Cencora, Inc. (COR) Earnings Call Transcript & Summary

Good afternoon, everyone. Welcome to Day 3 of the Morgan Stanley Healthcare Conference. Just real quickly for important disclosures, please see the Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. And if you do have any questions, please reach out to your Morgan Stanley sales representative. With that, I'm Erin Wright, I cover health care services at Morgan Stanley. We're happy to have Cencora with us today. With the team, we have Jim Cleary, EVP and CFO of the company. We also have Bennett Murphy, who heads up the IR effort, so SVP of IR, or Head of IR and Enterprise Productivity at Cencora. So thanks so much for joining us today. We're definitely happy to have you.

So I'll kick it off with some Q&A to get it started here. More recently, in the most recent quarter, you raised your fiscal '25 EPS guidance, I think you've raised it 5x since you issued it in November of last year. With the latest kind of implying that EPS growth of 14% to 15%. The EPS growth this year is helped in part by some of the acquisitions and like, for instance, RCA deal, but also related to significant strength in that U.S. Healthcare business. So could you talk a little bit about how you continue to track ahead of your long-term goals here of 8% to 12%? How we should be thinking about that earnings growth as we head into 2026? And what are some of those key headwinds and tailwinds?

Sure. Well, first of all, Erin, thank you so much for having us here at the Morgan Stanley Conference. We really appreciate it. We've had great investor meetings today, and thanks for all the work that you do on Cencora and our industry. So you're absolutely right. We have been fortunate, and we've increased our guidance for fiscal year '25 5x since the start of the fiscal year. And you referenced our EPS and of course, our adjusted operating income, our guidance is 15% to 16% growth for the fiscal year. And in our U.S. segment, which is performing particularly strongly, our operating income guidance is growth of 20% to 21% for the fiscal year. And that's really been driven by the things that we've been talking about for quite some time. We've seen very good utilization trends. We've had particularly strong performance in sales of specialty products to physician practices and health systems, and we've really just seen very broad-based strong performance across our U.S. segment and particularly in some of our largest businesses in the U.S. segment. As we look forward to fiscal year '26, of course, we'll provide guidance for fiscal year '26 in November when we announce our fourth quarter results. And you asked about some of the puts and takes. There's just a couple of things that I'll call out. And there's really nothing new here. It's things that we've talked about before. Of course, we benefited in fiscal year '25 from the RCA acquisition, and we closed that acquisition at the beginning of our second quarter fiscal year '25. So that will be a tailwind for us during the first quarter of fiscal year '26. And then, of course, something that we've also called out in the past. And that is we do have the loss of an oncology customer where the MSO was purchased by one of our competitors and that starts to be a headwind in the fourth quarter of fiscal year '25. So it will be a headwind in the first 3 quarters of fiscal year '26. But I'll go back to the fact that we just have had very strong performance in our U.S. business, again, driven by the things that we've talked about for a while, the utilization trends and the strength in Specialty. But this is one thing that we said on our last earnings call is we don't expect our level of outperformance going forward to be as strong as the level of outperformance that we've had. And that's not based on anything in particular beyond what I talked about just now. It's just probably more of the law of large numbers more than anything else. But I'll also say we do have a very high degree of confidence in our long-term guidance above 5% to 8% organic operating income growth, another 3% to 4% from capital deployment, so 8% to 12% EPS growth.

Okay. And then so now help us bridge to your long-term growth of 5% to 8% kind of organic. Can you talk a little bit about what underpins that, bridge that to kind of what you're seeing now? And next quarterly conference call potentially be a platform to talk about kind of the long-term growth trajectory and has something structurally changed across this industry and maybe some upward pressure on that?

Yes. Sure. Erin, as I said, we do have a high degree of confidence in the long-term guide. And of course, I'll also say that we have been outperforming that for quite some time now that's driven by the things that we've talked about today and talked about in the recent past. We certainly have been helped by the RCA acquisition also, which is performing well. And as you asked about long-term guidance is something that we're always evaluating and we're continuing to evaluate.

Okay. So let's go to just core utilization trends then. And they've obviously been relatively strong. You talked about that. What can continue here? What is normalized and maybe this is a new normal in terms of utilization trends. But anything you can call out in terms of the nature of the volume utilization trends that you're seeing?

