McKesson Corporation (MCK) Q3 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 the McKesson's Fiscal 2014 Third Quarter Earnings Call. I'm joined today by John Hammergren, McKesson's Chairman and CEO; and James Beer, McKesson's Executive Vice President and Chief Financial Officer. John will first provide a business update and will then introduce James, who will review the financial results for the quarter. After James' comments, 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 current, periodic and annual reports filed with the Securities and Exchange Commission, please refer to the text of our press release for a discussion of the risks associated with such forward-looking statements. Finally, please note that on today's call, we will refer to certain non-GAAP financial measures in which we exclude from our GAAP financial results: acquisition expenses and related adjustments, the amortization of acquisition-related intangible assets, certain litigation reserve adjustments and LIFO-related adjustments. We believe these non-GAAP measures will provide useful information for investors. Please refer to our press release announcing third 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.

Thank you, Erin, and thanks, everyone, for joining us on our call. As you've seen in the press release we issued this afternoon announcing our third quarter financial results, we incurred charges related to 2 items which had a negative impact on our reported results for the quarter. I'll come back to these items in just a moment. I'd like to begin with 2 big headlines for the quarter. First, we had exceptional growth in our Distribution Solutions business where operating profits grew by 37% over the prior year. And we're also very excited to have secured the acquisition of Celesio through the agreements we announced last week. First, I'll begin with a few comments about Celesio. Last week, we announced that we reached an agreement with the Haniel Group to purchase their entire holding of Celesio common shares. In a separate and subsequent transaction, we also reached an agreement with an affiliate of Elliott management to purchase Celesio convertible bonds. The agreements with the Haniel Group and Elliott will result in McKesson achieving over 75% ownership of Celesio on a fully diluted basis. We expect to close these transactions on February 6, 2014. We are extremely pleased to move forward with the acquisition of Celesio, and we look forward to bringing together the strengths of the McKesson and Celesio organizations to provide our customers with even more efficient delivery of health care products and services around the world. While the path to securing this acquisition was certainly not what we had originally expected, it would seem that the interested parties to this transaction continued to see the compelling strategic benefit of McKesson and Celesio uniting to form a global leader in health care services. I never lost sight of the value this transaction will bring to our customers, our supply chain partners, the employees of both organizations and our shareholders. That being said, we made it clear from the time we originally announced the transaction on our second quarter earnings call that we would need to achieve the 75% ownership threshold in order to fully realize the value and synergies we had outlined. We also made it clear that we would be disciplined stewards of our shareholders' capital, and I'm pleased we were able to accomplish both of these important objectives. James will update the key financial elements of the transaction and provide additional information on the immediate next steps, but let me take a moment here to make a few things clear. First, our strategic rationale and key financial assumptions remain intact. Second, the combination of McKesson and Celesio will become the world's largest pharmaceutical supply chain company, and we'll be well-positioned to meet the increasing global nature of our industry. I'm extremely proud of the global sourcing capability McKesson has built over many years. We've been able to deliver tremendous value through our strong manufacturer relationships and our knowledge of the health care supply chain. This acquisition keeps McKesson's expertise at the center of our strategy and deepens our relationships directly with our manufacturing partners. And finally, McKesson has a great track record of deploying capital wisely, and the acquisition of Celesio continues this trend, creating a strong platform for growth, driving benefits for our customers, our manufacturing partners, our employees and our shareholders. Turning now to our results for the quarter. As I mentioned, Distribution Solutions continues to deliver exceptional results, and our view of the full year operating performance of the business has improved from our previous expectations. In our Technology Solutions segment, we continued to take actions to align our development efforts and resources to our customers' most important priorities and the realities of our marketplace. Our third quarter results include charges resulting from the restructuring actions related to the timing of our Horizon Clinicals software platform requirement to meet Meaningful Use 3. Our third quarter results are also impacted by a significant increase in our tax reserves. As disclosed in our recent quarterly and annual SEC filings, we've been engaged in a tax dispute in Canada regarding the transfer pricing matter for the years 2003 through 2008. McKesson has been in litigation regarding the assessments received for the tax year 2003. In late December, the Canadian Tax Court ruled against McKesson, and in January, we filed an appeal of this decision. While we believe the structure of our transfer pricing agreements were appropriate, we think it is prudent to record an increase in our current reserves for all Canadian open tax periods. So overall, for the full year, our outlook for Distribution Solutions has improved. However, we have updated our guidance for the fiscal year and now expect to achieve adjusted earnings per diluted share of $8.05 to $8.20 for our fiscal 2014, which include the restructuring charges in our Technology business and an increase in our tax reserves, which combined total $0.70. Before I turn the call over to James for a detailed review of our financial results, I'll provide some highlights from both segments of our business. As I mentioned, Distribution Solutions continues to deliver strong operating performance. In the third quarter, revenue grew 10%, and adjusted operating profit grew 37%. Within our Distribution Solutions segment, our U.S. Pharmaceutical business had another quarter of outstanding results. Direct distribution and services revenues increased 11% for the quarter. In the third quarter, we continued to experience price inflation in a relatively small subset of our generics portfolio. Consistent with the expectations we outlined in the second quarter, inflation in our fiscal third quarter moderated from what we had experienced in the second quarter. In addition, we continue to benefit from more of our customers choosing to buy more of their generics from McKesson and strong compliance to our generics programs and services, including strong growth in our OneStop and generic -- OneStop Generics program. In summary, we had another quarter of great performance in our U.S. Pharmaceutical business. Revenues in Canada increased 12% on a constant currency basis, driven by continued growth in our core business and growth from new customers. Our Specialty business had another solid quarter of performance, and I'm pleased with the collaboration and innovation that's being driven between our physician partners and our specialty team. Our Medical-Surgical business had solid results for the third quarter. As we approach the 1-year anniversary of the acquisition of PSS World Medical, I'd like to take this opportunity to thank all of the employees of the combined McKesson Medical-Surgical and PSS teams for the outstanding progress they have made in the integration of these 2 great businesses. While we still have significant work ahead of us in the coming years to optimize our distribution network, I'm proud of the way our teams have come together to implement our strategy, all while remaining focused on taking care of our customers. In summary, I'm pleased with the exceptional performance in our Distribution Solutions segment for the third quarter. We have leadership positions across all of our North American distribution businesses, including U.S. Pharmaceutical distribution, Canadian pharmaceutical distribution, community oncology distribution and services, and Medical-Surgical distribution, including physician office, home care and long-term care. And we're pleased to add a great new platform for growth on a more global scale through our acquisition of Celesio. Turning now to our Technology Solutions segment. In the third quarter, revenues grew by 6% to $784 million, and adjusted operating margins were 8.55%. While we are disappointed in the reported results in our Technology Solutions segment this quarter, it is important that we take action in response to the changes in the anticipated timeline for Meaningful Use 3 and to size our organization in Horizon Clinicals appropriately. I would point out, as the timelines for Meaningful Use 3 are delayed, we must maintain a certain level of resources to support our customers as they prepare for this important implementation. Another item which had an impact on our third quarter results and our outlook for the full year is that we had expected a recovery in demand, in particular in our Medical Imaging business. This recovery in demand has not yet materialized. You should expect to see us continue to take actions to align our organization and development efforts to our customers' most important priorities. Our customers are going through a significant change in the way they think about their business models going forward. McKesson will continue to focus on delivering solutions that help our customers drive better decisions through analytics and business intelligence, enabled connectivity and provide tools and services to support new risk-based and value-based reimbursement business models. In summary, it's an exciting time to be at McKesson. The performance in our Distribution Solutions business is strong, and our outlook for the full year operating performance has improved from our previous expectations. And our acquisition of Celesio positions us for leadership on a global scale. The combination of McKesson and Celesio is expected to have revenues in excess of $150 billion, approximately 81,000 employees worldwide and operations in more than 20 countries. We will deliver to approximately 120,000 pharmacy and hospital locations on a daily basis in the U.S., Canada, Europe and Brazil, including more than 11,000 pharmacies that are either owned or part of a strategic banner or franchise network of community pharmacies. With that, I'll turn the call over to James, and we'll return to address your questions when he finishes. James?

