McKesson Corporation (MCK) Earnings Call Transcript & Summary

Perfect. Thank you all for being here. Welcome to Day 3 of the BofA Healthcare Conference. I'm Mike Cherny, the Healthcare Tech and Distribution analyst. But much more importantly, we have the McKesson senior management team: Brian Tyler, CEO; Britt Vitalone, CFO. They have no slides, which is great because we're going to just have a nice informal chat. But I know you just reported earnings, I think, last week. I've lost track of time, also put out guidance above our consensus estimates. Maybe just a couple of highlights that you want to touch on relative to what really stood out about your forecast and outlook for '23?

Sure. We were really happy last week to have a chance to recap, but we think were some terrific results and just great performance across really the breadth of our businesses in our fiscal '22. And as we reflect on the success of that past year and the momentum in the business, we are really pleased to provide guidance that is in range with what we shared at Investor Day in terms of our expectations and represents growth really across all of our businesses when adjusting for certain COVID items, which we've attempted to go to great lengths to provide some visibility into so that you all can track our performance that we sometimes refer to as just the core.

And just dive into that, Britt, I know we talked about this on a post call, but when you look at the nitty-gritty dynamics of the bridge that you gave relative to growth, when you look -- reference been focused on 6% to 8% laid out at the Investor Day and seems like there's a potential if you hit the high end of the guidance to exceed that on a core basis this year. As you think about the moving pieces of the business, what gets you to that high end of the range and that potential excitement about hitting north of 8% potential core growth?

Yes, it's a great question. I think would -- just to add on to what Brian said, our results are just a continuation of the strong momentum that we've had in the operating businesses as well as just to focus on our strategies. And so I think the focus on our strategy is to really strengthen the core of our business, rationalize and simplify the portfolio. Those are really key opportunities for us and has allowed us to also free up capital to put into place in the better parts of the business where you have higher returns. I think we've seen a return of prescription growth. What we've seen from a transaction volume perspective is that the growth in the last 12 months really exceeded what we saw in the previous year on the other side. So we're seeing good movement of patients. We're seeing primary care visits improve. So I think there's just good momentum underlying all of our businesses. And then when you think about the investments that we've made, not only in oncology and biopharma services, but the strength that we see in Medical-Surgical, the investments we've made in lab, the investments that we've made, really, to strengthen our primary care position, I think that's what really allows us to strengthen the transaction, the addition of new products and platforms within biopharma services and oncology. Those are the types of things that continue the momentum.

I want to come back to some of those for a second, but I know one of the topics that comes up in pretty much every conversation with any company right now is the dynamics of inflation. I think we've sat on the stage before and talked about inflation, deflationary environments because that's been a focus point for the supply chain forever now, obviously, it's economy-wide. Is there anything unique about -- within your books of business on the brand and generic side that you're seeing in terms of the broader macro inflationary environments and whether it's having any changes relative to the dynamics that you're seeing from a sourcing and sell-through perspective?

Well, first, I would say, I think that the pharmaceutical and the medical supply chains, in general, have been incredibly resilient over the past couple of years and really some of them are higher-performing if you think about supply chains generally. And while inflation has, historically, long been a topic in this industry, it typically is oriented around brand price inflation. We really haven't seen inflation impacts in the market that we would consider to be material. Now obviously, we have a model, for example, in our Medical-Surgical business, where we have certain pricing flexibilities built-in. We have the ability, by nature of our customer base, to manage that in a very dynamic way. We have a sourcing model that's very flexible. We don't own manufacturing capacity facilities. So we can move our sourcing around, adapt our sourcing as we think about resilient sourcing and sustainable sourcing. And as inflationary impacts hit us, we're able to adapt to that through both our relationship with our brand suppliers, the portfolio and through our private brand portfolio. And so I think we have a lot of levers that so far have allowed us to navigate the inflationary environment.