Yes. Couple of things, and it is something that we've been seeing for quite some time now, and it's something which has been particularly strong in specialty. And we have a strong specialty business across our entire business, whether it be physician practices or health systems or retail pharmacy or mail order pharmacy, it's really strong across our business, but particularly impactful from us -- for us in physician practices and health systems where we have a number of wraparound services that we also offer. And we've continued to see those trends be quite good and talked about that on our most recent quarterly call.

Okay. Great. And then drug pricing environment, I guess, can you speak to anything new or different in terms of the generic drug pricing environment, branded drug pricing environment? Obviously, it's more of a fee-for-service type of contracting on the branded side, but any nuances there to speak to?

Yes, it's really the same things that we've talked about for a while now. On the generic front, the moderation of generic deflation that we've been talking about remains. On the branded pricing front, it's really continued to be in line with our expectations. And so in terms of kind of the pricing dynamic, there's nothing new that I would call out, Erin.

Okay. I think one of the bright spots here -- we do have a question from the audience.

For the core distribution business, what portion of revenue is linked to a fee-for-service contract versus almost like a margin contract for that mix.

Yes. So if you look at our brand buy-side profit dollars, well over 95% of those dollars are coming through a fee-for-service type arrangement. It's something that has been a strategic focus for us and been well received by the manufacturers over the last 5 to 10 years, maybe even longer. And we've seen that number continue to creep north of that 95%.

Those prices are cut 50%. You don't care because it's a volume arrangement.

So let me comment on that. We have a high degree of confidence in our kind of the efficiency of our business and our kind of the gross profit that we charge. Given our volumes and our investment in infrastructure and technology, we're a very efficient business. And so whenever there is a reduction in the price of a product, we have the ability to renegotiate the contracts. And we just feel that we're just such an efficient operator that our gross profit structure is highly justified and highly defensible. Thank you for the question.

Let's switch gears a little bit to Specialty. So can you provide, I guess, a little bit of update on the Specialty business. It's clearly been, like I was saying before, a bright spot for you. Can you talk about the gross margin profile of that business as well as kind of you are a market leader. Can you speak to what's feasible in terms of your opportunity to increase your exposure around your Specialty business over time?

Sure. And that has been just such an important business for us. And continues to be an important business for us. And it's where we've been investing a lot of capital also with our acquisition of the RCA MSO and our investment in the OneOncology MSO. And it's been a market space that really has been growing very nicely and where we've been a market leader for quite some time. And it's particularly, as I said earlier, impactful for us in the Part B space and our sales of specialty products to physician practices and health systems. And it's an area where we are strong in distribution, of course. We're also strong in wraparound services like our leading GPOs in that market. And then now we've also been investing in MSOs. And so we're increasingly providing higher-value services to this very strong and important customer group that we've been working with for decades. And so it's wonderful when we're able to work with doctors and practices for such a long period of time and increasingly provide higher value services.

Great. And so on that front, you recently closed your RCA acquisition. Can you talk a little bit about what surprised you thus far, like anything in terms of -- to call out in terms of integration across that business, your expectations in terms of accretion. And some of the key strengths in terms of how that fits into Cencora.

Sure. I would say that we're very pleased with the RCA acquisition, and we're pleased with it from a financial standpoint, from a strategic standpoint and from a cultural standpoint. And it's performed quite well from a financial standpoint. From a strategic standpoint, I would say, it's a higher growth, higher margin than our distribution business, of course. And it's -- and we think it's exactly the sort of business where we want to prioritize and deploy capital because it just fits so well with our specialty focus. And then from a cultural standpoint, it's going along quite well. And I'll just kind of give examples. We've had a lot of the kind of their bigger internal meetings that they've had. We've hosted in our headquarters and it's so great to have an opportunity to spend time with the management team and the doctors of RCA. And I would say one of the things that's probably exceeded my expectations is their clinical trial site business. They are leading sites for clinical trials that the retina manufacturers are working on. And one of the interesting things is when a lot of their doctors were having meetings in our office recently, I had a chance to talk to a number of the younger doctors who had recently joined, and they indicated one of the reasons that they had joined RCA was not only to practice medicine, but also to participate in clinical trials also. And so it's really not just a nice part of the business, it's also a great tool to help with the organic growth and the recruiting of top young doctors.

That's great. So I'll speak to the next one now on OneOncology in terms of can you discuss performance there since the deal? And can you talk about the oncology market versus other areas of specialty, some of the nuances there? And can you describe kind of the rationale behind the OneOncology relationship with TPG?

