McKesson Corporation (MCK) Q1 2014 Earnings Report, Transcript and Summary

Good afternoon, and welcome to the McKesson Corporation Quarterly Earnings Call. [Operator Instructions] Today's call is being recorded. If you have any objections, you may disconnect at this time. I would now like to introduce Ms. Erin Lampert, Senior Vice President, Investor Relations.

Thank you, Lisa. Good afternoon, and welcome to McKesson's Fiscal 2014 First Quarter Earnings Call. I'm joined today by John Hammergren, McKesson's Chairman and CEO. John will first provide a business update, and I will return to provide a review of the financial results for the quarter. At the conclusion of our prepared remarks, we will open the call for your questions. We plan to end the call promptly after 1 hour at 6 p.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 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 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 expenses and related adjustments, amortization of acquisition-related intangible assets and certain litigation reserve adjustments. Consistent with the guidance we provided on May 7, we have updated our definition of adjusted earnings to exclude LIFO-related adjustments. We will discuss this update to the presentation of our adjusted earnings in more detail later in the call. We believe these non-GAAP measures will provide useful information for investors. Please refer to our press release announcing first quarter fiscal 2014 results available on our website for a reconciliation of the non-GAAP performance measures to the GAAP financial results. Thanks, and here's John Hammergren.

Thanks, Erin, and thanks, everyone, for joining us on our call. Today, we reported an excellent start to fiscal 2014, with total company revenues of $32.2 billion and adjusted earnings per diluted share from continuing operations of $2.07. Based on the strong results in the first quarter, we are raising our full year guidance and now expect to achieve adjusted earnings per diluted share from continuing operations of $8.05 to $8.35. Before I begin my comments on our business performance for the quarter, I want to provide a brief update on 2 items in the presentation of our financial statements. First in the March quarter, we talked about a number of actions to better position the company going forward, including our intention to exit our minority investment in Nadro and our intention to sell our International Technology and Hospital Automation businesses. I'm pleased to report that we are making good progress on the planned divestitures, and you will now see these results reported in discontinued operations. And second, as Erin mentioned, we have updated our definition of adjusted earnings to exclude LIFO-related adjustments. We believe this update to our definition of adjusted earnings will better represent the core operating performance of our business. Erin will provide additional background and context for our view of LIFO-related adjustments in her remarks. Moving on to our business results for the quarter. Distribution Solutions had a great start to the year with revenue growth of 5% and adjusted operating profit growth of 27%. Our U.S. Pharmaceutical business once again led the way with outstanding results for the quarter. Direct distribution and services revenues increased 8% for the quarter, in line with our expectations for strong growth for the year. We also experienced strong growth across our portfolio of generic pharmaceuticals, driven in part by favorable pricing in the first quarter. As you know, we have a strong and proven track record with our various generics programs. Our management team has done a great job of not only growing our generics footprint but also building our relationships with our manufacturing partners across the globe. McKesson remains well positioned with our customer-focused proprietary programs and the value that we provide across our extensive generic offering. There's no better evidence of the value we provide through our generic programs than the voice of our customer, and our customers continue to purchase more and more of their generics through McKesson. You've heard me mention on a number of occasions how proud I am of the performance of our U.S. Pharmaceutical business. Our team consistently finds new ways to improve the service and value we provide to all of our customers. A great example of how we connect with our customers is our annual conference, which brings together thousands of independent pharmacy owners and pharmacists from across the country. The conference provides a forum for our customers to exchange best practices that can help them achieve better overall pharmacy health. This year's event focused on helping our customers connect with their patients and other health care stakeholders in entirely new ways through clinical and medication adherence solutions, mobile technologies and enhanced marketing tools. The conference featured continuing education courses, public policy forums and live demonstrations designed to help independent pharmacy owners achieve better business health, better results for patients and create a better future for the community pharmacy. A significant number of Health Mart pharmacy owners were in attendance and we were excited to debut a number of solutions designed to continue to differentiate and drive value for our members, including a new store design, an enhanced physician outreach program and a variety of medication adherence tools. Health Mart owners were able to view new local marketing solutions and mobile applications, both of which are designed to help attract more consumers into Health Mart pharmacies. With more than 3,100 pharmacies across the country, Health Mart has become the franchise model of choice for independent pharmacy owners looking to augment their local relationships with the backing of a strong national brand. In summary, I'm pleased with the performance of our U.S. Pharmaceutical business in the first quarter and the great start it had to the fiscal year. Moving now to our Specialty business. We had solid results in the first quarter, and we expect nice revenue and profit growth in this business for the full year. We continue to expand the value we bring to our manufacturing and physician partners through our unique view of the business's specialty providers. At our recent Investor Day, we highlighted the value we bring to our physician and manufacturing partners in an evolving and complex environment. When we help our physician partners, regardless of the setting