Thank you, John, and good afternoon, everyone. As you've just heard, we are pleased by the continued strength in our operating results. We're also very pleased to be moving forward with Celesio and expect that this acquisition will build upon the value we bring to our customers, manufacturing partners and shareholders. Today, I will walk you through our third quarter consolidated financial results, provide an update on our fiscal 2014 outlook and outline the key financial aspects of our acquisition of Celesio. As I review the third quarter, there are 3 aspects of our financial results that I would like to particularly bring to your attention. First and perhaps most important in thinking about our business going forward is the continued performance and strength within our Distribution Solutions segment. Second is a $122 million charge we recorded relating to a dispute with the Canada Revenue Agency, which we have described in our previous SEC filings. I will come back to this later in my remarks. And third, our $42 million in restructuring charges taken in our Technology Solutions segment, primarily related to our Horizon Clinicals software platform. My remarks today will focus on our third quarter adjusted earnings per diluted share from continuing operations of $1.45, which exclude 4 items: the 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 2A. Consolidated revenues increased to 10% for the quarter to $34.3 billion. Adjusted gross profit for the quarter increased to 21% to $2 billion, primarily driven by the continued strength in our distribution business. Total adjusted operating expenses of $1.2 billion were up 13% for the quarter, driven primarily by the impact of acquisitions closed in fiscal 2013. For the full year, excluding the impact of these acquisitions, we expect total company adjusted operating expenses to increase approximately 3%. Other income year-over-year was slightly lower for the quarter at $5 million. Interest expense was approximately in line with the prior year at $59 million. Now moving to taxes. As outlined in our recent filings, we have been engaged in a legal dispute with the Canada Revenue Agency regarding a transfer pricing matter that impacts the tax years 2003 through 2008. The tax court released its decision on this matter late in our third quarter. And earlier this month, we filed an appeal of that decision to the Federal Court of Appeal in Canada. During our review of the court's decision, we reevaluated our existing tax reserves for all open tax years and recorded adjustments increasing these reserves by $122 million. We now expect our full year adjusted tax rate to be 36.5%, an increase from our previous estimate of 31%, driven by the current quarter Canadian tax reserve adjustment and a change in our mix of foreign and domestic income. Excluding the current quarter tax reserve adjustment, the adjusted full year tax rate would be 32.5%. Adjusted earnings for the quarter were $339 million, and our adjusted earnings per diluted share from continuing operations totaled $1.45. Our adjusted earnings per diluted share this quarter were negatively impacted by $0.52 from the reserve adjustments related to the Canadian tax matter and by an additional $0.18 from the restructuring charges recorded at our Technology Solutions segment. Wrapping up our consolidated results, diluted weighted average shares outstanding decreased by 3% year-over-year to 234 million. This year's earnings per share number was also aided by the cumulative impact of our share repurchases. We expect our full year diluted weighted average shares outstanding for fiscal 2014 to be 234 million. Moving now to our segment results, which can be found on Schedule 3A. Distribution Solutions' total revenues increased 10% for the quarter to $33.5 billion, primarily driven by market growth and more business from our existing customer base. Looking at the components, direct distribution and services revenues were up 11% for the quarter to $24.9 billion. Warehouse revenues decreased 1% for the quarter, primarily driven by a shift to direct store delivery. Canadian revenues on a constant-currency basis increased 12% this quarter from the prior year, mainly driven by market growth and recent customer wins. Turning now to our Medical-Surgical business. Revenues were up 67% for the quarter to $1.5 billion, driven by the PSS acquisition and market growth. The combined business continues to perform very well, as we made progress on important integration activities. Distribution Solutions' adjusted gross profit increased 27% for the quarter on 10% revenue growth, resulting in a 65-basis-point improvement in our adjusted gross profit margin. In addition to the PSS acquisition, our third quarter gross profit in Distribution Solutions benefited from continued favorable performance within our generics pharmaceutical business. Adjusted operating expense for the segment increased 19% for the quarter, primarily driven by the acquisitions we made in fiscal 2013. Adjusted operating margin for the quarter was 234 basis points, an improvement of 46 basis points versus the prior year. Based on our performance fiscal year-to-date, we now expect the adjusted operating margin for Distribution Solutions to be at the high end of our long-term adjusted operating margin goal of 200 to 250 basis points. Turning now to Technology Solutions. Revenues were up 6% for the quarter to $784 million, primarily driven by our acquisitions. Now as I mentioned earlier, the third quarter results in Technology Solutions reflect certain business realignment and restructuring charges. Our businesses are continuously reviewing their outlook and strategic plans and allocating their resources to drive the best outcomes for our customers and our business. However, we do, on occasion, make