卡地納健康 (CAH) 2007 Q3 法說會逐字稿

Good day ladies and gentlemen, and welcome to the Cardinal Health earnings conference call.

My name is Twilisha, and I will be your coordinator for today.

At this time, all participants are in listen-only mode.

We will facilitate a question and answer session towards the end of this conference.

(OPERATOR INSTRUCTIONS) As a reminder this conference is being recorded for replay purposes.

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

Bob Reflogal, Vice President of Investor Relations.

Please proceed.

Thank you, Twilisha.

Good morning, everyone, and welcome to Cardinal Health fiscal 2007 third quarter earnings conference call.

Our remarks today will be focused on the Company's consolidated and business segments results for the quarter, which are included in the press release and attached financial statements.

If any of you have not yet received a copy of your earnings release or the financial attachment you may access it over the internet at our investor page at www.cardinalhealth.com.

Additionally, there are a handful of slides that we will be reviewing which can also be found on the website.

Speaking on our call today will be Kerry Clark, CEO, and Jeff Henderson, CFO.

Also participating with us today for Q&A are Mark Parrish, CEO of Healthcare Supply Chain Services, and Dave Schlotterbeck, CEO of Clinical & Medical Products.

After the formal remarks, we will open up he phone line to your questions.

As always, we ask that you limit yourself to one question.

During the course of this call, we will make forward looking statements.

These statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected.

Please see our press release and other SEC filings for a full discussion of the risk factors associated with them.

In addition we will reference nonGAAP financial measures.

A reconciliation between GAAP and nonGAAP financial information is included at the end of the slide presentation.

At this time I would like to turn it over to Kerry Clark, Cardinal Health CEO.

Kerry.

Thanks, Bob, and welcome everybody.

Thanks for joining the call.

I'd like to start off with the top line assessment of the third quarter before turning the session over to Jeff.

Starting off there were a couple of very noteworthy events during the quarter.

First we completed the divestiture of our Pharmaceutical Technologies and Services segment to the Blackstone Group for $3.3 billion.

With the net proceeds of $3.2 billion being received a few weeks ago in Q4.

Second we made a lot of progress on our share buy back.

As you may recall including the proceeds of PTS we have been authorized to by our Board to purchase up to 4.5 billion of our stock.

In Q3 we purchased $1.4 billion.

And as of yesterday we have purchased $2.4 billion during the year-to-date.

Going forward we intend to continue repurchasing shares consistent with our stated goals.

And third, we recorded a $600 million reserve in Q3 toward the resolution of outstanding class action securities litigation.

As we said in our press release earlier this week, this amount reflects our current estimate to reach a mediated settle with council for the Plaintiffs.

It is also important to note that this reserve is separate from and does not impact the agreement in principal we previously reached with the SEC.

Net/net we are very focused on resolving these matters so we can turn our complete attention to the future.

Now, let me talk about the third quarter financial performance.

Overall, results were on track.

Revenue growth was strong at 8%.

NonGAAP earnings from continuing operations were up 10% and nonGAAP EPS was up 16%.

On a nonGAAP basis our operating margin expanded again sequentially and was up slightly year-over-year.

At 2.77% for the quarter our operating margin primarily reflects the good results we saw in the Supply Chain Pharma segment.

I also want to point out that Cardinal's operating margin remains above competitors due to the diversity of portfolio with higher margin clinical and medical products.

Our results were driven by another solid quarter for most of our segments.

Supply Chain Pharma executed well during a historically strong period.

The segment continued to grow economic profit and had a good quarter for Generics which I'll expand upon in a minute.

CTS continued to build share for our medication safety products and the recovery from Q1 is accelerating.

We are also making good progress in returning our Alaris SE pumps to the market with agreed correction plans with the FDA.

MPM had a mixed quarter on the surface but was primarily dampened by a couple of unusual expenses and we see it squarely back on track in the fourth quarter.

And Supply Chain Medical had another soft quarter as customer service issues slowed top line growth and weakened our mix.

We have introduced new leadership to the segment and are making investments in improving our customer service.

While we're not out of the woods yet we're starting to see some signs of improvement.

Finally, I want to update you on four initiatives outlined last quarter to drive organic growth for the Company over the long term.

Over time we expect these initiatives to be engines of growth for Cardinal Health.

First, Generics.

We continue to experience strong sales growth.

Above 25% for the year-to-date with favorable margins.

Sales through Cardinal Source, our Generic Formula program, are growing substantially faster than our total Generic growth rate and we believe faster than the market rate.

This growth is driven by new product launches and the value we are creating for retail independent pharmacies primarily through our ParMed and Dohmen acquisitions.

So we're making really good progress here.

As I said last quarter, we've also undertaken an extensive sourcing effort to further improve margins.

The market is extremely competitive on the supply side, which creates a favorable buying environment, it allows us to deliver compelling value to our customers.

Second, we told you last quarter about plans to introduce an integrated medication solution at the [HIMS] conference in late February.

We followed through with that and demonstrated an industry first offering that provides hospitals with new weapons to use in their fight to reduce costly medicine errors.

Our solution integrates Pyxis and Alaris with Care Fusion to track medications through the supply chain, verify them at the patient bedside and record and track usage data.

Next is Specialty Pharmaceuticals.

We announced last quarter our acquisition of SpecialtyScripts Pharmacy, and we're making good progress with that integration.

During the quarter, we established a new organization that combines our specialty assets to include our Specialty 3PL and blood plasma business.

Specialty's the fastest growing segment of the Pharmaceutical Distribution Market and our intent is to develop a full range of capabilities necessary to deliver the services required for the distribution of these products.

And finally, international.

As we talked about last quarter international accounts are about 2% of our revenue.

Sales are increasing in the 10% to 15% range per quarter, which was the case in Q3.