of care, not only do we have the strongest and most comprehensive offering to community cancer care through our U.S. Oncology Network, but often we continue to manage the outpatient cancer care when physicians affiliate with hospitals. I'm excited about the progress we continue to make in our Specialty business and believe we are well positioned to continue to grow and innovate in this dynamic market. Our Canadian business had a solid start to the year, with results that were in line with our expectations for the first quarter. We continue to expect strong growth in Canada for the full year, driven by new customers signed in the previous fiscal year and a recent customer transition. Turning to our Medical-Surgical business. I am pleased with the results in our first full quarter as a combined organization with PSS. We are making strong progress on all of the objectives in our acquisition case, and perhaps most important, our people are excited and engaged about our opportunities to serve our customers going forward. In fact, I just came back from the National Sales Meeting where I met with the newly combined 1,400-person Medical-Surgical sales force, and I have to say, their enthusiasm and spirit for the value we bring to our customers was truly impressive. This was an acquisition anchored in bringing together the best of 2 great organizations, and I'm delighted with the progress and the early results of the combined business and look forward to the opportunities that lie ahead. Based on the strong performance in Distribution Solutions driven primarily by favorable generic performance in the first quarter, we now expect that adjusted operating margin for Distribution Solutions to approach the midpoint of our long-term adjusted operating margin goal of 200 to 250 basis points. In summary, we're off to a terrific start to the year in Distribution Solutions. We are extremely well positioned across all of our distribution businesses and we are confident in our improved outlook for the rest of the year. Technology Solutions had a strong first quarter result, with revenues up 9% and adjusted operating profit up 33%. Our adjusted operating margin improved 308 basis points to 17.02%. As you may recall, last quarter I talked about a number of actions we took in Technology Solutions and across the entire enterprise, frankly, to better position the company for fiscal 2014. And I'm encouraged by the early positive results we have seen thus far. For the first quarter, we continued to make steady progress across all of our businesses within Technology Solutions. Our first quarter results benefited from the steady growth profile of our RelayHealth, McKesson Health Solutions and Enterprise and Medical Imaging businesses. Our first quarter results also benefited from achieving some important GA milestones in our Paragon solution. We remain pleased with the progress we continue to make in helping our Horizon customers transition to Paragon. Paragon continues to enjoy high ratings in terms of customer satisfaction and performance across a broad range of customers from the local community hospital setting to large hospital systems. And finally, in our Physician Services and Software businesses, we turned in solid results for the first quarter, aided by our recent acquisition of Med3000. As a result of this solid performance and the removal of the operating results of our International Technology business and Hospital Automation businesses, which we are now reporting as part of discontinued operations, we now expect the adjusting -- adjusted operating margin for the Technology Solutions segment to be at the high end of our long-term adjusted operating margin goal of mid-teens for the full year. I want to make a few comments about how we are working hard to innovate for our Technology Solutions customers. When I speak to our technology customers, the level of change and complexity they face driven by evolving regulatory and economic realities is simply astonishing. They seek partners like McKesson who can offer a broad view of the changing environment and understand the convergence of the perspectives from hospitals and health systems, payers, providers, pharmacies and, of course, the patient, and they are eager for industry leaders to increasingly deliver solutions that will make the promise of a more connected health care system a reality. We live in exciting times within the health care services and technology industry, and McKesson is well positioned to help our customers succeed. We are proud to be a leader in our industry through our innovative partnerships, particularly the CommonWell Health Alliance. Just to remind everyone, CommonWell Health Alliance is a significant initiative with other leaders in the health care IT industry, who have a common vision and mission to allow patients and their caregivers access to information in a secure and private way anywhere care is offered. The initial goal of the alliance is to develop solutions for patient identity, consent and access management and a common approach to record storage and retrieval, regardless of the core system where the data resides. As you may have seen in a press release issued yesterday, additional leaders in our industry have joined CommonWell Alliance, including Computer Programs and Systems or CPSI and Sunquest Information Systems. They join the founding members of Allscripts, athenahealth, Cerner, Greenway Medical Technologies and McKesson and service provider RelayHealth in the Alliance's work. We're off to a solid start to the year in Technology Solutions, and I'm pleased to see the progress we are making in our core businesses and the investments we are making for the future. In summary, I'm pleased with our performance in the first quarter and our improved outlook for the year. In addition to the strength of our operating performance, we continue to have a strong balance sheet. For the first quarter, we generated cash flow from operations of $716 million. And our expectation to deliver cash flow from operations of approximately $2 billion for fiscal 2014 remains unchanged from our original guidance. I'm happy to report that our Board of Directors has authorized a 20% increase in our quarterly dividend, reflecting ongoing confidence in the cash flow strength of our business. And we are extremely well positioned to execute on our portfolio approach to capital deployment, to continue to deliver value for our shareholders. With that, I'll turn the call over to Erin, and I will return to address your questions when she finishes. Erin?

Thanks. Good afternoon, everyone, and thank you all for joining us. Today, I will walk you through our first quarter financial results and provide an update on our fiscal 2014 outlook. McKesson reported strong first quarter results and has laid a good foundation for the remainder of fiscal 2014. I will begin with a review of our consolidated results and then provide additional context as I walk through each of the segments in more detail. Let me briefly mention one item that, while it did not impact our adjusted earnings, did impact our GAAP results for the quarter. We continue to work through the remaining AWP cases. As a result of the progress made toward resolving these remaining claims, the litigation reserve has been increased by a pretax charge of $15 million. This charge was recorded in the Distribution Solutions segment and it equates to $0.04 per diluted share. Before I move on, let me also remind you about one other item that impacts the presentation of our financial statements. As previously announced on our May 7 earnings call, we took a number of strategic business realignment actions in our fiscal 2013 fourth quarter. As part of these actions, we are exiting our International Technology and Hospital Automation businesses and the results of these businesses are now reported as discontinued operations. My remarks today will focus on our first quarter adjusted EPS from continuing operations of $2.07, which excludes 4 items: amortization of acquisition-related intangibles, acquisition expenses and related adjustments, certain litigation reserve adjustments and LIFO-related adjustments. Turning now to our consolidated results, which can be found on Schedule 2. Consolidated revenues increased 5% for the quarter to $32.2 billion. I would remind you of our assumptions for the full year, which call for strong revenue growth in both segments. These assumptions still apply. On this 5% revenue growth, adjusted gross profit for the quarter increased 23% to $1.9 billion. Recent acquisitions completed in both segments contributed to this result, with both segments achieving healthy adjusted gross profit margins and expansion. Total adjusted operating expenses of $1.2 billion were up 18% for the quarter, driven by the impact of acquisitions closed in fiscal 2013. For the full year, excluding the impact of recent acquisitions, we continue to expect total company adjusted operating expenses to increase approximately 3% for fiscal 2014. Other income was relatively flat for the quarter at $6 million. Interest expense increased 5% versus the prior year to $59 million, driven primarily by new notes of $1.8 billion issued in late fiscal 2013 and partially offset by the repayment of $500 million in long-term debt in March 2013. For the full year, despite our higher levels of debt, we continue to expect our fiscal 2014 interest expense to be fairly flat versus the prior year. Our adjusted tax rate for the quarter of 30.6% is in line with our full year estimate of 31% for the adjusted tax rate for fiscal 2014. I would remind you, however, that this adjusted tax rate may fluctuate from quarter-to-quarter. Adjusted net income for the quarter was $481 million and our adjusted earnings per diluted share from continuing operations was $2.07. Wrapping up our consolidated results, diluted weighted shares outstanding decreased by 3% year-over-year to 232 million. This year's earnings per share number was aided by the cumulative impact of our share repurchases and our full year assumption of 231 million diluted weighted average shares for fiscal 2014 remains unchanged. Moving now to our segment results, which can be found on Schedule 3. Distribution Solutions' total revenues increased 5% for the quarter to $31.4 billion. Looking at the components, direct distribution and services revenues were up 8% for the quarter to $23 billion, driven by market growth and our mix of business. For the full year fiscal 2014, we continue to anticipate direct revenue growth will rebound strongly from prior year levels, driven by the slowing of brand-to-generic conversions and aided by above-market growth from a handful of our largest customers. Warehouse revenues declined 17% for the quarter, partially driven by a shift to Direct Store Delivery. Canadian revenues on a constant currency basis increased 3% for the quarter. For the full year, we continue to anticipate strong growth in this business as we expect to benefit from recent customer wins and a recent customer transition. Medical-Surgical revenues were up 71% for the quarter to $1.4 billion, driven by the impact of the PSS acquisition. Distribution Solutions' adjusted gross profit increased 25% for the quarter on 5% revenue growth, resulting in a 78-basis-point improvement in our adjusted gross profit margin. In addition to the PSS acquisition, our first quarter gross profit in Distribution Solutions benefited from favorable generic performance. Adjusted operating expense for the segment increased 24% for the quarter, driven by the business acquisitions we made in fiscal 2013. Adjusted operating margin rates for the quarter were 223 basis points, an improvement of 38 basis points versus the prior year. As you've heard us say many times before, given the quarterly variability in this segment, we always focus on full year margins. In this context, based on the first quarter performance and our updated outlook for the full year, we now expect adjusted operating margins for Distribution Solutions to approach the midpoint of our long-term adjusted operating margin goal of 200 to 250 basis points. Turning now to Technology Solutions, revenues were up 9% for the quarter to $805 million. Adjusted operating expenses in the segment increased 9% for the quarter. And here again, you see the impact of the acquisitions we made in the prior year. Technology Solutions' gross R&D spending for the quarter was $113 million, up 10% compared to $103 million in the prior year. Of these amounts, we capitalized 8% versus 7% a year ago. Our first quarter adjusted operating profit was up 33% to $137 million and our first quarter adjusted operating margin rate was 17.02%, an increase of 308 basis points versus the prior year. Before I move on, let me remind you again that the results of our International Technology and Hospital Automation businesses are reported as discontinued operations. And we now expect to be within the high end of our long-term adjusted operating margin goal of mid-teens for fiscal 2014. Said differently, our full year fiscal 2014 outlook for Technology Solutions' operational performance remains unchanged from what we discussed on our May 7 earnings call. Moving now to the balance sheet and working capital metrics. As you've heard us discuss before, each of our working capital metrics can be impacted by timing, including the timing of payments or what day of the week marks the close of any given quarter. So for receivables, our days sales outstanding remain unchanged at 24 days. Our days sales in inventories of 31 days was flat versus a year ago, and our days sales in payables increased by 3 days to 50 days. These working capital metrics, along with our continued focus on cash generation, resulted in cash flow from operations of $716 million for the quarter. Overall, for the full year, we continue to expect our cash flows from operation will be approximately $2 billion. We ended the quarter with a cash balance of $2.9 billion and we remain confident in our ability to create shareholder value through the continued use of our portfolio approach to capital deployment. In line with our capital deployment philosophy, as you saw in today's press release, our Board of Directors approved a 20% increase to the quarterly dividend. Internal capital spending was $100 million for the quarter, and we continue to expect full year internal capital spending between $400 million and $450 million. Now, I'll turn to our outlook. As John mentioned earlier, we are raising our fiscal 2014 guidance on adjusted earnings from continuing operations from our original range of $7.90 to $8.20, to a new range of $8.05 to $8.35. In addition, we now expect $0.75 amortization of acquisition-related intangible assets and $0.22 of acquisition expenses and related adjustments. And due to the AWP litigation charge we recorded this quarter, we are now assuming $0.04 for litigation reserve adjustments. Now let me take a few moments to provide context for the LIFO-related adjustments that we expect in fiscal 2014. To give you a bit of history, McKesson elected to use the LIFO method of accounting for a majority of its inventory for accounting purposes more than 30 years ago under a tax conformity rule. While our actual LIFO adjustment is calculated at the end of our fiscal year, for interim reporting purposes, we will allocate that adjustment to the quarters. These quarterly estimates can vary significantly based on net product price trends, including brand-to-generic conversions and inventory levels. A LIFO charge is recognized during inflationary periods when the net effect of price increases on products held in inventory exceeds the impact of price declines. So what does that mean for fiscal 2014? Taking a step back, if you think about the trends we've experienced over the past several years, for our fiscal years 2005 through 2011 our inventories were in a net price deflation period. This net price deflation was driven primarily by the large number of brand-to-generic conversions that occurred and the overall brand and generic pricing trends. During this time period, we also established a lower of cost or market, or LCM reserve, in order to properly value our inventory on our balance sheet at the lower of cost or market. Then in fiscal 2012, we began to see these trends shift, particularly on brand and generic pricing, and our inventories experienced net price inflation. We continue to expect net inflation in our inventories in fiscal 2014 and are also now at a point where our LCM reserves are anticipated to be depleted in the second quarter of fiscal 2014. As a result, we will begin to record quarterly charges based on our estimate of the LIFO inventory charge for the full year. Sitting here today, we expect to record a total net LIFO-related charge between approximately $0.24 to $0.29 by the end of fiscal 2014. As an aside, for the first quarter of fiscal 2014, we did not record any LIFO-related charges. Consistent with how we discussed LIFO-related charges on our May 7 earnings call, and again at Investor Day in June, our fiscal 2014 guidance excludes the impact of all LIFO-related adjustments. Additionally, we have now updated our definition of non-GAAP measures to exclude LIFO-related adjustments. We believe that excluding LIFO-related adjustments from our definition of adjusted earnings is a better reflection of the company's core operating performance, consistent with how we internally manage the business, and will provide useful information when comparing our past financial performance to our future financial results. We will, of course, continue to provide all of the GAAP information we have historically provided as noted in Schedules 7 through 9. In thinking about our fiscal 2014 guidance and beyond, it is important to note that regardless of what EPS measure is used, our ability to consistently grow our earnings over the long term remains unchanged. Turning back now to the quarter. To summarize, McKesson delivered another outstanding financial performance, and our first quarter results position us well for the remainder of the fiscal year. The strength of our balance sheet and tremendous cash flow provides us with opportunities to deploy capital to advance our long-term strategic objectives and we are optimistic about our fiscal 2014 outlook. Thank you. And with that, I'll turn the call over to the operator for your questions. [Operator Instructions] Lisa, I'll turn it back to you.

