AmerisourceBergen Q1'16 Earnings Conference Call: Full Transcript

Operator:

Ladies and gentlemen, thank you for standing by. Welcome to the <b>AmerisourceBergen Corp.</b> ABC Earnings Call. At this time all participants are in a listen-only mode and then later we will conduct a question-and-answer session. Instructions will be given at that time. If you should require assistance during the call press star and then zero. As a remainder the conference is been recorded.

I will now turn the Conference over to our host Barbara Brungess. Please go ahead.

 

Barbara Brungess:Vice President of Corporate & Investor Relations:

Thank you. Good morning everyone and thank you for joining us on this conference call to discuss AmerisourceBergen’s March Quarter Fiscal year 2016 results. I am Barbara Brungess, Vice President Corporate and Investor Relations for AmerisourceBergen, and joining me today are Steve Collis, Chairman, President and CEO of AmerisourceBergen and Tim Guttman, Executive Vice President and CFO of AmerisourceBergen.

During the conference call today we will make some forward-looking statements about our business prospects and financial expectations including without limitations revenue, operating margin and taxes. Forward-looking statements are based on Management’s current expectations and are subject to uncertainty and changes in circumstances. We remind you that there are many uncertainties and risks that could cause our actual results to differ materially from our current expectation.

For a discussion of some key risk factors and other cautionary statements, we refer you to our SEC filings including our Form 10-K for fiscal 2015 as well as our quarterly and other filings with the SEC. We will also be discussing non-GAAP financial measures which we use to assess the underlying performance of our business. The GAAP to non-GAAP reconciliations are provided in today’s press release as well as on our website. AmerisourceBergen assumes no obligation to update any forward-looking statements or information which speaks as of their respective dates and this call should not be rebroadcast without the express permission of the Company.

Those connected by phone will have an opportunity to ask question after our opening remarks. We have a lot material to coming this morning to our comments will be slightly longer than normal so we will limit -- time for questions. Now here is Steve Collis.

 

Steven H. Collis:President and Chief Executive Officer:

Thanks Barbara and good morning everyone. Let me start by saying that while we delivered solid performance in our March quarter, we are disappointed that the forecast we have presented for the second half of our fiscal 2016 and our preliminarily expectations for fiscal 2017 well below our historical rates of performance. Nevertheless are remained optimistic about the long term prospects for our industry and our company and we are well positioned with the right customers and the right portfolio of services for both pharmaceutical manufacturers and healthcare providers to drive long term value creation for our shareholders and other stakeholders.

Certain areas of our business are performing very well including both of our recent acquisitions MWI Veterinary Supply and PharMEDium. Our Specialty Group including the distribution businesses that services that serve position and our consulting businesses had a very strong March quarter. In addition, we recently achieved two key customer renewals for extension in AmerisourceBergen’s Drug Corporation including a three year extension with our strategic long term partner Walgreens Boots Alliance and a one year extension with Express Scripts uptake largest customers.

ADBC is however being adversely impacted by several factors including accelerating deflation on generic drugs and a lower contribution from generic launches. These unanticipated trend have exasperated the expected impact from a shift and product mix towards lower margin and higher broad specialty and branded drugs as well as the lack of generic inflation we discussed in our Q1 call. As we work through these challenges our overall earnings growth rate was slow somewhat. Tim will discuss the March quarter results and walk through our detailed guidance for the second half of fiscal 2016 and our preliminarily expectations for fiscal 2017. Then I will outline the ways we intend to take advantage of the long term opportunities that are in front of us. Before we open the call to Q&A.

Now here is Tim.

 

Tim G. Guttman:Executive Vice President and Chief Financial Officer:

Thanks, Steve and good morning everyone. In system in past quarters my remarks this morning will focus on our adjusted results please note that our financial comparison are for the second quarter ended March 31, 2016 compared to the same quarter of the final fiscal year unless otherwise noted. Also let me point out that after this call we fully anniversary the impact of adding MWI to our consolidated financial results.

My comments will be a little lengthier this morning as I have the fair amount to cover in three primary areas. First, I will recap our fiscal Q2 consolidated and segment performance. Second I will cover our revised fiscal ‘16 expectations and third I will provide some brief commentary and how we are thinking about fiscal ‘17 even though it’s early we will provide initial thoughts in the few key areas.

With that we can begin our fiscal Q2 review. Revenues were $35.7 billion, up 9.3% our pharmaceutical distribution segment continues to account for the majority of our revenue growth due to our diverse customer mixed. Our two acquisitions MWI and PharMEDium combined a calendar to roughly a 2% of our consolidated revenue growth. The quarters adjusted gross profit increased 12% to $1.2 billion the dollar growth was due to our two acquisitions MWR and PharMEDium.

Our pharmaceutical distribution segment was typically the drug company was challenged this quarter with the difficult comparison they continue to experience headwinds the contract renewals and lower generic inflation.

Operating expenses are total adjusted OpEx increased 18% to $575 million roughly 80% of the increase was related to our two acquisition. Excluding the incremental OpEx impact from these two companies, our comparable OpEx growth rate would have been about 4%. As you have come to expect from ABC we are prudent with expense spending this is already spend one of ABC’s core operating practices and it will remain so going forward.

Operating income; our adjusted operating income was $592 million up about $40 million or 7%. Our adjusted operating margin was 1.66% down 3 basis points from the prior year driven by the pharmaceutical distribution segment being down 8 basis points this quarter. Moving below the operating income line interest expense net was about $31 million up significantly from last year due entirely to the financing cost of the MWI and PharMEDium acquisition.

