On Monday, S&P Dow Jones Indices announced that Kenvue (KVUE) would join the S&P 500 on Aug. 25, replacing Advance Auto Parts (AAP), which is being demoted to the S&P SmallCap 600.
“As previously announced on August 9, the addition of Kenvue is the result of S&P 500 and S&P 100 constituent Johnson & Johnson (JNJ) offering to exchange the shares of Kenvue held for shares of Johnson & Johnson in a split-off exchange offer that expired on Friday, August 18,” S&P Dow Jones stated in its Aug. 21 press release.
According to Barron’s, approximately 300 million Kenvue shares could be purchased by S&P 500 index funds required to hold all of the index’s constituents. Trading could get a little crazy Thursday as funds scramble to get on board Kenvue stock.
Not surprisingly, Tuesday’s Kenvue volume, with one hour left in trading, was 59.4 million, nearly 10 million more than its 30-day average volume. The buying should continue through Thursday’s close.
But is it a buy for the long haul? I doubt it. Here's why.
The Pros of Holding Kenvue Beyond Next Week
Kenvue went public on May 3 at $22 a share. That was at the high end of its range between $20 and $23. The IPO price valued the maker of Tylenol and Listerine at $41 billion, making it the largest IPO since 2021.
KVUE stock gained more than 22% on its first trading day, closing at $26.91. It’s since fallen below $24, but it is still above its IPO price.
Things that make it an attractive purchase for the long haul include annual revenue of $15.0 billion, with 10 brands generating at least $400 million in net sales in 2021; seven of them being the number one brand in their category. In addition, it generated half of its revenue outside North America.
The share exchange sees J&J shareholders get eight Kenvue shares for one share of J&J. The company is effectively buying back 191 million of its shares by exchanging 1.53 billion KVUE shares with its shareholders.
There’s no question this is a win for J&J shareholders. They retain 9.5% of Kenvue while hiving off a slower-growing, lower-margin business.
J&J first announced it would spin off Kenvue in November 2012.
“We believe that the New Consumer Health Company would be a global leader across attractive and growing consumer health categories, and a streamlined and targeted corporate structure would provide it with the agility and flexibility to grow its iconic portfolio of brands and innovate new products,” stated then Johnson & Johnson CEO Alex Gorsky.
At the time, the company trotted out the usual reasons businesses are spun out: greater management focus, better capital allocation based on specific needs, and speed to address industry trends.
There’s no question that the consumer health business was getting lost in the shuffle operating as a minor part of a bigger healthcare and pharmaceutical company.
While it’s too soon to tell if Kenvue’s independence has made a difference, it certainly wasn’t benefiting nearly enough from its association with J&J.
The Cons of Owning Kenvue for the Long Haul
Of the 12 analysts covering Kenvue stock, just four rate it Overweight or an outright Buy, with a median target price of $28.50, 20% higher than where it’s currently trading.
That price target is the best news for shareholders. It suggests analysts, while ho-hum about its future, still see an upside ahead for its share price. Being added to the S&P 500 should help.
However, consider Kenvue’s revenue and earnings over the past decade.
In fiscal 2022 (Jan. 1, 2023 year-end), it had $14.95 billion in revenue, with $2.68 billion in operating income. In fiscal 2012, it had revenue of $14.45 billion, with $1.69 billion in pre-tax profits.
So, its compound annual growth rate (CAGR) for revenue over the past decade is 0.34%, while its CAGR for pre-tax operating profits over the same 10 years was a slightly more respectable 4.72%.
These numbers will be frozen in time without a significant acquisition to move the needle on the top and bottom lines. Further, it’s doubtful that this lack of growth will result in multiple expansions, either, meaning there are no growth drivers outside M&A.
As of July 2, 2023, Kenvue had net debt of $7.37 billion. That’s a low 17% of its $43.9 billion market cap. However, should it decide to play the M&A game, the percentage will move higher on any significant transaction, leaving it stuck in a Catch-22 situation.
It’s damned if it does, and it’s damned if it doesn’t.
From where I sit, the cons outweigh the pros of owning KVU stock beyond the pop of joining the S&P 500. To grow sales, you have to have growth drivers. Kenvue has none.
Sure, it might be able to cut costs, increasing its operating margin over the next few years, but ultimately, it all comes back to growing the top line.
Over the past decade, it’s shown little appetite for doing so.
On the date of publication, Will Ashworth did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
