麥卡遜 (MCK) 2012 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the McKesson Corporation quarterly earnings call. All participants are in a listen-only mode. (Operator Instructions). Just a reminder, today's call is being recorded, and if you have any objections, you may disconnect at this time. I would now like to introduce Ms. Ana Schrank, Vice President of Investor Relations. Please go ahead, ma'am.

Thank you, Lisa. Good afternoon, and welcome to the McKesson fiscal 2012 third quarter earnings call. With me today are John Hammergren, McKesson's Chairman and CEO, and Jeff Campbell, our CFO. John will first provide a business update, and will then introduce Jeff who will then review the financial results for the quarter. After Jeff's comments, we will open the call for your questions. We plan to end the call promptly after one hour at 6.00 Eastern Time.

Before we begin, I remind listeners that during the course of this call, we will make forward-looking statements within the meaning of the federal securities laws. These forward-looking statements involve risks and uncertainties regarding the operations and future results of McKesson. In addition to the Company's periodic and annual reports filed with the Securities and Exchange Commission, please refer to the text of our press release for a discussion of the risks associated with such forward-looking statements.

Finally, please note that on today's call, we will refer to certain non-GAAP financial measures, in which we exclude from our GAAP financial results acquisition-related expenses, amortization of acquisition-related intangible assets, and certain litigation reserve adjustments. We believe these non-GAAP measures will provide useful information for investors. Please refer to our press release announcing third quarter fiscal 2012 results, available on our website, for a reconciliation of the non-GAAP performance measures to the GAAP financial results. Thanks, and here is John Hammergren.

Thanks, Ana, and thanks, everyone, for joining us on our call. I'm pleased with our business performance for the third quarter of fiscal 2012, and with our announced agreement to purchase the independent banner and franchise businesses of the Katz Group Canada. For those of you unfamiliar with Katz Group Canada, it is a privately-owned Company that operates an integrated retail pharmacy network in Canada. Katz is a long-time, valued McKesson customer, and we are excited about this transaction. I will talk about the acquisition in more detail later in the call.

For our third quarter, we achieved total Company revenues of $30.8 billion, and adjusted earnings per diluted share of $1.40. Our results were solid for the Company as a whole, particularly for Distribution Solutions which was helped by our acquisition of US Oncology. Based on our year-to-date performance, we are maintaining our guidance range, and expect adjusted earnings between $6.19 and $6.39 per diluted share for the fiscal year ending March 31, 2012. Before I turn the call over to Jeff for a detailed review of our financial results, I will provide some highlights from both segments of our business.

Within our Distribution Solutions segment, our US pharmaceutical business led the way with another strong revenue result and solid expense control, which contributed nicely to the segment's growth. We continue to benefit from our longstanding relationships with branded manufacturers, delivering great value to them, and earning steady levels of compensation in return. Generics played evermore a significant role in US pharmaceutical. In the third quarter, one of the important launches was for the generic version of Lipitor. Thus far, the launch has been tracking nicely, and we expect it to meet our original full-year expectations. We have also been pleased with the relative price stability within the broader generics market, which is in line with our original forecast.

In our specialty health business, we hit the one-year anniversary of our acquisition of US Oncology. Our focus has shifted from the integration of the two companies, to now we are operating the business combined, and delivering an expanded value proposition to our market. We have a broad diverse specialty business, with solutions not only for oncology, but for a number of complex disease states. In addition, we have the innovative practice management and clinical support solutions that came to us through the US oncology acquisition, and a world-class vaccine distribution business, and a leading risk mitigation set of programs. These collective capabilities will help hospitals, community oncologists, and other multi-specialty providers improve the integrated care experience for patients and drive business and clinical innovation.

Finally, for both the third quarter and year-to-date, generics played an important role in specialty performance, but as certain molecules progress in their life cycle, that contribution will moderate going forward. Our Medical-Surgical revenues grew 2% in the quarter, reflecting steady market growth, partially offset by the fact that we experienced the majority of our sales of flu vaccine in the second quarter instead of the third quarter. We remain focused on delivering value to our Medical-Surgical customers by optimizing our sourcing of McKesson brand, where we deliver high quality, private label products at great savings. In addition, we continue to drive leverage through aggressive cost management.

Turning now to our Canadian business. We announced today our intent to acquire the independent banner and franchise businesses of Katz Group for approximately CAD920 million. We expect this acquisition will close in the first half of calendar 2012. This transaction is of strategic value to us, and financially it will generate a nice return in excess of our hurdle rates. On an adjusted earnings basis, the acquisition is expected to be neutral to McKesson's earnings in our current fiscal year, and approximately $0.10 to $0.20 accretive in the first fiscal year after closing.

In addition to the acquisition, we will also continue to serve as the primary pharmaceutical distributer to the Katz corporate-owned stores. We believe this transaction is a good fit with our long-term objectives in Canada, and supports our business strategy of expanding our retail and distribution presence in Canada, and growing our sales of higher margin products and services. McKesson Canada has a long history of supporting independent pharmacies through our banner offerings, our retail automation solutions, and our specialty offerings. The addition of the banner and franchise operations of Katz reinforces our ongoing commitment to the independent segment. McKesson Canada currently operates a number of banner groups including Proxim, Associated Retail Pharmacy and Family Healthcare Pharmacy. The new banner groups that we intend to acquire from Katz will be operated in a manner similar to the three existing banners, which means member pharmacies will remain owners of their pharmacies and will be responsible for the management of their business, while benefiting from McKesson's expertise and wide range of solutions. Banners in Canada provide a broad range of services to their members, which results in the banner itself generating profits through purchasing, marketing, and adherence programs.

