Cardinal Health Inc (CAH) — Q4 2015 Earnings Call Transcript

Thank you, Rupert. And welcome to Cardinal Health's fourth quarter fiscal 2015 earnings and fiscal 2016 guidance call. Today, we will be making forward-looking statements. The matters addressed in these statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected or implied. Please refer to the SEC filings and the forward-looking statements slide at the beginning of the presentation found on the Investor page of our website for a description of risks and uncertainties. In addition, we will reference non-GAAP financial measures. Information about these measures and reconciliations to GAAP are included at the end of the slides. I'd also like to remind you of a few upcoming investment conferences and events. We will be webcasting our presentations at the FBR Second Annual Health Conference on September 9 at 12 p.m. noon in Boston, Bayer's 2015 Healthcare Conference on September 10 at 7:50 a.m. Eastern in New York and at the Morgan Stanley Global Healthcare Conference on September 16 at 8:45 a.m. Eastern in New York. Today's press release and details for any webcasted events are or will be posted on the IR section of our website at cardinalhealth.com. So, please make sure to visit the site often for updated information. We hope to see many of you at an upcoming event. Now, I'd like to turn the call over to our Chairman and CEO, George Barrett.

Thanks, Sally. Good morning, everyone. And thanks to all of you for joining us for this morning's call. I know it's an incredibly busy morning for all of you, so please allow me to start by being direct. Cardinal Health had a remarkable year in fiscal 2015. Here are the facts. First, revenues climbed back over the $100 billion mark, growing 13% year-over-year. Second, we delivered the largest non-GAAP operating earnings in the 44-year history of Cardinal Health, growing 15% year-over-year. Third, we generated $2.5 billion in operating cash flow. And fourth, we returned $1.5 billion to shareholders through expanded dividends and share repurchases. And I'm proud that our organization was able to generate this financial performance while making sound and strategic moves in drug distribution, generics, specialty, small office practices, consumables, and physician preference items, all putting us in a forward position to sustain meaningful and measurable growth into the future. So, again, a great year. Of course, the year was not without its challenges. Year-over-year, our Medical segment was essentially flat adjusting for some non-operating compensation push downs. But we have been disciplined and determined in modernizing the portfolio of drivers in our Medical segment building off our expansive footprint, our deep customer relationships, our global manufacturing and sourcing experience, and the extensive cross learnings from our work in Pharmaceuticals. To be clear, every component of this new portfolio drives growth while leveraging the strong legacy and platform of our Medical Surgical distribution. This has been a multi-year process but we expect to largely come through this transition as we exit fiscal 2016. We've crafted a strategy which allows us to serve the needs of the market today but positions us to address the ongoing needs of patients, medical providers, hospitals, retail outlets, and all of our partners in a system undergoing change. Long-term value creation is our true north. Our healthcare system is at a key inflection point and with the ongoing convergence of historically disconnected players, customers increasingly see Cardinal Health as an integrated and effective healthcare organization, not a collection of individual business units. The strong performance of the enterprise wasn't the product of a single business unit or function. It was rather the collective energy and dedication of 35,000 people who are extraordinarily committed to their customers, to patients, to our business partners, and to the performance on which they know investors have come to depend. We will not rest on our progress; as we begin our fiscal 2016, we expect to continue our track record of growth and value creation. So, let me make a couple of quick comments about the fourth quarter, which Mike will cover in more detail, and describe specifically how we see our positioning in the market and why we expect to continue our growth trajectory. We finished fiscal 2015 with a very strong fourth quarter. Revenues increased 20%. Non-GAAP operating earnings increased 33%, and we recorded non-GAAP earnings per share of $1, an increase of 20% over the prior year. Also, during the quarter, we entered into an agreement to acquire Harvard Drug, which strengthens our capabilities in generics, broadens our telemarketing reach, and of course, adds scale to our Red Oak joint venture with CVS Health. Of particular note, our Pharmaceutical segment had an exceptional quarter, which you've seen in our press release and which Mike will cover in a few minutes. This is truly a remarkable time in healthcare and Cardinal Health is poised to excel while the industry evolves. We're now beginning to see a clearer picture of how our newer industry dynamics might affect the future. Let me describe some of these forces and link them directly to the work that we're doing and how we position our business portfolio, our product lines, and our capabilities to grow in alignment with these dynamics. First, there's a noteworthy and increasing bifurcation in the Pharmaceutical world. We see continued growth in the utilization of generic drugs and a new era of innovation in Specialty Pharmaceuticals addressing the needs of unique patient populations that require a very integrated approach to patient management. Recognizing this, we expanded and continue to grow and diversify our customer base; in particular, we are broadening the number of customers who source generics from us. And of course, we established Red Oak Sourcing, our joint venture with CVS Health, which was fully operationalized this fiscal year. This is an effective, productive and profitable partnership, and we see this as a long-term driver of value for us, CVS Health, our manufacturing partners and of course, our customers. We've significantly grown our Specialty business and completed the acquisition of Metro Medical, enhancing our reach and expanding the therapeutic areas we serve. And we continue to deepen our relationships with biopharmaceutical manufacturers with valuable offerings in regulatory sciences, patient access and support, and health economics outcomes research. Second, we are seeing retailers, big and small, continue to expand their offerings and enhance their role in healthcare. Increasingly, they have become places where care is actually delivered and where healthcare counsel is provided. These retail pharmacies need to operate at significant scale or leverage the scale of a partner to ensure efficiency and access. With the proven strength