麥卡遜 (MCK) 2018 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the McKesson Fourth Quarter Earnings Call. Today's conference is being recorded.

At this time, I'd like to turn the conference over to Craig Mercer. Please go ahead, sir.

Thank you, Nicole. Good morning, and welcome to the McKesson Fiscal 2018 Fourth Quarter Earnings Call. I'm joined today by John Hammergren, McKesson's Chairman and CEO; and Britt Vitalone, McKesson's Executive Vice President and Chief Financial Officer. John will first provide a business update, and then Britt will review the financial results for the quarter and full year. After Britt's comments, we will open the call for your questions. We plan to end the call promptly after 1 hour at 9:00 a.m. 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, current and annual reports filed with the Securities and Exchange Commission, please refer to the forward-looking statement slide and text of our press release for a discussion of the risks associated with such forward-looking statements.

Please note that on today's call, we will refer to certain non-GAAP financial measures. In particular, John and Britt will reference adjusted earnings, adjusted operating profit margin, adjusted operating profit margin excluding noncontrolling interest, free cash flow and items excluding foreign currency exchange effects.

Please note McKesson will no longer provide forward-looking GAAP earnings per diluted share guidance. The company is unable to provide this information without unreasonable effort, given the inherently uncertain factors impacting forward-looking GAAP results, many of which are beyond the company's control, such as LIFO inventory-related adjustments, gains from antitrust litigation and certain impacts from federal tax reform.

We filed a second 8-K with the SEC today, which includes supplemental historical segment financial information for fiscal 2016, 2017 and 2018 results as well as quarterly information for fiscal 2018. This will allow you to compare our fiscal 2019 outlook to our historical results on a same-segment basis.

Finally, I would call to your attention the supplemental slide presentation that we will reference on today's call, which may be found on the Investors page of our website at mckesson.com. We believe the earnings press release, supplemental slides and the supplemental historical segment information 8-K filing, which all include non-GAAP measures, will provide useful information for investors with regard to the company's underlying operating performance and comparability of financial results period over period. Please refer to these materials, which may be found in the Investors section of our company website, for further information and a reconciliation of the non-GAAP performance measures to the GAAP financial results.

Thank you. And here is John Hammergren.

Thanks, Craig, and thanks, everyone, for joining us on our call. I'm pleased to report our fourth quarter adjusted earnings of $12.62, representing a 1% growth year-over-year. These results were consistent with what we communicated a month ago, which included a lower tax rate, stronger operational performance and our $100 million contribution to create the new nonprofit foundation.

And our fiscal 2019 outlook for adjusted earnings of $13 to $13.80 per diluted share represents low to high single-digit percentage growth year-over-year. This outlook reflects a competitive but more stable market environment and effective capital allocation while including the anticipated headwinds in our European and Canadian businesses.

I would also remind you that our multiyear strategic growth initiative is not expected to materially impact our financial results in the coming year. We are in the preliminary phase of implementing the strategic growth initiative and efforts are well underway across the organization. We'll provide more details on our progress as well as our growth initiatives at our Investor Day, which is scheduled for the end of June.

Turning back to our operating performance. I'm pleased with our fourth quarter results, which were driven by solid execution across multiple businesses. And for the year, we were able to deliver results that were largely in line with our expectations outlined at the beginning of the year. Britt will cover our annual financial performance in greater detail, but let me provide some color on the year just concluded.

During fiscal '18, we've demonstrated our sourcing expertise and shared significant benefits with our partner Walmart. We are excited about what we were able to deliver as well as the potential for expanded opportunities through this partnership. We bring new value to health systems' customer relationships and renewed our extended contracts with all of our major independent buying groups in the past 18 months. We've recorded the first full year of operations of Change Healthcare, a scaled health care information technology business, which began integrating the combined businesses, realizing targeting -- targeted cost synergies and preparing for a future initial public offering.

And we made changes to our leadership team, including optimizing our management structure and combining our U.S. Pharmaceutical and Specialty Health businesses. We made several important acquisitions during the fiscal year, and we recently announced the acquisition of Medical Specialties Distributors or MSD, which is intended to, among other things, expand our manufacturer value proposition and specialty capabilities. We successfully executed against each of these operational and organizational changes, which are aligned with our strategic growth initiative and help position the company for the long term.

However, we did not anticipate the sizable additional government-driven headwinds in the U.K. and Canada. Let me take a moment to provide more details on these 2 topics specifically. First, the U.K. government initiative has not only impacted our current year performance but will continue to have an impact going forward. These actions around cost containment and medicine optimization, among other things, resulted in the designation of some prescription drugs as over-the-counter.

While each year, we model typical reimbursement cuts, we saw incremental cuts that drove a greater headwind than we had anticipated. As we enter the new fiscal year, we've assumed the mitigation efforts will fully offset anticipated government actions. We believe this assumption is appropriate given actions we announced in our second quarter earnings call to close or divest underperforming stores in the U.K. market.

Switching now to Rexall. In many ways, the impact of the government initiatives in Canada are similar to what we saw in the U.K. And while the reimbursement and minimum wage headwinds impact the entire Canadian supply chain, retail pharmacy operations are more impacted significantly. We do, however, have clear line of sight into generics reimbursement environment for the next 5 years, and as I mentioned on our April call, we remain committed to retail in delivering high-quality care in a way that works for patients.

In response to these government actions, our Canadian business has begun work on mitigating their impact, which include advancing revenue diversification opportunities and additional reimbursed pharmacy services, driving increased operational efficiencies while ensuring consistent high-quality of patient care delivery and taking on a leadership role in industry advocacy with governments on a sustainable reimbursement model.

