Cardinal Health, Inc. ($CAH)

Good morning, everyone. Okay. Excellent. Thank you for joining us bright and early. We're happy to be kicking off day 2 of the conference here with Cardinal Health. Representing the company to my right is Aaron Alt, who's the Chief Financial Officer of the company; and to his right, Matt Sims, who I think many -- most of you know, heads the Investor Relations function at the company. Before we get started -- and let me just quickly introduce myself for those who don't know me, I'm Glen Santangelo. I'm the analyst at Barclays that covers the stock. Happy to follow up with anybody. But before we get started, I just want to turn it over to Matt. He just wants to read a quick disclaimer, and then we'll jump right into the Q&A.

Well, great. Thanks for hosting us, Glen. It's great to be here. So before we begin, just a little housekeeping. We will be making forward-looking statements today, which are subject to risks and uncertainties that could cause our actual results to differ materially from those projected or implied. For a description of these factors, please review our SEC filings, which can be found on our Investor Relations website at ir.cardinalhealth.com. All right. Let's jump in.

Okay. Excellent. All right. Well, let's get started. Thank you, Aaron. Thanks, Matt. Okay. Here we go. So I thought a good place to start off the conversation would be talking about fiscal 2Q. We recently launched on the stock in December. It felt like there was some upside to the estimates to us. And I think in January at one of the competitor conferences, I think you raised guidance. And then in February, again, guidance sort of got bumped up again. So maybe if you could just sort of level set us and talk about the first half of fiscal '26, how things played out, maybe what's come in a little bit better than maybe what you thought. I don't know if there's anything that was maybe a little bit different than what you thought, but I think that would be a good place to start, and then we can sort of dive right into the questions.

Glen, thanks for having us. Delighted to be here. And indeed, you're right, we have had a strong first half at Cardinal Health, really driven by 3 things: strong demand, great execution and continued investments against both the short-term, medium-term and long-term objectives of the company. And let me highlight a couple of parts of that. Of course, our pharma business is the largest of our businesses, 19% revenue growth, 29% profit growth. Profit growth really driven by the contributions from our specialty business, our brand business, the MSOs, strong volumes across the board, greater -- strong volumes, greater demand than we had anticipated. The business affectionately known as other, which is, of course, the aggregation of 3 parts of our business, nuclear Precision Health, at-Home and OptiFreight, 3 well-positioned businesses that have great secular positions that are responding to key demographic trends, industry leaders. They also delivered strong profit growth, more than 50% for the quarter with strong revenue growth as well. And we can't forget our GMPD business, which continues to execute against the GMPD improvement plan, and they saw strong Cardinal Health brand growth as well as strong execution against the operational excellence and the cost takeout. And so we were pleased to be able to have good results there. All 5 of our operating businesses, more than double-digit growth in the quarter, continuing the trends from the first quarter. Now going on behind the scenes, of course, of all of that is the fact that we continue to invest. We're investing in M&A through the MSOs. We're investing in the organic growth of the company. We are investing more than we ever have before this year, last year, the year before that as well. And that's coming in the distribution note, that's coming in the acquisition of MSOs, that's coming in technology investments that we're doing across the board. What I want you to take away is that we're doing the right things now to set the company up for profitable growth, not just this quarter, this year, but next year, 3 years, 5 years out. We're making those investments now as everything is going on. Lastly, of course, we did raise our guide. During our Q2 earnings for the rest of our fiscal year, we raised our EPS guide to $10.15 to $10.35. We raised the operating profit guide across all 3 of the businesses, Pharma as well as GMPD as well as the other business. We also commented, of course, that we've got some good news below the line, having completed our baseline share repurchase of $750 million, we updated our share number guide as well. And we did comment that we see some discrete positives coming on the tax line, particularly in Q3. So we're able to take down our tax rate for the year as well. All that led to our raising guidance.

Okay. Excellent. So let's start by diving into the Pharma and Specialty Distribution business. I think one of the challenges for us as an analyst, and I'm sure for investors, there's a lot of moving pieces here, right? So if we go back a little over a year ago, you did an integrated oncology network and then the GI alliance and then ultimately, more recently, Solaris. And I guess -- what I'm trying to figure out is get a read on underlying operating income growth, excluding those acquisitions. And so I'm wondering if you can give us some characterization of how the core may be performing ex those acquisitions and what may be driving strength in the core?