Income taxes; our adjusted income tax rates was 31.3% for the current quarter down from the prior year this quarter is rate includes the one time rate benefit of 1.4% from adjusting our estimated year-to-date tax rate specifically related to expansion of our international operations push our tax at a lower rate. We now expect our full year tax rate to be approximately 33%. In the quarter, our adjusted diluted EPS increased 16% to $1.68 driven mostly by the income from our two recent acquisitions and to a lesser degree from our lower consolidated tax rate. Our adjusted diluted share count was about 229 million shares down some from last year.

This finishes our review of ABC consolidated results. Let’s move forward and discuss our segment results.

Starting with pharmaceutical distribution. Total settlement revenues were $34.2 billion up nearly 8%, our drug company had a growth rate of about 6% this growth was net of a revenue headwind of about 2% due to lower hepatitis C cells in the market and also a transfer of certain oncology cells to our specialty business. Drug company had solid growth across this chain customers including Walgreen and also in their hospital segment.

Our specialty business group had another outstanding quarter, with revenue increasing about 18% driven mostly by the volume growth and in the last quarter we continue to have meaningful revenue growth from the sale of oncology drugs across the few of our businesses and also from the sale of ophthalmology drugs and our best -- medial business.

ICS our third-party logistics business accounted for roughly 20% of specialty revenue growth primarily due to a new manufacture relationship they add late last year. This is our eighth straight quarter of double-digit revenue growth for our specialty group. We continue to be very pleased with their performance and clearly help to differentiate ABC from the rest of the market.

Moving to gross profit. The segments gross profit was $882 million up about $33 million or about 4% the majority of the growth in gross profit dollars within our company specifically the benefit from PharMEDium. Excluding the acquisition benefit drug company was behind last year’s gross profit due to the headwinds I called out previously. The tough comparison on drug price inflation and contract renewals.

Segment operating income was $498 million and was up 2%. Our specialty business continued with the level of performance offset by the lower performance of our drug company. Before I finish on the segment let me comment this was our first full quarter of reporting PharMEDium financially they are contributing better than we expected as a result of strong operational performance. For the quarter volume growth as percentage within the mid-teens.

The business has integrated especially well into the drug company. We are off to the great start with PharMEDium. We cannot move to our other segments which includes MWI, consulting services and World Courier.

In a March quarter, segment revenue were about $1.6 billion, up significantly due to adding MWI. As reminder our March 2015 quarterly results included about 5 weeks of MWI’s operating results. Growing in just consulting and World Courier combined was about 13%. These businesses continue to grow their top line revenue primarily as result of providing additional services and growing volumes with existing customers which is a clear indicator of customer satisfaction and value.

MWI continues to performance especially well. Percentage revenue growth in the compelling animal segment in the low teens and we saw a nice recovery in the production animal segment with percentage revenue growth in a high single-digit.

From an operating income standpoint, this statement had operating income of $94 million MWI contributed a significant amount of dollar increase. Our consulting business also had excellent income growth in the quarter.

The segment’s operating margin was down about 60 basis points. This is the result of MWI becoming a much larger percentage of the results and having a lower margin in comparison to the 200 businesses within the other segment.

During the March quarter we celebrated the one year anniversary of acquiring MWI. We want thank Jim Cleary and the entire MWI team for an outstanding first year. We continue to be impressed with the passion and knowledge that associate demonstrate everyday partnering with our customers and the manufacturers and importantly the MWI business is outperformed our first year financial expectation. They are on strong footing and on track to deliver the long term returns we anticipated.

I would like to switch over now cover a few key working capital and cash flow items. In March quarter we had solid free-cash flow of $790 million. This quarter historically has been our strongest cash quarter of the year as we cycled through the seasonal inventory build from calendar year-end. At March, 31 we have roughly $2.5 billion in cash on our balance sheet.

This includes roughly $400 million offshore related primarily to our World Courier and Switzerland businesses.

During the quarter we purchased 1.1 million shares of our stock for about $100 million under our regular share repurchase authorization. As noted in this morning’s press release, we announced that our board authorized a new regular share repurchase program that together with the availability under the existing share program to purchase up to $750 million of our share. Also back in mid March we filed an 8-K announcing that warrant exercise their 2016 stock warrants. Through our hedging program as we committed we successfully offset the EPS diluted impact from the 23 million shares issued ----.

In conjunction with this hedging program the Company through an investment bank executed call options to purchase ABC’s shares the funding of the call option transaction was not entirely completed in the March quarter we paid $218 million to the investment bank in the March quarter and the remaining amount $483 million was paid to the base in April.

Moving to our revised fiscal ‘16 expectation. I must acknowledge that revising our adjusted EPS guidance downwards second time is really disappointing to us. Adverse market trends standards around in our pricing and then have become more acute than we anticipated and our strategic initiatives to offset some of these pressures has not yet yielded the results we expected. While generic inflation has been nominal the rate of generic drug deflation is slowly increasing and is higher than a level we previously expected in the fiscal ‘16 and expected it is slightly worse by year-end.

This has driven impart by the increase supply generic products in this channel. While we are protected some inventory losses on deflationary products it’s difficult to continue to earn the same gross profit dollars on decreasing prices. We have had some success in being made whole ---- by increasing generic sales volumes but we are not always 100% successful in achieving this. Combining with this our gross profit contributions from new generic launches are decreasing as brand manufacturers increasingly find ways to protect and retain market share.

Additionally after several years of a favorable brand of generic revenue mix in our drug company this trend is starting to reverse. As more lower margin brand specially drugs shift primarily to hospitals and specialty pharmacies through full line distribution drug company these revenues do not currently provide an up gross profit dollars to overcome the decline in generic drug gross profit.

