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What to Know About GlaxoSmithKline plc (ADR) (GSK)

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LONDON — Though there isn’t one surefire way to tell if a company is worth investing in, there are a few quick ways to see if you’re looking at a dud or a stud.

You don’t need a finance degree or a week off work to do this. You just need 20 minutes and a web browser, and you’ll be on your way to finding your next stock.

Today I’ll put GlaxoSmithKline plc (ADR) (LSE:GSK) (NYSE:GSK) under the microscope to show you what I’m talking about.

I’m going to zoom in on three key things to know — and for the most part, like — about one of the world’s truly diversified health care companies.

GlaxoSmithKline plc (ADR) (NYSE:GSK)

Is GlaxoSmithKline plc (ADR) (LSE:GSK) (NYSE:GSK) making money?

In business, as in personal finance, how much money coming in is essential to being financially secure.

This money coming in is cash flow, and looking at a company’s cash flow gives us — as current or potential shareholders — a sense of how well that company is doing at selling its wares.

In the case of Glaxo, looking at its cash flow will give us a good sense of how well its prescription treatments are selling, as well as how successful Glaxo is at moving its consumer-health products — think toothpaste and over-the-counter medicines — off the shelves.

Looking at Glaxo’s cash flow over the past three years reveals, to me, a well-diversified business — but one with some challenges ahead of it.

In 2012, Glaxo posted free cash flow of 2.9 billion pounds — down meaningfully from 4.9 billion pounds in 2011 for one key reason: Glaxo had to shell out more than 2.6 billion pounds during 2012 to settle a lawsuit with the U.S. Justice Department (the largest legal payment ever by a pharma company!).

Although the cash flow figures reflect a downward trend for Glaxo — cash flow also fell from 2010 to 2011 — we must remember that we’re still looking at a company that’s generating billions of pounds of profit each year.

And most investors are initially drawn to Glaxo for its above-average dividend yield. With the 10-year gilts offering less than 2% these days, it’s easy to understand why Glaxo’s 4.2% dividend yield is appealing.

In fact, Glaxo has paid out more than 3 billion pounds per year to shareholders since 2010, having reached a total payout of 3.8 billion pounds in 2012 — or 74 pence per share.

What’s more, investors have also benefited from Glaxo repurchasing more than 2 billion pounds worth of its own shares during each of the last two years. That looks set to continue in 2013, as Glaxo says it plans to repurchase another 1 billion to 2 billion pounds of its own shares.

The benefit to shareholders here is indirect, but with a reduced share count, investors will see their ownership in the company grow. And with consumer drinks Ribena and Lucozade up for sale, there is a good chance Glaxo will use the cash to continue the share repurchases.

Remember, companies that are making money can typically afford to reinvest in the business, repurchase shares, or return some of those profits in the form of dividends to you and me as shareholders, as is the case with Glaxo.

How much debt does it have?

While you and I work hard to live debt-free, most companies that we invest in do carry debt. Sometimes a lot of debt. But that’s not necessarily a bad thing.

When looking at a company’s net debt — its borrowings minus the cash it has in the bank — you also want to see how easily it can pay down that debt.

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