decisions that have a more meaningful impact on our results. And therefore, we bring these to your attention. This quarter, our results in Technology Solutions were impacted by $42 million in business realignment and restructuring charges, driven by delays in the Meaningful Use 3 timeline and the realignment of our development efforts primarily related to the Horizon Clinicals software platform. $31 million of these charges reduced segment adjusted gross profit, while a further $11 million increased the segment's operating expenses this quarter. As a result, Technology Solutions' adjusted gross profit decreased 4%, representing a 453-basis-point decline in our adjusted gross profit margin. Adjusted operating expenses in the segment increased 12%, driven primarily by the acquisitions we made in the prior year, but also as a result of the impact of the current quarter restructuring charges. Technology Solutions' gross R&D spending for the quarter was $127 million, up 12% versus the prior year. Of this amount, we capitalized 6% versus 10% a year ago. Overall, third quarter adjusted operating profit for the segment was down 39% to $67 million, and the third quarter adjusted operating margin rate was 8.55%, a decrease of 636 basis points versus the prior year, driven largely by the charges I discussed earlier. Based on the current quarter restructuring charges and the rationale for these charges that John reviewed earlier, we now expect to be at the lower end of our long-term adjusted operating margin goal of the mid-teens. Moving now to the balance sheet and working capital metrics. At the end of the third quarter, our days sales outstanding was 24 days versus 25 days a year ago. Our days sales in inventories of 32 days was flat year-over-year, and our days sales in payables remained at 46 days. We generated cash flow from operations of $472 million. Overall, for the full year, we continue to expect that cash flow from operations will total approximately $2 billion. We ended the quarter with a cash balance of $2.4 billion, with $1.5 billion held offshore. Internal capital spending totaled $296 million for the first 9 months of fiscal 2014. We now expect full year internal capital spending to be approximately $400 million. Now I'll turn to our outlook. Let me once again remind you that our earnings this quarter were specifically impacted by 3 items that also affect our full year outlook. First, the dispute with the Canada Revenue Agency had a negative impact of approximately $0.52 per diluted share for the quarter and the full year. Second, the current quarter adjustments to our tax reserves and our change in income mix also drove an increase in our updated full year adjusted tax rate to 36.5% from our prior estimate of 31%. And third, the Technology Solutions charges lowered our adjusted earnings by approximately $0.18 per diluted share this quarter. As a result of these 3 items, we are updating our adjusted earnings guidance to a range of between $8.05 and $8.20. Also, to be clear, we have not included any earnings from Celesio in our updated fiscal 2014 outlook. We expect that the results from our acquisition of Celesio will not have a meaningful impact on our Q4 results. In addition, we expect to exclude from GAAP earnings $0.76 in amortization of acquisition-related intangible assets and $0.55 of acquisition expenses and related adjustments. We also expect to exclude $0.23 for litigation reserve adjustments and LIFO-related adjustments of $0.71 to $0.77. Now let me take a few moments to talk about the acquisition of Celesio. McKesson expects to fund a portion of the transaction with offshore cash and has a bridge financing facility in place to fund the balance of the purchase price. As we consider our permanent financing plans, we remain committed to maintaining our status as an investment grade-rated company. We will begin to consolidate the financial results of Celesio during our fourth quarter, ending March 31, 2014, and our earnings will reflect [indiscernible] share of Celesio's earnings, although as I mentioned, we do not expect the acquisition will have a meaningful impact on our Q4 results. After the expected close of our agreements with the Haniel family and Elliott on February 6, 2014, we will exceed 75% ownership of Celesio's shares on a fully diluted basis. We plan to launch a tender offer for the remaining outstanding common shares of Celesio in our fiscal fourth quarter, and we continue to expect that we will have operational control of Celesio late in the first half of our fiscal 2015. Just to remind you, getting to operating control of Celesio, also known as a domination in Germany, is the point in time when we expect to begin executing on our synergy business case. By the fourth year, following the completion of the required steps to obtain operating control, we expect to realize annual synergies between $275 million and $325 million. We estimate this transaction to be $1 to $1.20 accretive on an adjusted earnings basis in the first 12 months following the completion of the transactions with the Haniel family and Elliott. This range, however, assumes 100% ownership of the outstanding common shares of Celesio and thus will have to be adjusted in line with our actual ownership stake in Celesio at different points in time over the coming months. Overall, our assumptions for accretion and synergies from this acquisition remain unchanged. In summary, we recorded 3 very strong quarters this year, and we are excited to move forward with our acquisition of Celesio and expect the transaction to deliver tremendous value to our customers, manufacturing partners and shareholders in the years ahead. Thank you. And with that, I will turn the call over to the operator for your questions. [Operator Instructions] Operator?

