View from City Road: ICI cannot rely on Zeneca as a miracle cure

ICI could not have chosen worse timing if it had tried. Not only is it planning to do the splits but it is trying to raise pounds 1.3bn through a rights issue of Zeneca shares just as pharmaceutical shares have gone to a discount to the rest of the market. How will it cope?

It hopes that the worries over Hillary Clinton's reforms of healthcare in the US have been overdone. And that this will have become apparent by the time the shares are priced on 12 May.

But it cannot rely on hope. While investors' fears that drug company profits are about to be wiped out will almost certainly prove groundless, lesser ones about continued pressure on profit margins look justified. In any case sentiment has been damaged so badly that the sector is unlikely to recover in a hurry.

Against this unfortunate background, Zeneca is changing the emphasis of its sales pitch. Originally it was going to be sold at a discount to the large drugs stocks, which were then on a premium to the market as a whole. But now that would mean selling Zeneca at a discount to a discount, which means cheap.

Whereas Zeneca's drugs pipeline was once the sole focus of attention, now there is more talk of growth in agrochemicals - which account for 32 per cent of sales - and of the potential in the rag-bag group of specialities - which account for another pounds 1bn of sales. Profits in agrochemicals could double in the next two years and Quorn, an alternative to meat, could make annual sales of pounds 1bn, or so the optimists say.

In the short term these factors might put Zeneca at an advantage to the pure drug producers. But that does not mean that it can sell its shares at a premium. The main reason is that growth has been slower than Glaxo's - 5 per cent compound against 12 per cent for Glaxo - partly thanks to patent expiry in the US on Tenormin. And while Glaxo's expansion may yet slow, its higher dividend cover suggests payout prospects will remain far superior.

So it still seems fair to assume a discount, notwithstanding ICI's efforts to narrow the gap. A promised dividend of 27.5p and a yield of, say, 5.3 per cent - 15 per cent higher than Glaxo's - suggests a share price of pounds 6.50. That differential is as tight as Zeneca can hope for.