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McKesson Looks Forward to a New Year

By Dan Caplinger - May 4, 2016 at 7:42PM

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The drug wholesaler's results were somewhat less successful than expected.

Image: McKesson.

The wholesale pharmaceutical industry has been a battleground lately, and McKesson (MCK 1.02%) has had to navigate an environment in which greater regulatory scrutiny and allegations among some industry players of price-gouging practices pose a threat to long-term profitability. Coming into Wednesday's fiscal fourth-quarter financial report, McKesson investors wanted to see modest but measurable growth in its top and bottom line. Although McKesson's fiscal fourth-quarter results left some things to be desired, the company focused on full-year performance and sought ways to do even better as fiscal 2017 begins. Let's take a closer look at the latest from McKesson and what it means for its future.

McKesson calls in sick
McKesson's fiscal fourth-quarter results included some surprises that weren't so pleasant. Revenue for the quarter rose 4% to $46.7 billion, which was almost exactly what investors had expected from the wholesale drug specialist. Yet after modifying for various extraordinary items, adjusted income from continuing operations fell to $560 million, representing a drop of almost a fifth and working out to adjusted earnings of $2.44 per share. That fell far short of the consensus forecast of $3.14 per share in adjusted earnings.

For the most part, McKesson's major segments moved in almost the opposite directions from each other. The Distribution Solutions business makes up nearly all of McKesson's total revenue, and sales there rose 7%. Currency impacts cost the company two percentage points of revenue growth. The international pharmaceutical distribution and services business continued to underperform its North American counterpart, consistent with the behavior we've seen in the past. International revenue was down 1% in dollar terms, masking a 2% constant-currency gain. North American sales from pharma distribution and services picked up 5%. Medical-surgical distribution and services were up only modestly, and operating profits for the segment totaled $811 million on a GAAP basis.

Meanwhile, McKesson's Technology Solutions business kept losing ground. Overall, revenue for the unit fell 5%, with McKesson once again discussing the impact of the sale of its nurse-triage business as well as its expected decline in its hospital software business. Growth in other areas of the segment helped keep the losses from being any worse, and adjusted operating profits of $99 million were helpful but lower than in the fiscal third quarter.

CEO John Hammergren emphasized the way that the entire 2016 fiscal year has gone. "Fiscal 2016 was a year of growth at McKesson," Hammergren said, "and I am encouraged by the many new and expanded customer relationships throughout our businesses." The CEO characterized solid execution throughout the company as a driving force for success.

What's next for McKesson?
Looking forward, McKesson thinks that there are ways it can continue to squeeze more from the business opportunities it has. In Hammergren's words, "McKesson's focus on driving value and innovation in our daily interactions with our customers, built on a deep foundation of operational excellence, will continue to propel our company going forward as we look to fiscal 2017 and beyond."

Specifically, McKesson's guidance was reasonably upbeat. The company expects to post adjusted earnings of $13.30 to $13.80 per share, once you exclude not only the typical reductions from GAAP earnings but also an additional $0.12 to $0.15 per share in costs related to McKesson's Cost Alignment plan. The company believes that negative generic pharmaceutical pricing trends in the U.S. will hurt its overall results, as will consolidation among its customer base. However, potential growth from McKesson's strategic deployment of its capital could offset those negative trends.

To get there, McKesson is making some key assumptions. The company expects high-single digit percentage growth in Distribution Solutions revenue, with even faster low-double digit percentage gains internationally. McKesson isn't expecting the Technology Solutions arena to produce sales growth, but the segment will need to improve to a more modest rate of decline. Pre-tax charges from the Cost Alignment plan should amount to $40 million to $50 million.

McKesson investors seemed fairly satisfied with its results, sending the stock up about 1.5% in after-hours trading following the announcement. Despite headwinds, McKesson's opportunity to capitalize on profitable business in the pharmaceutical arena makes the company an interesting play despite its big miss on the bottom line in its most recent quarterly report.

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