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Something Strange Is Going On At GlaxoSmithKline plc…

As part of a drive to rebuild its image after the Chinese bribery scandal, GlaxoSmithKline (LSE: GSK) (NYSE: GSK.US) announced sweeping changes to the company’s employee compensation plan. 

In an attempt to prevent employees from bribing their way to higher sales figures, Glaxo announced major changes to its sales and marketing practices. Specifically, employees were no longer awarded for hitting or surpassing sales targets. 

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At the time, Glaxo’s management hailed this change in strategy, boasting that the company was the first in the pharma industry to change its practices. But now, more than a year on, there are signs that this change has done irreversible damage to Glaxo’s sales and future outlook. 

Increasing competition 

Even though Glaxo decided to change the way it pays staff, almost all of the company’s peers have continued to pay staff using a commission model. And when the company’s revealed this year that US sales were sliding, it didn’t take City analysts long to put two and two together. 

Indeed, some analysts now believe that Glaxo’s US sales staff have lost all of their motivation to sell, as performance is not rewarded, the right incentives are no longer offered. Meanwhile, sales teams working for competitors are still highly motivated.

So all in all, Glaxo is losing market share to more aggressive competitors. 

Cutting costs 

As sales have started to slide, Glaxo’s management has decided to cut costs, in an attempt to maintain profitability and widen margins. Alongside third quarter results, the group announced a £1bn cost-cutting programme that was to take place over the next three years. 

A cost cutting plan is a strange move for a company that only recently:

“… [launched] more new medicines than any other company in the industry in the past 18 months…”

Unfortunately, the bulk of these cost savings will be achieved by slashing the research and development budget. Management has already decided to axe 900 jobs in North Carolina US, around 5% of the company’s total US workforce. Chemists, engineers, biologists, statisticians and clinical development scientists are the main types of jobs to be eliminated.

Glaxo claims that these job cuts are ‘strategic’, in an attempt to reshape the size of the company’s R&D operations, to be more agile to flex with shifting market demands. 

Hefty job cuts, a £1bn restructuring plan and deteriorating sales are concerning. What’s more, it remains to be seen how this round of R&D job cuts will affect Glaxo’s long-term outlook, and ability to compete effectively with rivals.

The bottom line 

Overall, Glaxo tried to change for the better but it seems as if this change has backfired.

Still, for the time being, Glaxo remains an attractive investment but this could change as sales continue to slide. With this in mind, it could payoff to keep an eye on the company and sell if things look like they’re getting worse.

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Rupert Hargreaves owns shares of GlaxoSmithKline. 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.

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