1st Quarter Results

Royalty income

Royalty income was £73 million (Q1 2018: £53 million), up 38% AER, 42% CER, primarily reflecting increased royalties on sales of Gardasil.

Other operating expense

Net other operating expense of £90 million (Q1 2018: £429 million) primarily reflected a decrease in value of the shares in Hindustan Unilever Limited to be received on the disposal of Horlicks and other Consumer Healthcare brands of £206 million in the quarter.  The cumulative reduction in value since the signing of the proposed transaction was £108 million.  This was partly offset by the profit on a number of asset disposals and accounting credits of £85 million (Q1 2018: £416 million charge) arising from the re-measurement of the contingent consideration liabilities related to the acquisitions of the former Shionogi-ViiV Healthcare joint venture and the former Novartis Vaccines business and the liabilities for the Pfizer put option and Pfizer and Shionogi preferential dividends in ViiV Healthcare.  This included a re-measurement credit of £60 million for the contingent consideration liability due to Shionogi, primarily arising from credits arising from changes in exchange rate assumptions partly offset by the unwind of the discount.

Operating profit

Total operating profit was £1,428 million in Q1 2019 compared with £1,240 million in Q1 2018.  Increased charges for major restructuring, primarily arising from write downs in a number of manufacturing sites, and a decrease in value of the shares in Hindustan Unilever Limited to be received on the disposal of Horlicks and other Consumer Healthcare brands, were largely offset by re-measurement credits on the contingent consideration liabilities.

Excluding these and other Adjusting items, Adjusted operating profit was £2,163 million, 12% higher than Q1 2018 at AER and 9% higher at CER on a turnover increase of 5% CER.  The Adjusted operating margin of 28.2% was 1.6 percentage points higher at AER, 1.0 percentage points higher on a CER basis than in Q1 2018.  The increase in Adjusted operating profit primarily reflected the benefit from sales growth in all three businesses, particularly Vaccines, a more favourable mix in Vaccines and Consumer Healthcare, a benefit from favourable inventory adjustments in the quarter in Vaccines and continued tight control of ongoing costs across all three businesses.  This was partly offset by continuing price pressure, particularly in Respiratory, including an initial impact of the launch of a generic version of Advair in February 2019, and investments in promotional product support, particularly for new launches in Vaccines, HIV and Respiratory.

Contingent consideration cash payments which are made to Shionogi and other companies reduce the balance sheet liability and hence are not recorded in the income statement.  Total contingent consideration cash payments in the quarter amounted to £217 million (Q1 2018: £517 million).  This included cash payments made to Shionogi of £219 million (Q1 2018: £197 million).

Operating profit by business

Pharmaceuticals operating profit was £1,238 million, down 7% AER, 8% CER on a turnover increase of 2% CER.  The operating margin of 29.8% was 3.4 percentage points lower at AER than in Q1 2018 and 3.3 percentage points lower on a CER basis.  This primarily reflected the increase in cost of sales percentage due to the continued impact of lower prices, particularly in Respiratory, including the initial impact of the launch of a generic version of Advair in February 2019, an unfavourable product mix, primarily as a result of the growth in some lower margin established products, together with investment in new product support and targeted priority markets, and the impact of the acquisition of Tesaro with increased investment in SG&A and R&D.  This was partly offset by continued tight control of ongoing costs and the benefits of re-prioritisation of the R&D portfolio.

Vaccines operating profit was £614 million, 81% higher than Q1 2018 at AER and 69% higher at CER on a turnover increase of 20% CER.  The operating margin of 40.3% was 13.0 percentage points higher than in Q1 2018 at AER and 11.1 percentage points higher on a CER basis.  This was primarily driven by enhanced operating leverage from strong sales growth, particularly Shingrix in the US, improved product mix, the favourable impact of inventory adjustments and higher royalty income, with higher SG&A investment increased broadly in line with sales to support new launches and business growth.

Consumer Healthcare operating profit was £430 million, up 12% AER, 12% CER, on a turnover increase of 1% CER.  The operating margin of 21.7% was 2.3 percentage points higher than in Q1 2018 at AER, and 2.1 percentage points higher on a CER basis.  This primarily reflected continued manufacturing restructuring and integration benefits and improved product mix as well as tight control of promotional and other operating expenses compared with Q1 2018.

Net finance costs

Total net finance costs were £190 million compared with £142 million in Q1 2018.  Adjusted net finance costs were £187 million compared with £139 million in Q1 2018.  The increase primarily reflected higher debt levels following the acquisition from Novartis of its stake in the Consumer Healthcare Joint Venture in June 2018 and the acquisition of Tesaro in January 2019, as well as an adverse comparison with a one-off accounting adjustment of £20 million to amortisation of interest charges in Q1 2018.  This was partly offset by the benefit from older bonds being refinanced at lower interest rates.  Following the introduction of IFRS 16, 'Leases', finance costs included an unwind of the discount on the lease liability of £11 million in the quarter.

Share of after tax profits of associates and joint ventures

The share of after tax profits of associates was £57 million (Q1 2018: £9 million).  This included a one-off adjustment of £51 million to reflect GSK's share of increased after tax profits of Innoviva primarily as a result of a non-recurring income tax benefit.