[Operator Instructions] Our first question comes from Glen Santangelo with Credit Suisse. Glen J. Santangelo - Crédit Suisse AG, Research Division: John, I just want to follow up on some of the comments you made in your prepared remarks. It seems you suggested that maybe the generic inflation moderated a little bit in fiscal 3Q versus 2Q, but yet the magnitude of the beats out of the pharmaceutical segment continue to get bigger. And so I'm wondering if you can elaborate a little bit more, give us a little bit more color, about maybe what in the business maybe did much better than you would have thought given that moderating inflation -- generic inflation?

Well, we were really pleased with the performance of the Distribution Solutions segment in the quarter, and we continue to have strength, really, across the board. You saw nice revenue growth in the business. Clearly, the PSS integration is going well for us, which has been additive to the performance in that business, but the real strength is really coming still out of our generics business. Our OneStop revenues were up nicely. The share of wallet we're getting from our customers who are relying more and more on our generic capabilities and now depending on us to source the right products at the right price for them has been very helpful. And clearly, the position we have with those manufacturers continues to improve. I think we've really built very positive, trusting relationships. And inflation continues to be an important part. So it's too early to call it trend change in generic inflation, but clearly, some moderation has occurred and it's been helpful. And it's still positive relative to our original expectations. Glen J. Santangelo - Crédit Suisse AG, Research Division: And maybe just one quick follow-up. If I look at sort of what you're implying now for the fourth quarter based on your updated guidance, it looks like about $2.26 to $2.41 in the fiscal fourth quarter, which is lower than consensus. And the reason I bring it up is because on one of your competitors' conference calls, they seem to suggest that there were some price inflation that was maybe moved from the March quarter into the December quarter, and so I'm kind of wondering, was there anything that might have been -- that you might have recognized a little bit earlier than you otherwise would have? Is there any difference in the typical seasonality of these 2 quarters?

I don't think we saw a lot of changes in the way that branded manufacturers behaved in our portfolio, the way we've established our agreements. Having said that, there may have been some slight move into our third quarter and out of our fourth quarter. I think that our -- we clearly believe that the inflation moderation is going to continue as we look into our fourth quarter, and we also have some follow-on expense in our MTS segment, as I talked about in our -- in my prepared comments. This Meaningful Use 3 thing for us is -- it was a real critical change. It pushed out our customers' implementation and we were able to, through the charge, reduce a significant amount of the investment we had sitting there, waiting to do these service implementations with our customers. But there is still remaining investment built in services and in R&D as we try to prepare ourselves for whenever the MU3 thing gets put in place for us. So I think it's a combination of sort of that moderation on the generics side to some degree in the fourth quarter, as well as the MTS business will have this kind of follow-on expense associated with MU3 and some other things that we've got going on there.

