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GlaxoSmithKline - Q2 results and Strategy Update

Nicholas Hyett | 26 July 2017 | A A A
GlaxoSmithKline - Q2 results and Strategy Update

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Second quarter results, which saw sales rise 3% at constant exchange rates (CER), were accompanied by comments from new CEO Emma Walmsley setting out her priorities for the business.

The group has affirmed its commitment to targeting an 80p per share dividend in 2017 and 2018, and will consider further growth once free cash flow coverage of the dividend is between 1.25 and 1.5 times. Guidance for the current year remains unchanged.

The shares were down 1.4% following the announcement.

Our View

Emma Walmsley seems to have taken on the role of new broom with relish. The announcement that GSK is looking to sell Horlicks in the UK looks like it's just the start of a programme that has seen the new CEO sweep into every dark and dusty corner of GSK in search of assets that are past their sell-by-date.

Cost saving targets are being ramped up and the new management team is taking a rigorous approach to capital allocation. Investment focus is being narrowed to a few core therapy areas, with cost savings funneled back into R&D and potentially some selective M&A to support the pipeline.

While the 2020 earnings target remains unchanged, the focus of the new strategy is firmly on improving free cash flow. Given the recent problems GSK has had in that area, this is very welcome. Free cash was less than 40 % of core operating profits last year and didn't even come close to covering the dividend expense.

Strategy update aside, GSK looks to be facing more tailwinds than headwinds for the first time in a while.

The varied portfolio has been delivering broad-based growth in recent quarters. In particular the increasing contributions from the Consumer Healthcare and Vaccines divisions (now over 40% of group sales combined), should reduce reliance on blockbuster drugs and strained Western healthcare budgets.

It's a sensible strategy and the recurring revenues should help support the dividend (the current prospective yield is 5%, although it's worth noting that the new dividend policy may push back future growth).

The steady decline in revenues from Advair, the blockbuster respiratory drug, has been painful, and there is more pain to come before that process is over. However, GSK's suite of new drugs is growing rapidly to fill the gap. An expanded cost saving drive should boost margins and convert increased sales into increased profits.

Although Ms Walmsley has some way to go before GSK is fully out of the woods, early signs suggest she has grabbed the nettle and is willing to make the tough decisions when required.

Half Year Results (CER)

The Pharmaceuticals division saw sales growth of 3% in Q2, hitting £4.4bn, or 60% of the group total. A strong performance from HIV treatments, including Tivicay and Triumeq, saw sales grow 17% overall to £1.1bn. Respiratory, which accounts for £1.8bn of Pharmaceutical revenues, managed to grow 4% in the quarter, despite the continued decline in Advair/Seretide sales, thanks to sales of new Elipta products and Nucala. Disposals led sales of Established Pharmaceuticals down 7% to £1.3bn.

Growth of 5% made Vaccines the best performing division this quarter, although at £1.1bn, it remains the smallest contributor to group revenues. Performance was driven by a strong performance from Meningitis Vaccines, and particularly Bexsero, with sales up 20%. The Established Vaccines business also saw positive growth.

GSK's Consumer division slowed this quarter, with revenue flat overall at £1.9bn. A strong performance from Oral Health and Pain power brands such as Sensodyne, Panadol and Voltaren, was offset by weaker performance form the US allergy franchises and softer consumption international markets.

Net debt fell slightly versus the previous quarter, and currently stands at £14.8bn.

Strategy Update

Going forwards, GSK will focus on three long-term priorities: Innovation, Performance and Trust.

The group will focus R&D spend on two current therapy areas: Respiratory and HIV/infectious diseases; and two potential areas: Oncology and Immuno-inflammation. As part of this increased focus, 30 pre-clinical and clinical programmes will be terminated, partnered or divested.

Management are now looking to reduce costs by £1bn by 2020, with administrative expenses and supply chains a particular focus. The group is also looking to exit over 130 non-core tail brands.

GSK has laid out priorities for the improved cash flow generated from cost savings. These will be;

  • Investing in the business and in particular: the Pharmaceuticals pipeline; realisation of Novartis' put option on the Consumer Healthcare business, if exercised; and expansion of capacity in the Vaccines business
  • Delivering returns to shareholders through the payment of dividends (see below for details)
  • Disciplined M&A

As part of the new dividend policy the board intends to maintain the dividend for 2018 at the current level of 80p per share. Over time, as free cash flow strengthens, it intends to build free cash flow coverage of the annual dividend to a target range of 1.25-1.50x, before returning the dividend to growth.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.