美源伯根 (ABC) 2011 Q2 法說會逐字稿

Welcome, and thank you for standing by.

All participants are in a listen-only mode until the question-and-answer session of today's conference.

(Operator Instructions).

Today's conference is being recorded.

If you do have any objections, you may disconnect at this time.

Now I would like to turn the call over to your host for today, Ms.

Barbara Brungess.

Ma'am, you may begin.

Thank you, Amy, and good morning, everyone, and welcome to AmerisourceBergen's earnings conference call covering our second quarter of fiscal 2011.

I am Barbara Brungess, Vice President of Corporate and Investor Relations, and joining me today are Dave Yost, AmerisourceBergen's Chief Executive Officer; Steve Collis, President and Chief Operating Officer, and Mike 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 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 2010.

Also, AmerisourceBergen assumes no obligation to update the matters discussed in this conference call, and this call cannot be rebroadcast without the express permission of the Company.

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

Now, here is Dave Yost to begin our comments.

Good morning, and thank you for joining us.

As you know from our press release this morning, ABC had another strong quarter in a series of strong quarters, with revenues of $19.8 billion, up $416 million and over 2% from last year, with both gross margin and operating margin continuing to expand year-over-year.

GAAP EPS of $0.77 was up 22% over last year, a particularly noteworthy performance, when you recall that our last March EPS was up 34% over the previous year, which was up 17% the year before that.

Strong performance on top of strong performance.

This is our sixth consecutive year we expect to increase our operating margin, and this quarter is the 14th consecutive quarter we have increased our operating margin on a year-over-year basis, and we are increasing our operating margin at the same time we invest in our future through the implementation through a new ERP system in the drug company.

Our asset management remains strong, and we finished the quarter with a robust $1.9 billion in cash, helped in part by some favorable timing.

So lots to like about the quarter, with ABC continuing to demonstrate it is a good Company in a good industry.

I would describe things at ABC as steady as she goes, with all business units performing according to plan, with the exception of stronger-than-anticipated results in our specialty group, most notably from generics, particularly, though not totally, Oxaliplatin.

Though we are usually uncomfortable talking about a single product, Oxaliplatin is an exception, since it accounted for a large part of our extraordinary performance this quarter, and of course, totally winds down during our June quarter.

Our EPS guidance for the year has been increased to reflect this better than expected performance in specialty, and Mike will provide details.

Our focus continues to be on specialty distribution and generics, and this quarter, as last year, both were strong.

And again this quarter, our two growth drivers overlapped as we had strong generic contribution in specialty.

The industry continues to be vibrant and resilient, with new generic introductions providing incremental opportunities to the solid fundamentals of organic growth and cost leverage.

I want to reiterate my Investor Day message, that this is a good time to be invested in wholesale drug space, particularly ABC.

We have just increased our fiscal year 2011 guidance to double-digit EPS growth on top of the 31% increase in EPS that we delivered in fiscal year 2010.

Again, lots to like about ABC.

In our fiscal year 2012, we expect to experience the benefits of the largest retail branded generic product conversion in history, starting in our first fiscal quarter, which follows the strong generic introductions in specialty in fiscal year 2010 and fiscal year 2011.

In fiscal year 2013, we expect to experience the benefits of our new ERP system, and the elimination of running dual IT platforms, as well as carryover benefit from generic introductions late in fiscal year 2012.

Fiscal year 2014 should benefit from the 32 million or so uninsured patients entering the healthcare system with pent-up demand for pharmaceutical products.

And our fiscal year 2014 and 2015 should be good years for generic introductions, including bio-similars.

As you all know, on March 14 I announced that I would retire as CEO, effective July 1, on my 64 birthday, and that 17-year ABC veteran Steve Collis, currently Chief Operating Officer, will succeed me.

As noted at the time of the announcement, this change has been in process for some time, and the transition continues in a very orderly manner.

You will recall that Steve has served as President of our drug company, founded and was President of our specialty group that at the time included our consulting business, that is now a separate operating unit.

Steve is eminently qualified to lead ABC.

He participated in every major decision that was made at ABC since the merger of 2001, and I've talked to him almost every business day since then.

I am very confident about ABC's future under Steve's leadership.

With Steve moving to CEO, we have expanded Dave Neu's responsibility to be President of the drug company.

Dave is a 29-year company veteran, and most recently was in charge of all operations for the drug company.

Before that, Dave headed up all retail sales for the drug company.

Dave joins the senior leadership team with over a century of industry experience, and is as strong an executive team as you will find in any high-performance company.

That ABC circle of life just keeps getting better.

Here is Steve Collis, the soon-to-be CEO of ABC.

Thank you, Dave, and good morning, everyone.

Before I begin my comments on our results, I want to congratulate Dave again for his many years of distinguished service to AmerisourceBergen, and thank him for the personal support he has given me during this period of transition.

I am both honored and humbled by the opportunity to lead this Company, and I am incredibly excited about the future for AmerisourceBergen.

We operate in a vibrant and growing industry that is competitive but stable.

