McKesson Corporation — Form 10-Q Summary
Reporting period: Quarter ended June 30, 2018, McKesson’s first quarter of fiscal 2019. Comparisons are with the quarter ended June 30, 2017. The filing is unaudited.
Business context and results
McKesson distributes pharmaceuticals and medical-surgical products and provides related services. Its reportable segments are U.S. Pharmaceutical and Specialty Solutions, European Pharmaceutical Solutions, and Medical-Surgical Solutions; remaining activities are reported in Other.
| Metric | Quarter ended June 30, 2018 | Prior-year quarter |
|---|---|---|
| Revenue | $52.607 billion | $51.051 billion |
| Gross profit / margin | $2.779 billion / 5.28% | $2.560 billion / 5.01% |
| Operating income | $83 million | $633 million |
| Income from continuing operations | Loss of $81 million | Income of $363 million |
| Net income attributable to McKesson | Loss of $138 million | Income of $309 million |
| Diluted EPS attributable to McKesson | Loss of $0.68 | Income of $1.45 |
| Operating cash flow | Use of $1.061 billion | Generation of $741 million |
Revenue increased 3%. Gross margin rose 27 basis points, while operating expenses as a share of revenue increased to 5.12% from 3.77%. Results included a $570 million noncash European goodwill impairment and $96 million of restructuring and asset impairment charges; a $97 million escrow settlement gain partly offset these items. The impairment charge was not tax deductible.
Segments and notable changes
- U.S. Pharmaceutical and Specialty Solutions: Revenue of $40.977 billion, up 2%; operating profit of $543 million versus $475 million. Growth reflected market expansion, acquisitions, customer growth, settlement proceeds and LIFO credits, partly offset by customer losses and business mix.
- European Pharmaceutical Solutions: Revenue of $6.935 billion, up 9% reported but 1% excluding foreign currency effects. Operating loss was $560 million versus profit of $35 million, primarily due to the $570 million goodwill impairment, U.K. reimbursement cuts, restructuring and competition in France.
- Medical-Surgical Solutions: Revenue of $1.703 billion, up 11%, including the MSD acquisition; operating profit was $93 million versus $108 million, with restructuring cited as a factor.
- Other: Revenue of $2.992 billion, up 5%; operating profit was $114 million versus $17 million. The current period included the $97 million escrow gain.
Cash used in operations was driven principally by a $1.414 billion increase in receivables, alongside higher inventory and other working-capital needs. Investing cash use was $875 million, including $826 million of net acquisition payments. Financing provided $1.541 billion, including net short-term borrowing. Cash and cash equivalents declined to $2.199 billion from $2.672 billion at March 31, 2018.
Debt, liquidity and capital allocation
At June 30, 2018, short-term borrowings were $2.033 billion, current long-term debt was $1.127 billion, and long-term debt was $6.592 billion; total debt was approximately $7.719 billion. The debt-to-capital ratio was 46.5%, up from 40.6% at March 31, mainly due to short-term borrowing. Working capital was negative $134 million. The company reported compliance with its credit-facility covenants and said cash generation, credit facilities and commercial paper access were expected to meet foreseeable funding needs, while cautioning that capital-market disruption could impair liquidity or raise borrowing costs.
McKesson paid $0.34 per share in quarterly dividends during the period and announced an increase to $0.39 for dividends declared on or after July 2018. It repurchased $307 million of shares during the quarter and had $4.8 billion of repurchase authorization remaining at June 30.
Outlook, risks and contingencies
- The multi-year strategic growth initiative is intended to optimize the operating model and cost structure, with substantial implementation expected by the end of 2019. The company expected total after-tax charges of approximately $150 million to $210 million during 2019.
- Further European goodwill impairment is possible if projected cash flows weaken, including from additional reimbursement reductions, operational performance, market conditions or higher financing costs.
- The filing describes extensive opioid-distribution litigation, including approximately 740 complaints, as well as government subpoenas and investigations. It also notes the New York Opioid Stewardship Act’s estimated $100 million annual industry surcharge; McKesson’s share was uncertain. The law was being challenged, and the company had recorded an estimated liability.
- Other disclosed exposures include McKesson Europe shareholder appraisal proceedings, tax audits and uncertain tax positions, foreign-exchange movements, customer concentration or defaults, acquisition integration, and cyber or technology disruptions. Management said there were no material changes to the previously disclosed risk factors.
- The company held approximately $1.3 billion of cash outside the United States, primarily intended for foreign operations; repatriation could incur U.S. taxes. No broad revenue or earnings forecast was provided in the supplied filing text.
Important facts for investors to verify
- Whether European operations stabilize after U.K. reimbursement reductions, store closures and the $570 million goodwill impairment, and whether further impairment is required.
- How much of the quarter’s operating performance reflects recurring operations versus the escrow settlement, antitrust settlement receipts, LIFO credits, restructuring and acquisition effects.
- Whether working-capital cash outflows reverse, and how commercial paper borrowings and the higher debt-to-capital ratio evolve.
- The eventual financial exposure from opioid litigation and the New York surcharge, including the effect of the legal challenge and any additional state measures.
- Final purchase accounting and integration outcomes for recent acquisitions, including MSD, and the performance and carrying value of the Change Healthcare investment.