Profit From GlaxoSmithKline's Mistake

| About: GlaxoSmithKline (GSK)

Opening the day with a share price of about $46 on Tuesday, July 3rd, GlaxoSmithKline (NYSE:GSK) should soon be expecting a downward slide as a result of the company's recent guilty plea to charges of drug mislabeling.

It appears that the company incorrectly branded several of its products, including an antidepressant called Paxil and the diabetes drug Avandia. The mislabeling of these drugs was done without the approval, and indeed against various warnings, from the U.S. Food and Drug Administration (FDA), which has resulted in a guilty plea in the largest healthcare fraud settlement in the history of the United States. This undoubtedly is going to have a negative effect on the share price of this company.

Immediately after the reception of this news about the healthcare fraud case, the stock price appears to be hovering just below $46 per share. This does not seem all that concerning as of yet considering that in the past 52 weeks, the stock price has ranged between approximately $39 and $48 per share. Within that range, $46 per share does not look like a particularly bad price to be trading at considering the company has just broken a record for settlement payment for mislabeling the use of the drugs. In addition to that, the P/E ratio stands around a reasonable 15, which is slightly below the industry average. The company seems financially stable with a debt/equity ratio that is less than one-third the industry average. However, after $3 billion has been taken off the books, it is unlikely that the numbers will be quite as rosy. Even for a company as big and financially stable as GlaxoSmithKline, $3 billion is a sizable amount of money.

Much of the evidence that was acquired for the case against GlaxoSmithKline was provided by whistle-blowers from within the company, according to rtmagazine.com. These whistle-blowers gave extensive and essential evidence about the corrupt nature of the company and the various degrees of alleged immoral, unethical, and illegal actions that where undertaken in order to enhance the sales of the misrepresented drugs. This highly negative portrayal of the company from inside resources will likely have a lingering negative impact on the public's perception of the company, and consequently a negative impact on the stock price as well.

On a more optimistic note, it is likely that after a sell-off of a significant but not overwhelming degree has taken place, the stock will most likely level out and then resume its gradual and consistent climb upward. Prior to this settlement taking place, the record for the largest settlement of similar circumstances was held by Pfizer (NYSE:PFE) in 2009. Interestingly, if we take a look at a chart of the stock price of Pfizer for 2009, we can see that it began the year around $18 per share, then fell to almost $12 per share, only to climb back up to near $20 per share by the end of the year. The parallels between the plight of these two companies suggests that perhaps investors should wait out the price drop that will most likely result from this company misstep, and then swoop in for the bargain prices to reap the reward from the stock price recovery that will most likely come in the months to follow.

Also worth noting is the fact that GlaxoSmithKline still maintains a dividend that approaches 5% annually at the current stock price, and this yield will only increase if the stock price goes down, with the assumption that the dividend remains unchanged. This will likely be the case as a negative change in dividend distribution would only weaken the public's perception of the company's financial stability, and therefore would not be in the best interest of the company. Also, GlaxoSmithKline has enough cash in reserves to weather the storm for the months it will take for the stock price to recover.

One company that stands to benefit from this recent bad news for GlaxoSmithKline is Amylin Pharmaceuticals (AMLN) which has two diabetes drugs of its own: Symlin and Byetta. The stop on the distribution of competition like Avandia only enhances the prospects for the company selling Byetta. This has been reflected in the massive leap in stock price for Amylin, trading around $28.25 per share June 1st, only to leap up to around $31 per share a day later. Obviously someone with some money thought it found some good news for Amylin. Beyond that, GlaxoSmithKline's recent issues will probably result in some positive price movement for other competitors like Merck (NYSE:MRK), AstraZeneca (NYSE:AZN), and Novartis (NYSE:NVS), all of whom are major players in the pharmaceutical business. In fact, over the last week, Merck & Co has seen a stock price increase from just above $40 per share to near $42 per share. AstraZeneca and Novartis have seen similar jumps in value as well right around the time that GlaxoSmithKline decided to plead guilty to the charges against it. This news may already be priced in, but my guess is there is still some upward movement to be expected from these stocks as a result of this settlement.

It is important that investors also consider other major events impacting the pharmaceutical industry such as the recent approval of the Supreme Court for President Obama's healthcare law, referred to often as "Obamacare." This recent move by lawmakers is expected to shake up the industry and will most likely have a negative effect on all of the companies that have profited so much from the way we as a country have done business in the past, including GlaxoSmithKline.

For GlaxoSmithKline specifically, I would say we should expect some decrease in price, perhaps into the lower $40 range, followed by a solid upward trend a few months from now. With that being said, it is probably a solid buying opportunity for investors interested in turning a profit from GlaxoSmithKline's mistake. I do urge investors to be wary of the general future of the industry in light of the recent policies being enforced by the government. This may be a profitable opportunity right now, but approach with caution in the future when looking at this industry in general.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.