Welcome to McKesson's Q4 Earnings Call. Today's conference is being recorded. At this time, I'd like to turn the call over to Holly Weiss. Please go ahead.

Thank you, Lashana. Good morning and welcome everyone to McKesson's fourth quarter fiscal 2020 earnings call. Today, I'm joined by Brian Tyler, our Chief Executive Officer; and Britt Vitalone, our Chief Financial Officer. Brian will lead off, and Britt Vitalone, our will move to a question-and-answer session. Today's discussion will include forward-looking statements, such as forecast about McKesson's operations and future results. Please refer to the cautionary statements in today's press release and our slide presentation and to the Risk Factors section of our periodic SEC filings for additional information concerning risk factors that could cause our actual results to materially differ from those in our forward-looking statements. During this call we will discuss non-GAAP financial measures. Additional information about our non-GAAP financial measures, including a reconciliation of those measures to GAAP results is included in today’s release and presentation slides, which are available on our website at investor.meckesson.com. With that let me turn it over to Brian.

Thank you, Holly, and good morning, everybody. Appreciate you being with us on the call today. I sincerely hope that you and your families and your communities are staying healthy and safe as we navigate through these really extraordinary times. Today, we reported a strong finish to our fiscal 2020 with the trends we saw in the fourth quarter prior to the COVID-19 pandemic reflecting a continuation of the momentum we experienced coming into and really throughout our fiscal year. Throughout McKesson's 187-year history, we've demonstrated time and time again our ability to adapt and swiftly respond to the evolving needs of our customers, particularly in trying times and the resiliency in the long-term strength of our business model. Today, my remarks will echo similar themes. I want to walk you through McKesson's response to the COVID-19 pandemic and the essential role we play in the healthcare supply chain, the progress we've made this year against our strategic priorities, and our FY '20 results, including the impact COVID-19 had on our fiscal fourth quarter. I also want to talk about why I'm confident that McKesson remains well positioned now and especially over the longer term. Before I begin, I want to acknowledge and really sincerely thank all of those who are working so tirelessly to keep us healthy and safe during this crisis, including our customers and all frontline healthcare professionals, nurses, physicians, first responders literally around the world. Thank you to each and every one of our 80,000 McKesson associates for their passion, their energy, in many cases, courage these past several months, working around the clock to maintain McKesson's operations and support our customers and frontline caregivers during these challenging times. I want to particularly recognize our colleagues, who are on our front lines, like those in our…

Thank you, Brian, and good morning, everyone. Our fiscal fourth fiscal fourth quarter was certainly very different quarter than we were expecting when we last spoke during our third quarter earnings call. The COVID-19 health crisis has impacted the way our employees, customers, partners and communities live and work. We could not be prouder of how our teams across the world have responded. In this new environment, our team supported our employees, customers, patients and communities and demonstrated the resiliency and strength of our business with solid financial performance during these challenging times. Let me start by reaffirming that the fundamentals of McKesson's business are solid. Our strategy is clear, and the prospects for the business remain unchanged and promising. Despite the challenges and uncertainties of the current environment, our businesses continue to play a leading role in the health care supply chain. Our focus, execution and financial discipline remain intact. Today, I'll provide you with more granularity than I typically do to help you understand our view on recent trends and how our business is performing in this uncertain and rapidly evolving environment. I have three primary goals for today's call. First, to provide an update on our fourth quarter and fiscal 2020 results, including the estimated impacts from COVID-19. Second, to provide an overview of the recent trends we are seeing. And third, to provide a detailed fiscal 2021 outlook. Many companies have withdrawn and not provided guidance. However, given the uncertainties in the environment and the wide disparity across analyst models, we felt it was important to provide our assumptions and views on the upcoming fiscal year. I will address our guidance in more detail later in my prepared remarks. However, I'd like to provide a bit of framing as it relates to fiscal 2021. The guidance…

Thank you. [Operator Instructions] And your first question comes from Michael Cherny with Bank of America Merrill Lynch.