We have been developing our offering in this area for the past two years, with the acquisition of Proxim in 2008 as an example. According to the survey conducted in one of Quebec's leading business magazines, Proxim ranks number one for customer experience compared to other pharmacies in the province. Due to the scale of this transaction, the offering of the value-added services to all of our banner customers will be enhanced. We've built a recognized brand in Canada with strong positions in every market segment and close customer relationships. We believe this acquisition allows us to maintain a leadership position in the market. This transaction will allow us to leverage the strengths of our complementary businesses, such as specialty and automation, with the Drug Trading and Medicine Shoppe Canada customer base.

Turning now to our results in our existing Canadian business. Coming into our fiscal year, we talked about the challenges we would face due to the effect of public policy-related price reductions on generic drugs. Over the course of the year, our Canadian team has worked to offset the impact of the price reductions. We've focused on generic compliance gains with customers, expense control measures, and capitalizing on global sourcing of branded and generic pharmaceuticals. I'm pleased to say that these mitigation efforts have been very successful. To sum up, Distribution Solutions -- in Distribution Solutions, we had a good third quarter performance resulting from our terrific combination of assets, and have confidence in our full-year performance.

Turning now to Technology Solutions. In the December quarter, we announced a series of product strategy changes in our hospital business to converge our core clinical and revenue cycle solutions. And in conjunction, we announced that we would stop development of one of our revenue cycle management products, Horizon Enterprise Revenue Management. As a result of this decision, our third quarter results included a pre-tax charge of $42 million. Excluding the charge, I'm pleased with our performance across the segment. The businesses that make up Technology Solutions performed well this quarter, resulting in strong revenue growth and adjusted operating margin enhancement.

With customers in virtually every healthcare segment, McKesson has a unique view of the healthcare industry. Over the past couple of years, with the introduction of Meaningful Use and the drive toward universal health IT adoption, the needs of the market and our customers have changed. A top near-term priority for our hospital and health system partners is managing the increased regulatory complexity. We are committed to getting our customers through Meaningful Use 2 and 3, and insuring our solutions comply with HIPPA 5010 and ICD-10. Our customers also need a path to the future, as they assume greater risk, coordinate care, manage populations, and collaborate with payers and others in the community.

Through the strategic use of information technology, McKesson can provide our customers with a broad perspective on what it takes to solve complex issues that they face. Across all of our technology businesses, we are continuing to invest significant R&D dollars to develop solutions that address the needs of our customers, both today and as healthcare reform unfolds. Over time, we plan to converge our core clinical and revenue cycle health IT capabilities for the Horizon and Paragon product lines on to Paragon's Microsoft platform. Paragon is an integrated core clinical and revenue cycle suite, built from the ground up over the past 12 years, with a single database that then becomes a complete clinical and financial repository. We are confident we can continue to serve our customers well, with an integrated core clinical and revenue cycle solution as their foundation, complemented by our broader set of assets.

With our payer facing health solutions business and our relay health connectivity business, we can connect our hospital and health systems partners to their communities, helping them align with physicians, coordinate care, create patient-centered medical homes, and form relationships with payers and others. This quarter we made good progress in our provider technology businesses with implementations of both of our Horizon and Paragon systems, and I'm pleased with how the implementations have rolled out during the quarter. In addition, our transaction processing business continues to steady -- continues it's steady performance.

Overall, I'm pleased with our progress in Technology Solutions, and I'm confident we have the right set of assets. As the largest healthcare services and technology Company, McKesson is committed to working with all participants in healthcare to develop innovations that lead to healthcare systems that are simultaneously high performing, accessible, and economically sustainable. In summary, I'm confident in the earnings potential of the Company, and pleased to have the financial flexibility to announce today's agreement with Katz Group, as well as the $650 million increase to our share repurchase authorization. I believe we are well-positioned for continued success. With that, I'll turn the call over to Jeff, and will return to address your questions when he finishes. Jeff?

Thank you, John, and good afternoon, everyone. As you've just heard, McKesson delivered solid third quarter operating results in line with our expectations, though our results did include a $42 million product alignment charge in our Technology Solutions segment in the quarter. Overall, one month into the fourth quarter, we continue to expect a strong finish to the year. Let me briefly start by mentioning one other item, that while not impacting our adjusted earnings, did impact our GAAP results this quarter, specifically the $27 million AWP litigation charge. As you'll recall, McKesson had previously settled all private payer AWP claims during the third quarter of fiscal 2009. Since then, we have continued to work through the remaining public entity claims.

We have been engaged in ongoing settlement discussions to resolve potential and pending federal and state Medicaid pending program claims relating to AWP. We have now reached agreements in principle with the Department of Justice, and the Coalition of State Attorneys General to resolve both federal and state Medicaid claims relating to AWP. We expect substantial participation in the state settlements, although the final level is not yet known. As a result of these agreements, and progress made towards potentially resolving other public entity claims, the litigation reserve has been increased by a pre-tax charge of $27 million. This charge has been recorded in the Distribution Solutions segment, and it equates to $0.06 per diluted share.

