GLAXOSMITHKLINE (GSK), the world’s second-largest drugs group, yesterday surprised the City by announcing a £145 million provision to cover legal costs, highlighting the company’s exposure to patent battles and lawsuits from patients.

GSK’s shares fell 6 per cent as the company revealed that strong underlying growth in the third-quarter was undermined by currency swings and the legal provision.

The launch of a £4 billion share buyback programme failed to reassure investors, who forced GSK shares down 84p to £12.47.

Nigel Barnes, pharmaceuticals analyst at Merrill Lynch, said: “What’s spooked the market is the £145 million provision to cover legal costs.”

GSK declined to give details of how the provision was calculated, beyond saying it “covers a variety of matters and the majority is for legal costs and expenses in defending existing claims”.

GSK faces class action suits in relation to Paxil, its antidepressant, and also to Baycol, Bayer’s cholesterol lowering drug linked to patient deaths. SmithKline Beecham, which merged with GlaxoWellcome to become GSK, marketed Baycol in the US.

GSK is also involved in a large number of patent disputes, including a fight to regain the right to patent protection for Augmentin, which was one of the group’s most important drugs.

GSK revealed yesterday that Augmentin sales fell by 40 per cent in the US in the three months to September 30, following the launch of a generic copy of the drug by Geneva Pharmaceuticals, a subsidiary of Novartis.

JP Garnier, GSK’s chief executive, said he had “no news” on the litigation against Geneva, or on his company’s attempt to overturn a court decision earlier this year, which ruled the Augmentin patents invalid.

GSK said sales of Augmentin ES, an extra strength antibiotic for children with serious ear infections, had been unaffected by the launch of generic Augmentin.

The company also said it would launch Augmentin XR, a longer-acting version of Augmentin, next month.

Robert Ingram, GSK’s chief operating officer, said: “We will be strongly promoting both Augmentin XR and Augmentin ES as we enter the winter cold and flu season.”

GSK hopes that these products, and Geneva’s rumoured capacity constraints, will help to preserve its combined Augmentin sales.

Despite a sharp fall inAugmentin’s US quarterly sales to just £88 million, GSK reported a 6 per cent rise in group turnover to £5.02 billion at constant exchange rates. Pre-tax profit for the quarter improved 12 per cent to £1.39 billion on the same basis.

The company, which had operating cash flow of more than £2 billion in the quarter, said it would launch a £4 billion share buyback after the completion of a similarly sized buyback announced last year.

GSK said it would launch four new products by the end of this year including Avandamet, for type II diabetes, and Pediarix, a children’s vaccine for protection against diptheria, tetanus, pertussis, hepatitis B and polio.

JP Garnier said the company continued “to advance our strong, early-stage pipeline through development with 123 projects now in the clinic”.

He reaffirmed the company’s guidance of earnings per share growth in the current year of 10 per cent and in 2003 of “high single digit” growth.

This guidance assumes the company will retain patent protection on Paxil in the US, although many analysts fear the drug will suffer an onslaught from generic drugs.

Lehman Brothers, the US bank, estimates that generic Paxil will be launched in September next year.

GSK kept its third quarter dividend steady at 9p a share and said that any increase in the total dividend would be made in the fourth quarter.