Next, we are pleased with the progress of our multiyear initiative to implement differential pricing for brand, generic, specialty, biosimilar and OTC drug classes in line with the services we provide to both our customers and manufacturer partners in all of these 5 categories. We continue to address these important changes as we work through our contract renewal cycles. We remain confident in McKesson's path forward, the critical role of the services we provide to the health care industry today and our ability to identify and apply solutions to address the most pressing challenges to health care systems globally.

In summary, fiscal 2018 represented a year of stabilization while providing a solid platform for our multiyear growth initiative. I was encouraged by several developments during the year. First, despite the ever-competitive environment we operate in, the revenue growth of our combined U.S. Pharmaceutical and Specialty Health businesses was in line with our expectations, with higher growth being delivered in Specialty Health. We expect low to mid-single-digit revenue growth in fiscal 2019, reflecting continued strong organic growth in this business.

Additionally, RxCrossroads acquisition further expands our broad range of solutions throughout the life cycle of the drug for biopharma companies. This transaction aligned squarely with our growth priorities supporting manufacturer programs and specialty solutions.

Next, looking past the U.K. government actions we previously discussed, Europe's businesses performed well. We began realizing synergies from prior acquisitions, which provide a foundation for our retail pharmacy growth initiative. We anticipate revenue to be flat to growing by mid-single digits, driven by market growth in fiscal 2019.

In Medical-Surgical, we delivered another year of solid growth, and we are well positioned to support the growing alternate-site opportunity with the announced acquisition of MSD. This acquisition complements our alternate-site service platform and, in combination with strong organic performance, is expected to deliver revenue growth in the low double-digit range for fiscal 2019.

McKesson Prescription Technology Solutions or MRxTS is a fundamental part of our strategy to help manufacturers and retail pharmacies be successful. We are excited by innovative solutions like express coverage, our collaborative new solution leveraging the expertise of McKesson's hub services and RelayHealth Pharmacy and CoverMyMeds' vast health care network. And we believe we can do much more to benefit patients with the complementary capabilities we have built.

And in Canada, while the government actions we -- will create a near-term headwind, the business grew nicely in fiscal 2018. In addition, the acquisition of Well.ca provides patients with another channel to connect with us and forms part of a platform for future growth as we execute our retail pharmacy of the future initiative.

Before I wrap up, our Board of Directors welcomed Brad Lerman as a new Independent Director in late April. Brad brings with him extensive compliance, government relations and corporate strategy experience, further strengthening the diverse backgrounds and perspectives we have on our board. I'm extremely proud of this management team's ability to adapt and maintain a constant focus on the patient and building our value proposition to help make our customers and suppliers more successful, which will continue to drive growth and long-term value creation for our shareholders.

And I'd also like to take this opportunity to thank our employees for their dedication, leadership and consistent focus on putting patients at the center of everything we do.

With that, I'll turn the call over to Britt and will return to address your questions when he finishes. Britt?

Thank you, John, and good morning. Today, I'll review our fiscal 2018 results, discuss our new segment reporting structure, provide a brief update on our multiyear strategic growth initiative and provide details around our fiscal 2019 adjusted EPS guidance range of $13 to $13.80 per diluted share.

As a reminder, we provide guidance on an annual basis due to both the seasonality and quarterly fluctuations inherent in some of our businesses. In this context, an annual view of our financial results can be more meaningful and provide more insight into key trends. Therefore, my comments today will focus primarily on annual results.

Let me begin with a review of our results for fiscal 2018. Today, we reported fiscal 2018 adjusted EPS of $12.62, reflecting a lower tax rate and share count as well as solid operating results, partially offset by the fourth quarter $0.31 per diluted share contribution to create a nonprofit foundation to combat the opioid epidemic.

Turning to Slide 6 of the presentation. Our fiscal 2018 adjusted earnings exclude the following GAAP-only items: amortization of acquisition-related intangibles of $2.60 per diluted share; acquisition-related expenses and adjustments of $1.20 per diluted share; LIFO inventory-related credits of $0.31 per diluted share; restructuring charges of $2.82 per diluted share, including long-lived asset impairment charges; and other adjustment net charges of $6.01 per diluted share, comprising the noncash goodwill impairment charges for our European and Rexall businesses and the early repayment of long-term debt that we disclosed last month, which were partially offset by benefits related to the Tax Cuts and Jobs Act of 2017 and the gain from the sale of our Enterprise Information Solutions business in the third quarter.

In connection with the annual goodwill impairment testing that takes place in our fourth quarter, we recognized noncash after-tax goodwill and long-lived asset impairment charges, principally related to McKesson's European and Rexall businesses, which were driven primarily by government actions in these markets. The European charges were driven by a weakening script growth outlook in our U.K. retail pharmacy business and a more competitive environment in our French wholesale distribution business.

The Rexall charges relate primarily to the recently implemented generics reimbursement reductions across Canada and minimum wage increases in multiple provinces. As it relates to our fiscal 2019, these 2 items, the reimbursement reductions and the minimum wage increases, represent a gross pretax headwind of between $100 million and $120 million. As John discussed, the Canadian team is working to mitigate the impact of these actions, and we're confident that these initiatives will reduce the negative impact to our results in fiscal '19.

Now let's turn to the details of our consolidated full year fiscal 2018 adjusted earnings, which can be found on Slide 8. Consolidated revenues for the full year increased 4% in constant currency versus the prior period, primarily driven by market growth and acquisition, partially offset by the contribution of the majority of our Technology Solutions businesses to Change Healthcare in late fiscal '17 and the transition of Rite Aid stores in the second half of fiscal '18.

Full year adjusted gross profit was down 2% in constant currency year-over-year, primarily driven by the Change Healthcare transaction and the year-over-year effect of increased price competition in our independent pharmacy business in fiscal 2017, which we fully lapped during fiscal 2018. These drivers were partially offset by organic growth, including contribution from our joint sourcing entity, ClarusONE; and contributions from acquisitions closed in fiscal 2017 and 2018.

