date of grant.
As required by SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of
FASB Statement No. 123," the following table shows the
estimated effect on net income and earnings per share if
the Company had applied the fair value recognition
provision of SFAS No. 123, "Accounting for Stock-Based
Compensation," to stock-based employee compensation.
(Dollars in Millions
Except Per Share Data) Fiscal Third Quarter Ended
October 2, 2005 Sept. 26, 2004
Net income,
as reported $ 2,625 2,341
Less:
Compensation
expense(1) 87 88
Net Income,pro forma $ 2,538 2,253
Earnings per share:
Basic - as reported $.88 $.79
- pro forma .85 .76
Diluted - as reported $.87 $.78
- pro forma .85 .75
(1) Determined under fair value based method for all awards,
net of tax.
(Dollars in Millions
Except Per Share Data) Fiscal Nine Months ended
October 2, 2005 Sept. 26, 2004
Net income,
as reported $ 8,228 7,292
Less:
Compensation
expense(1) 263 254
Net Income, pro forma $ 7,965 7,038
Earnings per share:
Basic - as reported $2.77 $2.46
- pro forma 2.68 2.37
Diluted - as reported $2.73 $2.43
- pro forma 2.65 2.36
(1) Determined under fair value based method for all awards,
net of tax.
18
NOTE 11 - PENSIONS AND OTHER POSTRETIREMENT BENEFITS
Components of Net Periodic Benefit Cost
Net periodic benefit cost for the Company's defined benefit
retirement plans and other benefit plans for the fiscal third
quarters of 2005 and 2004 include the following components:
(Dollars in Millions)
Retirement Plans Other Benefit Plans
Fiscal Third Quarter ended
October 2, Sept. 26, October 2, Sept. 26,
2005 2004 2005 2004
Service cost $ 107 107 14 13
Interest cost 120 114 22 26
Expected return on
plan assets (144) (129) (1) (1)
Amortization of prior
service cost 3 4 (3) (1)
Amortization of net
transition asset (1) (1) - -
Recognized actuarial
losses 54 52 6 10
Net periodic benefit cost $ 139 147 38 47
Net periodic benefit cost for the Company's defined benefit
retirement plans and other benefit plans for the first fiscal
nine months of 2005 and 2004 include the following components:
(Dollars in Millions)
Retirement Plans Other Benefit Plans
Fiscal Nine Months ended
October 2, Sept. 26, October 2, Sept. 26,
2005 2004 2005 2004
Service cost $ 323 319 42 37
Interest cost 366 339 66 77
Expected return on
plan assets (435) (387) (3) (2)
Amortization of prior
service cost 9 11 (6) (2)
Amortization of net
transition asset (2) (2) - -
Recognized actuarial
losses 165 155 19 32
Net periodic benefit cost $ 426 435 118 142
Company Contributions
As of October 2, 2005, the Company contributed $16 million and
$26 million to its U.S. and international retirement plans,
respectively, in 2005. The Company does not anticipate a minimum
statutory funding requirement for its U.S. retirement plans in
2005. However the Company may or may not choose to further fund
19
the plans in 2005. International plans will be funded in
accordance with local regulations.
NOTE 12 - LEGAL PROCEEDINGS
Product Liability
The Company is involved in numerous product liability cases in
the United States, many of which concern adverse reactions to
drugs and medical devices. The damages claimed are substantial,
and while the Company is confident of the adequacy of the
warnings and instructions for use that accompany such products,
it is not feasible to predict the ultimate outcome of litigation.
However, the Company believes that if any liability results from
such cases, it will be substantially covered by existing amounts
accrued in the Company's balance sheet under its self-insurance
program and by third-party product liability insurance.
One group of cases against the Company concerns the Janssen
Pharmaceutica Inc. ("Janssen") product PROPULSID (cisapride),
which was withdrawn from general sale and restricted to limited
use in 2000. In the wake of publicity about those events,
numerous lawsuits were filed against Janssen and the Company
regarding PROPULSID in state and federal courts across the
country.
These actions seek substantial compensatory and punitive damages
and accuse Janssen and the Company of inadequately testing for
and warning about the drug's side effects, of promoting it for
off-label use and over promotion. In addition, Janssen and the
Company have entered into tolling agreements with various
plaintiffs' counsel halting the running of the statutes of
limitations with respect to the potential claims of a significant
number of individuals while those attorneys evaluate whether or
not to sue Janssen and the Company on their behalf.
On February 5, 2004, Janssen announced that it had reached an
agreement in principle with the Plaintiffs Steering Committee
(PSC) of the PROPULSID Federal Multi-District Litigation (MDL),
to resolve federal lawsuits related to PROPULSID. The agreement
was to become effective once 85% of the death claimants, and 75%
of the remainder, agreed to the terms of the settlement. In
addition, 12,000 individuals who had not filed lawsuits, but
whose claims were the subject of tolling agreements suspending
the running of the statutes of limitations against those claims,
also had to agree to participate in the settlement before it
became effective.
On March 24, 2005, it was confirmed that the PSC of the MDL had
enrolled enough plaintiffs and claimants in the settlement
program to make the agreement effective. Of the 282 death
plaintiffs subject to the program, 255 (90%) are confirmed
enrolled. Of the 3,538 other plaintiffs subject to the program,
3,156 (89%) are confirmed enrolled. In addition, 19,775 "tolled"
claimants are confirmed as enrolled. Those participating in the
settlement will submit medical records to an independent panel of
physicians who will determine whether the claimed injuries were
caused by PROPULSID and otherwise meet the standards for
compensation. If those standards are met, a court-appointed
special master will
20
determine compensatory damages. Janssen has paid into a
compensation escrow account $72.3 million and could pay up to an
additional $17.7 million depending on the number of plaintiffs
that enroll in the program. Enrollment will remain open until
December 15, 2005. Janssen has established an administrative
fund of $15 million, and paid legal fees to the PSC of $22.5
million, which amount was approved by the court.
Not participating in the settlement program are 2,547 plaintiffs
and 7,843 tolled claimants. Of those, 453 plaintiffs are
potentially subject to the MDL settlement but have not to date
enrolled in it; 1,532 plaintiffs filed cases in federal court
subsequent to February 1, 2004, and thus are not subject to the
MDL settlement; and 562 have state court actions and thus are not
subject to the settlement. Of those not participating in or
subject to the MDL settlement, 159 plaintiffs are alleged to have
died from use of the drug and 2,388 assert other personal injury
claims. The nature of the claims of the tolled claimants are
unknown. Of the remaining federal and state plaintiffs, 2,254
cases (89%) are venued in Mississippi.
With respect to all the various PROPULSID actions against them,
Janssen and the Company dispute the claims in those lawsuits and
are vigorously defending against them except where, in their
judgment, settlement is appropriate. Janssen and the Company
believe they have adequate self-insurance accruals and third-
party product liability insurance with respect to these cases. In
communications to the Company, the excess insurance carriers have
raised certain defenses to their liability under the policies and
to date have declined to reimburse Janssen and the Company for
PROPULSID-related costs despite demand for payment. In May
2005, hearings were held in London in the arbitration proceeding
commenced by Janssen and the Company against Allianz Underwriters
Insurance Company, which issued the first layer of applicable
excess insurance coverage, to obtain reimbursement of PROPULSID-
related costs. Final arguments in that matter were held on July
22, 2005 and a decision is expected before the end of 2005. In
May 2005, the Company commenced arbitration against Lexington
Insurance Company, which issued the second layer of excess
insurance coverage. In the opinion of the Company, the excess
carriers remain legally obligated to provide coverage for the
PROPULSID-related losses at issue.
Affirmative Stent Patent Litigation
In patent infringement actions tried in Delaware Federal District
Court in late 2000, Cordis Corporation (Cordis), a subsidiary of
Johnson & Johnson, obtained verdicts of infringement and patent
validity, and damage awards against Boston Scientific Corporation
(Boston Scientific) and Medtronic AVE, Inc. (Medtronic) based on
a number of Cordis vascular stent patents. On December 15, 2000,
the jury in the damage action against Boston Scientific returned
a verdict of $324 million and on December 21, 2000, the jury in
the Medtronic action returned a verdict of $271 million. These
sums represent lost profit and reasonable royalty damages to
compensate
21
Cordis for infringement but do not include pre or post
judgment interest.