Good morning. Thank you for all the details. I wanted to just ask a bit of a follow-up clarification, additional question on the pharma EBIT guidance. In particular, you talked about 0% to 3% growth in the second half of the year on an adjusted profit basis, so as you think about the ramping, should we assume that you’ll be exiting fiscal 2021 at a –“normalized run rate?”, and in jumping into fiscal 2022 on what should be the normalized run rate of profit growth for the Pharma segment in particular?

Mike, thanks for that question. I'll start and let Brian add on to that. We're very pleased with our performance in our U.S. Pharma and Specialty Solutions segment in fiscal 2020. We finished the year with full year adjusted operating profit of 6%. We had strong revenue growth throughout the year. And as we talked about, we expect that the first half of the year, we're going to have some more sharp impacts on our Specialty Solutions businesses, which will impact obviously the full year operating profit. As we talked about, we expect that to continue to improve throughout the year. And as we get to the back half of the year, that gradual improvement throughout each quarter will lead us to get back to growth for the second half of the year. And so I think that as you think about this, there's going to be gradual improvement across each quarter. As we get to the end of the year, we're going to be exiting on a growth basis again, and feel good about the prospects from that point forward.

Your next question comes from the line of Robert Jones with Goldman Sachs.

Great. Thanks for the question. I guess, maybe, Britt, just to follow-up on that. I mean, coming into fiscal 2020, you guys had thought the U.S. Pharma and Specialty business could grow at 3% to 5%. I'm sure there was a little bit of pull forward in the 4Q. But generally, business performed in line to slightly better than that. I mean, just to follow-up on your previous answer. I mean, is the assumption that the business gets back to those levels as we get through the year, and in particular into 4Q? And then just one housekeeping. I know you mentioned the $45 million of one-time adjusted operating expenses in the fourth quarter. I was curious if that was included, excluded, and then what's the assumption for additional COVID-related costs in 2020 guide? Thanks.

Yeah. Thanks for the question. Let me just step back to your first question. Again, as we talked about, in our U.S. Pharma and Specialty Solutions business, it's a broad business, U.S. Pharma distribution, but also a broad-based specialty set of businesses, which includes our multi-specialty provider businesses, which as we talked about have been more severely impacted in April and early May, and we expect to have a greater impact through the first quarter with just gradual improvement throughout the balance of the year. So as we think about that second half of the year, it's really going to be that continued improvement of not only volumes, but profitability across both of those businesses. And we feel comfortable that getting to a 0% to 3% growth in the balance of the second half, again, with that gradual improvement sets us up well to returning to that 3% to 5% as we go forward. We won't recover all of the volumes this year. We'll recover it gradually throughout the year. But again, I just would point out that our broad-based specialty business, which includes our provider business and our practice management business are more impacted and are going to gradually improve over the balance of the year. The $45 million that I referenced earlier on that was across all of our businesses. It was, as Brian mentioned, to pay bonuses to frontline workers in each of our businesses as well as donations that we made across communities as well as cost to set up remote work environments, again, in our corporate environment, but also in our businesses. That's obviously part of the year-over-year comparison that is included in our FY 2020 Q4 results, and that will be included in for comparison purposes in FY 2021.

Yes. Those are actions taken really early part of March as we assess the impact this would have on our teams, and frankly anticipated the impact on our communities. And we thought it was just an important part of who we are as a company to take those actions. Obviously, as we look to the year coming ahead, there will be some incremental expense to support social distancing, workplace reengineering, protection of customers, and employees, and will be continued to be committed to make whatever investments we need to, to take care of them.

Next question.

Your next question will come from Eric Coldwell with Robert W. Baird.

Thanks very much. Good morning. Thanks for all the details. A couple of just unrelated questions. First one, share repurchase. You expressed interest in continuing with that program, but weighted average shares outstanding, guidance seems a little bit higher than we would have expected given the low share price right now. I'm just curious if you can give us any specificity on what you're thinking about share repos? Second question, unrelated. U.S. oncology. Would be great to get an update on what you're seeing real-time with your practice management business and what impacts you're getting from COVID? Thanks very much.

Thanks, Eric. Let me start and take the first one off the table and then turn it over to Brian. As I mentioned, in the fourth quarter through the exit of Change Healthcare, we retired 15.4 million shares. And we've given you a guide of 161 million to 163 million. Our capital deployment program will include broad-based, balanced approaches we always have, and that will include M&A as it presents itself on strategy and with good returns, but it will also include continued to return capital to our shareholders which could include share repurchases, and we do have $1.5 billion remaining on the authorization, and we'll continue to use that to return capital as it's appropriate.

