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Hold Johnson & Johnson Ahead of Earnings

NEW YORK (TheStreet) -- Johnson & Johnson (JNJ) will report second-quarter earnings results on Tuesday. Although the company has met some very important operational challenges recently, including its acquisition of Aragon, Johnson & Johnson's valuation is the only thing preventing me from falling in love with the stock.

As a value investor, I can't discount that there is plenty of long-term potential in Johnson & Johnson. I think this goes without saying. But given the fact that the stock has already posted 30% gains for the year to date, rivals including Abbott Laboratories (ABT), Pfizer (PFE) and Novartis (NVS) appear a bit more attractive in the near term, if for no other reason than the fact that they have to catch up to Johnson & Johnson. Compared to Johnson & Johnson, their relative operational performance have matched up pretty well. (Shares of Johnson and Johnson were trading for a little more than $90 Monday morning.)

Along similar lines, although Johnson & Johnson should continue to put up decent growth numbers (on a relative basis), the company's first-quarter results (reported in April) revealed some struggles with leverage. It remains to be seen, though, to what extent the Aragon acquisition can help J&J reverse its margin struggles. Until this is known, absent better competitive leverage, I can't in good conscious recommend the stock.

The good news is concerns regarding product recalls are no longer impeding the company's progress. Much of this has had to do with how well management has incorporated Synthes, which Johnson & Johnson acquired last year. Despite the synergies brought about by the Synthes integration, which is ongoing, the April quarter revealed some missed opportunities.

Bulls will point out that Johnson & Johnson posted 8.5% year-over-year revenue growth. Granted, 8.5% revenue growth is no small accomplishment, especially from a massive company like Johnson & Johnson. But that's exactly my point. While the 8.5% revenue growth was (on balance) pretty good, on an organic basis that number was just slightly above 3% when adjusting out the revenue contributions from Synthes.

It was also pretty clear that Johnson & Johnson's drug business carried the company. Sales from the Pharmaceutical segment grew 11% year over year (on an operational basis). Here, too, there were some concerns. I'm not going to pretend that double-digit growth is not impressive, either. But much of the outperformance came from domestic sales, which outpaced international growth by more than 2-to-1.

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