of our brand and generic programs, Cardinal Health offers the opportunity to aggregate demand for our customers. We provide access to innovative tools, technologies, specialized services and solutions, including network inclusion. We now have nearly 6,000 customers in our Pharmacy Services Administrative Organization, we call that PSAO; we re-contract on their behalf for network inclusion. Without question, Red Oak Sourcing provides tremendous support enabling a world-class generics program for our customers. Third, we are seeing hospitals and health systems become increasingly complex, multi-site and multi-provider. This creates new challenges for them and puts a priority on coordination, efficiency, and standardization around various needs, including pharmaceuticals, consumables, physician preference items, and the accompanying services around these products. This creates unique opportunities for us. Partners like Cardinal Health who can serve these needs across a highly distributed system and who can help ensure the right care in the right part of the system will be highly valuable to our manufacture partners and providers alike. Integrated delivery solutions group works across health systems to build formulary capabilities and offer medication therapy management to ensure that each patient starts and stays on the right medicine. Our consumables portfolio addresses the need for efficiency and standardization, and our Cardinal Health branded products continue to grow. Our acquisitions of AccessClosure, Innovative Therapies, and, of course, the planned acquisition of Cordis offer real solutions around efficiency and standardization, combining products and innovative services and technologies. Simply put, we can eliminate waste and improve outcomes in the physician preference item area. And we are very excited to have joined forces with Henry Schein to more efficiently and effectively serve small physician practices, many of whom are now affiliated with IDN. Combining our tools with Schein's world-class capabilities and servicing office-based practices makes us a stronger partner for integrated system and allows us to move more of our Cardinal Health branded products through more channels. Fourth, as the baby boom population moves into their 60s and now their 70s, many are living with multiple chronic diseases and therefore, need new and different forms of care. These patients are being treated in different settings that we internally refer to as peri-acute settings. The moment of discharge is a unique moment in our healthcare system and transitions to post-acute settings are extremely important. We know that many of these patients are best cared for in their own homes where they can have the dignity and support they deserve. The strength of our Cardinal Health at Home platform continues to grow bolstered by increased penetration of Cardinal Health branded products. And we are in the process of launching our Hospital Quality at Home initiative which allows consumers the opportunity to purchase a product they've used in clinical settings from retail outlets. And finally, we are seeing payment models changing, shifting the focus to outcomes rather than activity; results, not effort. In January, the Department of Health and Human Services set clear goals and timelines to shift Medicare to value-based models. In recent weeks, CMS announced their first mandatory targets for bundled payments starting with lower extremity procedures. The move to expand our position in cardiology with products offered by Cordis and AccessClosure, in wound management with Innovative Therapies, and then trauma with Emerge all align perfectly with these developments. Our ability to serve these bundles with products and innovative services now across multiple therapeutic areas is a key differentiator; highly valuable to our provider partners and will be a key driver of growth for us. With a strategic eye on the future, identifying and embracing evolving industry dynamics, Cardinal Health is uniquely positioned to create value in this new environment. We are an integrated healthcare company delivering solutions to our customers across the entire continuum of care, addressing critical challenges around efficiency, costs, quality, access and outcomes. So, what do we expect going forward? This morning we provided FY 2016 guidance of $4.85 to $5.05 which represents an 11% to 15% growth rate. We expect to see growth along multiple dimensions. Without question, generics remain an important strategic focus for us, and we expect that Red Oak will continue to generate meaningful value for us and for our customers. As I mentioned before, we closed the acquisition of Harvard Drug in early July. This will further fuel our growth in generics. Our Specialty business continues its strong growth, and we expect that Specialty Solutions will finish fiscal 2016 with revenues in excess of $8 billion. We expect our Medical segment to grow at mid-single-digit rates and finish the year with momentum. Of note, the Medical segment will have a challenging first quarter as a result of some discrete items, the largest being the wind down of a post-spend CareFusion contract in Canada which Mike will cover. Nevertheless, we continue to expect higher than market growth in our strategic accounts and double-digit growth in our Cardinal Health branded Medical products. We anticipate outgrowing the market in Cardinal Health at Home and look with enthusiasm to closing the acquisition of Cordis likely in our fiscal future. China continues to represent a significant opportunity. The healthcare market in China is still in its early phases of growth and our large and expanding footprint will be increasingly valuable to us and our global Pharma and Med Tech partners. Finally, having made some important moves in these last 18 to 24 months, we will prioritize and focus on execution and performance management around these strategic priorities. And because of this, expect that our capital deployment approach in the near term will be weighted toward reinvesting in our existing businesses and enhancing enterprise capabilities to ensure that we maintain the kind of impressive earnings growth we've experienced over the last one, two, and five years. We come out of fiscal 2015 with a strong track record of financial performance and a balanced, well-positioned portfolio. We have high expectations and I'm confident in our ability to continue to deliver robust growth demonstrated by real and measurable results. Let me finish by thanking all of you for your support, all of our customers and business partners for their trust, and all of our employees who work incredibly hard day-in and day-out to set the industry standard of excellence. Great people make great companies, and great companies make for great communities and in that regard, our people set a high standard. With that, I'll turn the call over to Mike for a detailed review of the financials.