Our diverse customer base, with only one customer representing over 10% of our revenues, and our comprehensive portfolio of products helps us continue to drive consistent performance.

Introductions of new generic pharmaceuticals will continue to provide additional incremental growth opportunities beyond the solid industry fundamentals of organic growth and cost leverage.

At ABC, our focus continues to be on specialty distribution and generics, both of which made important contributions to the current quarter, and will continue to be important contributors in the quarters and years ahead.

Importantly, industry pricing remains stable, with few $1 billion accounts changing hands over the last several years, and none moving recently.

Furthermore, we always stay active in Washington, and our recent visits to the Hill do not cause any concern to our current outlook.

As Dave mentioned, the first 6 months of our fiscal year 2011 are off to a strong start, with the incremental benefits of specialty generics pushing us above expectations.

Mike will detail our financial results, but I would personally like to highlight a few things.

Our revenues were up a solid 2.4% in the quarter, in line with expectations, and we continue to expect to hit our targets for the year.

Our contract with Longs CVS will come to an end this summer, and we will no longer serve any portion of Longs CVS after September 2011, but we have partially offset that impact, buying some new business, including a contract with large Medicare Part D provider, which we signed during the quarter.

We had very strong gross profit growth of over 12% in the quarter, driven by contributions from specialty generics.

It is important to note that much of the out-performance we've experienced over the last several of quarters in terms of both gross margin and earnings have been driven by very significant contributions from Oxaliplatin.

While we have a few weeks remaining of Oxaliplatin inventory, the benefit we receive in the second half will be significantly less than the benefit we received in the first half of 2011.

As we look ahead to next year, we see an unprecedented year for oral solid generics, particularly in our retail channel.

While the conversion of large brands to generics will moderate our historic top line growth expectations, we expect a banner year in gross profit for our drug company.

ABC is well-positioned to take advantage of this unprecedented industry event, with our market-based generic strategies, including our proprietary pro-generic solutions program, Good Neighbor Pharmacy, long-term care programs, and strong presence with regional chains.

We also continue to experience growth in our sales of oral solid generics to the hospital segment.

Our operating expenses were higher in the March quarter of our fiscal 2011, as expected.

However, we continue to expect expenses for the full fiscal year will be flat, except for the duplicate IT spend we have previously discussed.

Mike will detail the particulars in the quarter, but I want to assure you that we at ABC will continue to observe our CE2 philosophy, paying strict attention to cost efficiency and cost effectiveness.

Our operating margin in the quarter was up a significant 24 basis points, on top of a very strong performance last year, driven in large part by contribution from specialty generics.

Strong operating earnings performance, combined with a lower share count, drove earnings per share up 22%, on top of the 34% increase we experienced last March.

On the strength of their performance, we are increasing our earnings per share guidance for the full fiscal year 2011 to a range of $2.41 to $2.49.

Given the strength of our cash flow, and our cash balance at the end of the March quarter, I want to affirm our often-stated position on acquisitions.

Our criteria for acquisitions are as follows.

They should increase our value offering to existing customers, both up and down the channel.

They should be within our established core competency.

They should increase shareholder value.

While we have not contemplated any contribution from acquisitions in our guidance, we are receptive to acquisitions, and have spent over $1 billion in the last 8 years on acquisitions.

We continue to be interested in opportunities in pharmaceutical and specialty distribution and services, as well as consulting and packaging services, and while we would be very comfortable in the $200 million to $300 million dollar range we would really consider something larger if it made good strategic sense and would deliver value to our Company and our shareholders.

We remain in excellent position for acquisitions, both financially and organizationally.

As we have said before, in the event that we do not find acquisitions that increase shareholder value, we will consider returning monies to shareholders, either through increased share repurchases, or dividends, and as Mike will detail, we have increased our share repurchase expectations for the current year.

As I turn now to the performance of the individual business units, I want to once again highlight the areas I've been focusing on as Chief Operating Officer and during the transition period.

As I mentioned at our Investor Day back in December, I focused on 4 key areas to drive shareholder value.

Firstly, collaborating to drive innovation for providers and manufacturers.

Secondly, increasing customer and supply value.

Thirdly, expanding our business in targeted markets.

And, fourth, maximizing operating efficiency through cross-Company collaboration.

I believe that focusing on these key areas will enable us to continue to deliver value to our shareholders, and will position us well to take full advantage of the opportunities that lie ahead.

The large Part D provider customer contract signing that I mentioned earlier is a very good example of how cross-Company collaboration is leading to innovation -- innovative solutions for our customers.

Beginning in May, we will provide that customer with brand, generic and specialty pharmaceuticals, primarily for the mail order business.

Specialty products are becoming increasingly more important for all of our customers, and we believe the strength of our specialty value-added services and the expertise we can provide to both manufacturers and healthcare provides, give us a unique opportunity to provide tremendous value across the channel.

Almost every discussion we have with a drug company customer or potential customer, has a component of a specialty discussion to it, and we believe our expertise and leadership in the speciality area is translating into an advantage on the core drug wholesale business.

AmerisourceBergen Drug Corporation delivered a strong quarter, including double-digit growth in our proprietary generics program, pro generic solutions.