[Operator Instructions] We'll take our first question from Tom Gallucci with Lazard Capital Markets.

I guess, first question, just on the margins in the distribution space, clearly you beat the street by a lot. I was curious, how much did you beat your own internal budgets by, for the quarter itself, and what were the key drivers there?

Well, we state our assumptions with you guys every year, annually, about our expectations for the year. And I think that most of the businesses performed in line with where we thought they were going to be. Clearly, U.S. pharma had a very strong quarter and a nice start to the year. And as we both mentioned, I think that performance was primarily driven by the performance of generics. It helped carry us above what we had expected originally and it helped us deliver a nice solid quarter.

And by that, you're talking about pricing, I guess, John?

Well, it was really across the board. Clearly pricing played a role. But we also, I think, executed some very nice growth on our one-stop generics programs and we had some customers that were buying off of our portfolio in a more aggressive way than even we would've anticipated. So I think all in all, it was the overall generic offering that we have and benefited by some price inflation from our suppliers.

Okay. Can you offer an update on the CFO role?

We're continuing to make good progress on our search for a replacement for our CFO. I have to once again thank Nigel Rees for the great work he's doing as Interim CFO. He's been a long-tenured executive, 12 years with us, and we have just a terrific financial organization. As you noticed, here, we've got Erin really stepping into Jeff's shoes as it relates to this conference call and the preparation for this call. And the depth of the financial organization is really showing as we go through this period of transition. I'm hopeful that we will make quick progress on the selection of a replacement, and we'll be able to move on with the kind of quality which you've expected from us.

And we'll take our next question from Lisa Gill with JPMorgan. Lisa C. Gill - JP Morgan Chase & Co, Research Division: I was wondering if maybe you could just talk about, John, in the quarter, or Erin, what -- you talked about it being unusually strong, but how much of this was pull-forward from other quarters versus what we've seen historically? And what is your outlook around drug distribution as we move forward, just given what we've seen in this first quarter?

Well, clearly it was a very strong start to the quarter and -- or for the quarter and the year, and we're really pleased with our results. You can see in that we've taken our guidance up for the year that we do believe that this outperformance in the quarter is not an entire pull-forward of future quarters. Having said all of that, there are 9 months left in this year and we have a significant dependence, as you know, on brand price inflation. And much of that, we anticipate, will come in the latter half of the year. So it's really too early to call success, but I think the ability for us to take the guidance up at least early in the year like we have this quarter is some indication of our view of the strength of the business. Lisa C. Gill - JP Morgan Chase & Co, Research Division: And then, John, I guess, my follow-up question would be that in the past, we've talked about international expansion, and clearly, things are going pretty well in Canada, but you've exited Mexico. Can you just give us an updated thought on global purchasing and where McKesson stands on thoughts around getting into other areas of the world from a distribution perspective?

Well, there's really 2 questions there. One is the question of Global Sourcing and our -- the scale and buying power and the ability for the team to execute. I think, once again, the strength of our performance in generics where most of the scale -- or I should say, the scale matters most, is evidenced by the fact that we continue to execute very well there. And it really is a combination of not only important scale but the ability to be adroit in terms of opportunities and take advantage of our relationships and to build value both for our customers and our suppliers. And we've been doing the Global Sourcing thing now for a long time and have built a significant amount of expertise in it. As it relates to distribution in other markets, clearly we have done a nice job in Canada. Our position there has continued to perform well over many years. And we show evidence of our ability to manage beyond the borders of the United States. Having said that, our disciplined approach to capital deployment remains and we've built a strong track record of doing smart things with our shareholders' money. And the first thing is that things have to make financial sense and strategic sense before we move forward and we have to be able to, obviously, feel we can execute against the opportunities that are in front of us. So we think scale is important, but executable scale and a simplicity to the approach, I think, is very important.

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

My first question is on the IT side. Obviously, it looks that now with the new geographic concentration the fact that you've exited, discontinued some of the International Technology business is helping to improve the margin. So as we think just longer term, should we think of this as kind of like a new level of profitability for the IT segment?

Erin. maybe you can take that one.

Sure. Well, Ricky, as we've tried to highlight on today's call, our operational assumptions for the Technology Solutions segment for the full year really remains unchanged. And what you see in the way that we've guided to our expectation to be at the upper end of our long-term margin range is a reflection of some of that change in mix that you see in the business.

So just to further that, I think the -- clearly, the mix change we've experienced is an important aspect here. The business also performed very well in the first quarter, and we're pleased with the operational condition of the business, albeit it's early in the year. And then lastly, I think Erin provided pretty specific guidance related to -- that the expectation for the year is to be at the high end. So I think that the quarter's result, I wouldn't call it as a baseline, but we're clearly going to be well above where we were in prior years as a result of the transition out of these 2 businesses and the continued strength of the business. So I think we've taken it from low to mid-teens to a new range, and I think you should assume that that's the new baseline.

Okay. And then just to clarify, the $7.90 to $8.20 guidance, did that include the LIFO charge that you specified?

Thanks, Ricky. This is Erin. So, no, when we gave guidance back on May 7, we tried to be very clear and transparent that, that original guidance range did not, in fact, include assumptions related to LIFO. So what you see in terms of the comparison of the original range, and then, of course, our updated range is an apples-to-apples comparison.

Our next question comes from Steven Valiquette with UBS.

I've been dialing back and forth here on a few different calls, but was there any update on the level of accretion that you expect in this fiscal year from the PSSI transaction?

Steven, we did not provide an update, but I can provide an update. I think the level of accretion we expect this year is in line with what we said at the time we did the transaction in that $0.20 to $0.25 range. Clearly, we believe there are some long-term synergies that will be available to us as we get to the outer years of these integrations. But we do believe the business is performing at or above the expectations that we had coming into this. And I also mentioned how pleased I am with the energy level in the business and how well they're performing thus far.

Our next question comes from Robert Jones with Goldman Sachs.

I wanted to just touch on Medical. I know you mentioned that the integration sounds like it's going well with PSS, but I was wondering what you're seeing on the core medical business. On the acute care side, there's been some negative data points throughout earnings here. I was wondering if there was any spillover into the physician space or are you still seeing pretty healthy growth there?

Well, as you know, we sold our acute care business, Robert, some time ago and so we don't have a lot of exposure to acute care or inpatient growth rates. We increasingly have a footprint in organizations that have acute care as part of their mix, these large IDNs that are buying physicians and we're doing extremely well in maintaining and growing our physician business as those acquisitions take place by these large hospital systems. We still see growth in our alternate site markets in that 5% plus or minus kind of range. Remember, we are very well positioned in both the physician market, as well as long-term care. And I'd say exceptionally well positioned also in our Homecare businesses. And so I think we're in the right part of the market from a Medical-Surgical perspective and those businesses continue to perform in line with our expectations.

Great. I understood the current footprint. I was just wondering, given some of the negative data points in the acute side, if you had seen any in the ambulatory side. It doesn't sound like you have. On the share shifts within the retail independents, since it's something that's come up a little bit, with us at least, have you guys noticed any significant market share changes amongst that client base?

Well, these -- the market base is extremely diverse, so you don't see a lot of trends in these businesses very easily because it takes a long time for independent customers to make enough -- enough of them to make any decisions one way or the other to affect sort of the underlying share statistics. Having said all of that, we continue to evolve our programs and focus on adding a significant amount of value to our existing relationships and to provide a platform that really is attractive to our customers where they know they can have a long-term partner that's focused to work alongside them to improve their performance on many different dimensions, not just the cost of distribution but the profitability of their stores. So I think we're very well positioned to continue to grow nicely in the independent space, and obviously, a lot of that is just continuing to earn the privilege of serving our customers in a broader context.