Thanks, George. I'm extremely pleased to report such an outstanding quarter and a terrific fiscal 2015. The financial performance of the enterprise along multiple dimensions: revenue, operating earnings, cost control and EPS growth all point to tremendous attention to high performance by our team. At the same time, we continued a disciplined and balanced approach to capital deployment which served us well this year and in the years to come. Now, let me review our strong fiscal 2015 results. I'll focus on our Q4 performance and provide select full-year highlights then I'll offer our fiscal 2016 outlook including some of the underlying assumptions. You can refer to the slide presentation on our website as a guide to this discussion. Starting with the consolidated company financials, Cardinal Health had a strong finish to an excellent year. For the fourth quarter, non-GAAP diluted earnings per share from continuing operations were $1, a 20% growth versus the prior-year quarter. This contributed to full-year non-GAAP EPS of $4.38, a year-over-year growth of 14%. Fourth quarter revenues came in at $27.5 billion, or a growth of 20%, and full-year revenue grew 13% to $102.5 billion. Gross margin dollars were up over 16% in the fourth quarter and increased 11% versus the prior full year. Gross margin rate in the quarter compressed slightly due to the Pharmaceutical segment growing at a faster rate than the Medical segment. SG&A expenses in the quarter and year increased largely as a result of acquisitions. We drove strong growth in consolidated non-GAAP operating earnings, up 33% in the quarter and 16% during the year. Non-GAAP operating margin rates expanded 20 basis points in the quarter and 7 basis points for the full year. Net interest and other expense increased as anticipated versus the prior year's quarter primarily due to the new debt issuance to fund the Cordis and Harvard Drug acquisitions. As we expected, the non-GAAP effective tax rate for the quarter was unusually high at 42.2% due to certain federal and state tax matters. The full-year rate was 37.2%. Our fourth quarter diluted weighted average shares outstanding were 333 million. Full-year diluted weighted average shares were 335 million, nearly 10 million lower than the last year. During the fourth quarter, we took the opportunity to pull forward fiscal 2016 share repurchases and bought $350 million worth of shares. This brought our fiscal 2015 share repurchases to over $1 billion. At fiscal 2015 year-end, we had about $700 million remaining on our board-authorized share repurchase program. Moving on to consolidated cash flows, we generated $868 million in operating cash flow during the quarter. This brought the full-year cash from operations to over $2.5 billion, a result of strong contributions from both segments. Overall, we ended June 30 with a strong balance sheet, including a cash balance of $4.6 billion of which $423 million were held internationally. As a reminder, our cash balance included $1.5 billion in proceeds from our recent debt issuance, which in combination with an additional $1.5 billion of cash on hand, will be used to fund Cordis and has been used to fund the Harvard acquisition which closed in early July. In addition, remember that we like to keep $1 billion to $1.5 billion of cash on hand as the scale of our business can require large daily fluctuations and cash needs. Now let's move to the Pharmaceutical segment performance for the fourth quarter and fiscal year. The segment had outstanding performance in the quarter and the year. Revenue in the fourth quarter grew 23% to $24.7 billion driven by growth in our existing and new customers. Full-year Pharmaceutical segment revenues were $91.1 billion, an increase of nearly 14% versus the prior year. Segment profit increased by 42% in the fourth quarter to $535 million. This performance was driven by our generics program, which included volume growth in our customer base, as well as excellent execution by our colleagues at Red Oak. On the year, segment profit rates expanded 12 basis points to 2.3% driven by our generics program and continued focus on expense management. Moving to our Medical segment; this quarter, revenues grew 2% to $2.9 billion due to contributions from acquisitions and growth in our Cardinal Health at Home platform. This was partially offset by declines experienced in Canada. For the year, revenues grew 4% to $11.4 billion. Fourth quarter Medical segment profit increased 7% to $103 million. This growth came from the expansion of our Cardinal Health brand products and services through a combination of acquisitions and organic efforts, coupled with targeted cost reductions. For the year, segment profit dollars decreased 2.6%, and the rate compressed to 3.8% due to the portfolio mix George discussed earlier as well as the impact of the Canada business.

