Business operating review

Pharmaceuticals GSK continues to be the global leader in respiratory pharmaceuticals with sales of its three key products, Seretide/Advair, Flixotide/Flovent and Serevent, amounting to £3.4 billion, up 9%. Sales of Seretide/Advair, the Group's largest product, grew 19% to £2.5 billion, although this contributed to declines in Serevent and Flixotide, its constituent products. In the US, Advair sales grew 20% to £1.3 billion. Growth in Europe was also strong (up 18% to £902 million). International sales grew 15% to £229 million reflecting good growth in all geographic areas. Central Nervous System (CNS) sales declined 16% to £3.5 billion with declines in all regions. Total sales of the Paxil franchise were down 39% to £1.1 billion as a result of generic competition to Paxil IR (sales of which declined 53% to £667 million). Mitigating this decline was the strong performance of the product in Japan with sales of £171 million (up 25%) and the performance of Paxil CR which generated sales of £396 million (up 14%). Total sales of Wellbutrin products fell 12% to £751 million. Wellbutrin IR and SR sales fell 64% to £284 million as a result of generic competition. This impact was partially offset, however, by the exceptionally strong performance of Wellbutrin XL, the new once-daily product, which achieved sales of £467 million in its first full year on the market. The strong growth of GSK's epilepsy and bi-polar disorder treatment Lamictal continued, with sales up 32% to £678 million. Ongoing US growth (up 49% to £414 million) is being driven by the indication for the maintenance treatment of bipolar disorder received last year. Within anti-virals, global HIV product sales rose 4% to £1.5 billion and sales of the herpes treatment Valtrex exceeded the £500 million mark for the first time in 2004 (up 24% to £571 million). The sales performance of Valtrex is being driven by the US (up 30% to £369 million) where the product is the clear market leader in treatments for genital herpes. Anti-bacterial sales, reflecting generic competition in all regions, declined 9% worldwide and 24% in the US. In metabolic, the diabetes treatments Avandia/ Avandamet continued to perform very strongly, with overall sales of £1.1 billion (up 32%). Sales in the US grew 26% to £852 million. Encouragingly, Avandia/Avandamet are also growing very strongly in Europe and International markets with sales up 49% and 62% respectively. The vaccines business had a strong year, with sales up 11% to £1.2 billion. Several key products are driving sales growth - Pediarix/Infanrix up 12% to £357 million, Priorix up 14% to £95 million and Fluarix up 38% to £79 million. In oncology, sales of Zofran grew 8%, driven by a strong US performance up 10% to £565 million. In cardiovascular and urogenital, Coreg sales grew 34% to £432 million. Consumer Healthcare The growth in Consumer Healthcare sales of 3% to £3.2 billion comprised an over-the-counter (OTC) medicine sales increase of 2%, a Nutritional healthcare sales increase of 5% and Oral care sales increase of 4%. OTC medicine sales were £1.5 billion, up 2%. Sales growth from smoking control products in the US (up 12%) and Europe (up 24%) helped to offset the decline in dermatological products, which were (down 14%) due to generic competition to Cutivate in the US. In 2004, GSK obtained the OTC marketing rights in the US for orlistat, an FDA-approved prescription product for obesity management, marketed by Roche as Xenical. Oral care sales were £1.1 billion, up 4%. Strong sales growth in International of 9% was led by the Sensodyne, Polident and Poligrip brands. Sales of Nutritional healthcare products grew 5% to £0.6 billion. Lucozade grew 7% to £268 million. Trading profit Trading profit was £6,150 million, a 1% decrease (11% decline in sterling terms) compared with 2003 business performance*. The trading margin declined two percentage points compared with 2003. Net of currency movements the margin declined 0.7 percentage points, reflecting higher R&D expenditure, a higher cost of goods due to a less favourable product mix and higher provisions for legal matters. These were partially offset by cost savings initiatives in general and administration and lower charges related to programmes to deliver future cost savings.

GSK's underlying growth driven by strong sales performance of key products: Seretide/Advair (£2.5 billion) up 19% Vaccines (£1.2 billion) up 11% Avandia/Avandamet (£1.1 billion) up 32% Lamictal (£0.7 billion) up 32% Valtrex (£0.6 billion) up 24% Coreg (£0.4 billion) up 34% "These results confirm the success with which GSK has navigated a difficult year, absorbing over £1.5 billion of lost sales to generics and still managing to grow the business. The continuing success of our key products means we can now look forward to a good performance in 2005" JP Garnier, Chief Executive Officer Several significant product launches planned for 2005 include: Vesicare for overactive bladder Rotarix for rotavirus Boniva for osteoporosis Avandaryl for diabetes Requip for restless legs syndrome Entereg for post-operative bowel disorders   PHARMACEUTICAL TURNOVER BY THERAPEUTIC AREA   2004 £m 2003 £m Growth CER%   Respiratory 4,415 4,417 7   CNS 3,463 4,455 (16 ) Anti-virals 2,360 2,349 8   Anti-bacterials 1,561 1,815 (9 ) Metabolic 1,253 1,079 27   Vaccines 1,196 1,123 11   Oncology and emesis 934 1,001 2   Cardiovascular and urogenital 933 771 31   Other 1,031 1,171 (7 )   17,146 18,181 1

