McKesson Corporation (MCK) Earnings Call Transcript & Summary

Good morning. My name is Lisa Gill, and I'm the health care services analyst with JPMorgan. It is with great pleasure this morning that we have McKesson. Presenting from McKesson is CEO, Brian Tyler. Also with us this morning is CFO, Britt Vitalone. Brian and Britt will join me over here at the table for a Q&A post-Brian's presentation. Brian?

Thank you.

Welcome back to San Francisco.

Yes. Welcome back. Happy New Year, everybody, and condolences to any TCU fans, including Lisa. Well, good morning, everybody. It really is great to be back, be in person. And on behalf of the 40,000-ish employees of McKesson, have the chance to share a little bit of our story with you. Before I begin, just a standard reference to our disclosures and caution you that I will be making a moments that could be forward-looking, may refer to non-GAAP metrics. I encourage you all to read our statement. And if you desire more information, you can find it on mckesson.com, in the Investors section of our website. So we all know health care is a large growing dynamic market. You're going to hear throughout the conference about aging demographics and the trends that support the growth of that market. When people think about McKesson, they often first think of us for our very relevant and scaled distribution businesses in North America, our pharmaceutical distribution and our medical distribution businesses. They deserve that thought and that recognition. They are scaled enduring businesses. We deliver over 1/3 of the prescription medicines in the U.S. each year. But what really excites Team McKesson and motivates us when get up is the opportunity to innovate and to solve working with our customers and our partners across the supply chain, some of health care's biggest problems, particularly problems that relate to accessing medications or improving cancer outcomes and quality of care. We think those are really big problems that working together, McKesson has a relevant role to play and they're an important part of our growth strategy that I'm going to share with you today. About 3 years ago, we put together our corporate strategy and our company priorities. And for those of you who track McKesson, not a lot of this will be new, and we think that's actually a good thing because we've been very focused on sticking to our playbook, if you will, sticking to these company priorities. I'll go through each of them in detail, but quickly, they really start with a focus on our people and our culture. We very much have a best talent mindset and want to create an organization where we allow that talent to work at its very best level every day across the company. We've been focused on our portfolio of capabilities in 2 ways. One, the mix of those capabilities, making sure that our capital deployment is tightly aligned to where we have the best growth opportunities that's led us to do a series of things like exiting the European region. We exited a handful of other smaller businesses. We've invested in technology to modernize the business. We've been simplifying internal processes so we could go faster. And recently, we've begun to supplement some of our capabilities in our oncology ecosystem and our biopharmacy ecosystem, which we think will further support and expand and open growth markets for us. So our third key priority is to invest into and develop and win in oncology and biopharma services. We have differentiated capabilities, deep and long expertise in fast-growing markets. So we're excited by that. And this is all anchored, of course, in those distribution businesses I referenced, which have good growth among themselves and generate the free cash flow that provides a strong balance sheet and the ability to invest internally and externally in the business. So let me talk first about our first priority, our people. This is really the foundation of everything we do. It's anchored in our ICARE values, integrity, inclusion, customer-centered, accountability, respect and excellence. Those have been core parts of our culture for a very, very long time. But what really motivates team McKesson is taking all these capabilities we have and bringing them to bear and impact on real patients' lives every single day. And that is our purpose to advance health outcomes for all. We care deeply about the communities that we live and work in. We care about the world more broadly. I'm very proud of the recognition we've received for our diversity, equity and inclusion efforts that includes women, that includes disability, that includes military. We think of this quite holistically, inclusion means everyone to us. Our foundation has been very active in supporting the development of clinical professionals with a diversity lens on that. And I'm quite pleased with our efforts in sustainability. In fact, we now have officially approved SBTI targets. That target is to reduce Scope 1 and 2 emissions by 50% over a baseline year of FY '20 by our fiscal 2032. So I talked -- that's our first priority, people and talent, and I really could talk the entire time about it because I do think it's underappreciated. Our second priority, though, is to really think about the portfolio. And in many ways, this is not just capital allocation, but it's intellectual allocation, it's time allocation, it's focus on the things and the areas that we -- markets we play in and where we think we can drive superior growth. I talked about the exit of the European business. We're out of 11 of 12 of those businesses in the European region. We will exit Norway at some point in time. So we're very focused on North America. That focus in North America is now on improving efficiencies, driving efficiencies through the business, leveraging a modernized technology platform to allow us to go with speed and more quickly. And most recently, in the past several quarters, we've been able to use our balance sheet to further invest into our growth platforms Rx Saving Solutions in our biopharma services ecosystem, Genospace and a really exciting joint venture with Sarah Cannon Research Institute in the community clinical oncology space. I'll talk about each of those a little bit more. So our 2 growth platforms are oncology. We call them ecosystems because it's a collection of assets, and I'll show you that. But first and foremost, as we shared at our Investor Day, we think this is about a $55 billion market opportunity for us. A little over half of that, you'll see on the left part of this chart, which is the supply chain-related services, distribution, GPO services, where we are a clear leader in community oncology and other specialty therapies. We've been in this business a long time. We have a leading footprint of community practitioners there. And that's the real anchor that has allowed us to grow and expand our services across to the right side of this page. The first differentiated asset that we really have is the U.S. Oncology Network. This represents over 2,000 providers. And to give you a sense of the scale of that business, in this past year, we believe we've treated 15% of all new cancer presentations in the U.S. So this, to our knowledge, is the largest community practice management business focused on oncology. It gives us great deep insight into how clinical care really happens. We provide the tools that enable our clinicians to provide that world-class care in the community setting, which is the low-cost setting. Building off of that insight and that knowledge, we've built the clinical trial business that I've just talked about. Again, this is a joint venture between the U.S. Oncology Research Network that we've had for a long time and the Sarah Cannon Research Institute. The collection of these