Let me share a quick note on Cardinal Health China, which spans both of our reporting segments. Our business in China generated over $3 billion in revenue for the year, resulting in strong double-digit top and bottom line growth. The team there continues to execute well through a combination of organic and inorganic moves and we continue to gain share in our ranking among the top 10 healthcare distributors in China. If you review the GAAP to non-GAAP reconciliations on slide number eight, you'll see our consolidated GAAP results for the quarter. The $0.12 variance to non-GAAP results was primarily driven by amortization and other acquisition-related costs which reduced our GAAP results by $0.18 per share. We also had proceeds of $56 million in pre-tax antitrust settlements that are included in the $0.08 net litigation recoveries line. These were excluded from non-GAAP results.

With a strong fiscal 2015 behind us, let's turn to our fiscal 2016 outlook. In early June, we provided you with our preliminary fiscal 2016 guidance range. I'll now go through our refined outlook including our current expectations and relevant, underlying assumptions. We expect consolidated company revenues to grow in the low double digits and as George stated, we expect our non-GAAP EPS to be in the range of $4.85 to $5.05. While we don't provide quarterly guidance, we do expect our earnings to be more back half-weighted in fiscal 2016. This will become clearer as I walk through the segments. Let me first start by providing Pharmaceutical segments' specific expectations and assumptions. We expect robust revenue growth in the low double digits versus the prior year. The anticipated drivers of revenue include branded manufactured drug price increases similar to what we experienced in fiscal 2015, the incremental increase related to new customer wins and healthy growth from both Specialty and the China Pharmaceutical business. For our generics program, overall we expect a positive year-over-year earnings contribution. This growth will be driven by several factors such as current customer penetration, new customer wins, execution of new launches, the manufacturing pricing environment, and of course, execution at Red Oak. Speaking of Red Oak, it has been a great success. As we've mentioned, the achievement of certain milestones would trigger pre-determined payments beginning in fiscal 2016. Because of excellent performance, Red Oak achieved these milestones and we will be making our first $10 million additional payment to CVS Health in this first quarter of fiscal 2016 for a new total quarterly payment of $35.6 million. Our fiscal 2016 outlook also assumes overall generic unit growth versus the prior year as a result of growth in existing customers as well as the incremental impact of the new customers that we on-boarded in fiscal 2015. In addition, we are assuming a lower year-over-year contribution from new item launches as well as the moderating generic manufacturer drug pricing from what we observed in fiscal 2015. Again, we feel very positive about our outlook for our generics program and expect the second half to be stronger based on the way we see the various components of our program shaping up. Fiscal 2016 will also include a full year of the Harvard acquisition, which closed in early July. We expect this to ramp through fiscal 2016 resulting in non-GAAP EPS accretion of greater than $0.15 per share net of the $0.03 to $0.04 of its interest expense for the related debt financing. As I just mentioned, we expect Cardinal Health Specialty Solutions to be a solid contributor to performance in fiscal 2016. Last year, we told you that Specialty was on a trajectory to exceed $5 billion in revenues in fiscal 2015. The business surpassed that goal and we continue to expect robust organic growth. Along with the acquisition of Metro Medical, we now expect to end fiscal 2016 well in excess of $8 billion in revenues. Rounding out our Pharmaceutical segment assumptions, we are also planning for double-digit growth in our China business. Now, let's talk about our expectations and assumptions around our Medical segment for fiscal 2016. We expect revenues to grow mid- to high-single digits, driven by Cardinal Health brand product growth which includes Cordis, our China Medical business, and Cardinal Health at Home. For the full year, we expect mid-single-digit segment profit growth due to the same drivers. Now let me give you some additional insight into the cadence of the Medical segment performance as we work through a year with multiple moving parts. The segment profit growth I just mentioned is significantly back-half weighted due to the anticipated timing of the close of Cordis, lapping of the previously mentioned contract losses in Canada, and the timing of the continued ramp of Cardinal Health brand products which includes the launch of both new products and expansion of existing product lines midway through our fiscal year. Let me expand a little bit on these items. First, regarding Canada, for the first quarter we expect a $10 million discrete year-over-year headwind related to the winding down of the CareFusion contract that George mentioned earlier. Also, there are other smaller puts and takes that, combined with the wind down, will result in a first quarter year-over-year decline in the high teens for the segment. Even with these factors, the Medical segment will grow segment profit by mid-single digits. So while the first quarter and half will be down, our strong second half will result in full-year growth. Since Cordis is an important contributor to our stronger second half, I'll provide the assumptions included in our fiscal 2016 guidance. We expect to close the Cordis acquisition before the end of the first half of fiscal 2016 and we expect an inventory fair value step up of $0.13 to $0.15 that will reduce non-GAAP EPS in the second and third quarter of fiscal 2016 and be substantially complete by the fourth quarter. Based on this timing, we would expect meaningful contribution from Cordis in the fourth quarter.

