McKesson Corporation (MCK) Earnings Call Transcript & Summary

Good day, and welcome to the conference call. [Operator Instructions] At this time, I'd like to turn the call over to Holly Weiss. Please go ahead.

Thank you, Daffy. Good afternoon, everyone, and welcome to McKesson's investor conference call to discuss the completion of the Change Healthcare split-off. I am joined today by Britt Vitalone, our Chief Financial Officer. Britt will review the results of the exchange offer, and we will then move to a brief question-and-answer session. We plan to end the call promptly after 20 minutes at 4:50 p.m. Eastern Time. Today's discussion will include forward-looking statements such as forecast about McKesson's future results. Please refer to the cautionary statements in today's press release and to the Risk Factors section of our periodic SEC filings for additional information concerning risk factors that could cause our actual results to materially differ from those in our forward-looking statements. During this call, we will discuss non-GAAP financial measures. Information about our non-GAAP financial measures is available on the Investors section of our website. With that, let me turn it over to Britt.

Thank you, Holly, and good afternoon, everyone. Before I discuss the results of the exchange offer, please note that today's call will focus solely on the split-off of our interest in Change Healthcare and the associated financial impacts to McKesson. We'll not be speaking to other business items on today's call. We'll provide our fiscal 2021 outlook when we announce our fourth quarter and full year results in May. Let me briefly recap the major milestones that led to today's call. In June of 2016, nearly 4 years ago, we announced the creation of a new health care technology company that would combine the majority of our legacy McKesson technology solutions assets with the assets and capabilities of Change Healthcare. As a reminder, McKesson retained RelayHealth Pharmacy and Enterprise Information Solutions. When this combination was announced, we communicated several goals for the new organization, including a focus on lowering health care costs; improving patient access and outcomes; making it simpler for payers, providers and consumers to manage the transition to value-based care; and unlocking value from McKesson shareholders in a tax-efficient manner. Since then, McKesson has successfully delivered on all of our initial transaction commitments. We're pleased to have unlocked the value of our McKesson technology solutions assets in a tax-efficient transaction. As a reminder, when the Change Healthcare transaction closed in March of 2017, McKesson received approximately $1.25 billion in cash proceeds upfront to retain the majority ownership stake of the new company. Following Change Healthcare's successful IPO this past summer, we began the process of thoughtfully planning for the eventual exit of our investment in Change. The completion of the split-off last week marked the final step towards unlocking value for our shareholders in a tax-efficient manner, and we're pleased with the final results of the exchange offer. Turning now to the results of the exchange offer. As noted in our March 10 press release, the exchange offer was oversubscribed and the company accepted approximately 15.4 million McKesson shares, which had a market value of approximately $2 billion based on closing trading prices on March 9, 2020 in exchange for approximately 176 million shares of SpinCo common stock. Through a Reverse Morris Trust transaction, SpinCo was merged with and into Change Healthcare, Inc. Following the merger, SpinCo common stock was immediately converted into an equal number of shares of Change Healthcare common stock, except where cash was payable in lieu of fractional shares of Change common stock. Let me start by discussing the impacts from the completion of the exchange offer on our fiscal '20 guidance. As a result of the exchange, McKesson accepted approximately 15.4 million McKesson shares. With these 15.4 million shares no longer outstanding, we now expect diluted weighted average shares outstanding of approximately 182 million for fiscal '20. As a reminder, McKesson accounts for its share of Change Healthcare results on a 1-month lag. And thus, the completion of the split-off on March 10 will have no impact on the adjusted equity income reported in our fiscal '20 adjusted earnings. We continue to anticipate adjusted equity income from Change Healthcare to be in the range of $250 million to $270 million for fiscal '20. I'd remind you that this $250 million to $270 million of adjusted equity income is on an after-tax basis at the Change level and is subject to tax again within our McKesson consolidated financial results. In addition, the exit of our investment in Change will not materially impact our adjusted tax rate or free cash flow in fiscal '20. Taking these items into consideration, the reduction of 15.4 million shares and the reaffirming of our full year Change-adjusted equity income of $250 million to $270 million, the completion of the split-off is expected to be $0.07 accretive to our adjusted earnings per diluted share in fiscal '20. Accordingly, we're raising the full year fiscal '20 outlook by $0.07 to a new range of $14.67 to $14.80 -- $14.87 from our previous outlook of $14.60 to $14.80 per diluted share. We will provide our fiscal '21 adjusted earnings outlook and detailed assumptions when we report our fiscal '20 results in May. However, directionally, here are some of the factors to consider as it relates specifically to our exit of the Change Healthcare investment. In fiscal '21, McKesson will no longer record adjusted equity income for its interest in Change Healthcare, which have been reported within our Other segment. In addition, as previously outlined, our results will now reflect the lower weighted average shares outstanding following the completion of the exchange offer and acceptance of 15.4 million shares. Finally, the exit of the investment is not anticipated to have a material impact to McKesson's underlying adjusted tax rate in fiscal '21. In aggregate, we expect the net impact of the exit to be modestly accretive to fiscal '21. In closing, we're pleased to have completed the split-off of our investment in Change Healthcare in a tax-efficient manner, in line with our stated objectives we set out nearly 4 years ago. We're excited to move forward and execute against our strategic growth initiatives with increased focus. And we continue to believe McKesson is well positioned with a broad array of differentiated assets and capabilities. With that, we'll open up for Q&A, and we ask you to limit yourself to 1 question, with the scope of that question being the exit of our investment in Change Healthcare and the corresponding financial impacts. Thank you, and I'll turn it over to the operator.

