Should I Invest in GlaxoSmithKline?

LONDON -- To me, capital growth and dividend income are equally important. Together, they provide the total return from any share investment and, as you might expect, my aim is to invest in companies that can beat the total return delivered by the wider market.

To put that aim into perspective, the FTSE 100 has provided investors with a total return of around 3% per annum since January 2008.

Quality and value
If my investments are to outperform, I need to back companies that score well on several quality indicators and buy at prices that offer decent value.

So this series aims to identify appealing FTSE 100 investment opportunities and today I'm looking at GlaxoSmithKline  (LSE: GSK  ) (NYSE: GSK  ) , which is one of the world's leading pharmaceutical research and manufacturing companies.

With the shares at 1,463 pence, Glaxo's market cap is 71,670 million pounds.

This table summarizes the firm's recent financial record:

Year to December 2008 2009 2010 2011 2012
Revenue (in millions of pounds) 24,352 28,368 28,392 27,387 26,431
Net cash from operations (in millions of pounds) 7,205 7,841 6,797 6,250 4,375
Adjusted earnings per share (in pence) 104.7 121.2 53.9 114.1 112.7
Dividend per share (in pence) 57 61 65 70 74

Despite a challenging 2012, Glaxo reckons it has made good progress developing potential new medicines across multiple disease areas including respiratory, oncology, diabetes and HIV that should help to boost forward trading. The one bright spot in the firm's recent full-year trading results was its performance in emerging markets and the Asia-Pacific region, which contributed 26% of revenue that grew in double-digits during the year. All other regions saw sales contract, with the U.S. delivering 32% of revenue, Europe, 28%; Japan, 8%; and other regions, 6%.

The firm has been concentrating on cost control and financial efficiencies, which enabled it to continue with its progressive-dividend policy and its program of share buybacks. Growth in the majority of the company's business may have recently stalled, but the directors are expecting strong cash generation in 2013, which will support increasing dividends, share repurchases of between 1 billion to 2 billion pounds, and further acquisitions.

Investors have been attracted to Glaxo for its dividend yield for some time and I'm sure that such potential income will remain a big part of the firm's total-return potential going forward.

GlaxoSmithKline's total-return potential
Let's examine five indicators to help judge the quality of the company's total-return potential:

  1. Dividend cover: adjusted earnings covered the last dividend around 1.5 times. 3/5
  2. Borrowings: net gearing is around 210% with net debt just over twice earnings. 2/5
  3. Growth: revenue and cash flow have been declining; earnings have been flat. 1/5
  4. Price to earnings: a forward 12 looks fair compared to growth and yield forecasts. 4/5
  5. Outlook: mixed recent trading and a cautiously optimistic outlook. 3/5

Overall, I score Glaxo 13 out of 25, which leads me to believe the firm's total-return potential is dependant on its dividend performance, which may struggle to out-perform the wider market.

Foolish summary
Dividend cover is satisfactory and the firm's cash flow helps it cope with its debt. Growth has been negative in most regions but the outlook provides some reassurance. Perhaps due to recent weaker trading, the valuation seems relatively undemanding, which encourages me to believe that, yes, Glaxo could make a solid longer-term investment. 

In fact, it's one of 8 Income Plays Held By Britain's Super Investor. This report analyses the 20 billion pound portfolio of legendary high-yield expert Neil Woodford and is free for a limited time. To discover the other seven of his favorite dividend growth selections, click here.


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