美源伯根 (ABC) 2008 Q1 法說會逐字稿

Ladies and gentleman, welcome to the AmeriSourceBergen first quarter earnings conference call.

(OPERATOR INSTRUCTIONS) I would now like to turn the conference over to our host, Mr.

Mike Kilpatric.

Please go ahead, sir.

Good morning, everybody and welcome to AmeriSourceBergen's conference call covering fiscal 2008 first quarter.

I'm Mike Kilpatric, Vice President Corporate and Investor Relations, and joining me today are David Yost, AmeriSourceBergen President and Chief Executive Officer, and Michael DiCandilo, Executive Vice President and Chief Financial Officer.

During the conference call today, we will make some forward-looking statements about our business prospects and financial expectations.

We will remind you that there are many risk factors that could cause our actual results to differ materially from our current expectations.

For a discussion of some key risk factors, we refer you to our SEC filings, including our 10-K report for fiscal 2007.

Also, AmeriSourceBergen assumes no obligation to update the matters discussed in this conference call, and this call cannot be taped without the expressed permission of the company.

As always, those connected by phone will have an opportunity to ask questions after our opening comments.

And here is Dave Yost, AmeriSourceBergen's President and CEO, to begin our remarks.

Good morning.

And thank you for joining us.

I would describe our first quarter fiscal results as steady, solid, and in line with our expectations.

With our PharMerica long-term care operation being spun tax-free to our shareholders last July and the large acquisition this quarter, our quarterly results have a lot of moving parts.

Mike will provide clarification in his remarks.

Other than discussing our planned sale of PMSI operation, I will focus exclusively on the pharmaceutical distribution which will probably represent the entirety of our operations going forward.

Today, we announced that we are pursuing the sale of our PMSI worker's compensation business which is reported separately from our pharmaceutical distribution business and our segment labeled other.

Please note that prior to July 30, this segment was labeled PharMerica and included our long-term care business.

We have stated on numerous occasions that the PMSI worker's compensation business is not core to AmeriSourceBergen.

Though PMSI has historically enjoyed relatively high gross and operating margins with exceptional return on committed capital and strong cash generation, the business has been in some regards a victim of its own success, attracting competition into its space.

After considerable analysis, we decided that PMSI's long-term potential may best be achieved with new ownership that may include a combination of similar assets and/or operating and/or management synergies and have begun a process to that end.

The sale of PMSI will allow AmeriSourceBergen's senior management to devote more time to our core business of pharmaceutical distribution and services.

Obviously, if we do not receive appropriate valuation, we will not sell the property and will execute the turn-around plan currently in place.

We would expect that PMSI sale process to be completed in several months, and will likely use the proceeds to repurchase our stock during the balance of our fiscal year.

Since it is early in the process, we do not want to opine on expectation of value in what we expect to be a robust process, given the interest from both financial and strategic buyers.

It would be inappropriate to discuss the possible sale of PMSI without commenting on the outstanding management team and the dedication of the 850-plus associates of PMSI.

This team has historically delivered fine results and in the face of increased competition and recent disappointing financial results, developed a robust turn-around plan that I am confident will be delivered whether a sale occurs or not.

Regardless of the outcome, I want to thank all of the associates of PMSI for their strong contribution over the years.

Before I drill down on the performance of our pharmaceutical distribution segment for the quarter, I would like to address a few industry issues from 50,000 feet.

First, AMP, average manufacturer price, which is shaping up to be a FY '09 event for ABC.

You will recall that AMP was due to be a metric used to set the ceiling under their Medicaid programs beginning in January of '08.

Under the program, the maximum states would be reimbursed for the ingredient portion of Medicaid prescriptions was 250% of AMP.

In addition to the ingredient cost, you will recall a pharmacy also receives a dispensing fee established by the individual state.

A controversy around AMP was that in calculating AMP for retail reimbursement, CMS intended to include prices for dispensers outside the retail class of trade, including mail order facilities that may receive pricing not generally available to the retail trade.

ABC joined others in the industry to vigorously protest CMS proposed action using our Washington lobbyists, personal lobbying, numerous letters in support of trade association, and efforts and the like.

In mid December, in response to a suit filed by NACDS and ACPA, a preliminary injunction was issued stopping the program from going into effect.

CMS has until February 17 to appeal the injunction.

In the order, the judge stressed that CMS should work with the pharmacy associations to resolve the matter.

This is very good news for retail pharmacy.

The timing and nature of any final resolution is unknown at this time.

My guess is it will be summer or later.

In the meantime, states are discussing and are increasing the dispensing fees, South Carolina being the most recent.

The office of inspector general of the Department of Health and Human Services earlier this month issued a report reinforcing the position that dispensing fees should be increased.