With regards to our strategic initiative our drug company about a year ago sets forth on a strategic initiative to growth with independent retail business and in conjunction with this growth pro-generics revenues. The business added new management and additional resources made investments in innovative programs and aligned internal incentives. We expected to see meaningful progress in our June and September 16 quarters from these investments and efforts while we are making progress the financial contribution is ramping slower than anticipated.

Based on a two headwinds that I covered and the negative impact from previously disclose contract renewal the drug companies fiscal ‘16 operating income will be lower on a year-over-year basis even with PharMEDium included.

Our revised fiscal ‘16 -- guidance is as follows. Revenues we are not guiding to ABC consolidated revenue growth of approximately 8% for the full fiscal year. Operating income we expect growth in consolidated operating income to be in the range of 5% to 6% as a result to the low expected half expectation and lower than expected performance of our drug company. Included in this growth is the benefit from measures we plan to take to reduce our expense structure going forward.

Adjusted EPS we now expect our fiscal ‘16 adjusted EPS to be in the range of $5.44 as $5.54 which has growth of 10% to 12%. As I just highlighted our EPS range include the benefit of several spend from expense reductions we will be implementing in the second half of this fiscal year.

I would like to now cover our revised guidance on free-cash flow and also share repurchases. This morning we issued a separate press release announcing our contract amendment with our largest customers Walgreens. As we disclosed we have entered into a three year contract extension with our anchor partner through both the distribution agreement and generic sourcing agreement. In the past we have disclosed that this customer accounted for about 30% of our consolidated revenues.

In our review there are few customers that have both the scale and growth profile by --. The relationship now it is fourth year as exceeded our initial financial projection and has provided an excellent return to our shareholders and exchange for the extension we agreed to make additional working capital and infrastructure investment during the next several months and also into fiscal ‘17. Some of these investments including -- extra inventory to maximize service level and -- started. Because of the working capital investments we are now revising our free-cash flow guidance to $1.9 billion to $2.1 billion for the full year and it’s now include the tax benefit from the 2016 warrant exercise.

For share repurchases using a portion of the cash from warrant exercise we expect to increase our repurchases which will now totaled between $350 million and $450 million. As always share repurchases are subject to change depending on market conditions or second half of the year cash position and other competing capital needs. The third and final topic I want cover this morning is commentary our fiscal ‘17 outlook.

Since we changed our assumptions throughout the second half of fiscal ‘16 we thought it was important to provide a preliminary look at next year fiscal ‘17. Revenues, we expect our consolidated revenue growth to be slightly better than market. Operating income that headwinds that I called out related to the second half of fiscal ‘16 we will continue to did well into fiscal ‘17. Also we do except to have headwinds from both -- and -- contract renewals for half of the fiscal year.

Consequently our drug company’s operating income expected to be up just slightly and this includes solid growth from PharMEDium.

Adjusted EPS growth we expect growth in a range of 4% to 6% from the midpoint of our revised fiscal ‘16 guidance range. I should highlight that the 4% to 6% adjusted EPS growth is net of 3% headwind from the incremental expenses to support key business investments and IT system and infrastructure. These investments support our growth, drive customer satisfaction and further increase our operating efficiency. We expect to realize meaningful expense savings from these incremental investments of at least $30 million annually beginning in fiscal ‘19.

The preliminary view of our fiscal ‘17 outlook includes several key assumptions as follows. One, we are expecting generic drug deflation to be in the high single-digits by fiscal year-end ‘16 and more importantly we are forecasting that generic drug deflation will stay in his range in entire fiscal ‘17. Two, our tax rate will be slightly lower in fiscal ‘17. Three we have limited capital deployment in our adjusted EPS range we planned to complete enough share repurchases to offset stock option exercises.

For that we retain -- an important customer to drug company whey we are not including any new business resulting to more relationship with our largest customer six we have not included any impact from the proposed CMS Medicare for de-Reinvestment proposals as is too early to -- came in likely hood that this will be successfully implemented and seven we are not assuming a meaningful contribution from ----.

Moving to free cash flow preliminary guidance and cash availability. As I mentioned earlier we have agree to make working capital investments as a result of the Walgreen’s contract amendment the working capital impact this greater in fiscal ‘17 and fiscal ‘16 also the impact primarily effect’s the first half of our fiscal ‘17.

We anticipate that our capital spend will increase as we invest in our drug distribution network due to age of the network and also to increase capacity. Additionally we are making -- platform investment in our consulting and World Courier businesses both have older systems both have older systems that are inefficient and costly. As a result to these investment we expect that our free cash flow in fiscal ‘17 will be approximately equal to or just slightly below our adjusted net income and important point once we cycle through the impact from the Walgreen’s working capital investment and the higher CapEx in fiscal ‘17 our aspirational goal in fiscal ‘18 and beyond would be to have free cash flow of at least 125% of net income each year. Assuming overtime we maintain our current terms of customers and suppliers.

From a cash availability standpoint I should mention that we expect our offshore cash to continue to increase in fiscal ‘17 as a result of our international businesses.

The final item I will cover is the future exercise of the 2017 warrants because of our hedging strategy we are fully --- from any potential adjusted EPS solution when our share price is $88 or lower. We will certainly monitor this as we progress towards the exercise window which is March 2017 to September 2017. As reminder roughly 60% to the warrant proceed will be used to exercise our cap call options with the investment bank and purchase share needed to successfully complete the hedge for the remaining currency are expected to be use to repay the 2017 bond that we originally issued in connection with the hedging program.

As I close my comments, we are on a different trajectory for the remainder of fiscal ‘16 and also for fiscal ‘17 that we had originally anticipated. However, we are well positioned to navigate to a challenging environment drive efficiency and fastly deploy capital in a manner that drives long-term share holder value.

Now I will turn it back to Steve.

