FINANCIAL STATEMENT ANALYSIS CASE

(Merck and Johnson & Johnson)

Case Summary

Merck and Johnson & Johnson both are the world famous com an! of healthcare roducts" Merck has lon# h$stor! of roduc$n# $llness re%ent$on and cure roducts" It does the research on new wa!s to treat the d$seases and $m ro%$n# human and an$mal health" It ro%$des %acc$ne& %$tam$ns& ant$b$ot$cs& treatment to h$#h cholesterol etc" 'n the other hand& Johnson and Johnson created man! new wa!s of treatment& f$rst a$d" $t ubl$shed the ( st ant$se t$c standard te)t book" It ro%$des f$rst a$d k$ts& bab! care roducts& harmaceut$cal med$c$nes& contact lenses& coronar! stents etc" It $s now o erat$n# successfull! worldw$de"

Th$s case sa!s that& both the com an! e) ands lots of mone! $n *esearch and +e%elo ment& thou#h $t $s r$sk! and costl!" It takes cost and t$me for d$fferent tests before an! roducts #oes to ubl$c" It $s r$sk! because& somet$mes some researches become a fa$lure" ,elow there are some data from the f$nanc$al statements from these two com an$es" /art$culars Johnson & Johnson
(in million dollars)

Merck
(in million dollars)

Total assets Total re%enue Net $ncome *esearch and de%elo ment e) ense Intan#$ble assets

0(1&222 (1&567 3&992 (&354 3&796

03(&415 (7&859 3&885 (&369 5&3(3

-e w$ll see $n th$s case that& the t! es of $ntan#$ble assets m$#ht be $n a healthcare com an!" -e w$ll also see that comb$nat$on of atent and #oodw$ll $n com an! $ntan#$ble assets. affect the dec$s$on of $n%estors re#ard$n# the$r $n%estment" The research and
1

de%elo ment act$%$t! affect the return of shareholders" It ro%$des lon# term rof$t $n future& but decrease short term rof$ts" A#a$n we w$ll see the sources of #oodw$ll and the effect of o%er record$n# of #oodw$ll"

Instruction (a)

-hat k$nds of $ntan#$ble assets m$#ht a health care roducts com an! ha%e: +oes the com os$t$on of these $ntan#$bles matter to $n%estors that $s would $t be erce$%ed d$fferentl! $f all of Merck;s $ntan#$bles were #oodw$ll than $f all of $ts $ntan#$bles were atents:

Ans.: A healthcare com an! would alwa!s want to rotect the rocess of mak$n# a roduct and often urchase another com an! to ha%e the$r roduct $n own l$ne of roduct" Also a health care com an! would want to rotect $ts brand name& roduct name b! creat$n# trademark" So most of the $ntan#$ble assets of healthcare com an! would be Patent, Goodwill, and Trademark.

If com an$es ha%e more #oodw$ll then atent then $n%estors w$ll be more $nfluence to $n%est& because #oodw$ll assures successful sell$n# of $ts roduct at least for resent !ears" If the urchased bus$ness would not successful $t would not ha%e #oodw$ll& rather $t would ha%e ne#at$%e #oodw$ll" And $t sa%es some *esearch and +e%elo ment cost also" ,ut ha%$n# e)cess$%e amount of #oodw$ll $s not #ood& because $t need lots of mone! to urchase #oodw$ll"

So& each $ntan#$ble assets ha%e un$<ue nature& for th$s reason an $n%estor w$ll want to know the ro er comb$nat$on and com os$t$on of all mater$al $ntan#$ble assets to dec$de whether to $n%est or not"

Instruction (b)
2

Su

ose the res$dent of Merck has come to us for ad%$ce" =e has noted that b! el$m$nat$n#

research and de%elo ment e) end$tures the com an! could ha%e re orted 0("6 b$ll$on more $n net $ncome" =e $s frustrated becous6e much of the research ne%er results $n roduct& or the roducts take !ears to de%elo " =e sa!s shareholders are ea#er for h$#her returns" =e $s cons$der$n# el$m$nat$on research and de%elo ment e) end$tures for at least a cou le of !ears" -hat would be our ad%$ce to h$m:

Ans.: In a cor orat$on there are some shareholders who want short term return more& but the! sacr$f$ce lon# term return" 'n the other hand some shareholders want lon# term return sacr$f$c$n# the short term returns" Man! cor orat$on e)ecut$%es become confused& wh$ch t! e of shareholders are to be sat$sf$ed"

Th$s case sa!s& Merck could ha%e earned 0("6b$ll$on more $n net $ncome b! el$m$nat$n# research and de%elo ment works" ,ut the el$m$nat$on onl! ro%$de short term return and ut awa! the o t$on of lon# term rof$t $n future" 'n the other hand $f Merck carr! on * & + work then $t w$ll #a$n lon# term return on future& but w$ll sacr$f$ce the short term return"

So& Merck ha%e to know what are the shareholders are want$n#& short term return or lon# term return" If most of the shareholders want lon# term return then& Merck should carr! on the research and de%elo ment work" ,ut $f most of the shareholders want short term return then& Merck can sto research and de%elo ment work for cou le of !ears" It w$ll ro%$de more net $ncome and more return to shareholders"

Instruction (c)
3

The notes to Merck;s f$nanc$al statements note that Merck has #oodw$ll of 07"( b$ll$on" -here does recorded #oodw$ll come from: Is $t necessar$l! a #ood th$n# to ha%e a lot of #oodw$ll on !our books:

Ans.: The onl! wa! to ha%$n# #oodw$ll $n f$nanc$al statements $s to urchase another bus$ness" >oodw$ll occurs when the urchase r$ce of a bus$ness $s more than net $dent$f$able tan#$ble and $ntan#$ble assets" S end$n# mone! to create own #oodw$ll $nternall! $s not recorded as #oodw$ll" So recorded #oodw$ll comes from& urchased another bus$ness"

If we want to re ort a lar#e amount of #oodw$ll& all we ha%e to do $s o%er a! when we urchase another com an!" The more we o%er a! the more #oodw$ll we w$ll re ort" =a%$n# a lot of #oodw$ll $n th$s wa! $s not a #ood th$n#"

A#a$n& ha%$n# some #oodw$ll $s #ood& because #oodw$ll ro%$de successful ros ect $n future" ,ut urchas$n# lot of #oodw$ll $s not so #ood& because $t re<u$res so man! cost for the cor orat$on" And $t w$ll decrease returns of bus$ness"