Yes. Let me maybe take up the U.S. oncology question. So we worked very closely with our partners in the practices to respond to this unprecedented time, and it's impacted all care providers. The U.S. oncology patient visits have certainly declined as social distancing guidelines were implemented, and that impact is really varied depending on what kind of oncology, what kind of answer you're experiencing? You see in the very fast-moving aggressive cancers, patient volume has not fallen off so much and some of the solid tumor cancers where progression is slower, people are more hesitant to go in and get testing, get diagnosis, may feel they had some time to delay. So we have seen a bit of visit decline, but the revenue decline has been less than the visit decline, which is encouraging to us. We've also taken actions to implement things like telepresence or virtual consultation services, and we've ramped up that pretty significantly in the last few months. So overall, I think, I'd say, we feel good about our positioning, oncology of all the ologies or specialties has probably been a little more insulated as you think about diseases that's probably not unexpected. But we continue to work closely with our practices to think about all the ways we can help feel make patients feel more comfortable to returning to their care.

Your next question will come from the line of Eric Percher with Nephron Research.

Thank you for the details and for your efforts. A question on MedSurg, the metric on 60% of this being provider focused was helpful. I imagine there's some very different dynamics in the ASC versus the physician office. Could you help us with an understanding of what your distribution business here focuses on? I'm thinking less on PP&E potential benefits there. Are there significant pharmaceutical elements? Is there a number that you can provide us relative to the pharmaceutical component of medical and any expectations for vaccines or experience with the vaccines for children's program? How is that running? And how might you participate in vaccines in the future?

Great. Thanks, Eric. Appreciate that question. Our medical business does have a significant footprint in primary care, which we include the ambulatory surgery center in there. And within the kinds of practices, and we serve basically all different kinds of practices from general practitioners, OB GYN, even up to special – more specialty-oriented practices with medical products. And so there's been a pretty wide variation in the way specific specialties or focuses of those practice would have responded. And as you're well aware, we have a very broad offering to these practices. It is PP&E, which is tends to be a pretty small, historically, a very small part of these practices. Obviously, in the last months with social distancing and all the changes we've all experience, the PP&E demand is up significantly. But we're also in specialty Rx, Rx, lab, equipment, reagents, I mean, we've very, very broad business. And what I would say to you is that, we see patients volumes decline, and as Britt reviewed the metrics that we've seen there. I mean, really, all of those various elements have been impacted. And as patients begin to return to the practices, we think we'll begin to see those volumes all rebuild over the course of the coming year. It's obviously, from a vaccine perspective, it's a little early. Vaccines are not on market. But I would remind everybody, we have quite an extensive footprint in the distribution of vaccines today. We do distribute vaccines through the medical business to all of our practice areas. We work with CDC and their Vaccine for Children program as a supplier of those vaccines. Many years ago when H1N1 hit us, we worked with public partners to facilitate a program to manage that vaccine. So we're very engaged with all the various agencies that will have interest in this interest in this with our manufacturer partners to make sure we're availing our insights and our knowledge and our capability. And I suspect that as vaccines come to market, acceptance ramps up, we'll have to look at what is the production, how does that production scale up and how fast? but we would expect to be very engaged in those discussions.

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

Thanks very much and good morning. Brian, can you give us an update on where you are as far as an opioid potential settlement? I know we talked about the framework, which was several months ago. Sitting here today, I would anticipate that states being in a difficult financial position may be more likely to want to move forward. So if you could just give us any update there, that would be really helpful.

Sure, Lisa. I'd be happy to. I mean, probably goes without saying that our primary focus the last weeks and months has been on responding to COVID-19, supporting our communities and our customers in that response. And I'm sure the same has been true for a lot of the public officials that have been involved, I guess, on the other side of this opioid issue. I really don't think there's a lot to add to the opioid issue. I really don't think there's a lot to add to the commentary we provided last time in terms of the specifics of the settlement discussions. I mean, we continue to be engaged we continue to be hopeful that a broad resolution can be achieved. We do think that one of the drivers has always been for us, the recognition that people and communities have needs, and it would be great to get the resolution for them and those needs are probably greater now than ever.