Taxation

The charge of £310 million represented an effective tax rate on Total results of 23.9% (Q1 2018: 31.4%) and reflected the different tax effects of the various Adjusting items, including the non-taxable loss arising from the decrease in value of the shares in Hindustan Unilever Limited to be received on the disposal of Horlicks and other Consumer Healthcare brands.  Tax on Adjusted profit amounted to £400 million and represented an effective Adjusted tax rate of 19.7% (Q1 2018: 20.2%).

Issues related to taxation are described in Note 14, 'Taxation' in the Annual Report 2018.  The Group continues to believe it has made adequate provision for the liabilities likely to arise from periods which are open and not yet agreed by tax authorities.  The ultimate liability for such matters may vary from the amounts provided and is dependent upon the outcome of agreements with relevant tax authorities.

Non-controlling interests

The allocation of Total earnings to non-controlling interests amounted to £155 million (Q1 2018: £210 million).  The reduction was primarily due to the ending of the allocation of Consumer Healthcare profits (Q1 2018: £89 million) following the buyout of Novartis' interest.  This was partly offset by an increased allocation of ViiV Healthcare profits to £129 million (Q1 2018: £110 million) as well as higher net profits in some of the Group's other entities with non-controlling interests.

The allocation of Adjusted earnings to non-controlling interests amounted to £149 million (Q1 2018: £224 million).  The reduction in allocation was again primarily due to the ending of the allocation of Consumer Healthcare profits, partly offset by an increased allocation of ViiV Healthcare profits.

Earnings per share

Total earnings per share was 16.8p, compared with 11.2p in Q1 2018.  The increase in earnings per share primarily reflected an improved trading performance, the reduced non-controlling interest allocation of Consumer Healthcare profits and the increased share of after tax profit of the associate, Innoviva.

Adjusted EPS of 30.1p compared with 24.6p in Q1 2018, up 22% AER, 18% CER, on a 9% CER increase in Adjusted operating profit.  The improvement primarily resulted from the reduced non-controlling interest allocation of Consumer Healthcare profits following the buyout in Q2 2018 and an increased share of after tax profits of associates as a result of a non-recurring income tax benefit in Innoviva, partly offset by increased net finance costs.

Currency impact on Q1 2019 results

The Q1 2019 results are based on average exchange rates, principally £1/$1.31, £1/€1.15 and £1/Yen 144.  Comparative exchange rates are given on page 33.  The period-end exchange rates were £1/$1.31, £1/€1.17 and £1/Yen 145.

In the quarter, turnover increased 6% AER, 5% CER.  Total EPS was 16.8p compared with 11.2p in Q1 2018.  Adjusted EPS was 30.1p compared with 24.6p in Q1 2018, up 22% AER and up 18% CER.  The positive currency impact primarily reflected the weakness of Sterling, particularly against the US$ and Yen, partly offset by weakness in emerging market currencies and the Euro, relative to Q1 2018.  Exchange gains or losses on the settlement of intercompany transactions contributed around one percentage point of the positive currency impact of four percentage points on Adjusted EPS.

Major restructuring and integration

Within the Pharmaceuticals sector, the highly regulated manufacturing operations and supply chains and long lifecycle of the business mean that restructuring programmes, particularly those that involve the rationalisation or closure of manufacturing or R&D sites are likely to take several years to complete.

Major restructuring costs are those related to specific Board approved Major restructuring programmes and are excluded from Adjusted Results.  Major restructuring programmes, including integration costs following material acquisitions, are those that are structural and are of a significant scale where the costs of individual or related projects exceed £25 million.  Other ordinary course smaller scale restructuring costs are retained within Total and Adjusted results.

The Board approved a new Major restructuring programme in July 2018, which is designed to significantly improve the competitiveness and efficiency of the Group's cost base with savings delivered primarily through supply chain optimisation and reductions in administrative costs.

The Group acquired Tesaro in January 2019, and is expected to incur around £50 million of integration and restructuring cash costs, leading to annual cost-saving benefits of around £50 million.  This will be added to and reported as part of the 2018 Major restructuring programme.

The Group also announced in December that it had reached agreement with Pfizer Inc to combine our consumer healthcare businesses.  The proposed transaction is expected to realise substantial cost synergies, with the new Joint Venture expected to generate total annual cost savings of £0.5 billion by 2022 for expected total major restructuring cash costs of £0.9 billion and non-cash charges of £0.3 billion. Up to 25% of the cost savings are intended to be reinvested in the business to support innovation and other growth opportunities.

Non-cash charges arising under the 2018 major restructuring programme primarily related to the write-down of assets as part of the plans to reduce the manufacturing network.  Cash charges arose from restructuring of the manufacturing organisation, R&D and some administrative functions.  Non-cash charges under the Combined restructuring and integration programme primarily related to announced plans to restructure the manufacturing network, and cash charges arose from restructuring in some manufacturing sites, R&D and some administrative functions.

Total cash payments made in the quarter were £174 million, £121 million for the existing Combined restructuring and integration programme (Q1 2018: £104 million) and £53 million under the 2018 major restructuring programme including the settlement of certain charges accrued in previous quarters.

The analysis of Major restructuring charges by business was as follows: