McKesson Reports Sluggish Sales Growth, Announces Acquisition

By Dan Caplinger Markets Fool.com

Investors in the healthcare space have been nervous for months about the future prospects for the companies involved in drug pricing. Drug distributor McKesson (NYSE: MCK) makes a lot of money from its wholesale operations, but the threat of future action in Washington could eat into its profits and cause trouble ahead. Coming into Wednesday's fiscal third-quarter financial report, McKesson investors were prepared for continuing earnings pressure, but they still wanted to see growth in the top line. The company's results didn't deliver on all fronts, and shareholders responded negatively. Let's take a closer look at McKesson to see what happened and what its future might hold.

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Image source: McKesson.

McKesson posts mixed results

McKesson's fiscal third-quarter results showed some of the pressure that the company has faced lately. Revenue was up 5% to $50.1 billion, but that fell a bit short of the $50.5 billion that most investors were hoping to see from the drug distributor. Net income of $633 million was essentially flat from year-ago levels, but after accounting for extraordinary items, adjusted earnings fell to $3.03 per share. Even with the decline, McKesson's adjusted earnings were still better than the $2.92 per share consensus forecast among investors.

Looking closely at the key distribution solutions segment, which makes up 98% of McKesson's total sales, revenue performance was solid, but earnings left much to be desired. In North America, pharmaceutical distribution and services sales climbed 5%, as the company reported a growing market as well as the upward impact of acquisitions. Internationally, drug distribution climbed 3% on a dollar basis, even in the face of seven percentage points of downward currency impact. Only the medical-surgical distribution division suffered sales declines, and it was off just 1%. Still, segment profit was down by nearly a quarter compared to the prior-year period, even using a constant-currency comparison.

The technology solutions segment stayed stable. Revenue of roughly $700 million was flat from year-ago levels, and operating profit rose 26%. Yet the technology solutions business only brings in about a fifth of the profit that distribution solutions does.

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CEO John Hammergren was generally pleased with the company's performance. "I am pleased with our strong cash flow generation," Hammergren said, "and our ability to deploy capital in meaningful and product ways, particularly strategic acquisitions and share repurchases." The CEO also pointed to increasingly diverse services offerings and their appeal to customers.

Can McKesson head off a big problem?

Looking forward, McKesson believes that it should be able to bounce back from tough conditions in some of its businesses. As Hammergren said, "We were unfavorably impacted in the third quarter by weaker branded pharmaceutical pricing than anticipated." Yet McKesson will also benefit from a lower tax rate for the full year, and that should help on the earnings front.

Specifically, McKesson raised its earnings guidance for the full 2017 year. The company now expects adjusted earnings of between $12.60 and $12.90 per share, boosting its previous range by $0.05 to $0.25 per share.

Potentially more interesting is McKesson's announcement that it will buy medical-authorization technology company CoverMyMeds. Ohio-based CoverMyMeds offers prior-authorization solutions electronically to pharmacies, healthcare providers, payers, and pharmaceutical manufacturers. McKesson agreed to pay $1.1 billion for the company, and Hammergren believes that the purchase "supports McKesson's commitment to provide a comprehensive set of services and solutions that drive value across the healthcare continuum and secure patients' access to their prescribed drugs."

Nevertheless, McKesson investors weren't happy with the news overall, sending the stock down 8% in after-hours trading following the announcement. Without better guidance on how McKesson will fight political pressure that could result in narrower profit margins, shareholders will likely remain nervous as they wait to see what comes out of Washington in the months to come.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends McKesson. The Motley Fool has a disclosure policy.