In March and May 2002, the district judge issued post trial
rulings that confirmed the validity and enforceability of the
main Cordis stent patent claims but found certain other Cordis
patents unenforceable. Further, the district judge granted Boston
Scientific a new trial on liability and damages and vacated the
verdict against Medtronic on legal grounds. On August 12, 2003,
the Court of Appeals for the Federal Circuit found the trial
judge erred in vacating the verdict against Medtronic and
remanded the case to the trial judge for further proceedings. In
March 2005, the remaining issues were tried in the remanded case
against Medtronic and the retrial proceeded against Boston
Scientific. Juries returned verdicts of infringement and patent
validity in favor of Cordis in both retrials. Cordis has
requested the trial court to reinstate with interest the verdicts
obtained against those entities in 2000. Defendants in both cases
have filed post-trial motions seeking to vacate the jury verdicts
or, alternatively, grant them a new trial on damages. Cordis
also has pending in Delaware Federal District Court a second
action against Medtronic AVE accusing Medtronic of infringement
by sale of stent products introduced by Medtronic subsequent to
its GFX and MicroStent products, the subject of the earlier
action referenced above. That second action was stayed in April
2005 pending the outcome of an arbitration concerning Medtronic's
claim that the products at issue in that case are licensed
pursuant to a 1997 license.
In January 2003, Cordis filed a patent infringement action
against Boston Scientific in Delaware Federal District Court
accusing its Express2, TAXUS and Liberte stents of infringing the
PALMAZ patent that expires in November 2005. The Liberte stent
was also accused of infringing Cordis' GRAY patent that expires
in 2016. In June 2005, a jury found that the Express2, Taxus
and Liberte stents infringed the PALMAZ patent and that the
Liberte stent also infringed the GRAY patent. Boston Scientific
will ask the trial judge to vacate the verdicts and, if
unsuccessful, there will be a trial on damages and willfulness in
the future.
Patent Litigation Against Various Johnson & Johnson Subsidiaries
The products of various Johnson & Johnson subsidiaries are the
subject of various patent lawsuits, the outcomes of which could
potentially adversely affect the ability of those subsidiaries to
sell those products, or require the payment of past damages and
future royalties. With respect to all of these matters, the
Johnson & Johnson subsidiary involved is vigorously defending
against the claims of infringement and disputing where
appropriate the validity and enforceability of the patent claims
asserted against it.
On July 1, 2005, a jury in Federal District Court in Delaware
found that the Cordis CYPHER stent infringed Boston Scientific's
Ding `536 patent and that the Cordis CYPHER and BX VELOCITY
stents also infringed Boston Scientific Corporation's Jang `021
patent.
22
The jury also found both those patents valid. Cordis has asked the
judge to overturn the jury verdicts or grant a new trial. If the
judge does not overturn the jury verdicts, there will be a damage
and willfulness trial in 2006 and Boston Scientific will seek an
injunction against CYPHER. If upheld by the trial court, Cordis
will appeal the jury verdicts to the Court of Appeals for the
Federal Circuit. In March of 2006, Boston Scientific's case
asserting infringement by the CYPHER stent of another Boston
Scientific patent is scheduled for trial in Delaware Federal
District Court. In that case as well, Boston Scientific seeks an
injunction and substantial damages.
On January 26, 2005, the Federal District Court for the Southern
District of Florida granted Cordis summary judgment dismissing a
breach of contract and patent infringement suit filed against
Cordis by Arlaine and Gina Rockey seeking royalties on the sales
of all Cordis balloon expandable stents. Plaintiffs have filed an
appeal with the Court of Appeals for the Federal Circuit.
On June 8, 2005, in an action brought by Boston Scientific
against Cordis in the Netherlands under the Kastenhofer patent,
Cordis was enjoined from manufacturing and selling in the
Netherlands two-layer catheters, including those used with the
CYPHER stent. The injunction was stayed by another Dutch court,
but that stay was lifted on October 12, 2005. Cordis does not
anticipate a disruption in the supply of CYPHER product outside
the Netherlands from the injunction.
In the Belgian action filed by Boston Scientific under the
Kastenhofer patent, Boston Scientific is seeking a Pan-European
injunction against the sale of infringing catheters, i.e., an
injunction that would be effective not just in Belgium but in all
of the countries served by the European Patent Office. Trial has
not been scheduled but could occur during 2006.
In the action against Centocor pursued by Chiron and Rockefeller
University asserting infringement by REMICADE of the Cerami
patent, the district court in East Texas recently issued an
unfavorable claim interpretation ruling. Trial is set for
February 2006 and Centocor is vigorously defending the action.
The following chart summarizes various patent lawsuits concerning
products of Johnson & Johnson subsidiaries.
Product J&J Patents Plaintiff/Patent Court Trial Date
Company Holder Date Filed
Drug Cordis Ding Boston Scientific Germany TBD 02/04
Eluting Corp.
Stents
Drug Cordis Grainger Boston Scientific D.Del. 03/06 12/03
Eluting Corp.
Stents
Stents Cordis Boneau Medtronic Inc. Arbitration 11/05 4/02
23
Two-layer Cordis Kasten- Boston Scientific N.D.Cal. TBD 2/02
Catheters hofer Corp. Belgium TBD 12/03
Forman
REMICADE Centocor Cerami Rockefeller E.D.Tex. 2/06 04/04
University and
Chiron Corporation
Stents Cordis Israel Medinol Multiple TBD 05/03
E.U.
jurisdictions
Contact Vision Nicolson CIBA Vision M.D. Fla. TBD 09/03
Lenses Care
Litigation Against Filers of Abbreviated New Drug Applications
(ANDAs)
The following chart indicates lawsuits pending against generic
firms that filed Abbreviated New Drug Applications seeking to
market generic forms of products sold by various subsidiaries of
the Company prior to expiration of the applicable patents
covering those products. These ANDAs typically include
allegations of non-infringement, invalidity and unenforceability
of these patents. In the event the subsidiary of the Company
involved is not successful in these actions, or the 30-month stay
expires before a ruling from the district court is obtained, the
firms involved will have the ability to introduce generic
versions of the product at issue resulting in very substantial
market share and revenue losses for the product of the Company's
subsidiary.
As previously communicated and noted from the chart below, 30-
month stays are scheduled to expire during 2006 with respect to
ANDA challenges regarding TRI-CYCLEN LO, RISPERDAL and TOPAMAX.
Trials are not expected to occur before the expiration of the
stays with respect to TRI-CYCLEN LO or RISPERDAL, but could occur
in the case of TOPAMAX. Unless 30-month stays are extended or
preliminary injunctions granted, outcomes which are uncertain,
final FDA approval to market will occur shortly after expiration
of the 30-month stays. Because a firm that launches an ANDA
product before trial would be liable potentially for lost profits
if found at trial to infringe a valid patent, typically ANDA
products are not launched under such circumstances. Nonetheless,
such "at risk" launches have occurred in cases involving drugs
of Johnson & Johnson subsidiaries, and the risk of such a launch
cannot be ruled out.
