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What Management Would Prefer You Didn’t Know About GlaxoSmithKline plc

GlaxoSmithKline

We all know companies in the healthcare sector are keen to make a profit. It’s no different to any other sector in the economy.

Pharmaceutical companies in particular though can get quite aggressive with their marketing tactics within the field of medicine. I know doctors, for instance, who have to be very careful about how they spend their time with drug company representatives or “drug reps”.

GlaxoSmithKline (LSE: GSK) (NYSE: GSK.US) has unfortunately gone one step too far on a number of occasions. The actions of its representatives in China have been put under the spotlight, and now more allegations are emerging from the Middle East. It’s this sort of news about GlaxoSmithKline that management would prefer you didn’t know about. Let me briefly outline what management are now looking at, and how the drug maker’s books are shaping up.

Original sin

Last month a Chinese court found the company guilty of bribery. It was fined $490 million. Mark Reilly, the former head of the company’s Chinese operations, was given a three-year suspended sentence. That means he has to be squeaky clean for the next few years or he is going to prison.

More accusations

GlaxoSmithKline is also now looking into allegations of bribery in a number of Middle Eastern countries, including Lebanon and Jordan, as well as Syria and Iraq. As part of those ongoing investigations in the Middle East, the pharmaceutical company revealed just this week that it’s now looking into allegations of corruption in the United Arab Emirates. Some media outlets have already obtained the anonymous email that was originally sent to the company’s management and which prompted this latest investigation in the UAE. The email claims GlaxoSmithKline made direct payments to healthcare professionals, hospitals, clinics and pharmacies to secure business.

A spokesperson for the drugs maker responded to the allegations by saying that the company is committed to taking any disciplinary actions resulting from the findings.

Shaky bottom line

GlaxoSmithKline’s bottom line is not improving. The controversies surrounding the company haven’t helped. Total Group turnover for the second quarter of 2014 declined 4% to £5.5 billion. That insured that total group turnover for the first half declined 3% to £11.1 billion. Core operating profit in the second quarter was £1.4 billion. The company’s core operating margin has declined.

Here’s where this Fool gets a little concerned. GlaxoSmithKline — like many other companies trying to improve their margins — has been successful in bringing costs down. Unfortunately, the company has included its research and development department (vital for any drug company’s product pipeline) within that cost-cutting program — this as its income from existing products continues to fall.

In fact, Established Products turnover fell 18% to £1.5 billion last year, reflecting generic competition to Lovaza in the US, and continuing generic competition to Seroxat/Paxil, down 22%.

On the plus side royalty income from its current portfolio of ‘new’ drugs has thankfully risen.

Uncertainty

The most frustrating part of the allegations made against GlaxoSmithKline from an investment point of view is that it’s still unclear how the company’s income will be affected by the on-going bribery scandals. The company’s chief executive officer, Andrew Witty, recently stated that it’s still even too early to measure the longer-term impact of the original investigation in China. What we do know is that the company announced late last year that revenues in China dropped 61%.

I’m sure this is information that GlaxoSmithKline would prefer you didn’t know. However, I would hazard a guess that management are pleased they are now in a position where they can at least manage the damage that’s already been done. That will no doubt include investing in safeguards to ensure it never happens again.

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David Taylor has no position in any shares mentioned. The Motley Fool UK has recommended GlaxoSmithKline. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.