Yes, sure. So let me start by saying that when you see Cencora kind of focus on a business or make an investment, everything that we do at Cencora is pharmaceutical-centric. And so I say that because as you look at our investments in MSOs, where we've really invested in the 2 product categories or the 2 parts of the market that are most pharmaceutical-centric in MSOs, oncology and retina. And so that's kind of the strategic rationale for entering those 2 very important platforms for us. And of course, oncology has been the largest and fastest-growing part of our Specialty business for quite some time. Again, a lot of the key doctors at OneOncology, we've had decades-long relationship with their practices. And so it's really what is kind of the natural evolution of our specialty business. And you asked about the relationship with TPG. We presently own 35% of OneOncology and made the investment with a private equity firm and with the doctors, and we have a put/call structure that we're likely to own all of the business and under the put/call structure that could be between June of '26 and June of '28.

Okay. Great. And then can we talk a little bit about drug pricing dynamics again a little bit on MFN, Most-Favored Nation, do you think that -- how are you thinking about the implications about potential changes there from an MSO perspective and then across your kind of core distribution business?

I think what's critical is that there's no desire to go after the independent community provider. And clearly, there is a governmental focus on relative pricing from the U.S. to other developed world countries. But as we continue to engage in D.C., as we've done for a decade plus on the importance of political constituents understand the potential unintended consequences of changes and how they could impact the community provider setting. We have very good relationships and understanding there. And it's been a valuable relationship both ways to really help inform some approaches to understanding and digesting potential policy changes.

So what could you do to offset, I guess, any sort of potential cut to -- you reimbursed on an ASP plus 6, like what if things change in terms of the provider fees or other...

Yes. So I think -- I mean, this is a topic that's come up off and on for years. And the way that kind of always approach it is whatever the -- if there is a change, the key is that the providers made hole and that there isn't some hole to fill. And that whatever the mechanism is, whatever the change is, the key is to keep the provider [ hold ].

Okay. And then let's talk a little bit about biosimilars opportunity across your broader business, but how it plays a role potentially in some of these MSO deals that you're doing, RCA being a leading kind of prescriber of EYLEA, for instance, like how does this all kind of -- how does this all incorporate across the different components of your business on the distribution side?

Yes. I think what Cencora has done is taken a very strategic approach to where we think it makes sense for us to own MSOs, and that is the pharmaceutical-centric specialty. We have customers across all specialties, across all. So in terms of where we think it makes strategic sense for us, the oncology and the retina space are particularly strong from a pharmaceutical orientation in terms of the way that care is typically delivered and where most of the MSO profitability comes to derive from. So those are the strategic focuses for us, and we think that, that's where there's a lot of opportunity and aligned incentives in the long term for us.

And then the one thing that I'll add is that biosimilars have really been a tailwind for us in the Specialty business for quite some time and continue to be one. And it was first initially in oncology and now in retina also.

Great. And then we were recently -- we recently had a discussion today actually with one of your partners, Cigna. And we talked a little bit about CuraScript. They've [indiscernible] CuraScript as well, but you obviously still have a strong relationship with them in a partnership with them. Can you talk a little bit about how much, I guess, in terms of -- do you see a risk in terms of Cigna taking on more of that business in-house at this point?

So what I would say is Cigna bought CuraScript 10 to 15 years ago, this dynamic has been there throughout, a very good partner for us in the mail order pharmacy channel. The dynamics that have been talked about when the product moves from branded generic or innovator or non-innovator, those dynamics have been there throughout. I think they are in greater focus now given that HUMIRA is such a large product for the mail order channel. But it's not a new -- none of it is really a new dynamic for us. It's a continuation of how that has worked commercially. And we navigate that partnership.

All right. That sounds good. Can you talk a little bit about -- okay, another partner that you have Walgreens. Can you speak to kind of the nature of the relationship with Walgreens now? Do you anticipate any sort of changes in that relationship with any sort of -- with the official change in control?

Sure. Well, we have the contract with Walgreens through 2029 and we have a contract with Boots through 2031. Of course, now those contracts are with 2 different companies, Walgreens and Boots. And we have a very strong and highly integrated relationship with Walgreens and Boots. Given the amount of distribution that we do with Walgreens and Boots, our operations between the companies, as I said, very highly integrated, and it's a relationship that is very important to us and is strong. Thank you.

And then other contracts that might be coming up for renewal, anything that we should be aware of?