We'll take our next question from Glen Santangelo with Credit Suisse. Glen J. Santangelo - Crédit Suisse AG, Research Division: John, I apologize, but I need to ask one more question on the margins and distribution. When you guys hosted your Analyst Day last month, I think you talked about the manufacture economics on both branded and generics were better than what you thought. And you thought it was a little bit premature at that point to determine if it was just a timing shift or really a trend change in terms of what's going on with the manufacturers. Maybe you could give us a little bit more details as to what you're seeing at the manufacturer level that's maybe translating into such decent margins for you guys?

Well, I think the branded portion of our profit has remained relatively in line with where we expected it to be, slightly -- maybe slightly ahead. But clearly, we've a lot of year left as it relates to those branded relationships and how we're paid in this. I might remind those of you that are sort of new to this, those relationships are kind of predetermined and so the issue is really around the timing associated with those value-creating events of prices with branded manufacturers. On the generics side, we did have very strong performance in our portfolio in the quarter. And to your point, I think it's a little bit premature to call any of the things that we saw from an upside perspective on -- as a trend change. Clearly, our business operations, I think, you can count on continuing to be there and then hopefully we'll continue to have momentum in the way we execute on our generic opportunities. However, on the brand side, we are a little dependent on how those -- excuse me, on the price side, we're a little bit dependent on how those generic manufacturers behave over time, and I think it's really too early to make an industry call relative to trends. Glen J. Santangelo - Crédit Suisse AG, Research Division: Okay. If I -- maybe if I could just follow up on your Specialty business. It seems to be that everything is going well there from both the revenue and margin perspective. Obviously, one of your competitors has called out some issues in that business, and I understand the businesses are not apples-to-apples to be compared. But if you think about some of the things going on there, whether it be a little bit more restrictive labeling or transition of the point of care or sequestration having an impact on the community, oncologists, I mean, I'm just surprised that you're not seeing any of that impact to your business or maybe you are?

Well, clearly we see the same stresses on our customer base as exhibited in the entire industry. We are very concerned about the reimbursement pressure that our oncologists are facing and, clearly, we are heavily engaged to make sure that we speak on their behalf and on our behalf to make sure that the reimbursement that goes on in that marketplace stays where it needs to stay and that they're adequately paid for the services they provide. We believe community oncology still provides the lowest cost and best quality alternative in the marketplace. As to our business, I can't really speak for the whole industry. Clearly, the minor variations that may exist relative to reimbursement are really covered in the guidance range that we provided. So we don't think that we will experience something driven by reimbursement alone that will cause us to fall outside of the guidance that we've provided, and so relatively nominal effects, as it relates to what we're trying to do overall. And last I would say that our business model is quite different than our competitors in this marketplace. And you'll notice a pattern here in all of our discussions in our attempt to add value to our relationships in a way that's difficult to price-compete against. And when we're thinking about the total value we can deliver to oncologists in this country, it really is unmatched in that we can help them on almost every dimension of their practice. Including expanding into radiology and other types of service offerings, clearly helping them with getting on the contracts with the payors, helping to become more productive and efficient. All of those things really allow us to have a conversation with a customers that's in significant stress about how they might partner with McKesson to improve their performance. So I do think the market trend may be slightly stressed as a result of reimbursement changes. Clearly, our customers are feeling it. But if we do this properly, McKesson will provide a great vehicle to help them out of the challenge that they face and that we face together.

Our next question comes from Robert Willoughby with Bank of America Merrill Lynch.

Just a quick one for Erin. Is this the D&A run rate that we should see for the rest of the year? And then maybe for John, just a bit more direct. I can't believe the ongoing debate on Celesio that we're seeing in the media. Is that good for your stock? Is there anything that you could say more directly to that business model, why it might fit, why it would not fit your model?