Full year adjusted operating expenses increased 3% on a constant-currency basis, driven by acquisitions, partially offset by the Change Healthcare transaction and ongoing cost management efforts. Adjusted income from operations was $3.9 billion for the year, a decrease of 4% in constant currency. Interest expense of $283 million decreased 8% in constant currency for the year, driven primarily by the refinancing of debt at lower interest rates and net long-term debt repayments, which were partially offset by short-term borrowings.

Now moving to taxes. Our adjusted tax rate was 19.6% for the year, driven by our mix of business, a lower U.S. tax rate from the recently enacted federal tax reform, the beneficial impact of the onshoring of our technology intellectual property in the third quarter of fiscal of 2017 and discrete tax benefits. Additionally, income attributable to noncontrolling interest was $230 million for the year, an increase of 173% in constant currency, primarily driven by fee income from Clarus. Our adjusted net income from continuing operations totaled $2.6 billion for the year, with full year adjusted EPS of $12.62 per diluted share, up 1% compared to $12.54 in the prior year.

Wrapping up our consolidated results. During the fourth quarter, we completed $750 million of share repurchases, bringing our total share repurchases for the fiscal to approximately $1.7 billion. As a result of share repurchase activity late in fiscal 2017 and in fiscal 2018, our full year diluted weighted average shares outstanding decreased by 6% year-over-year to 209 million.

Next, I'll review our segment results, which can be found on Slides 9 and 10. Starting with our Distribution Solutions segment. Revenues were $208.1 billion for the year. Revenues benefited from $1.6 billion in favorable currency rate movements. On a constant-currency basis, revenues increased 5% year-over-year.

North America pharmaceutical distribution and services revenues increased 6%, driven by market growth and acquisitions, partially offset by brand-to-generic conversions, lower revenues due to the transition of Rite Aid stores and 2 less sale days in our U.S. Pharmaceutical business. International pharmaceutical distribution and services revenues were $27.3 billion for the year. Revenues benefited from $1.3 billion in favorable currency rate movements.

On a constant-currency basis, revenues were up 5%, driven by acquisitions and market growth. And finally, Medical-Surgical revenues increased 6% for the year, driven by market growth, including a stronger-than-anticipated flu season.

Segment adjusted gross profit was up 12% on a constant-currency basis, driven by acquisitions and organic growth across multiple business units, including strategic sourcing benefits from ClarusONE. These gains were partially offset by the year-over-year lapping effect of increased price competition in our independent pharmacy business in fiscal 2017 and the impact of reduced reimbursement in our U.K. retail pharmacy business. Segment adjusted operating expenses increased 14% on a constant-currency basis. This increase was driven by acquisitions and the mix of retail and technology businesses, partially offset by ongoing cost management efforts.

Full year segment adjusted operating profit increased 8% on a reported basis and 7% on a constant-currency basis to $4.1 billion, driven by the same factors as previously discussed. The full year segment adjusted operating margin rate was 196 basis points, an increase of 3 basis points.

Turning to our Technology Solutions segment. Revenues for the year of $240 million reflect the contribution in the first half of the year from the now divested Enterprise Information Solutions business, which also contributed $32 million to adjusted operating profit. Adjusted equity income from Change Healthcare was $272 million for the year, which was in line with our expectations.

Next, McKesson recorded $527 million in full year adjusted corporate expenses, an increase of 30% year-over-year, primarily driven by the previously discussed fourth quarter $100 million contribution to create a nonprofit foundation.

I'll now review our working capital metrics and cash flow, which could be found on Slide 11. For receivables, days sales outstanding decreased 2 days in the prior year to 25 days. Days sales in inventory was flat at 30 days, and days payables outstanding decreased 1 day from the prior year to 60 days.

I would remind you that our working capital metrics and resulting cash flow may be impacted by timing, including the day of the week that marks the close of a given quarter. These working capital metrics, along with our continued focus on cash generation, resulted in $4.3 billion in cash flow from operations in fiscal 2018, above our original guidance.

In addition to our outstanding execution, a portion of the gains we made in fiscal '18 were related to timing. Approximately $500 million of the operating cash flow performance was driven favorably by the fiscal year ending on a Good Friday and the early receipt of a customer payment that was anticipated to be received in fiscal 2019. Outside of year-end timing impacts and the transition of approximately 1,900 Rite Aid stores late in the fiscal year, we had solid focus and execution on cash generation. We ended the quarter with a cash balance of $2.7 billion.

For the year, McKesson repaid approximately $765 million in net long-term debt and $580 million on internal capital investments, paid $2.9 billion for acquisitions, repurchased approximately $1.7 billion in common stock and paid $262 million in dividend. And yesterday, our Board of Directors approved an increase of $4 billion to our existing share repurchase authorization. We now have a total of $5.1 billion remaining on our share repurchase authorization.

Now let me take a moment to discuss our new segment reporting structure effective in fiscal 2019. As previously disclosed, we began an evaluation of our management and reporting structure. As a result of this review, we'll now report our financial results in 3 reportable segments: U.S. Pharmaceutical and Specialty Solutions, which includes our now joint U.S. Pharmaceutical and McKesson Specialty Health businesses; European Pharmaceutical Solutions; and Medical-Surgical Solutions. All remaining operating segments and business activities are included in Other, primarily comprised of our McKesson Canada business, our MRxTS business and the equity method investment in Change Healthcare.

We believe this new segment reporting will provide increased transparency and visibility to the underlying operating performance of the businesses within McKesson. I encourage you to review the second 8-K that we filed today that provides historical supplemental information on the basis of this new reporting segment structure and will help you frame our 2019 outlook.