Yes, there's nothing that we've called out. And really, frankly, the only thing we called out is, of course, the oncology customer where the MSO was acquired by one of our competitors. But other than that, there's nothing on the new contract front that we're calling out at this time.

And then I want to switch back to kind of regulatory dynamics, too, in terms of potential pharma tariffs as well as IRA impact, some of these DTC initiatives. I think most of that's for like smaller cash pay businesses. So can you talk about what's on your radar screen on that front? What are you paying attention to and what could be more meaningful in terms of positives or negatives from a regulatory standpoint?

Erin, you helped us out by answering the question as you went, which is always very helpful. But I think you're right. I mean as you think about DTC or if you look at the language, if you look at the discussion, it's really a focus on addressing parts of the market that are underserved, whether it's cash pay or it's parts of the market that for certain products, they may not have a primary care physician and they're trying to -- manufacturer is trying to address the -- fill that gap with Telehealth partnerships that have a knock-on relationship with a digital pharmacy that's been typically supported by a distributor. As you think about tariffs, nothing new to call out there. We kind of continue to watch and monitor as you think about what we focus on most primarily is just sustainability of supply and not having any disruptions along those lines. And I think we've done a good job of that, and we've stayed close to our partners to make sure that we have good visibility into their pipelines and their ability to support and really navigate any potential change that comes.

And what about IRA and sort of -- are you seeing any flow-through in terms of utilization trends, behavior trends in terms of Part D redesign or implications from a drug pricing perspective on an IRA? I think it's different in terms of the structure and nature of that contracting, but if you could describe that, that would be great.

Yes. And it's not -- it's really not something that we see so much directly impacting the parts of the business that we talk about frequently, like the Specialty distribution into health systems and the physician customers. Where you most likely see it directly is in the payers part of the world where they control a lot of the PBMs in the mail order pharmacy. And certainly, they've talked a lot about that. And the fact that some of the out-of-pocket [ caps ] have made people use more of those types of drugs, but it's really a Part D-type phenomenon. It's happening in parallel to HUMIRA going biosimilar. So there's not as much top line visibility into it from where we sit. But certainly, the payers would have more direct focus on that part of the business.

And so it probably is one of the several things that is impacting the utilization trends.

And somewhat selfish question here, but I do have to ask on Animal Health, if that's okay. So can you speak on recent trends across the Animal Health sector in terms of demand trends, companion animal versus livestock? Are you seeing some of the innovation that's coming through? And we've heard from a lot of the animal health companies at this conference around really stepping up from an innovation standpoint. How is that flowing through to you in terms of new opportunities in categories like dermatology, in categories that you didn't have access to before?

Yes. Thank you for asking the question, and I'll talk a little bit about our Animal Health business. It's really been performing quite well. The most recent quarter, it grew at 7% and it's kind of been averaging around a 6% growth rate. So it is definitely outperforming the distribution market and gaining market share. And one of the reasons is just like throughout Cencora, we lead with market leaders, and we have a lot of the leading animal health providers as customers. And our companion animal business is growing faster than our production animal business. Both are growing. And we -- I would say, overall, the market has been good, but it has been a little softer period of time. And I think that still has some of those challenges in both the companion animal market and the production animal market. But our performance continues to be quite good, and we are really excited by the innovation because, of course, what's really going to continue to drive that business over the long term is the human pet bond and then the really strong innovation that we see from manufacturers also.

Great. So I want to switch gears, though, to the international part of business now. Let's take a higher-level approach in terms of some of the key moving pieces because I think that's important here in terms of how we're thinking about kind of even near-term as well as longer-term dynamics there. But can you talk about what's influencing AOI growth currently across the International segment? What gets us back to that recovery in the fourth quarter?

Yes, thanks. Thank you for asking that question. And of course, at Cencora this year, we've really been outperforming in the U.S. business with -- our guidance is 20% to 21% adjusted operating income growth, but we've had an adjusted operating income decline in the International business. And it's really been driven by our Global Specialty Logistics business, which is a leader in doing logistics for clinical trials and our Global Consulting Services business. And both of them have been impacted by subdued levels of clinical trials. There are some green shoots and some data the last couple of months that perhaps that's improving from a market standpoint, I'm talking now. And so that's a business which we do expect to stabilize. And one of the reasons we expect it to stabilize is that the comps become easier for that segment now. And then also some of the signs we are perhaps starting to see in the market. And the one final thing I'll say is to put it into perspective is that at Cencora, 85% of our operating income is in the U.S. segment, 15% of our operating income is in the International segment. But of course, we are very focused on the turnaround in the International business. I will say that the distribution business, the core distribution business there is fine. And for instance, in the most recent quarter, our top line growth was 10% but we had a decline in operating income, which is, of course, driven by the manufacturer services businesses that I talked about.