We saw a nice uptick from our MPM and CTS sales in Western Europe.

Supply Chain Medical remained a steady contributor to revenue and earnings in both Canada and Europe.

International is still an investment area for us so we don't expect to see strong contributions to the earnings line yet, but we are making good progress as we lay a foundation for the future.

So to summarize, I feel very good about the progress we've made for three quarters of the year.

We have a much cleaner portfolio with the divestiture of several businesses culminating this quarter with the PTS divestiture.

We have a clear mission to help the providers improve the safety and productivity of healthcare.

And that is well aligned with our customers paying points.

We have three of our four businesses performing well at the top and bottom line with clear action steps in place to get the fourth business back on track.

We've made progress towards resolving the overhang of Securities Litigation with the reserve we announced this week.

And we've made several long very strategic and longer term growth drivers in Generics, Medication Solutions, Specialty and International business.

With our core businesses performing well, we'll have a great and -- great short term and long term organic growth across the Company.

Through Q3 of fiscal-- of '07 we are ahead of plan but we expect to end the year on plan and within guidance as we had a big Q4 in FY '06 that will create some unfavorable comparisons in Q4 this year.

Turning to fiscal year '08.

While we're still in our planning cycle, we continue to expect that we will perform in line with the long term financial goals previously issued.

Now, let me turn it over to Jeff for a detailed look at the quarters financial results.

Thanks Kerry, good morning everyone.

There are some items I plan to discuss on our call today.

The first is our fiscal 2007 third quarter consolidated and segment results.

As Kerry mentioned, we posted an overall strong quarter in Q3.

Next, I'll touch on how we're performing against the key value drivers we've identified for our business.

And (inaudible) update everyone on the progress we're making integrating our most recent acquisition.

Third, I can provide some insight into how the year's shaping up and review our fiscal 2007 financial targets and goals.

Finally, I will then conclude with details and update you.

Let's start with the consolidated third quarter results.

(inaudible) to my comments will reflect the financial results from continuing operations on a nonGAAP basis.

The definitions at the end of the slide describe in detail how we're calculating these nonGAAP measures.

Overall revenues were up 8% to $21.9 billion driven by strong demand within our CTS Pharmaceutical, Clinical Technologies and Services and Medical Products Manufacturing segments.

Operating earnings were $606 million, an increase of 9% over the same period last year.

Earnings from continuing operations for the quarter were $390 million, up 10% over prior years results.

Diluted EPS for the quarter was $0.96 compared to $0.83 last year up 16%.

A contributing factor was to our strong operating earnings growth was 14 basis points improvement in gross margin, or 11% growth in the quarter versus prior year.

This is partially offset by SG&A growth of 12% for the quarter.

Key drivers influencing SG&A growth include cost attributed to acquisitions which account for 2.4 percentage points of the growth.

Investments in R&D International and unusual expenses add back some current in prior period such as asset write-offs and bad debt expenses.

In Q4 we expect to see rates in SG&A growth moderate versus prior year.

Interest expense for the quarter was $32 million, with an additional $8 million allocated to discontinued operations for the PTS.

For Q4 with the closure of the PTS sale we expect approximately the same amount to be added back to interest expense and this will no longer be allocated to discontinued operations.

Operating capital for the quarter was $676 million.

A return equity from the GAAP basis was 0.9%, expecting the impact from the litigation reserve we established during the quarter.

NonGAAP return equity was 19.7% up significantly from the 7.5% posted over the same period last year.

Now, turning to the next slide.

During the quarter, special items totaled $612 million or $392 million after tax, impacting diluted EPS by $0.96 per share.

As Kerry discussed, 600 million of the special items is all from a reserve established for outstanding cross action Securities Litigation.

More on this later.

Within the remaining $12 million were costs associated with restructuring, acquisition integration and items associated with SEC investigation costs.

The next item is impairment charges and other items.

During the quarter impairment charges were $3.6 million or $2.4 million after tax, impacting diluted EPS by $0.01 per share compared to the same $0.01 per share in Q3 last year.

Turning to nonrecurring charges.

I want to remind you that in our third quarter of last year we benefited from a $2.4 million credit taken within our Healthcare Supply Chain Services Pharmaceutical segment, which was an adjustment related to a charge taken in the first quarter of that same year.

For clarity this credit is included in our nonGAAP diluted EPS of $0.83 in Q3 of last year.

Again, there are no recurring items recorded in the third quarter of this year.

Before I turn to segment performance, I'd like to provide some clarity on the $600 million reserve we established for pending costs action litigation.

To be clear, there is no agreement in place and negotiations are still on going to resolve this issue.

However, based on current mediation discussions and accounting guidance surrounding contingent liabilities, we believe the reserve is warranted and the $600 million represents a reasonable estimate to resolve the matter.

I also want to be clear that this has not changed our $4.5 billion share repurchase authorization that we previously communicated, nor our intention to repurchase shares with the net proceeds from the divestiture of our PTS business.

Now I'd like to turn to the performance of the individual business segments.

As I discuss the results in each of our four segments, I want to remind you that we are now [burdening] our segment results including current and prior year with equity compensation expense, which currently has a positive impact on our segment growth rates.

In addition, we have reallocated to our remaining segments a portion of corporate overhead expenses that formerly allocated to PTS.

For historical comparability, in our Q3 earnings release we provide segment number detail on a quarterly basis back to fiscal year 2005.

Within Supply Chain Services Pharmaceutical, revenue for the third quarter increased 8% to $19.2 billion.

Revenue growthy within this segment was driven by strong growth in the core pharmaceutical distribution business, which increased revenue 11% over the prior year.

This revenue growth reflects 11% growth in our core direct door-to-door delivery business, and includes good organic growth as well as the impact of our Dohmen acquisition.

