GlaxoSmithKline wrestles with problem of size

No bed of roses; Railtrack
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The Independent Online

Size matters. That at least is the rationale that is instructing the mega merger of Glaxo Wellcome and SmithKline Beecham. But then again, who wants size? With the merger still mired with the US competition authorities, both Glaxo and SmithKline are now implicitly recognising that size can also have a big downside by agreeing to split their combined research powerhouse into six separate organisations, each competing for funds and each open to the eventual possibility of a separate listing.

Size matters. That at least is the rationale that is instructing the mega merger of Glaxo Wellcome and SmithKline Beecham. But then again, who wants size? With the merger still mired with the US competition authorities, both Glaxo and SmithKline are now implicitly recognising that size can also have a big downside by agreeing to split their combined research powerhouse into six separate organisations, each competing for funds and each open to the eventual possibility of a separate listing.

This is nothing to do with wanting to appease the competition authorities, although plenty of that remains to be done. Rather it is to do with incentivising the workforce, retaining its inventiveness, and preventing the dead hand of bureaucracy from stifling budding ideas and talent.

Most of the big pharmaceutical companies are leviathans and the one about to be created by Glaxo and SmithKline will be the biggest leviathan of the lot. There are advantages in such size - shared technologies, marketing and development infrastructure being the most obvious. But by linking up through alliances and strategic shareholdings with a wide range of promising biotechs, the big pharmas have already recognised a fact of modern life. Many of the best therapeutic concepts don't come from the big pharmas. What's more, many of the most talented scientists these days like to work for themselves. Like pop and sports stars, they also want a bigger share of the wealth they help create.

With the plan to split research in this manner, GlaxoSmithKline neatly addresses the problem while - hopefully - retaining some of the benefits of scale that the merger will establish. Technology and development, the biggest items of expenditure in R&D, will remain with the centre and so will the business of marketing whatever comes out at the other end. But the business of creating the compounds from germ of an idea to proof of concept will belong to the competing biotechs.

Of course, the logic of what is proposed would imply that eventually research is split away from the marketing and development group entirely. With the merger not yet consummated, that might seem to be jumping ahead of the game a bit, and in any case, it could destroy more value than it creates, with the rump of GlaxoSmithKline reduced to a commodity testing and sales house. On the other hand, the big pharmas are struggling to retain their growth stock status anyway, so a more wide-ranging break-up may eventually become a necessity.

No bed of Roses

Britain's beleaguered high street has in recent years destroyed so many once promising business reputations that it is hard to keep count. One of them is John Hoerner, who yesterday finally admitted that the rag bag of different retailing formats that is Arcadia had got the better of him and quit in favour of Stuart Rose, an executive who only four years ago used to work for him. Few retailers are excelling in today's deflationary environment, but even by the standards of this bombed out sector, Arcadia has been an outstandingly poor performer and for that Mr Hoerner must inevitably carry the can.

It was not ever thus. Mr Hoerner was generally regarded as having done an outstanding job in turning the Burton Group, as it then was, around in the early to mid-1990s, but he never did manage to throw off the Halpern legacy of high rents and excessive space. Once stripped of Debenhams, those weaknesses reasserted themselves in spades. As Mr Rose must know only too well already, for he used to run the non-Debenhams bits of Burton, it is extremely difficult to make profits out of what remains.

The legacy of the past remains the chief obstacle. Arcadia has some 1,800 outlets, very few of them owned outright, stretched across no fewer than 14 different formats. In the old days of unfettered expansion, these formats would often compete against each other for the best outlets, bidding up leases in the process. The once common fiddle of "reverse premiums" - landlords would pay an upfront fee, taken straight into profits, in return for high rents - made the situation much worse and only served to encourage reckless expansion. Mr Hoerner cannot be blamed for that, but he did compound the weakness of his inheritance by buying a further four formats from Philip Green, a deal that even at the time looked foolish in the extreme. Like most desperate last throws of the dice, so it has turned out.

Can Mr Rose succeed where Mr Hoerner failed? He certainly knows the nature of the problem better than most. He must even remember where some of the bodies are buried. But he must equally be aware that there are no quick fixes, that it will be exceptionally tough to trade his way out of the hole Arcadia finds itself in. Is Mr Rose up to the task? No one really knows.

Not a man given to self doubt, he's never stayed long enough in any one job after leaving Burton to know if he's the miracle worker shareholders have been praying for. He put up a reasonable defence at Argos, but that is all he did and investors must still be thanking their luck stars they took GUS's cash instead of sticking with him. He's also done a workman enough like job at Booker. But can he make Arcadia sing? A determined programme of shrinkage looks his best hope.

Railtrack pleads

The last thing Gerald Corbett is dreaming of is a white Christmas. One more seizure of the rail network, such as the kind produced by the wrong type of snow, and even his boundless enthusiasm for the job of running Railtrack may discover its limits. Railtrack has already been forced to cough up £150m to compensate the likes of Virgin and Great Western for the mayhem caused by Hatfield and it may be double that if the train operators get their way.

After the chaos of the last month, the political imperative is to have the trains running properly by next spring at the latest, or Mr Corbett's qualities as a lightening conductor will lose their allure to vote hungry ministers. With the backing of the Prime Minister and Lord Macdonald, Mr Corbett seems for now to have seen off the Deputy Prime Minister, John Prescott. His fight now is with the Rail Regulator, who is intent on punishing Railtrack for late-running or non-running trains, no matter how much Mr Corbett complains that there has to be a trade-off between performance and safety, between growth of the network and greater efficiency.

Rather than haul Tom Winsor before the Competition Commission and hope for the best, Mr Corbett wants instead to engineer a change in the regulatory regime. Railtrack calculates that it could be £600m worse off over the period if it accepts the regulator's latest review, money it can ill afford if it is to build a bigger and better railway.

Mr Corbett therefore intends to spend the next six weeks trying to persuade Mr Winsor that what Railtrack needs is a more flexible formula. It is easy to see why moving the goalposts only once every five years in an industry as fluid as the railways can cause difficulties. But the kind of rolling regulation that Railtrack envisages is scarcely likely to appeal to any regulator worth his salt. Mr Winsor has some big sticks called performance benchmarks and efficiency targets with which to beat Mr Corbett. He won't want to lose them. Mr Winsor has already conceded a lot. The best Christmas present he can give the rail industry is to stand firm.

* outlook@independent.co.uk

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