My remaining comments today will now focus on our $1.40 adjusted EPS, which as you recall excludes three items, acquisition-related expenses, amortization of acquisition-related intangibles, and certain litigation reserve adjustments, including the $27 million pre-tax AWP charge I just discussed. The numbers I will review in my discussion can be found on Schedules 2 and 3, included in today's press release.

Let me now begin with our consolidated results for the quarter, which can be found on Schedule 2A. Consolidated revenues for the quarter grew 9% to $30.8 billion. Excluding the impact of US Oncology, total revenues increased 6% for the quarter, with both segments contributing nicely to this result. Total adjusted gross profit increased 7% for the quarter to $1.6 billion. There are a number of moving pieces here in each segment, so I'll leave further comment until we get to our segment discussion.

Total adjusted operating expenses for the quarter increased 9% to $995 million. Excluding the impact of US Oncology, overall adjusted operating expense grew roughly 3% year-over-year. For the full year, we expect our adjusted operating expense growth to be in the neighborhood of 2% to 4%, excluding the impact of US Oncology. Other income was a loss of $2 million for the quarter, primarily driven by an asset impairment we recorded in our corporate segment. Interest expense of $64 million increased for the quarter, primarily due to the debt we put in place as a result of the US Oncology acquisition. Our full-year assumption of $260 million of interest expense in fiscal 2012 remains unchanged.

Moving now to taxes. Our adjusted tax rate for the quarter of approximately 31% benefited from $5 million of favorable discrete tax items, but is otherwise roughly in line with the 32% run rate that we continue to expect for the full year. Adjusted net income for the quarter was $351 million, and our adjusted earnings per share was $1.40. As a reminder, this $1.40 adjusted EPS includes approximately $0.11 related to the product alignment charge John discussed earlier, that we took in our Technology Solutions segment this quarter. To wrap up our consolidated results, this year's earnings per share number was aided by the cumulative impact of our share repurchases, which lowered our diluted weighted average shares outstanding by 3% year-over-year to 251 million. We continue to expect our full-year average diluted shares to come in a bit below the original guidance assumption of 253 million shares outstanding.

Let's now move on to a discussion of our two segments, which can be found on Schedule 3A. The Distribution Solutions total revenues increased 9% for the quarter versus the prior year. Direct distribution and services revenues grew 11% for the quarter to $21.6 billion. Excluding the impact of US Oncology, third quarter direct revenues increased 7%, primarily due to market growth rates. Warehouse revenues were up 10% for the quarter to $5.2 billion, primarily driven by revenues associated with a new customer. Canadian revenues on a constant currency basis declined 3% in the quarter, due in part to government-imposed price reductions on generics and one less sales day. Including an unfavorable currency impact, revenues decreased 4% for the quarter. As John mentioned earlier, the team has done a good job thus far, mitigating the regulatory challenges we faced coming into the fiscal year, and our Canadian results continue to track favorably to our original plan.

Medical-Surgical revenues were up 2% for the quarter to $760 million, primarily driven by market growth, along with the fact as John said that we saw earlier sales of the flu vaccine this year, as compared to last year in our Medical-Surgical business. Adjusted gross profit for the segment increased 11% for the quarter to $1.2 billion. Excluding the impact of the US Oncology acquisition, Distribution Solutions adjusted gross profit would be up approximately 3%. Distribution Solutions adjusted operating expense was up 10% for the quarter, though excluding US Oncology, our adjusted operating expense growth was just 2%. We are pleased with the team's ability to control expense growth. The adjusted operating margin rate for the segment was 191 basis points this quarter, versus 188 basis points a year ago. As you have heard me say many times before, given the quarterly timing fluctuations in this segment, we always focus on full-year margins. Therefore, for full-year fiscal 2012, we continue to expect Distribution Solutions' adjusted operating margin improvement in the high single digit basis points.

Moving now to Technology Solutions. Let me start by talking about the $42 million pre-tax product alignment charge, which equates to approximately $0.11 after-tax. This charge, which was recorded in our provider technology, hospital-facing business was comprised of $22 million of non-cash asset impairments, $6 million for severance, $6 million for customer allowances, and $8 million for other product alignment initiatives. Total segment revenues were up 4% for the prior year to $823 million, primarily driven by growth in our provider technologies business as a result of progress made with customer implementations. As a reminder, last year's third quarter included approximately $23 million of previously deferred revenue related to a disease management contract with CMS. So when you exclude the favorable impact of this $23 million in the prior year, Technology Solutions revenues grew approximately 7% for the quarter versus last year.

Technology Solutions adjusted gross profit decreased 3% to $370 million, driven in part by the current year's product alignment charge. Of the total $42 million charge, $26 million was recorded in the cost of sales line. Excluding both the impact of $26 million from the product alignment charge this year, and the $23 million of deferred revenue recognition in the prior year, Technology Solutions adjusted gross profit increased approximately 10% for the quarter. Technology Solutions operating adjusted operating expenses increased 8% in the quarter to $282 million. $16 million of the total $42 million product alignment charge was recorded in the adjusted operating expense line, so factoring this out, adjusted operating expenses would have increased just 2% for the quarter.