Our next question comes from the line of Brian Tanquilut with Jefferies.

Hey good morning guys. Brian or Britt, as I think about the guidance, and obviously, I appreciate all the color you've given in terms of your assumptions. But as we stare down a recession heading into 2021, I mean, based on your experience being with the company during the last recession, how are you thinking about just the likely decline in physician office visits and how your business will be resilient through that?

Great question. We've -- our business has been through many economic cycles over its history. Fortunately, Britt and I have been here for all of them, but we were here for the '08, '09. What I would say in general is, I think our business model is pretty resilient to an economic recession. And I think if you look back over history, you would see that to be the case. I will say this situation is a little bit different, though, because it's an economic recession, but it's really driven by an underlying health pandemic and so in my mind, the way the business will respond is a little bit more about how we respond to the health pandemic than a “Recession”. The faster patients get comfortable being out of their homes, the faster they get comfortable going into health care settings, the faster social policy, testing, tracing, all these things we're talking about in the business and the public community as these comes to place and our confidence resumes, I think that's really what's going to tilt the trajectory. And so for me, it's much more about how healthcare demand comes back than the general economic climate. I mean, there's always puts and takes with are you uninsured with no coverage? Do you go to the Medicaid? But those are -- we tend to be a little insulated from that. So I think it's really all about how quickly confidence comes back in patients consuming health care services.

Yes. I might just add that our guidance really assumes that health care demand will return. We've seen that in prior recessions like this. And our guidance really assumes that it's a gradual build over the course of the year. We're already seeing some -- as I mentioned, we're seeing some evidence of modest increases in May that's early obviously, but we do expect that health care demand will return, and we do expect that we'll be well positioned for that and really in all the different settings that we participate in.

Your next question comes from the line of Stephen Baxter with Wolfe Research.

Hey, thanks for the question. I hope you all are doing well. This is a bit of a follow-up on the prior question about the economy in a more normalized recession. I was hoping you could spend a little time talking about how we should think about the financial healthier customers and how you could see the business being impacted by that in the coming months and years. For example, there are headlines in the news today were even large and well-funded businesses are seeking relief from landlords. So I guess, what, if anything, are your customers asking of you at this stage? Any insight into your conversations with your customers would be helpful? Thanks.

Thanks for that question. And it's a really good question. And we've been working with our customers since the pandemic really started, and particularly those customers who have had to shut their doors on a temporary basis. We did record a small incremental reserve in our medical business in the fourth quarter, and I called that out. It's really more a mechanical adjustment. We've been working very closely to try to understand when they -- when these customers would reopen, what the demand is in each of their businesses. And to this point, our customers have either been able to go out and get loans or access public funds that are available, we work very closely with us, and we've been able to help them and really understand what their situation is. So we've not really seen a degradation in credit quality to this point. We'll continue to work very closely with those relationships. At this point, I think our customers are very resilient as well, and we're very close in working with them to keep them as credit resilient as possible.

Yes. And based on the way we've described our expectation for volume to come back gradually over the course of the year and based on what we see now, you did call out that we built into our assumptions is that there is no major insolvency event now our assumptions play out correctly based on our conversations and what we are seeing, that will continue to be true. So risk, we'll monitor very closely over the course of the year.

Your next question comes from the line of Steven Valiquette with Barclays.

Great. Thanks. Good morning, Brian and Britt, I hope everyone is staying safe. So I just have two interrelated questions on the European business. First, I guess, I'm curious how the German JV transaction with Walgreens impacts the FY 2021 guidance for the European segment. Germany generally included or excluded from the European guidance. And then second, I guess, whether Germany is in there or not, I guess, what really sticks out to me is that the magnitude of the expected decline in operating profit in Europe, minus 20% to minus 25% relative to the revenue guide, 0% to minus 5%, 6% out a little bit, suggesting some notable negative operating leverage in Europe versus some of the other segments. Any color on the dynamics there would help as well. Thanks.