As Dave mentioned, during the quarter we named Dave Neu President of ABDC.

Dave Neu has been instrumental in leading several key projects in the drug company, has had a key role in our business transformation project, and is currently working on projects that will improve operational and sales force productivity in an ERP-enabled environment, and will help ensure we capture the full value of the generic and other opportunities that lie ahead for our customers and for the drug company.

I believe his commitment to customers, suppliers and associates, and his experience leading both sales and operational efforts will enable to him to continue to drive value for all our stakeholders in 2011, 2012 and beyond.

We continue to be on track with the implementation of our business transformation project in the drug company.

And we are preparing to convert our first distribution center to SAP this summer.

Once the first conversion is complete, we will begin to convert the other distribution centers one at a time, and we expect to complete the whole process by the end of calendar 2012.

Moving on to our specialty group, our ability to capture value from large generics and oncology supply business continued in the quarter.

While inventory of Oxaliplatin are winding down, and we will miss the outsize contributions it has made since its launch in August of 2009, we will continue to see contributions from Gemcitabine, which launched in mid-November and Docetaxel which launched in mid-March, through the remainder of the year.

Oxaliplatin will return to the market in August of 2012.

To date, the benefits from Gemcitabine and Docetaxel have been in line with expectations.

We continue to maintain our market share among community oncologists and our nuclear solutions for physicians continues to gain traction.

We do believe patients are best served in a physician setting, and we work hard every day to provide physicians with the tools and information they need to run their practices efficiently, and to receive adequate reimbursement from payers.

Most recently I visited with 400 of our largest oncology customers at our LPP, Large Practice Program meeting in Washington.

I am always impressed with our customers' dedication to their profession, and to their patients, and I'm proud to the long tradition ABC has of providing value to that important segment as they meet the daily challenges of the modern healthcare practitioner.

For example, we gained significant traction with ABSG's [marked halfpoint] physician portal during the quarter.

[SmartPath Point] is another example of collaboration across our business units, and one that creates an efficient system for managing oral prescriptions in community oncology practices, which also allows physicians to coordinate total patient care with better visibility to oral medication, compliance and adherence.

ASD, our blood plasma, nephrology, and vaccine distributor, performed well in the quarter, which was the first full quarter during which nephrology services were reimbursed under the new funding mechanism.

Our Consulting Services group also had excellent performance in the quarter, as they continue to broaden the scope of the services they provide beyond specialty and biotech manufacturers to other branded and generic manufacturers, as well.

With close to 2,000 associates, our Consulting Services group remains a market and thought leader in helping manufacturers prove the value of their products and expand market access to those products.

Our expertise in reimbursement, patient compliance and adherence programs, comparative effectiveness, and other data analytics helps improve patient access to drug therapies and helps ensure the efficient delivery of those therapies.

The Packaging group had a strong quarter, as they continued to expand their services to both branded and generic pharmaceutical manufacturers, providing state of the art packaging for dry oral solids to injectables and commercialization and clinical trial support solutions.

Before I turn it over to Mike, I want to reiterate how excited I am about the future of our Company, and how much I'm looking forward to being its leader.

We have a successful and disciplined business in a strong industry, and we have a wealth of very talented associates whose dedication to excellent performance is unmatched.

I am honored to lead our associates, and I truly believe that our future together is very bright.

Now, here is Mike.

Thank you, Steve, and good morning, everyone.

Another outstanding quarter, where solid execution and disciplined capital management in nearly all areas of our Company met our expectations, and was accentuated by our extraordinary performance in the specialty generics area.

This tremendous performance in specialty enabled us to far exceed our original goals, and led to an increase in our diluted EPS guidance for fiscal 2011.

I will spend some time detailing our performance in the specialty generics area, particularly the impact of Oxaliplatin, which was responsible for nearly all of our upside, over expectations in the quarter.

Also, while we are very pleased with our March quarter results, I would like to remind everyone that from a quarterly earnings perspective, the March quarter has traditionally been our strongest quarter, and this year is no exception.

While our fee-for-service agreements have mitigated much of our quarterly earnings variability from manufacturer price increases, the 10% or so of our brand name business that is still subject to the timing and magnitude of manufacturer price increases, continues to benefit the March quarter more than any other, and as usual, will normalize in the second half of the year.

Now let's turn to the March quarter results, and starting with our top line, our revenue of $19.8 billion in the quarter was up 2.4%, in line with our expectations.

The drug company grew 4%, in line with our targets, and the specialty group was down 2%, in line with our guidance of flat to down 5% for that unit.

Drug company growth continues to be driven by the growth of some of our largest customers, and the specialty top line continues to be impacted by the prior year loss of a large 3PL customer, the change in reimbursement methodology in the dialysis space, and generic introductions, which have moderated top line growth but provided a huge boost to our gross profit.

Gross profit of $687 million was up a robust 12% in the quarter, and gross margins expanded by a sensational 31 basis points over last year.

