McKesson (NYSE:MCK) is one of the planet's biggest drug distributors. The company is responsible for delivering roughly one out of every three prescription drugs used in the United States daily and generates more than $138 billion in annual revenue. But McKesson isn't just America's biggest drug distributor; it's also a large technology services company that's helping healthcare providers create and deploy health IT systems.
McKesson reported its fiscal second-quarter results for the quarter ended in September, and results were better than hoped for. McKesson's sales of $44.8 billion beat analyst forecasts by $1.81 billion, and the company's EPS of $2.79 came in $0.06 ahead of estimates. Let's take a closer look at what's behind McKesson's solid results.
By the numbers
McKesson gets the lion's share of its revenue from its drug distribution business, and last year that business grew 13% to $134.4 billion. Thanks to aging baby boomers, prescription demand is continuing to increase.
In the fiscal second quarter, McKesson's sales jumped 36% from a year ago, thanks to a 37% increase in its drug distribution segment, which posted sales of $44 billion. The main driver behind jumping distribution sales is the company's acquisition of Celesio, a major overseas drug intermediary.
While Celesio was a big reason for distribution sales growth, McKesson's North American operations, which includes U.S. Pharmaceuticals, McKesson Canada, and Specialty Health, also reported a very respectable 14% lift from a year ago.
The distribution business, however, remains a very low-margin segment. Despite revenue that eclipsed a $175 billion annualized run rate in the quarter, the company's GAAP operating profit from it totaled just $793 million, giving the company an operating margin of just 1.8%.
Although McKesson notched respectable top-line growth for its low-margin distribution business, sales in its higher-margin technology solutions unit dipped 6% to $770 million. Rising competitive pressure in the healthcare IT space from Cerner (NASDAQ: CERN) and the privately held Epic continue to negatively affect demand for the company's Horizon clinical software program. Regardless, the unit still delivered operating profit of $125 million, for an operating margin of 16.23%.
The company has a fairly predictable revenue and margin stream that kicks off a lot of shareholder-friendly cash. That cash is being returned to shareholders through both dividend payments and buybacks. In the past two quarters, McKesson paid out $115 million in dividends and spent $105 million on repurchases. Since the company still has $3.8 billion in cash, up from $2.96 billion a year ago, and expects to generate operating cash flow of $3 billion this fiscal year, there should be plenty of dry powder to continue funding that activity.
For the full fiscal 2015, McKesson is telling investors to expect EPS of between $10.50 and $10.90 per share. That would be nicely above the $8.35 the company earned per share last fiscal year and well north of the $6.38 per share it earned in fiscal 2013. A good portion of the company's projected earnings this year will come from integrating Celesio. McKesson believes that Celesio will add between $1 and $1.20 per share to earnings in its first 12 months. Celesio's earning tailwind is likely to continue, given that McKesson expects to deliver annual cost saving synergies of between $275 million and $325 million by the fourth year following Celesio's integration.
In addition to earnings upside tied to the Celesio deal, McKesson also stands to benefit from longer-living baby boomers. Roughly 10,000 boomers are turning 65 daily, and since those 65 and older are prescribed nearly twice the medicine of those 54 and younger, prescription demand is likely to head significantly higher. If that proves true, McKesson may find that it can grow even more quickly than it has historically. Between 2007 and 2014, McKesson's sales and earnings climbed by a compounded 5% and 17% per year, respectively.
Todd Campbell has no position in any stocks mentioned. Todd owns E.B. Capital Markets, LLC. E.B. Capital's clients may or may not have positions in the companies mentioned. Todd owns Gundalow Advisors, LLC. Gundalow's clients do not have positions in the companies mentioned. The Motley Fool recommends McKesson. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.