Full customer sales also grew at 11% driven by substantial increases for mail order.

Please recall this segment now includes former PTS businesses Martindale and Beckloff Associates.

In addition to Medicine Shop, Nuclear pharmacy and Specialty Pharmacy Services which include our most recent acquisition SpecialtyScripts Pharmacy.

I also want to remind you this segment also included our Specialty Distribution business from which we directed the Oncology portion in Q4 fiscal '06.

This negatively impacted our growth rate from this segment over the prior year.

The negative revenue impact in this divestiture versus last year will be $372 million and $236 million for Q3 and Q4 respectively.

Segment profit was $280 million, an increase of 15% over the prior year.

The strong profit growth in Q3 was driven by strength in brand pricing inflation and Generic launches.

During the third quarter CTS Pharma recognized $15.8 million of additional distribution service agreement profit from one specific supplier contract for calendar year 2006.

We recorded this incremental profit this quarter after received lender confirmation of successful achievement of 2006 service performance metrics.

Similar to last quarter we had strong earnings growth in our Nuclear Pharmacy business, due to both favorable cost of goods and expense leverage.

Again, this helped offset the earnings decline in Specialty Distributions that resulted from the sale of this business to OTN which I noted earlier.

In our key focus area of improving capital efficiency, an important measure of progress is days of inventory on hand.

For Q3 HSCS pharmacy-- pharmaceutical days of inventory on hand declined by two days versus last year.

As you know specifically within our Healthcare Supply Chain Services businesses we also measure economic profit margins as a key metric which combines both the confirmative income statement and the balance sheet.

Within Supply Chain Pharmaceutical economic profit margin increased 14 basis points to 1.04% in the quarter compared to 0.90% in Q3 last year.

Year-to-date economic profit margin has increased 11 basis points over the prior year to 1.03% driven by both earnings growth and reduction intangible capital.

In Healthcare Supply Chain Services Medical segment revenue for the quarter was $1.9 billion up 4% over the prior year .

Revenue growth was driven by strong demand in our lab and Canadian operations.

While our customer service consolidation has had an unfavorable impact on this business, we are beginning to see progress in the capital and resources invested to improve service.

Two key indicators we see are the customers wins are offsetting losses and margins are beginning to stabilize in our key business.

Segment profits in the quarter was $89 million down 5% over the same period last year.

Profit decline was primarily driven by gross margin declines due in part to mix shifts, an increased SG&A expense associated with bad debt write offs and the previously mentioned investments in customer service.

In addition to investing in customer service, we have taken a number of other steps to improve performance in this segment including appointing a new leader, streamlining our order to cash process and exploring opportunities to accelerate operational synergies across the HSCS sector.

For SCS Medical economic profit margin declined 44 basis points over the prior year to 1.37%.

However EP margin is up sequentially and has improved 75 basis points over the first quarter.

I do want to note that while we experience earnings decline in Q3 in this segment, we do not expect this trend to continue in Q4.

Clinical Technologies and Services segment revenue for the quarter was $674 million, up 12% over the prior year.

The segment profit was $98 million up 12% compared to the prior year.

Both Alaris and Pyxis products have been strong with committed contracts up substantially over last year.

Contributing to this growth is a favorable reaction to our new product launched earlier this year, the Alaris PCU 1.5 and the Pyxis MedStation 3500.

In addition we continue to see strong demand within our Pyxis supply business.

As I mentioned last quarter, while this business is a relatively small contributor today, we expect these products to contribute more meaningfully in the near future.

We experienced strong gross margin growth in our CTS domestic operations including Alaris, Pyxis and Pharmacy Services.

However increases in SG&A compared to last year acted to damped this growth at the segment profit level.

We continue to invest in product quality and customer service were we have seen meaningful improvement.

Other SG&A growth drivers to support future growth include investments in R&D, international and the acquisitions of MedMined and Care Fusion.

Also impacting our growth is the $8 million bad debts reduction we took during Q3 last year.

Excluding that reduction segment profit would have grown an incremental 11 percentage points.

Medical Product Manufacturing revenue increased 11% to $458 million.

And segment profit increased 4% to $47 million.

Revenue growth was driven by solid results in our gloves, converters and our special procedures products.

In addition we've seen strong demand for new products within respiratory and surgical instruments.

Profit growth slowed in Q3 due primarily to three key drivers that increased SG&A expense versus same quarter last year.

First driver is unusual charges.

MPM recorded employee related and asset retirement charges.

They are not expected to reoccur next quarter.

Absent those charges segment profit would have increased by 4%.

The second driver was incremental investment in both International, such as sales reps, and R&D.

While these expenses will continue, we expect to see returns in this investment in the near term.

Third key driver of increased SG&A is Denver Biomedical our most recent acquisition in this segment.

However, we fully expect this to be reduced under current integration plans, which include our recently announced decision to close the facility.

(inaudible) we expect to return to solid bottom line performance as we see increasing benefit from our operational excellence initiatives and our network restructuring in this segment.

Turn to slide 11.

Want to briefly discuss the progress we're making against our key value drivers.

If you believe we'll deliver significant shareholder value growth over time.

First is operating growth.

We've experienced strong top line growth in customers across most of our segments.

Our CTS and MPM segments in particular are developing and delivering successful new offerings in the market.

Including our recently demoed all Medsolution within CTS and our Snowden-Pencer Diamond-Line a laparoscopic instrument within MPM.

We've also made progress in streamlining both our manufacturing and shared services operations.

We've shifted manufacturing to more comp (inaudible) regions and combined back office and support activities.

Going forward we expect to find even more opportunities to improve efficiency and drive operating margin expansion.

Next is balance sheet management.

With the sale of our PTS business we have made a big step forward in optimizing our portfolio.