Brand Name Patent/NDA Generic Court Trial Date 30-
Product Holder Challenger Date Filed Month
Stay
Expires
ACIPHEX 20 mg Eisai Teva S.D.N.Y. TBD 11/03 02/07
delay
release tablet (for Dr. Reddy's S.D.N.Y. TBD 11/03 02/07
Janssen)
Mylan S.D.N.Y. TBD 01/04 02/07
CONCERTA McNeil-PPC Impax D. Del. TBD 09/05 None
18, 27, 36 and
54 mg ALZA Andrx
controlled
release tablet
DITROPAN XL 5, Ortho- Mylan D.W.V. 02/05 05/03 09/05
24
10, 15 mg McNeil
controlled ALZA Impax N.D.Cal. 12/05 09/03 01/06
release tablet
LEVAQUIN Daiichi, Mylan D.W.V. 05/04 02/02 07/04
Tablets
250, 500, 750 JJPRD
mg tablets
Ortho- Teva D.N.J. TBD 06/02 11/04
McNeil
LEVAQUIN Daiichi, Sicor (Teva) D.N.J. TBD 12/03 05/06
Injectable JJPRD
Single use Ortho-
vials and 5 McNeil
mg/ml premix
LEVAQUIN Daiichi, American D.N.J. TBD 12/03 05/06
Injectable JJPRD Pharmaceutic
al
Single use Ortho- Partners
vials McNeil
QUIXIN Daiichi, Hi-Tech D.N.J. TBD 12/03 05/06
Ophthalmic Pharmacal
Solution
(Levofloxacin) Ortho-
Ophthalmic McNeil
solution
ORTHO TRI Ortho- Barr D.N.J. TBD 10/03 02/06
CYCLEN LO McNeil
0.18 mg/0.025
mg,
0.215 mg/0.025
mg
and 0.25
mg/0.025 mg
PEPCID Complete McNeil-PPC Perrigo S.D.N.Y. TBD 02/05 06/07
RAZADYNE Janssen Teva D. Del TBD 07/05 01/08
Mylan D. Del TBD 07/05 01/08
Dr. Reddy's D. Del TBD 07/05 01/08
Purepac D. Del TBD 07/05 01/08
Barr D. Del TBD 07/05 01/08
Par D. Del TBD 07/05 01/08
AlphaPharm D. Del TBD 07/05 01/08
RISPERDAL Janssen Mylan D.N.J. TBD 12/03 05/06
Tablets
..25, 0.5, 1, 2, Dr. Reddy's D.N.J. TBD 12/03 06/06
3, 4 mg
tablets
RISPERDAL M-Tab Janssen Dr. Reddy's D.N.J. TBD 02/05 07/07
0.5, 1, 2, 3, 4 Barr D.N.J. TBD 10/05 02/08
mg
TOPAMAX Ortho- Mylan D.N.J. TBD 04/04 09/06
McNeil
25, 50, 100, Cobalt D.N.J. TBD 10/05 03/08
200 mg tablet
ULTRACET 37.5 Ortho- Kali (Par) D.N.J. TBD 11/02 04/05
tram/ McNeil
25
325 apap tablet Teva D.N.J. TBD 02/04 07/06
Caraco E.D. Mich. 03/06 09/04 02/07
In the action against Mylan involving Ortho-McNeil's DITROPAN XL
(oxybutynin chloride), the court on September 27, 2005, found the
Ditropan XL Patent invalid and not infringed by Mylan's ANDA
product. Ortho-McNeil and ALZA will appeal. Mylan has not yet
received final FDA approval to launch its ANDA product, but such
approval could come at any point. In the action against Impax,
Impax has moved for judgment of invalidity based on the decision
in the Mylan suit.
In the action against Mylan Pharmaceuticals USA (Mylan) involving
Ortho-McNeil Pharmaceutical, Inc. (Ortho-McNeil) for LEVAQUIN
(levofloxacin), the trial judge on December 23, 2004 found the
patent at issue valid, enforceable and infringed by Mylan's ANDA
product and issued an injunction precluding sale of the product
until patent expiration in late 2010. Mylan has appealed to the
Court of Appeals for the Federal Circuit.
In the action against Kali involving Ortho-McNeil's ULTRACET
(tramadol hydrochloride/ acetaminophen), Kali moved for summary
judgment on the issues of infringement and invalidity. The
briefing on that motion was completed in October 2004 and a
decision is expected anytime. With respect to claims other than
that at issue in the litigation against Kali, Ortho-McNeil has
filed a reissue application in the U.S. Patent and Trademark
Office seeking to narrow the scope of the claims. Kali received
final approval of its ANDA at expiration of the 30-month stay on
April 21, 2005, and launched its generic product the same day. If
Ortho-McNeil ultimately prevails in its patent infringement
action against Kali, Kali will be subject to an injunction and
damages.
In the action against Teva Pharmaceuticals USA (Teva) involving
Ortho-McNeil's ULTRACET (tramadol hydrocholoride/acetaminophen),
Teva has moved for summary judgment on the issues of infringement
and validity. The briefing on that motion was completed in March
2005.
In the action against Caraco involving Ortho-McNeil's ULTRACET
(tramadol hydrocholoride/acetaminophen), Caraco has moved for
summary judgment of non-infringement. The motion was argued on
October 7 and granted on October 20, 2005. Ortho-McNeil will
appeal.
With respect to all of the above matters, the Johnson & Johnson
subsidiary involved is vigorously defending the validity and
enforceability and asserting the infringement of its own or its
licensor's patents.
26
Average Wholesale Price (AWP) Litigation
Johnson & Johnson and its pharmaceutical subsidiaries, along with
numerous other pharmaceutical companies, are defendants in a
series of lawsuits in state and federal courts involving
allegations that the pricing and marketing of certain
pharmaceutical products amounted to fraudulent and otherwise
actionable conduct because, among other things, the companies
allegedly reported an inflated Average Wholesale Price (AWP) for
the drugs at issue. Most of these cases, both federal actions and
state actions removed to federal court, have been consolidated
for pre-trial purposes in a Multi-District Litigation (MDL) in
federal district court in Boston, Massachusetts. The plaintiffs
in these cases include classes of private persons or entities
that paid for any portion of the purchase of the drugs at issue
based on AWP, and state government entities that made Medicaid
payments for the drugs at issue based on AWP. In the MDL
proceeding in Boston, plaintiffs have moved for class
certification of all or some portion of their claims. On August
16, 2005, the trial judge certified Massachusetts only classes of
private insurers providing "Medi-gap" insurance coverage and
private payers for physician-administered drugs where payments
were based on AWP. The judge also allowed plaintiffs to file a
new complaint seeking to name proper parties to represent a
national class of individuals who made co-payments for physician-
administered drugs covered by Medicare. Appeals of the judge's
ruling will now be pursued.
Other
The New York State Attorney General's office (N.Y. AG) and the
Federal Trade Commission issued subpoenas in January and February
2003 seeking documents relating to the marketing of sutures and
endoscopic instruments by the Company's Ethicon and Ethicon Endo
subsidiaries. In February 2005, the N.Y. AG advised that it had
closed its investigation. The Connecticut State Attorney
General's office also issued a subpoena for the same documents.
These subpoenas focus on the bundling of sutures and endoscopic
instruments in contracts offered to Group Purchasing
Organizations and individual hospitals in which discounts are
predicated on the hospital achieving specified market share
targets for both categories of products. The operating companies
involved have responded to the subpoenas.
On June 26, 2003, the Company received a request for records and
information from the U.S. House of Representatives' Committee on
Energy and Commerce in connection with its investigation into
pharmaceutical reimbursements and rebates under Medicaid. The
Committee's request focuses on the drug REMICADE (infliximab),
marketed by the Company's Centocor, Inc. (Centocor) subsidiary.
On July 2, 2003, Centocor received a request that it voluntarily
provide documents and information to the criminal division of the
U.S. Attorney's Office, District of New Jersey, in connection
with its investigation into various Centocor marketing practices.
Subsequent requests for documents have been received from the
U.S. Attorney's Office. Both the Company and Centocor responded,
or are
27
in the process of responding, to these requests for documents and
information.
On August 1, 2003, the Securities and Exchange Commission (SEC)
advised the Company of its informal investigation under the
Foreign Corrupt Practices Act of allegations of payments to
Polish governmental officials by U.S. pharmaceutical companies.
On November 21, 2003, the SEC advised the Company that the
investigation had become formal and issued a subpoena for the
information previously requested in an informal fashion, in
addition to other background documents. The Company and its
operating units in Poland have responded to these requests.
On December 8, 2003, Ortho-McNeil, a subsidiary of Johnson &
Johnson, received a subpoena from the United States Attorney's
Office in Boston, Massachusetts seeking documents relating to the
marketing, including alleged off-label marketing, of the drug
TOPAMAX (topiramate). Ortho-McNeil is cooperating in responding
to the subpoena. In October 2004, the U.S. Attorney's Office in
Boston asked attorneys for Ortho-McNeil to cooperate in
facilitating the subpoenaed testimony of several present and
former Ortho-McNeil employees before a grand jury in Boston.
Cooperation in securing the testimony of additional witnesses
before the grand jury has been requested and is being provided.
On January 20, 2004, the Company's subsidiary, Janssen, received
a subpoena from the Office of the Inspector General of the United
States Office of Personnel Management seeking documents
concerning sales and marketing of, any and all payments to
physicians in connection with sales and marketing of, and
clinical trials for, RISPERDAL (risperidone) from 1997 to 2002.
