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Should GlaxoSmithKline plc Be Broken Up, As Neil Woodford Urges?

A few years back, when the pharmaceuticals sector was hit by the expiry of a number of key patents and increasing competition from generic drugs, one of GlaxoSmithKline‘s (LSE: GSK) strengths was its size — if anyone had the market clout to crank its drug development pipeline up a notch while keeping eyes peeled for acquisition possibilities, it was surely Glaxo.

But wind on to today, and the pace of progress has been disappointing. The share price has lost 16% over two years, to 1,423p, and looking back over five years we see a gain of only 12%. Dividends have kept on rising, but earnings have been falling — and though this year’s cash handout looks set to yield 6.5%, it wouldn’t be covered by earnings which are set to decline by another 20%.

And though the company reported an 11% growth in core turnover in its third-quarter results, core EPS declined by 13%, as the firm’s product mix shifts to lower margin (but steadier) sales.

Break-up

On top of that, ace investor Neil Woodford is now urging a breakup of the company. According to Sky News, the boss of Woodford Investment Management has been in talks with Glaxo chairman Sir Philip Hampton, trying to persuade him that splitting out the firm’s HIV division (ViiV), its consumer healthcare division and its dermatology division, might be a good move. That comes just a year or so on from Mr Woodford’s support for Glaxo helping bolster the City’s confidence in the drug giant, so is his apparent change of mind a good sign?

GlaxoSmithKline’s changes in direction have been controversial in some circles, after a deal with Swiss giant Novartis saw Glaxo taking over the latter’s vaccines unit, while merging interests to create a new joint venture in the consumer healthcare market, and offloading its cancer business. And at one stage, it looked as if a spin-off of Viiv might be imminent.

But refocusing on lower-margin products like vaccines appears to have had an adverse effect of highlighting Glaxo’s slow pipeline development, particularly regarding its flagship asthma and COPD drug Advair which is facing increasing competition — and the planned replacement for it, Breo Ellipta, has not lived up to early promises for the treatment of COPD with a failure to show it can reduce mortality rates, thus not edging it ahead of the competition.

A return to earnings growth before 2016 was never really on the cards, but confidence in the size of that year’s growth has been slipping. Over the course of the past 12 months, EPS forecasts for both 2015 and 2016 have been scaled back, and most of the City’s tipsters don’t know whether we should buy or sell the shares — the bulk of them are sitting on the Hold fence.

Leave well alone?

But do we just need to have a little more patience? Chief executive Sir Andrew Witty told us at Q3 time that the benefits of the Novartis deal are starting to show through, and said he is confident of “a return to earnings growth in 2016” — oh, and that the 2015 dividend will not be cut. He has also been publicising Glaxo’s pipeline innovation of late, touting the first antibiotic candidate in a new class as a possible winner. The seven-year period Sir Andrew has been in the role is still a short one in terms of what it takes to bring about a long-term turnaround.

In my view, talk of a break-up of GlaxoSmithKline is premature, and we should forget the short term and wait and see what the next couple of years bring.

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Alan Oscroft 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.