While we are always evaluating our businesses, I would say that we are substantially complete with our optimization efforts today, but as always that could change.

One area that I'm particularly proud of is the Company's efforts to improve our use of capital.

In the past few years we have substantially reduced the capital required to run the business.

Days of inventory have been declining and on a nonGAAP basis return on invested capital has improved 204 basis points year-to-date.

Finally, disciplined capital deployment.

As I stated in the past I think it is very important to be completely transparent regarding our intentions with respect to our use of cash.

Our consistently stated objective is to have 25% of our operating cash flow utilized for internal capital investments.

Up to 20% for smaller tuck-in acquisitions and about 50% is generally expected to be returned to shareholders on average.

However we will remain flexible and proceed in a manner that we belief is most beneficial to our shareholders in any given year.

A good example of this is our commitment to use 100% of the PTS net proceeds to repurchase shares, which will bring us well above the 50% mark of return of capital to shareholders in FY '07.

As Kerry noted to date we have repurchased approximately 2.4 billion of the 4.5 billion Board approved buy back authorization.

In anticipation of the close of PTS, we have been in the market proactively buying back shares.

Going forward we expect to continue repurchasing shares on a timely basis as market conditions allow.

Investing for our future is a key component of our capital deployment strategy.

We're investing in organic growth and tuck-in acquisitions that enhance or complete our offerings to customers.

Organically we've increased our R&D investments which is paying off in new offerings and improved quality.

In addition, we have invested capital and resources in our IT systems, International operations and customer service, which we expect to pay dividends in the near and longer term.

Over the past 12 months we have made relatively small but meaningful acquisitions all focused on enhancing our product offerings to provide our customers and manufacturers.

In particular MedMined, Care Fusion and SpecialtyScripts are perfect examples of new additions to Cardinal that greatly enhance our capabilities.

Continuing with acquisitions, on slide 12 I've listed our acquisitions over the past three years.

Please note that SpecialtyScripts have been added to this list since last quarter.

As I mentioned previously it is my intention on a continuing basis to provide you with feedback on how we are progressing against internal targets in respect to our acquisition.

We now have a very disciplined internal approach for reviewing all transactions that we believe is working well.

While we look at several factors.

Our primary measure is the actual economic profit delivered and forecasted versus our expectations at the time of the acquisition.

We do this for a three year period, from deal to close.

Similar to last quarter and to the exception of (inaudible) I would say that all acquisitions receive a positive grade in this regard.

And meaningful contributing factors to our success can be attributable to the dedicated focus placed on merger integration, which includes detailed synergy tracking.

Turning to slide 13.

I'd like to provide some thought on how we view the entirety of FY '07, and our expectations for the rest of the year.

Overall our full year EPS target remains unchanged.

I'd like to remind everyone of our statement last quarter.

For any upside we receive in FY '07 from the use of the proceeds from the PTS divestiture will be offset by a contribution to the Cardinal Health foundation.

A fund which is taking an active role in (inaudible) that help improve the safety and quality of global healthcare.

We expect that contribution to be approximately $30 million in Q4 and impact EPS by about $0.05 per share.

To be clear our 325 to 340 EPS target includes the impact of the PTS divestiture and our foundation contribution.

Within HSCS Pharmaceutical we have had good performance year-to-date.

In particular, both Q2 and Q3 were very strong.

While we are very happy with Pharms performance and expect this segment to deliver a solid year, I do want to remind everyone that our Q4 last year was unusually strong because of several factors we don't expect to reoccur in Q4 this year, including specific brands price increases and a DSA agreement that benefited from a retroactive fee adjustment.

Both were positive to last year's fourth quarter that we don't expect to reoccur.

In addition to Q4 this year, we will reflect the full impact of last year's sale of our Specialty Distribution business, and we expect to begin feeling the impact of recent large retail contract repricings.

To clarify the last point.

We have just renewed a couple of major retail contracts that were several years old, and are renewed at current market levels.

Although that has some impact on Q4 next year, they've already been baked into our expectation for next year's SCS Pharma Department, which is expected to be in line with our longer term goals.

So while Q4 maybe a difficult compare, in Q1 of FY '08, we expect to return to solid growth performance as most of the previously mentioned quarter-on-quarter comparability issues to Q4 will no longer be present.

Throughout (inaudible) of tiny differences related to price increases and other factors such as Generic launches, are not unusual within pharmical distributions and can often cause complexities when comparing performance quarter-over-quarter.

Our view is this is an annual business and it's best compared to such.

Looking at HSCS Pharma through an annual lens we expect this to be a strong year for the business and in line with our longer term guidance.

With our HSCS Medical segment, we are expecting improved performance in Q4 as the impact of recent customer service changes are beginning to pay off.

We clearly have some work to do in turning around this business, however we view both our improving customer service, our recently appointed new leader and other organizational initiatives as positive steps forward.

Across our Clinical and Medical Product sector we're anticipating a very strong Q4 reflecting the impact of continued strong demand and recent investments.

For CTS this is a substantial improvement from our first half which was impacted by costs associated with our SE recall and launch delays in Alaris and Pyxis.

For MPM this is a return to a solid performance they delivered in the first two quarters of FY '07.

Now, I'd like to turn to our financial targets and goals.

As I previously mentioned, our target now includes the impact of PTS divestiture and our planned contribution to the Cardinal Health foundation.

While our nonGAAP diluted earnings per share target for the year of 325 to 340 remains unchanged, we are revising our consolidated revenue target to in the upper half of the range now that we have more clarity into Q4.

I discussed several factors influencing this revision on the prior side, and I'll include timing to parts going Generic as a key driver as well.

We are revising the fiscal '07 segment profit growth target within HSCS Medical to below range.