So there is clearly positive momentum on this topic.

Next, manufacturer pricing environment.

We are not seeing anything anywhere, including Washington, to lead us to believe that the brand manufacturer pricing will be any different this year from recent history.

We expect brand manufacturers to increase prices in the 5% range during the year.

Although there continues to be some seasonality, particularly in the March quarter, Fee-for-Service would with brand name manufacturers mitigates the price increases.

Regarding pharmaceutical market growth, our perception is that the total market growth for the quarter was a little soft by historic standards due to you a weak flu season, increased generic penetration, continued anemia headwinds, Medicare Part D impact, and lack of new blockbuster drug introductions, but that total market growth in the mid single digit range is a realistic expectation for this year.

Regarding the customer pricing environment, I would continue to describe the current environment as competitive but stable.

There are not a lot of single customer multi-billion dollar wholesale opportunities in the market which itself speaks to market stability in a total market approaching 300 billion in size.

No multi-billion dollar accounts have changed hands recently.

Individual skirmishes tend to be somewhat anecdotal, but we're not seeing any wholesale or irrational pricing in the market.

Again, the industry remains very competitive.

Now, turning to our pharmaceutical distribution business, which includes our traditional drug distribution business, our specialty pharmaceutical distribution and services business, our packaging business, and our new acquisition, Bellco Health.

As we review our performance this quarter, it is important to remember the very strong performance we delivered in our December quarter last year with operating revenues up 16% and operating earnings up 40%.

Our operating revenues in pharmaceutical distribution this December quarter were a record 16.1 billion, up 4%.

You will recall that beginning in November, with the reporting of our fiscal year-end results, we provided revenue guidance of 5 to 7% for the year, and said that the December quarter, our first fiscal quarter, would probably be below that, which is what occurred.

As we look at the balance of the year, we are raising our yearly guidance to a range of 7 to 9%.

This revision reflects the strong revenues we expect from certain existing institutional customers.

In addition, as noted previously, some of the current headwinds we are experiencing will decrease as we move through our fiscal year.

For example, last year we stopped doing business with a large account in January and began dealing with the anemia drug issues after the March 12 FDA black box warning.

Our revenues going forward include the full impact of the Bellco acquisition we made this quarter.

With over 90 days of experience, we are very pleased with Bellco, our largest acquisition to date.

Our generic penetration, our New York market, our New York metro market position, and our Bellco dialysis revenues are right where we thought they would be.

And the bell co associates are every bit as strong as we expected.

The drug company revenues continue to be at or above plan in both the U.S.

and Canada.

We don't talk a lot about Canada since it is about 2% of our overall business, but we continue to get traction in that market.

We are now operating in a consolidated facility in Montreal and are consolidating several facilities in Toronto.

In the U.S., our wide array of value-added services continues to gain traction, driving revenue growth with Good Neighbor pharmacies on track to reach the 3,000 store mark by September.

Diabetes shots at about 1,000 stores and G&P provider network at 5,000 stores and growing, giving our customers important access to third party pay programs.

Revenues were steady at AmeriSourceBergen packaging group and particularly robust at Anderson Packaging where several programs were begun and/or expanded.

During the March quarter, we plan to move into our new expansion at Anderson, which at 750,000 square feet, we think will be the largest packaging facility under one roof in the world.

A specialty group, this quarter revenues included the impact of the $800 million of OTM's annual revenue loss due to its purchase by a competitor in November and continued headwinds on anemia drugs.

We think the anemia business has essentially bottomed out, providing us with upside later in the year.

The anemia business was down 47% year-over-year in the specialty group.

For drug and specialty combined, anemia drugs were 4% of revenue in the quarter and were down 4% sequentially and 30% year-over-year.

Excluding the anemia issues, our growth continues to be robust in the rest of the specialty group.

We continue to be very excited about our specialty group and expect revenue growth in the mid teens in FY '09.

Customers within this segment, including physicians and biotech manufacturers, have a large appetite for value added services where our service offered is unequaled by any other provider.

We expect many of the new molecular entities to enter the supply channel through this segment.

Though our overall revenues continue to be moderated by generics, we continue to be very excited about our generic program due to their strong profit and working capital contribution.

Our proprietary program, PRxO Generics, continues to gain traction aided by the newly acquired Bellco telemarketing operation and various incentive programs we have implemented with our customers.

Our drug retail customer mix heavily weighted by non-warehousing regional chains and food/drug combos, as well as independents, provides us great generic opportunities.

Our operating margin of 119 basis points, a decrease of 6 basis points over last year, was primarily driven by a large manufacturer price increase that occurred in December last year but is expected in the March quarter this year.

And the dialysis business at Bellco.