Yes. Look, we have great scale across, not only our pharmaceutical business or generics component of that business, our medical business. And as Brian talked about, we've really been focusing on the sustainability and the responsible sourcing across that scale and that breadth. We think that we've done a really great job of managing that with all the suppliers that we have. As you come back to generics and brand, we haven't seen much change in the environment now for several years, and we don't expect that, that's going to change going forward. And I'd just remind you on it, from a branded perspective, we're not very reliant on inflation any longer. We're about -- over 95% of our compensation with branded manufacturers are not tied to inflation at all. And from a generics perspective, we still have a very scaled and solid, strong sourcing operation, ClarusONE. Very focused on that sustainability and stability of supply for our customers at low cost. We're still doing a great job of that. And we feel very well positioned to continue to do that for our customer base. I just would remind you from a generics perspective, we're not as reliant on generics as we were 5 years ago. We've continued to have breadth added to the business and that's allowed us to continue to focus, as we talked about, on balancing the portfolio, balancing the portfolio in terms of volume across products and services, also balancing the pricing, and we've done a really great job of that over the last few years and would expect that to continue. So the environment has continued to be stable, competitive but stable. And McKesson has continued to evolve its business over time so that branded and generics itself are just -- they're not as impactful as they were several years ago.

And you touched on branded and generics and thinking about specialty. You've grown your specialty business in a number of different ways, whether it's just the core distribution side, whether it's manufacturing services, the launch of Ontada, which I know is not a pure specialty business. It obviously ties to specialty. As you think about the totality of your services portfolio within specialty in particular, where are the biggest near-term pieces of variability, upside potential that you think about tied to the overall contribution of the specialty business?

Well, you're -- we do have a pretty broad set of assets in specialty. And obviously, we've got particular strength, we think, in our oncology assets and in our biopharma services offerings. And those are, as you well know, are both 2 areas of growth for us. When I think about the oncology segment -- subsegment within specialty, obviously, we've got tremendous, you call it, an ecosystem, because we see a lot of these assets as sort of self-reinforcing and it starts really with our relationship with over 1,400 providers in our U.S. oncology network and thousands of other community-based providers that we provide, purchasing services through our GPO. We have practice management solutions, technology solutions, a leading EMR. And so you take -- start with that footprint and we think that there's still opportunity to continue to grow that network. And then as we focus those tools and solutions on enabling our oncologist to provide precision-based medicine in an effort to really advance cancer outcomes for patients, we get deep insight into how these specialty products work in the practice, in the community and with real patients. And so we've been investing, over the last couple of years, in new solutions like Ontada, which leverage our research assets and really are about taking that real-world evidence and then using that information to help our specialty partners develop drugs, understand how they're used in the community setting, ensure that the right products are getting to the right patients to get better health outcomes. So Ontada itself is just a part of this big ecosystem. And we think this ecosystem all reinforces itself and positions us very strongly with a value proposition to community-based providers and then using those insights equally well positioned to work with our biopharma partners to help them get their products from the lab bench into the community.

And the other thing that I would say, as we talked about at Investor Day and subsequent to that, these are big markets. So these are really big opportunities for us where we continue to broaden our capabilities on the foot -- on the back of this leverage that we have and the scale that we have from a pharmaceutical distribution perspective. So these are really big markets that are growing much faster than other parts, and the differentiation that Brian talked about and the breadth of capabilities that we have, we're excited about being able to capture that going forward.

And in terms of capturing value, obviously, biosimilars are top of mind across the entire supply chain. The big difference between stuff that's going through the Part B versus Part D setting, can you just give us a sense whether it's baked into the '23 guidance, your long-term targets, how to think about that dynamic and how to think about the flow-through of as biosimilars come to market, especially versus the different channels they come to market in?

