There are four big positions by guru investors in GlaxoSmithKline (GSK) – starting with Ken Fisher (Trades, Portfolio) who owns 11.5 million shares, John Rogers (Trades, Portfolio) taking 1.4 million shares, Charles Brandes (Trades, Portfolio) with 4.6 million shares and ending with HOTCHKIS & WILEY at 12.4 million shares.
Glaxo is one of the largest pharmaceutical companies in the world with more than $33 billion in annual sales. The company uses its resources to develop the next generation of health-care treatments and has an impressive list of patent-protected drugs. Yet it’s hard to see a good reason to buy this stock if you’re looking for long-term growth.
Despite being close to a 52-week low and trading with a price-to-earnings ratio of 7, Glaxo is a trade for dividends only. Carrying a 6% yield, it may be worth the buy, but not if you want to outpace the Standard & Poor's 500. An important lesson to remember is just because a business has a wide moat and is fairly priced does not mean it will provide the returns you want. A deeper look at the company's financials reveals a poor investment opportunity.
The dividend may continue to produce a solid yield, and it could even double in the next decade, but that will be in the face of higher debt levels and continued pressure on Glaxo's drug pipeline. And, of course, this is all predicated on the company’s ability to increase revenue and earnings, which in the last decade it’s been unable to accomplish.
2005
- Sales: £21.6 billion.
- Profit: £4.7 billion.
- Dividends: £0.84.
2010
- Sales: £28.3 billion.
- Profit: £1.6 billion.
- Dividends: £1.29.
TTM
- Sales: £23.8 billion.
- Profit: £9.09 billion.
- Dividends: £1.59.
Data in GBP
Current events
The company recently entered into a definitive agreement to acquire Bristol-Myers' (BMY, Financial) pipeline of HIV drugs for up to $1.5 billion. The company is already the majority owner of ViiV Healthcare, the second-largest HIV business in the world (by market share) behind Gilead Sciences (GILD, Financial). These types of deals are necessary for Glaxo, but Bristol-Myers sold out of the HIV business as sales are expected to decline to $11 billion from $12.2 billion by 2022, as a result of patent expirations and decreased incidence rates. Thus, this purchase will be profitable but not a growing part of Glaxo’s business.
Glaxo does seem to be looking toward the future, according to Bloomberg, it’s in preliminary talks on a joint venture with Qualcomm (QCOM, Financial) “to develop medical technology.” What this means is anyone’s guess at this point, but Qualcomm and Novartis (NVS, Financial) just partnered on a smart inhaler for chronic obstructive pulmonary disease (COPD).
Glaxo needs something of a differentiator as its own COPD drug, Advair, generates more than $4.6 billion in worldwide sales annually but has fallen under intense pressure as more and more “copy-cat” versions continue to launch across Europe. Some analysts predict that, by 2020, Advair sales will dwindle to less than $500 million. That’s $4 billion of annual turnover gone.
What’s really going to be necessary is for the company to bring new drugs to market. Drugmakers are always in a tough position despite having an unassailable short-term advantage. Glaxo's patent-protected drugs definitely have strong pricing power in the market, which enables the firm to generate returns on invested capital far in excess of its cost of capital; however, these drug patents only give the company so much time to develop the next generation of drugs before generic competition arises.
The company continues to take on debt –Â Glaxo added more than £10 billion in long-term debt over the last decade. Another point is the retained earnings. For every dollar in retained earnings, the company should see at least $1 in market value growth. This is why Warren Buffett looks so heavily at book value. In Glaxo’s case, the company hasn’t shown consistency to warrant any predictability.
The bottom line
Don’t be fooled by the low P/E ratio and nice dividend yield; the core earnings will continue to fluctuate, and the price at this level is still overvalued. Only pick this stock up if you want dividend payments.