 

Steven H. Collis:

Thanks Tim. As we look ahead to the second half of our fiscal year and into next year there is no doubt that we have some challenging work ahead as we navigate the headwind at some outlined. But I am certain that we have the right Team in place not only to meet this near term challenge but also to ensure at that we do not lose sight of the many long-term opportunities that are ahead of us.

Let’s look at each of the foundational pieces of our business more closely. We are very fortunate to be heavily weighted to the U.S. pharmaceutical industry with organic market growth rate is expected to be 7% to 8% over the next several years. This is an extremely significant benefit that our industry enjoyed and all U.S. wholesalers are beneficiaries of this market growth especially to the extent as it is being driven by demographics and improving access to.

Market growth in U.S. Is also driven by new brand product introduction both in more traditional therapy and an innovative specialty products and to a lesser extent by branded drug inflation.

Of course going forward there will be less erosion at the top line from new generic launches. The large U.S. Wholesalers together comprised the most efficient distribution network in the world and provide tremendous value to the pharmaceutical supply channel AmerisourceBergen had distinguish itself within this accomplish group with its portfolio full of services was specialty and biotech manufacture and for the healthcare providers as administratively innovative products. We are the global leader in the distribution specialty drug and needs products to all of our customers.

The economic especially products vary depending on the channel in which the product is administered or whether the product is covered by the medical pharmacy benefits and extent to which we can add value for the manufacturer and the provider in most cases the best economic opportunity for ABC is with the products that are administered by physician that is ----- a patient and community setting because that is where we can provide the most value to both the manufacturer and the provider. While the prices of some of these specialty drugs get a lot of attention we should not loose side that the fact that these product treat extremely ---- In many takes they are lot saving products or lot changing drug that make a previously in correctable disease manageable. While we certainly understand the need to manage the cost -- the positions in other healthcare providers is -- patients should not themselves to be economically harm simply by choosing the date available therapy for their patient. At someone who is been working around community position including oncologist for over 20 years, I want to comment specifically on CMS proposed demonstration project on what --- drugs.

There is little evidence if any that positions are systematically and inter product prescribing expense of therapy. The proposal ignores the reimbursement challenges physician already face on many part -- medication such as those incremental plates as a result of sequestration.

The cost should administer the products and to care for this patients are significant. And an intended consequences of further reductions should be carefully studied because it is a patient that will bear the ultimate burden both in terms of the economic and in terms of the quality of their life. We are hopeful that the issues at the proposal will be addressed and that it will not be implemented in this current form.

Turning back to our business. Portfolio of services the portfolio of services we offer applies broadly to potentially all pharmaceuticals and going forward we will move to across model that is more balanced between generics and brand products. Today the basic logistics of warehousing and distributing the product is the bedrock of what we do and additional services we provide a greatly differentiated outlets in the market. We can needs the meets we can meet the needs of pharmaceutical manufactures and healthcare providers at virtually every point and that drives lot cycle.

On the clinical trial base the commercialization of the brand and into patient and product support from mature therapy and eventually through the launch of generic biosimilar versions of products. The portfolio of offerings we have both over the last decade will be even more important in the market that is laser focused on value and cost efficiency. Solid organic market growth and the right portfolio of severance is a critical components of increasing revenues. But to take the full advantage those cornerstones we need to be aligned at the right estimates and this is another area where are believe we sale.

AmericasourceBergen has an unparallel group of market customers with view we have established long-term relationships. As both Tim and I mentioned earlier, we are grew to extend our innovative and a highly successful partnership with Walgreens Boots Alliance and we look forward to continuing to reach the mutual benefits of this unique and collaborative relationship well beyond the original tenure term. This relationship has greatly benefited of both parties and as financially exceeded our expectations. I am also pleased that Express Scripts has decided to exercise their option to expand their current contract for an additional year.

We have been working with this market leading pharmacy benefit manager for the last four years and we continue look for new ways we can fought together to drive value for the long term.

We now have seven of our largest customers in each of our key statements under long term contract and that we hope and we hope we will soon be able to say the same about --. In remaining years we have deliberately charged than specific customers whom we believe would be on the cutting edge of pharmaceutical care and therefore grow faster than the market over the long run. In addition to the three customers already mentioned, we renewed our largest independent GPL customers CPA during the quarter. And of course we have our largest government contract with the Department of Defense sort of long term contract. This strategy has already paid dividend and we will continue to do so for many years to come.

Our focus on hard quality customers is not limited to just a very largest in the market place. We have extensive relationships with prudent drug retailers institutions and other top’s of healthcare provider of various shape and size and have long being champions of both independent community pharmacy and are specially positioned in community practice for example. We will continue to make investments to ensure as that we meet specific thought of care needs as well as to serve provide us you integrate offering across different channels and I think that AmerisourceBergen is in best positioned in the market to deliver meaningful innovation in these areas.

Another key customer group is a of course our pharmaceutical manufacture partners. Our extensive array of manufactured services businesses are another meaningful differentiator of ABC and these businesses are and we will continue to be among the fastest growing in our company. Whether we are working on clinical trial logistics in -- working on reimbursement and commercialization strategies within our consulting business. Well supporting patient assistance programs both around some of the more complex therapies.

Our belief this suit of services will already become more valuable in the future. As manufacturers must demonstrate value and competitive effectiveness and patient adherence becomes more essential and less exceptional and complex biosimilars are launched in to market place AmerisourceBergen will be the partner of choice. Saving customers wide absolutely requiring today’s market and we must continue to do so in the most efficient manner possible. While our expenses have increased in the recent years, and will continue to -- someone as we integrate our recent acquisition and make some additional investments in our implementation technology systems and other infrastructure.

