Is it still worth buying GlaxoSmithKline shares after its Haleon spin off?

GlaxoSmithKline, has completed the spin-out of Haleon, its consumer healthcare business. So should you still buy Glaxo shares? Rupert Hargreaves looks over the business's prospects.

GlaxoSmithKline (LSE: GSK) has been a top pick for UK income investors for years, but that is set to change following the demerger and listing of its consumer healthcare business, Haleon (LSE: HLN)

Following the separation, Glaxo now owns a 68% stake in Haleon – its joint venture partner, Pfizer (NYSE: PFE), owns the remainder. The consumer healthcare group started trading with a market capitalisation of a little over £30.5bn.

It was previously believed that Pfizer would hold onto its stake after the spin off, but the company has announced that it will be selling out of the holding in a “disciplined manner.” 

The separation is one of the biggest changes for Glaxo in its long history and leaves investors with two very different companies. A nimble global pharma giant, and a consumer healthcare business that’s expected to produce low single-digit revenue growth for the next few years

Glaxo is also cutting its dividend as part of the demerger. It paid out 14p a share for the second quarter of 2022, compared to 19p last year. Management is forecasting 27p per share for the rest of the year and 45p per share for 2023. That’s a decline of 44% from 2021. 

Haleon is yet to lay out its dividend policy, but initial comments suggest it will distribute 30% to 50% of earnings.

Glaxo’s pharma business could be worth far more as an independent entity 

While Glaxo has world-leading HIV and vaccines businesses, its pharmaceuticals division has often lagged others in the sector. For example, it has been slow to develop its own innovative oncology drugs and is now trying to catch up using acquisitions. The oncology unit accounted for just 3% of total pharma sales last year. 

Glaxo’s one-off £7bn payout from the Haleon demerger will give the businesses a cash infusion that it will be able to spend on research and development as well as acquisitions. This should add some much-needed sparkle to Glaxo’s drug portfolio. 

Management is already splashing the cash. In April, Glaxo agreed to spend £1.5bn to buy Sierra Oncology, which is testing a drug for anaemic patients with a type of bone marrow cancer called myelofibrosis. Management estimates this treatment could reach peak sales of £1.3bn a year. And last month, the group agreed to pay $2.1bn upfront and up to $1.2bn more in potential development milestones for Affinivax, a clinical-stage vaccine developer. 

There is also a need to find new treatments to fill the gap that will emerge as older products lose patent protection in the years ahead. The company will lose patent exclusivity on the HIV drug dolutegravir (worth about £3bn a year) at the end of 2027. 

The group is making progress filling the gap. In 2020, it received approvals for Blenrep, a treatment for a form of blood cancer called multiple myeloma. Last June, Glaxo agreed to pay up to £1.5bn to iTeos Therapeutics Inc to develop and sell a potential cancer treatment together. 

Most notably the company is planning to apply for approval for its respiratory syncytial virus (RSV) vaccine for older adults after test results showed that the treatment could be highly effective. RSV can be severe in older adults and infants causing as many as 360,000 hospitalisations a year. Estimates suggest that the market for a RSV vaccine could be worth as much as $4bn a year. 

Alongside these successes, there have been some failures along the way, but this is just part and parcel of the pharmaceutical business. Only around 14% of drugs succeed in clinical trials and make it to market. 

After spinning off Haleon, Glaxo should be able to re-focus on growing its pharmaceutical pipeline, and the infusion of cash from the deal will give the firm much-needed firepower to develop new treatments and fund new deals – it costs £1.3bn on average to develop a new drug.  

The two companies could be worth more after the separation 

Even though Glaxo has cut its dividend due to the de-merger, the deal has already created value for investors. 

Before the spin off, Glaxo had a market value of £110bn. Today, the combined market capitalisation of the two entities is around £118bn. That’s a modest increase in value for investors, although it’s a bit disappointing. 

Glaxo’s blue-chip peer, Unilever (LSE: ULVR) tabled an offer of £50bn to buy Haleon last year, which was rejected as being too low at the time. This looks like a bit of an error considering what we know today. Markets are facing a highly uncertain outlook, and company valuations reflect that. Unilever’s offer was made at the top of the market and it would have allowed Glaxo to book a large profit on the sale. 

Knowing what we know today it’s not clear if the business is going to be worth much more as a public company. 

Analysts at Barclays estimate the firm could earn 16.6p per share this year on sales of around £10bn. That puts the stock on a price/earnings (p/e) ratio of 19.3, roughly in line with the sector average. If it pays out 50% of these profits as management has suggested, investors could be in line for a 2.6% dividend yield (based on the current share price of 320p).

Still, the remaining pharmaceutical business does look as if it could be worth a lot more. One of the reasons given for the spin off is that it would help investors distinguish between the slower growth consumer healthcare business and the faster-growing, more lucrative pharmaceutical division. This, in turn, would lead to a higher valuation for Glaxo’s remaining business. 

The vaccines and pharma arms produced sales of £24.5bn in 2021. Its large US peers are trading at an average price/sales (p/s) multiple of 5.4, suggesting the standalone pharma business could be worth as much as £132bn. 

This is a best-case scenario, and much depends on Glaxo’s ability to generate growth in its drug pipeline, but it illustrates what could happen in the best-case scenario. 

So, while Haleon’s spin off might not have created the value investors might have hoped for immediately, I wouldn’t give up on either just yet. I think the vaccines and pharma arm has tremendous growth potential and Haleon has scope to be an income champion

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