GlaxoSmithKline (GSK) has always been a big dividend payer. Since 2009, the company has consistently paid out a dividend in excess of a 4% yield. Since 2000, the company has paid a dividend over 2%. At the current 5.9% yield, however, the payout is nearing historic highs.
While dividends have been fairly consistent, they have been cut every now and then with fluctuating earnings. Over the past 15 years, the dividend has been reduced four times. Over the long-term however, it has recovered well.
While high dividends are a typical characteristic of major pharmaceutical firms, GSK’s payout is currently 2-3x that of its competitors such as Pfizer (PFE), Merck (MRK), Novartis (NVS), and Sanofi (SNY). Can GlaxoSmithKline’s dividend be sustained?
The Business
GSK is a diversified major pharmaceutical company that discovers, develops, and sells drugs that tackle some of the world’s largest illnesses and medical issues. On a macro level, sales are driven by multiple secular drivers such as shifting and growing populations.
GSK is well positioned globally to take advantage of the varying drivers across different geographies. Sales are split roughly equally between the U.S., Europe, and international markets.
With their recent acquisition of one of Novartis’ segments, GSK is building a behemoth in vaccines. This market is estimated to be worth $25 billion in 2014 and is growing consistently, especially internationally. Due to the large capital investment necessary and complex manufacturing processes, there are few global players, creating an oligopoly scenario. Vaccines have similar profit margins as other pharmaceuticals as well as long product life cycles.
Already, GSK controls over a quarter of the total market.
The company’s market leading pipeline is expected to drive mid-to-high single-digit growth and should allow GSK to continue taking share.
Bribery Headwind Pressuring Stock
The stock took a big hit from its bribery scandal in China, and was recently fined $500 million. Over the past 12 months, the stock has lagged the market by over 25%
Valuation
Still, analysts are fairly upbeat on long-term earnings growth.
Consensus estimates now anticipate 2016 EPS of $2.38 (above the current dividend payout) as well as 7.7% annual EPS growth over the next five years. Judging by the current valuation, we can use GuruFocus’ DCF tool to estimate that investors are currently pricing in a similar 7.8% annual EPS growth.
If these assumptions hold true, the stock looks to be fairly valued and its high dividend yield looks to be safe. There are multiple reasons to believe GSK will meet these growth targets:
- International Growth Looks Strong - Sales of pharmaceutical products and vaccines, GlaxoSmithKline's core businesses, increased 12% in the emerging markets. Sales of pharmaceuticals and vaccines grew 65% in China and 30% in Brazil last quarter. Growth potential remains compelling in under-developed nations, which serves as a future catalyst. It is working on treatments for a variety of diseases, including HIV, COPD, and severe asthma. GlaxoSmithKline is also in the early stages of developing an Ebola vaccine.
- Tapping Huge Markets - The market potential for GSK’s drug pipeline is strong because they are focused on lucrative areas. For example, GlaxoSmithKline projects the market size of HIV drugs to be $15.3 billion, and the total market for respiratory inhalers to be $16.8 billion. Fortunately, GlaxoSmithKline has received favorable outcomes for its key drugs in these areas. Last quarter, its Arnuity Ellipta asthma drug was approved in the U.S., as was its HIV product Triumeq, which was approved in the U.S. and the EU.
- Replacing Legacy Products - GSKalso has a plan to replace Advair, which was previously a very important drug for the company. Its total respiratory segment suffered an 8% revenue decline last quarter, due to falling prices and sales of Advair. But other products in GlaxoSmithKline's respiratory portfolio, such as Breo, are promising, which is why management expects the company to resume sales growth from respiratory drugs in 2016.
Conclusion
New markets and product areas should help produce earnings growth in the future, supporting dividend payments. In addition, earnings will be boosted by GlaxoSmithKline's significant cost-cutting programs, targeting over $3 billion annually. Management recently announced it will cut over $1 billion off its cost structure from the divestment of certain oncology products.
With strong growth opportunities and tangible cost-cutting measures, GSK’s dividend looks attractive, especially at a fair valuation.
For more ideas like this one, check out GuruFocus’ High-Yield Dividend Stocks List or the rest of R. Vanzo’s Articles.