Great question. And the simple answer is we are seeing strong demand and strong execution even within the core of the business. And while we are mindful of the fact that we have done significant M&A and that the M&A is contributing on an accretive basis to the overall enterprise, M&A for our year for the growth for pharma is about 8 percentage points of the profit growth, which means that our underlying core business including our core specialty business ex the M&A is contributing above our long-term target during the year. And so we had guided pharma up to 20% to 22% profit growth. If the M&A is 8% of that, you see that indeed the core is growing faster. And that is -- we are seeing strength in our generics business. Of course, we call consistent market dynamics all the time. As volume grows, we see good news there. We're seeing strong performance in the brand business and the consumer health business that we have across the biopharma services business. Happy to talk about more about those wherever you like, but we are seeing good news across the entire pharma portfolio.

And on your recent quarterly call, you called out the lapping of the integrated oncology deal, right? And so when we think about the balance of the fiscal year, I mean we still have the tailwinds. Well, we'll lap GI Alliance and then Solaris will continue to be a tailwind. Anything -- any other headwinds or tailwinds we should be thinking about for the balance of the fiscal year in these last 2 quarters?

So from a timing perspective, we guided at the start of the year that first half profit growth will be higher than second half profit growth, really driven by a couple of things. First, we can't lose sight of the fact that we onboarded $10 billion of new business in the back half of last year. And there's about $7 billion of that carry on effect of that in the first half of this year. And so the combination of the $7 billion of growth in the first half and lapping the $10 billion will bring us down from a growth rate perspective somewhat in the back half. The second thing, as you pointed out, is indeed, we have -- we are lapping the acquisitions with ION and GIA. We didn't close Solaris until November, and so that's further out. But indeed, we are lapping the acquisitions. And to my point earlier, we do continue to invest across the business. And so although I'm not going to call out any one specific investment, part of how we have provided the profit growth for pharma for the back half of mid-teens is driven by the lapping of a couple of those items as well as some of the investments.

All right. Can we talk about the M&A strategy? Because it feels like you bought a bunch of different types of businesses, right? And you talk about the MSO platform, and that sort of gets a lot of attention. And it feels like at least the feedback that I get from investors is it feels like Cardinal's acquisition strategy is maybe a little bit different than your 2 competitors. And I wonder if you can maybe opine on that, and maybe put it in perspective for us? And then how do you think about the appetite to continue to do deals at the pace with which you've done them the past couple of years?

Yes. Well, I'm thankful that the investment community has noticed the difference in strategy because it is intentional. The old business school adage is you're running everyone else's playbook, you're doomed to failure, and that's not what we're doing. We have been specific to -- we've been purposeful in identifying where are our competitive advantages, where do we have opportunities to further take advantage of the assets we already have by virtue of adding M&A to that. And we identified 3 years ago at our Investor Day that we were focused more on the other ologies, not oncology per se, but the rheumatology, gastroenterology, neurology, urology, nephrology, areas like that where Cardinal has historically been one of the strongest, if not the strongest, in traditional distributor in GPO. And that's where we really started our focus while importantly, knowing that we need to be relevant in oncology. And so you've also seen us do acquisitions in the oncology space. And so that is why we started our M&A journey 2.5 years ago with the acquisition of Specialty Networks. Specialty Networks was originally a urology-based GPO that then moved into technology in a way which we saw as being purposely additive, not just to urology, but we could do more with it in gastroenterology, urology, nephrology, oncology, et cetera. And so we acquired Specialty Networks, even though it wasn't an MSO to really be part of the backbone of the upcoming acquisitions that we were going to be doing. And we've been delighted to do that. GIA and gastroenterology, they were a customer of Specialty Networks from a data perspective, even though they weren't part of the GPO, they weren't part of the urology network. Solaris was a customer of Specialty Networks, even though they weren't a broader part of the network. And by the way, neither of them were -- they were not customers of ours from a distributor perspective. And so we're really building an ecosystem around the therapy areas for which Cardinal has historically had reasons to succeed in that way. And we're going to continue to lean in, in those areas. We've done a number of follow-on acquisitions in urology and gastroenterology, Urology Americas, Potomac Urology, those are some of the ones we've announced, but there are a series of tuck-ins that go with those as we seek to increase the scale of those MSO efforts. And indeed, as we seek to, along with the scale, really bring the operational excellence in the ways that we can create value for the community physicians. Because I want to emphasize the other thing that we think we're doing different is we are starting with -- not with what can they do for Cardinal? We're starting with what can Cardinal do for the community physicians? Because as you think about the regulatory environment in which we're working, right, it's all about how do we ensure that patients have access to care? How do we ensure that health care costs come down? How do we ensure that innovation is accessible, right? And we believe that we can be a productive participant in that and indeed someone who's really supporting that effort by leaning in with the MSOs, by ensuring that we're bringing our scale in purchasing, our scale in contracting, our scale and distribution, et cetera, to the table. And that's why we believe that the doctors are excited to partner with us from an MSO perspective. Now where to from here, we benefit from a strong balance sheet, right? We have a disciplined capital allocation framework. And of course, we'll continue to look at M&A while at the same time, investing every dollar we can into organic growth, protecting our balance sheet and also fulfilling our commitments to return capital to shareholders.

