GlaxoSmithKline Retains its Competitive Advantage

Analysts say Glaxo has a wide economic moat - meaning competitors pose little threat to the business as its brands thrive in emerging markets 

Damien Conover, CFA 19 August, 2013 | 1:20PM

As one of the largest pharmaceutical companies, GlaxoSmithKline has used its vast resources to create the next generation of medicines. The company's innovative new product lineup and expansive list of patent-protected drugs create a wide economic moat - meaning it has a secure competitive advantage over its peers.

The magnitude of the company's reach is evidenced by a product portfolio that spans most major therapeutic classes, as well as vaccines and consumer goods. The diverse platform insulates the company from problems with any single product. Additionally, the highest revenue generator, Advair, represents close to 20% of total revenue.

However, the complexity in approving a generic version of an inhaled drug like Advair will likely hold off significant generic competition well past the drug's 2010 patent expiration, especially in the U.S., where approvals for generic inhaled drugs are particularly difficult. Furthermore, the company's advancement of its next generation respiratory drugs should help the company maintain its stronghold in both asthma and chronic obstructive pulmonary disease sectors.

Glaxo has shifted its focus from making slight product enhancements toward true innovation. The benefits of this change is evident in Glaxo's strong development of oncology and rare disease drugs. We expect this focus will improve both approval rates and pricing power.

From a geographic standpoint, Glaxo is strategically branching out from the developed markets into emerging markets. Glaxo's consumer and vaccine segments well positions the firm in these price sensitive markets. While this strategy will likely create some challenges like the potential legal violations that arose earlier in the year in China, we believe the fast-growing emerging markets will help support long-term growth and diversify cash flows beyond developed markets.

Turning to the bottom line, Glaxo continues to implement cost savings initiatives. Since 2012, the company has identified more than £3 billion in potential annual cost savings, which should be achieved by 2014-16. The improved productivity should help mitigate pricing pressure in Europe.

Glaxo holds a wide economic moat on the basis of patents, a powerful distribution network, economies of scale, and diverse operations. Similar to its peer group, Glaxo's branded drugs hold patent protection that keeps competitors at bay for several years, while the company can charge prices that enable returns on invested capital above its cost.

The delay in competition also enables the company to develop the next generation of patent-protected drugs to evergreen its pricing strategy. Not only does Glaxo's powerful distribution network attract small biotech companies that need help marketing drugs, but also very large firms such as Amgen AMGN and Roche RHHBY have partnered with Glaxo for its marketing power. Glaxo's strong cash flows enable the firm to support the $800 million on average needed to bring a drug to the market. Finally, Glaxo's operations in vaccines and consumer health care products augment its efforts in branded drugs, with only minor pressure on operating margins.

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Securities Mentioned in Article
Security NamePriceChange (%)Morningstar
GlaxoSmithKline PLC1,488.20 GBX-0.15
About Author

Damien Conover, CFA  is an equity analyst and associate director at Morningstar.