Why Vectura group plc and GlaxoSmithKline plc could be the perfect combination

Shares in Vectura (LSE: VEC) are charging higher today after the company issued an upbeat trading statement ahead of its AGM to be held later today. The company reported stronger than expected trading and raised revenue expectations for the nine months to December 31.

Vectura is one of the London market’s greatest pharmaceutical success stories. The company’s growth has been explosive over the past few years and after merging with peer Skyepharma in June, the enlarged group is now poised to become a significant player in the industry. Sales across all of the company’s product lines are expanding at a high double-digit rate, and the group has a number of new treatments under development to further growth. Indeed, within today’s update Vectura revealed that sales for its Fruitform product for the six months ended June 30 were 42% ahead of the same period a year earlier at €92.4m from €65.1m a year earlier.

City analysts have been expecting Vectura to report earnings per share of 4.9p this year, putting the group on a forward P/E of 32.5 — these figures haven’t yet been adjusted to reflect today’s optimistic trading statement. At the end of 2015, the company reported a cash balance of £90m before the all-share merger with Skyepharma, which works out at around 10.8p per share.

Vectura’s earnings are growing rapidly, but the company’s premium valuation may put some investors off. If you’re wary of including Vectura in your portfolio, combining it with larger peer GlaxoSmithKline may be the perfect solution.

Old dog, new tricks? 

GlaxoSmithKline  (LSE: GSK)  seems to be a love/hate stock. On the one hand, there are those who love the company for its above-average dividend yield and defensive nature. But on the other hand, many are worried about Glaxo’s patent cliff, which has already started to impact sales and income.

Last year Glaxo’s exclusive manufacturing patent for Avodart expired. The treatment for an enlarged prostate gland was generating sales of $973m for the company at its peak in 2010. And next year, it’s expected that generic versions of Glaxo’s blockbuster Advair treatment will hit the market. Last year, Advair accounted for 13% of overall group sales.

Still, Glaxo is making progress towards replacing these lost revenues. For the first half of 2016, the company reported revenue growth of 6% at constant exchange rates with core operating profit up 14%. The company expects full-year core earnings per share to grow by 11% to 12% at constant exchange rates. City analysts have pencilled-in earnings per share growth of 27% for the year ending 31 December 2016 and growth of 6% for 2017. Both of these estimates factor-in sterling’s depreciation.

The perfect mix? 

Combining Vectura and Glaxo in your portfolio would give you a strong mix of income and growth. Glaxo’s shares currently support a dividend yield of 5% and trade at a forward P/E of 17. Meanwhile, Vectura’s earnings per share are set to grow by 56% next year to 7.7p, even though the company’s shares look expensive now, this kind of growth deserves a premium valuation.

The worst mistake you could make

Spreading your bets by buying both Glaxo and Vectura could help you outperform the market. According to a study conducted by financial research firm DALBAR, the average investor realised an average annual return of only 3.7% a year over the past three decades, underperforming the wider market by around 5.3% annually. A lack of diversification and over trading are the most commonly cited reasons for investor underperformance. 

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Rupert Hargreaves owns shares of GlaxoSmithKline and Vectura. The Motley Fool UK owns shares of and 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.