Let me finish by highlighting a few key corporate assumptions for the year. We expect net interest and other expense of $195 million to $210 million which reflects the mid-June debt issuance related to the funding of the Cordis and Harvard acquisitions. We are projecting an overall non-GAAP tax rate in the range of 35.5% to 37%. As a reminder, we only provide full-year guidance on tax rates as they can have natural quarter-to-quarter fluctuations resulting from discussions with state, federal, and international authorities. We also expect amortization of intangible-related assets from acquisitions closed as of June 30, 2015 to be approximately $194 million or about $0.36 per share. This does not include amortization for Harvard or Cordis. We will update this assumption throughout the year as that information becomes available. Moving on to capital deployment, for FY 2016 our strategy remains consistent with recent years. As we have stated, we view reinvestment in the business as a priority. During the year, we expect capital investment to increase to the range of $510 million to $540 million. This is higher than our historical run rate as this year we have identified opportunities to invest in strategic priorities, refresh our information systems in our Pharmaceutical segment and support our recent acquisitions. While we regularly evaluate opportunities to redeploy capital into the business, longer term we expect capital expenditures to return to historical levels. We also remain committed to growing our differentiated dividend in line with our long-term, non-GAAP EPS growth rate. We will also continue to explore opportunities to pursue strategic M&A with a bias towards executing on the integration of the recent acquisitions. And as always, we will continually evaluate opportunistic share repurchases as part of our balanced capital deployment approach. For fiscal 2016, we are assuming diluted weighted average shares outstanding between 334 million and 336 million. As I mentioned, this reflects a pull forward of approximately $350 million of share repurchases that were just completed during the fourth quarter of fiscal 2015.

Great. Thanks for the questions. I guess I'll start with the obligatory generic inflation question. I know your directional assumption around generic drug manufacturer pricing to moderate versus fiscal 2015 is in line with what you guys have been saying, but I guess I am curious just around order of magnitude. Have you guys seen anything change in the marketplace more recently that would've made you think of this as less of a tailwind and for your fiscal 2016 than what you guys had been kind of signaling to us over the last couple of quarters?

Good morning, Bob. It's George. I think, why don't I let Mike start with that and then maybe I'll follow up with a little bit of color.

Yeah, absolutely. Hey thanks, Bob, and good morning. As we said in the past, these generic inflations can be incredibly lumpy. It's not very consistent month-to-month or quarter-to-quarter. So while we are telling you that we believe that it will moderate for our fiscal 2016 versus fiscal 2015, we're not really seeing anything, in large changes in the environment. All the things that we've seen in the past such as the launch schedule not being where it was in the later 2000s, delays for product introductions, we're not seeing lots of new competitors necessarily in the marketplace. All those types of things that we've talked about in the past, we're not really seeing any changes, we're just trying to probably be a little bit conservative to let folks know that we do expect it to moderate a little bit over the next year.

Yeah, let me just echo a little bit of this. I don't know that I'd be able to describe, Bob, a meaningful change since we last reported, other than of course some very large announcements of transactions among the manufacturers. So just – I'm always reminding people on this question that you have to remember each product is sort of its own market with its own characteristics. How complex is the drug that's being manufactured? Is there plenty of raw material? Where is the drug used? How many players? What's happening for their overall business? So, there are a lot of moving parts in this but I think our general perspective is, and I think we've said this last quarter, but just to moderate our assumption going forward a bit.

No. I think that's fair. And I guess just my follow up on the cash balance, Mike, I appreciate the breakdown you gave of where you guys are and what's earmarked for what. But I guess if I go through some of the adjustments and then factor in the CapEx guidance you gave, it doesn't really look like you have too much flexibility for deployment. Anything you can share on cash flow generation expectations and I guess if my math is right, when do you guys feel like you'd be back in a position to either pursue meaningful deals again or meaningful buybacks?

Yeah. Really fair question. As we take a look at it, a couple of things. I would say that I'm very comfortable with our ability to continue to do acquisitions even today if we needed to. We have access to a lot of different sources of funding, I wouldn't be uncomfortable with putting more debt on the balance sheet if we needed to if we found the right strategic opportunity. Again, that all being said, we're going to really be focused on execution this year. We've really set the table well, I believe, this past year with some really key acquisitions; particularly Harvard all ready and Cordis to close. We're going to focus on that execution and we're going to be really balanced again in our approach with capital. And so, I know, George, you'd probably like to say a couple...