While the drug company had a solid March quarter with double-digit generic revenue growth and good performance on the fee-for-service side, the majority of our gross margin expansion came from the specialty group and was driven by the 3 large specialty generics, Oxaliplatin, Gemcitabine, and to a lesser extent, Docetaxel, which was launched late in the quarter.

These 3 specialty generic drugs contributed approximately $0.16 to our EPS in the quarter, with over 70% of this current quarter contribution coming from Oxaliplatin.

This compares to the $0.06 benefit provided solely by Oxaliplatin in the prior-year March quarter.

For the 6 months ended March, these 3 drugs have contributed $0.22 to EPS, with $0.16 of this benefit derived from Oxaliplatin.

As a reminder, in fiscal 2010, Oxaliplatin contributed $0.25 to our earnings, and our original expectation for fiscal 2011 was that the 3 large specialty generics combined would contribute at least $0.25 to our fiscal 2011 EPS.

Our current expectation is that these 3 specialty drugs will contribute between $0.36 and $0.40 to fiscal 2011 earnings, which is directly responsible for our increased fiscal 2011 earnings per share guidance.

As we mentioned earlier, Oxaliplatin inventory will run out in our third fiscal quarter, and we expect that it will provide a benefit of $0.05 to $0.06 to our third quarter earnings, with zero contribution in Q4.

Looking ahead to fiscal 2012 for a moment, with only a minimal benefit from Oxaliplatin expected in fiscal 2012 after its re-launch in August of 2012, and with the post-launch moderation from the other 2 large specialty generic products, our early expectation is that the earnings contribution from these 3 products in fiscal 2012 will be substantially less, most likely in the $0.10 to $0.15 range, or down approximately $0.25 from fiscal 2011.

The good news is that our early look at the oral solid patent expirations that will provide a boost to the drug company in fiscal 2012 should substantially offset the gross profit decline in specialty generics and provide us a pathway for solid growth in fiscal 2012.

As we all know, the patent expiration landscape is a very dynamic one, and we would expect to have significantly better information on our assessment of the fiscal 2012 impact from generic introductions by the time we complete our fiscal 2012 planning process and present our fiscal 2012 guidance in early November, as usual.

Before I leave gross profit, our LIFO charge for the March quarter was $13.5 million, compared to $10.7 million last year, and for the 6 months was $23.4 million, compared to $18.5 million last year.

The increases reflect a continued strong manufacturer price increase environment, and as a result, we can expect a full-year LIFO charge to be in the $30 million range, similar to fiscal 2010, and much higher than our original target of $15 million.

Operating expenses of $322 million in the quarter were up sequentially as expected, and increased 7% over the prior year, with almost half of that increase relating to our cost of maintaining duplicate IT systems, and the remainder due to increases in incentive compensation, and bad-debt expenses.

For the 6 months, operating expenses were up 4%, and we continue to expect that operating expenses for the full year will grow less than our revenues.

As a result of our gross profit increase, operating income increased an impressive 17%, and operating margins expanded by 24 basis points in the quarter.

With our increased guidance, we are now expecting operating margin expansion to be in the mid to high single-digit basis-point range for the year.

Below operating income, net interest expense of $19 million was down 1% in the quarter, reflecting slightly higher interest income in the current quarter.

Our effective tax rate in the quarter was 38.1%, compared to 37.9% last year, and we continue to expect our normalized effective rate to be closer to 38.4%.

Our diluted EPS in the quarter of $0.77 increased by $0.14, or 22% compared to March of last year, and exceeded our 18% growth in net income due to the reduction in average diluted shares outstanding.

This share reduction resulted primarily from our share repurchase program, net of stock option exercises over the last 12 months, and the dilutive effect of stock options.

Average diluted shares in the quarter were $279.8 million, and common shares outstanding at the end of the period were $273.7 million.

Now, let's turn to our balance sheet and cash flows, which were outstanding in the quarter.

Before I get into the numbers, I am pleased to announce that as expected, we have replaced both of our primary liquidity facilities that were scheduled to expire in 2011, with terms in line with our expectations.

In March, we completed a new 4-year, $700 million revolving credit facility, replacing our then existing credit facility of similar size and just today, we extended our $700 million receivable securitization facility for an additional 3 years.

These new facilities should provide us with ample liquidity to meet our working capital needs over the next few years.

Turning back to the quarter, we generated $676 million of cash from operations, bringing our 6-month total to $577 million, compared to $346 million for the first six months of last year.

We continue to do an excellent job of managing inventory and receivables, and we had some favorable payables timing as well at the end of the quarter.

Capital expenditures were $44 million in the quarter, and $94 million for the 6 months, and based on our run rate and a pipeline of attractive internal projects, we'll exceed our previous annual target of $150 million, and will probably be closer to $175 million.

Despite the fact that we are ahead of our pace after 6 months, we continue to expect free cash flow to be in the $625 million to $700 million range for the year, but likely will be at the higher end.

Keep in mind that we do approximately $300 million of sales per day, and timing of cash receipts and disbursements at quarter end can have a big impact on our quarter-to-quarter cash flow results.

Average inventory days on hand during the quarter were 25 days, consistent with last year, average DSOs during the quarter are 17 days were the same as last year, and average DPOs were down one day.