This change reflects the impact we experience from our customer service consolidation and the subsequent investment to address issues that arose as a result of the consolidation.

Within the remaining segments fiscal '07 segment profit targets remain unchanged.

Although we have provided more clarity around the drivers influencing performance.

I do want to point out that the segment profit growth target rates in this slide exclude any impact of equity competition which would act to improve segment profitability.

Two final but important items I'd like to cover.

I want to take a few minutes to share with you some of the details around the PTS divestiture and discuss the HK-- the 8K which we'll be releasing later today.

First, let me discuss the accounting around PTS divestiture.

We expect an approximate $1.1 billion gain as a result of the sale of this business to Blackstone.

In Q2 we record $425 million of that as a net tax benefit in expectation of a successful completion of the sale.

As a result of the sale being completed we will post the remaining balance of our gain in our fiscal fourth quarter.

With respect to the 8K.

I have stated that it's my intention to be very transparent about the performance of Cardinal..

I promised all of you that we would update historical financial through separate changes made to our reporting structure in order to improve clarity and historical comparability.

Specifically this 8K will restate our annual historical financials in 2004 to the present, with adjustments made for our new reportable segments, the impact of the PTS divestiture and corporate costs including equity compensation allocated to the segments.

I believe this 8K update along with the 8K filing on April 16th, that includes the accounting detail on the PTS divestiture.

And our earnings release which provides segment detail on a quarterly basis back to 2005, provide investors with a promised transparency regarding our performance.

However as always we will be able to answer and clarify any questions you may have.

With that, I want to thank everyone for their time this morning, and open up the call for Q&A.

Thank you.

(OPERATOR INSTRUCTIONS) And our first question comes from the line of Tom Gallucci with Merrill Lynch, please proceed.

Good morning.

Thank you.

Just one technical question.

Jeff, wanted to just be sure where that $30 million contribution is going to show up on the financials.

And then looking at drug distribution a little bit more closely you had the $16 million or so payment.

That seems like it is about 7 basis points I guess in terms of margin.

I was wondering if you could give a little bit more granularity, if you sort of exclude that and you exclude bulk, what is the DSD directionally the margin--what direction are the margins going in and can you give us an order of magnitude, if you sort of get normalized for bulk in that payment?

Sure.

Let me turn that back Tom and Mark Parish is here as well so he may be able to add some additional flavor to the second point.

Regarding your question about the $30 million contribution to the foundation that will appear in operating earnings and specifically as an added expense within SG&A.

So although I mentioned that the core SG&A growth rate in Q4 will be much more moderate than what you saw in Q3, that contribution will offset some of that as it will appear as somewhat of a one time item in Q4 of FY '07.

Regarding your margin question, I would describe margins if you adjust for a few of the factors that you mentioned, Tom, within the nonbulk business as being relatively stable.

And that's consistent with what our expectations for the entire year have been, in fact for the nonbulk business I would describe it as stable to slightly up.

And the key drivers there, it sounded like so far the environment is still a little bit negative, I'm assuming there're some other positive things whether it's branded price or Generics or whatnot.

Can you get into a little bit more of the moving parts?

Yes, I think both in Q2 and Q3 we saw some very healthy brand price increases.

And we had some Generic launches most of which were expected, but also had an unexpected one Q3 of this year which helped to bring up the buy side of the equation.

Then I'd say we're continuing to be very focused on our operating expense and leveraging that as we increase volume.

So that would summarize the key drivers and that.

Is the sell side still negative a little bit?

Yes, I would say consistent with what we've been saying this year particularly on the retail side we've had some major contract repricings that have come up.

And I'd describe some of those contracts were several years old, we have renewed those contracts at current market pricing.

And that has had a somewhat negative impact on sell margin for those specific areas of the business.

Thank you.

Thank you, Tom.

And our next question comes from the line of Ricky Goldwasser with UBS.

Please proceed.

Yes good morning.

Just one clarification on the EPS and then a question on Generics.

So just I understand the more difficult comparisons in the fourth fiscal quarter, but should we expect that the June quarter EPS number is going to be down compared to June of last year?

Well, I think you can do the math yourself.

I am not going to speak of the specific quarter, Ricky, thank you for the question by the way.

We don't give quarterly guidance.

But you have seen three quarters worth of results now.

We're holding our guidance of 325 to 340, I think all of you can do the math on that and figure out what the possible range of outcomes would be for Q4.

But I can say it's extremely unlikely that we have a negative quarter in Q4.

Okay so that answers the question.

And then as far as the Generic growth rate, I know we talked about the past 25% sales growth and the Pharma program is going very well and ahead of the market.

As you think ahead, and I assume that the fact you are growing faster than the market is obviously helping the margin especially given that some products are being priced at very low levels post 180 days specifically.

I guess my question there is when you look ahead and you think about your capabilities and your customer base, do you think that the 25% growth rate is sustainable over the next four quarters or so?

Ricky, this is Mark.

When you say growth rate I'm assuming you're thinking to the sales growth rate for Generics, is that correct?

Actually both sales and scripts.

Because we're really trying to understand kind of given the decline that we're seeing in some of the large products like [Zenzyme Prava] and [Zoff] close to 180 days specificity, and the impact on margins.

So we're basically trying to understand kind of whether the accelerated volume growth or unit growth offsets that and helps drive the margin expansion?

Yes, I-- well I think-- okay that was helpful.

Thanks for the clarification.

Without a doubt the script growth in Generics will continue and is highly sustainable and probably even accelerate beyond what all of us have historically anticipated as the payors continue to embrace plans to promote Generics across Medicare part D and the private plans.

Relative to the deflation and the, then the sort of the net impact of all that to growth in March, and I think what we're going-- will see an offset that is favorable there from the standpoint of the volume is going to help us dramatically offset the deflation.