Earnings per share
Full year earnings per share (EPS) of 75.0 pence increased 2%, compared to business performance EPS in 2003. In sterling terms, EPS declined 9%, reflecting a weakening of the US dollar. On a statutory basis EPS increased 8%, but declined 3% in sterling terms.

Taxation
GSK has open issues with the taxation authorities in the US, UK, Japan and Canada. By far the largest relates to Glaxo heritage products, in respect of which the US Internal Revenue Service (IRS) and UK Inland Revenue have made competing and contradictory claims.

GSK has attempted to settle the US dispute, first through direct discussion with the IRS and subsequently through discussions between the US and UK authorities under the terms of the double tax convention between the two countries and discussions were terminated in July 2003. On 6 January 2004, the IRS issued a Notice of Deficiency for the years 1989-1996 claiming additional taxes of $2.7 billion. On 2 April 2004 the Group filed a petition in the US Tax Court disputing the IRS claim and seeking a refund of $1 billion in taxes. On 25 January 2005 the IRS issued a further Notice of Deficiency for the years 1997-2000 claiming additional taxes of $1.9 billion. If the IRS claims for the years 1989-2000 were upheld, the Group would additionally be liable for interest on late payment, estimated to amount to $3.0 billion net of federal tax relief at 31 December 2004, giving a total of $7.6 billion. The Group expects to file a petition against these further claims in April 2005, including a further claim for refund of taxes, and will ask the Tax Court to consolidate the IRS claims for all the years 1989-2000 into a single trial.

A provisional trial date for the 1989-1996 claims has been set for October 2006. As similar tax issues remain open for 2001 to date, GSK expects to receive further substantial claims from the IRS for these years.

GSK continues to believe that the profits reported by its US subsidiaries for the period 1989 to date, on which it has paid taxes in the US, are more than sufficient to reflect the activities of its US operations.

GSK is in continuing discussions with the Inland Revenue in respect of UK transfer pricing disputes.

See Note 12 of Annual Report 2004 for further details.

Legal proceedings
The Group is involved in patent litigation with manufacturers seeking to market generic versions of many of the Group's most important products, including Wellbutrin, Seretide, Avandia, Imitrex, Valtrex, Lamictal and Zofran, prior to the expiration of the Group's patents. The Group is currently a defendant in a number of product liability lawsuits, including class actions, that involve substantial claims for damages related to the Group's pharmaceutical products. The Group is also a defendant in anti-trust actions filed following adverse outcomes in prosecution of patent infringement actions. Further, the Group is responding to federal and state governmental investigations in the US into pricing, marketing and reimbursement of a number of prescription drug products. See Note 30 to the Financial statements 'Legal proceedings' in the Annual Report 2004 for a discussion of proceedings and governmental investigations in which the Group is currently involved.

International Financial Reporting Standards (IFRS)
In June 2002, the Council of the European Union adopted a Regulation requiring listed companies in the EU Member States to prepare their consolidated financial statements in accordance with IFRS with effect from 1 January 2005.

GSK initiated its IFRS conversion project in 2002 and this has now been completed, subject to any changes in standards and pronouncements. Brief explanations of the main IFRS adjustments to profit are given below, together with the impact on profit before tax and EPS for 2004 and 2003.

Main differences:

• Share-based payments: Under IFRS the fair value of share options and awards granted to employees is charged to the income statement, whereas only the intrinsic loss (usually a smaller amount) is charged under UK GAAP.
• Amortisation of intangible assets and goodwill: Under IFRS amortisation of intangible assets may only start when the asset is available for use, whereas it starts immediately under UK GAAP. Goodwill is regarded as having an indefinite life under IFRS and is therefore not amortised. Any UK GAAP goodwill amortisation has to be reversed.
• Deferred tax: The deferred tax difference principally relates to intercompany items on which a deferred tax credit is available under UK GAAP, but not under IFRS. This particular difference in taxation treatment is not expected to recur.
• Pensions and other post-employment benefits: IFRS adopts a different valuation approach than UK GAAP and this usually results in a higher charge. In addition IFRS recognises the funding surplus/deficit immediately through reserves, whereas UK GAAP spreads the surplus/deficit over the members average expected service lives through the income statement.

Fuller details are given in the Annual Report 2004 and on the company's website.