Before I get to our fiscal 2019 outlook, I'd like to briefly update you on the multiyear strategic initiative we announced in late April. As we have discussed, we're focused on driving growth by improving the alignment of our operations to support key growth pillars that we discussed with you in April. Specific areas of operational focus over this multiyear period include delivering efficiency and driving cost out of functional areas such as informational technology, finance and human resources. Additionally, we're focused on investing in developing world-class data and analytics platforms and building solutions to become more efficient and agile.

These efforts are expected to yield increased productivity and operational flexibility, ensure that our operations have the right operating and financial rigor and generate meaningful cost savings for the organization. And in fiscal 2019, it will help fund the growth pillars that we have outlined. As part of the preliminary phase of this initiative, We continue to expect to incur GAAP-only after-tax restructuring and other charges of approximately $150 million to $210 million in fiscal 2019. I will remind you that these GAAP charges are not included in our adjusted earnings outlook.

Now let me provide context to our fiscal 2019 outlook. As described in our press release issued today, McKesson will no longer provide forward-looking GAAP guidance. We will continue to provide transparency around our GAAP results, including the reconciliation of our adjusted earnings to GAAP results. We expect adjusted earnings per diluted share of $13 to $13.80. This guidance reflects low to high single-digit growth in adjusted earnings year-over-year.

As a reminder, our fiscal '19 adjusted earnings outlook excludes the following items: amortization of acquisition-related intangibles; acquisition-related expenses and adjustments; LIFO inventory-related charges or credits; gains from antitrust legal settlements; construction charges; and other adjustments, which may include gains or losses from divestitures, asset impairments or adjustments to claim and litigation reserves. I'd refer you to the list of assumptions included in the press release we issued today, which are also on Slides 14, 15 and 16.

Rather than go through each assumption, let me just to walk you through the key items in our outlook. On a consolidated basis, we expect revenue growth in the mid-single digits year-over-year, driven by market growth and previously closed or announced acquisitions. Adjusted income from operations is anticipated to be down slightly to up mid-single digit.

For the U.S. Pharmaceutical and Specialty Solutions segment, we expect low to mid-single-digit revenue growth year-over-year, reflecting market growth and acquisitions, partially offset by Rite Aid. And adjusted operating profit is anticipated to be flat to down mid-single digits, driven primarily by customer losses, partially offset by organic growth and accretion from acquisitions.

In the U.S. market, we anticipate branded pharmaceutical percentage price increases in the mid- to high single digits, consistent with fiscal 2018. As I noted on our third quarter earnings call, while the overall brand inflation rate is important, it's less important to McKesson as we have evolved our branded compensation arrangements to reduce the variability associated with brand inflation. And for the generic environment, all of our customers will continue to benefit from our strategic sourcing from ClarusONE. And on the sell side, we see the market environment as competitive but stable. Last, in terms of new oral generic pharmaceutical launches in the U.S., the profit contribution is expected to be nominal.

For the European Pharmaceutical Solutions segment, we expect flat to mid-single-digit revenue growth year-over-year, reflecting market growth; and flat to mid-single-digit adjusted operating profit growth, which is anticipated to be driven by organic growth, partially offset by the lapping effect of the U.K. government initiatives I mentioned earlier. This outlook assumes typical reimbursement cuts in the U.K. market.

As we discussed on our second quarter earnings call, we initiated a cost-savings program in response to the U.K. government's announcement of additional reimbursement cuts, which were incremental to their more typical annual reimbursement reductions. This initiative included identifying and implementing actions to offset the fiscal 2019 impact of reimbursement cuts, which included approximately 200 store closures or divestitures. The program is substantially completed in fiscal 2018, and we anticipate realizing savings in fiscal 2019 as a result of the program.

For the Medical-Surgical Solutions segment, we expect low double-digit revenue growth year-over-year, reflecting the anticipated close of the MSD acquisition and market growth; and mid- to high single-digit adjusted operating profit growth, which is anticipated to be driven by the ongoing shift of care to lower-cost alternate sites of care we serve and modest accretion from MSD, which we expect to close in the first half of fiscal 2019.

For Other, we expect low single-digit revenue growth year-over-year, reflecting market growth; and flat adjusted operating profit, which is anticipated to be primarily driven by growth in our MRxTS business, offset by the negative impact of Canadian government initiatives which I mentioned earlier.

For Change Healthcare, we anticipate the equity contribution to grow in the low to mid-single digits, primarily reflecting progress against the cost synergy target, partially offset by anticipated higher interest expense. As a reminder, the equity contribution from Change Healthcare may be impacted by the tax rates applicable to the underlying businesses, which includes a mix of pass-through and taxable income.

Corporate expenses are expected to decline year-over-year, primarily driven by the fiscal '18 contribution to create a nonprofit foundation, partially offset by incremental technology investments planned in fiscal 2019. We expect both interest expense and NCI to decline year-over-year, and the guidance range assumes an adjusted tax rate of approximately 21% to 23%, which may vary from quarter-to-quarter. This adjusted tax rate reflects our mix of businesses and the benefit of a lower federal tax rate, partially offset by a change to accounting rules that no longer allows the company to reduce its tax rate for the amortization benefit related to the intercompany sale of software in the Technology Solutions segment in the third quarter of fiscal 2017.

We expect weighted average diluted shares for fiscal 2019 to be approximately 200 million, which reflects the impact of share repurchase activity completed in fiscal 2018 and the benefit of share repurchases anticipated in fiscal 2019. In addition, we expect a positive foreign currency impact of up to $0.10 in fiscal 2019. And in terms of fiscal '19 earnings progression, we expect the first half quarterly EPS progression to be similar to last year and the second half will have a stronger relative EPS contribution.

Turning to cash flow. Beginning in fiscal 2019, we plan to provide guidance on free cash flow as we believe this non-GAAP measure provides a more useful metric as to the company's ability to generate cash. We define free cash flow as cash flow from operations less property acquisitions and capitalized software expenditures. We expect free cash flow to be approximately $3 billion in fiscal 2019, which is net of property acquisitions and capitalized software expenditures estimated to be between $600 million and $800 million.