While we've had tight control on our expenses, we do continue to invest in the business for our customers. Total gross R&D spending in the segment was $113 million for the quarter, an increase of 4% versus the prior year. Of this amount, we capitalized 8%, compared to 10% a year ago. Our adjusted operating margin in the segment was 10.81% for the quarter, compared to 15.32% in the prior year. If you exclude the current year product alignment charge, adjusted operating margin would have been roughly 15.92% for the quarter. For the full fiscal year, excluding the product alignment charge, we now expect to be more towards the mid point of our long-term adjusted operating margin goal range of 14% to 16%, given the good progress we have made with customer implementations.

Leaving our segment performance, and turning now to the balance sheet and working capital metrics. Here again, timing can have a meaningful impact on each of our working capital metrics. Our receivables were $9.7 billion, up from the prior year balance of $8.7 billion, and our day sales outstanding increased to 25 days from 24 days last year. Compared to a year ago, inventories were up 9% to $10.4 billion, while payables were up 15% to $15.7 billion. So our day sales in inventory of 32 days was flat to the prior year, while our day sales in payables increased to 3 days from a year ago to 48 days. These working capital metrics resulted in McKesson generating $1.7 billion in operating cash flow year-to-date. For the full year, we continue to expect to generate in excess of $2 billion in cash flow from operations.

We ended the quarter with a cash balance of $4.2 billion. Of this amount, approximately $2 billion was offshore, and a portion of that balance is expected to fund the acquisition of the Katz Group assets that we announced today. In thinking about our domestic cash balance, which does remain above our minimum cash balance needs, we will of course, consider our portfolio approach to capital deployment. As part of this approach, we are pleased that the Board of Directors recently approved an additional $650 million share repurchase authorization. Our total share repurchase authorization is now $1.5 billion, giving us additional flexibility to deploy our capital and maximize shareholder value in a variety of ways. Overall, our gross debt-to-capital ratio was 35% for the quarter, right in the middle of our target range. Returning to our cash flows, capitalized spending was $307 million for the first nine months of the fiscal year, trending as expected at $450 million to $500 million for the full year.

Now I'll turn to our outlook. As John mentioned earlier, we are maintaining our guidance on adjusted earnings at $6.19 to $6.39. The continued strength we saw across pretty much all of our businesses in both segments, effectively offset the product alignment charge we took this quarter as we think about our full-year results. One final point about our fiscal 2012 outlook. We expect $0.07 for acquisition-related expenses, and $0.48 for amortization of acquisition-related intangible assets. In addition, due to the AWP litigation charge we recorded this quarter, we are now assuming $0.37 for litigation reserve adjustments.

In closing, we feel good about our operating results, and about the strength of our balance sheet, which supports our portfolio approach to capital deployment. We remain optimistic about the future of our businesses. Thanks. And with that, I'll turn the call over to the operator for your questions. In the interest of time, I would ask that you limit yourself to just one question, and a brief follow-up to allow others an opportunity to participate. Operator?

Thank you, sir.

(Operator Instructions).

Robert Willoughby, Banc of America Merrill Lynch.

John or Jeff, what are you buying with the Katz acquisition exactly, in terms of bricks and mortar? And what are the gives and takes on the model? I guess it is a current customer now. What kinds of adjustments do you anticipate us making from a revenue standpoint if any?

Thanks, Robert, for the question. I think the way to think about this is that it is very similar to the banners operations we are already involved in operating in Canada. So we will take over the responsibility of owning the banners and operating the banners. And in Canada, I would say that our experience has been, we have a more fulsome relationship with those banner operators, and the ability to provide additional products and services to those customers that improve our performance, and simultaneously improve their performance.

So our goal always is to find tools that we can bring to our customers that make them more successful, and in return improving our business performance at the same time. So although there won't be a lot of incremental revenue associated with the transaction, we certainly believe it will have a very nice returns, and well above our cost of capital when you think about it from a financial context.

So it's a franchise fee or something you're booking, and the distribution revenues you've probably already included already then?

Yes, that's the way to think about it. We don't own the stores physical plant, and we don't own the pharmacists, quote, unquote. They still operate their stores, but we run the rest of it.

And any -- hazard a guess on the amortization on the deal?

It's always difficult Bob at this point of the process, to know what's going to end up on the balance sheet as something we aren't going to amortize, versus something we are going to amortize. That's why we tried to give you a little bit of guidance on an adjusted EPS basis, since we're not really sure what the final non-cash amortization will be.

Okay. Thank you.

Robert Jones, Goldman Sachs.

Just to follow-up on the acquisition. I think we've all known about some of the reimbursement pressures on generics from the Canadian government. I know this is just one quarter, but sales from the Canadian business looked a little soft this quarter. I guess maybe just, why now on the Katz Group, what made the timing right now make sense?

Well, as we've mentioned -- I mentioned in my prepared comments, we have been very successful at mitigating some of the efforts associated with the regulatory changes. And clearly, we have better visibility into those regulatory changes today, than we might have had even last year, or certainly a couple of years ago. So we understand their effect, and we certainly can contemplate what effect they may have on a deal like this acquisition that we just announced.

Having said all of that, we believe scale matters in all of our businesses. And our ability to bring our sourcing power together with their demand, coupled with our existing demand, will only improve our ability to help our customers get the right products at the right price, and continue to deliver great service to patients throughout those markets. So we're very optimistic on how this looks to us.