Documents subsequent to 2002 have also been requested. Janssen is
cooperating in responding to the subpoena.
In April 2004, the Company's pharmaceutical companies were
requested to submit information to the U.S. Senate Finance
Committee on their use of the "nominal pricing exception" in
calculating Best Price under the Medicaid Rebate Program. This
request was sent to manufacturers for the top twenty drugs
reimbursed under the Medicaid Program. The Company's
pharmaceutical companies have responded to the request. In
February 2005 a request for supplemental information was received
from the Senate Finance Committee, which has been responded to by
the Company's pharmaceutical companies.
On July 27, 2004, the Company received a letter request from the
New York State Attorney General's Office for documents pertaining
to marketing, off-label sales and clinical trials for TOPAMAX
(topiramate), RISPERDAL (risperidone), PROCRIT (Epoetin alfa),
REMINYL (galantamine HBr), REMICADE (infliximab) and ACIPHEX
(rabeprazole sodium). The Company is responding to the request.
On August 9, 2004, Johnson & Johnson Health Care Systems, Inc.
(HCS), a Johnson & Johnson subsidiary, received a subpoena from
the Dallas, Texas U. S. Attorney's Office seeking documents
28
relating to the relationships between the group purchasing
organization Novation and HCS and other Johnson & Johnson
subsidiaries. The Company's subsidiaries involved are responding
to the subpoena.
On September 30, 2004, Ortho Biotech Inc. (Ortho Biotech), a
Johnson & Johnson subsidiary, received a subpoena from the U.S.
Office of Inspector General's Denver, Colorado field office
seeking documents directed to sales and marketing of PROCRIT
(Epoetin alfa) from 1997 to the present. Ortho Biotech is
responding to the subpoena.
In March 2005, DePuy Orthopaedics, Inc. (DePuy), a Johnson &
Johnson subsidiary, received a subpoena from the U.S. Attorney's
Office, District of New Jersey, seeking records concerning
contractual relationships between DePuy and surgeons or surgeons
in training involved in hip and knee replacement and
reconstructive surgery. Other leading orthopaedic companies are
known to have received the same subpoena. DePuy is responding to
the subpoena.
On June 9, 2005, The United States Senate Committee on Finance
requested the Company to produce information regarding its use of
educational grants. A similar request was sent to other major
pharmaceutical companies. On July 5, 2005, the Committee
specifically requested information about educational grants in
connection with the drug PROPULSID. The Company is in the
process of responding to the request.
On July 20, 2005, Scios, Inc. (Scios), a Johnson & Johnson
subsidiary, received a subpoena from the United States Attorney's
Office, District of Massachusetts, seeking documents related to
the sales and marketing of NATRECOR. Scios is responding to the
subpoena. In early August 2005, Scios was advised that the
investigation will be handled by the United States Attorney's
Office for the Northern District of California in San Francisco,
rather than the United States Attorney's Office in Boston,
Massachusetts.
On September 26, 2005, Johnson & Johnson received a subpoena from
the United States Attorney's Office, District of Massachusetts,
seeking documents related to sales and marketing of eight drugs
to Omnicare, Inc., a manager of pharmaceutical benefits for long-
term care facilities. The Johnson & Johnson subsidiaries
involved are in the process of responding to the subpoena.
In September 2004, plaintiffs in an employment discrimination
litigation initiated against the Company in 2001 in Federal
District Court in New Jersey moved to certify a class of all
African American and Hispanic salaried employees of the Company
and its affiliates in the United States, who were employed at any
time from November 1997 to the present. Plaintiffs seek monetary
damages for the period 1997 through the present (including
punitive damages) and equitable relief. The Company filed its
response to plaintiffs' class certification motion in May 2005. A
29
decision by the District Court is not expected until 2006. The
Company disputes the allegations in the lawsuit and is vigorously
defending against them.
The Company, along with its wholly owned Ethicon and Ethicon Endo
subsidiaries, are defendants in three federal antitrust actions
challenging suture and endo-mechanical contracts with Group
Purchasing Organizations and hospitals in which discounts are
predicated on a hospital achieving specified market share targets
for both categories of products. In each case, plaintiffs seek
substantial monetary damages and injunctive relief. In Applied
Medical v. Ethicon Inc. et al (C.D.CA, filed September 5, 2003),
fact discovery is complete and the defendants have moved for
summary judgment on all claims. In Conmed v. Johnson & Johnson et
al (S.D.N.Y., filed November 6, 2003), fact discovery is also
complete and summary judgment motions have been filed by
defendants on all claims. In Genico v. Ethicon, Inc. et al (E.D.
TX, filed October 15, 2004) written discovery is underway.
After a remand from the Federal Circuit Court of Appeals in
January 2003, a partial retrial was commenced in October and
concluded in November 2003 in Federal District Court in Boston,
Massachusetts in the action Amgen v. Transkaryotic Therapies,
Inc. (TKT) and Aventis Pharmaceutical, Inc. (Aventis). The matter
is a patent infringement action brought by Amgen against TKT, the
developer of a gene-activated EPO product, and Aventis, which
held marketing rights to the TKT product, asserting that TKT's
product infringes various Amgen, Inc. (Amgen) patent claims. TKT
and Aventis dispute infringement and are seeking to invalidate
the Amgen patents asserted against them. On October 15, 2004, the
district court issued rulings that upheld its initial findings in
2001 that Amgen's patent claims were valid and infringed. An
appeal is pending. The Amgen patents at issue in the case are
exclusively licensed to Ortho Biotech Inc. in the U.S. for non-
dialysis indications. Ortho Biotech Inc. is not a party to the
action.
On November 7, 2005, Guidant Corporation filed a civil suit in the
United States District Court for the Southern District of New York
alleging that the Company is required to complete the acquisition
of Guidant under the merger agreement the companies entered into
in December 2004. The complaint seeks an order compelling the
Company to effect the purchase of Guidant at $76 a share. The
Company believes it is not required under the terms of the merger
agreement to close the Guidant transaction. It views the
previously announced product recalls at Guidant and the related
regulatory investigations, claims and other developments as
serious matters affecting both the short-term results and long-
term outlook for Guidant. The Company believes those events have
had a material adverse effect on Guidant and, as a result, that
it is not required to close the acquisition. The Company will
vigorously defend itself against the allegations in Guidant's
complaint.
The Company is also involved in a number of other patent,
trademark and other lawsuits incidental to its business. The
30
ultimate legal and financial liability of the Company in respect
to all claims, lawsuits and proceedings referred to above cannot
be estimated with any certainty. However, in the Company's
opinion, based on its examination of these matters, its
experience to date and discussions with counsel, the ultimate
outcome of legal proceedings, net of liabilities already accrued
in the Company's balance sheet, is not expected to have a
material adverse effect on the Company's financial position,
although the resolution in any reporting period of one or more of
these matters could have a significant impact on the Company's
results of operations and cash flows for that period.
NOTE 13 - SUBSEQUENT EVENTS
On October 24, 2005 the Company entered into a definitive
agreement to purchase the Rembrandt Brand of oral care products
from The Gillette Company. The transaction is anticipated to
close in the fourth quarter of 2005, subject to regulatory
approvals and the customary closing conditions.
On October 26, 2005 the Company announced the conclusion of an
agreement to jointly develop and market BAY 59-7939 (Factor Xa
inhibitor) for the prevention and treatment of thrombosis with
Bayer HealthCare. BAY 59-7939 is currently undergoing Phase II
clinical trials.
On October 27, 2005 the Company received a not approvable letter
from the FDA on the New Drug Application for dapoxetine
hydrochloride, an investigational compound for the treatment of
premature ejaculation(PE). The Company continues to believe that
dapoxetine provides important benefits for men who suffer from PE
and plans to address questions raised in the FDA letter and
continue the global development program.
Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
Analysis of Consolidated Sales
For the first fiscal nine months of 2005, worldwide sales were
$37.9 billion, an increase of 9.6% over 2004 first fiscal nine
month sales of $34.6 billion. The impact of foreign currencies
accounted for 1.7% of the total reported fiscal nine month
increase.
Sales by U.S. companies were $21.3 billion in the first fiscal
nine months of 2005, which represented an increase of 4.5% over
the same period last year. Sales by international companies were
$16.6 billion, which represented an increase of 16.8%, of which
4.0% was due to currency fluctuations.