In closing, I'm pleased to reiterate our fiscal '19 adjusted EPS outlook of $13 to $13.80 and introduce our new segment reporting structure, which we believe will provide you with more insight into our performance. And I'm confident that the efforts underway to transform our operating model will drive increased efficiency and allow us to capitalize on growth opportunities.

With that, I'll turn the call back over to the operator for your questions. (Operator Instructions) I turn the call over to our operator.

(Operator Instructions) And we will take our first question from Steven Valiquette with Barclays.

I guess just drilling in a little bit deeper on the U.S. pharma segment, with the operating profit expected to be flat to down a little bit in fiscal '19. You mentioned Rite Aid as a key factor. I'm curious -- just 2 other quick questions around that. First, are there any material customer contract renewals also baked into that assumption. And also, is there any quantification of the acquisition contribution into that U.S. pharma segment EBIT expectation as well?

Thanks for the question, Steve. This is John. I -- our assumption around customer contract renewals is pretty consistent with what we've experienced in the past. So as you know, we typically renew our customer contracts when they come up, and we do a pretty good job of making sure that value is delivered to our customers and that we continue to drive efficiency in our organization. So I think the times that we've really come up on the negative end of customer contract renewals has been related primarily to consolidations, where sometimes we can't predict which way a customer might land or, certainly, the acquiring company might weigh more heavily in those decisions. So I think our forecast clearly would expect us to continue to renew our contracts and have the normal kind of cadence of those renewals. Britt, perhaps you could help with the second question.

Yes. Thanks for that. As it relates to M&A and the impact that we expect it to have, as you know, last year, we completed a number of acquisitions in the fourth quarter, including the acquisition of RxCrossroads. And I would remind you that we provided you a -- an accretion estimate by the end of year 3 of about $0.25. So we completed a number of acquisitions that we're excited about. We think that they're going to add to the overall segment, and RxCrossroads is a good example of that.

As far as future acquisitions though, is there any assumption for that in there? Or is that not in there?

No, we've outlined for you the acquisition of MSD, which we announced in our April call.

Which is in the medical segment.

And we'll take our next question from Lisa Gill with JPMorgan.

John, I just want to go back to your comment, though, about renewals on existing customers. Can you just remind us, are contracts generally renewed exactly at the date that they expire? Or is the anticipation that perhaps you give up some pricing prior to that expiration date because that's an important relationship?

That's a good question, Lisa. I would say our history is that we maintain these relationships for very long times. The contracts might have a duration of, let's say, on average, 3 years, but many of the relationships go decades. And our typical pattern is to renew those relationships or extend those contracts in a form that's very similar to what it's been in the past. I'd say most of them don't renew exactly on the expiration date. They usually -- sort of a rolling process of renewals before they expire to extend or to move forward with the relationship, so your point is accurate. I can't give you a specific time, but these things would renew usually in advance of their expiration date.

And so I think what we just want to understand is that -- that's included in that guidance you gave. So your anticipation is that you're going to renew the relationships that you have and that there could be some element of renewed pricing in the guidance that was given today.

Absolutely. Our guidance fully reflects what we anticipate will happen in fiscal '19 and reflects the contracts that are expiring and our anticipation of not only their renewal but also the likely financial impact of those renewals. So that's fully included. Now clearly, we could be surprised. We don't anticipate that we're going to lose our customer base, and -- but our assumptions are built into the forecast.

And then as a follow-up to that, when we think about incremental opportunities, as you think about those renewals and think about ClarusONE, what are some of the incremental things you could add to that platform? Over-the-counter products is one thing that comes to mind for me. Are -- is over-the-counter an opportunity? Do you think of other things that you can put into your purchasing, procurement as you think about those renewals with some of these larger contracts that you have?

Well, Britt helped us build ClarusONE. I'll let him address ClarusONE specifically. But obviously, one of the things we're trying to do also is to get more and more of our customers to buy all of their generics from us, and that compliance to our generic purchasing requirements continues to expand. So that's part of the value that we derive both for our customers and for ourselves, is getting more and more people into sourcing all of their generics from McKesson. As it relates to going beyond just generic purchases, Britt, maybe you could talk about future opportunities.

Yes, sure. Thanks for that question. With ClarusONE, we are certainly working with Walmart but also our other customers to understand where we have opportunities to leverage our scale collectively with our customer base. OTC is certainly an opportunity for us, and it's one that we've discussed, among other -- many other opportunities, at Walmart. So clearly looking at how we can help our customers and how we can leverage scale across ClarusONE and our customers to deliver across multiple categories is certainly something that we're talking about and considering as we move ClarusONE forward.

And we'll take our next question from Glen Santangelo with Deutsche Bank.

John, it's pretty clear that your pharmaceutical and specialty solutions business is going through a pretty significant evolution here with respect to specialty, and the generic tailwinds, seemingly, are largely in the rearview mirror. In your prepared remarks, you talked about your differential pricing strategy for brand and specialty and generics. Could you talk about maybe how some of those contract renewals have gone with respect to this new pricing strategy? Is that having a near-term dilutive impact on your margins? Or how should we think about that?

