If this corporate giant breaks up, shareholders should prosper

The boss of pharmaceutical giant GSK has hinted the company could be split in two. That would be great news for shareholders, says Ed Bowsher.


GSK: break-up gives investors more choice

It's funny how fashion changes in the corporate world.

Back in the 70s, the sexiest companies were conglomerates that operated in lots of different industries. So a conglomerate might have separate divisions selling, say, tobacco, frozen food and hotel rooms.

In the 90s, fashion changed. Focus became trendy. Many conglomerates were broken up into separate companies operating in just one industry. That was a sensible change. If the directors of a company focus on just on one industry, they're more likely to build up specialist knowledge and not get distracted by ephemera.

That said, even though this change in fashion started 25 years ago, there are still some conglomerates with break-up potential. And there's one which I think is well worth buying.

This company could slim down

So which company am I talking about?

GlaxoSmithKline (LSE: GSK), the pharmaceutical giant.

I know, the words, pharmaceutical giant' suggest that Glaxo is a company that operates in one industry medical drugs. But actually, that's not true.

Granted, the main part of Glaxo's business is developing patent-protected pharmaceutical drugs. But Glaxo also has a consumer healthcare business that sells products you can buy in your local convenience store things such as toothpaste and vitamin tablets.

Admittedly, there is some overlap between pharma drugs and consumer healthcare, but not that much, and I think it would be better for shareholders if consumer health was spun off into a separate company. Senior management in both companies would then be fully focused on either pharma drugs or consumer products. And that should lead to improved performance.

What's more, a break-up gives more choice to investors. Currently, if you buy shares in Glaxo, you're investing in the main pharma drugs division as well as the consumer health division. The consumer division generates around 20% of sales and roughly 10% of the profits. So on a back of the envelope' basis, perhaps 15% of your investment is going into consumer health with the rest in pharma drugs.

But you might think that consumer health is a rubbish business, and you really want to invest all your cash into pharma drugs, or vice versa. But you don't have that option. You're stuck with Glaxo as it is. It's a simple binary decision you invest in Glaxo as it is now, or not at all.

But if Glaxo was split up into two companies with separate stock market listings, you could invest 60% of your money in Glaxo Consumer' and 40% in Glaxo Pharma'. Or whatever proportions you fancied. The choice would be yours.

I think that extra choice could bring in more investors.

We could also see some multiple expansion'. Basically, large consumer product companies tend to trade on higher price/earnings (P/E) ratiosthan pharmaceutical companies. For example, Glaxo currently trades on a price/earnings ratio of 12, whereas Unilever's ratio is 19. So Glaxo Consumer' might well trade on a higher multiple than 12, and that would deliver a financial boost to existing shareholders.

If you're wondering why consumer companies tend to have higher price/earnings ratios, I think it's mainly because they're less risky. The likes of Unilever (LSE: ULVR) and Reckitt Benckiser (LSE: RB) don't have to worry too much about their products losing patent protection'. But patent expiries are a huge issue for large pharma companies.

Why now?

I'm writing about this now because Glaxo's boss, Sir Andrew Witty, hinted in an FT interview yesterday that he might be willing to spin off the consumer health division. What's more, I think a corporate deal with Novartis earlier this year makes a spin-off even more attractive and more likely too.

You see, Glaxo and Novartis are about to merge their consumer divisions into a joint venture where Glaxo will have a 63.5% stake. As a larger business, it should be all the more attractive as an independent entity.

It's also worth noting that Reckitt Benckiser announced yesterday that it was selling off its pharma division so that it can focus purely on its 19 consumer power brands'. So I think Glaxo should follow Reckitt's lead.

So should you buy shares?

Well, I own shares in Glaxo, so you'd expect me to be positive. But at the current price of £14.12, with a price/earnings ratio of 13, I think the company is in bargain territory. Admittedly, bears are concerned that the company's new respiratory drugs have got off to a disappointing start in the US, but I think that's probably a short-term problem and the shares have fallen too far.

In fact, I think the shares are a bargain even if Glaxo never does spin off the consumer division. But if the spin-off does happen it will be a nice catalyst for some share price growth. Go on, Sir Andrew. Spin off consumer health!

Our recommended articles for today

Latin America's new best friends

Russia, China and Japan are starting to take Latin America seriously, and investment is pouring into the region. That's great for investors, says James McKeigue.

Should you invest in Tesco?

In his latest video, Ed Bowsher asks if the appointment of Dave Lewis as CEO of Tesco means you should go out and buy its shares.

On this day in history

29 July 1948: opening ceremony of the 1948 London Olympics

Dubbed the 'Austerity Games', the XIV Olympiad opened in London to 85,000 spectators in Wembley Stadium on this day in 1948.


An investment trust that gives exposure to frontier markets
Investment trusts

An investment trust that gives exposure to frontier markets

An investment trust investing in small, illiquid emerging markets has disappointed, but deserves another chance, says Max King
26 Oct 2021
Get healthy returns from these three healthcare stocks
Share tips

Get healthy returns from these three healthcare stocks

Professional investor Paul Major of the BB Healthcare Trust highlights three of his favourite healthcare stocks.
25 Oct 2021
Back on track: why you should invest in railways
Share tips

Back on track: why you should invest in railways

Rail transport suffered a severe blow in the pandemic. But while post-Covid-19 working patterns may reduce revenue, trends in technology, long-distanc…
22 Oct 2021
Airtel Africa has growth on speed dial. Here's how to play it

Airtel Africa has growth on speed dial. Here's how to play it

Mobile-phone group Airtel Africa is cashing in on the rise of the continent's digital economy and looks set for years of rapid expansion, says Matthew…
22 Oct 2021

Most Popular

Properties for sale for around £1m
Houses for sale

Properties for sale for around £1m

From a stone-built farmhouse in the Snowdonia National Park, to a Victorian terraced house close to London’s Regent’s Canal, eight of the best propert…
15 Oct 2021
How to invest as we move to a hydrogen economy

How to invest as we move to a hydrogen economy

The government has started to roll out its plans for switching us over from fossil fuels to hydrogen and renewable energy. Should investors buy in? St…
8 Oct 2021
Emerging markets: the Brics never lived up to their promise – but is now the time to buy?
Emerging markets

Emerging markets: the Brics never lived up to their promise – but is now the time to buy?

Twenty years ago hopes were high for Brazil, Russia, India and China – the “Brics” emerging-market economies. But only China has beaten expectations. …
18 Oct 2021