I want to assure you that we remain focused on being the most efficient operated in the industry. As cost pressures increased across the board healthcare it is even more important that we manage our own within increasingly higher degree of precision than we have done historically.

We have always carefully run lean operation. This is an area where we need to apply even greater activity and sensitivity to our needs to be done to meet the needs of customers and way we can strip out and it’s unproductive expenses. This is a profit that never end and it is important to remember that investments we are making today are ultimately lower our cost of doing business in the future. As we grow our revenue efficiently run our operation and stock hold through the working capital investment that Tim discussed.

We space to be able to generate strong cash flow over the long term.

This is long been a hallmark of our business and is one of the key ways in which are driven shareholder value. We remained committed to be excellence -- capital and as I mentioned earlier we expect to continue to have a balance approach deploying our cash going forward. Our track record in this area is very strong. We have had successful internal projects about blue point, the NDC National Distribution Center and more recently -- in addition we have made very successful strategic investments in three market dealers World Korea, MWI animal health -- and far medium.

This three large acquisition have strengthened our business in key areas and all have them have exceeded our expectations in terms of the operational and financial and performance and have yielded important strategic benefit.

Looking ahead we will continue to look for high quality assets in the pharmaceutical channel that have great potentials to deliver long term value. In addition of course we will continue to return shares is through dividend and share repurchases. In the near term we remained committed to all potential valuation from the ---- of the 2017 warrant and although the longer term we will be thoughtful resourceful with our capital deployment as we have always being since inception of AmerisourceBergen.

In summary while we are disappointed in our near term forecast I hope all of our stakeholders --- great conviction and confidence in AmerisourceBergen franchise. Our management team our portfolio offerings and our collaborative and entrepreneurial spirit has never been stronger. As I have said on many occasions while we focused on delivering short term results we ---- with delivering long term performance that reflects ABCs excellent position board leadership and customer focus ultimately it is our daily patient to continues improvement in the quality of offerings, our seamless execution, our financial performance and our thoughtful capital management that would help us ensure we will generate long term value for all of our stakeholders for many years to come.

Now I turn it over to Barbara to begin Q&A.

 

Question & Answer

 

 

Barbara Brungess:

Thank you Steve. We will now open the call for questions. This morning we will ask that you please limit yourself to one question so we can accommodate as many caller in best possible. Please go ahead Larry.

 

Operator:

Thank you ladies and gentlemen if you do have question press star then one on e on your touch tone phone. You will hear tone indicating you have been placed in to queue you can withdraw your question by pressing the pound key and if you are using a speaker phone please pick the handset before pressing the numbers. Once again it is star then one if you do have a question.

We will go to Bob Jones with Goldman Sachs. Please go ahead.

 

Robert P. Jones:Goldman Sachs Group Inc.:

Great, thanks Steve and Tim. Yes so it’s sounds like you are calling for high single-digit deflation as we leave your fiscal ‘16 and enter your fiscal ‘17. I guess the two part or how does that compared to what you are seeing currently in the market place from a generic deflation standpoint and then Tim it think it will be really helpful if you can give some sense even order of magnitude of what kind of impact to the P&L should we be thinking about if you are talking about kind of mid single-digit deflation moving to high single-digit deflation?

 

Tim G. Guttman:

Yes, thanks Bob for the question. I’ll start with the first part of your question I mean I would tell you that you give perspective I mean where we are at today. At the end of March quarter we are probably mid single-digit deflation.

I mean that’s change that’s definitely changed that as from where we communicated to the street into our investors and stakeholders bake on Q1 it will probably very low single-digit. So that move again does I have we got the March and as we forecast out for the balance of the year we expect that to increase and that’s again we think that’s related to just more supply in the channel and certainly we factored that into think and that’s going to remain so into ‘17 and its headwind I am not going to comment on dollars, but we saw a lot generics throughout whole program and when we do the map 1% change in deflation and having lower GP dollars is certainly a headwind that we have go through.

 

Barbara Brungess:

And next question please.

 

Operator:

We will go to Ricky Goldwasser with Morgan Stanley. Please go ahead.

 

Ricky Goldwasser:Morgan Stanley:

Hi. Good morning. So I just want to go back to one of the comments you made in your prepared remarks. I think you talked about kind of like changing the pricing model in contract of your internal model and now think about inflation.

So can you may be elaborate a little bit more on this. Are you also seeing kind of changes in pricing model and your interaction with kind of like your customers, your pharmacies and also kind of like in kind of like buyer side so what does it really mean?

 

Steven H. Collis:

So we’ve had a real long term for several years now tailwind from the generic patterns with explorations and that’s been a great benefited. We talking out specifically about the drug companies obviously a bit different in our specialty business and very different and say -- PharMEDium business, but what we trying to accomplish in the long term is a bit of that and contributions between brand, generic and specially therapies which would include biosimilars and precision medicine products and sales based therapies. So all of this new innovative products we speak to get a fair return on and that’s the discussion we having with our customers and -- discussion we having with manufacturers as well.

Now the reality is that the sales side takes time to catch up with the buyer side and by the sale side we mean the contracts that we have with providers. So we seen some very rapid changes in the market place with them probably we believe growth in the industry will be driven by more by innovation and by inflation on established products. Even if they not subjected to generic competition. So it’s very important that we have all these product categories be profitable for us and that’s what we really are talking about and I think AmerisourceBergen with Bob -- leadership and the very strong strategic approach to customers we’ve taken a lead in this and you will see that reflect in our context over the long term.

 

Operator:

And our next question Lisa Gill with JP Morgan JP. Please go ahead.