Thanks for the question. I think we have -- as we've indicated, we began this process several years ago. And as our contracts have renewed, we've been very successful in working with our customers to provide specific pricing to the 5 categories of product purchases that I described. I think we've been quite successful, and I would anticipate we will complete this process throughout this fiscal year and perhaps slightly into next fiscal year. I think the -- what you're seeing in our business is a continued focus on driving value for our customers on many dimensions. Certainly, the specialty business that's focused on the clinics, the U.S. Oncology business, the things we do outside of the hospital continues to perform very well and grow rapidly. But there's also a growing portion of specialty that's inside of our standard U.S. Pharmaceutical business. And that mix change continues to be reflected in some margin pressure in our business, and that's what we've been attempting to alleviate when we renegotiated these contracts. Having said that, there is incremental profit being derived from the sale of these specialty items even in these hospital settings. So I think the margin expansion opportunity that we have achieved in the past has been partially driven by the move to generics. It's certainly been driven by the efficiency in our operations. And now it's going to increasingly be driven by our ability to become more efficient in our operations, offset a little bit by the mix change that we're seeing.

I would to add to that, John, that, clearly, the focus is not just on the customers as we think about the growth of specialty. We work very collaboratively across our customers and our manufacturing partners to find value not only for our customers but our manufacturing partners. If you think about our specialty business, which we've invested in, we have a range of services and capabilities that we can help provide our manufacturing partners as well. So our focus here is obviously to get the right compensation for all 5 categories, but we do that looking across, collaboratively, our manufacturing partners and our customers.

Okay. Maybe just one quick follow-up, and I apologize if I missed it. On Change Healthcare, have you given us an update on the timing for the IPO?

Yes. I don't -- we haven't been very specific on the timing, I think, because we're continuing to evaluate when the best time is for that company to go public. It's going to be dependent on our view of the synergy and the flow of those synergies that we outlined at the beginning of the business case; obviously, the revenue projections for the business; and then, clearly, market conditions. So stay tuned. As we get closer to picking a date, we'll certainly advise you. But the plan remains as it has been, to take the company to an LPO -- or excuse me, an IPO process.

Our next question comes from Ross Muken from Evercore ISI.

This is Elizabeth Anderson in for Ross. Just sort of following up on Glen's question. Can you talk sort of more broadly about the opportunity that you see in specialty today versus in the past? I know that there's obviously been some changes, commentary from HHS about shift from Part B to Part D. And sort of how would that impact U.S. Oncology? Or sort of your thoughts more generally on the topic would be very helpful.

Certainly, the exposure we have to specialty continues to grow, and we've put the company in a position where we think we can benefit through this new growth cycle. A lot of the innovation that's coming from the pharmaceutical industry is coming, as you mentioned, in these specialty categories, in particular in oncology. And as Britt was talking about a few minutes ago, some of the acquisitions we've done and the internal development we've done has been to provide incremental services to pharma manufacturers, particularly those that are focused on specialty launches, and what can we do to support them. So we have an increasing revenue and profit stream coming from the manufacturer services part of our business, both in medical and in pharmaceutical products, and we continue to increase exposure the company has and the opportunity we have to support those launches with the manufacturers. As it relates specifically to reimbursement, clearly, we're following that very closely. We do -- our customers, in particular, have some exposure to what type of reimbursement models the government might put in place. But I think, clearly, everyone would agree that service provided by community-based physicians provides not only better access and convenience at equal quality, but it also does it at a much lower cost. And so I think that, certainly, ourselves and other people that are involved in the channel would clearly recognize -- and the payers as well recognize that community-based services of these specialty products is the place that people should go. So I'm pleased with our footprint, and I think we'll continue to grow nicely as these products come to market.

Okay, that was helpful. And then as a follow-up, outside of specialty, what are your sort of organic and inorganic priorities given your general shift towards higher gross margin business segments?

Well, you could see some of it played out in the acquisitions that we're doing. And as we've talked about, the acquisitions in the last year and the years prior were obviously trying to increase our exposure to specialty and the manufacturing services, which we've talked about. You can see us continuing to invest in our Medical-Surgical business. MSD is a good example of that, and you've seen us continue to expand our ability to attract customers through innovation from a technology perspective. So I think you'll see us continue to invest across a myriad of dimensions. And we obviously have done some acquisitions in our U.S. Pharmaceutical business as well that have performed very well. So I think there remain opportunities for us to continue to expand our service for our customers.

We'll take our next question from Brian Tanquilut with Jefferies.

John, as we think about these contract renegotiations, and you've been talking about the services that you can offer the manufacturers, so how are you thinking about the ability to leverage some of these wraparound services and capabilities that you have and how that could help you as we think about the contract renegotiations?

Well, you mentioned manufacturers in the middle of it. So we do have -- obviously, we have contracts [with manufacturers] and contracts with providers.

I'm sorry, I mean contracts with the providers. But the -- do the services that you provide to manufacturers and the wraparound, I mean, does that help you at all as you look at negotiating your contracts with the clients -- with the providers?

Well, I certainly think, on many dimensions, it will. In some cases, we have exclusive access to products that we might be shipping to our specialty pharmacy businesses. Clearly, in the medical side of our business, we have special arrangements with lab suppliers and others so that our customers would have a difficult time finding a complete set of solutions from another source. And so that would be part of it. I would say that the services we provide to our customers, though, in our biggest business, our U.S. Pharmaceutical business, continues to be driven by our ability to innovate and help them deliver value beyond just the cost of goods that we provide. So you've seen us grow our business significantly, for example, with Health Marts over a decade now, where we're close to 5,000 stores. And that's driven largely not just by the price of our generics, as an example, but by the value we can deliver to the store, improving their profitability, improving their access to patients, putting them into these narrow networks and making sure that they're getting a consistent supply of customers and new customers and growing the way the relationship can become over time through a more fulsome set of capabilities. And we're doing the same thing, on many dimensions, with our largest customers. And that's why our renewal rate with our customer base has been so successful. We mentioned in our prepared comments that we've renewed or continued or expanded or pushed out our dates of expiration on these large independent GPO customers. So almost all of those now have been renewed and have been expanded. That happens because of the total value that we're able to deliver to our customers. And if you go back and look at our customer retention across even our largest, most sophisticated customers, we largely retain those customers unless there's something disruptive that happens in the marketplace. So we -- I think we're quite confident that we'll continue to build these relationships and continue to expand them. That doesn't mean that we don't have price pressure and that we don't have to renegotiate and give back some of the efficiencies we've derived over years of serving the customer, which will provide, obviously, some downward pressure on our margins, which is reflected in our guidance. But I think we remain pretty committed to adding value to our relationships and expanding them.