The deflation is running, Ricky, about consistent with what we would expect right now.

The deflation on the new products that are coming out is six month exclusivity is within the range of our expectations, and as we look forward, we feel-- we still see a very favorable for Generics, all factors in so to speak.

Okay.

Thanks, Ricky.

Next question please.

And our next question comes from the line of Randall Stanicky with Goldman Sachs, please proceed.

Great, thanks for the question.

Just on the buy back and thought process around that process.

Does any of the flexibility you highlighted in terms of allocation of capital play any roll in perhaps not doing a more aggressive buy back up front or some level of dutch tender?

Just maybe thoughts on how you are thinking about your buy back program?

Yes, thank you Randall.

In terms of the program we currently have underway under the $4.5 billion authorization that on the board, let me just divide that in two parts.

There's instead of a $1 billion core program for FY '07, which is already complete, and then there's the additional at least $3.1 billion which is the net proceeds from the PTS divestiture.

We have made it very clear that our commitment is to fulfill both os those repurchases on a timely basis, and the flexibility I refer to in no way would change that commitment.

So I think you can expect that $4.1 billion of repurchases at a minimum will be done on a timely basis with the exact timing really dependent on market conditions.

Now in terms of how we do that whether it's a dutch option or continuing to purchase in the open market again we'll make an assessment based on the market and what we think is best for our shareholders.

But just to be clear the potential for a dutch is still on the table despite the current buy back program right now, that could be something that you come and update intraquarter perse if that's the decision mechanism that comes out?

Yes, I think we would keep all options open in terms of how to finish the remaining amount of the repurchase.

And a dutch option is one mechanism that we would continue to consider.

Okay great, thanks a lot.

Thanks Randall, next question.

And our next question comes from the line of Larry Marsh with Lehman Brothers.

Please proceed.

Thanks and good morning.

Just a clarification and a question.

And I don't mean to force you to parse the words, Jeff, but just in the spirit of trying to be a clear as possible, I think in response to an earlier question you had said you would anticipate it to be highly unlikely that Q4 of this year would be down versus the Q4 of last year.

And from a comparison standpoint is it fair to say that Q4 of last year on a nonGAAP basis was $0.87?

And what was your second question, Larry ?

Okay so that's a -- so you're-- I'm sorry you're looking that up.

Is that--?

Okay I'm sorry, okay.

And along with that, and again not to get you to parse the words, but I think you also made some comments about fiscal '08, you're not guiding obviously, but being in line with your long-term goals and I know you have stated year-to-date long term earnings per share growth goals of 12% to 15%.

And I just sort of want to make sure I want to reconcile that with I think a comment you made last quarter, Jeff, which was your anticipation of the PTS divesture adding materially to your fiscal '08 results.

So those are both sort of clarification points.

Okay, sure.

On the Q4 of ast year our nonGAAP EPS number that we would be looking at is $0.78, Larry.

Okay.

Maybe you just had your numbers transposed.

You had said $0.87.

Regarding your second question, nothing has changed in that regard.

We would expect that sort of underlying business to grow in line with our longer term guidance which is 12% to 15% EPS, 8% to 10% revenue, et cetera.

And the impact of the PTS deal would be incremental to that.

Okay and just a question really more I guess from a question I asked last quarter, just kind of an update on personnel.

Which is the timetable on ahead of U.S.

drug who's running this new specialty organization?

And when would you anticipate bringing somebody in on the development side?

I'll let Mark answer that.

Okay I'll take the first two, Larry.

Relatives to the head of the Supply Chain Services Pharmaceutical segment of the business we are very close.

I would anticipate during Q4 that that position will be filled.

Relative to the Specialty business, we have filled out that business unit with a leader from our internal ranks.

An individual with strong experience in both the hospital and in the retail side of the business, his name is Brian Jackson He's doing an an excellent job pulling that group together.

So we've been making good progress in both of those.

I'll let either Kerry or Jeff describe the process relative to business development.

Yes, this is Kerry.

We're in the process of recruiting to fill behind [Brandons Fords] announced intention to retire more or less.

And we're making good progress, we're seeing candidates and that progress is-- that process is underway.

Okay, Jeff, thanks.

Thanks, Larry.

Next question.

And our next question comes from the line of Lisa Gill with JPMorgan.

Please proceed.

Mrs.

Gill your line is open.

And our next question comes from the line of Glen Santangelo with Credit Suisse.

Please proceed.

Yes, hey just a quick question, Kerry.

I was curious about acquisition opportunities going forward.

There's been some rumors in the market place that potentially Cardinal is looking at doing some acquisitions.

Maybe if you could just update us there, and I just had one follow up.

Yes, we're-- in terms of major acquisitions we have nothing that is underway at the moment.

We have a number of smaller minor tuck-in acquisitions that we're looking at and that is about the extent of it.

Okay.

Secondly my other question was on the Medsurge Distribution business.

I mean essentially you seem to continue to have problems there and I know you're kind of working through those but your primary competitor in this business seems to be growing revenues at a double-digit pace organically.

Is it so-- is there something inherent with the market that's giving you these problems or is it something strictly that's internal to Cardinal that needs to be fixed?

Well Glen I'll let Mark handle it.

But I would just sort of summarize it which is that at this point in time our view is that we are suffering mostly from self-inflicted wounds.

Okay.

I think Kerry's right on.

Relative to your comment about our competitor, Glen, I think they are growing at double-digit, but I think you have to begin to factor in the acquisition that was involved there.

So I guess it's a question of how we define organically.

But clearly we have issues that are well within our control to address with this business.

And that's what we're focused on.

Okay thank you.

And our next question comes from the line of John Ransom with Raymond James.

Please proceed.

Hi, I know you all said we could all do the math, but you have to remember some of us went to [SCC] school so never assume that.