Going forward, we would expect operating margin expansion in the low single digits.

As noted in our investor day, we are proceeding with a three to five-year process of implementing a new business transformation program which includes a new ERP system for the drug company in the corporate office at a cost, expense plus capitalized costs, of $150 million or so, which is included in our CapEx guidance.

We continue to be on schedule for this project and are currently evaluating the RFP's for the ERP system integration contract that we expect to award during this quarter.

This project is a good indication of the company's willingness to invest in the programs and infrastructure necessary for our future success in meeting our customer's future needs.

While we have no acquisitions included in our guidance, except Bellco, Bellco continues to be the type of acquisition that would have appeal to us.

A well-run company in the pharmaceutical distribution or related service space with a solid management team, good operating metrics, and good potential for operating and/or management synergies.

Before I turn the floor over to Mike, I want to emphasize my enthusiasm for our industry and the role that ABC plays in it.

The fundamentals of our industry continue to be very, very strong.

Our FY '08 features a streamlined organizational structure, the largest acquisition in our history, and the right segments to capitalize on generic opportunities and new specialty products entering the market.

We look forward to continuing our history of strong operational and financial performance.

Now, here is Mike to provide some added color.

Thanks, Dave.

And good morning, everyone.

I'm very pleased to present our first quarter results which were right in line with our guidance.

As our pharmaceutical distribution performance slightly exceeded our expectations and offset PMSI's disappointing results.

Our outlook remains strong and after I review the quarter, I will finish with an update on our outlook for the year.

As we indicated last quarter, and re-emphasized during our investor day in December, our comparison of consolidated results will be impacted by the inclusion of PharMerica long-term care's results in our prior year number, before the July, 2007 spin date.

I would also mention that as a result of our announcement today, that we are pursuing the sale of PMSI, our workers' compensation business.

PMSI's historical results of operations may be reclassified to discontinued operations in our next or March quarter, although PMSI's December quarter results are included in our consolidated results this quarter.

Now, moving to those consolidated results, operating revenues of $16.2 billion for the quarter were up 3.5%, driven by the 4% increase in pharmaceutical distribution revenue, with most of that increase coming from the Bellco acquisition.

Consolidated operating income declined primarily due to the long-term care spin as LTC contributed $9 million of EBIT to our prior year results as well as the $8 million reduction in PMSI operating income, both of which are reflected in our other segment.

Pharmaceutical distribution operating income declined 1% as expected due to the absence in the current quarter of a major supplier price increase that occurred in December of last year, a slow flu season, and tough generic comparisons offset in part by the acquisition of Bellco.

Included in operating income for the quarter was a $10 million gain for the drug company arising from a settlement of litigation with a competitor regarding a retail buying group.

In addition, special items in the quarter included anti-trust litigation gains of $1.6 million compared to $1.9 million last year, and facility consolidation, employee severance and other costs of $200,000 compared to $6 million of these costs last year.

Net interest expense of $16 million in the quarter was double last year's $8 million as expected due to the reductions in interest income as average cash balances were significantly less than last year at this time, mainly due to our significant share repurchase activity and acquisitions.

Our effective tax rate for the quarter was 38.2%, down from last year's 39.1%.

You may remember that the prior year rate was abnormally high due to the nondeductibility of certain PharMerica long-term care transaction costs.

We expect our effective rate to be slightly north of 38% for the year as we will have less benefit from tax-free investment income this year compared to fiscal 2007.

Our GAAP diluted EPS in the quarter was $0.66, up $0.03 or 5% compared to the prior year and included in that $0.04 benefit from the competitor litigation gain and net special items mentioned earlier.

Long-term care results contributed $0.03 to the prior year EPS, and the prior year quarter was negatively impacted by $0.02 for special items.

Net of the discussed items, EPS for both the current and prior year quarters were $0.62, with the current quarter in line with our expectations.

Average diluted shares outstanding in the quarter were 167 million, down a significant 28 million shares or 14% from last year.

This reflects our substantial fiscal '07 share repurchases, as well as our front ended repurchase activity in the current December quarter.

Outstanding shares at the end of the quarter were 162.5 million.

Now, taking a closer look at the pharmaceutical distribution segment, revenues were up over 4% in the quarter, driven by the Bellco acquisition.

The drug company grew 2.5%, offsetting the specialty group which was down 3%.

The drug company growth rate was negatively impacted by 2% in the quarter by the prior year CVS procare loss which will anniversary in the March quarter.

The 3% specialty group revenue decline, which was consistent with our guidance of flat to down 5%, was due to the anemia drug decline and OTN, as Dave discussed in some detail.

Bellco contributed 3.6% to the segment's growth rate, although at a lower-than-average operating margin due to their customer mix.