 

Lisa Gill:JP Morgan:

Thanks very much. Steve thanks so much from you attending giving us some thoughts around 2017. But I really want to understand is their more broad based thoughts if you think about core revenue and your distribution business, you just talked about the changing model, you’ve talked about the changes around new product innovation versus increasing prices on existing products. But could we see a period of time where perhaps your revenue growth is greater than your EBIT growth because of some of these factors that are impacting the model and how do you think about EBIT just given your customer base, given some of the things that you’re talking about over the next couple of years?

 

Steven H. Collis:

Yes, Lisa thank you for question. It’s a mix of customer base that we have including being with some of the best disclosed by WBA and I’m positive specialty marketing including we do a lot specialty pharmacy business in our core drug wholesales business. We do expect to grow revenues slightly above the market and then because we have a strong associational waiting towards those larger customers and because of the mixes that we seen.

We don’t expect to able to keep our gross profit growth after than at revenue growth. But we do expect that we are going to have operating leverage, because of the different investments that we are making. So it will be scale -- and we all moving ahead rapidly with integrating MWI on PharMEDium which is really severely impacted our expense rates. Another good benefit that we have is our improving tax rate and then I think ABC is accelerating capital deployment not only on acquisitions but on buying shares back at the right time this is March 28th quarter and I think when I did my first quarter we were in the mid to half and so we’ve done very, very well with that.

Something that I am very proud of and we talk on a quarter about CDO and our national replenishment, these projects blue point this projects have really been outstanding and again depending on what happens in the market and how cash flow progresses and we are forecasting in the long line of 125. That’s quite -- in terms of comments so we would have a opportunities and certainly lower spot prices share repur becomes a lot more compelling to us so those will be the drivers for our long term growth model.

 

Barbara Brungess:

Next Caller.

 

Operator:

Will go to Robert Willoughby with Credit Suisse. Please go ahead.

 

Robert Willoughby:Credit Suisse:

Hi Steve or Tim, you were able to sign a three-year extension with Walgreen which had 6 or 7 years left on the deal but only a one year extension with express -- I guess they exercised the option there but what’s the barrier to negotiating a long term deal there is the nature of the negotiations changing and the secondarily you comment of the working capital requirements its inventory have any of the payment terms changed that’s where you made more of your recent progress or is Walgreen’s demanding different terms now?

 

Steven H. Collis:

I’ll sort of Bob. First of all it’s a pretty heavy door on the phone and the second of all it’s very strange welcome to Credit Suisse folks to good to hear from you. Again the first time I met George he said to me I didn’t really know -- I think we’ve made tremendous progress with Express Group.

The relationship is into its fifth year. The teams meet regularly. We have dedicated representation and we are going to work very hard to sign a new contract with them over the next 12 months and I think this is I think anybody would agree with me that this is a very active market with a lot going on and so but I do think that the companies are strategically aligned and I expect we will renew the contract.

As far as WBA -- I’ll let Tim comment further but clearly you know a lot of the people there are not in a industry on a daily basis. I am getting all these emails and texts this morning wow you did a $400 billion deal with WBA and we should not take that for granted. I mean these are the people who are saying well everything else that we announced today but they’re just not any other customer probably in the world like this and we did a historic agreement. This is the first time we significantly renegotiated any of the other elements of the contract and there is a lot things that both parties wanted to find out including the opportunity to enjoy new business with WBA so we did make some amendments and I’ll let Tim comment further but that’s really just what we have to say. Tim anything you’d add.

 

Tim G. Guttman:

Yes thanks Steve. Bon now your question we have agreed to invest in working capital others is extra inventory. We want to make sure we maximize our service levels which again as you think about it, there is also an impact on all of our customers to make sure we always have appropriate inventory.

We are never out and also help against any kind of disruption and the supply change or shortages but we are also making some incremental changes in terms of on the accounts being phased in their payment terms.

 

Barbara Brungess:

Next question please.

 

Operator:

And we’ll go to Ross Muken with Evercore ISI Group. Please go ahead.

 

Ross Muken:Evercore ISI:

Hi. Good morning guys. Can you give a little bit more color on the way the exclusivity commentary, it’s sort of an interesting dynamic change and we haven’t heard this in general from all of your peers so I am trying to get a sense of how much of it is sort of a change at the bright of manufacturer that you think is sustainable how much of it is sort of the current environment and how you foresee that sort of evolving because clearly that’s been a big profit driver at times for the wholesalers.

 

Tim G. Guttman:

Yes Ross I will jump in and start and Steve can also help but I would say in my commentary I talked about maybe a different trend of the market that has started and seems to be progressing and that brand manufacturers are retaining market share in co-pay corners and maybe some relays and I would say in the past we when we diverted to a generic we saw a pretty high immediate penetration rates in the market upwards of maybe 90%. Now when we convert on a generic we have to keep penetration rates that are more 50% to 60% and that put some pressure on generic profitability on launches so that is definitely what we see and that’s just so an evolution of the market and just something we have to work for generic system profitable. But again I would say as we stand here today looking out this year for some launches and even in the next year we are signaling that they just might not contribute to the level we expected.

 

Barbara Brungess:

Our next question please.

 

Operator:

I will go to with Eric Percher with Barclays. Please go ahead.

 

Eric Percher:Barclays:

Thank you. I have a question on the pricing discussion pricing model discussion as we go back historically specially was treated as brand and maybe years ago it should have been a separate class like generics and as we get to today I expect that it’s the larger customers the Walgreen expresses where you are serving specialty through the traditional distribution channel that really driving pressure on margins. So my question is how will you go about trying to change this and where do you get leverage maybe not just with those two customers but across the channel to change specialty pricing and margin and in the traditional wholesale business where there is been move toward to net pricing

 

Tim G. Guttman:

Eric that is excellent question and actually if I was the revision to stock we would do that especially should have been ---- but I think in a way because we had the pattern day expression opportunities for several years that sort of the anything of specialty drug. So the way we kind of get through this is for communication and trust. We have a very well demonstrated trend that we I think are doing outstanding job as industry of playing the strength I think people understand as well as well understood as how the industry is changing and just make things because the processes of these products and the value that they represent is very different than traditional all sort of brand medication and also they --- more patient population and it’s complex standing requirements complex reimbursement.