So in that spirit, trying to do the math, the mid-point of your implied fourth quarter is around $0.79.

Now if we add back $0.05 for this contribution we're looking kind of at mid-point of $0.84 compared to $0.96 this quarter.

So what I was wondering I mean if we talk about a strong comparison last year, but in order of importance what's going to change in the second quarter?

Is it the branded price increases, is it the Generic introductions, is there some other wrinkle in your third quarter that unwinds in the fourth quarter that we need to thinking about.

Because I think that's what's affecting the stock today is just confusion about what you're actually saying about-- and I know you hate to give quarterly guidance but we're kind of here at the end of the year.

Thanks, John.

I understand your confusion.

But first of all, just to confirm, the contribution to the foundation is definitely reflected in our 325 to 340.

So that will appear in Q4 and obviously will dampen growth in Q4.

Regarding the other specific issues, I touched on virtually all of them during the prepared remarks.

We expect CTS and MPM to have strong growth.

We expect SCS Medical to get back to a reasonable growth rate.

And we expect SCS Pharma to be a difficult compare.

I think the four issues I mentioned, three relate really to last year, one is the large price increase that didn't expect to happen in Q4 last year-- or this year but happened last year.

Second is an issue related to a retro payment we received from a manufacturer.

Those alone are worth in the range of $25 million to $30 million.

Third issue is the fact that our FPD business is no longer with us.

We had it for a portion of the fourth quarter last year.

I believe that's probably worth in the range of $5 million to $10 million.

And then the fourth issue which is truly a Q4 issue is the fact that we've got a couple of these large retail repricings which begin to flow through in Q4.

So these repricings occurred sometime in the March quarter, is that right?

Mostly, yes.

Okay.

So that's really the sequential issue.

I understand a year ago issues but the sequential issue really is repricing?

That and then seasonality, just seasonality and repricing.

Q3 is always our strongest quarter and even though we've taken some of that seasonality out of the business, with the (inaudible) transition, it still is a fact that Q3 is our strongest quarter.

And then we also had some significant Generic launches including an unexpected one in Q3 which won't repeat themselves in Q4, so it's a sequential issue.

Just one follow up.

As we think about the Generic cycle I think there's some confusion about when is the ideal point in the cycle for you guys?

Is it the first six months, is it after the manufacturer base is rationalized, maybe 12 months after the six month exclusivity.

I mean I know it's different for each drug, but when should we think about, as this Generic wave rolls through, when is the ideal point theoretically in the profit cycle for a Cardinal?

John this is Kerry.

I just-- before we go on I just want to go back and say one think about the comment before, which is, I don't want it-- something implied by what we didn't respond to.

You implied that we might be guiding to the mid-point of the range which is giving a range.

Right.

Right.

And that's-- obviously the streets at kind of the high end of your range, and we're just trying to figure out where $0.12 of deceleration may come from which is unusual even considering the strong period ago a year ago.

Mark, would you like to answer that?

Sure.

John, as I understood the question it was what is sort of the optimal point in the life cycle of a Generic product for us from a profitability standpoint, is that correct?

Yes sir.

Okay, the answer is not necessarily life cycle specific.

Because it also depends a lot upon how many players are involved at various points.

But if you have a launch, and we've been pretty consistent with this answer.

If you have a launch with a six month period of exclusivity and there is the-- the challenger has that period and there are no other players involved except in authorized Generics, that those-- that is a good time for us.

It also can be a very good time for us right at the end of that period as new competition enters the marketplace and is bidding very competitively for the volume there.

But it also depend on how much new competition decides to move into the market.

I mean we've seen some very significant participation on a couple of big drugs lately, and that's brought the overall sale price of the product down, but even in the course of doing that it has been competitive to get to our volume.

So we've been able to be successful there.

So I'd say there's a couple of key places along the road, and a lot of it depends on how the manufacturers behave.

But we still maintain the view that Generic is good all through the life cycle.

I hope that gives you--

Great, thanks a lot.

And our next question comes from the line of Robert Willoughby with Banc of America Securities.

Please proceed.

Maybe adding to Glen's question.

I guess if the focus here is on some sort of economic profit metric even if that Supply Chain Medical Business is hitting plan or even exceeding by a modest amount, I'm not sure of the justification keeping it when there may what the justification really for keeping when there may be some buyer out there willing to pay up for it.

Well, this is Mark.

Let me talk about the business and the economic profit.

I can't comment on the question about (inaudible).

We do this as a very good business.

This is a business that we feel will perform very well for us over the long term and is a strategically is a highly complimentary to what we're attempting to accomplish in working with hospitals to increase productivity and increase patient safety.

So we feel good about this business.

We don't feel good about where it is right now.

And we're not going to be satisfied with that.

My comment is more from a strategic standpoint and from a possibility standpoint.

But believe me we're spending an awful lot of time and effort digging into this.

We've got a great sales force in this business, we've got great market position, and we've got some factors we feel are within our control to be able to address and that's exactly what we're going to do.

Thanks, Bob.

Next question.

And our next question comes from the line of Eric Coldwell with Robert Baird.

Please proceed.

Thanks, good morning.

This has already been touched on briefly.

But could you give us a greater sense on what the initiatives are in the Supply Chain Services Medical Group, specifically related to the north Chicago facilities and some of the internal announcements that have gone out in the last month?

Okay yes, this is Mark again, Eric.

The efforts specific to the north Chicago facility we've been very clear with our teams that we entered assessment period where we have been looking very carefully at whether or not that business-- the businesses that are located there are best served by continuing to be located there.

We are still in the assessment phase.

During this phase we have announced that relative to our Medical Products Group we've completed our assessment of that particular group and we see that it makes good sense to stay in north Chicago at this point.

