McKesson Corporation — Form 10-Q Summary
Reporting period: Quarter and six months ended September 30, 2016 (McKesson fiscal 2017 Q2). The filing is unaudited. McKesson operates in Distribution Solutions and Technology Solutions.
Key financial results
| Metric | Quarter | Six months |
|---|---|---|
| Revenue | $49.96 billion, up 2% year over year | $99.69 billion, up 4% |
| Gross profit | $2.76 billion, down 3%; gross margin 5.52% versus 5.83% | $5.66 billion, down 1%; gross margin 5.68% versus 5.91% |
| Operating income | $580 million versus $954 million | $1.55 billion versus $1.89 billion |
| Net income attributable to McKesson | $307 million versus $617 million | $849 million versus $1.19 billion |
| Diluted EPS | $1.34 versus $2.63 | $3.72 versus $5.08 |
| Cash from operating activities | Six-month inflow of $2.93 billion versus $1.25 billion |
Quarterly operating expenses included a $290 million noncash goodwill impairment charge ($282 million after tax), principally reflecting lower estimated cash flows at the Enterprise Information Solutions business. The impairment valuation remained provisional at September 30, 2016. Six-month discontinued-operations loss included a $113 million after-tax loss on the sale of the Brazilian pharmaceutical distribution business.
Financial position and liquidity
- At September 30, 2016, cash and cash equivalents were $5.46 billion, versus $4.05 billion at March 31; working capital was $4.29 billion versus $3.37 billion.
- Total long-term debt was $8.11 billion, including $2.17 billion classified as current; the debt-to-capital ratio was 41.8%, down from 43.6% at March 31. No borrowings were outstanding under the $3.5 billion revolving credit facility, bilateral credit lines, or commercial paper program at quarter-end; McKesson reported compliance with credit covenants.
- Operating cash flow benefited from changes in operating assets and liabilities, including a $2.17 billion increase in drafts and accounts payable; investing activities used $1.35 billion, including $2.04 billion of acquisition payments. Financing activities used $114 million.
- Approximately $2.9 billion of cash was held by foreign subsidiaries, primarily intended for foreign operations; repatriation could incur U.S. taxes.
Changes, business developments, and outlook
- Revenue growth reflected market growth, acquisitions (including Vantage Oncology, Biologics, and UDG), and expanded business with existing customers, partly offset by customer losses. Management cited customer consolidation, weaker pharmaceutical pricing trends, competitive pricing, and lower manufacturer compensation as pressures on gross profit.
- Distribution Solutions revenue rose 3% in the quarter and 4% in the half, while segment operating profit fell 8% and 3%, respectively. Technology Solutions revenue declined 6% in the quarter and 4% in the half; its quarter operating loss included the impairment.
- McKesson proposed contributing most of its Core McKesson Technology Solutions business to a joint venture with Change Healthcare, subject to closing conditions including antitrust clearance. Closing was expected in the first half of calendar 2017; McKesson and Change Healthcare shareholders were expected to own approximately 70% and 30%, respectively. Assets and liabilities designated held for sale totaled $1.77 billion and $604 million. McKesson said it expected to recognize a gain upon closing.
- The Cost Alignment Plan is expected to incur $260 million to $280 million in total pretax charges. Management anticipated net pretax savings of $170 million to $190 million in fiscal 2017 and an additional $70 million to $90 million in fiscal 2018. The plan was expected to be substantially implemented before the end of 2019.
- The proposed joint venture had commitments for $6.1 billion of long-term debt financing. The filing gives no consolidated earnings or revenue guidance.
- In October 2016, after the quarter-end, the Board authorized up to $4 billion in share repurchases. McKesson also repaid a €350 million bond at maturity on October 18, 2016.
Risks, contingencies, and unusual items
- The EIS goodwill impairment is provisional and could be adjusted as the valuation is finalized. McKesson was evaluating strategic options for EIS.
- McKesson stated it could not estimate reasonably possible losses for many unresolved legal and regulatory matters; adverse outcomes could require substantial payments or changes to operations. Plaintiffs appealed the denial of class certification in a TCPA marketing-fax case.
- Appraisal proceedings involving Celesio noncontrolling shareholders could affect compensation, dividends, or put-right amounts. The carrying value of redeemable noncontrolling interests was $1.34 billion; the timing and amount of any future cash payments were uncertain.
- Other identified risks include pharmaceutical pricing and competition, customer concentration or loss, foreign exchange movements, acquisition and divestiture execution, healthcare regulation, technology and cybersecurity issues, and potential impairment of goodwill or intangible assets.
Most important facts for investors to verify
- Whether the Change Healthcare joint venture received required approvals, closed on expected terms, and produced the anticipated gain and cash proceeds.
- Final valuation and any revisions to the $290 million EIS goodwill impairment.
- Whether planned cost savings are realized and how pricing pressure, customer consolidation, and LIFO estimates affect distribution margins.
- Final outcomes and potential financial exposure from legal proceedings, tax matters, and Celesio shareholder put rights.
- Acquisition performance and funding needs, including the then-pending Rexall Health acquisition, and the effect of repurchases on liquidity and capital allocation.