businesses together give us over 250 locations that are accruing patients into clinical trials. And this is really important because it's difficult to find patients and get them enrolled in clinical trials. And we know these settings are in the community, they're closer to patients with the data that we have flow and we think we can help accelerate that and bring even more diversity into the clinical research trial programs that are so important. And lastly, taking the data and the information and the insights that come from the distribution, come from running the largest oncology network, come from having the clinical trial business. We have developed largely internally data and insights business we call Ontada. It's anchored off our oncology-focused EMR, we call iKnowMed. And using that practice data and practice insights, we have access to over 10 million patient visits. Ontada really takes those kinds of insights, works with manufacturers to help them understand how their products can be better used in the community setting, how they can get markets, get their research -- get products out of the lab, into the community setting more quickly and then to figure out how to commercialize and accelerate the adoption and ultimately drive better cancer outcomes for patients. We've built this collection of assets over a long period of time. You can see we started in 2007. So I think the takeaway I'd like you to have here is these are businesses we have been in for a long time. We have very methodically invested and expanded our capabilities to continue to open up new adjacent growth markets and that will continue to be a key part of our strategy in our oncology ecosystem over time. We think that really supports the long-term growth targets that we've talked about for this segment. The second growth strategy I want to talk about is biopharma services. That's what we -- how we call it, and what we -- how we talk about it. This business is fundamentally about helping patients get access to medications so they can live better lives. We're targeted on 3 sub parts of this market right now, affordability, access and adherence. How do we help patients access their medications? How do we help patients afford their medication? We know there are a lot of abandoned prescriptions at the pharmacy counter because people are shocked by the co-pay. Last year, using our networks, our connectivity to workflow in pharmacy, our partnership with manufacturers, we help facilitate over $6 billion of out-of-pocket cost relief to customers at the pharmacy counter allowing them to afford their medications. This business is fundamentally a technology and a network business. We started building this business in 2006 with the acquisition of Relay Healthcare, which gave us connectivity to over 50,000 pharmacies right into the workflow so that we can message and help their workflow management, be more seamless to give the customer the experience that they need. We augmented that with CoverMyMeds a longtime partner. That brought us in network and connectivity to over 750,000 providers. RxCrossroads brought us scale into a business we had already been in around hub services and patient support programs, expanded our clinical expertise across many new therapies. In 2020, we brought these businesses together into Prescription Technology Solutions so that we can migrate from being a great set of point solutions to a more comprehensive end-to-end solution for medication, access and adherence for patients. And then most recently, we acquired Rx Savings Solutions, which is a prescription price and transparency, provides benefit insights. McKesson was actually a customer of theirs. So we have real-world experience with them. Any large employers in the room, I would encourage you to check them out. It both saves your employee population on their prescription costs and it saves the employer plan as well. So we're really excited to welcome Rx Saving Solutions to our family. So just a couple of the key common themes, I think, from our 2 growth areas that I wanted to underscore. One is we have a long track record of innovation and value creation. We have deep and lasting expertise. These are large and growing markets with unmet needs. So there's a great opportunity to innovate. We're operating platforms at scale. We transacted over 19 billion transactions last year in this business. It has broad reach and depth, 50,000 pharmacies, 750,000 providers. And fundamentally, this is a differentiated portfolio of solutions targeted at markets that we think have good growth prospects for the long term. So that's a little bit about our strategy. Talk about how we roll that into a value creation framework for our shareholders. It really starts with organic growth. We've got good organic growth opportunities across our businesses. We want all our businesses to grow at or slightly above what we would consider to be market rates. We then want to bring that operational excellence, that operating efficiency that McKesson has long been known for and real discipline around how we think about managing margins in the business. We combine that with a strong balance sheet and our ability to allocate capital. The ROIC in our business today is over 20%. So we think we've been good stewards on capital allocation. But you put that together, organic growth, operating leverage, capital allocation, we think this allows us to deliver double-digit sustainable adjusted EPS growth. I'll talk for a minute about our FY '23 adjusted EPS outlook. You can see it's $24.45 to $24.95. If you were to exclude the contributions from COVID, kitting and vaccine and you were to exclude our McKesson Ventures gains or losses, this would be FY '23 guidance that would indicate 11% to 14% adjusted EPS growth when you make those adjustments. You might recall, if you were at Investor Day with us 2 Decembers ago, we rolled out our long-term segment targets. I wanted to just revisit on this slide and put into context the fact that each of our segments this year are tracking to be on or ahead of that long-term segment guidance. Now in the case of Prescription Technology Solutions, some of the strong growth this year is probably a normalization from COVID effects that we saw last year as scripts have rebounded. So it's kind of constructive to look on the far right side and look at our FY '19 to FY '23 compound annual growth, again, looking forward to the end of FY '23. And you can see these are pretty consistent, in line, if not slightly ahead, of what we provided as long-term growth targets for these segments. So we're very proud of what the businesses are accomplishing this year. So once again, our long-term financial framework is to combine organic growth, operating discipline and leverage and capital allocation to deliver sustainable 12% to 14% baseline adjusted EPS growth. We're very excited about what we've been able to accomplish the last few years. We are committed to and very dedicated and focused on executing this strategy. I'm pleased with the way the company has executed over the last few years. We're excited about the portfolio capabilities we have, both our core distribution, but more as importantly, if not more the work we're doing at our end in Prescription Technology Solutions and our oncology ecosystem to impact patients to improve health care in this country and in Canada. We are a purpose-driven organization. We have an incredibly dedicated team that's committed to delivering on this strategy. I hope you find this to be a compelling shareholder value creation. And I hope you're excited about the growth markets that we're operating in today, and we'll continue to expand into the future. So thank you very much. We very much appreciate your interest in McKesson.

