The Hindu Business Line : GlaxoSmithKline Pharma: Hold

WITH frontline domestic pharma majors such as Ranbaxy and Dr Reddy's having to contend with heightened pressure on the generics front in the key American market, stocks of pharma MNCs appear the safer option.

GlaxoSmthKline Pharma is no exception to the rule. At the current price of Rs 950, the stock trades at a multiple of about 25 times its expected per share earnings for CY-05. Though the valuation appears rich, Glaxo has historically quoted at an earnings multiple of 22-26 times, given its inherent strengths in the domestic formulations market and its parentage. We also believe that in the event of broad market turning volatile, stocks such as Glaxo would act as defensives and mitigate significant downside risks.

Financials

In Glaxo's case, it has been a case of improving financials over the past three years. From operating margins in the mid-teen levels in 2002, Glaxo's margins, in the latest quarter, at 31.6 per cent, should put it in the top bracket along with peers such as Sun Pharma and Aventis.

The gains in operating margins have been the result of Glaxo's focus on rationalising costs and place greater emphasis on its power brands — a set of 30 brands that were identified as growth drivers. The benefits of these initiatives are reflected in the bottomline and it is not without reason that the stock has more than trebled over the past three years.

The road ahead

We believe that Glaxo has reaped significant benefits from its cost management exercise, and any improvement in margins is likely to be more measured. As a result, we expect the growth in earnings to cool off a bit, till such time Glaxo decides to bring in products from its parent's portfolio to take advantage of the transition to the product patent regime.

In the intervening period, Glaxo can leverage its strengths in marketing by having in-licensing arrangements with other innovator companies seeking an entry into the Indian market. Such agreements would also enable Glaxo plug gaps, if any, in its product portfolio. Glaxo, traditionally strong in the anti-infective, dermatology and the vaccines segments, is entering the diabetes and cardiovascular therapy areas, both of which hold promise.

Outlook

Though the earnings growth is likely to taper down, the growth in EPS could be higher, courtesy a buyback programme that is in progress. Glaxo has had a consistent record of pursuing shareholder-friendly initiatives and may choose to return the cash generated through the sale of its properties, either through a continuation of the buyback or in the form of a special one-time dividend. Investors can expect such measures to provide downside protection and stay with the stock.

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