Yes. Okay. I'll let you touch on the guidance component of that, but just start, kind of broad brush. I mean, when we think of biosimilars, it has been supportive of some of the growth that you've seen in the business for sure. But we still think, as a segment, it's in the very early stages, right? There's only 34 biosimilars approved and only 21 of them have been launched. So to some extent, it can still be a bit event-driven. How good is the uptake on a particular molecule? How adopted is it by the physician community? How many new competitors come into the class? But it's early innings. And we think of this over the coming years as being very supportive of our growth proposition. Now the channel does matter because the services that we offer can be very different in those channels. So if you're talking about it being launched into oncology, we talked about all the services and the value proposition we have around that, and we're a terrific partner to help get adoption of those products through our channels and our influences there. The health systems and providers, we think we've got a super strong value proposition, too. We're going to now see when these drugs start going through Part B, what kinds of decisions get made by payers commercially, how they position. And so I think there's a lot of learning ahead to come in that. We probably have less -- our value proposition's probably less there, although we think the overall economics will still be compelling for us.

Yes. And look, with biosimilars, we expect that the adoption of the 21 drugs that have been already approved and are going through the channels that we serve, and we expect that, that will continue. But as Brian mentioned, we think that the opportunity is beyond FY '23, really. There's a few biosimilars that will launch this year, but it's not going to have a material impact this year. But we think that '24 and beyond, as Brian talked about, the pipeline continues to fill up. We're well-positioned. And depending on where the -- what the channel is and what services we have to support those channels, we think that it will be part of the long-term growth rate of business.

Turning to the last couple of years of COVID contributions. You've been very visible in giving us a sense on what's coming through. Obviously, a strong relationship with the CDC as the exclusive distributor. As you think about that exclusive contract winding down and what seems to be lower demand in general, how should we think about the contribution beyond that given that you may not have an exclusive relationship, but you also have the infrastructure in place to continue whatever distribution is still needed beyond, I guess, July, right?

Yes. That's right. So we have the contract with the CDC for both the distribution of the Moderna and Johnson & Johnson vaccines and supporting ancillary kitting operation for really all of the vaccines. And both of those contracts are set to expire in July, and the guidance that we provided last week was consistent with that time frame. Now as that winds down and we try to prognosticate about what the next coming 12 months might hold, our assumption is those vaccines will move back through normal commercial channels. We'll participate that as one of the nation's largest wholesalers supporting roughly 1/3 of all of the pharmaceutical distribution that happens in this country. How to forecast what that might mean is not -- you wouldn't have had a great career being a prognosticator the last 2 years, right? We've seen incredible volatility in COVID. I mean it spikes and it recesses and it spikes again and it recesses. And I think as much as all of us are ready to return to a life with no COVID, I'm not sure that will be our future. So I think the key for us is we've got both the commercial reach. We've obviously got the infrastructure that we built fit for purpose to do this operation. And so no matter how it evolves, I think we've shown over the last few years, we can evolve our business to continue to play a big role supporting the nation's recovery from this.

Turning to MedSurg. Obviously, it's been a huge beneficiary during COVID as well, but also even with some of the headwinds on elective procedures and utilization to come about. And that being said, if you look back on MedSurg prior to COVID, you were still compounding double-digit EBIT CAGR for a few years. And there's a little bit of M&A in there, but for the most part, still pretty organic. As you think about how that's factored into the guidance, long-term guidance, both this year and beyond, how do we break down the dynamics of share gains versus incremental volume pickup versus the shift of essentially the whole, "skate to where the puck is going," dynamic in terms of where you sit and where you serve the MedSurg market?