Thanks, Brian, and thanks for all the detail. As we think about McKesson and think about them over the last few years, a lot of things happened in the calendar year of 2022, right? We finally got opioid settlement behind you. We -- you sold the most of the assets in Europe, right? So kind of putting that divestiture behind you. At your Analyst Day a year ago, December and then again today, talk a lot about the opportunities in both oncology as well as pharma. As we think about the future of McKesson, and clearly, you did talk about that drug distribution is still important. As we think about the future of McKesson, do you have the assets today? Are there tuck-ins that you need to make? Is there another potential leg to the stool that you need to add as we think about the growth areas?

So it has been a crazy last year or 2 or maybe even 3, you could say. And I would say one of the reflections I had as I prepared for this was really just a great sense of accomplishment on behalf of the team. I mean, that's a lot of possible distractions, exiting Europe, resolving opioids, standing up a national response to COVID pandemic on both the medical and the pharma side, yet still executing on the strategy and the core and delivering on our commitments in the business. So I'm very proud of what the team has done. If I think about the growth strategy that we just walked through, we've got great conviction that we're in the right areas that we have the right set of assets to win today. We also believe that we can continue to build and expand, and you saw the time line of the last 15 years, how we've built out both of these platforms. We would hope to continue to expand like that in near adjacencies, but I wouldn't characterize it as we're missing a leg of the stool or I think we will continue to see us deploy capital internally and externally through M&A on things that will be very tightly aligned to the strategy that we outlined. That would, by the way, could include investments in the core. I mean, those are still very important businesses. And while we may not always see opportunities there, we have executed some in the recent past, like MSD and others that we would continue to do to support their long-term growth as well.