Hey, George. I just wanted to follow up on some comments you made in your prepared remarks. I think you seem to suggest that your capital deployment would be weighted towards your existing businesses and I just want to be clear on exactly what you're seeing. Do you believe it's just going to be CapEx, internal CapEx, towards the businesses that you've already bought or are you somewhat suggesting that you'll also consider doing acquisitions that may complement some of the existing businesses that you have internally?

Yeah. Good morning, Glen. Thanks. Yeah so a couple of things. One is we want to make sure that you all know that we've got a very high priority on executing the business, particularly on some of the moves that we've made. So, we want to make sure we're all over those and that we're doing the things that we need to do to make sure that those things happen the way we want. We will, of course, continue to look for opportunities that we think drive strength in the businesses that we have. So, that's largely what we're saying. Again, number one, a high priority on execution. We've deployed some capital, we want to make sure that we do that very efficiently. And second, of course we're always looking for those opportunities to sort of double down and get stronger in areas. But I hope that answers the question.

Okay. Maybe if I just follow up with a question for Mike on the guidance. Mike, it kind of sounds like listening to the way you characterize it, there is no capital deployment really built into your new guidance assumptions. If we're not going to model acquisitions and it seems like based on the share count that you're providing you're assuming no share repurchase as well. Is it a fair characterization to assume that the guidance includes no capital deployment?

Yeah, it's a fair question. When you take a look at the assumptions, obviously, you can take a look at the fact that I mentioned that we were planning to do about $350 million of capital deployment this year in FY 2016, but we decided to go ahead and pull that forward opportunistically into the fourth quarter. So it is a fair assumption as you take a look at the metrics that we've put out and assumptions that we would have obviously a limited amount of capital or stock buyback this year. But again, you have to remember that's very early in the year. We're going to generate strong cash flows this year and we're going to take a look at all of our capital deployment policies and if there's opportunities in the year to buy back stock opportunistically we won't hesitate to do that.

Yeah. Hi. Good morning, and congrats on the quarter. So, my first question is around kind of the generic programs. In the prepared remarks you emphasized kind of like the growth and momentum that you're seeing there. So, can you quantify for us how fast is your generics program growing and how it compares to what you're seeing market growth is? And how does Harvard fit in? So, when you think about fiscal year 2016, do you separate the – is the Harvard accretion includes also the contribution to generic or do you think about it as kind of like supporting your growth of your generic program separately?

Yeah, Ricky. I would say Harvard's really both. I mean, Harvard brings to us generic scale, which is always important particularly with the excellent performance we're seeing from the Red Oak team. It also brings to us new telemarketing skills and teammates. It also had some private label brands that we're going to take a look at how we can continue to leverage those in the acute space. So Harvard brings several different capabilities to us that we're excited about and we've had an excellent team in the telemarketing area, over the last couple of years that have executed incredibly well. So, I would say it brings both capabilities as well as generic scale to us.

Yeah. Broadly, Ricky, good morning it's George. Our generic program is doing very well, and I think we can safely say we're outgrowing the market. There are a lot of components to that. I think we've gotten a broader base of customers who see us as a primary source for generics. And I think we're doing well with them getting better share of wallet, meaning I think we're creating value for a very broad percentage of their overall mix. We've had a little bit of customer growth. The overall picture has been very encouraging and as Mike said, I think Harvard will just add to that. One other thing to add on Harvard, we do really have some interesting synergies because we're very, very good at this today and so this sort of goes right into our sweet spot where we can leverage capabilities that we have in telephony and salesforce productivity in that – in our telemarketing group. So, we're really excited to sort of bolt that into the system. But it'll very much fold in. But we are calling out a specific accretion that we see from that acquisition.

Okay. And then my follow up will be on the Specialty side again. Seems like a pretty impressive step-up in revenue contribution right from $5 billion to $8 billion. So, can you maybe share some more detail on what you're doing, kind of like what's the revenue model, how are you working with manufacturers?

Sure. Ricky, let me start and with more general comments then but I'll let Mike give a little more detail. Specialty has been a really good growth story and much of that organically. Now Metro Medical, as Mike said, will contribute a lot to those increased revenue numbers as we go from $5 billion to $8 billion. But a lot of this has been organic. Most of the revenue growth has come from the provider side, just growing the number of customers that we supply across therapeutic areas. That's been the primary driver over these the last couple of years. I do think that we've increased the capabilities that we have to serve Pharma and Biotech and those tend to be less impactful on the top line but more impactful in terms of margin rates to different kinds of services and more consulting kind of revenues. So, I think it's been a good mix of components. But I would say a lot of the revenue has come from expanding our provider base. Mike, what else?

