MCKESSON CORP. $59 (New York symbol MCK; Aggressive Growth Portfolio, Consumer sector; Shares outstanding: 297.0 million; Market cap: $17.5 billion; WSSF Rating: Above average) is the largest wholesale distributor of pharmaceutical drugs in the United States and Canada. It also owns 49% of Mexico’s leading drug distributor. Customers include hospitals and retail pharmacies. It also distributes health and beauty items, and surgical supplies. McKesson’s revenues jumped from $42.3 billion in 2002 (fiscal years end March 31) to $93.0 billion in 2007, or 21.8% compounded annually. Profits before unusual items rose from $1.96 a share (total $572.4 million) in 2002 to $2.19 a share ($646.5 million) in 2003. Profits dipped to $2.18 a share ($653.3 million) in 2004, but rose to $2.89 a share ($885.0 million) in 2007. Part of McKesson’s recent success comes from a change in the way it buys drugs from pharmaceutical companies. Under the old method, it would buy more drugs than it needed, and hope to sell them later at higher prices. Now it charges drugmakers an inventory- handling fee. This better aligns its inventory with its customers’ needs, cuts handling costs and reduces McKesson’s risk.
More generics on the way
The company is also gaining from expanding use of generic and private-label drugs. Due to their lower cost, McKesson earns higher profits on generics than on brand name drugs. Generic drug use should expand rapidly over the next few years as patents on many popular brand name drugs expire, including Lipitor (cholesterol treatment) and Zyrtec (antihistamine). McKesson also provides software and services that help pharmacies and clinics manage their drug inventories. This division provides just 2% of revenue, but 10% of profit. McKesson has relied on acquisitions, mostly small software firms, to expand its technology. But in January 2007, it paid $1.8 billion for Per-Se Technologies Inc. The company feels this acquisition will let it cut $50 million to $75 million from its annual costs within three years. Per-Se helps hospitals and pharmacies electronically manage their patient records and other information. This helps them speed up insurance claims and cut medical errors. Thanks to this purchase, McKesson now processes 70% of retail pharmacy claims. The company had to borrow to buy Per-Se. That raised its longterm debt, from 16% of stockholders’ equity to a still low 29%. That still leaves room for more acquisitions, but the company may hold off until it has fully absorbed Per-Se. McKesson also offers medical imaging systems that make it easier to digitally store and share x-rays and other documents. Automated drug dispensing systems help ensure patients receive the correct doses of the medication they need. Demand for this technology should continue to grow as governments and insurance companies pressure hospitals to cut costs. McKesson’s technology division is steadily expanding sales in Europe. In the UK, over half of the publicly operated hospitals now use McKesson’s payroll and information systems. The company is also doing a good job selling its systems to hospitals in France.
Big buybacks help spur stock
McKesson has been aggressively buying its stock back. It spent $1.0 billion on buybacks in fiscal 2007, and now aims to repurchase $1.0 billion more in the next year or two. McKesson should earn $3.24 a share in fiscal 2008, and trades at 18.2 times that figure. The $0.24 dividend yields 0.4%. McKesson is a buy.