The other thing I would just add to that is, of course, tax rate that I mentioned for the full year. We are looking at that 36.5% tax rate. So you have to bear that in mind as well.

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

Can you share with us kind of like what has been the feedback from your customers in the acquisition of Celesio? And I know, John, you talk about increasing generic wallet of customers. But are you seeing increased appetite from customers to historically source the bulk of their generics directly from manufacturers to strategically do more with McKesson?

Well, we've been actively working for almost a decade on helping our customers realize the value, both from our sourcing, as well as our logistics efforts, and we believe that we are sourcing as well now as almost any one, and Celesio is going to help us improve even more, as we add that volume. And in particular, the retail footprint that, that brings along with it. I think the dynamic with our customers is also a focus on how to get supply chain efficiency. And [Audio Gap] wholesale channel is not -- has not proven to be the most logistically favorable way to do it. There's added costs on not only the buying and procurement side, but you could also certainly envision the increment of cost when it goes into our customers' warehouses, and then they have to handle the product and get it back out, when we're already in those stores every day, anyway, with the delivery of the other product that we have been selling them. So I think there's an increased appreciation at the executive level within our customers to look at those costs and to look also at the changing global world of generic sourcing and increased interest in focusing on McKesson. And I think what's great about the relationship that we've created here with the acquisition of Celesio, is it allows us to continue to have tremendous transparency into the supply chain. It gives us really total control of our own destiny, and it allows us to maintain those close partnerships with our manufacturing partners so that we can continue to have visibility to the opportunity, bring those opportunities to our customers and present them in a way that is compelling relative to them moving their internal sourcing of generics over to McKesson.

Okay. And then the one follow-up is regarding the Ranbaxy plant import ban. How do you view the ban? How does it impact your view of generic price inflation? I know that you talked about some moderation, but does that -- could that change the trends?

I guess, Ricky, I would remind you that McKesson has a very large generics portfolio consisting of thousands of products. And to put this inflation thing into context, the inflation is really coming from a very small subset of our total portfolio of products and a small subset of the manufacturers. With regards to Ranbaxy, I believe the industry is well aware of the work the FDA has been doing. They've increased their funding and their staffing to do critical inspections, and although I certainly feel bad for the Ranbaxy folks relative to this, I think McKesson is aware of this increased scrutiny and trying to make sure that we are availing ourselves of a wide enough supply chain so that we have access to the products. And I do not expect any of the recent situation with one of the Ranbaxy plants in India to have an impact on our delivery to our customers, nor an impact on our view of inflation going forward.

Our next question comes from Tom Gallucci with FBR. Thomas Gallucci - FBR Capital Markets & Co., Research Division: Just curious, we get a lot of questions on the generics and the price inflation and the impact and sort of how it flows through. Can you help us understand a little bit the extent to which you're seeing benefits from more -- by whole type pricing? Or is it that the same percentage spread on a bigger dollar amount gives you some more earnings? And I guess where I'm going with it is, to what extent, when price inflation moderates -- is it just sort of lack of upside? Or do you actually have to -- a negative that you have to overcome year-over-year because the earnings actually get lower in dollars?

Well, we've seen a trend over time with generic pricing. It used to be a deflationary headwind we had to deal with year-on-year. And as that began to moderate, it clearly made the year-on-year effect easier. With an inflation environment like we experienced this year, clearly, it was a surprise to us that this would occur to the magnitude that it has. And as you think about our thinking going forward, it could provide a headwind for us, depending on what your view of ongoing generic inflation might be. Clearly, the offsets to that will be to get more and more folks buying off of our generic portfolio. Additional offsets will be the power of what we're doing with Northstar and our sourcing there. And clearly, our global sourcing initiatives are going to get additional fuel or accelerant as we put the Celesio teams together with the McKesson teams to approach the market on a global basis. And also, as you think about FY '13, we have a brand-to-generic trend that moves in our favor again. This was really the lull year for generic conversions, and I think, as you think about next year, we'll see that pick back up again. Thomas Gallucci - FBR Capital Markets & Co., Research Division: Right. Right. And I have a follow-up to that actually. I think you started to mention it. You've said for a few quarters now that you're seeing more generics business from your existing customers. Can you frame that potential in terms of what's left on the table there, in any way, for us to get an understanding of where you've been and maybe how much more there is to go if more and more customers were, in fact, to move more of their business to you?

Well, we have a great book of business, and we have been able, over the years, to take a great deal of the responsibility for delivering generics to our independents on -- is one of our key requirements. As you know, Tom, you've been following us for some time, we've been moving up the food chain with bigger and bigger customers testing us from a generic perspective and coming to the conclusion that we do in fact do the best job for them relative to generic pricing and generic service and generic availability. I think that, that movement is continuing. Our very largest customers still purchase generics on their own. And clearly, that would be a very large opportunity for us as we continue to build a compelling vision for what that might mean for them.