I'd absolutely agree with that. And I think that's really coming from our service offerings in that space. I think that the team over the last several years has done an excellent job of creating offers that we think are best-in-class for either the oncologist, rheumatologist, and nephrologists that we're serving and we have a lot of participation with them where they come here, often to Columbus, work with us to help us develop our products and services. I think we're doing an excellent job of listening to what they need and delivering the types of services that they need to get them comfortable to turn over their distribution to us.

Oh, yeah, thanks for taking questions. First, just had a quick clarification, I know you said that in the reconciliation of the non-GAAP, you backed out the litigation recovery. Is that the same when I look at the presentation for the Pharma segment that excludes also the gain there as well? And then my follow-up question really is more about China actually. When you talk about the China Medical, just curious what's in that part of your business? What do you do on the Medical side in China? Mostly, we've talked about the Pharma distribution there, just curious, and Specialty in China. Just understand in what's there and what percent of the mix in China that kind of represents? Thanks.

Yeah. Great. I'll start on the settlements and then turn it over to George for a little discussion on China. Yeah that $56 million of funds that we received in the antitrust settlement has been excluded throughout all the numbers that I talked about. They're not in our overall non-GAAP numbers, nor are they in any of the results of the Pharmaceutical segment. We see these as generally non-recurring, hard-to-predict type of items and we have carved these out for years. They have always been carved out of our numbers historically and it's just a consistent pattern that we've had over the past.

Great. Charles, I'm sorry, did that get what you needed from... Yes, absolutely. On China, just a couple of quick observations. We started in China acquiring a business that was roughly $1 billion and growing to nearly $3 billion at the end of FY 2015. It's really been growth along multiple dimensions. Certainly, our Pharmaceutical distribution is the biggest generator of revenue for us in China. We are doing – increasing med tech work and sometimes just as a 3PL player for medical device companies. I think increasingly people see us as a broad-based healthcare partner in China. And you've seen that in Specialty where we've set up some pharmacies to actually deliver Specialty products direct to patients. We now have 30 of those direct-to-patient pharmacies in China. So the growth has been along multiple dimensions. But again I'd say probably in terms of revenue, the primary revenue growth driver is still in the Pharma segment.

Good morning, guys. Hey, George, a high level question for you. In the past, you haven't been too enthusiastic about entering the distribution space in some parts of the world as others. But how does the ongoing consolidation among Pharma manufacturers impact your view and if it's not in M&A, how does manufacturer consolidation influence your thinking in any other meaningful way?

Good morning, Garen. Manufacturer consolidation is not really a new story. It's certainly accelerated a lot in the last couple of years both on the branded side and on the generic side. It probably has not changed our view about the opportunities that we have to grow our business both in the U.S. and globally. We look very carefully and I think we've got pretty good experience, line of sight, and discipline around how we see the opportunities of our markets. And our relationships with our Pharma and Biotech partners are very deep; like we're talking regularly about opportunities. So we'll continue to look at opportunities around the world, but we'll do it with a very disciplined eye to make sure that we really believe that there's value creation there, that we bring something to the table and that it's a necessary growth driver for us. China's been a great opportunity. We now have a platform with Cordis to grow certainly on the Medical side in a number of markets and we'll continue to look to see whether or not there are opportunities ex-U.S. that are attractive to us. But I do think when we look at service businesses in multiple markets, you need to do that with a very, very discipline eye; for example, Europe is not Europe, it's probably got four different kinds of markets inside that broad economy. And so we'll look very carefully at those and with I think a very experienced set of eyes.

Got it. So, it sounds like more of a status quo. And then secondly you could elaborate a little bit on the Red Oak milestone payment? The $10 million that you mentioned, (51:39) you had mentioned that based on the savings that there would be additional milestone payments. But is this something that is a quarterly payment and is it more of an automatic payment for this amount once the savings have been captured or is it as a percent of savings where this amount could fluctuate from quarter-to-quarter?

That's a great question. Let me give you some color and transparency on this arrangement with CVS Health. So, the way the deal is structured is at the beginning of FY 2016 there was a milestone where we would do a measurement. If we were able to exceed that milestone, then a $10 million per quarter payment would kick in to CVS. It's a very binary event. It's either pass the milestone, pay $10 million or you don't and you pay $0. So, there's no proration or anything about it. It's just either pay the $10 million or you don't. This milestone is tracked each quarter. It's run every quarter and so it could, theoretically, we could pay one quarter and not pay the next. But our anticipation is that we will pay the $10 million per quarter each quarter this year. So our payments, to be very clear, are $35.6 million per quarter for FY 2016. For FY 2017, then there's another calculation at the beginning of FY 2017. It is also another binary event. If we pass that additional milestone, we would pay another $10 million per quarter. And so, now, it's too early to talk about that milestone, we'll wait until the beginning of 2017. We'll measure it at that time but if it's surpassed, again, it's a binary event; it would either be $0 or $10 million per quarter, additional for 2017. So, our payment could go as high as $45.6 million per quarter starting in FY 2017 and then that would be the maximum for the life of the deal. There's no other milestones. There's no other additional payments. And just also to emphasize, there's no adjustments for volume up or down, whether CVS wins or brings in more business or Cardinal wins or loses business; it is a fixed payment for the rest of the life of the deal.

