GlaxoSmithKline (NYSE: GSK)

Recommended Action: Buy

Ja Kyung Kim Palak Patel Sebastian Predescu Tian Wen

About GSK
Research-based pharmaceutical company headquarted in UK, operations based in US.
Also operates in over 100 countries. 2 major segments - pharmaceutical and consumer healthcare.

Pharmaceuticals
7% of the worlds pharmaceutical market.
Medicine targets six major disease areas (asthma, virus control, infections, mental health, diabetes, digestive conditions). Leader in vaccines (1/4 of the worlds vaccines), currently developing new treatments for cancer.

Consumer Healthcare
Over-the-counter medicines.
E.g. Gaviscon, Panadol

Oral care.
Aquafresh, Sensodyne, Dr Best toothbrushes

Nutritional healthcare products.

Horlicks, Ribena, Lucozade

Porters Five Forces

Supplier Power GSK is its own supplier; it invests in R&D to create patentable pharmaceuticals. Patents give them a transient monopoly over their products; in order to allay their expiration, GSK will often slightly modify their drugs to deem them worthy of a new patent. Rivalry Pfizer (PFE), Novartis AG (NVS), Merck (MRK), ScheringPlough (SGP), Sanofi-Aventis (SNY). All (except PFE) have smaller market capitalizations. GSK has the strongest employee base, with an average of 9000 more employees than its major competitors.

Buyer Power Plethora of prescribing doctors and millions of individual patients and customers with little buyer power Nonetheless, state and federal governments often litigate pharmaceutical companies such as GSK on behalf of the consumer Pharmaceutical companies may have to pay hundreds of millions of $ and reduce prices in the future if they are found to be guilty of defrauding Medicaid, a charge that has been brought against them for years.

Barriers to Entry Intellectual property well protected (patents); however, will lose patents on 7 of its 10 most successful pharmaceutical products by 2009 GSK has already spread globally and employs over 100,000 people in 117 countries; significant investment required to reach their level

i.e. entering companies must focus on growth; GSK is already large and can invest a great deal into R&D instead

Threat of Substitutes For the time being, low; by 2009, though, GSK will lose patents on several products which accounted for 22% of their sales in 2006, allowing generic substitutes to replace them Advair (14% of revenues in FY 2006) will face competition from AstraZenecas Symbicort, which will be released this year

Similarly, Avandia (7% of revenues in FY 2006) faces competition from Mercks new oral diabetes drugs

SWOT Analysis
Strengths
Strong brand recognition; an industry leader Focus on research Leader in vaccines High-quality products Diversification of products Covers WHOs three priority diseases Global enterprise Humanitarian efforts

Weaknesses Side-effects Avandia, Ziagen High R&D Costs In-licensing Joint deals

Opportunities Continued expansion Growing need/demand for healthcare Rapid technological advancement

Threats Government restrictions FDA Media Coverage

Competitor Analysis
GSKs primary competitors are Merck, Pfizer, AstraZeneca, Eli Lilly, and Wyeth.

GSK competes with different firms for sales of different types of medication.
GSK and Merck are fiercely competing over treatment for HPV. Mercks Gardasil has been approved for sale by the FDA and is expected to reach $1 billion in sales. GSK is trying to create a cheaper HPV vaccine with Cervarix. GSKs toughest competition will come from generic drug makers. In fact GSKs share price decline has resulted from an expected sales decline due to competition from generics. GSK is has launched a $3 billion effort to cut costs.

Standard Valuation Metrics

Div & Yield: 2.51 (5.90%) P/E (ttm): 11.59 Market Cap (intraday): 114.62B Price/Book (mrq): 6.08 PEG Ratio (5 yr expected): 4.21 Return on Assets (ttm): 17.46% Return on Equity (ttm): 54.92%

Financial Statements
Income Statement Cost of revenue / total revenue = 0.22
Merck 0.25

Operating income = 12.5B - steady growth Balance Sheets Total Assets = 105B (only 4.8B in inventory) Total Liabilities = 37B Long term debt = 9B - steady decline

Discount Cash Flow

Main Assumptions:
5% growth rate 30% profit margins 6% discount rate (WACC=4.5%) Mildly conservative on other estimates

Calculated value per share = $50.00 Closing price 4/17/08 = $42.66

Summary
DCF shows that GSK is currently undervalued (42.66 vs calculated 50) Impressive balance sheet, total assets exceed liabilities substantially. Good investment on a company with good potential for growth.