Our next question comes from Ross Muken with ISI Group.

Yes. I was curious just in terms of the cash flow and sort of where we are. It seems like it's pretty back half -- 4Q weighted for the year. How did that sort impact how you're thinking about the financing mix for Celesio? Obviously, we saw you raise the bridge, but we're -- I'm just curious in terms of -- in the new or old, I guess, guidance assumption, what is the sort of backbone behind that just in terms of percent from new debt versus cash on hand? Because, obviously, you have a portion in Europe.

Yes. Certainly, the fourth quarter is traditionally a strong operating cash flow quarter for us, in part as a result of the timing of a lot of the brand price increases that we traditionally see. So in terms of the financing for Celesio, we have the view that we would have at least $1 billion or so of cash available offshore, and then we would obviously draw on the bridge for the balance of our needs, those needs, of course, are dependent upon the timing of the remaining 25% or so of the Celesio shares that we acquire. So we'll see how we play out in terms of that remaining 1/4 or so of the shares. That will help us define the eventual amount of permanent debt that we would put in place once we pay off the bridge.

Great. And maybe, John, you touched upon obviously over time, as these generic relationships develop, the potential to touch more of your large customers. But I'm curious, with all the new relationships in industry, what are you seeing from the independents, which has obviously been a core strength of yours for years? And how are they sort of reacting to all of these new arrangements and sort of the potential for them to possibly participate in new services? I guess this is now going to be true for you both here and in Europe.

The independents in both Europe and here in the United States have been very positive about the announced Celesio acquisition, and now they're even more positive on the view that it's going to close here in a few weeks. And I think they believe that not only will they be able to enjoy continued great service and price on generics, but there are obviously tremendous retail experience that comes with Celesio, through the management of Lloyds Pharmacies, as well as the many banner stores that they support throughout Europe to continue to find ways to bundle our capabilities effectively for our independent customers. I'd also point out that none of our customers in Europe or here see the merger of McKesson and Celesio as a conflict of interest on their side. They don't feel threatened by it. They don't see it as something that's against their ultimate goals, and they don't see it as a competitive action in any way. So I think from a discussion perspective, we don't have any conflict of interest relative to what our motives are. And I think they continue to look at this in a favorable way, Ross.

Our next question comes from Lisa Gill with JPMorgan. Lisa C. Gill - JP Morgan Chase & Co, Research Division: A lot of talk today about generic inflation. Can you maybe just give us any color as far as brand price inflation you saw in the quarter and expectations for the March quarter? We've heard some talk about the fact that some things may have been pulled into the December quarter. Did you see something similar? And how should we think about it in the March quarter?

I would say that our view in the quarter was pretty consistent with our going-in thoughts as we developed our plans for the year. So I -- given that it hasn't been brought to my attention and when I asked the question to our team, there might have been some nominal changes in behavior. But as a portfolio, the price really came in close to what our expectations were. Lisa C. Gill - JP Morgan Chase & Co, Research Division: Okay, great. And then secondly, in Canada, obviously you called it out, it was up 12%. You talked about customer, as well as market growth. Can you maybe just talk about how much of that came from market growth? Are you seeing substantially more market growth there than we're seeing in the U.S.? And if so, what are the key drivers to that?

Well, clearly, we have picked up a bunch of new customers in Canada, and we've been very selective on those new relationships. One of our competitors exited Canada through the sale of their business to another competitor in Canada, and some of the customers that were serviced by that competitor were open to a conversation with McKesson. And as a result, we've been able to grow our business. I might also say that our specialty business in Canada, which we believe is market-leading, continues to grow very nicely. And so we've been encouraged by that continued penetration in that part of our book. Lisa C. Gill - JP Morgan Chase & Co, Research Division: Is there a way to look at the 12%, how much came from the new customers versus the overall market in Canada?

It's probably difficult to parse out, Lisa. There are public numbers on market growth rates in Canada, but I think, clearly, we believe that we've had a significant increase in revenue as a result of our customer wins in the Canadian marketplace.

Our next question comes from Steven Valiquette with UBS.

I just have a quick question on the March quarter as well. If I'm doing the math right, I think the implied fourth quarter guidance is $2.26 to $2.41 and straight to $2.46 right now. But again, with all the details in the press release and the commentary on the call, is there anything that's sort of one-time-ish in nature that you're including in the upcoming March quarter that's kind of baked within that quarterly guidance in particular? Or is that sort of more of a clean range the way things stand right now, just in relation to taxes or IT charges or even charges tied to Celesio as well?

No. There's nothing that we're implying as to the fourth quarter or one-time nature or anything like that. Really, the 3 drivers I would ask you to really focus are obviously the Canada tax, $0.52; the technology charges of $0.18; and then the impact of the tax run rate, which is both partly driven by that Canada tax item, but also as a result of a change in our income mix with distribution business representing a greater proportion of the total profitability of McKesson.

Our next question comes from Charles Rhyee with Cowen and Company.