Britt, a question for you. When I think about the fact that we're more than halfway through, a lot more than halfway through your fiscal '23, reminder for everybody, they're at fiscal year ends March 31. And I saw that Brian talked about the core guidance of 11% to 14%, excluding COVID items and McKesson Ventures. Can you maybe just talk about kind of the upper end and lower end and some of the things to think about within that number?

Yes, sure. So as Brian mentioned, we're really excited about the execution that we've had. We manage this business for the long term, and that's why we're able to give the long-term guidance that we have, and we're executing against that. As we think about the rest of the year and as we think about early indications for next year, there are a number of things that can be drivers of this business going forward. Brian talked a lot about the momentum that we have within our core businesses. And I would point out a couple of those. Within our U.S. Pharma segment, we're still seeing very strong growth in oncology, as Brian mentioned, good momentum there. We're adding providers to the U.S. oncology network. We've continued to do that over multiple years. We think that the platform that we have is attractive to continue to add providers which reinforces other parts of the ecosystem, it reinforces our ability to use data in a very powerful way upstream and downstream. It reinforces the ability to expand our clinical trial capabilities and solutions. So we've got really good oncology momentum. And as Brian talked about, it's a very large market. So the opportunities there are great. Also within U.S. pharma, we continue to see strength within specialty provider and solutions and capabilities that we have there and the growth has been good. We expect that that's going to continue certainly through the rest of this year. So our U.S. Pharma business has really solidified, and we're seeing good growth there. In fact, last quarter, we raised our FY '23 guidance, which is reflective of that. Within our Medical business, we continue to have a very strong set of capabilities and solutions. We've talked about that, and we're well positioned, whether that be in private brand or our ability to offer pharmaceuticals in office, to physicians, the breadth of services that we have, our lab capabilities. I'd also point out within our RxTS business, Brian talked about all the opportunities that we have there. We certainly have been investing in that business on an organic basis. Over the last 3 years, on average, we have organically invested $100 million a year, very significant. And again, the opportunities are great there. We think that to continue to have sustainable growth in this segment, given the opportunities that we have and the assets that we have, we're going to continue to invest in this business. It won't be on a straight line. But we think investing in this business has driven some of the growth and the opportunity that we have, and we're going to continue to do that. And we've also done it inorganically, as Brian pointed out, with our recent acquisition. We certainly have opportunities for incremental capital deployment. We have a very strong balance sheet, good financial position. Our free cash flows continue to be quite strong. So we have opportunity for incremental capital deployment. So I think there's a number of things that just are great momentum within the business that we're just going to continue to capitalize on.

When we think about overall drug utilization, it feels based on IQVIA data that were somewhat back to normal. One, would you say that that's a fair characterization? Two, we've talked a lot about flu. If I remember historically for drug distribution, not a huge tipping point, maybe a little bit on the fringe. So can you talk about flu? And then thirdly, generally were together this week, we get pricing from the pharma manufacturers, right? And so I also know that's a much smaller component to your profit, but just curious if pricing has come in generally as you're -- what was in your expectations?

I script flu and I'll let you do pricing, and I can only juggle 2 things at once. So yes, I think we see the IQIVIA data that you do. And certainly, I'd say, taking out the volatility and the COVID prescriptions themselves, I think that prescription development has been in line with how we thought it would be when we gave our initial guidance and that is that it would recover to pre-COVID levels. So it's kind of right where we thought it would be. As it relates to the flu, you sort of led the witness to the answer. And so flu, sure it helps drive traffic in stores. It could help drive some physician visits, flu vaccine distribution in and of itself, it's probably not going to be material or a needle mover around the variations that we have. The flu season this year was earlier than it has been. But if you track this every year, you can see it always comes at a different time. It spikes at a different time and has a little bit different durations. So look, we track flu closely. We distribute it both through our medical business and through our Pharmaceutical business. We're the largest flu distributor in the U.S., we believe. So we've got all the capabilities. But yes, it's not going to materially be a swinger up or down for the company.