Okay. Maybe just a couple of quick questions on the core, back to that. I mean, how do you see any sort of volume volatility related to the macroeconomic conditions, shifting labor markets? You're starting to see a lot of layoffs getting announced. You're starting to see any sort of issues arise on the volume side?

Yes. I can only point to our update to guidance again, which is in the first half, we saw a strong demand really across the portfolio. And indeed, we raised our guidance at our Q2 earnings call to -- and part of the raise to that guidance was the fact that we were seeing -- that we actually raised our internal expectations of demand for the back half of the year. And so notwithstanding what's going on in the Middle East, notwithstanding corporate restructurings, notwithstanding changes to the regulatory environment, changes to health care coverage from the federal government, we continue to see strong health care demand, which makes sense to us, right? The demographics are in favor of the industry and that the American patient, we're all getting a little older, and indeed, we're all taking better care for ourselves. And with the access that we're increasingly having to new therapeutics, we believe that we're in a strong demand environment.

Okay. All right. Maybe just shifting gears over to sort of the LOE pipeline sort of coming up. We hosted a panel yesterday with a consultant that we use in the space. And one of the comments that he made is, if we look over the next sort of 5 years, he's expecting $200 billion to $300 billion of patent expirations in terms of total dollars amount over the next 5 years, and that sort of compares to about $100 billion over the last 5. So no matter how you slice the data, it feels like we're about to embark on an uptick in sort of LOE activity, and that's coming from a range of specialty sort of complex generics. Could you maybe talk about how Cardinal is positioned to take advantage of that, if you believe that's to be the case? And I guess maybe more broadly, do you see that uptick on the horizon? And do you think that Cardinal benefits just from its position in the supply chain?

We do benefit. We do see the opportunity, and we are excited about what it can do both for our business and for the health care community given the LOE that's coming. A couple of additional thoughts. First is we have a -- we have had for many years, a strong collaboration with CVS in the form of our Red Oak Sourcing relationship. And we believe that Red Oak is the #1 sourcer of generic products around the world and that, that means that Cardinal has first access and best cost in the generic space. And that is saying something given the relative scale. And so we believe that Red Oak is a competitive advantage for us and for CVS in that way. As we look at the LOE that's coming down the pipeline, you're right, there is a significant surge of LOE coming. I'm not going to comment on any particular generic good coming, but I will observe that we make more money typically on the generic goods. The revenue line is much smaller, of course, given the pricing, but we make more profit on that on the absolute scale basis. And so we're excited about the generic trends that are coming and the opportunity it presents for all of us.

Are you more excited about the small molecule orals, the complex generics or the specialty is like one class of those drugs better for you in terms of this trend?