Okay. Can you talk -- go into a little bit more detail on World Courier to just exactly what you're seeing? We've obviously seen some volatility across CRO clinical trial activity. What's your outlook on kind of fundamental demand trends, biotech funding environment, that kind of stuff in terms of the key drivers across the World Courier.

Yes. Thank you for asking that follow-up question, Erin. World Courier has been an excellent business for us for a decade plus, and as I said, it's a leader in doing logistics for clinical trials. It has had a weak year for the reason that we both just talked about now, but it's a business that we have a lot of confidence in for the long term and always like to have businesses that are market leaders in markets that we believe will return to good growth over the long term.

In PharmaLex, what's your current view in terms of the business and the pharma services market more broadly? What's more to do on this front? And you talked about it being, I guess, 15% of earnings for you. Like does that -- does the portion of -- is that an area that you want to build upon? And what do you think the proportion of your business is going to be international longer term?

Yes. Thanks. So our Global Consulting Services business, as I said earlier, has underperformed. And it's really kind of driven by what we've just talked about, the subdued levels of clinical trials. It's something that we're very focused on the turnaround there. But I'll also say kind of -- one thing I'd like to add is that Bob Mauch, our CEO, he's coming up on his 1-year anniversary as CEO. And of course, he was COO before being CEO, and he's run basically all the businesses at Cencora at one time or another and joined the company in 2007 when he sold his market access consulting business to Cencora. He's really established 4 strategic drivers. And 1 of the 4 strategic drivers that Bob has established is prioritizing growth-oriented investments. And I think this gets to the question that you were just asking. And so what that means is we're being very intentional as we look across our portfolio is which of our businesses have the best long-term growth potential, and that's where we're really prioritizing our investment dollars, Erin.

I think I asked the question on the last conference call because you kind of mentioned the word deemphasizing, but is there anything that -- are you taking a hard look at all different parts of your business to understand kind of what areas that may not be a part of kind of Cencora longer term?

Yes. I'll just say that we are being very intentional in looking across our portfolio and we'll be prioritizing our growth-oriented investments.

That's fair. So sort of along those lines, the kind of opposite to the capital deployment, can you talk a little bit about the priorities here, M&A environment, update on sort of what the pipeline looks like? Is there enough MSO deals to do out there or focus on deleveraging?

Yes, sure. So one of the great things about Cencora and our industry is we have strong free cash flow and so capital deployment is a very important part of our business model, and we'll continue to have a balanced capital deployment. We'll continue to invest in the business through CapEx and our CapEx has been increasing. And the reason why it's been increasing is because the volumes have been so strong in our business. We've been making investments in infrastructure because of the higher volumes that we've seen. And we're also investing in key technologies and digital transformation is one of Bob's other strategic drivers. And so we're investing in the business through CapEx. We'll continue to do strategic acquisitions. A lot of that is spoken for and that we have the put/call on the other 65% of OneOncology. And then we think our MSOs will have over time good bolt-on opportunities also. We'll continue to do opportunistic share repurchases and then we'll grow the dividend over time also. And we most recently grew the dividend at an 8% rate to make sure that it was in that 8% to 12% long-term guide that we have for EPS growth.

You mentioned investments in technology [Audio Gap].

Sure. And so as I said, digital transformation is one of kind of the 4 strategic drivers that we're focused on. And we're doing it across the business. And I'll just kind of talk about some of the things that we're doing in the finance area. Right now in finance, and I'll use general numbers here. In the FP&A area, we spend about 80% of our time generating reports and 20% of our time partnering with the business. And we really want to flip that through digital transformation. So we spend 20% of our time generating reports and 80% of the time partnering with the business to grow the business. And I'll just use one specific example in finance, an internal audit, which is an area which is, of course, data-rich, we are increasingly using AI in our internal audits. And this year, we've committed to make at least one of our internal audits done completely through AI. And of course, it will always be reviewed by the professionals and leaders in the department, but it's just one of the many examples.

That's great. That's good to hear those examples. And thank you so much for the time. I appreciate the discussion.

Thank you, Erin.

Thank you.