Our packaging group, while very small in relation to our overall segment results, continues to have excellent momentum led by Anderson Packaging, which is expected to open its newly-expanded production facility in the March quarter.

Gross margin was down 4 basis points in the quarter due to reduced price appreciation, a light flu season, and fewer new generic introductions.

As we noted earlier in December, we expected that a large brand name manufacturer which raised prices in December 2006 would not raise prices in the December 2007 quarter, and they did not.

We continue to expect that particular manufacturer to raise prices in the March quarter.

However, that increase has not yet happened.

Segment gross margin was favorably impacted in the quarter by the $10 million litigation settlement with a competitor.

We had a LIFO charge in the quarter of $3.1 million compared to a $7.3 million charge in the prior year, reflecting fewer brand name drug price increases and continued generic drug price deflation.

Operating expenses were up 5% compared to last year with virtually all of the increase due to acquisitions.

As a percentage of operating revenue, expenses were 180 basis points in the quarter, up 2 basis points from the previous December quarter.

Bad debt expense normalized versus our significant charge during the September quarter and was $3.3 million in the current December quarter compared to $2.4 million last year.

Operating income was down 1%, primarily reflecting the tough gross profit comparison and as a percentage of operating revenue was 119 basis points, down 6 basis points from last year.

Now, turning to our other segment, formally known as PharMerica.

Again, the current year results include only PMSI and the prior year includes both PMSI and long-term care and, as I previously mentioned, long-term care contributed $9 million of operating income to this segment's earnings in last year's first fiscal quarter.

PMSI saw its revenue decline 8% to $109 million in the quarter, due to customer losses.

Operating income fell by $8 million to $1.6 million due to the customer losses, price competition, and an increase in operating expenses to manage the IT infrastructure and customer facing initiatives that we detailed in December.

During the quarter, PMSI initiated a significant cost reduction program to right size its infrastructure and expects the benefits of the program to be realized in the second half of the fiscal year and the full positive impact of all of the IT customer facing and cost reduction initiatives to benefit fiscal '09.

Our announcement to pursue the sale of PMSI reflects our desire to focus on our core business, and if consummated, our use of proceeds will most likely be used for share repurchases, and we would expect the EPS benefit of the share repurchase to more than offset the loss of PMSI's future EBIT contribution.

Now, let's turn to our consolidated cash flows and the balance sheet.

As I mentioned in December, I expect our cash flow generation for fiscal '08 to be back ended due to favorable payable timing at the end of September '07 as well as our normal seasonal build of inventory in December.

Our use of cash from operations of $101 million during the December quarter was in line with these expectations.

We had capital expenditures of $27 million during the quarter, consistent with our annual expectations of approximately $125 million.

From a statistical standpoint, inventory days on hand during the quarter were 27 days, down one day compared to the previous December.

DSOs were down a half day to 19.2 days and DPOs were down a half day from the prior year quarter.

From a share repurchase perspective, we bought $311 million of our shares during the first quarter with our expectation for the year continuing to be in the $400 to $500 million range.

We have $386 million remaining under our current share repurchase program at the end of December.

Our gross debt to total capital ratio at the end of December was just over 30%, in line with our target range of 30 to 35%.

Now, turning to our fiscal 2008 guidance, our EPS guidance remains unchanged for the year at a range of $2.77 to $2.95 per share.

However, we have tweaked some of our assumptions as we have raised our operating revenue guidance from 5 to 7% to a range of 7 to 9%, reflecting the strong growth of certain of our large low margin institutional customers.

This change in mix also impacts our operating margin expansion expectation, which is now in the low single digit basis points range.

The net result is that we don't anticipate any change in the EBIT contribution to our EPS growth range, just relative contributions of revenue and margin.

Also, with our front ended share repurchases in fiscal 2008, average shares outstanding for the year should decline more than the 10% reduction we had expected.

The offset to the reduced share count is net interest expense, which is now expected to be more than double last year's $32 million.

So to summarize, a quarter very much in line with expectations.

Looking forward, the combination of increasing sales growth, easier comparisons, and the continued benefit from our reduced shares, should drive strong EPS growth over the remainder of the fiscal year.

And now, I will turn it back to Michael Kilpatric.

Thank you, Mike.

We will now open the call to questions.

I would ask you to limit yourself until all have had an opportunity, and then if there is time you can ask additional questions.

Go ahead, Alex.

Thank you.

(OPERATOR INSTRUCTIONS) And the first question comes from the line of Eric Coldwell with Baird.

Please go ahead.

Thanks.

And good morning.

The question that is primarily related to generics outlook for the fiscal year and maybe the calendar year, can you help us understand, based on your mix and your timing, when you think the comparisons start to improve or normalize on the recent dearth of new generic introductions?