John, obviously we've talked a bit about your generics program here. And when you look at sort of the partnerships that have formed, yours is obviously a little different because you're basically owning Celesio. But as you think in the future and serving [ph] your large customers, do you envision more that they'll just join your -- they'll just become a customer of your OneStop program? Or could it end up being where you're partnering more in a JV format? Like how do you envision -- what would be your preferred route, and how would you kind of see it? Or do you even see the need to do that?

Charles, that's a good question. I think the way I think about it is that the -- first of all, you see through these combinations that scale really matters and that wholesalers really matter. We are an integral part, even in the largest customer set, of the value proposition and the service offering that's brought to the marketplace. So I think the industry overall and wholesaling has done a very good job of continuing to add significant value. And changing our model over time so we remain vibrant and viable and in the middle of a very important industry and earn our position every day. I would say, relative to structures, we have not had great success at McKesson creating joint ventures that are sustainable, that -- where interests are always combined and unified. And usually, we end up with a situation where they collapse under their own complexity or they have some problem with one venture partner trying to optimize against another. So we're not really inclined to enter joint ventures, although I'd say that -- with the caveat of clearly, we'll listen to the opportunity and make a decision. I would say that with respect to our largest customers, we hope to continue to evolve our value proposition so that the economics that are afforded to them through our OneStop program or through custom-developed programs, that they'll buy off of our portfolio and that, that transaction will make sense for us and for them without the complexity of some type of a venture structure which could be difficult to manage.

And if I can just follow up, your largest customers that do buy direct -- I mean, we generally assume that they buy all the generics direct. Is that really the case? Or is that they're buying sort of high-value generics directly and maybe low-value generics through you?

I can only speak for McKesson's large customers. I would say that without exception, they all buy some generics from us. Given the frequency with which we deliver to the stores, our position has always been to help our customers from a service perspective. Clearly, many of them have their own warehouses and do their own buying as well for certain sets of products. And how they reach a decision as to which they buy for themselves and which they buy through us may not be totally transparent to us. I would assume it would usually be from an economic perspective, they would make that decision. Our job is to wrap the value proposition of our complete relationship with the customer, which should include brand, generic, our service offering, our automation systems, our warehousing capabilities, to make it compelling for them to discontinue their own purchasing. And we've been effective at doing that all the way up to our largest customers. And I think that it's our responsibility to continue to evolve our programs so we can earn the privilege of serving their needs from a generic perspective in a more holistic way.

Our next question comes from George Hill with Deutsche Bank.

John, first one for you is can you detail for us, with the generic inflation that's been going on, how is Northstar leveraged to that? So has that been an excess margin opportunity for Northstar? And maybe the opportunities for Northstar in Europe?

Thanks, George, for the question. Northstar clearly is around the globe looking at opportunities to bring product into our supply chain. And I think that the visibility we get through Northstar enhances our view of the opportunities that exist globally for us, as well as some of the challenges that may exist, whether it's plant closures, limited supply of raw materials or other issues that may come along. And I think that Northstar experience helps inform all of McKesson from a sourcing perspective in a very positive way. We have launched a variant of Northstar into Canada with success, and that product continues to build its position in Canada, that product line. And I believe, and so do our new partners at Celesio, that there are opportunities to explore with our generic portfolio in Europe. And clearly, Northstar will be a part of that.

And, James, maybe just 2 quick housekeeping questions. I want to make sure I heard things right. With the 36.5% tax rate you mentioned, was that for the fourth quarter? Or is that what we expected the full year rate to be?

Yes, that's the rate for the full year, and that includes the impact of the Canadian tax matter that I talked about.

Okay. And then just -- as you guys launch the tender process for the remainder of Celesio, how long does that tender process go on for? And then maybe just a very simple explanation of next steps?

Yes. The tender process we're doing -- envisage taking about 4 weeks, and then you'd have an additional 2-week period, very similar to actually the structure of the original tender, whereby additional people could tender their shares during that extra 2-week period. And then we have already issued our intent to go through a domination hearing. That will take some time. There are a few steps that we have to go through to be able to get to that hearing. First of all, we have to go through a valuation process. And then we also have to give 6 weeks' notice to call an annual general meeting at which the domination process would be heard. So that will take a few months, but we would still expect to be on track to reach domination towards the end of the first half of our fiscal 2015. And of course, it's at that point in time where we can really start work on the synergy case. That's the point of time in which we have operating control of Celesio.

Our next question comes from David Larsen with Leerink Swann.

John, can you touch on how simple or perhaps complex it might be for the combined buying power of both McKesson and Celesio to operate across borders? Will that be a fairly simple process? And then can you also touch on the pricing environment in Germany?

Thank you, David, for the questions. I think that it's probably difficult to characterize the 14 countries in Celesio's book in one way. I would say it really matters which country you're thinking about relative to the way generics are purchased today, how they're contracted for, whether the payers are involved or the government is involved. I would say that we've carefully mapped out the positions by country, by manufacturers. We understand where we think these synergies might fall for us. And clearly, our guidance to synergies and how we talked about it when we first announced the deal, all of those factors remain in place. So I think that -- we believe there are places where we can go across the borders with a more unified approach. And I'm sorry, David, I forgot the second question you asked.

