GlaxoSmithKline (LSE: GSK) finally completed its long-awaited spin off of its consumer health arm, Haleon (LSE: HLN), today.
Shares in the maker of goods such as Sensodyne toothpaste and Panadol painkillers started trading at 330p, giving the newly-listed business a market capitalisation of £30.5bn and making it the largest London IPO since Glencore’s (LSE: GLEN) offering in 2011.
But despite the fanfare around the offering, it’s likely to come as a disappointment for some as Haleon’s £30.5bn market value is below the £50bn Unilever (LSE: ULVR) was prepared to pay last year.
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Still, this isn’t really an apples-to-apples comparison. Unilever would have had to offer Glaxo a premium in order to get it to sell, and it made the offer near the top of the market. Indeed, the S&P Global 1200 Consumer Staples Sector Capped Index (an index of consumer staples stocks) is off around 10% year-to-date.
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Saying that, Haleon is now the world’s only listed pure-play consumer health group so it is a bit difficult to find any direct comparisons. The only other public entities with a foot in the market (in developed markets) are Reckitt Benckiser (LSE: RB) and Johnson & Johnson (NYSE: JNJ). J&J is planning its own spinout next year.
A spin off years in the making
Shareholders received one Haleon share for each Glaxo share and the market value of the latter dropped to reflect the reduction in value. However, the remaining group will consolidate its shares to bring the price back inline with its pre-demerger level.
Unfortunately, I wouldn’t be surprised if Haleon’s poor stock performance continues for the rest of the year. There are bound to be a lot of shareholders who would rather own Glaxo, which will have a strong balance sheet and more growth potential after the split due to its focus on vaccines and drugs. That suggests there could be significant selling pressure on the stock as investors rotate from one company to another.
Then there’s the question of Glaxo and Pfizer’s (NYSE: PFE) combined $15bn shareholding. The former joint venture partners have said they will be reducing their holdings when the lock-up ends in November. This could put further pressure on the stock.
Haleon is also starting its life with £10bn of debt and is only expected to see revenue growth of 4% to 6% per annum in the near term. With the stock trading at a forward price-to-earnings ratio of around 20, (based on Barclays’ earnings per share estimate of 16.6p for the current year) it also looks expensive.
Put simply, Haleon’s growth is nothing to shout about, it has two large sellers in the market, a lot of debt and the stock looks expensive.
So what’s to like about the business?
In my view, there are a couple of reasons why investors might want to own this stock (or hold onto the shares they’ve already received).
The consumer healthcare market is one of those sectors that doesn’t generate much excitement, but plays a huge role in our daily lives. Products like Voltaren, a nonsteroidal anti-inflammatory drug, give consumers a cheap and effective way to treat various ailments, for example.
And while it is true there are several cheaper and own-brand competitors out there, when it comes to medications, brands carry much more weight than in any other sector. No one wants to consume medication from an untrustworthy source.
Two key areas of growth for the company are emerging markets and so-called prescription drug “switches.” This is a regulatory process that allows the sale of established prescription drugs as over-the-counter medicines. Voltaren in the US is one of the most recent “switches” and there are more in the pipeline with two planned by 2026.
Producing and selling low-cost medicines at volume is becoming big business, and the market is only likely to grow as the purchasing power of the emerging market consumer expands. According to projections, in India alone, 600m people with $10.5trn of spending power are on the verge of joining the middle class. This is just the sort of growth that will drive top line growth over the next couple of decades.
E-commerce will form a critical part of Haleon’s expansion in these markets. Management wants to grow online sales to a mid-teens percentage of overall sales by the middle of the decade, from a single-digit percentage currently.
These are the three growth drivers that will support Haleon’s expansion in the years to come. The fact that the group is the only way investors can currently invest in the global consumer healthcare market is also notable.
Haleon does not appear to be the best bet in the sector
However, I’m not convinced it’s the best bet on this industry right now.
Before the spin-off, Glaxo’s management declared that Haleon would aim to pay 30% to 50% of its income out as a dividend. Based on current earnings estimates, that suggests a payout of 8.3p a year or a yield of 2.5% on the issue price. It seems unlikely the group will be able to distribute more until it has made a sizable dent in the £10.5bn debt pile that’s been forced on it by Glaxo and Pfizer (both took billions out of the business as dividends before the spin off).
Taking these factors into consideration, I can’t see many reasons to buy Haleon today. The stock looks a bit on the pricey side and its yield leaves a lot to be desired. Reckitt is trading at the same valuation, yields 2.8%, has a growing emerging market business, less debt and a more diversified product portfolio. If I had to pick one of the two, I’d pick the latter.
Disclosure: Rupert Hargreaves owns shares in Reckitt