Appreciate it, John. Just my follow-up, since you've touched on generics. As we think about your guidance for 2019 -- and you talked earlier about the stability -- or 2018 was a stabilization year. What are you expecting in terms of generic pricing? What are you baking into the guidance at this point?

Well, we don't talk specifically about generic pricing. I would say the way we think about generics though is that we -- when we -- we want to be the best buyer of generics in the marketplace, and we believe we are today or certainly equal to everyone that's sourcing generics. Our scale is quite significant. ClarusONE has performed exceptionally well. And our customers benefit from the scale that we provide and, certainly, the manufacturers do from the share we're able to deliver consistently to them through these relationships. On the sell side of our relationship, we're committed to making sure that our customers retain -- or I should say, obtain a competitive price. And we know where the market price is for our customers on a molecule-by-molecule basis, and we're committed to making sure that they remain competitive. And in the middle, between those are the spread or the return that we get for the work that we do. So I think we see a more normalized generic market as compared to the recent past, and we're confident we'll continue to manage that business on both the buying side and the selling side appropriately.

And our next question comes from Robert Jones of Goldman Sachs.

I just wanted to go back to the U.S. pharma and specialty business and how you're thinking about growth over time. I know you've mentioned Rite Aid. We've talked about contract renewals. Obviously, M&A is always going to be a part of the algorithm. But John, if you take a step back -- the guidance for flat to down mid-single-digit EBIT in that segment, obviously a lot of moving pieces in '19. But if you take a step back, how are you thinking about growth in that business? I mean, is it -- is flat to down the right algorithm? Or do you think that there's things -- based on even some of the things you just discussed, is there ways to expand EBIT, grow EBIT as we look forward maybe even beyond '19 in the U.S. pharma and specialty segment?

I'm going to turn this question over to Britt in just a moment because he spent some time thinking about it. But I would -- my earlier answer related to the total value proposition we deliver to our customers is part of the way we begin to grow profitability in the direction of revenue growth. And clearly, that's a priority for us. There are some near-term headwinds, partially driven by mix, partially driven by our anticipation of contract renewals. I would say, for the most part, the business is positioned to perform well, and we really have a foundation-setting year going on in our U.S. pharma and specialty business. But Britt, maybe you can add some color.

Yes. Thanks for the question. I would say that our '19 guide is really reflective of some customer loss activity in transition of Rite Aid stores that we mentioned during our prepared remarks. But if we think about that business, specialty has been outlined for us as one of the key pillars. We think we have a lot of services and capabilities that we can provide not only our customers but our manufacturing partners, and we think that's going to position us well to participate in the growth of specialty from a dollar profit growth perspective. We've also made a number of acquisitions that we outlined through FY '18 that we believe are going to continue to strengthen our position in not only specialty but the manufacturer services component of that business. So while we have some near-term headwinds, as John outlined, the business, we believe, is well positioned to take advantage of the growing specialty marketplace.

No, that's helpful. And then, I guess, just to follow up -- you guys mentioned the multiyear cost initiative. Can you share anything just as far as how much of that is expected to impact '19? And then, I guess, more specifically, where within the segments and the corporate line should we be expecting to see a lot of those initiatives start to take hold?

Yes, sure. As we mentioned in our earlier remarks, we're in the preliminary phase of our operating model work. We've outlined for you an expected restructuring -- set of restructuring charges for that preliminary phase. And we've also outlined for you that we expect that the savings that we'll generate will be modest in FY '19 as we build through some of these capabilities and some of these cost programs that we're looking at. So we're in the early phases of it. In FY '19, you should expect to see some investments and some savings that will help fund those investments that will really benefit us as we go into '20 and beyond.

We'll take our next question from Ricky Goldwasser with Morgan Stanley.

The narrative out of Washington is very focused on the middlemen, and we're getting a lot of questions from investors about what a potential shift away from gross to net pricing model could impact you guys. So John, can you just kind of like help us think through that? And also, how does -- how and does this is being reflected in some of the conversations that you're having with the manufacturers?

Thanks for the question, Ricky. Clearly, this -- unless the government decides to impose some type of price methodology or price fixing or some type of price controls like we have in other socialized countries, the gross-to-net discussion is really one that is in some control of the pharmaceutical manufacturers. And as we analyze what's being said, we think the question of middlemen is primarily focused on people outside of the pharmaceutical wholesaling business, the people that are heavily involved in receiving and/or processing rebates, incentives, et cetera. So we don't think the focus in the discussion is really wholesalers' business model, and so that would be a part of my reflection on the question. And the second is that you can imagine that the net price that's realized by a pharmaceutical manufacturer is a derivative of all of the discounts that they are providing and rebates they might provide to many, many different customers. And if you were to think about how they would move to a single price and what effect that would have on their profitability, it would be quite dramatic. And so I don't think it -- I don't think the manufacturers would be inclined to move to a single price for all of their customers and to not use -- to go forward without using some type of rebating or incentive programs to recognize the various discounts that are required to obtain business from different players in the industry. Having said all of that, if they were to pursue some type of an environment where our business model was changed and the economics were changed for us, we would do what we've done in the past, which is to sit down with the manufacturers, reflect to them what their change in behavior has done to our profitability or could do to our profitability and recoup that profitability by reorienting our agreements in a different fashion. We did this in the past when we went from a purchase process, where we were focused on price inflation, to a more stabilized environment through fees. And we would do a very similar process with the manufacturers in this environment, where we attempt to recapture the dollars that are involved here through a different mechanism. So -- and I think we will be successful as we were before. No one in the supply chain has indicated an interest in getting rid of wholesalers, and no one is focused on taking away our slim margins. No one has talked to me about the fact that they can find better utility in some other fashion. In fact, it's quite the opposite. Our provider customers are using us more and more. They're relying more and more on our service. They order more and more of their product through us. They're shutting down their own warehousing. They're dismantling their own purchasing activities, and they're focused on partnering closely with us. And on the manufacturer side, they're doing the same. They're more and more dependent on our national redistribution center. They're more focused on our manufacturer services. They're, in fact, going more and more away from their own operations and using McKesson as a valued partner. So although there may be some disruption and, certainly, concerns in the process of a transition that will be significant, I think we'd emerge on the other side where we are today or better.