And I'd probably just add to that. The good news is that both of us have been actually contributing nicely to the capacity and the volume going through Red Oak. So, it's been hopefully a rewarding deal for both of us and, of course, for our customers.

Got it. And a quick follow-up on that milestone though. Does that milestone – does it become a more difficult milestone per year or does it become an easier bogey to hit just because maybe the low-hanging fruit was captured first so the milestone just becomes easier for – just easier overall?

Yeah. I mean just think about it this way. It's just, again, a level of savings and we build it such that you would want us to pay the additional $10 million milestone next year. And we're, again, very confident in the execution of Red Oak and we'll get back to you in 2017 as we do the calculation and when we set guidance for 2017 and discuss it. We'll let you know whether that milestone was achieved.

Hi. Thanks very much. I just had a couple of follow-up questions, Mike, on the guidance as we think about the two different components. First, on the distribution side of the business can you maybe just talk about what your assumptions are around the underlying organic growth? And then secondly, I didn't hear you discuss at all margins and how to think about margins in that business as we move towards 2016.

So are you talking specifically about the Pharma segment, the Medical segment?

Yes. Let's start with the – like, I just want to understand the organic components around each so what are your assumptions for each of them for the underlying organic and then more specifically to the Pharma, do you have anything built into your anticipation based on some of the announcements that CVS has made around acquisitions that they're contemplating in your guidance for 2016?

Yeah. I guess first of all, we would not comment on any acquisitions related to CVS other than what comments they've made which is that they fully expect the acquisitions that they do, the generics there, to be sourced through Red Oak in the future. But other than that, I can't speak to that component of it. As far as revenue assumptions for the segments, on the Pharma side, we did talk about really – first of all, we expect branded inflation which is a key driver of revenue in the Pharma segment to continue to be similar to what we saw in FY 2015. We expect to see double-digit growth from China and Specialty in the Pharmaceutical segments and we expect to see growth from our existing customers as well as we'll have full-year onboarding of some of the new customers that we won last year. So those will be the big drivers on the revenue side and we don't guide to margin or margin necessarily rates on the Pharma side but that from a revenue perspective, those will be the key drivers for Pharma. On Medical, we're also, as we mentioned, we're going to see mid- to high-single digit percentage revenue growth versus the prior year and that's going to be driven by growth created from the Cordis acquisition as well as growth in our branded products through some of the internal efforts that we've had to grow those lines, launch new products as well as some of the efforts we've had around acquisitions.

Hi. Thanks very much. I had a follow-up question on the Medical business. If you look at your branded products portfolio as it exists now, what sort of organic growth are you getting?

So again, this varies period to period. We continue to grow this and I'm not sure that we've given specific rates. I will share with you that we're outgrowing the market and I would expect that over these coming years, those numbers are going to continue to increase.

Yes, congratulations on showing growth in the Medical division's operating income on a year-over-year basis. Can you maybe just talk about Cordis like maybe the types of products that Cordis sells and how you expect to continue to grow Medical's operating income really sort of in 2H 2016 and then into 2017? And what's sort of most exciting about that asset as it rolls onto your books? Thanks.

Well, listen, the exciting part about this is really thinking about the evolution of the system. We've seen and as I highlighted in my comments some really shifting sand in a way procedures are done the way they're compensated, the way the reimbursement systems work. We believe that in a couple of areas, cardiovascular being one, orthopedics being one, wound management being one, that there's real efficiency that can be brought to the system. And that's not just about the products, although obviously the acquisition of Cordis really enhances the strength of our product line. But it's also around the service components that are combined with this. And so, if I'm a provider, and I'm now being compensated at a set price for a given procedure and I'm going to be penalized, for example, for someone returning to the hospital with a complication, I'm going to be very conscious of the most efficient way to do that. How do I bring value, how do I make sure that the entire procedure is done in the most efficient way, in the best way with the best outcome with the least likelihood of a return visit. So, I think Cordis represents a really unique opportunity. It has represented a real opportunity to take a major step forward in this. I'll just add a couple of pieces. The integration work, thus far is going really well and they're recognizing that we're two separate companies still. And there are certain guard rails that are required. We've got very strong dedicated integration teams. They've been fully deployed and the preparation work that we're doing is great. I would also highlight a really critical factor, which is at this point, we feel that we basically have the entire management team filled on a global basis. And this is a group with extremely deep immersion in med tech around specific procedures and real great knowledge of their local markets. So, I think strategically it's a very good fit particularly given some of the trends.

Operator, next question?