And then as an adjunct to that, could you talk to us about your outlook for new generics this year, in terms of timing and opportunities on sourcing and the integration of the Bellco generics business?

Thanks.

The first -- the December quarter of last year was a particularly strong quarter.

You had three big products last December and you had one big one, went from generic to brand, so that last December was very, very tough comparison.

The comparisons get easier starting with this quarter going forward.

It is hard to exactly predict these things, Eric.

We are looking at the balance of the year, we're looking at obviously Protonix and we don't know how that is is all going to end at this point, but some initial sales there for sure.

Fosamax, which is a big one coming off, Risperdal which we expect, Fosamax this quarter and we expect Risperdal at the end of the June quarter, so it is really a fourth quarter event for us, so there is some -- there is clearly some good news in the pipeline.

The other thing you don't know is what is going to happen with people going at risk introductions, which is impossible to predict, but I think I would not be surprised to see that happen.

Next question comes from the line of Robert Willoughby with Banc of America Securities.

Please go ahead.

Thanks, Dave or Mike, I guess we've never seen the PMSI business on a stand-alone basis performing up to its standards so can you give us some sense in terms of how you're seeking to value this thing?

Are we taking this as a multiple of revenues or what are hopefully the EBITDA margins we would hope to see from this?

Yes, Bob, this is Mike.

I think when we look at our PMSI business, I think the guidance that we gave people is we expect that business to return to long-term operating margin run rate of 7 to 9%.

Really starting in fiscal '09, as we get through our turn-around efforts, and we would expect that any expression of value which we're not going to get into in detail, but we would expect that any offers would reflect what we expect that normalized run rate to be once we get through with the turn-around.

Okay.

No ranges you care to propose out there, broad ranges?

No, I think our guidance overall is again, we expect this to be somewhat accretive.

We expect that the benefit from the proceeds reinvested will more than outweigh the loss of the future EBIT contributions.

We expect a pretty robust process, Bob, so we want to be careful we're not showing our hand here.

Got you.

Thank you.

You bet.

The next question comes from the line of Charles Boorady with Citigroup.

Please go ahead.

Thanks, good morning.

In terms of the higher revenue growth expectations, you can give us, at least broadly speaking, components of that in terms of the percent growth trends in volume versus pricing for brand and generic?

Well, as we look out, we think the brand name manufacturer price increases will be in the neighborhood of 5%, and we are not really seeing anything, anywhere, to lead us to believe that that will be any different.

The increase in our guidance is really a function of individual customers who we think have better insight to than we did when we made our original forecast and relative trends on what they're seeing in their business.

We watch our revenues, very, very closely, and we literally -- I literally monitor them every day, as does Mike, and we do a lot of forecast can customer by customer, and our new guidance reflects the best insight we have to our current customer mix looking out over the balance of our fiscal year.

The pricing on generics in general, volume growth, trends in generics?

Well, the volume trends slowed a bit versus historical in the quarter.

We continue to think that is a short-term blip and will be picked up as there are some more new brand to generic conversions as we go throughout the year.

But we've clearly take than into our guidance.

And again, generic continue to be very, very important for us.

We provide value-added service both down the channel and up the channel and because of that, it gives us a better pricing opportunity.

So we've take than into account as we've calculated out our guidance.

And just finally, when you take in combination the higher revenue expectation with the lower margin expectation, is the impact of these large institutional clients neutral then to the bottom line, up slightly down slightly?

Well, it certainly helps us slightly but certainly not enough to adjust our guidance.

It is well within the range.

Again, I think the way to look at it is that our EBIT contribution to EPS is roughly going to be the same as it was before, just the pieces changing a little bit with revenue growth being a little bit higher and margin expansion being a little bit lower.

And that clearly is just a function of our customer mix.

Terrific.

Thanks.

Next question comes from the line of Lisa Gill with J.P.

Morgan.

Good morning.

As it pertains on the revenue growth side, is this more of ABC picking up some additional business?

Or is this looking at your individual customers and their growth projections are better than expected?

And then secondly, Mike, when you talked about the margins on drug distribution, are you talking about perhaps some of the renewals that had to happen?

Or, again, is it just your larger customers are the ones that are spurring their business is faster and the margins are lower on those customers.

And the last follow-up, is the guidance range that you gave, can you just remind us again if that is on GAAP or continuing operations, so when we look at this quarter should we be looking at it at $0.62 or $0.66?

Lisa, I'll start out with some revenue guidance.

Our revenue guidance reflects both.

It reflects both the fact that we've got individual customers who are growing faster than the market and getting traction, which is always a very, very attractive for a wholesaler, and we continue to do very well in competing with our peers in capturing new business.