As it relates to pricing, the short answer is what we've seen to date. And of course, it's very early in our fourth quarter. But what we've seen to date is in line with what we have expected. I break this maybe into 2 points here. First on the branded side. As we've talked about now for many years, our reliance on pricing is lower than it's been at any point in time in the company's story. Less than 5% of the operating profits generated is a result of pricing changes. We are very focused on giving our manufacturer services, a wide variety of services, and being compensated a fair value for those services. On the generic side, what we have seen is, over time, you'll see pockets of inflation and pockets of deflation. But if you look over a long period of time, generics generally do deflate. There will be certain quarters where it will deflate more than you've seen in the prior year. We're focused on having a strong set of sourcing capabilities, which we have with our ClarusONE operation, which is scale, which is delivering a stability of supply at a low cost to our customers and then being very disciplined about how we price that on the sell side of the market, and that's delivering a spread for us. And that spread is growing. So our ability to be very focused on who we source with, how we source, the mechanism that we do that with, our partners and then being very disciplined is driving spread. And if you think about a change in generic, inflation or deflation, a 1% change doesn't drive a material impact to spread whatsoever. So we still remain just very focused on having a scaled operation, delivering stability of supply and being very disciplined in the marketplace on the sell side.

Just to that point, you said pockets of inflation and pockets of deflation One of the things that has surprised us is that everywhere else, there's inflation these days. And how is it that these manufacturers can continue to stay in business? Do you see some of the generic manufacturers potentially pulling out of the market just because from a cost perspective as we think about 2023, you look at a number of them that -- there's a number of drugs that are not making money on those?

I think if you look over a long period of time, what you see with manufacturers, they just manage their various products and product lines. There's lots of things that go into the pricing of a generic. I'm not on that side, but certainly, the number of manufacturers, where the molecule is sourced from, those are all factors that go into that. And we've seen over years that manufacturers are going to be disciplined about how they manage their own product line. So I don't see anything in today's environment that is really materially different than what we've operated in over the last decade or so. We're going to continue to see manufacturers be thoughtful about what products they want to offer and what products that they want to manufacture, our job for our customers is to go out and source with good partners and make sure that we have stability of supply, and we're delivering that low cost, and we've been able to do that.

Yes. Brian, you touched a little bit on it today. And in the past, you've talked about the oncology business, which has been such a growth driver for McKesson. Can you spend a few minutes just -- you touched on some of these new partnerships like Sarah Cannon and how Ontada kind of fits into all of this. But can you spend just a few more minutes helping people to understand kind of the long-term strategy and how these relationships work on a go-forward basis?

Yes. Well, I think this strategy starts and is anchored in our leading presence in community oncology, distribution and GPO services. That gives us access to a lot of community providers in many ways it can be our first introduction to recruit someone into our network. So you migrate from the great distribution footprint, the scale you have in GPO services and in distribution. Then I point to our network, the 2000 community oncologists that I referenced, all operating on a common IT platform called iKnowMed, which delivers us tremendous -- I'd say the goal here is 2 things. One, we want to use our technology and our insights to help our oncologists practice better medicine and drive better outcomes for the patients that walk in our doors every day. And oncology care is complicated today, right? I mean there's all -- the science is evolving so quickly that the drugs are becoming more and more targeted. There's more and more testing and ancillary things that have to go around the treatment. What we can do is sort of standardize through our clinician groups a standard review of the literature, clinical formularies and protocols and then push them through that network very quickly and get adoption and adherence to the right way to practice that medicine. That's enabled through our tools. As we do that, we get great insight into the way these novel therapies and our competing therapies get used in the real-world setting and a real community oncologist office. That insight we want to gather and take and scale and point back upstream to the innovators to help them understand how they get products out of the lab more quickly through clinical trials and other things. How they get used in the real world so they can better market and educate and communicate, and then ultimately, what kinds of outcomes do they really get. And so that -- we call it an ecosystem, and it's a weird work word. But that's why we call it that because we all see these as sort of self-reinforcing as we build more of those relationships and get more of those insights, develop partnerships like we have with Merck and Amgen and BeiGene and the MYLUNG consortium, that is ultimately then more provider and better outcomes through our provider network. So we've grown this fairly methodically over the years from distribution to GPO to the provider relationships to our own oncology research to now scaling that through this JV, which we're very excited about because we think these are geographically complementary, the services we offer are complementary and the scale we've now aggregated will be important to recruiting patients to pushing some of this work into the communities where it's needed. We all read about social determinants of health and lack of access. And so we think this is going to be a big part of addressing those issues, too. Ontada is still a growth part of the business. We've built that organically. We've been investing into that business. We will continue to invest in that business as we innovate and create new solutions. And frankly, as we go and develop, you keep getting more insight and see more opportunities to continue to expand. So that's a little bit how we think about it.