So AmerisolurceBergan has been in this for a long time. So recently out as strategic review for our specialty group and I made a very interesting observation that I think is -- and it’s really that the brand the specialty business has become the brand business in the future specialty businesses will be open drug biosimilars, precision medicines, cell-based therapies and I think that’s AmerisourceBergen will fell excellent differentiate ourselves. But ----- and his team ----- and what’s a --- of GSA mark side in our global supply chain side are really focused on talking to manufacturers about this stream making sure we get fair reimbursement and we need to talk to we are talking not only to the Walgreen’s and especially --- we have a big specialty pharmacy customer base we have a big ultimate care customer base, we have a big health system and hospitals GPO customer base and all of these customers need to really move along and as we get through the contracting phase it is our strong intention that we will make a profit on specialty drug and innovative therapy ---- of carriers.

 

Barbara Brungess:

Thanks next caller please.

 

Operator:

We will go to Garen Sarafian with Citi Research. Please go ahead.

 

Garen Sarafian:Citi Research:

Thanks for taking the question. One is just to follow up on the prior question I think it was the --- were on the generic launches expecting lower contribution is there any way you can quantify so that we can get a better appreciation for the new level of conservative and because I think that will be useful. But my question if you allow that to not ----- from my one is that on the pro generics commentary I wouldn’t have thought that is slow ramp in pro generics and increasing independent retails sales. What is mean the big enough stand into EPS guidance to call it out.

So could you may be give us a little bit more on how much of the change in EPS is attributable to this phenomena and I guess what exactly -- quarter plan and what are you assuming for fiscal ‘17.

 

Steven H. Collis:

I mean just Darren thanks for question. So at the beginning of February we really --- the lack of generic cost inflation and what we calling out and that’s probably and we -- our range what we talking Tim can give you more color but approximately two thirds of the lower forecast we would say is really environmental I mean approximately one third is from not getting to the growth targets that we expect that in ---- now its interesting because we I think can imagine we have dug very deep into this and our units sales are not all fit match it really is the generic deflation and lower average setting process on lot of the generic but I am not closing our generic sales and the way that implies to be as high as we anticipated honestly even in February and that’s about a third of the along with what we seen in the last quarter and the next two quarters which is generic efficiency rate that we are experiencing as a wholesaler it doesn’t mean that the market is not being is efficient it just means that we are seeing about that 50% conversion.

So we have definitely lost in our -- of the same of anticipated earnings from generically launches and even our specialty group there was a big launch where we expecting that we did not see as well so as not being a year that we would see the benefits from generic launch that we expected. Tim anything to add please.

 

Tim G. Guttman:

Yes I would just think I don’t think we want to give any more color on the impact from the launches and what that needs to about I think it’s just fair to say that there is less than what we expected and when you only have a handful in the year and less than expected that’s a challenge for you and as Steve mentioned we thought we’d make up some ground on the pro independent side and as we know generics are profitable for us P&L and cash flow and that was a headwind for us in second half of the year. 17 I think one part of your question is on ‘17. What does ‘17 include we expect to see some progress and some growth in ‘17 a reasonable amount.

 

Barbara Brungess:

Thanks Tim. Next question please.

 

Operator:

Yes we go to Eric Coldwell with Robert W Baird. Please go ahead.

 

Eric Coldwell:Robert W Baird:

Thanks. I am going to ask two. I guess the first one is just kind of a bullet point I doubt you’ll answer but it would be very helpful. Could you tell us what percent of your total revenue is generics today? get us up to speed on how that’s changed with the Walgreens relationship and other client moves?

 

Tim G. Guttman:

Actually don’t have that but I think you’re right. What is important to us with Walgreens and we say this many times is that we do all the prescription medications for them. And that includes both brand and generic and that really was a big sea change in the industry and has led to discussions around generic distribution and generic source with all of our customers.

So that’s what’s been extremely important.

I am glad the wholesale industry has well over the 90% coverage and the generic is still like this because it is still our opportunity and this is an opportunity for us to do more generic distribution with self way out in customers. So that is different we think of it as an opportunity and since the Walgreens transaction was announced, leave open today that discussion. So that’s been a positive whole industry not just for us but for our peers as well.

 

Barbara Brungess:

Eric are you still on the line?

 

Operator:

I will open his line just a moment. Eric your line is open, please go ahead.

 

Eric Coldwell:

Good Great. thanks. Steve’s comment you know it kind of led into my second question which is you mentioned a couple of times with these working capital step ups and investments you’re making on behalf of Walgreens but you are hoping to do more business with them I guess my confusion is I thought you already had all of the business with them. So I’m not sure exactly what the incremental opportunity is other than them bringing on acquisitions and you did state earlier that you are not factored in acquisition driven revenue increase so I’m kind of confusing you talking about doing or what exactly are you doing since you’re doing all the brand all the specialty and all of the generics

 

Steven H. Collis:

I think what we say is that the historical relationship in that we revisited the contract that we entered into in 2013 and it’s been very active market and since then we had not only the various changes with that we talked about industry but WPA I really coming to existence from the company and we have with that adding strong leader in the real retail they has vision for what can be accomplish between AmerisourceBergen and WPA is partner so we’re optimistic about strong growth for WPA and we optimistic about the partnership and I think I’ve said everything that we not update WPA 15% share and we expect that will carry on looking for way to grow the market base and these are discussions that are literally on volume everyday or ever week

 

Barbara Brungess:

Next question please.