Generally. So start with the German JV. I don't think this will be material to our fiscal 2020 -- fiscal 2021. It is in competition review right now. We think it's continuing to progress on the timelines we expected to. So not really a lot to add to that. As it relates to the fiscal 2021 impact on Europe, I mean, obviously, we're dealing with 13 countries that are going to have – have had 13 different kind of degrees of challenge and reaction with associated social policy to that challenge. And so, when we look at an aggregate level, it's going to depend a little bit on how these countries open and what their response will be. I will say that in the U.K., our largest country in Europe, I mean, they have been one of the more severely impacted and have had some of the more severe social restrictions implied, and that's what you're seeing really flow through our numbers.

Maybe if I would just add on. Our German business, as we talked about previously, is relatively immaterial to the overall European results. It is included – we did include Germany in our FY 2021 plan. But again, it's relatively immaterial. I would just point to the fact that our second half European results in FY 2020 were quite good and we exited the year with pretty strong performance. And as we think about FY 2021, really gets back to what we've talked about with many of our other businesses, that there is a temporary shock that is more severe in the first half of the year. And as Brian mentioned, mix matters a lot. How do countries open, one by one, they'll open at different rates in different times. And that mix is really what you're seeing flow through our business and our 2021 outlook.

Your next question comes from the line of Ricky Goldwasser with Morgan Stanley.

Yeah. Hi. Good morning. My question is focus on generic pricing. We're hearing that manufacturing in India is below historical levels and obviously, freight costs are seeing some step up. So what are you seeing on the buy side environment. How are you thinking about return to generic inflation in mid or fiscal year 2021? And then also along the line of manufacturing yesterday, HHS gave some funding of manufacturing of drugs in the U.S. Any thoughts of whether we will see generic manufacturing coming back to the U.S.? And what role would you play in that type of a scenario?

Thanks, Ricky, for that question. Let me start with your first question and then let Brian take it from there. From a generic perspective, we continue to have a very strong sourcing organization, which has really benefited us well as we've gone through this period. The relationships that we have with manufacturers, our ability to continue to secure supply in a very stable and consistent manner has played well for us. On the sell side, we continue to see a relatively stable environment. And so there's competition, but pricing has continued to be stable and competitive. And so that's allowed us to continue to earn a spread on our generic products. And I think it really – it starts with our ability to secure that supply in a consistent manner, and because one been able to do that very well over the last several years, honestly, and we expect that to continue into FY 2021.

Yes. I think from an overall perspective, I mean, it's been pretty good performance industry-wide in terms of supply availability. And obviously, we began monitoring this very closely. I mentioned we set up our critical care task force in really the end – very end of our fiscal 2020 to continue to monitor this, frankly get very detailed updates every week on that. So I think, generally, we still feel okay. I would say we've seen anything, I would describe the material change in pricing or ability to supply and things of that nature. I mean, to your last question about will generic supply come back to the U.S. or will – I think the broader question is, how will diversification and how will the supply community think about being a little bit more buffered for future events that may look like this. And that – those are – it's very early. I think there will be a lot of good questions asked, a lot of good work done. We do think anything done diversifies, availability of supplies creates kind of a insurance mechanism if you will. We are supportive of that. We also have to recognize their trade-offs in that. I mean there are cost trade-offs and figuring out how that cost gets funded and whether that's working capital or cost of the product. We'll have to navigate ourselves through, but we're involved in many of these conversations, but I'd characterize them all as very early stage right now.

Your next question comes from the line of Kevin Caliendo with UBS.

Hi. Thanks for taking my call. I really wanted to delve into the cost side a little bit, understanding that there's an ongoing larger cost savings plan. But going through the businesses, if you would, talk about how much variable spending you have in each and really what the plan is just thinking and looking at the margins and backing into sort of what you're saying, the margins versus the revenues definitely look like, and I'm just trying to gauge how much variable spending you might be taking out of the business or not?