That's very helpful. And then, Britt, just one follow-up question on the guidance. I mean, obviously, there's a wide range in the guidance for U.S. operating -- North America operating income. It's somewhere between flat to $150 million. You highlighted Rite Aid. It's about 1/3 of the impact. So when we think about the low end of the guidance, when we think about the swing factor, what is the biggest factor there outside of Rite Aid? Is it the sell-side contracts renegotiation that you highlighted earlier on the call? Or is it something else?

No. Well, thanks for the question. As John mentioned, we fully factor in all of the upcoming renewals into our guidance, so that's already in there. I think what we're reflecting here is, as we talked about before, we have a couple of customer losses through consolidation and transition with Rite Aid that are providing a little bit of a near-term headwind for us. But we've continued to invest in the business through some of the acquisitions that we've outlined before, and we believe those acquisitions will continue to add value and be accretive to us over the longer term. So I think our guidance on the flat to down mid-single-digit, as you identify, is really reflective of a couple of customer losses that we talked about early in the call.

And perhaps, Ricky, what folks have missed is that there was a very large acquisition in the grocery business that affected us negatively. And we don't typically talk about specific customers or contracts, and maybe some people missed that transaction and its effect on us as well as another grocery operator. So we had a couple of transitions last year that we had not anticipated and really due largely to consolidation. And we don't anticipate that going forward, but you see it reflected at least partially in our guidance, in addition to the loss of nearly half of those Rite Aid stores.

And I would just reiterate. As I talked about the generic environment, we do see a continuing competitive environment but a more stable environment, and I think that's an important factor to just remind you of.

Which basically means that it might be a headwind but it's a stable one, so as we think about that range, we should factor that as well. Is that fair?

I think, as I mentioned, the sell-side environment is competitive as it always has been, but it's a very stable environment now as opposed to what we saw in fiscal '17.

We'll take our next question from Eric Percher with Nephron Research.

I wanted to go back to the question on pharma and specialty. And maybe to put it more simply, what is your view of the organic growth rates, top line, as well as the type of margin leverage/deleverage you would see on an organic basis, taking away the noise that we're seeing at the moment?

Thanks for that question, Eric. I'll start off with that. As we've outlined in our guidance here, our revenue is expected to grow low to mid-single digit. Now that is reflective of some of the headwinds that we've already identified in our U.S. pharma business. Specialty is clearly the fastest-growing product category in the marketplace today. And while it has a -- an impact on our margin rate, we are still participating well and growing margin dollars as a result of that specialty growth. And add to that the sort of things we've already talked about. Our position in specialty and some of the investments that we've made in specialty helps us to really leverage and capitalize on those opportunities to grow with specialty. So I think what you're seeing in our overall segment guide is a reflection of the headwinds from the customer losses. But specialty continues to grow nicely, and we're continuing to participate in that op profit dollar growth.

(inaudible) -- go ahead.

So is it fair to say -- I was just going to -- is it fair to say that the -- in a normal -- given mix shift, the op profit growth would be modestly less than the revenue growth that's reasonable, the investments that you're making are to drive op profit growth at or better than the top line growth rate?

I think that's a fair way to characterize it.

And we'll take our final question from Michael Cherny with Bank of America Merrill Lynch.

So one last question on the U.S. EBIT growth rate. You talked about some of the potential headwinds as you think about the bottom end of the range. If we get to the top end of the range in terms of the flattish number, what are the biggest drivers of that? Is it better branded pricing than you expect? Is it a push out of some of the renewal pressure that you may or may not be feeling? Just trying to understand the full range of outcomes there to understand where the numbers could shake out as you think about the various moving pieces in your business over the course of the year.

Thanks for that question. I think as we think about the range, there's a number of factors that can drive it. I'm giving you an idea of what our assumption is on branded pricing environment, which we expect to be similar to FY '18. So certainly, if the branded pricing inflation environment is different, that could certainly impact it. We're very excited about the contributions from ClarusONE. We think that we're making great progress there. We certainly have a lot of other opportunities and other product categories, as we've talked about today. So that certainly is an element for us that we think can help us continue to grow and to help our customers grow. And as specialty continues to grow and we continue to position ourselves well with some of the investments that we've made, we think that we're well positioned to continue to take advantage of that. So these are a few of the factors that I would point out that could help us to get to -- closer to the top end of that range.

Well, I want to thank you, operator, for your help today. And thanks also to all of you on the call for your time. We have a clear strategy and a solid operating plan for fiscal 2019 and exciting growth opportunities across McKesson.

Please enjoy the holiday weekend. And I'll hand the call off to Craig for a review of upcoming events for the financial community. Craig?

Thank you, John. We will participate in the Goldman Sachs Global Healthcare Conference in Southern California on June 13, and we will be hosting an Investor Day event on June 28 in Boston. We look forward to seeing you in the new fiscal year. Thank you, and goodbye.

Thank you for joining today's conference call. You may now disconnect. Have a good day.