All international regions throughout the world posted double
digit sales increases during the first fiscal nine months of 2005
as sales increased 13.5% in Europe, 21.6% in the Western
Hemisphere (excluding the U.S.) and 21.1% in the Asia-Pacific,
Africa region. These sales gains included the positive impact of
currency fluctuations between the U.S. dollar and foreign
currencies in Europe of 3.4%, in the Western Hemisphere
(excluding the U.S.) of 9.4% and in the Asia-Pacific, Africa
region of 2.8%.
For the fiscal third quarter of 2005, worldwide sales were $12.3
billion, an increase of 6.6% over 2004 fiscal third quarter sales
of $11.6 billion. The impact of foreign currencies accounted
for 0.8% of the total reported fiscal third quarter 2005
increase.
Sales by U.S. companies were $7.0 billion in the fiscal third
quarter of 2005, which represented an increase of 2.6%. Sales by
international companies were $5.3 billion, which represented an
increase of 12.2%, of which 1.9% was due to positive currency
fluctuations.
All international regions throughout the world posted sales
increases during the fiscal third quarter of 2005 as sales
increased 8.4% in Europe, 22.5% in the Western Hemisphere
(excluding the U.S.) and 14.4% in the Asia-Pacific, Africa
region. These sales gains included the impact of currency
31
fluctuations between the U.S. dollar and foreign currencies in
Europe of 0.5%, in the Western Hemisphere (excluding the U.S.) of
12.0% and in the Asia-Pacific, Africa region of 1.7%.
Analysis of Sales by Business Segments
Consumer
Consumer segment sales in the first fiscal nine months of 2005
were $6.8 billion, an increase of 11.8% over the same period a
year ago with 9.5% of operational growth and a positive currency
impact of 2.3%. U.S. Consumer segment sales increased by 6.2%
while international sales gains of 17.7% included a positive
currency impact of 4.6%.
Major Consumer Franchise Sales - First Fiscal Nine Months
Total Operations Currency
2005 2004 %Change %Change %Change
OTC Pharm & Nutr. $ 1,947 $ 1,662 17.1% 15.8% 1.3%
Skin Care 1,804 1,580 14.2 11.8 2.4
Women's Health 1,180 1,087 8.5 5.5 3.0
Baby & Kids Care 1,168 1,064 9.7 6.8 2.9
Other 690 678 1.8 (3.5) 5.3
Total $ 6,789 $6,071 11.8% 9.5% 2.3%
Consumer segment sales in the fiscal third quarter of 2005 were
$2.2 billion, an increase of 10.2% over the same period a year
ago with 8.5% of operational growth and a positive currency
impact of 1.7%. U.S. Consumer segment sales increased by 5.1%
while international sales gains of 15.5% included a positive
currency impact of 3.4%.
32
Major Consumer Franchise Sales - Fiscal Third Quarter
Total Operations Currency
2005 2004 %Change %Change %Change
OTC Pharm & Nutr. $ 634 $ 566 12.0% 11.1% 0.9%
Skin Care 582 509 14.3 13.0 1.3
Women's Health 398 371 7.3 4.7 2.6
Baby & Kids Care 396 361 9.5 7.1 2.4
Other 221 217 1.8 (0.2) 2.0
Total $ 2,231 $ 2,024 10.2% 8.5% 1.7%
Consumer segment sales growth in the fiscal third quarter was
attributable to strong sales performance in the major franchises
in this segment including OTC Pharmaceutical & Nutritional
products, Skin Care, Women's Health and Baby & Kids Care. OTC
Pharmaceutical & Nutritional operational sales growth of 11.1%
was primarily driven by continued growth in SPLENDA(r) No Calorie
Sweetener and adult and pediatric analgesics. This sales growth
was partially offset by the negative impact of restrictions
implemented on products containing pseudoephedrine, which will
continue to negatively impact the business during peak sales
cycles for the cold and flu season in the fiscal fourth quarter
of 2005 and the fiscal first quarter of 2006. In an effort to
mitigate this impact, the Company is in the process of reformulating
products containing pseudoephedrine. The Skin Care franchise
operational sales growth of 13.0% was attributed to
NEUTROGENA(r), AVEENO(r), CLEAN & CLEAR(r) and JOHNSON'S(r) adult
brands. The Women's Health franchise achieved operational growth
of 4.7% resulting from strong contributions from the K-Y(r) and
STAYFREE(r) product lines. The Baby & Kids Care franchise
operational sales growth of 7.1% resulted from continued success
with JOHNSON'S(r) SOFTWASH(r) AND SOFTLOTION(r) product lines and
babycenter.com.
Pharmaceutical
Pharmaceutical segment sales in the first fiscal nine months of
2005 were $16.8 billion, an increase of 3.4% over the same period
a year ago with 2.1% of this change due to operational increases
and the remaining 1.3% increase related to the positive impact of
currency. The U.S. Pharmaceutical sales decrease was 0.7% and
the growth in international Pharmaceutical sales was 11.8% which
included 3.9% related to the positive impact of currency.
Major Pharmaceutical Product Revenues - First Fiscal Nine Months
Total Operations Currency
2005 2004 %Change %Change %Change
RISPERDAL(r) $2,654 $2,203 20.5% 18.8% 1.7%
PROCRIT(r)/EPREX(r) 2,526 2,739 (7.8) (9.0) 1.2
REMICADE(r) 1,842 1,548 19.0 19.0 -
TOPAMAX(r) 1,267 1,029 23.1 21.7 1.4
DURAGESIC(r)/
Fentanyl Transdermal 1,226 1,548 (20.8) (22.5) 1.7
LEVAQUIN(r)/FLOXIN(r) 1,092 921 18.5 18.3 0.2
33
Hormonal Contraceptives 879 975 (9.8) (10.8) 1.0
ACIPHEX(r)/PARIET(tm) 859 786 9.2 7.0 2.2
Other 4,495 4,539 (1.0) (2.7) 1.7
Total $16,840 $16,288 3.4% 2.1% 1.3%
Pharmaceutical segment sales in the fiscal third quarter of 2005
were $5.5 billion, a decrease of 0.5% over the same period a year
ago with 1.1% of this change due to operational decreases,
partially offset by a 0.6% increase related to the positive
impact of currency. The U.S. Pharmaceutical sales decrease was
4.5% and the growth in international Pharmaceutical sales was
7.8% which included 1.8% related to the positive impact of
currency.
Major Pharmaceutical Product Revenues - Fiscal Third Quarter
Total Operations Currency
2005 2004 %Change %Change %Change
RISPERDAL(r) $916 $746 22.9% 22.4% 0.5%
PROCRIT(r)/EPREX(r) 844 887 (4.8) (5.3) 0.5
REMICADE(r) 624 545 14.5 14.5 -
TOPAMAX(r) 429 365 17.6 16.7 0.9
DURAGESIC(r)/
Fentanyl Transdermal 394 536 (26.5) (26.8) 0.3
LEVAQUIN(r)/FLOXIN(r) 332 270 22.8 22.5 0.3
Hormonal Contraceptives 281 304 (7.7) (8.5) 0.8
ACIPHEX(r)/PARIET(tm) 300 276 8.6 7.6 1.0
Other 1,337 1,556 (14.1) (15.1) 1.0
Total $5,457 $5,485 (0.5)% (1.1)% 0.6%
The Pharmaceutical segment experienced an overall operational
decline of 1.1% for the fiscal third quarter of 2005 versus 2004,
primarily due to the significant impact of generic competition on
various products, including DURAGESIC(r), ULTRACET(r), SPORANOX(r)
and hormonal contraceptives. However, sales growth within the
segment, during the fiscal third quarter of 2005, was led by
strong performances from RISPERDAL(r), REMICADE(r), TOPAMAX(r) and
LEVAQUIN(r). (The discussion to follow correlates to the sequence
of the chart above.) Growth was achieved with the continued
success of RISPERDAL(r) (risperidone), and RISPERDAL CONSTA(r)
(risperidone), a long acting injection medication that treats the
symptoms of schizophrenia, with operational growth of 22.4%.
RISPERDAL(r) benefited from a Medicaid rebate adjustment due to a
government approved retroactive change in the methodology used to
calculate average manufacturing price for Medicaid charges.