They're all part of the ecosystem. And I mean, the small molecule has been around for a long time. But the more complex, the biosimilars, I get questions a lot as well. That is all part of the pipeline of what's coming. And the economics are different based on how the various players address them, but we see it all as opportunity. I'll use biosimilars as an example. We've been talking about it now for several years. That market is in early innings. It's not yet -- it has not yet become, I think, that which everyone aspires for it to become from a utilization or an economic perspective. And so there is opportunity there for the future. And similarly, as more LOE comes through, we're going to continue to optimize that for the portfolio. But I want to leave you with the point that like you were looking at the LOE pipeline, it's not coming as much this year or next year. It's in the back half of the 5-year period you were calling out. But we do think it's a good trend supportive of our industry and our company.

Just back to the comments you made on Red Oak, one of the other things that we've sort of come to the conclusion based on some work we've done with some consultants is it kind of feels like generic pricing has gotten I'll call it, less bad relative to maybe where it was a few years before that. And so I'm just kind of curious, are you seeing that trend like when you compare '25 into '26 versus maybe '22, '23, '24, does it feel less bad to you now versus a couple of years ago?

Yes. We don't actually talk about our business in the same way as some of our peers do. And as you look back through our earnings call commentary on the generic part of our portfolio, what I want you to notice is if we're talking about consistent market dynamics and we're talking about volume growing, that's a very positive sign. And consistent market dynamics for us is the cohorts for we're managing our portfolio to average margin per unit. And if that is consistent really across the basket, that means that we're not having to deal with or we have successfully dealt with across the portfolio, any rise and fall on a particular item or units in that way. And as long as I've been at Cardinal, every quarter, it's been consistent market dynamics and growing volume. And so we haven't -- we have not commented on anything other than that. And it's certainly part of what's part of our guidance is that continuing on, again, driven by the scale we have through Red Oak and just how we manage the business.

Maybe just segueing that conversation to the branded side. One of the concerns that we got later in the year and heading into the new year was the concern around the IRA pricing and some of the reductions we were seeing on the branded side or scheduled to see in '26 and '27. And investors ask the question a lot, do you feel like the distributors have adequately renegotiated their fee-for-service contracts in anticipation of those price reductions. Any sort of commentary to investors in terms of how well you feel Cardinal is prepared or how well those negotiations have gone to make the company whole for this price erosion that we're seeing?

I appreciate the question. And I will observe a couple of things. One is we expressed confidence for months in advance of the 2026 IRA changes that we expected to retain the economics with our branded manufacturer partners, notwithstanding changes to WACC or other choices that will be made. And there was some skepticism on that. But the good news is we actually put in the headline of press release last time around, I believe, that indeed, we maintain the value of our economics. And here's the simple reason why. We are the backbone of health care and that we are buying things from thousands of manufacturing sources and distributing to tens of thousands of customers every day, right? And we get a 1% margin on that overall. So there aren't many that want to do that for those returns. There's a -- it would require a fair amount of investment to replicate what we and Cencora and McKesson do in that way. And we're very clear with the manufacturer community what it would cost them to try to replicate us. And we give them that choice every year when we negotiate our contracts, and they have thus far not taken us up on that opportunity. And so we continue to express confidence as it relates to 2027 IRA. Indeed, as we talk about '28 and other regulatory change where -- the words on the contract may change, the individual provisions may evolve. But at the end of the day, we will be compensated for the services that we provide because we are a central part of the American health care ecosystem.

We only got 3 or 4 minutes left. So I'm going to do a little rapid fire here. Can we talk about the other segment? I mean some of these businesses, the at-home solutions, OptiFreight, Nuclear, I mean it is 20% of the operating profit of this company now and growing at an exorbitant rate. And some of that has been fueled by M&A, but you're seeing decent organic growth. How should we think about how Cardinal prioritizes those businesses from an investment perspective? And help us think about the durability of some of the recent trends that we've seen in that business.

From an internal perspective, those businesses are anything but other, right? They are small relative to pharma. And so from an accounting perspective, they aggregate together into other. But I affectionately know them as other, and we are investing in those businesses for the long term. We expect double-digit profit growth on an organic basis from each of those businesses as we carry forward. And whether we're investing in $150 million into the pet network within nuclear or investing in the advanced theranostics capabilities within the nuclear business or investing in the technology and the capabilities within OptiFreight Logistics or investing in automation, new distribution nodes, et cetera, within at-home to bring that cost down as we seek to optimize that business. So we are leaning in with each of those businesses. They report directly to our CEO. They have access to capital they've never had before. Because we believe they are a differentiated part of our portfolio that we can drive growth on. And importantly, we also believe that each of those businesses can be supportive of and support the other parts of our portfolio. So part of what we're building is not how do we optimize 5 discrete businesses or the number of businesses below them, but how do we optimize in the way where they are supporting each other and creating more -- and offering us more opportunities for value creation across the portfolio.