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

We bought back $70 million of our shares during the quarter, and have now bought back $255 million through the first half of the year.

With our strong cash flow performance in our first 6 months, we are raising our guidance for full-year share repurchases in fiscal 2011 to $598 million, the entire amount we had remaining in authorizations from the Board entering fiscal 2011.

This is approximately a $200 million increase from our previous annual share repurchase assumption of $400 million.

Our cash balance of $1.9 billion at the end of March leaves us with great financial flexibility as we move forward, and even with the $200 million of additional stock buy-backs by the end of the year, we should continue to have significant amounts of cash to deploy in excess of the $500 million or so we need to run our day-to-day business.

Now moving to guidance.

Reflecting our out-performance from specialty generics in the March quarter, we are raising our diluted EPS guidance to a range of $2.41 to $2.49 per share from our previous range of $2.31 to $2.41 per share.

This new guidance continues to assume revenue growth of 2% to 4%, reflects increased operating margin expansion, which is now expected to be in the mid to high single-digit basis point range, free cash flow at the high end of our $625 million to $700 million range, and an increase in share repurchases, which are now expected to be $598 million for the year.

In addition, with remaining Oxaliplatin inventory expected to be depleted in our fiscal third quarter, we would expect a total contribution from specialty generics to be significantly greater in our fiscal third quarter, than in our fiscal fourth quarter of 2011.

To summarize, our new fiscal 2011 guidance range reflects GAAP EPS growth of between 9% and 12%, despite a 3% headwind from prior-year litigation gains, and significant duplicate IT costs as we transition to our new ERP system.

So another great quarter in a series of great quarters, and we continue to be excited about our positioning in the marketplace, the dedication and enthusiasm of our associates, and our ability to execute in a dynamic industry.

Here is Barbara for Q&A.

Thank you, Mike.

We will now open the call to questions.

We ask that you please limit yourself to one question and a brief follow-up so we can accommodate as many callers as possible within the hour.

Please go ahead, Amy.

Thank you.

We will now begin the question-and-answer session.

(Operator Instructions).

Robert Jones, Goldman Sachs.

You may ask your question.

You guys called out generic Oxaliplatin as a big contributor in the quarter.

Given this was supposed to be a period of bleeding inventory, how did this beat your expectations?

Maybe if you could give us a little color around pricing and who still has supply left around that product, that would be helpful?

The biggest factor here was that there is limited inventory in the market, and we obviously are a big participant in the market, as well as the large increase in ASP price, I think, 93% or 94% increase in the quarter.

And that's really what drove it.

Mike, any additional color?

Certainly, that increase in the ASP gave us an ability to maintain pretty significant margins, while providing great benefit to our physician customers as well.

So it was really more of the pricing, and as I said, we continue to have some remaining inventory that will provide a $0.05 to $0.06 benefit in Q3.

That's roughly enough inventory to cover us half-way through the quarter, or so.

One more on the specialty.

If we think about the generic Taxotere launch, I was wondering if you could characterize how that launch has gone so far relative to your expectations.

And I guess looking forward, if you could share with us your expectations for this product for the balance of the year, specifically in terms of the competitive landscape and pricing.

I think we gave you some pretty detailed guidance on what speciality generics could mean to us in the back half of the year.

But really everything has gone pretty much as expected.

It was not an at-risk launch as Oxaliplatin was.

And really, pretty much as expected.

Our next question is from Larry Marsh with Barclays Capital.

It is good to hear the circle of life will continue and expand.

So that's the baton hand-off.

So I just wanted to -- my follow-up question.

I'll start with first and then I have a bigger-picture question.

The follow-up then is for Mike.

And that is, it seems like you're saying that the generic specialty expectations for this year, $0.36 to $0.40, versus your prior, at least $0.25, so that is up $0.11 to $0.14.

Your overall guidance is up $0.08 to $0.10.

I know some of that is offset with the higher LIFO charge.

Is there anything else you specifically called out to reconcile the differences?

No, I think, Larry, keep in mind that we said at least $0.25, and our internal expectations, obviously, we're going to do a little bit better, most likely in the high $0.020s.

So I think the way we look at it is the expectations up around $0.10 or so, and that's right in line with our guidance raised, and that is despite the fact that LIFO, our expectation is the charge is going to increase by about $15 million, or so, or $0.03 from our expectations.

So I think they're very much aligned.

And consistent with that, I think you've always said Oxaliplatin has been somewhat unique in the market because of an at-risk launch.

Obviously you were very aggressive early on, and now it's come back.

So I guess your message around Taxotere is it is consistent with your expectations, but clearly from a margin standpoint, it's hard to match -- hard to nearly match the Oxaliplatin contributions the last year and a half.

Is that right?

Hard to match the contribution and hard to match the duration of the benefit, which was extended, of course, specific to Oxaliplatin's situation.

And the other question is really on the Med D provider that you disclosed previously.

And I know, Steve, one of the things you had said is that part of the value proposition that is resonating more in the marketplace is a combination of the your ability to drive value on generics and brand along with specialty.

