The Investment Column: GSK has the right medicinefor times of financial trouble

Northern Foods; Game

Our view: Buy

Current price: 1270p (-9p)

GlaxoSmithKline is one of the world's leading healthcare companies but badly needs a tonic to cheer up its legion of investors.

Created out of the merger of Glaxo Wellcome and SmithKline seven years ago, it has consistently fallen short of expectations.

In many ways it is the nature of the beast. GSK is of the size where in order to grow significantly it needs a constant stream of blockbuster new drugs. But these cost hundreds of millions of pounds and can take 10 years to travel from the research lab to the chemist's shelves.

Times are about to change at GSK. The six-year reign of chief executive John-Pierre Garnier is drawing to a close. A flamboyant character, the size of his remuneration package has at times distracted from his achievements in strengthening the group's pipeline of new drugs. In May he hands over to Andrew Witty, head of European operations, who is regarded as tenacious and determined and is among a younger group of executives emerging within the sector.

He faces a number of immediate challenges. Industry data suggests the global pharma market will see a reduction in growth of 1 per cent to 6 per cent during 2008 a far cry from the cracking mid-teen rates of the 1990s.

The threat of competition from generic drugs remains as great as ever, while an incoming Democratic administration in the US could see a purge on the profit margins earned by drug giants.

GSK also needs to rebuild confidence in its second biggest-selling drug, Avandia, a diabetes treatment, after reports linking it to heart attacks. Moves to obtain approval in the US for the sale of Cervarix, a cervical cancer vaccine, have been delayed.

Despite these problems, GSK remains the ideal defensive stock in times of financial trouble. At current prices and 15 per cent below its best 2007 levels it trades on just under 13 times 2008 earnings, and underpinned by healthy cash flow remains one of the more attractive stocks in the market.

Northern Foods

Our view: Avoid

Current price: 94.25p (+0.25p)

These are worrying times for food companies, with huge increases in raw material prices. The price of wheat has almost doubled in the last year. Prices of other grains including corn have soared. Drought in producing countries such as Australia and demand from emerging nations is creating the crisis.

So far manufacturers have been able to pass on the cost to customers. But for how much longer? That is the concern for companies such as Northern Foods, maker of Goodfella pizzas and Fox's biscuits, as it faces the strongest inflation in food costs for 14 years.

A trading update this month will spell out the scale of the problem. Northern has already said it expects commodity prices to carry on rising, by 10 per cent this year. Fuel costs, another big expense, are also continuing to rise.

The combination presents a lethal cocktail for investors who have become used to frustration at Northern. It has warned of trading disappointments in four out of the past five Christmas trading periods.

Analysts are concerned that supermarkets may have been able to pass on the increases to their customers during the hectic Christmas trading spell but may not be prepared to do so as business drifts back to more normal levels.

If supermarkets decline to let their customers absorb the brunt of rises in everyday products such as bread and biscuits caused by dearer commodity prices, then the buck will stop with suppliers such as Northern. At the very least higher selling prices could reduce sales.

All this comes as Northern appears to be on the cusp of a real recovery. The new chief executive, Stefan Barden, has cut costs, and engineered a strong performance from the chilled business and a return to profitability in its bakery division, while steps are underway to improve the pastry and grills business. Even so, the shares have lost 19 per cent of their value over the past year. It is still too early to buy for recovery.

Game

Our view: Buy

Current price: 240p (-10p)

Over the next few days high-street stores will start delivering their verdict on Christmas and the sales. What seems pretty clear is that there is unlikely to be singing in the streets. All the more remarkable, then, that one trader has jumped the gun by delivering a bullish report on trading, triggering profit upgrades.

The video games retailer Game has said that profits for the year to the end of January will beat market forecasts by nearly £8m to £70m. That is pretty impressive given the competition on the high street and internet.

Growth has been fuelled by the resurgence of Japan's Nintendo on the back of the Wii and the handheld DS Lite machines. At one stage before Christmas Wii became the subject of a nationwide hunt as desperate families tried every means possible to track down supplies.

While post-Christmas trading is bound to level off there is sufficient new product in the marketplace to sustain strong sales for some time to come. The shares remain attractive.