And then just in Germany, the pricing environment in Germany. Any challenge there? Any headwinds?

That's another good question. Our German operation or the German operation under Celesio in that market has -- there has been public discussion about the wholesaling pricing in that market, just to be clear about what pricing -- at least I think I'm talking about. The wholesalers in that market have been in a competitive battle with each other for some time. I think that the Celesio people, on their last public conference call, characterized it as stabilizing but not improving. I don't think I want to make any additional comment other than that. But clearly, that's what their view was the last time they spoke publicly about it.

And then I saw you had a press release on a relationship with RedBrick. Can you maybe just comment on what that will provide to McKesson's clients?

Well, it's in our Technology business, and I have to say, it's a relatively small part of our portfolio. We do think it's important. We've been impressed with what the Redbrick people have to provide, but it won't really be anything material for McKesson at our scale.

We'll take our next question from Robert Jones with Goldman Sachs.

Yes. Just understanding that we'll get formal guidance next quarter, I was wondering, John, maybe if you could share a little bit how you're thinking about the operating margin range, considering this year sounds like we'll be towards the upper end of the 200- to 250-basis-point range. Just trying to get a sense of how much of the drivers of the performance or outperformance this year do you think directionally are sustainable as we think about next fiscal year. And this is x Celesio, of course?

Sure, Robert. Thank you for the question. We have not contemplated our guidance for next year yet. As you know, we'll do that when we report our fourth quarter results in April. I believe that -- our view, however, as a company is that margin expansion is a priority. And clearly, as you see the P&L flow this quarter, we like to grow revenues in line with the market, or maybe faster if we can get a bigger share of our customer's spend, which is what we've been focused on with our generics. We like to get a very positive drop to our gross profit lines by managing our pricing carefully in the marketplace. So we are not giving it all away. And then clearly, we want to manage our expenses very carefully as well so that we can drop it to the bottom line. And that's what delivers a great business and a great business model. I see no reason to believe that we can't continue to focus on gross margin as a top priority. I don't see any negative mix change occurring in our business, and I think generics continue to be a propellant across the board if you think about our sourcing. And if you think about next year, we have another brand-to-conversion cycle, which will be helpful to us from a margin expansion perspective. It remains a priority. And as we -- hopefully, as I keep telling Paul Julian, when you get past the 250, we'll come up with a new goal for you, which he's always excited to discuss.

That's fair. I guess just if I could flip one in on Medical, not to be lost, obviously, good results there as well this quarter. Understanding PSS has been a big part of the contribution of growth this fiscal year, we start to lap that next quarter. I was wondering if you could just give us a sense of what you're seeing on underlying growth within the medical business and what your expectations might be in that segment going forward?

I'm glad you brought up PSS. We have just a terrific franchise -- or I should say Med-Surg. We just have a terrific franchise and completing the PSS acquisition was an important step to market leadership in almost all -- in fact, all of the segments that we serve now in Medical. That integration is going very well. You saw the strength in the revenue, but I believe that those businesses' underlying growth, setting aside the acquisition, are all growing at or above the marketplace. And those are places where our value proposition really stands unique, and I think we have the ability to continue to grow share in home care, long-term care and our physician office business.

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

John, how quickly can you proceed with an acquisition strategy for Celesio to really expand that platform? Do you have to wait a couple of years? Or is it something instantaneously you can put in place?

An acquisition on top of Celesio, is that what you were asking?

Yes, building out the European or Latin American markets, wherever you might choose to go.

Well, it's probably a little premature for me to speculate on it, given that -- I think we need to do a close diagnostic on what position we are in, in each one of these markets and how well we're positioned to take on additional work in those markets. Celesio is a composite of 14 countries that are all managed in a very discreet way, and I would think each one of these countries should provide additional opportunities. So we have both an execution challenge we'd have to understand if we were to bring on additional acquisitions. And clearly, we have a balance sheet constraint that we've put in place that says we're not going to lose our investment grade, and we're going to manage our cash flow very carefully. So with those 2 caveats, I think we're open to acquisitions, into doing things, but we're not going to do it in a way that disturbs our integration plans at Celesio, and we're not going to do it in a way that would integrate -- or risk our investment grade rating.

And that concludes today's question-and-answer session. I would like to turn the conference back over to our speakers for any additional or closing remarks.

Great. Thank you, Lisa, and thanks to all of you for being on the call today. I'm really pleased with the operating performance of our business and excited about the future and our acquisition of Celesio. We're bringing on a great management team, a great group of employees and a great asset that will help us really build our company as we go forward. And I look forward to welcoming those teams as I travel throughout Europe in the next several months. This platform is important to us, and it's important to our customers. I'm now going to hand the call off to Erin for her upcoming review of upcoming events.

Thank you, John. I have a preview of an upcoming event for the financial community. On February 25, we will present at the Citi Global Healthcare Conference in New York. We will release our fourth quarter earnings results in early May. Thank you, and goodbye.

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