I like your phrase, skate to where the puck is coming. And so I think about our medical business and they have done -- I think we're both very pleased with the way that business has evolved over the years. 10 years ago, we were largely distributing commodity medical products to physician offices and to long-term care sites. And what this business really fundamentally is, is a community-based -- we support community-based care. And so over the years, we've evolved out of those 2 channels to say we should be in the surgery center business, because we have a great model to support that or care is shifting to urgent care clinics or to retail-based clinics. And so we sort of follow the patient. And as patient's care evolves in the community, we have evolved to new channels, new customer bases, new operations. At the same time, leveraging off the scale of those foundational markets, we've expanded our private brand offering. And then we realized as technology evolve in the lab services space, for example, and that it was more enabled in a community provider-based setting, we built a lab channel and that lab -- investment we made in that lab channel over the past years organically was really well-positioned to take advantage of a lot of the COVID activities and volumes that came. So this business has done a terrific job expanding its alternate site, more community-based care channels and expanding the products and services we provide through those channels. And I think that'll continue to be part of the growth story, follow the patient. Where is the patient getting care, and we'll be there to support that.

No. Just one thing I would add on as I was listening to Brian talk about that. I thought about -- when I started my career at McKesson, I started in the Medical Surgijcal business, this is 16 years ago. And one of the key pillars of our strategy is to simplify the portfolio. And if you go all the way back to how we started to develop a lot of the services and the breadth and reach that Brian talked about, it started with simplifying the portfolio. And that playbook worked very well for this business. And as Brian said, over time, we figured out which markets the puck was going to and we developed capabilities in those markets. We added products and services over time. We are well-positioned with lab. And that's the type of playbook that I think that we're looking at as we go forward, continue to simplify, put our assets and our capital to places where there's going to be higher growth and higher margin. And MedSurg has proved to do that over time. We think that there's still opportunity for us because the alternate site market, we believe, is going to continue to grow.

Yes. So we want to continue to grow the customer base, whether that's expansion in the channels we're in today or being ahead of emerging channels, like, potentially home or -- and then we want to get bigger share of wallet, and that's through expanding from commodity medical products to pharmaceutical products, the laboratory products and really all things that you would find or need to provide that kind of care in those community-based settings. So we think that, certainly, fiscal '23, the business should perform in line with the long-term targets that we articulated in December. And it's just really -- it's been proven to be a terrific business. It's been very adaptable to market evolutions and growth.

And just to follow up quickly. You mentioned just at the end, the home there. Your patient direct business right now is fairly small, correct?

Correct. I would -- we've been investing in it over the past couple of years. We have some assets like Simply Medical, and we support some of our customers. We're kind of the back operation through that. But we do think that care will continue, a migration toward the home and it was important for us to make investments in that infrastructure to, again, follow where the patient's going to go.

I want to touch on Pharmacy Tech Solutions just because the evolution of your IT assets as a whole and EHR long gone, now a whole suite of solutions. If you think about this set of assets, what areas of the channel do you not touch in terms of who you work with versus who you don't work with or you don't interact with, don't connect to from a data perspective?

Maybe just start with what these assets are...

There's a lot of them.

And how we acquired them. When we put this pharmaceutical technology services businesses together as a segment, we really combined RelayHealth, which is an asset that connects to 50,000-plus pharmacies. It really enables the practice of pharmacy. When you show up in a pharmacy with your script and you -- you don't literally swipe your card much anymore. But in the old days, you'd swipe your card, it's the network that pings the payer, comes back, says, yes, you're eligible for that script, here's your co-pay. And over time, we've added on a lot of kind of more value-add information for the pharmacist or a channel for manufacturers to leverage with the pharmacist. So we have the Relay at scale, 19 billion transactions a year. CoverMyMeds is a longtime partner of ours, a business we acquired 4 or 5 years ago, and really automated the prior authorization process, taking a lot of work out of, really, the workflows of providers and pharmacists and payers. And so we combine that, and then we've always had like a hub services business, I think, is the phrase you'd use now, but it was -- and all these assets together are really about access to medications for patients, affordability solutions and adherence solutions. So we want to help get patients on therapies that are right for them. We want to get them started faster. We want to stay on those therapies longer and that delivers good outcomes for both biopharma and for the patients themselves. And so we compete strongly in the affordability market and in the access market. I'd say adherence is still emerging and we're excited about the growth areas there. And then there are adjacencies even beyond that, like more clinically oriented or outcomes-based services that we think will be natural rights to play based on the foundation of our reach, 50,000 pharmacists, 750,000 providers, our technology at scale, 19 billion transactions and our deep knowledge of the clinical needs of the patients that come from the hub services.