So it is is really coming from both things, and we've got some good sales momentum with our sales team right now and in all of our segments.

We've talked a lot about the anemia business and how much headwind that provided for the specialty business, but if you take that out of the specialty business, the specialty business is growing very well.

The programs that we've got for our independent and regional chains and food/drug combos is getting some traction, which includes our generic program, and we've done some very creative things in our institutional business, which includes some consultation services and helping them run their business better.

So I will tell you, we've got good momentum right now, Lisa, and we're just feeling good about our place in the market.

Yes.

Lisa, this is Mike.

Our guidance is GAAP guidance, as usual, in the 2.77 to 2.95 range.

It includes the $0.66 in the quarter.

Obviously, we are pretty early in the year, and the $0.04 upside is pretty small to the overall range of $0.18 that we have and, if anything, should give people confidence of where they stand within that range.

But certainly too early in the year to make a change.

And you can just comment, Mike, at all around the margins, I mean is is this just it is bigger customers that are growing faster that helps lower margins?

It is a mix, Lisa.

Sorry.

It is a truly mix issue.

Our biggest customers are driving the majority of the increase and they have the best pricing.

That's been around for almost as long as I have been.

I appreciate the comments.

Thank you.

Next question, alex?

Next question comes from the line of Larry [Marsh] with Lehman Brothers.

Please go ahead.

Dave, you've been around a long time.

So that is a good thing.

You're reminding me.

I'm right with you.

Really just wanted to -- if I had one thing to sort of highlight, Dave, it is just kind of your view of the environment this year.

Historically, as we get closer to a presidential election, you get more volatility of activity by some of your suppliers.

I guess you're saying you feel pretty comfortable about the pricing environment, if you will, from your suppliers this year, and yet Glaxo, as I see it, didn't raise price in January, I would have thought it would have been in January.

You're saying you're comfortable by March, so I wonder if already we're getting some variability of results.

I guess my question is what gives you kind of that sense of confidence, I know you don't guide to quarters so maybe it is just sort of a year to year thing?

And remind us how much impact do you have on variation in timing given the number of Fee-for-Service agreements you have these days with some notable exceptions.

Well, the first point, Larry, is a good one that you made.

The Fee-for-Service clearly mitigates a lot of the impact on price increases, though there is still some variability from quarter to quarter.

I will tell you, Larry, we're just not hearing or seeing anything from any of the brand name manufacturers to lead us to believe that they are going to change their pricing strategy, and we do not think as we get closer to the election, which is our fourth fiscal quarter, the September quarter, that it's going to have the impact that it has had if you go back to the '04-'06 range in part because of Fee-for-Service.

I will tell you we monitor very closely what some of our brand name CEO's say, and they are also publicly making comments to the effect that they do not see the pricing change.

And so that's giving us some confidence.

The January quarter is about where we expect it as we look out over the landscape.

So we're really finding it, seeing it, and sensing it is kind of as business as usual, Larry, and I spend a lot of time in Washington, I will be down there again next week and, again, we're not hearing or seeing anything from there that is giving us pause for this fiscal year.

To that point, Dave, is there anything from Washington that are you concerned about, excluding the AMP which you already talked about?

No, the AMP was the big overhang and the question is is that going to be resolved legislatively or judiciously?

I don't know the answer to that but I think it will clearly be resolved, Larry.

I think if it does not get resolved by the courts this summer or later, and this thing could drag out to this time next year, I think there is a very good change that the whole AMP issue will be resolved legislatively.

So I think that has been the biggest overhang on the industry in Washington, and I think that one has clearly been mitigated and probably moved out well into the next several quarters.

Yes.

Thanks.

Next question comes from the line of Thomas Gallucci with Merrill Lynch.

Good morning, everybody.

Just maybe a follow-up to Larry's and one other question.

In terms of price increases, I understand Fee-for-Service is sort of flattened out the variability in terms of the impact on the results.

How significant or doesn't it matter at all the timing of an increase during a quarter?

So if you got it on January 1 versus sometime in March, does that create a shift, or do you more recognize it at the time of the increase?

The other question I would have is just on the specialty business, the anemia drugs.

I think you mentioned you thought that business had sort of bottomed out at this point.

So do you have any view on -- are private payers beginning to adopt the Medicare policy?

Or is it mostly Medicare sort of took its steps and now we're seeing the impact of that, but the rest of the market has stayed fairly steady?

Tom, this is Mike.

I'll start.

As far as recognition of income, when a price increase occurs, with our existing inventory, we recognize the price increase when we sell through the inventory.

So the timing, whether it is in the beginning or the end of the month, does make a difference to us, as we have to sell through the inventory to recognize the benefit.