 

Operator:

Next we go to David Francis with RBC Capital Markets. Please go ahead.

 

David Francis:RBC Capital Markets:

Steve and Tim. Good morning. Moving over to Kaiser, you clearly expect to keep those guidance guys in the family here. Can you remind us to what degree if any the terms of that contract have been renegotiated since you originally got into the most recent turn of that so we can get sense as to what kind of terms might be renegotiated here as you get that contract and also looking at Human given their transaction situation if there is any update on that contract situation as well. Thanks.

 

Tim G. Guttman:

Hey David, this is Tim. So your question about Kaiser I mean I think we communicated in the past we have that business through June 30th so we will have one quarter impact this year ‘16 and also into ‘17 we put a reasonable assumption into our numbers this year and next year in terms of what it going to take to renew that and that’s been currently consistent we’re heavily engaged with them in discussion with them and we are optimistic that will give us a finish line with that important customer. -- we now involve in a transaction right now so, we have that business flow I think I would say there are assumption for ‘17 is that what we factored in that and we have that.

 

Barbara Brungess:

Alright. Thank you. Next question please.

 

Operator:

Yes we go to Charles Rhyee with Cowen and Company. Please go ahead.

 

Charles Rhyee:Cowen and Company:

Thanks for squeezing me in the line just wanted to go back and just to clarify I think you’d talked about so we’re looking for us free cash flow to come back once you get out to fiscal ‘18 with the newly extension here in sort of the investment in the with the -- relationship so for -- high inventories was I mean are payable terms are changing as well I want to future so that are working capital benefits that we experienced historically are preserved or those kind of primarily change. I just wanted to clarify that point. Thanks.

 

Tim G. Guttman:

Hey Charles Tim I think I understand your question I mean we talked about making working capital investments in both years and talked about inventory and other working capital being phased in ‘16, ‘17 more of an impacted in ‘17 and there are no contemplated terms changes to our manufacturers we are all monitoring those and negotiating with manufacturers. But those are the only changes that we called out and we expect our free cash flow would be to be back much better as Steve mentioned over 125% of better of our adjusted net income in ‘18 and beyond which is still pretty healthy.

 

Barbara Brungess:

Thank you. Next question please.

 

Operator:

We’ll go to David Larsen with Leerink Partners. Please go ahead.

 

David Larsen:Leerink Partners:

Hi for the reset expectations for two age of a fiscal ‘16. How much of that is coming from generic deflation and how much of that is coming from renewals. So is it really 50-50 and those of the two pieces that have cost reset and expectations?

 

Steven H. Collis:

Yes Dave I’ll jump and looking -- so I’ll jump in our reset for the second half of the ‘16 we called that two items one clearly was the contributions from generics being lower the higher deflation rates than we anticipated and also the launches not contributing as much I would say that’s big part of the reset and then we also called out our plan to grow our independent generics. Those are the two reasons for the reset. We put them in that order the environmental first, carrying more weight so I would say it’s easily two-third to one-third. we will take one more question please.

 

Operator:

Alright that will be from Greg Bolan with Avondale Partners. Please go ahead.

 

Greg Bolan:Avondale Partners:

Thanks for squeezing me in. So going back to Garen’s question and I think you answered it Steve but on the PROGen side you would mentioned that kind of being one third of the reason for the revised guidance and I think you’d mentioned that volumes kind of seem okay it’s more about pricing but there is not any evidence that you guys loss some share in the independent pharmacy side, right?

 

Steven H. Collis:

Well thanks for question. Now we did lose a buying group customer last year and next really what we made some changes and we all say new to coming and take overall our G&P program which you done a great job of and we recently announced a new leader there. Dave has really putting the new level of services around especially network and network contracting which is not what the membership based and G&P was looking for.

So we feel good about where we are. As just that so much of the independent business engaged with buying groups now and just doesn’t you can’t quite get as much progress as quickly as we would have anticipated.

So that’s really what we talking about. We have the wonderful confidence in our good -- performance we offering and we think it’s really important offering and with PROGen for the independent base and what help be successful in the future and I think that the company is the G&P base really appreciated. So we have our trade show in July and we already have record registrations and --. We feel good about AmerisourceBergen independent pharmacy and certainly we will intend to carry on investing in that area.

So thanks for your time and that will be the last question .

 

Barbara Brungess:

Yes. So we have some closing comments.

 

Steven H. Collis:

Yes. So I just wanted to close by thanking you for your attention. We have actually gone to almost 70 minutes stand.

I hope that you understand that we are severely disappointed about talking about taking our guidance down for ‘16 and for ‘17. But we do take the responsibility we have to all of you to provide you with timely, fair, and balanced information very seriously and I was with this intention that we planned for and delivered this conference call today. I just hope you all take out from this call that we have tremendous confidence in the services and the offering of AmerisourceBergen and the people of AmerisourceBergen and we remained resolute that AmerisourceBergen will be in the company where knowledge reach and partnership will shape -- delivery in the short and medium, but specially in the long term. Thank you.

 

Barbara Brungess:

Thanks Steve and Thank you everyone for joining us this morning. As well as we will be -- this afternoon and tomorrow to address any follow up questions. We have also listed in our press release this morning that conferences will be attending in the next two months. So with that I will turn it back to the operator.

 

Operator:

Thank you. Ladies and gentlemen this will conclude our teleconference for today. Thank you for your participation and for using AT&T Executive teleconference service. You may now disconnect.

Posted In: EarningsNews
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