Can you elaborate a little bit?

You're now buying the brand specialty and the generic for this customer.

Despite the fact that in the marketplace you would think they were going direct on some of these products.

What is changing the mind-set, and could you see other larger customers do the same thing in the future?

Well we're not buying it, we're distributing it to them, but of course I think specialty of course manufacturers typically go to a much smaller amount distributors.

There aren't that many qualified distributors.

And we certainly have the bandwidth and the footprint there, and we also have a lot of knowledge, not only about distribution, but our services business really differentiates us and complements us.

We use the term in the transcript thought leader.

It is very apropos, because that is what we are, and we get recognized in that.

And just about every large drug company wholesale customer really is interested in more access and more patient through-put, especially products.

That clearly is becoming a competitive advantage, and it is definitely, we lead often with those discussions with RFPs.

Robert Willoughby, Bank of America.

Steve, or Mike, despite the advent of generics over the years, we have your gross margin that's basically fallen since 2003 or fallen or flat, despite some generic launches, and really in 2010, only up as a matter of specialty, unless the oral solids.

Why shouldn't I be a bit more pessimistic about the margin prospects going forward?

But conversely, from a balance sheet perspective, why shouldn't we be a bit more optimistic about the cash flow opportunity on lower working capital going forward?

I would point you to operating margin expansion because there is a lot of other factors that go into gross profit, including the growth of some of your largest customers and your mix of business and the like.

But I think the most impressive thing is for us, we've expanded our operating margin really since the advent of fee-for-service, at least 5 basis points each of the last 5 years, and despite increasing our EPS 31% last year and increasing our operating margin in the high teens, they're doing it once again, I think that's the power of generics and the power of our model, and I think that has also turned into part of the cash flow story, as well.

Our goal for cash flow have been that our free cash flow approximates our net income, and you can only do that in an environment where you can grow revenues and keep working capital neutral, which is hard to do, and we have been able to do that, and we've actually -- our free cash flow has actually exceeded our net income for each of the last several years.

So I think we're very pleased with the impact that generics have had both on our operating results and on our cash flow.

And can we see working capital actually fall over 2012, 2013 time frame, or just not possible?

We always hope to have modest improvements, and I think we're going to continue to do that.

Certainly what generics do give us is a little bit more influence with the manufacturers, and we continue to get slightly better terms on generics than we get with brand names, and hopefully we can turn that to our advantage.

I think we got to keep in perspective that even though the generics continue to be the majority of the prescriptions, the dollars continue to be very much weighted towards the brand-name products.

The larger customers pay quicker, so it just depends on how the mixes come out in the future.

So larger customers tend to pay quicker.

Lisa Gill, JPMorgan.

Thanks very much, and good morning.

As we listened to Hospira the other day, they talked about sales of generic Taxotere being higher than their expectations.

Can you talk about whether there were any purchasing opportunities in the quarter, where maybe you're still seeing it in your inventory, so that would be my first question.

Secondly, just around acquisitions, of historically being in that $200 million to $300 million range, I think Steve, you made the comment today that the Company would be willing to look at larger acquisitions, but if we think about the consolidation of the industry, and the narrow focus that you have, I don't really see a lot that would be above that $200 million, $300 million range if you don't move outside of the US.

My question is, are you contemplating or would you contemplate an acquisition on the international side?

I'll start off with the international acquisitions, and Dave and I -- actually I took over Dave's Board seat at IPW and we also had a group of European wholesalers visit us recently.

We have a lot of dialog with international wholesalers.

What is surprising is how much better our business is than theirs.

It really is sobering.

First of all, just one thing I'll point to, which is very, very glaring, is the difference in relationship with the manufacturers.

If you don't have the sort of trust that we have in our business, it is hard to do these reimbursement programs; it is hard to do these adherence programs; it is hard to have these intricate fee-for-service agreements.

It is very, very different.

We would really like to find synergies and acquisitions and we don't really see those on the international side.

On your first question, your second question, about the Docetaxel, it was a typical launch, we might have ordered a little bit more inventory than we would have in the ordinary course of business.

But nothing exceptional, and we're happy with the demand for Docetaxel and our customers are ordering as expected, Mike, you're closer to that.

Do you want to?

Yes, nothing I would, I just agree with Steve, nothing unusual.

Our normal load up for a new product introduction, and everything seems to be going very much according to plan.

And Mike, if I can ask a follow-up just around ASP, when you talked about it, as it pertains to Oxaliplatin earlier, should we just understand that you're not directly reimbursed, right?

It is the physician practice that is reimbursed.

It just offers you ability to have flexibility around price when their reimbursement rates are higher.

Is that the correct way to think about it?

That's exactly right, Lisa.

Glen Santangelo, Credit Suisse.

Mike, I just want to make sure I understood all your guidance correctly.

You sort of suggested that the fiscal 2011 specialty contribution would be $0.36 to $0.40 and then in 2012, that falls to $0.10 to $0.15, with the net difference of a headwind of about $0.25.