Great. And then just switching over to the IT business, we saw the charge related to RCM this quarter. Was wondering will there be -- sorry if I missed this, will there be another charge next quarter related to this? And then I guess more broadly, can you maybe talk about the outlook for Horizon Clinical, and maybe the long-term impact this could have on the overall clinical franchise?

Let me start, Robert. In terms of a charge, there may be $200 million that we incur in the March quarter, but all of that would be factored into both the EPS guidance I gave, as well as the comments I made about the margins for the full year that we expect in that segment. So we're excluding this charge, pretty optimistic, and certainly we took all of the actions we did on these products, because we think it really positions us and our customers well for the long-term.

Turning to the Horizon Clinical question -- and I guess just a clarification too, Robert, on revenue cycle management. We are no longer developing the Horizon platform of revenue cycle or enterprise revenue cycle management. But the revenue cycle Management business inside of McKesson is alive and well, both in the form of Paragon's revenue cycle and financial systems, but also Relay and other parts of our business provide revenue cycle tools that are very valuable to our customers. So the only business that we really shut down with this acquisition or excuse me, with this announcement was the development effort under way for Horizon enterprise revenue management.

On the Horizon Clinical side, we have a lot of work to do to continue to help our customers get through Meaningful Use 2 and Meaningful Use 3, to make sure our products are all contemporary with the regulatory requirements that are necessary, and we plan to continue to support that product vigorously through that phase. There are no announced plans, nor internal plans to sunset the Horizon clinical product lines. We believe our customers will continue to get great value and utility out of Horizon clinicals. But we also believe over time, they will begin to look at some of the other products and applications that we have in addition to Horizon Clinicals as alternatives.

Okay. Great. Thanks.

You're welcome.

Tom Gallucci, Lazard.

Thanks for all of the details. First one, was just a quick one on Katz. You already owned some banner sort of franchises. Can you just describe the competitive landscape? Will existing ones see this as an increasingly competitive move internally, or just sort of how do you view that issue?

Well, we run over -- we're involved in over 600 banners in the country of Canada now. But they are largely outside of the area where the Katz, in fact, I think entirely outside of where the Katz stores reside. So there isn't a lot of competitive overlap. Furthermore, there's probably more interest from our existing banners to see the benefit of a larger-scale banner operation run by McKesson in Canada. So I think we will -- Katz has not experienced much attrition of their banners over time. They've had a great deal of customer satisfaction and loyalty. And we believe that loyalty will not only remain in place for us, but perhaps even improve as we go forward. And we should be attracting more people into our banners across Canada, over time because of that value we deliver.

Okay, great. That's helpful. And then my follow-up, obviously, there's been a lot of speculation in the investment community anyway, on potential customer churn, and bringing generics in house, or not by various customers. Just want to give you the opportunity for you to comment on, on either on any customer specifically, or the competitive landscape generally as you see it.

Well, thank you for the question. Any year that goes by, there's always a few ins and outs in the customer base, and we clearly want to retain as many as we can. But we're also not unrealistic and know that occasionally for whatever reason, we will win or lose a customer. We have a view that I think the market remains competitive, but stable. And our sales forces are always out there trying to make sure that we're moving up the value chain with our customers, improving their performance, and getting them to realize that through McKesson's service, they're getting a great result.

Now clearly, as we did -- we began this year I believe, we focused on expanding our operating margin in the 200 to 250 basis point range. We gave that guidance, because we believed the markets would remain competitive and stable. And that we would be able to drive value through the mix of business that we're selling to our customers, and through the efficiencies we can run in our operations. So we made -- we remain very focused on those objectives, expanding our margins, and that objective would not be attainable should we enter into a price-oriented sale into our marketplace.

As it relates to generics in house versus out of house, clearly, we're always focused on helping our customers do a better job of buying products. We hope that their number-one choice of supply will come through us, and we have to earn that privilege. But frankly, none of our contracts acquire 100% use of McKesson from a generic sourcing perspective. And we do have specific contract terms with all of our customers when we set our pricing that lays out our expectations, and our customers meet the expectations as we've laid them out in our contract.

So we really don't leave this as an open-end question, Tom. It's a very thoughtful process and we as part of our discussions with our customers when these contracts are put in place, we anticipate their desire to perhaps move in and out of the generic business a little bit on their own. But it really is, I think the larger-scale movement that we've noticed is our customers coming more to McKesson for generics en masse, as opposed to leaving McKesson, from a generics perspective.

Thanks, Jeff, John.

Larry Marsh, Barclays Capital.

Two clarifications, and a question really if I could. Katz, are you saying $0.10 to $0.20 accretive to adjusted earnings for fiscal '13? And if so, that's about a $35 million swing factor. What would cause a variation, to get to the high and low end? And then a quick follow-up on Horizon.

Well, Larry, what we're really saying is $0.10 to $0.20 in the first 12 months after it closes. We're anxious. We think this is a very straightforward transaction from a regulatory perspective. And we're hopeful to get it closed quickly. What we put in the press release, you'll note is an expectation that certainly will get --

Right.

-- closed sometimes during the first half of the calendar year. As to what would provide that big swing, look, we haven't even closed the transaction. We haven't given guidance for FY '13. You're quite correct, that we'll be able to narrow the range as each of those two things happen. But we're just trying to give people an initial feel for the magnitude of this transaction.

