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GlaxoSmithKline - Profits beat, but cash lacklustre

Nicholas Hyett | 1 May 2019 | A A A
GlaxoSmithKline - Profits beat, but cash lacklustre

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GlaxoSmithKline plc Ordinary 25p

Sell: 1,394.60 | Buy: 1,394.80 | Change 6.60 (0.48%)
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First quarter product sales of £7.7bn rose 5% on an underlying basis and came in ahead of market expectations, boosted by strong results in Pharmaceuticals and Vaccines.

Underlying operating profits rose 9% to £2.2bn, also beating analysts' estimates. However, conversion of profits into cash deteriorated significantly compared to a year earlier.

The dividend remains unchanged.

GSK shares were broadly flat following the announcement.

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Our view

Emma Walmsley was seen as a continuity candidate when she took the reins at GSK in 2017. Some major surgery at GSK has put that impression firmly to bed - putting the group on a very different path.

The Consumer Healthcare division has grown, shrunk and grown again in the last year as the Novartis stake was bought out, Horlicks business sold off and then the Pfizer merger was announced.

Meanwhile a more focused approach to R&D has seen a small fortune poured into the oncology portfolio - including the $5.1bn acquisition of TESARO and a tie up with Merck that could set Glaxo back EUR3.7bn.

Glaxo's portfolio is stronger as a result, even if it's also carrying considerably more debt. However, Walmsley's reshuffle doesn't end there.

Within three years of the joint venture with Pfizer being established, the new consumer healthcare giant will be going its own way as an independently listed company.

In general, we think the move makes sense. Simply put, two businesses with a sharper focus should be more efficient than one conglomerate. But it also means investors are buying into what will be two radically different businesses.

The consumer division will be a 'steady eddie' with comparatively predictable returns. Thanks to its position as one of the world's largest over-the-counter medicines business it should be able to deliver some sizable cost savings, boosting margins.

For the pharma group, losing the steady cash flows of the consumer business means there's more pressure on the labs. When drugs lose patent protection sales collapse quickly, and that's already a problem for Glaxo, it's vital its research teams deliver the next generation of blockbusters.

That's what really counts over the next couple of years. Pharma's growing at the moment, but that's being driven by a relatively shallow pool of drugs. It's left the group vulnerable to a towering patent cliff when drug exclusivity expires, and means the expanded and expensive oncology pipeline really needs to deliver.

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First Quarter Trading Update (changes at constant rates of exchange unless otherwise stated)

Pharmaceuticals remains the largest contributor sales, growing 2% in the quarter to £4.2bn. Strong results from new HIV treatments, such as Nucala and Trelegy, and Elipta respiratory products, more than offset declines in Advair and Ventolin sales following the launch of generic competition in the US.

The Vaccines business continues to grow, thanks to the success of shingles vaccine Shingrix. Sales in the division rose 20% to £1.5bn. Sales of Consumer healthcare products rose 1% to £2bn, with growth in Oral health and Nutrition offset by declines in Wellness and Skin health.

The improved operating margin of 28.2% reflects ongoing cost control and a favourable mix in Vaccines and Consumer Healthcare. However, free cash flow fell 49.8% to £165m, partly due to timing of payments for returns and rebates, with net debt rising 102% to £27.1bn following acquisitions made during the year.

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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.