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Investment: Problems under the surface at Zeneca

ZENECA IS a difficult patient to diagnose. At first sight, the pharmaceutical group looks in reasonably good health.

It has a decent drugs portfolio - its asthma treatment Accolate is still the star performer - backed up by a pipeline with a couple of potential best-sellers. The agrochemicals division, which has been a drag on earnings for some time, is set to benefit from recent restructuring, with fungicides already delivering growth.

Add a problem-free balance sheet and you can see why the market believes Zeneca is strong enough to keep its promise of growing underlying earnings by 15 per cent a year.

Yesterday's first-half results, which showed a 2 per cent slide in profits to pounds 654m after a heavy hit from sterling, Asia and the millennium bug, did little to dent this belief. The shares firmed 15p to 2280p after a pretty poor run in the weeks leading up to the figures.

So can Zeneca be discharged with a clean bill of health? Not really. If investors scratch the surface, they will see that some of the star drugs - including two blockbusters, the hypertension treatment Zestril and the cancer drug Novaldex - are set to lose patent protection in 2002. The new compounds which were supposed to replace them, notably the schizophrenia drug Seroquel, have got off to a slow start while the mature ones will suffer from increased competition.

At the same time, the agrochemicals division will be hit by difficult market conditions and shrinking margins. True, Zeneca could be taken over by one of the pharmaceutical giants, but no credible suitor willing to pay a premium has materialised despite years of speculation. And with the shares trading at almost 30 times expected 1998 earnings of around pounds 1.1bn - a 60 per cent premium to the market - the prescription is: sell into strength.