Got it, okay. And then the $42 million for Horizon Enterprise, $20 million of that is cash expense. Could you elaborate on what those are, and is that any sort of guide of what we could think about, in terms of ongoing cost savings now that you're not going to be supporting the specific development of Horizon Enterprise revenue management going forward?

Yes, I don't think I've quite broken out cash/non-cash. But you are correct, that there's $22 million of writing stuff off on the balance sheet, mostly prepaid licenses, those sorts of things, a little bit of capitalized software. And you have $6 million of severance, because as John pointed out in his remarks, the one place where we did shut something down, is we have stopped development on the Horizon Enterprise Revenue Management platform.

Right.

Some of those folks have been very usefully redeployed on our expanded development efforts on Paragon. And we certainly continue to develop the Horizon Clinical product. But there's some net savings from that severance. And then the other charge was for the modest number of Horizon Enterprise Revenue Management customers, where we had contracted in place, we've clearly reached agreement with those customers on how we're going to proceed with them going forward.

Okay. If I just -- I know you've shown a very consistent rate of growth over a long period of time, I guess the ten plus years that you've been CEO, John, and for fiscal '13 communicating some potential accretion with Katz. But, I know you're going to guide in May, but are there any other big puts and takes we should think about at this point of the year, as we think about fiscal '13?

As you said, it's probably a little early for us to think about fiscal '13. There are some headwinds and tailwinds, as we think about that time line. Clearly, oral generics are going to be a positive, and the whole industry is expecting that. At the same time, we'll probably have a little bit of a headwind, from a specialty generic perspective, in a (inaudible) year-over-year kind of compare.

We believe that the balance sheet will continue to provide significant opportunity for us going forward, in our portfolio approach. Having said that, we also are going to probably face a little bit of a headwind from the VA contract, which as you know is eight years old. And if we're fortunate enough to renew it, it will provide a little bit of a head end --headwind even renewing it. But having said all of that, I think that we feel we're very well-positioned in our industry. Demographics support the growth of our businesses, and I think we will continue to see good results out of our Company.

Very good. Thank you.

The only other thing I'd add, Larry --

Yes.

-- is as we've talked about in the past, some of the regulatory pricing step downs in Canada. There's one further step down --

Right.

that will create a little modest headwind for us next year as well.

Okay, very good. Thanks.

Steven Valiquette, UBS.

Another question here on the Katz Groups. So I think at one point last year, I think they were testing that self-distribution model. But I think it was ultimately terminated, but I'm just curious if the prospect of Katz Group moving to the self-distribution model, does that play any role in this acquisition, or does it really have nothing to do with it?

I don't believe it had anything to do with it, at least from our perspective. I don't know what the Katz Group had contemplated in that process. But we had already renewed the Katz agreement for both their corporate stores and these banners, prior to us really entering into any significant dialogue about what they might do with their banner operations. So and I think the corporate store agreement that's going forward, hasn't been really materially impacted as a result of this arrangement.

Okay. All right, thanks.

Charles Rhyee, Cowen and Company.

Just wanted to follow-up on the provider technology segment here. First off, Jeff, you said that for the full year, if we ignore the charge for the realignment plan, for the full year we're going to come into the middle of the range -- that kind of suggests maybe a sequential down tick in the margin. Is there anything in particular in the fourth quarter that we should be thinking about?

Well, I think, at least as I do the math, Charles, that depending on whether you're towards the high end of the mid point, or the low end of the mid point, you don't necessarily go down sequentially. We're not trying to telegraph anything about the March quarter, and don't particularly expect it to be down sequentially. We have had a pretty good year in MTS. And so it probably is less March-quarter loaded than the history of that business might suggest.

The other thing that you've heard us talk about over time, is as the transaction processing and payer facing businesses in that segment have continued to grow and become a larger portion of the total earnings, those tend to be businesses that are pretty steady quarter-to-quarter. And it's really the hospital software business that historically has been pretty March loaded. So you put all that together, and we really have a much more even flow of earnings, excluding the charge, across the year. And we're not trying to signal anything other than that.

Great. And John, just a clarification, when you're talking about the realignment plan. And you're here calling very specifically, that it's really stopping development on Horizon Enterprise Revenue Management. But at the same time, if I recall, there was an earlier interview that was in print -- and I think it was with Dave talking about sort of the strategic road map here, and offering the option for clients to go to Paragon, for Horizon clients on clinicals that choose to go to Paragon, is this considered just a switch over that's counted within maintenance, or would they have to repurchase the Paragon suite?

Well, I think the simple answer is, it depends. If they -- each customer is really working with us on a specific plan, if they want to move to the Paragon product line our role is to make sure that they feel good about a transition like that. And that in the end of the discussion, they get more -- and when they get more functionality and lower cost of ownership, they are even more satisfied with McKesson. So I think that each relationship will take on a different tenor.

I think there are some customers already, that have already said to us, you know what? This is good news from our perspective. We like the Paragon platform. We understand what you're trying to do with it from a development perspective. And we think it will position us very well, when we think out to 2020 for the kind of demands we're going to have around medical home and accountable care, and other things we have to do with that the existing marketplace products really won't deliver for us. And so those folks are already in in-depth discussions.