PROCRIT(r) (Epoetin alfa) and EPREX(r) (Epoetin alfa) performance
continued to be adversely affected by competition. Combined
these two products had an operational decline of 5.3% in the
third quarter of 2005. Volume associated with share loss to
competitive products was the primary driver of the decline.
PROCRIT(r) pricing has stabilized in the third quarter of 2005.
REMICADE(r) (infliximab), a biologic approved for the treatment of
Crohn's disease, ankylosing spondylitis, and use in the treatment
of rheumatoid arthritis experienced strong operational growth of
34
14.5% over prior year fiscal third quarter. REMICADE(r) received
FDA approval for the treatment of ulcerative colitis and the
European Commission granted approval for use in the treatment of
severe plaque psoriasis during the fiscal third quarter of 2005.
Sales of TOPAMAX(r) (topiramate), which has been approved for
adjunctive use in epilepsy, as well as for the prophylactic
treatment of migraines, achieved strong operational growth of
16.7%, over prior year fiscal third quarter. In June of 2005
TOPAMAX(r) was also approved for use as an initial monotherapy in
the treatment of epilepsy.
DURAGESIC(r) (fentanyl transdermal system) sales declined by 26.8%
operationally, which was primarily driven by the negative impact
of generic competition in the U.S. beginning in January 2005. An
authorized generic version of DURAGESIC(r), being marketed for the
Company in the U.S., has captured a strong portion of the generic
market.
LEVAQUIN(r) (levofloxacin) achieved operational sales growth of
22.5% over prior year, benefiting from strong market growth, as
well as, an additional FDA approval for short course treatment of
acute bacterial sinusitis.
CONCERTA(r) (methylphenidate HCL), a product for the treatment of
attention deficit hyperactivity disorder, sales continued to grow
despite the lack of patent exclusivity in the U.S. At present,
the FDA has not approved any generic version that is
substitutable for CONCERTA(r). Abbreviated New Drug Applications
(ANDAs) for generic versions of CONCERTA(r) are pending and may
be approved at any time.
NATRECOR(r)(nesiritide), a product for the treatment of patients
with acutely decompensated congestive heart failure who have
dyspnea at rest or with minimal activity, has experienced a
significant decline in demand due to recent negative public press
regarding a meta analysis of selected historical clinical trials.
The Company believes that there is no recent data supporting
these medical and consumer publications and the currently
approved label for NATRECOR(r) reflects all available data to date.
In response, the Company has assembled an expert panel to review
the available data and clinical development plans for the product
and is also engaged in ongoing dialogue with the FDA. Both the
panel and the FDA support the continued appropriate use of
NATRECOR(r).
NATRECOR(r), a Scios Inc. product, was purchased by the Company in
2003 and resulted in the recording of an intangible asset. The
remaining unamortized intangible value associated with NATRECOR(r)
was $1.1 billion at the end of the fiscal third quarter of 2005,
and based on the current estimate of projected future cash flows,
no adjustment to this intangible is required.
Medical Devices and Diagnostics
Medical Devices and Diagnostics segment sales in the first fiscal
nine months of 2005 were $14.3 billion, an increase of 16.7% over
the same period a year ago with 14.9% of this change due to
operational increases and the remaining 1.8% increase related to
35
the positive impact of currency. The U.S. Medical Devices and
Diagnostics sales increase was 12.7% and the growth in
international Medical Devices and Diagnostics sales was 20.9%
which included 3.8% related to the positive impact of currency.
Major Medical Devices and Diagnostics Franchise Sales - First
Fiscal Nine Months
Total Operations Currency
2005 2004 %Change %Change %Change
CORDIS(r) $2,977 $2,298 29.6% 27.8% 1.8%
DEPUY(r) 2,870 2,468 16.3 14.9 1.4
ETHICON(r) 2,332 2,085 11.9 9.4 2.5
ETHICON ENDO-SURGERY(r) 2,273 2,047 11.0 8.8 2.2
LIFESCAN(r) 1,436 1,240 15.9 14.1 1.8
Vision Care 1,276 1,123 13.6 12.0 1.6
ORTHO-CLINICAL
DIAGNOSTICS(r) 1,064 928 14.6 13.2 1.4
Other 47 48 (2.1) (14.6) 12.5
Total $14,275 $12,237 16.7% 14.9% 1.8%
Medical Devices and Diagnostics segment sales in the fiscal third
quarter of 2005 were $4.6 billion, an increase of 14.3% over the
same period a year ago with 13.7% of this change due to
operational growth and the remaining 0.6% increase related to the
positive impact of currency. The U.S. Medical Devices and
Diagnostics sales increase was 14.1% and the growth in
international Medical Devices and Diagnostics sales was 14.5%
which included 1.2% related to the positive impact of currency.
Major Medical Devices and Diagnostics Franchise Sales - Fiscal
Third Quarter
Total Operations Currency
2005 2004 %Change %Change %Change
CORDIS(r) $994 $756 31.5% 31.0% 0.5%
DEPUY(r) 897 790 13.5 13.2 0.3
ETHICON(r) 745 687 8.3 7.4 0.9
ETHICON ENDO-SURGERY(r) 723 672 7.6 6.9 0.7
LIFESCAN(r) 462 420 10.0 9.4 0.6
Vision Care 443 392 12.9 12.3 0.6
ORTHO-CLINICAL
DIAGNOSTICS(r) 342 309 10.8 10.4 0.4
Other 16 18 (11.1) (17.2) 6.1
Total $4,622 $4,044 14.3% 13.7% 0.6%
Sales growth in the Medical Devices and Diagnostics segment was
led by strong results experienced across the segment. The Cordis
franchise was a major driver, with operational growth of 31.0%.
The primary growth driver of the Cordis franchise was the CYPHER(r)
Sirolimus-eluting Stent in both U.S. and international markets,
with excellent growth in Japan, as CYPHER(r) was approved for
reimbursement late in the third fiscal quarter of 2004 in Japan.
In addition, the Biosense Webster business also had a strong
quarter with its navigational catheter line of products and
received approval for the NAVI-START(tm) steerable tip diagnostic
36
catheter and the CARTO(tm) EP navigation system, enabling the
release of their first robotically steered electrophysiology
catheter in the U.S.
In April and July of 2004, Cordis Cardiology Division of Cordis
Corporation received warning letters from the FDA regarding Good
Manufacturing Practice and Good Clinical Practice regulations.
These observations followed post-approval site inspections
completed in 2003 and early 2004 including sites involved in the
production of the CYPHER(r) Sirolimus-eluting stent. In response
to the warning letters, Cordis has made improvements to their
quality system. The FDA has completed inspections of the three
facilities involved in the April warning letter and Cordis has
provided written responses to the recent inspection observations.
Cordis is working and meeting with the FDA to discuss next steps.
The DePuy franchise's operational growth of 13.2% was primarily
attributed to DePuy's orthopaedic joint reconstruction products
including the hip and knee product lines. Strong performance was
also achieved in DePuy's spine unit and Mitek sports medicine
products.
Ethicon worldwide sales grew operationally by 7.4% from the same
period in the prior year. Contributing to the strong results was
the continued penetration with several suture and mesh products,
including VICRYL(r) (polyglactin 910) Plus, an anti-bacterial
coated suture, PROCEED(r), tissue separating mesh, and MULTIPASS(r)
Needle Coating. The Ethicon Endo-Surgery franchise achieved
operational growth of 6.9% over prior year. This growth was
mainly driven by endocutter sales that include products used in
performing bariatric procedures for the treatment of obesity, an
important focus area for the franchise. Also contributing to the
franchise's growth was sales from HARMONIC SCALPEL(r), CONTOUR(r)
and the advanced sterilization product line.
The LifeScan franchise operational growth of 9.4% was a result of
continued growth of U.S. sales, as well as strong growth in
international markets. ONETOUCH(r) ULTRA blood glucose meter, has
been the key growth driver in this franchise.
Vision Care franchise operational sales growth of 12.3% was led
by the continued success of ACUVUE(r) ADVANCE(tm) brand contact
lenses with HYDRACLEAR(tm) and 1-DAY ACUVUE(r). An additional
contributor was ACUVUE(r) OASYS(tm) with HYDRACLEAR(tm), for tired
and dry eyes, which was launched in the fiscal third quarter of
2005.