And you talked about being tied to 50,000 pharmacies, 19 billion transactions. Obviously, that's a lot of transactions. Who else even comes remotely close? Is there -- are there any competitors that you see that have anywhere the scale close to you?

Look, we are the leader, and we are certainly the leader by scale. I mean, like all leaders, we run around paranoid, right? So we're always looking at the landscape. We're always thinking about how we enhance our solutions to stay ahead of the curve, take advantage of latest technologies. But it's really, to me, the exciting part and what's so, I don't know, compelling about this is it's the -- no one has the combination of those 3 assets, that technology underpinning network wired into 750,000 physicians and 50,000 pharmacists, the technology that CoverMyMeds brings and then the clinical knowledge that comes through the hub business at scale. So there are lots of little point-solution providers along little pieces of this, but we think holistically, through access to workflow and through the technology innovations and knowledge, we really have a differentiated set of solutions that position us quite well to experience good growth in this segment.

And one other thing I would say is we have been investing significantly in this segment. We've been developing new products organically. Obviously, we have opportunities inorganically, if it makes sense. But we will continue to invest in this segment. Obviously, it has high revenue growth rate, high margins for us. As Brian talked about, we're the leader and well-positioned across access adherence and affordability. And so we're going to continue to invest in this because the growth algorithms is so strong for us.

We started at the beginning, asking about inflation relative to your sell-through essentially. I'm curious to turn to the inflation, what you're seeing on the cost side. This is not the first time that we've seen volatility in logistics, freight shipping costs. Obviously, they've stayed elevated for an elongated period of time. Can you just remind people exactly how you work through the logistics dynamics in terms of owned versus leased and how to think through when we see macro headlines about shipping rates are up x or y, how that qualitatively impacts your business?

Yes. Look, I think we have a very diversified set of assets for transportation. And as I talked about, our diversification in terms of sourcing, we have lots of partners in lots of different countries, and that diversification has served us well. Now we're not immune to it. There is inflation, there's no question about it. But most -- for most of it, we've been able to pass on those costs. And for the ones that we haven't been able to pass on, it's been relatively immaterial and it doesn't have a very material impact on our financial statements. So we're not -- we're obviously watching that, but we don't think that, that's going to have a material impact on our financials going forward. The one area that we have called out, and we've been talking about it for a few quarters, is we have been making some investment from a labor perspective. And clearly, there's a lot of inflation in the labor market as well, and it's a tough market and challenging market. We made some retentive investments in the business in the second half of the year. We thought that those were the right things to do. We don't have any incremental built-in for FY '23 but certainly, that's an area that we are going to continue to watch. But those investments were already gone through our numbers in the second half of the year. They're baked into our guidance, and we think that they're appropriately baked into our guidance.

And so at this point in time relative to, I believe, it's $0.10 to $0.20 that you had called out of wage investments, the way to think about, at least what in terms of the guidance is and taking annualization of that new baseline, and that is what we have that you're absorbing as part of the overall guidance for the year.

Yes. There's nothing incremental to the investments that we made last year.

Okay. Turning to capital deployment. It's been, obviously, as an organization, something that McKesson has long been focused on from a balanced perspective. Right now, especially against the backdrop of the EU divestitures, it seems like you're leaning heavier on share repurchases and you have a pretty significant amount baked into your guidance. At the same time, you also, thanks to what hopefully is the complete finalization of the opioid settlement, at least have an understanding of what your responsibility will be from a cash outflow perspective. So how does all of that inform how we should think about the next 2 to 3, 5 years of whatever might be of capital deployment?