But having been involved in some of them, there are no two alike, because there's really no two customer footprint that's identical to another. So I would say that most important take away from this is, is that we're doing everything we can to make sure that our customers are making the right decision for them, at the right time. And this is just another alternative for them to evaluate. Particularly if they are already on the Horizon platform, they have this as an option, and we're not going to force them to evaluate it right now, and we're not going to force them to make any changes until they're ready.

No, that's helpful. And if I could just add one quick last follow-up here. As we think about the next phase of this space, I mean it sounds like you're -- with this development and focus on integrated sort of clinical to financial offering, also conjunction with your sort of ending development on the Horizon ERM by itself, is it really the next sort of phase of this industry, that really moving to a clinical, sort of fully integrated platform that clients are looking for?

Well we think there will be three things they are going to have to focus on. Certainly, one is the integration of clinical and financial records, and sort of a longitudinal view of the patient, both inpatient and outpatient. The second is going to be cost of ownership. And frankly, most of our provider customers are under tremendous pressure to reduce costs. And we believe that the Paragon platform in particular, will provide a very low-cost solution for our customers over time. And the third element, that most of them are beginning now to come to grips with are probably two dual functions.

One is the web enablement of products, the ability to have sort of access, anywhere, any time to the data they need from a myriad of sources, whether they're payer sources, or whether they are retail pharmacy sources, or consumer-related connectivity. And the second dimension is the analytics on the data that they're getting access to. So we're investing heavily in both sort of the web strategy, the connectivity strategy, as you've heard us talk about with Relay. And you've also heard us talking about advanced analytics as a component part.

So a product that's fully functioning, integrated, single data view of the patient, low cost of ownership, and increasingly flexible enough to integrate with the other constituents in healthcare realtime in a web friendly kind of software-as-a-service way, as well as this analytic engine.

(Operator Instructions)

Ross Muken, Deutsche Bank.

Maybe on the generic pricing front, any updated thoughts on the level of inflation we're seeing, and whether there's been any change to the trend we've seen over the last couple quarters?

I don't think we've seen any significant trend changes. The price performance of generics is largely in line with our expectations and relatively stable.

Okay. Maybe just quickly on the cap deployment front. I mean, I saw you up-sized, and Jeff you talked about the buyback. And we've obviously -- I think it's been two straight quarters where we've had little activity, and it makes sense given the M&A. Is sort of the signal here, at least maybe later in this year or as we turn into your fiscal '13, given the size of the remaining buyback we'll start to see that activity pick up again?

Well, Ross, you know that we never comment on share buyback, we're planning to do. I would just make, or reiterate maybe the couple observations that I made in the script. And that if you look at our domestic cash balance, it was a little over $2 billion, and we probably need in our domestic system, let's call it $750 million or so. So there's a significant level of excess cash, which as you point out has been sitting there for a while. And we don't try to every quarter sweep our balance sheet down to the absolute minimum cash balance level.

On the other hand, we don't have a plan to forever sit on cash. So you should expect to see us in the relative near to medium term deploy a significant amount of domestic cash. And what you see from our Board's actions is we now have the flexibility, if the best way to do that is through share repurchase to do that.

Excellent. Thanks, Jeff.

Lisa Gill, JPMorgan.

My first question would just be around your direct drug distribution revenue. John, up 7% is clearly better than what we're seeing any where else across the channel. Can you maybe talk about specific, if it's specific customers? Are your customers buying more product from you? How should we think about this, and also think about it on a go forward basis?

Well, we're clearly pleased with our revenue performance, Lisa. And I think it really is sort of strength across the board with our customers. The -- I wouldn't want to forecast off of that kind of revenue growth, but I do believe that we're just experiencing a by-product of our customers' continued success. We did on the indirect or warehouse revenue line, we did pick up an incremental customer there, that's added to that strength.

Okay. And then just a follow-up, John, on the VA contract. I understand there will be a hearing on Wednesday. Any thoughts around what they're looking at as they look at the overall prime vendor contract? And any thoughts as to what potentially could come out of this hearing on Wednesday?

Well, we are aware of the hearing, and we'll actually be participating in the hearing. We are proud of the service we provided to the VA, and the kind of savings we've provided. We clearly know there's been questions raised about certain elements of the way the VA has executed their activity under our agreement. And we continue to participate as asked, in the discussions that are under way. We don't believe it will have any impact on their consideration of us, as a potential awardee of this contract that's coming up in May.

Okay, great. Thank you.

George Hill, Citi.

And just a quick comment, I must not be getting north of the border too much, because we call them [Katz -- short a] down here, as opposed to [Katz -- long a]. Just on -- circling back on the IT business for a second, is there any chance you'd be willing to quantify for us potentially the revenue at risk, or the value at risk if we think of how much revenue is tied to the legacy Horizon Revenue Management base?

Well, we'd like to think that none of our revenue base in Horizon is at risk, because we've committed to our customers to get them through the most important aspects associated with their near-term priority, and that's Meaningful Use 2, Meaningful Use 3 and clearly some ICD-10 work that is going on in many of our product lines. Our commitment to their satisfaction, and to them accomplishing their objectives is unwavering. And this announcement only affected a small subgroup of our customers that were developing strategies to implement Horizon Enterprise Revenue Management.

