GSK

Business Context and Reporting Period

Company: GlaxoSmithKline plc (GSK)
Filing Type: Form 6-K (Preliminary Results Announcement)
Reporting Period: Year ended 31st December 2006
Issuance Date: 8th February 2007
Overview: GSK reported a strong 2006 performance driven by robust US pharmaceutical sales and a widening portfolio of fast-growing products. The company delivered a 19% increase in Earnings Per Share (EPS) on a Constant Exchange Rate (CER) basis.

Key Financial Metrics

Segment Performance (2006):

• Pharmaceuticals: Turnover £20.1 billion (+9% CER). US sales up 16% to £10.4 billion.
• Consumer Healthcare: Turnover £3.1 billion (+6% CER). International (+10%) and Europe (+7%) outperformed the flat US market.

Liquidity and Debt:

• Net Debt: Increased to £2.45 billion (from £1.24 billion in 2005), primarily due to a £1.8 billion gross payment to settle a US tax dispute.
• Cash and Equivalents: £2.005 billion at year-end.
• Share Buybacks: Repurchased £1.348 billion of shares in 2006. A new £6 billion buyback program was commenced in October 2006.

Material Changes vs. Prior Period

• Revenue Growth: Driven by double-digit growth in key products: Seretide/Advair (+11%), Lamictal (+19%), Avandia group (+25%), Valtrex (+24%), Vaccines (+23%), and Coreg (+38%).
• Margin Expansion: Operating margin improved by 1.9 percentage points to 33.6%, aided by flat SG&A costs and favorable pricing, despite higher R&D expenditure and restructuring charges.
• Product Declines: Flonase sales fell 52% due to US generic competition. HIV products (Combivir, Epivir) declined due to competition, partially offset by new products (Epzicom/Kivexa).
• Legal and Tax Settlements: GSK settled a long-standing transfer pricing dispute with the US IRS for a net cash cost of approximately $3.1 billion. This was largely provisioned in prior years and did not significantly impact 2006 earnings.

Guidance, Outlook, and Risks

2007 Guidance:
GSK expects EPS growth of 8% to 10% in CER terms for 2007, driven by continued growth from key products and margin improvements.

Pipeline and Launches:

• 2007 Launches: Five major new products expected: Tykerb (breast cancer), Cervarix (cervical cancer vaccine), Allermist/Avamys (allergic rhinitis), Coreg CR (cardiovascular), and Trexima (migraine).
• Pipeline Status: 31 key product opportunities in Phase III/registration (13 NCEs, 6 vaccines, 12 PLEs).

Risks and Contingencies:

• Legal Litigation: Aggregate provision for legal disputes (excluding tax) is over £1.1 billion. Significant cases include patent challenges for Advair, Imitrex, Requip, Valtrex, and Wellbutrin XL.
• Tax Disputes: Ongoing disputes with UK HMRC (transfer pricing and CFC legislation) and open issues in Japan and Canada. A court decision in Japan is expected in March 2007.
• Generic Competition: Continued pressure on products like Flonase, Wellbutrin XL, and Zofran.
• Currency: Strong sterling negatively impacted reported EPS growth by 3% in 2006. Management estimates a potential 4% adverse currency impact on 2007 EPS if Q4 2006 rates hold.

Investor Verification Checklist

• US Tax Settlement Impact: Verify the final net cash cost of the IRS settlement ($3.1 billion) and confirm no further material provisions are required for the 1989-2005 period.
• UK Tax Dispute: Monitor the status of the HMRC dispute regarding transfer pricing and Controlled Foreign Companies legislation, as claims have not been formally quantified.
• Patent Litigation Outcomes: Track the resolution of patent challenges for core revenue drivers, specifically the Requip trial outcome regarding inequitable conduct and the Valtrex injunction application against Ranbaxy.
• 2007 Launch Execution: Confirm regulatory approval and launch timelines for the five major 2007 products (Tykerb, Cervarix, Allermist, Coreg CR, Trexima).
• Share Buyback Progress: Monitor the execution of the new £6 billion share repurchase program, specifically the £2 billion target for 2007.