Three Lions and a Dog – Three great British companies you can’t buy and one you don’t want to

The following three British companies may not be the lions on the English football team’s shirts, but they are all global leaders in their fields. They have excellent and defendable competitive positions, good growth prospects and a high intrinsic value, but they cannot be bought on the stock market.  The final company can be bought, but has a terrible stock market reputation with a share-price that has gone nowhere for 10 years1. However, the four are linked in an intriguing way.

My first Lion is one of the world’s leading vaccine companies, with sales of £3.7bn2 supplying vaccines to 170 countries3. Its vaccines help prevent illnesses including influenza, hepatitis and whooping cough and it has promising new products aimed at shingles and meningitis as well as research into malaria, HIV and ebola. Ironically, one of the attractions of selling vaccines is the complex, lengthy and expensive process of bringing new products to market, which restricts competition and allows the business to sustain high returns.

My second lion is the world’s largest over-the-counter (OTC) medicines company, with a number one market positions in 36 countries. Its sales of £6.3bn2 are roughly twice the sales of Reckitt Benckiser’s highly regarded Health division. Brands include Sensodyne toothpaste, Panadol, Voltaren and Otrivin.  OTC medicines can be very profitable with high consumer loyalty and complex medical approval regulations creating barriers for competition.

The third lion is one of the world’s leading manufacturers of pharmaceuticals for the treatment of HIV. In 2015 it had annualised sales of £2.3bn with two relatively new products driving overall growth of 54% over 2014. The business makes an operating margin of over 70%2 before research & development costs.

The fourth company or the “dog” is GSK, or GlaxoSmithKline, one of Britain’s biggest companies. It has been a very disappointing investment for many years. The share price today is broadly the same as it was ten years ago and it is still below the level reached at the turn of the century.   Profits have been under pressure for 5 years as key blockbuster drugs have faced generic competition and price pressure. Core earnings per share have gone backwards since 2010 as shown in the following table:

GSK eps

Understandably, with that track record, the shares are not well liked, with only 8 out of 34 sell-side analysts covering the stock having buy recommendations5, whereas the other large pharmaceuticals stocks in the UK, AstraZeneca and Shire, have 20 out of 36 and 14 out of 15 buy recommendations respectively.

So what is the connection between the three lions and the dog? Actually, all three lions are owned by GSK.  In fact, half of GSK’s consolidated revenues come from its three lions.  The rest of the group’s sales comes from their other pharmaceutical activities, with around half of that in the respiratory area.  It may seem strange that a company with such promising businesses can have such a poor track record.  What this masks is the massive transformation that has been taking place in the company in the last few years.  On the one hand, its large blockbuster drugs like Seroxat/Paxil, Advair and Lovaza have seen a sharp drop in sales and profits due to patent expiries and increasing competition.  That leaves a far smaller base of blockbusters vulnerable to similar threats in the next few years.  On the other hand, significant corporate change, notably the major asset swap with Novartis last year, has substantially increased GSK’s operations in consumer health and vaccines.

This makes GSK a particularly intriguing company to analyse at the moment. Looking backwards, the track record is uninspiring, at best.  The company has been running up a down escalator as its legacy blockbuster drugs reached the end of their patent lives.  Cash conversion has been poor and shareholders’ main reward has been a healthy dividend payment.  However going forwards, it looks like a completely different prospect.  GSK now has the three lions, each with good organic growth prospects.  In addition, there is scope to improve their profitability as synergy benefits accrue following the large acquisitions last year.  Also, the remaining pharmaceutical business now looks more broadly spread, with far less reliance on a handful of giant legacy products.  GSK has a range of new products entering the marketplace, notably in the respiratory field, which should provide a more diversified platform and stable base into the future.

I have only limited confidence in England’s three lions roaring in the European Football Championship this year, but I have confidence that GSK’s three lions will be roaring loudly in the years to come.

Simon Gergel

 

1. This is no recommendation to buy or sell any particular security
2. 2015 proforma figures, source: company results statement and presentation.
3. Company information 2015
4. GSK information
5. Bloomberg, 5.2.16

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Author - Simon Gergel

Simon Gergel

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