So if you got -- just to be amplified a little bit, if you got a price increase the last day of March, it wouldn't do you much good for the March quarter.

Sure.

Understood.

On the specialty business, we are not seeing the private payers following in this regard, so I would say it is one of the reasons why we think it is really bottomed out, and I can tell you the whole issue of anemia, and CMS's policy on this is very controversial with the doctors, the individual physicians who think that the government is getting way too involved in the way they practice medicine, and they may be motivated by financial interests, so it continues to be a pretty hot topic, but we're hoping that the worst is behind us at this point.

Thank you very much.

Next question comes from the line of Ricky Goldwasser with UBS.

Please go ahead.

Good morning.

I have a few follow-up questions.

First of all, on guidance, when you think about your initial guidance and the revision you made to the top line, if you think that -- in prior guidance, and the Protonix benefit in the March quarter, and then the fact that Medco, which is one of your clients, gained a big contract, so there is is a contribution from that contract that is probably benefiting EPS, you still decided to keep EPS at the same levels as before, so if you can just kind of walk us through what is offsetting that.

Are there any other moving parts that are coming in below your expectations?

And then one follow-up on the whole pricing conversation.

Just want to clarify the 25% off your operating earnings is still coming from price increases.

And then from what we're seeing, it doesn't seem -- it seems that four other pretty large manufacturers still haven't raised prices January to date, while they did last year, and the question is, is your source of confidence based on the fact that you have relationships with these manufacturers and you know that the increases are going to come by March, or is it again just the kind of your overall thought process that the year is going to be the same and if it's not going to be March, it is going to be in June?

Wow, Rickey, that is a lot.

Let me make sure I can remember all of those things.

I will start from the back and we will kind of move back and work up.

I certainly don't have any unique insight, Rickey, or any information regarding the pricing increases that are proprietary or any of the like.

It is my sense of what I feel about the market with what I -- the people that I talk to and the like.

It is is a sense of market.

And some of that comes with experience and just being out and about.

Mike, you want to talk a little bit about the guidance?

Again, I think the guidance reflects our best estimate of what is occurring right now, and though we do see some upside from the revenue lift, it certainly is well within the range.

We gave a pretty robust range of $0.18 during the year, and while we do think we get some benefit, it will be within that range.

I mean I don't think we have seen any deterioration of expectations in any other part of our business.

Obviously, we were somewhat short in PMSI this quarter, which is factored into that as well.

But there is nothing that has taken a wrong turn for us.

We're pretty optimistic.

Certainly the Protonix introduction, and -- into the -- is something that we always like and we're glad it is going to be here and benefit us in the March quarter, but there is always the expectation that there is going to be a couple of those items during the year, timing not always known, but certainly it is not unusual for that to happen.

Right.

We've got a big base here, Ricky, and there are a lot of moving parts in it, particularly, we're early in the year here, and so we take that all into account, and are uncomfortable talking about individual customers, individual products, and that's one of the things that makes our business very, very attractive, is it is not dependent on individual products.

You've got a wide range of products and a lot of stuff coming and going, and that's why we have a range on the guidance, and that's why one of the reasons why we're uncomfortable with quarterly guidance as we go forward.

Thank you very much.

Next question, please?

Next question comes from the line of Glen Santangelo with Credit Suisse.

Please go ahead.

Dave, I just had a quick follow-up question on, related to PMSI.

It kind of sounds like you're pushing for a sale here in the next few months and that is obviously going to bring in some proceeds and Mike sort of suggested that the reinvestment of those proceeds would more than offset the dilution from the loss of the earnings of PMSI.

Can you, Mike or David, either one, can you maybe give us a sense for what you expect in terms of the reinvestment of those proceeds?

Is it a better use of your cash to be buying back stock here at $46 or kind of given the declining interest rate environment, does it make sense to be paying down debt here?

Because you kept your share repurchase guidance the same at 400 to 500 million, and you've already bought back 311 million in the first quarter.

So should I read into that that you're more likely to pay down debt with the cash versus buy back stock?

No, Glenn, I think in my comments I said we will most likely use the proceeds to repurchase our stock.

Our debt I think is in a pretty good place.

Very happy with where our debt to capital ratio is today.

It's in that 30% range.

So very much in line where we expect our capital structure to be long-term.

So we see this as incremental proceeds that we would use again to use to buy back stock.

And by doing that, we think that will provide us, as you mentioned, an EPS benefit that will exceed the EBIT contribution of PMSI.

Now on an annualized basis, obviously there could be a little gap in timing there because we do have to discontinue PMSI, or reflect them as a discontinued operation in the March quarter, and if the sale takes into the June quarter, then there is a little timing issue.