Well, let me take the Celesio part of that question, then Erin can address the first part of your question. I think that you never know what goes on in the media, particularly in Europe. I'm not that familiar with how these bankers get engaged, and what they might say or might not say and why they would say them or not say them. We've seen noise in these markets before and speculation before, and you just don't know what the motives might be and what's real and what's not real. Clearly, the concern as a shareholder at McKesson, people should have is does that company have the proper scale to compete, do we have the proven track record to use that scale in a way that gives us the best value of delivery to our customers and to the manufacturers we partner with and are we doing it in a way that is intelligent use of the capital that's been entrusted to us by our shareholders? So I think that international expansion clearly can provide scale on some dimensions. The question is it scale that's actionable, can you do something with that buying power? Is it really truly in the control of the distributor and what capital do you have to deploy to do it, and what is it -- how does it translate into a synergy that's worth buying when you add additional complexity. So what you should take away from this, frankly, is we're not closed to any ideas. Our job is to evaluate ideas, including M&A ideas, in a very aggressive and intelligent way. At the same time, you should take away from this, we're not going to be chasing something that somebody else has done or thinks is a good idea, or chasing investment bankers and media on opportunities that we have not clearly determined are in our best interest. So I would dismiss what's in the media just from a standpoint of you just never know where it's headed and why.

And, Bob, to address your question on D&A, on the materials that we provided today. Obviously, we've provided updated assumptions on amortization based on the acquisitions that are closed at this time. And I also provided some update, or actually talked about our full year capital spending, which is in line with our original expectations. So I think on the depreciation side, what you see our first quarter run rate is a reasonable approximation of the full year.

We'll take our next question from Ross Muken with ISI Group.

John, you mentioned some progress in the IT business on the GA front, maybe elaborate a bit there. And in general, it seems like a pretty stable environment on the software side but you continue to do well in most of the transaction businesses. Obviously, you're much happier with the performance there. Do you feel like getting rid some of those underperforming pieces will help remove some of the distraction there as well?

Well, clearly, I think the business is able to focus more in the new portfolio and the way the portfolio has been organized. And clearly, the financial condition of the business is -- and its improvement is more apparent as it relates to what we reported in the quarter. We are pleased with the progress at Paragon with the general availability of several of their new modules and that did allow us to, frankly, recognize some revenue that may be slightly pulled forward from the rest of the year's expectation. But I think that we're really -- we're pleased with the progress. And probably as important, as you know, Paragon had commitments to customers related to future delivery and in many ways, evidence of the ability to us -- for us to develop our way to a complete offering that can compete in the marketplace. And this is additional evidence of the development teams' expertise at Paragon and our ability to hit those requirements. So I am pleased with the condition of the business.

And maybe just quickly on Canada. We saw some consolidation up there in terms of 2 of the dispensers. I mean, if that's a trend that continues, I mean, what's your thought about what that means for your business and positioning up there?

We have a very strong long-term relationship with one of the consolidators that was talked about in the quarter, and that's Loblaws. We are the distributor partner for them. And so watching our partners grow is a positive thing for us. Consolidation carries an opportunity and also carries a threat. The threat is that you've got to continue to be refined in your approach and cost effective and add tremendous value as your customers get more and more scale. But on the other hand, it also provides an opportunity for us to bring expertise in a wider-ranging array of abilities across a stronger, or bigger footprint that our customers may be accumulating or amassing. So I think we've done well in worlds that are consolidating in both the U.S. and Canada.

Our last question comes from David Larsen with Leerink Swann.

Can you just comment, please, on your hospital IT customers' conversion process from Horizon over to Paragon? Our data is coming back pretty positive in terms of your retention of those Horizon clients. I mean, I imagine these Paragon GA items have -- are associated with that?

Thank you for the question. Yes, our data would also indicate that our transition of Horizon customers to Paragon is ahead of the expectations that we had. And the customers that have made these early decisions to make that transition I think have done so with a view that Paragon is the platform of choice, both in terms of its features and function, but also in its total cost of ownership. And as you point out, the further development of the product line and the GAs that we've announced helped solidify the customer's view that this is the product of choice going forward. So we are pleased with the progress. That's not to say that we don't have more work to do and that there aren't existing Horizon customers that are still asking themselves the question of whether or not they should invest in somebody else's platform or if they should take advantage of this unique opportunity to convert to Paragon. So we're hopeful that we will continue to make that progress. I want to thank you, operator, and I want to also thank all of you on the call for your time today. I'm extremely pleased with our strong first quarter performance and excited about the opportunities that lie ahead. And I also want to recognize the outstanding performance of all of our employees and their contribution to these great results. And I'll hand the call off to Erin for her review of upcoming events for the financial community. Erin?

Thank you, John. I have a preview of an upcoming event. On November 12, we will present at the Credit Suisse Health Care Conference in Scottsdale, Arizona. We will release second quarter earnings in late October. Thank you for your attention today and goodbye.

And that concludes today's conference. Thank you for your participation.