Can you talk about Global Medical for a second? I mean the company has been pulling costs out of that business. How much more opportunity is there to restructure and pull costs out?

We are really pleased with the progress in the GMPD business over the course of the last couple of years. If you go back to our Investor Day 3 years ago, what we commented was as we think about sources of shareholder value creation, right? What we could see at that time was we had a specific plan, the GMPD improvement plan, led by growing the Cardinal Health brand, led by optimizing the cost structure, led by a better customer service, the core operational elements to make us the partner of choice. If we could execute against that plan, we could see that we would create more shareholder value by doing that than other alternatives we were discussing. And that continues to be the case where we've now had a couple of quarters of good -- a couple of years of good results against that plan, a couple of particular quarters. The fact that we raised guidance for GMPD this quarter, I hope isn't lost on anyone. And so they continue to find ways to take cost out. We've certainly had some good results from a Cardinal brand perspective, and we're -- we continue to lean in to drive success there.

Okay. A couple of financial questions. The leverage on the business, 3.2x. How comfortable are you? Do you feel like that's sort of the right number given all the M&A that we've seen? And how active is the company sort of searching for M&A activities at the current time? And just given what you and all your competitors have done, are you starting to see upward pressure on acquisition multiples that maybe you're seeing in the marketplace?

Yes. We have a disciplined capital allocation framework, which the most important word is disciplined there and that we take -- we hold ourselves accountable to doing exactly what we say we're going to do. And so first thing we're going to do, of course, is invest $600 million, $650 million organically in CapEx into the business every year. We have plenty of investments. We have internal competition for that capital. And so that keeps us honest internally. We've protected the balance sheet by bringing leverage down. As you called out, we've completed our share repurchase -- baseline share repurchase of $750 million. And after that, it's additional capital for either further M&A or incremental return of capital to shareholders. And so we have those options in front of us. As I said before, we've got a strong balance sheet. We're in a great cash position. We're going to generate $3 billion to $3.5 billion of adjusted free cash flow this year and $10 billion over a couple of years. And so what I love is it gives our management team choices, right? We continue to be active in the M&A market for the right opportunities at the right price at the right time. Having acquired platforms within urology and gastroenterology, we don't have a need to pay a high multiple for more platforms in that space. But what we will be interested is lower multiple tuck-in, highly accretive acquisitions in that space. And we can't forget other and the 3 businesses there are other parts of the portfolio where we will lean and support. And if we don't see those deals, then we will do what we said, which is returning incremental capital share.

Right. That's what I was going to ask. So if you can't find the deals, it's fair that you're going to go above the baseline share repo that you already completed through the first 2.

We always have that option to do that. It's part of our -- it's part of the discipline we're applying to the capital allocation framework.

Okay. Well, we're out of time. So what I want to do, I mean, it sounds like there's a lot of things going in the right direction. Maybe I want to give you a minute just to sort of tie it all together, if there's any message you want to leave the investors with here today. And just as part of that, is there anything that sort of keeps you up at night, anything you're concerned about, anything you're watching a little bit closer, but I want to give you the sort of last word to close it out with you.

Yes. There's no escaping the fact that we're operating in a dynamic environment, economic, regulatory, business as well. What I take -- what I sleep well as a result of is the fact that we have a business that's got momentum. We've got a great management team that works very well together that is able to grab the strands of our business, has great relationships within the industry. And so we have been able to drive growth across the entire portfolio, both from operational execution, importantly, as well as a result of demand. And as we carry into future quarters, of course, we're carefully monitoring changes that are out there. But with us being the backbone of the health care industry, as Jason would say, the beginning, the middle and the end, increasingly across our portfolio, we have high hopes for Cardinal Health.

Okay. Aaron and Matt from Cardinal Health, we'll leave it there. Thank you guys very much.