And we're continuing our assessment relative to the Supply Chain Services Medical Business and the corporate functions that are located there.

Jeff, could you give us a split between how much of (inaudible) is one versus the other?

MPM verse SCS Medical in terms of either infrastructure, headcount, et cetera.

I don't have those numbers with me.

We could get back to them.

Eric could you repeat that question again, I'm sorry?

I am just trying to determine obviously you have a lot of land, a few facilities up there.

We're just trying to figure out about 2,000 employees, if I'm not mistaken.

Are you-- you've decided now to keep the Medical Products Manufacturing group where it is.

What would be the remainder of those total assets in the region here that could potentially I guess be moved to Dublin which is what people I think are expecting?

Eric, this is Kerry.

We just can't tell you that now because we're in the middle of an assessment phase and we haven't reached our final decisions.

And we haven't (inaudible) with employees, it'd just be totally inappropriate to deal with that right now.

Would it be expected that you would come to a conclusion on that say in calendar '07 is that a timeframe that's safe to benchmark?

Yes, Eric, this is Mark.

We've announced to our employees that we expect to have a decision available to them sometime during the month of May.

Okay, great.

Thanks very much.

Next question.

And our next question comes from the line of Andy Speller with A.G.

Edwards.

Please proceed.

Hi good morning.

My questions are on repricing and some of the larger retail clients.

Can you-- I mean I know you don't want to get into specific customers that are involved but were your top two customers involved in that, how long ago, are we talking greater than three years that these contracts were in place, and just maybe-- I mean there is some talk as we move into this fee for service environment that we could see pricing held at previous levels.

I guess this would indicate that that's not something that can occur?

This is Mark, Andy.

The customers that are involved we don't disclose who is involved in these major contract repricings other than that they were major customers for us.

The timeframe for the deals in place, I think you can safely say that they were-- you're right at three years or a little bit beyond three years in duration which tends to be a fairly constant-- fairly representative of the agreement that we have in our retail space.

And I think that's-- that gives you a pretty good characterization of what's going on.

Could you talk about may be the percentage of sales that these customers might impact?

I mean is it greater than 10, less than 10?

No.

I think you get the jist of it from the standpoint that these are major customers for us.

And the issue around whether or not you can hold the pricing, just-- can you just touch on, Mark, exactly why I guess we had pressure on the sell side?

Okay.

Yes Andy.

The-- we've been very consistent over the last few quarters identifying that we're seeing a fairly aggressive marketplace but a marketplace that has stayed at about the same level of aggressiveness, if you will, and I would say that these repricings are characteristic with that.

They are at the market conditions that are there-- that we've been seeing for the last few quarters.

Okay thank you.

Thanks Andy.

Next question.

And our next question comes from the line of David Veal with Morgan Stanley.

Please proceed.

Hey thanks.

Just a couple questions on your acquisition strategy.

I know you mentioned that you wanted to develop a full range of capabilities in Specialty Pharmaceuticals.

I wondering what piece of the equation you're missing at this point?

Yes, this is Mark again.

I don't want to give you the specific list.

But we believe there are additional capabilities that we're looking for.

We've got good opportunities to either develop those capabilities internally or to acquire those capabilities,and that's the pathway that we're on.

And those capabilities -- you're looking sort of to define what they are.

We look to what the manufactures have been telling us.

They are interested in us being able to perform in terms of services for them in order for them to distribute these complex products.

And that's exactly the target that we have.

Okay.

Just a [info macro] question for the corporate level.

When we think about, Kerry, you and I have discussed in the past that maybe Medical Products is going to be an important platform for acquisition driven growth in the future than it has been historically.

But when you kind of look on the list of the acquisitions they have been done in that space, it hasn't-- they haven't all been as successful as maybe you had hoped.

Is that still a big focus for you on a go forward basis, and how should we think about that?

Well I think that--again our stated goal is very much in terms of our capital strategy which we deployed, remains intact in which gives us a certain amount of money to look at certain investments.

We have over the last year we've-- last few years we've done a number that we would say were fairly successful I mean it was pointed out earlier today of the acquisitions we've since March '04, if you look at what happened in Medical Products, Snowden-Pencer, Alaris, Source Medical, Denver Biomedical, and I would say that the Care Fusion and MedMined and SpecialtyScripts.

But all of those except Snowden-Pencer are absolutely on track to deliver their acquisition economics which is to have an economic profit in terms of positive economic profit by year three.

So I mean we're managing to bring these in and do a pretty good job.

And we continually look for the right opportunities to tuck in more items into our Clinical and Medical Product space.

Thanks, David.

Operator, we have time for one more question.

And our final question will come from the line of Steve Halper with Thomas Weisel.

Please proceed.

So if the-- and I hate to kind of focus on this point again.

But you talked about a $0.05 impacts on the contribution in the fourth quarter, understood.

The long term growth expectations on EPS presumably you'll hit those in 2008.

Does that-- is the off of the number including the charitable contribution or excluding the charitable contribution?

Steve it'll be off of whatever number we end at 2007 excluding the special items and impairments.

Right but-- so that will compare with the charitable contribution?

Charitable contribution will be in the base number, (inaudible) that.

Right and PTS would be-- or the benefits from the PTS divestiture would be on top of that growth rate?

Yes, that is correct.

Keep in mind for FY '07 though that the contribution really is sized to offset the EPS impact of having the proceeds in PTS in FY '07.

Repeat that.

The size of the contribution to the Cardinal Health foundation is sized to about directly offset the up side impact we have from having the PTS proceeds in FY '07.

Got it.

Okay, thank you very much.

I would like to turn the call over to Mr.

Bob Reflogal for any closing remarks.

I would just like to thank everyone for their time today, and wish everyone a good Thursday.

Thanks.

Bye.

This now concludes your presentation.