The GSK share price: is the demerger an opportunity?

The GSK share price has barely moved since the company released the details of its demerger in 2022. Ollie Henry takes a look at the investment case.

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On 23 June, GSK (LSE: GSK) gave investors an update regarding its plans for a demerger in mid-2022. Since the update, the GSK share price hasn’t really moved. Is this an opportunity for me to buy the shares?

What are the details of the demerger?

GSK plans to split into two separate businesses. The first will be New GSK, which will focus on vaccines, general medicines and specialist drugs. The second will be the company’s Consumer Healthcare business, which produces personal health products and over-the-counter medicines. This split will be achieved by spinning off 80% of its 68% stake in the Consumer Healthcare business with a view to selling the last 20% shortly after.

Why is GSK doing this?

GSK has come under significant pressure from investors after several problems at the company. These include poor revenue growth and the struggle to produce a vaccine for Covid-19. The GSK share price has also not performed well. Currently, the shares are trading below their price five years ago. Management hopes the demerger will help solve these issues.

One key potential benefit of the demerger is that it gives the company a chance to rethink its capital allocation strategy. In 2022, GSK plans to cut its dividend from 80p to 55p. It also plans to shift a disproportionate amount of debt onto the new Consumer Healthcare company. These changes should save New GSK £1.75bn in dividend payments and £0.5bn in debt interest payments. As such, the company will have more funds available to invest in R&D, which should fuel future growth.

Am I interested in New GSK?

If the demerger is successful, there could be significant upside for investors. Management has issued a strong outlook for New GSK. Over the next five years, it’s expected to achieve revenue growth of 5% annually and operating profit growth of 10%. In 10 years, management is targeting revenue of £33bn. This would be a huge increase from the £24bn revenue the business generates now. If these targets are met, the GSK share price should do well.

While this outlook is appealing, there are significant risks. The success of pharmaceutical companies depends on their ability to produce new drugs that pass all stages of clinical trials. As my fellow fool, Zaven Boyrazian, pointed out, it only takes one drug to fail clinical trials for a company to experience a huge financial impact. This is not a risk I am willing to take.

What about the new Consumer Healthcare company?

This interests me more. It already sells a wide range of products with recognisable brands and has grown revenues strongly at a rate of 11% over the last five years. Being part of the consumer staples sector, it’s also likely to be more stable and predictable than New GSK.

One slight concern is the amount of debt this company is due to take on. Under the current plan, Consumer Healthcare’s net debt will be four times the company’s adjusted earnings-before-interest-taxes-depreciation-and-amortisation. This is high, but as long as no more debt is added, I’m not too worried.

Although I’m interested, GSK is yet to release all the plans for the Consumer Healthcare spin-off. Therefore, I will hold off from taking action until it does.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Ollie Henry has no position in any shares mentioned. The Motley Fool UK has recommended GlaxoSmithKline. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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