Well, I think it all starts with the strength of the operations and the operating cash flow that we've been able to deliver. And the amount of capital expenditures that we've put through our business has been relatively stable. So free cash flow has been strong historically. We expect it to continue to be strong. That's really the base to start with. We do want to grow the business. And so we're looking for ways to continue to invest back in the business and talked a little bit about RxTS. We've been doing a lot of that organically. But clearly, if we can find acquisitions that are directly on the strategies that we've been talking about today and they come with the right financial return, that's what we want to do because we want to continue to grow cash flows over the long term. We think that share repurchases and returning capital to our shareholders has been the right thing to do over the last few years. That's where we're going to continue to focus, at least over the next 12 months, as we've said in our guide. But I would point out that the strength of our free cash flow, the flexibility that we have, given the strength of our balance sheet, allows us to still have the ability to invest inorganically or organically this year at the same time that we're going to be doing the share repurchases that we put in our guide. So we have a very strong financial position and that's going to allow us to not only return capital but continue to look for those opportunities to invest in growth.

Yes. And the key for those growth, we've laid out pretty clearly, I think, what our pillars of our strategy are, strengthen the core. So anything that's kind of right down the fairway adds scale to the operation that we have, businesses that we're in, we know well, we would consider that a chance to deploy capital to strengthen the core. But we'd be most excited about the ones that are aligned with the growth pillars in oncology and in biopharma services. And so we filter these through a very stringent lens that starts with strategic fit and then has to clear our financial hurdles. And to the extent we can't do that as a first priority, then we have avenues to return to shareholders other ways.

And just from a timing perspective to make sure that we're all aligned, there's no dynamics of -- in terms of capital availability and capital usage, the timing of the closing of the EU divestitures relative to when you would deploy your focus on offset from capital, i.e., you're doing the buyback essentially ahead of time to account for the loss of EBIT, thanks to those divestitures?

Yes. Look, as I talked about at Investor Day, we'd like to be in the market on a regular and consistent basis. So cash flows will vary from quarter-to-quarter depending on working capital and so forth. That's been really a historical component of our business. But that doesn't constrain us in any particular time period during the year. We're going to continue to be very consistent in the way that we allocate our free cash flow within the business quarter-to-quarter.

Yes. I think we're running low on time, but I want to just take one step back and take a big picture question. The Investor Day felt like it was -- I'm not going to say a change in strategy, but a change in positioning in terms of how we should all be thinking about McKesson. And I used the term in the last call, diversified health care services company. As you think about investing in these growth pillars, as you think about the balance of what's been the largest long-standing core pharma distribution business versus all these other areas that grow on top of that, how do you want investors to be positioning you in terms of the way to think about the entity, the way to think about the totality of how you focus on generating total returns, total shareholder returns and where those returns come from?

I mean if you go back a few years ago when we were putting this strategy together, we realized we have tremendous strength in our core distribution platforms, pharmaceutical, medical and even Canada, which we haven't talked about here today. But as we looked across the organization, we felt that we had a really differentiated set of portfolio of assets, maybe not organized in all the right ways and maybe not prioritized internally in all the right ways. And so what we've really tried to do is create these segments and align around a growth strategy, focus our investment, whether that's capital, talent or time in pushing on these and leaning into these growth segments, because we think these are both markets that have organic double-digit growth opportunity. They are both businesses with more attractive margin profiles than the core. And so we think they're terrific areas for us to continue to invest in and really will be future growth drivers. And so it's really been an evolution. There a lot of times they were part of the business. We were just trying to highlight how we've reorganized, refocused and have brought the discipline in terms of how we deploy capital to accelerate growth in these channels.

Awesome. I see the red light, so I think we're out of time.

It goes fast, doesn't it?

Always does. Brian, Britt, Rachel and those in the audience, thank you so much for being here.

Thank you for hosting us.

Thanks.

Have a great conference.