But, again, we don't think it is that big, when you're talking about a division that is expected to contribute about $0.08 to our total year.

That timing dislocation is well within our guidance range as well.

So, thanks, Mike.

Just to follow-up, is it fair to say that the 4 to 500 million, if the deal does not happen, but if you sell PMSI, that would be kind of additional proceeds on top of the 4 to 500 million?

That's fair.

Exactly right.

Okay.

Thanks a lot, guys.

Next question comes from the line of John Ransom with Raymond James and Associates.

Please go ahead.

Good morning.

Glad I snuck in before my deadline.

I know Dave runs with military type punctuality.

So I would have been out in the cold.

You guys have been obviously in a cycle of selling off businesses.

You're generating a lot of cash, and other than share repos, what types of businesses remain out there that you would be interested in buying?

Well, we closed on one this quarter, John, and it was probably a good indication of that, which is a regional wholesaler, very well positioned in its market.

Bellco had a couple of other things that were very, very attractive to us, not the least of which was an attractive dialysis business which is a business we understand well and telemarketing issues.

So there continue -- there continue to be some regional wholesalers out there that they would continue to have interest to us, John.

There are tuck-in acquisitions.

As far as the specialty business can go, we continue to look to expand our service, you know, offering there.

We got, by far, the widest offering of services for the biotech manufacturers and the physicians that dispense the specialty drugs, so we look there.

I mean it is not that we're opposed to making acquisitions.

We spent well north of a billion dollars in the last six years, but we are very disciplined in the price we will pay for them and want to make sure they really fit in with us and have a good operating and/or management synergies.

So we continue to be open to buy businesses, but just have not found a lot recently that meet our high standards.

Was the expansion with bridge sour you on IT type acquisitions?

It really has not, John.

I think that issues that the bridge was a good idea, probably poorly executed.

In looking back.

But we would not want to go into tech, in a really wide -- in a really big way, but if we found a tech acquisition that would enhance our offering any one of our segments, hospitals, retail business, and the specialty business, we would clearly take a look at it.

I mean we're open to buy.

And I will tell you, we look at literally dozens of acquisitions every quarter.

So we don't want to close the door on anything at this point.

Okay.

Thank you.

You bet.

Next question comes from the line of Charles Rhyee with Oppenheimer & Company.

Thanks for taking my question.

I just want to drop back to some comments you guys made around your anemia franchise and you talked about how the share dropped down to about 4% of revenues, but you also noted that it was down 47% year-over-year.

Looking at sort of where the script volumes have been, the whole class of EPO-type drugs looks like they're only down 30% and Arinesp maybe trailing down only 36.

Can you help me understand for you guys what sort of the script data looks like?

Let me clarify, that Charles.

What we said is the anemia drugs represented 4% of our combined drug and specialty revenue in the quarter.

They were down 4% sequentially and 30% overall.

So very much in line with where the market was.

The 47% that you referred to was specialty, by itself was down 47.

And remember that specialty is heavily weighted to the oncology uses of anemia drugs which were down obviously much more significantly than the uses for dialysis which pretty much reside in the drug company for us.

So I think that's -- overall, we are down 30% with the market.

Okay.

So just to be clear, when you categorize your anemia drugs, if it is used for dialysis, it sits in the regular drug distribution business, where as if it's for anemia of cancer then it is sitting in your specialty business.

Well, yes, let me -- the specialty business is typically with the physicians, and typically the physicians are using it for oncology.

The drug company could be both oncologic uses and dialysis uses, because we do sell to hospitals and other alternate site providers within the drug company.

So they have both dialysis and cancer and the specialty group is primarily cancer.

We focus on whether or not it's physician -- we manage our business based upon who is getting the product and how it is dispensed.

So that is -- it gets a little confusing and that's one of the reasons we try to break out both the specialty business, primarily oncology, versus the total business.

Thanks.

Alex, we have time for one more question, please.

Thank you, sir.

And the last question comes from the line of Barbara Ryan with Deutsche Bank.

Please go ahead.

Thanks for taking my question.

It was Glenn's question.

So it's already answered.

Thank you very much.

Barbara, always great to hear from you.

Thank you.

Well, thank you all for joining us on the call today.

And I would like to now turn it over to Dave who would like to make some final comments.

I just add that we continue to be very excited about our industry and the role we play in it, the fundamentals continue to be very, very strong.

As we're now proceeding through this fiscal year, we've got a very streamlined organizational structure, which has given us added focus on our core business.

We've increased our revenue guidance going forward, reflecting the good momentum we have.

We're in the right segments to capitalize on generic opportunities, especially drug opportunities.

We're very, very excited about our future.

And again, thank you very much for joining us.

Thank you, alex.

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