So you sort of suggested that the generic launches in fiscal 2012 and the cliff kind of lines up neatly with your fiscal year, that incremental contribution, do you think, is it at least $0.25?

Is that sort of what you were suggesting?

Yes, I think, generally, Glen, that is the message we're trying to give, is that we will have a substantial offset.

It is obviously very early and there is a lot of time between now and the beginning of the year, but I think our early look is that we should have a substantial offset to the specialty headwind, with the oral generic, oral solid generic side of the drug company.

The only caution I would give to that is that obviously the higher we go in our range in 2011, and particularly if we're high due to the items that are non-recurring in 2012, the harder it is to add on top of that growth rate.

But I think our early look as we look -- we see a great offset, and we see a nice growth year in 2012.

Clearly, the contribution from the specialty generics is nice, but could you maybe talk about what you're seeing in terms of the profit trends on your base generics business?

There has been a lot of talk obviously around the pricing around generics.

So you're sort of suggesting that the increase in the guidance this quarter was solely attributable to the increase in specialty, and so could you maybe focus your comments a little bit on the traditional generics business, and what you're seeing there?

Yes, I think it was a very solid performance with our traditional oral solid generic business.

We did have a slight uptick in launches year-over-year in the quarter, which helped us out, and that's something we had expected based upon the calendar for this particular quarter.

We continue to see a bit of generic price increases, again, not overly material to us but a nice little incremental benefit.

And as I've said, the circumstances that caused some of those price increases are still out there, and we may still see some of those in the future.

They're obviously pretty hard to predict, but I think -- I think the way I would characterize it is very solid performance, very much in line with what we expected.

Tom Gallucci, Lazard Capital Markets.

First question was just around buy-backs versus acquisitions.

Doesn't sound like international is all that attractive in your view.

You talked about being open to acquisitions as you guys always do, but you did increase the buy-back expectations for the year.

So should we -- I guess just conceptually, be thinking that acquisitions are sort of a longer term thing on the radar screen, as opposed to there being anything unusually imminent there.

No, we're always very active.

We're always having ongoing discussions, and we don't have any acquisitions in our guidance, as we said.

But we remain active, and we do see opportunities, particularly in the specialty distributors and service providers.

Mike, anything?

Tom, I think we said from very early in the year to the extent that our cash flow expectations -- or our cash flow met our expectations, and we didn't spend an unusual amount on acquisitions, we would have the ability to upsize our share repurchase.

I think what we've done is just very much in line with that.

But as Steve said, it doesn't change our view on acquisitions, and the fact is and we continue to be very active in a corporate development perspective looking for things that would add value to our shareholders.

In the meantime, if they're not there, we'll periodically return money through share repurchase.

So you feel good about the balance sheet and the flexibility to do deals, even with a little bigger buy-back.

Exactly

Okay, good, and just my follow-up was on the SAP conversion, can you just remind us about how the benefits roll in, and maybe ultimately the cost savings that you're expecting, or I guess also the elimination of redundant costs along the way?

Yes, Tom, coming into this year, and really starting in the fourth quarter of last year, we mentioned that we would have $10 million of incremental costs per quarter, continuing through the end of calendar 2012.

At the end of calendar 2012, we expected to be complete with our customer and distribution center implementations of the new system, and at that point we'll really start to be able to unhook the old system and start to capture some of those duplicate costs that we were spending up until that point.

It may not be day one, it may take a little bit of time in fiscal 2013, but we'll certainly start to realize those savings during that time period, and certainly one of the reasons we've put the new system in was just not to avoid the duplicate costs but improve our processes, improve our customer experience, and put in a system we think gives us somewhat of a competitive advantage.

So I think we'll hopefully realize some of those benefits, as well.

And, Tom, just to refresh your memory, as Steve mentioned, we're right on schedule.

We're doing the back-office now on the new system.

As Steve mentioned this summer we roll out the first DC.

So we're steady-as-she-goes on that schedule.

Steven Valiquette, UBS.

Mike, you made it pretty easy on giving all the color on the specialty generics.

I think we definitely all appreciate that.

My additional question tied into that, that has not been asked yet, is as far as the fiscal 2012, the $0.10 to $0.15 for the specialty for next fiscal year, we should probably assume you took a conservative stance in that regard, where you assume maybe full multi-source generic markets for generic Gemzar and Taxotere, in particular, but then maybe there could be upside if we see fewer manufacturers in those markets, is that kind of a way to think about that?

I think that is right.

I think we assume a handful of manufacturers with each product, and some of the benefits from the reimbursements start to kick in after 6 months or so.

So I think both of those will contribute to that moderation in fiscal 2012.

The -- just on the, you talked about some price increases tied to generic supply disruptions, helping you a little bit.

But just kind of curious, again, how would you characterize that for the current environment, March quarter versus let's say a year ago.

Does it help you materially or is it the same year-over-year, just trying to get a sense for generic supply disruption activity, the way you see it.

I'd say the price increases have been a slight benefit.

Year-over-year there is definitely a lot of issues that are out there.

I think we try to do the best job for our customers, and our broad sourcing philosophy certainly helps us to do that.