[Operator Instructions] Our first question will come from the line of Michael Cherny with Bank of America.

So just in terms of thinking about next year and thinking about the positioning relative to the split-off of Change. This has no impact that we should expect relative to your capital deployment relative to anything else or the tax rate implications in terms of what we've already thought for next year? This is simply a catch-up timing and along those lines, is there any residual cost or anything that comes or is left with the business that we should be thinking about as we head into next year?

Yes. Thanks for the question, Michael. As you think about -- if I answer your first question, our capital deployment strategy continues, as we've talked about over the last several quarters. We are a company that generates good cash flow. And we certainly want to continue to grow the company as long as it comes off of our strategic initiatives. And so we'll continue to look for areas to grow the business. And if we can, we're going to continue to return it to our shareholders through either share repurchases or dividend. So from that perspective, our capital deployment focus and our capital allocation remains unchanged. This is a clean split-off of our investment. There are no additional costs that will be a part of this. This is just a clean split from the equity investment that we had within Change Healthcare.

And next will be Eric Percher with Nephron Research.

Quick one here, which is, are there any transition services that continue between you and Change or Change and you?

Yes. Eric, thanks for that question. That's a really good question and a follow-up to Michael's question. There are no stranded costs that remain, and there's no transition service activities that will be between McKesson and Change going forward.

And next will be Charles Rhyee with Cowen.

If I recall at the time of the deal, the transaction there, some of the pharmacy-related businesses, I think, were excluded. If I -- maybe -- correct me if I'm wrong. Can you talk about any kind of legacy businesses that now reside in other parts of McKesson? Or are we pretty much devoid out of sort of the technology business?

Yes. Thanks for that question, Charles. As I talked about in my comments, we retained RelayHealth Pharmacy, which is part of our McKesson technology businesses. And we also retained our Enterprise Information Systems business, which we turned around and sold back in 2017. So the asset that we retained and still an important part of our business is RelayHealth Pharmacy.

And next will be Glen Santangelo with Guggenheim.

I apologize, I jumped on a minute early, so I apologize if you talked about it, but is there any impact from the exchange on your cash flows? Should we think about that in any way? And did I hear you -- are you reiterating your cash flow guidance for fiscal '20 at this point?

Yes. Thanks for the question. There's no impact to cash flows as a result of this transaction, and we've not made any comments on or updates to any of the other assumptions that we had, other than the specific ones related to this transaction, as I talked about, the retirement of 15.4 million shares and the impact that, that had on our weighted average shares outstanding, updated to 182 million for the full year and the $0.07 accretion that we expect in FY '20 as a result of that.

And next will be George Hill with Deutsche Bank.

Maybe to follow-up on Charles' question. Are you guys willing to make any indication of all -- of your plans, whether or not you want to keep that pharmacy technology component or sell it? And then just a quick follow-up. It's a housekeeping question. I assume then that as we think about the end of the year share count is going to number about 152 million shares. Is that kind of the right number?

Let me answer -- thanks for the question. Let me answer your first question. As we talked about, we did retain RelayHealth Pharmacy. It's an important asset within our McKesson Technology business. We're not commenting on any other portfolio decisions today. We really risk talking about Change Healthcare. As it relates to your second question, we updated our weighted average shares outstanding for FY '20 to 182 million.

And next will be Eric Coldwell with Baird.

I appreciate the comments on no stranded costs or TSAs in fiscal '21. I'm curious if there were costs or expenses in fiscal '20 that will not repeat, therefore, creating perhaps an easier comparison to get to that modest accretion number that you highlighted on the call. We -- frankly, we were thinking it was more neutral to slightly dilutive. So I'm just curious, are there costs in fiscal '20 that were related specifically to prior TSAs or service costs that, again, don't repeat in fiscal '21?

Yes. Thanks for that question, Eric. We certainly have been working with Change to exit this transaction. There certainly were transition services that we perform. Those transition services have been winding down over the period of the 4 years, and there's nothing that is material in nature that would be stranded in FY '20 that wouldn't repeat in '21. So I would -- it's a great question, but I would just comment that it's nothing that's material in nature.

[Operator Instructions]

Well, it seems that there's no more questions in the queue, and we certainly want to be respectful of all of your time. I appreciate the questions and the time this afternoon. Our goal here was to just provide you a brief update. This is a transaction that was 4 years in the making, one that we're pleased to have completed, and we're certainly pleased to have unlocked the value for our shareholders in a tax-efficient manner. And our goal today was just to communicate with you some of the things that impacted FY '20 and give you a sense for how that might impact FY '21, specifically related to this transaction, so. Again, thank you so much for your time today. We look forward to updating you on Q4 and FY '21 in May.

Thank you for joining today's conference call. You may now disconnect, and have a great day.