The Ortho-Clinical Diagnostics franchise reported operational
growth of 10.4% over the same period in the prior year, which was
driven by its continued global market penetration of the
automated blood bank products and growth of the ECI equipment
base.
Cost of Products Sold and Selling, Marketing and Administrative
Expenses
Consolidated costs of products sold for the first fiscal nine
months of 2005 decreased to 27.3% from 28.1% of sales over the
same period a year ago. The decrease resulted from cost
improvement initiatives and improved gross margins in the Medical
37
Devices & Diagnostics segment, primarily driven by lower
manufacturing costs related to CYPHER(r) Sirolimus-eluting Stent,
which more than offset an unfavorable product mix. The cost of
products sold for the fiscal third quarter of 2005 decreased to
27.1% from 27.6% of sales over the same period a year ago.
During the quarter, cost improvement initiatives and improved
gross margins in the Medical Devices and Diagnostics segment were
partially offset by negative mix.
Consolidated selling, marketing and administrative expenses for
the first fiscal nine months of 2005 increased 9.9% over the same
period a year ago. Consolidated selling, marketing and
administrative expenses as a percent to sales for the first
fiscal nine months of 2005 were 32.5% and remained relatively
flat versus 32.4% for the same period a year ago. Consolidated
selling, marketing and administrative expenses for the fiscal
third quarter of 2005 increased 5.8% over the same period a year
ago. As a percent to sales, consolidated selling, marketing and
administrative expenses were 33.1% versus 33.3% for the same
period a year ago.
Research & Development
Research activities represent a significant part of the Company's
business. These expenditures relate to the development of new
products, improvement of existing products, technical support of
products and compliance with governmental regulations for the
protection of the consumer. Worldwide costs of research
activities, for the first fiscal nine months of 2005 were $4.3
billion, an increase of 24.7% over the same period a year ago.
Research and development spending in the fiscal third quarter of
2005 was $1.5 billion, an increase of 25.4% over the fiscal third
quarter of 2004. This increase is a reflection of the number of
products in late stage development.
In-Process Research & Development
In the fiscal second quarter of 2005, the Company recorded In-
process Research & Development (IPR&D) charges of $353 million
before and after tax related to acquisitions in the
Pharmaceutical and Medical Devices and Diagnostics segments.
These acquisitions included TransForm Pharmaceuticals, Inc.,
Peninsula Pharmaceuticals, Inc. and CLOSURE Medical Corporation.
In the fiscal third quarter of 2004, the Company recorded IPR&D
charges of $18 million before tax and $12 million after tax as a
result of the acquisition of U.S. commercial rights to certain
patents and know how in the field of sedation and analgesia from
Scott Lab, Inc.
Other (Income) Expense, Net
Other (income) expense is the account where the Company records
gains and losses related to the sale and write-down of certain
equity securities of the Johnson & Johnson Development
Corporation, losses on the disposal of fixed assets, currency
gains & losses, minority interests, litigation settlements, as
well as royalty income. In the fiscal third quarter of 2005 the
Company recorded a gain of $63 million as contrasted with a loss
in the same period in 2004 of $41 million. This favorable
38
variance was the result of gains recorded on the sale of the
Spectacle Lens business and other properties in 2005. During the
fiscal third quarter of 2004, the Company recorded a write down
of an insurance receivable and various asset write offs.
OPERATING PROFIT BY SEGMENT
Consumer Segment
Operating profit for the Consumer segment as a percent to sales
in the first fiscal nine months of 2005 was 19.2% versus 19.6%
over the same period a year ago due to increased investment
spending in consumer promotions and advertising for the OTC
Pharmaceutical and Nutritional franchise. Operating profit as a
percent to sales in the fiscal third quarter of 2005 was 19.1%
versus 17.7% over the same period a year ago, due to a reduction
in selling, marketing and administrative expenses, and the timing
of advertising activity and promotional allowances.
Pharmaceutical Segment
Operating profit for the Pharmaceutical segment as a percent to
sales in the first fiscal nine months of 2005 was 32.8% versus
37.6% over the same period a year ago. Operating profit as a
percent to sales in the fiscal third quarter of 2005 was 32.9%
versus 35.0% over the same period a year ago. For both periods
operating profit was negatively impacted by increased research
and development spending and generic competition. The first
fiscal nine months of 2005 was also impacted by IPR&D. IPR&D of
$302 million reduced operating profit as a percent to sales by
1.8% for the first fiscal nine months.
Medical Devices and Diagnostics Segment
Operating profit for the Medical Devices and Diagnostics segment
as a percent to sales in the first fiscal nine months of 2005 was
29.9% versus 26.0% over the same period a year ago. Operating
profit as a percent to sales in the fiscal third quarter of 2005
was 29.5% versus 26.0% over the same period a year ago. The
increase in 2005 was due to improved gross profit, resulting from
cost reduction programs, lower manufacturing costs related to
CYPHERr Sirolimus-eluting Stent and favorable product mix.
Interest (Income) Expense
Interest income increased in both the first fiscal nine months
and fiscal third quarter of 2005 as compared to the same periods
a year ago. The increase is primarily due to higher rates of
interest earned on cash holdings and an improved cash position.
The cash balance including marketable securities at the end of
the fiscal third quarter of 2005 was $15.2 billion, which was
$2.1 billion higher than the end of the fiscal third quarter of
2004.
Interest expense decreased in both the first fiscal nine months
and fiscal third quarter of 2005 as compared to the same periods
a year ago, resulting from lower average debt balances.
Provision For Taxes on Income
The worldwide effective income tax rates for the first fiscal
nine months of 2005 and 2004 were 25.3% and 28.6%, respectively,
representing a decrease of 3.3%. Of this decrease, 2.1% was
39
attributed to increases in taxable income in lower tax
jurisdictions relative to taxable income in higher tax
jurisdictions. The remaining net decrease of 1.2% was attributed
to a one-time tax benefit partially offset by IPR&D, as described
below.
The fiscal second quarter of 2005 included a benefit of $225
million, due to the reversal of a tax liability previously
recorded during the fiscal fourth quarter of 2004, associated
with a technical correction made to the American Jobs Creation
Act of 2004 (AJCA), in May 2005. Under the AJCA, approximately
$8 billion, of the previously disclosed $10.8 billion, has been
repatriated through the fiscal third quarter of 2005.
Acquisition related IPR&D charges of $353 million that are non-
deductible for tax purposes were recorded in the fiscal second
quarter of 2005.
In the fiscal third quarter of 2004, the Company recorded IPR&D
charges of $18 million before tax and $12 million after tax as a
result of the acquisition of U.S. commercial rights to certain
patents and know how in the field of sedation and analgesia from
Scott Lab, Inc.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
Cash generated from operations provided the major sources of
funds for the growth of the business, including working capital,
capital expenditures, acquisitions, share repurchases, dividends
and debt repayments. In the first fiscal nine months of 2005,
cash flow from operations was $8.7 billion, which is consistent
with the same period a year ago. Higher net earnings in 2005
were offset by a decrease in accounts payable and accrued
liabilities. Investing activities provided $0.8 billion in the
first fiscal nine months of 2005, as compared to a usage of $2.9
billion during the same period a year ago. The increase in cash
generated by investing activities was the result of reduced
purchases of investment securities and an increase in the sales
of investments, partially offset by an increase in acquisitions.
Financing activities used $3.7 billion in the first fiscal nine
months of 2005 and 2004.
Dividends
On July 18, 2005, the Board of Directors declared a regular cash
dividend of $0.33 per share, payable on September 13, 2005
to shareholders of record as of August 23, 2005. On October
20, 2005, the Board of Directors declared a regular cash dividend
of $0.33 per share, payable on December 13, 2005 to
shareholders of record as of November 22, 2005. The Company
expects to continue the practice of paying regular cash
dividends.
OTHER INFORMATION
New Accounting Standards
In December 2004, the FASB issued SFAS No. 123(R), Share Based
Payment. This statement establishes standards for the accounting
for transactions in which an entity exchanges its equity
instruments for goods and services. It focuses primarily on
40
accounting for transactions in which an entity obtains employee
services in share-based payment transactions (such as employee
stock options and restricted stock units). The statement
requires the measurement of the cost of employee services
received in exchange for an award of equity instruments (such as
employee stock options and restricted stock units) at fair value
on the grant date. That cost will be recognized over the period
during which an employee is required to provide services in
exchange for the award (the requisite service period). On April
14, 2005 the SEC approved a new rule that delays the effective
date of SFAS No. 123(R) for annual, rather than interim, periods
that begin after June 15, 2005. As a result, the Company will
adopt this statement in the first fiscal quarter of 2006.