But when there's just not any product out there, there is sometimes very little that we can do, and that's been evident lately.

It was evident at some point last year, as well.

And I would say, it is a slight benefit overall.

Let me offer my congrats to Dave on his retirement as well, thanks.

Helene Wolk, Sanford Bernstein.

Just a quick question around competitive dynamics, and whether you're seeing any changes in the marketplace following the Kinray and US Oncology acquisitions.

First on the US Oncology, we have definitively maintained our market share.

We have some dialog going on with some McKesson customers that don't necessarily want to be associated with US Oncology.

But nothing remarkable, and it's really steady-as-she-goes, and we're absolutely maintaining our market share and we really very much focus on the service side and looking at the value-add we can give to oncologists.

On the Kinray side, obviously we listened to the earlier call.

We continue to believe that this is an opportunity for us.

We have been and always have we have been active in the New York market for a while, and we've added a few customers, and we continue to believe that there is an opportunity for us.

And then just a question for Mike around the pattern of operating expenses.

I know you gave us some clear guidance around sort of what we should expect for the full year.

Any thought or advice on how it plays out between the quarters?

Yes, I think you'll see -- you should see a slight increase sequentially in the third quarter, into the fourth quarter, Helene.

In the third quarter, we put through our annual merit increases.

In the fourth quarter, we run our customer trade show, which adds several million dollars to the expense in the fourth quarter.

So slight upticks in the second half of the year.

Ricky Goldwasser, Morgan Stanley.

First of all on the operating margin progression, you talked about operating margins up to high single-digits this year.

When you think about fiscal 2012, do you expect a greater improvement in operating margin next year if growth from new generics with exclusivity more than offsets kind of like the smaller specialty contribution that you've talked about?

I think you're going to see a year next year where top lines are going to be pretty flat, and could be slightly down, depending upon the timing of some of the launches, and I think that implies that you're going to have to grow your EBIT through margin expansion, and I would say that would be our goal at this point.

As you look at 2012, you have to put in perspective where we've been with 2010, 2011 and 2012.

Our 2010 was huge.

Our EPS was up 31% that year, we followed that up now with another strong year.

You have to put those years in comparison and perspective as you are looking at your 2012 and 2013 and beyond.

And just on the generic, I'm not sure if you gave -- if you gave the data point, but what was the growth for your generic business?

Mid-teens growth.

George Hill, Citigroup.

To follow up on Lisa's question earlier, it is very early, but as you start to see changes in the specialty delivery model, especially in cancer, as some of these drugs are carved out of the medical benefit and trying to be carved into the pharmacy benefit.

Do you see any risk there or any exposure there to what your reimbursement rates look like in profitability in that space?

As I've said, we do have programs for all of our drugs but our bet is with the physician and we are really focused on the physician in helping maintain those drugs through the physician delivery system.

And then a quick follow-up on M&A.

While it doesn't sound like, international sounds kind of quiet, are you guys seeing an opportunity in unit-dosed packaging, and are you seeing an increased demand for those services from your provider customers, and is that something that you guys are looking at?

We have -- we have a business that does that.

We believe we're one of the largest players in that space, and certainly the business is doing very well and most likely ahead of expectations.

But still relatively small within the $20 billion that we do roughly in a quarter.

A.J.

Rice, Susquehanna.

Hi, this is [Brandon Fasby] in for A.J.

I guess my last question here would be branded drug price inflation.

What were your expectations coming into the year and have price increases so far this year been a little better than what you have been looking for?

Yes, they certainly have.

We have had brand price inflation that has been in excess of 8% each of our last 2 fiscal years, and our expectation was that, that was going to moderate some, maybe in the 5 to 6% range, but halfway through the year it certainly seems that the -- that the greater than 8% mark is going to hold, and certainly that seems to be driven particularly by some of the larger drugs that are going to go off of patent.

So it has been a pretty robust first half.

And now Dave would like to make some final comments.

I just want to thank you again for joining us and for your interest in ABC.

We continue to be very bullish on our industry and the position that we've got in that industry.

We just reported a strong quarter in a series of strong quarters and raised guidance on a year to follow the year that had a 31% increase in GAAP EPS.

So there's much to like about ABC.

This is my 56 and final quarter I will report as CEO and I'm happy to be waltzing out the door on a very high note, and with the prospects of the Company being so bright.

There is absolutely no doubt in my mind that ABC will continue to prosper under Steve's leadership and yes, that ABC circle of life will just continue to get better and better.

Thank you for the support you've given to ABC over the years that I've been associated with it.

And thank you very much for the support you've given me over the last 56 years, or the last 56 quarters, though sometimes it seemed like 56 years, but it was actually 56 quarters.

All things considered, it's been a great ride, so thank you very much.

Barb?

Thanks, Dave, and before we go, I'd like to highlight 2 upcoming events.

On May 11, we'll be attending the Bank of America-Merrill Lynch Healthcare Conference in Las Vegas, and on June 8, we will be attending the Goldman Sachs Healthcare Conference in Rancho Palo Verde, California.

Thank you all very much.

Thank you for participating in today's conference.

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