Yes. Thanks for that question. Certainly, each of our businesses is a little bit differently positioned in terms of fixed versus variable cost. And I think the challenge that we're having in our first half of the year in particular, is that the revenue declines are quite sharp and so that kind of revenue declines really putting pressure on the overall cost position. I did talk about the fact that we've implemented mitigation plans across all of our businesses and across all of our different cost categories, and this is an extension of what we're already working on with our cost savings program. So we're certainly making great progress on that. We do have some things in our structure that will remain the same year-over-year in our material, like that will the opioid litigation-related costs, which we expect, which we expect to continue to be $150 million. But generally speaking, our variable costs will adjust with the volumes that we're seeing. But because some of our businesses have more significant and severe declines in volumes over the first half of the year, there will be some deleveraging that occurs in our businesses over that period. And as the year goes on, cost savings initiatives that we put in place, not only our cost savings program, but these mitigation activities will generally start to benefit our businesses and lead to that growth that we're seeing over the second half of the year.

Your next question comes from the line of Glen Santangelo with Guggenheim.

Yes, thanks for taking my call. I just want to follow-up on this negative operating profit leverage question. I mean, I appreciate all the details. But maybe, Britt, could you unpack the guidance a little bit at the gross margin line, particularly as it relates to things like mix and drug pricing and contract renewals because what I think all of us are probably trying to understand is maybe how much of the operating profit contraction may be the result of a weaker gross margin versus lower revenues or incremental expenses related to maybe help us better assess how much of the incremental expenses was maybe onetime versus ongoing? Thanks.

Thanks for that question. Again, what I would come back to here is and I've tried to give you a little bit more detail into where we're seeing the impacts on our business. And in particular, if you just talk about our medical business for a moment, that medical business has an adjusted operating profit – rate of over 800 basis points that is one of the most severely impacted of our business. And we try to give you a little bit more detail in the sense that our primary care business, where we have lots of capabilities and services that we provide there, about 60% of that medical business is primary care sites, which have been the most severely impacted. So what I would say is, it's not necessarily a cost issue. And we have additional cost for protecting our employees, and sanitation and cleaning in our distribution facilities. This is more a first half mix issue, particularly in our provider businesses and our medical business which as you know has a higher adjusted operating profit rate.

Operator we have time for one more question.

That question will come from George Hill with Deutsche Bank.

Hey, good morning guys. And thanks for taking my question. I thought Glen have just kind of stormed it, but I will dive in on the U.S. margin guide one more time. You guys called out in Q4 that branded generic conversions, which we normally think of as a tailwind to margins or a positive impact. I guess, as we look at the 2021 margin guidance in the drug segment, could you kind of rank order what's driving what's driving the margin erosion when we think of either customer mix, product mix, VA renewal or COVID, just kind of rank ordering the negative margin mix? Thanks.

Yes. Thanks for that question. Again, I would come back to what we're seeing is within our business, our specialty provider businesses are most impacted. So that's certainly having a big impacted in the first half of the year. We've called out very similar types of mid-single-digit branded price increase rates that we’ve seen over the past couple of years, especially not an impact, renewables are not an impact we talked about, we've been able to renew our – three of our largest customers without an impact to our guide. So I'll just get back to -- as you think about where the recovery and the shape of the curve in our business is most severely impacted is our physician sites, our specialty provider sites, those tend to be higher growth and higher-margin businesses for us, and that mix is really what's impacting the business. There's nothing fundamentally or structurally going on within our business. Our business continues to be very, very fundamentally sound. This is a matter of a temporary decline in revenue and really, a mix issue of where that revenue is coming from, but there's nothing fundamentally changing within the business itself.

Great. Well, thank you. Thank you, everybody, for your participation today, for your interest in McKesson and certainly, your great questions. I want to thank Lashana for facilitating this call for us. Obviously, this was a little longer call than we typically have, but we thought it was very appropriate given the environment to try to provide a little more detail insight into what's going what's going on in the business. McKesson has navigated challenges many times before. Our industry and our countries have navigated these kinds of challenges many times before. I think it's fair to say, I know I and we all probably take great inspiration from our frontline health care workers and our essential workers like those in McKesson. I want to thank the 80,000 members of the team McKesson for their dedication and the inspiration they provide me every day. I am confident that, we're well positioned to emerge from this experience as a stronger business and in strong communities. On behalf of our team at McKesson, we wish you and your families good health and wellness. We very much look forward to seeing you soon.

Thank you for joining today's conference call. You may now disconnect, and have a great day.