McKesson Corporation — Form 10-Q Summary
Reporting period: Quarter and nine months ended December 31, 2019 (fiscal 2020 third quarter). Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Business context
McKesson distributes pharmaceuticals and medical-surgical products and provides related services and technology. Its reportable segments are U.S. Pharmaceutical and Specialty Solutions, European Pharmaceutical Solutions, and Medical-Surgical Solutions; Other includes Canadian and technology businesses and its investment in Change Healthcare JV.
Financial performance
| Metric | Three months ended Dec. 31, 2019 | Prior year | Nine months ended Dec. 31, 2019 | Prior year |
|---|---|---|---|---|
| Revenue | $59,172 | $56,208 | $172,516 | $161,890 |
| Gross profit | $3,033 | $2,970 | $8,687 | $8,553 |
| Gross margin | 5.13% | 5.28% | 5.04% | 5.28% |
| Operating income | $360 | $683 | $1,620 | $1,455 |
| Net income (loss) attributable to McKesson | $186 | $469 | $(121) | $830 |
| Diluted EPS | $1.03 | $2.40 | $(0.66) | $4.18 |
| Cash from operating activities | Not separately presented for the quarter | $(280) | $141 |
Quarterly revenue rose 5%, but attributable net income fell 60%. For the nine-month period, revenue increased 7%, while McKesson reported a net loss. YTD results include a $1.2 billion after-tax impairment of the Change Healthcare JV investment and a $246 million pre-tax dilution loss. The quarter also included a $282 million charge to remeasure the German wholesale business held for sale. Higher LIFO credits supported gross profit, while gross margin declined year over year.
Segments and material changes
- U.S. Pharmaceutical and Specialty Solutions: Revenue increased 6% for the quarter and 8% year to date. Operating profit was $687 million for the quarter and $1.905 billion year to date, with market growth, specialty pharmaceuticals, manufacturer compensation and higher LIFO credits contributing.
- European Pharmaceutical Solutions: Quarterly operating loss was $303 million, including the German business remeasurement charge and $64 million of long-lived asset impairments. The company cited lower expected cash flows and U.K. government reimbursement reductions.
- Medical-Surgical Solutions: Revenue increased 6% for the quarter and 8% year to date. Quarterly operating profit decreased to $124 million from $136 million.
- Other: YTD operating loss was $1.109 billion, largely reflecting the Change Healthcare investment charges. The IPO-related dilution reduced McKesson’s JV interest from approximately 70% to 58.5%.
Liquidity, debt and capital
- Cash and cash equivalents were $2.065 billion at December 31, 2019, down from $2.981 billion at March 31, 2019. Cash, cash equivalents and restricted cash declined $916 million over the nine months.
- Working capital was negative $665 million, versus positive $839 million at March 31. Management said working capital fluctuates with sales, inventory and vendor payment timing.
- Total debt was approximately $7.7 billion; this included $2.1 billion of commercial paper outstanding at a weighted-average rate of 2.15%. Long-term debt carrying value was $7.7 billion.
- Debt-to-capital increased to 55.7% from 43.3%, reflecting higher short-term borrowings and lower equity following share repurchases. McKesson reported compliance with its credit-facility covenant.
- Operating cash flow was negative $280 million, affected by working-capital outflows, including receivables, inventory and accounts payable. Investing activities used $409 million; financing activities used $254 million. The company cited cash, operating cash flow, credit facilities and commercial paper as expected sources of liquidity.
- The company repurchased $1.951 billion of stock during the nine months and paid $222 million in dividends. Its quarterly dividend was raised to $0.41 per share in July 2019.
Outlook, risks and unusual items
- No specific earnings or revenue guidance is provided in the filing. Management expects available cash, operating cash generation, credit facilities and commercial paper to fund near- and long-term requirements, while noting capital-market disruption could impair liquidity or increase borrowing costs.
- McKesson expects total charges of approximately $520 million to $660 million for restructuring, optimization and headquarters relocation initiatives; $434 million had been recorded. The initiatives are expected to be completed by the end of 2021, with the headquarters relocation expected to be completed by January 2021.
- The German wholesale transaction would contribute most of that business to a joint venture in which McKesson would hold a noncontrolling interest. It remained subject to regulatory approval and was expected to close within 12 months.
- McKesson faces thousands of opioid-related claims. It recorded an $82 million charge for settlements with two Ohio counties and paid the counties in January 2020. The company said it could not estimate a loss or range for broader claims and had not accrued a potential national settlement. An adverse judgment or resolution could materially affect financial position, cash flows, liquidity or results.
- Other risks include additional European reimbursement reductions, potential asset impairments, foreign-exchange movements, regulatory and cybersecurity risks, and litigation involving electronic prescription routing and alleged generic-drug price fixing.
- Change Healthcare JV’s IPO and investment impairment materially affected YTD results. McKesson disclosed a potential tax-efficient exit process, with a registration statement filed in February 2020; completion and terms were not assured.
Important facts for investors to verify
- Whether operating cash flow and working capital recover, and how commercial-paper borrowings and the higher debt-to-capital ratio evolve.
- Progress and final terms of the German wholesale joint venture and the related impairment or divestiture accounting.
- Change Healthcare JV’s subsequent valuation, proposed exit, and any further dilution or impairment.
- Developments in opioid litigation and the potential scale and timing of any broader settlement or judgment.
- Whether restructuring savings materialize and whether U.K. reimbursement changes or Canadian retail performance prompt further impairments.