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GSK's future is bright

The pharma giant has clarified its future strategy and confirmed another 80p dividend
March 14, 2019

While GlaxoSmithKline's (GSK) shareholders face declining profits in 2019, we think a recent flurry of deals present the prospect for some serious value creation over coming years. Meanwhile, management's commitment to maintain the dividend at 80p means investors should be rewarded for any patience they're required to show.  

IC TIP: Buy at 1,516p
Tip style
Income
Risk rating
High
Timescale
Medium Term
Bull points

Confirmed dividend
Pfizer joint venture
Oncology deal
Underlying sales growth

Bear points

Advair challenge
EPS decline

GSK has recently answered some big questions about its future, including whether it plans a break-up and if it will pursue higher-risk drug development as part of its strategy, like close rival AstraZeneca (AZN). The answer is yes on both counts. 

Towards the end of last year, the group revealed its intention to form a new consumer health joint venture with US-based Pfizer (US:PFE). This follows the £9.3bn purchase from Novartis last June of an outstanding 36.5 per cent stake in GSK's existing consumer venture (putting a £25bn price tag on the whole). The new tie-up with Pfizer, which GSK will have a 68 per cent interest in, will create a venture with £9.8bn of sales and provide the potential for £500m of savings a year by 2022. Most significantly, though, it will give the business the scale needed to become a true global leader in consumer health. Assuming all goes well, the value of this proposition will be realised for shareholders in year three from the transaction's completion, with the demerger and floatation of the business.

One major benefit of this plan for GSK is that it will reduce debt. Broker Shore Capital estimates £8bn-£10bn of debt could be spun off with the business. This will allow GSK more freedom to invest in innovative drug development. The group has already firmly set itself down this path with November's $5.1bn (£4bn) acquisition of Massachusetts-based oncology specialist Tesaro. The deal gave GSK control of Tesaro’s main product, Zejula, which is currently approved in the US and Europe for use in ovarian cancer patients. GSK is effectively planning to offer investors two different routes to growth: either via high-risk drug development or a lower margin (but very attractive) high-volume consumer healthcare business.

But GSK's shareholders will need to look to the future while stomaching falling earnings this year. The group exceeded broker forecasts in 2018 thanks to a delay to generic competition for its Advair respiratory drug and strong sales from a new shingles vaccine. However, with capacity constraints on the vaccine and competition finally beginning to bite for Advair, management has told shareholders to expect a 5 to 9 per cent EPS fall this year to between 109p and 113p.

However, the expected fall in earnings obscures encouraging developments from the group’s future drug pipeline and ongoing clinical trials. For example, recent positive results from two third phase trials designed to test the efficacy of injectable HIV treatments at the Viiv Healthcare division showed a monthly, two-drug injection had similar effects to a commonly prescribed regimen where HIV-1 patients take three pills daily. Data also showed nearly all participants favoured the new monthly injection over the oral treatment. 

As for how secure that dividend is, free cash flow appears to be healthy, which should help allay concerns about recent heavy spending on deals and the need to spend on drug research and development. So, while waiting for clinical experiments to deliver positive results and the consumer joint venture to find its feet, investors should take comfort in last year’s free cash flow figure of £5.7bn, which reflected smaller-than-expected increases in working capital and a clearer focus on cash conversion.

GSK VS PEERS

NameTIDMMkt Cap (UK £)Price (UK p)Fwd NTM PEDYEV/SalesEV/EBITDAEbit MarginROCEFwd EPS grth FY+1Fwd EPS grth FY+23m Upgrade/Downgrade3-mth MomentumNet Cash/Debt (-)Net Debt/EBITDA
GlaxoSmithKline LSE:GSK£74bn1,510p145.3%3.19.826%15%-6.9%6.4%-2.9%2.6%-£22bn2.3
SanofiENXTPA:SAN£82bn6,596p134.0%3.21117%6%5.2%8.0%1.1%-3.4%-£16bn1.8
AstraZeneca LSE:AZN£80bn6,315p233.4%5.3278%6%5.5%19%-5.2%3.5%-£10bn3.0
RocheSWX:ROG£175bn20,468p153.2%4.01132%27%2.0%2.9%2.2%5.9%-£5bn0.3
NovartisSWX:NOVN£159bn6,859p173.1%4.31019%13%3.8%10%-2.8%3.1%-£13bn1.0
MerckNYSE:MRK£159bn6,171p172.7%5.31720%14%8.3%11%-0.9%3.7%-£13bn1.2
Novo NordiskCPSE:NOVO B£90bn3,785p202.5%6.91542%84%3.4%12%-1.9%9.2%£2bn-

Source: S&P Capital IQ

GLAXOSMITHKLINE (GSK)  
ORD PRICE:1,516pMARKET VALUE:£75.3bn
TOUCH:1,516-1,516.4p12-MONTH HIGH:1,648pLOW: 1,270p
FORWARD DIVIDEND YIELD:5.3%FORWARD PE RATIO:13
NET ASSET VALUE:88p*NET DEBT:£21.6bn
Year to 31 DecTurnover (£bn)Pre-tax profit (£bn)Earnings per share (p)Dividend per share (p)
201627.97.110280.0
201730.27.911280.0
201830.88.111980.0
2019*31.97.911180.0
2020*34.88.712080.0
% change+9+10+8-
Normal market size:1,500   
Beta:1.03   
*Includes intangible assets of £23bn, or 462p a share
**Shore Capital forecasts