Upon adoption of this standard, the Company currently intends to
apply the modified retrospective transition method. Previously
reported financial statements will be restated to reflect SFAS
No. 123 disclosure amounts. As required by SFAS No. 148,
Accounting for Stock Based Compensation - Transition and
Disclosure - an amendment of FASB Statement No. 123, the Company
disclosed in its 2004 Annual Report, the net income and earnings
per share effect had the Company applied the fair value
recognition provision of SFAS No. 123. The disclosure impact in
2004 and 2003 was compensation expense net of tax of $329 million
and $349 million and diluted earnings per share of $0.10 and
$0.11, respectively. The Company is currently evaluating the
effect of adoption on future financial results.
The Company will implement SFAS 151, Inventory Costs, an
amendment of ARB No. 43 in the fiscal first quarter of 2006. The
Company believes the adoption of this statement will not have a
material effect on its results of operations, cash flows or
financial position.
The Company implemented SFAS 153, Exchanges of Non-monetary
Assets, an amendment of APB 29 during the fiscal third quarter of
2005, as allowed by the Standards, which did not have a material
effect on its results of operations, cash flows or financial
position.
The following recent accounting pronouncements became effective
in 2004 and did not have a material impact on the Company's
results of operations, cash flows or financial position.
*EITF Issue 02-14: Whether an Investor should apply the Equity
Method of Accounting to Investments other than Common Stock.
*EITF Issue 04-1: Accounting for Preexisting Relationships
between the Parties to a Business Combination.
Economic and Market Factors
Johnson & Johnson is aware that its products are used in an
environment where, for more than a decade, policymakers,
consumers and businesses have expressed concern about the rising
cost of health care. Johnson & Johnson has a long-standing
policy of pricing products responsibly. For the period 1994
through 2004 in
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the United States, the weighted average compound
annual growth rate of Johnson & Johnson price increases for
health care products (prescription and over-the-counter drugs,
hospital and professional products) was below the U.S. Consumer
Price Index (CPI).
Inflation rates, even though moderate in many parts of the world
during 2004, continue to have an effect on worldwide economies
and, consequently, on the way companies operate. In the face of
increasing costs, the Company strives to maintain its profit
margins through cost reduction programs, productivity
improvements and periodic price increases. The Company faces
various worldwide health care changes that may result in pricing
pressures that include health care cost containment and
government legislation relating to sales, promotions and
reimbursement.
The Company also operates in an environment increasingly hostile
to intellectual property rights. Generic drug firms have filed
Abbreviated New Drug Applications seeking to market generic forms
of most of the Company's key pharmaceutical products, prior to
expiration of the applicable patents covering those products. In
the event the Company is not successful in defending a lawsuit
resulting from an Abbreviated New Drug Application filing, the
generic firms will then introduce generic versions of the product
at issue, resulting in very substantial market share and revenue
losses. For further information see the discussion on "Litigation
Against Filers of Abbreviated New Drug Applications" in Note 12
to the unaudited interim consolidated financial statements.
CAUTIONARY FACTORS THAT MAY AFFECT FUTURE RESULTS
This Form 10-Q contains forward-looking statements. Forward-
looking statements do not relate strictly to historical or
current facts and anticipate results based on management's plans
that are subject to uncertainty. Forward-looking statements may
be identified by the use of words like "plans," "expects,"
"will," "anticipates," "estimates" and other words of similar
meaning in conjunction with, among other things, discussions of
future operations, financial performance, the Company's strategy
for growth, product development, regulatory approval, market
position and expenditures.
Forward-looking statements are based on current expectations of
future events. The Company cannot guarantee that any forward-
looking statement will be accurate, although the Company believes
that it has been reasonable in its expectations and assumptions.
Investors should realize that if underlying assumptions prove
inaccurate or that unknown risks or uncertainties materialize,
actual results could vary materially from the Company's
expectations and projections. Investors are therefore cautioned
not to place undue reliance on any forward-looking statements.
The Company assumes no obligation to update any forward-looking
statements as a result of new information or future events or
developments.
Risks and uncertainties include general industry conditions and
competition; economic conditions, such as interest rate and
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currency exchange rate fluctuations; technological advances, new
products and patents attained by competitors; challenges inherent
in new product development, including obtaining regulatory
approvals; challenges to patents; U.S. and foreign health care
reforms and governmental laws and regulations; trends toward
health care cost containment; increased scrutiny of the health
care industry by government agencies; product efficacy or safety
concerns resulting in product recalls or regulatory action.
The Company's Annual Report on Form 10-K for the fiscal year
ended January 2, 2005 contains, as an Exhibit, a discussion of
additional factors that could cause actual results to differ from
expectations. The Company notes these factors as permitted by the
Private Securities Litigation Reform Act of 1995.
Item 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
There has been no material change in the Company's assessment of
its sensitivity to market risk since its presentation set forth
in Item 7A, "Quantitative and Qualitative Disclosures About
Market Risk," in its Annual Report on Form 10-K for the fiscal
year ended January 2, 2005.
Item 4 - CONTROLS AND PROCEDURES-EVALUATION OF DISCLOSURE
CONTROLS AND PROCEDURES
Disclosure controls and procedures. As of the end of the period
covered by this report, management evaluated the effectiveness of
the Company's disclosure controls and procedures. The Company's
disclosure controls and procedures are designed to ensure that
the Company records, processes, summarizes and reports in a
timely manner the information the Company is required to
disclose in its reports filed under the Securities Exchange
Act. Disclosure controls and procedures include, without
limitation, controls and procedures designed to ensure that
information required to be disclosed by the Company in the
reports that it files or submits under the Securities Exchange
Act is accumulated and communicated to the Company's management,
including its principal executive and principal financial
officers, or persons performing similar functions, as appropriate
to allow timely decisions regarding required disclosure. William
C. Weldon, Chairman and Chief Executive Officer, and Robert J.
Darretta, Vice Chairman and Chief Financial Officer, reviewed and
participated in this evaluation. Based on this evaluation,
Messrs. Weldon and Darretta concluded that, as of the date of
their evaluation, the Company's disclosure controls and
procedures were effective.
Internal control. During the period covered by this report,
there were no changes in the Company's internal control over
financial reporting that have materially affected, or are
reasonably likely to materially affect, the Company's internal
control over financial reporting.
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Part II - Other Information
Item 1 - Legal Proceedings
The information called for by this item is incorporated herein by
reference to Note 12 included in Part I, Notes to Consolidated
Financial Statements.
Item 2 - Unregistered Sales of Equity Securities and Use of
Proceeds
(c) Purchases of Equity Securities by the Issuer and Affiliated
Purchasers.
The following table provides information with respect to Common
Stock purchases by the Company during the fiscal third quarter of
2005. Common Stock purchases on the open market are made as part
of a systematic plan to meet the Company's compensation programs.
Fiscal Month Total Number of Average Price Paid
Shares Purchased Per Share
July 4 - July 31, 2005 350,000 $64.15
August 1 - August 28, 2005 1,041,000 $63.69
August 29 - October 2, 2005 1,373,400 $63.99
Item 6 - Exhibits
Exhibit 10.1 Form of Restricted Stock Unit Certificate
under the Johnson & Johnson 2005 Long-Term Incentive Plan
- Filed with this document.*
Exhibit 31.1 Certifications under Rule 13a-14(a) of the
Securities Exchange Act pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 - Filed with this document.
Exhibit 32.1 Certifications pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 - Furnished with this
document.
*Management contract or compensatory plan.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act
of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
JOHNSON & JOHNSON
(Registrant)
Date: November 7, 2005 By /s/ R. J. DARRETTA
R. J. DARRETTA
Vice Chairman, Board of
Directors; Chief Financial
Officer and Director
(Principal Financial Officer)
Date: November 7, 2005 By /s/ S. J. COSGROVE
S. J. COSGROVE
Controller
(Principal Accounting Officer)
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