Clearly, those handful of customers we had to go to, and have a conversation about the fact the product they had ordered, or had an interest in ordering is not going to be available. And their alternative would be to return to the STAR platforms that many of them are on, or stay on STAR, or consider the Paragon Financial strategy. As it relates to Horizon Clinical customers, clearly there are some that are asking questions about whether they should stay on Horizon, whether they should go to Paragon, or whether they should consider going to an alternative.

I think the number of customers that are in that bucket probably, although it may not be the same names, probably hasn't changed an awful lot since we announced the Paragon strategy. And as you know we've had some challenges with the Horizon Clinical implementations. We believe that we've made significant progress now, and to a large extent the history of the product is overshadowed by our current success with the product. Having said that, clearly we always have customers that might be considering alternatives. But our goal here for that small set of customers that are considering alternatives, is to give them one more, which is to move to Paragon, because we believe Paragon for some of our customers will be a nice choice, particularly if they believe Horizon isn't meeting their needs.

That's great color, John. Maybe just a quick follow-up, just remind me, if I'm remembering kind of the product roll up right. So it was Healthquest, STAR, and Series that rolled up under the Para -- I'm sorry, under the Horizon banner. And then Paragon was part of the acquired product that went in that direction?

Well, Healthquest, Series, and STAR were actually older brands that were acquired or companies, and those products had remained and do remain largely unchanged, however, always updated for certain functionality and regulatory compliance. The Horizon Financial product was a brand new product that had no basis, from an acquisition perspective. And the Horizon Clinical product line was not built off of the STAR, Healthquest, or Series platforms. It was a lot of internal development, as well as some acquisitions on the outside.

So I think Horizon Clinicals and Horizon Financials were two different strategies, from a product-architecture perspective coming together later. And there is -- one of the nuances that our customers and our shareholders should understand is that we use the Horizon name, perhaps more liberally, than just on the clinical products. You might recall we that acquired a medical imaging product, that's leading in the industry from a company called ALI, that has been part of McKesson now for a long time, that's actually called Horizon Medical Imaging for example.

And that product line is on a Microsoft platform, and will not be touched by the changes we've just announced with Horizon Clinical. So the Horizon name is used in the business as a branding tool that isn't necessarily accurate as it relates to architectural decisions, or other decisions that might be made with the product.

(Operator Instructions)

Ricky Goldwasser, Morgan Stanley.

So two follow-ups here. One on the potential headwind from the VA contract, if you renew it in fiscal year '13. Should we think about the Katz acquisition, as like kind of like filling that void, if you achieve the upper end of the guidance range for the acquisition?

Ricky, I guess I don't see any relationship. We have a long track record of using our portfolio approach to capital deployment, to make when everything (inaudible) makes sense strategically, and financially, and that's what Katz is. The VA is obviously a unique situation, given the unique nature of the bidding process. And we'll just have to see how that comes out. But I wouldn't in any way tie the two together.

I would say though, Ricky, our goal obviously is to grow our Company and to grow it profitably, and to deploy our capital intelligently. Those are not in conflict with our strategy with the VA contract. And I would say there are two parallel paths headed in the same direction, which is a high performing Company doing the right thing for our customers and our shareholders. But certainly, we would have pursued the Katz acquisition regardless of what happens with the VA. And we'll pursue the VA, regardless of the fact that we acquired Katz. And so I think that's the point we're trying to make.

John Ransom, Raymond James.

How are you guys thinking about the AMP effect that apparently is going to go into effect in 2013, both in terms of the Medicaid reductions number, but just more the potential transparency it brings to generic and the effect on margins?

Well, the AMP stands for average manufacturer price. This is an activity our government has been pursuing for some time, as it relates to the way they reimburse purchases to our customers. So it really is not something that would directly affect wholesaling in our country. And I think that we are continuing to study what's going on with AMP, just like everyone else in the pharmaceutical business and I don't -- and other than the fact, that we're always trying to optimize the performance of our customers and to make sure that they're being well compensated for the service they provide, our interest in AMP is more of an observer.

Eric Coldwell, Robert W. Baird.

If you could, could you tell me what the average revenue for an independent pharmacy in Canada is, just big picture?

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

Yes, the average revenue for an independent pharmacy in Canada. Is it in the ballpark of $2 million, thereabouts?

Yes, I don't know. It's probably in the $2 million to $3 million kind of range, I am just guessing based on these numbers. But Jeff, do you have a --?

Yes. There is a wider range than that. So we have stores that are even a little under a $1 million up to that $3 million range but it depends on how you define independent as well.

And how you define average.

Thank you very much for your questions today. I want to thank you all for getting on the call. I'm certainly pleased with our year-to-date performance, and I am excited about the opportunities that lie ahead. I'm now going to hand the call off to Ana, for her review of upcoming events for the financial community.

Thank you, John. I have a preview of upcoming events. On February 8, we will present at the UBS Healthcare Services Conference in New York. On May 8, we will present at the Deutsche Bank Healthcare Conference in Boston. On May 15, we will present at the Banc of America Merrill Lynch Healthcare Conference in Las Vegas. We plan to release fourth-quarter earnings results in early May. We look forward to seeing you at one of these upcoming events. Thank you, and goodbye.

Once again, ladies and gentlemen, that does conclude today's conference. We would like to thank you all for your participation. Have a great day.