GlaxoSmithKline (LSE: GSK) is the UK’s biggest pharmaceuticals group and the FTSE 100‘s number-five-ranked stock. It’s a popular pick for many investors, due to its blue-chip status, global reach and diversified business. In addition to its core pharmaceuticals division, it has a consumer healthcare business and vaccines and HIV treatments divisions.
Currently, across the heavyweights of 10 industries, Glaxo is the best-value stock based on its P/E and dividend yield. Could it also be the buy of the decade?
Outlook
A company doesn’t trade on a P/E as low as 12.3 and sport a yield as high as 6% without the market having some concerns about the outlook for the business. While many investors cherish the group’s diversification, a number of high-profile institutional shareholders and analysts have questioned the returns it’s delivered and will deliver in the future.
The HIV franchise has been a genuine growth success but competition is hotting up. Growth in vaccines has faltered in recent years. The consumer healthcare business has made modest progress but its growth rate and margins have been well below those of its peers. And analysts at Morgan Stanley recently said: “The drugmaker needs to refresh its pharmaceuticals pipeline but capital is constrained by the 80p-per-share dividend, which will consume more than three-quarters of GSK’s free cash flow next year.”
Conglomerate vs breakup
It was largely these concerns that led ace investor Neil Woodford to sell his position in the stock last year after holding it for more than 15 years. He and like-minded institutional investors had impressed upon chief executive Andrew Witty their view that “splitting the group into more focused units would allow dedicated management teams to independently realise the full potential of these businesses.” Their view was heard but repeatedly ignored and with Witty’s successor Emma Walmsley billing herself as a ‘continuity candidate’, Woodford felt “the prospect of a Glaxo breakup now looks more remote than ever.”
However, I believe that if the group continues as a conglomerate, it could still deliver decent returns for shareholders, even if a dividend rethink were required. In this respect, I agree with the Morgan Stanley analysts, who argue that a 50% dividend cut “to fund a compelling growth story” would be worth the short-term pain.
Sum of the parts
I rate Glaxo a ‘buy’ on the prospects of the continuing business — albeit not the buy of the decade — but I also wouldn’t rule out the possibility of a strategic U-turn and an immediately-value-unlocking breakup or partial breakup of the group.
Coincidently, the current share price of 1,350p and market cap of £67bn are almost exactly the same as when Woodford’s team presented a thesis that “the sum of the parts is significantly greater than the whole” back in 2014. This suggested a potential valuation of £100bn or around 2,000p a share. Now, if Glaxo did go down the breakup route and unlock anything like that value, it might just turn out to be the buy of the decade today, at least among the FTSE 100 megacaps.
