|[February 06, 2014]
Fitch Downgrades McKesson's L-T Rating to 'BBB+'; Outlook Negative
CHICAGO --(Business Wire)--
Fitch Ratings has downgraded the long-term ratings of McKesson Corp.
(NYSE: MCK), including the long-term Issuer Default Rating (IDR), to
'BBB+' from 'A-'. The Rating Outlook is Negative.
A full list of rating actions follows at the end of this release.
The rating actions follow the close of MCK's agreements with Franz
Haniel & Cie GmbH (Haniel) and Elliott Fund Management (Elliott) to
acquire the firms' respective stock and convertible bond holdings of
Celesio AG (Celesio). These transactions are valued at approximately
EUR3.7 billion (US$5.1 billion).
KEY RATING DRIVERS
-- MCK's acquisition of Celesio is strategically sound, though moderate
event risk remains as to the subsequent steps in the acquisition
process. Increased scale from the deal will allow MCK to drive cost
savings, particularly related to generic drug sourcing, and future
-- Fitch expects MCK's post-deal capital structure to include a
materially increased amount of long-term debt. Pro forma debt-to-EBITDA
could exceed 2.5x, but MCK's strong cash generating ability should allow
for de-leveraging to around 2x by fiscal year-end 2016. Liquidity is
expected to remain strong.
-- U.S. drug distributors maintain exceptionally stable operating
profiles and consistent and strong cash generation, owing to steady
pharmaceutical demand and generally oligopolistic markets. Margins and
cash flows continue to benefit from the mostly durable effects of the
unprecedented generic wave, which is set to ramp up again in calendar
-- Fitch sees the European drug channel as somewhat less stable and
efficient, and generally higher risk, than the U.S. market due to
increased competitive/regulatory pressures. MCK's acquisition of Celesio
adds incremental but manageable business risk related to operating a new
business line (retail pharmacy) and engaging new geographies (Europe,
-- MCK holds top U.S. market positions in specialty drug distribution,
medical-surgical distribution, and healthcare IT, as well as drug
distribution in Canada. These businesses will support intermediate-term
growth and profitability and, in addition to measured expansion in other
non-U.S. markets, are likely to represent areas in which MCK will pursue
future growth opportunities.
Maintenance of a 'BBB+' IDR will require MCK to direct sufficient cash
flows toward debt repayment such that debt-to-EBITDA of 2x or below is
achieved over the next 24-30 months. Long-term funding plans have not
been made available, but Fitch expects MCK's significant cash generating
ability, enhanced by the addition of Celesio in the intermediate term,
to be sufficient to achieve this target. Fitch forecasts cumulative free
cash flow (FCF; cash from operations minus capital expenditures minus
dividends) to exceed $4.5 billion in fiscal 2015-2016 for the combined
Ratings flexibility will be limited during the de-leveraging timeframe.
Significant M&A activity or the resumption of large-scale share
repurchases in the next 2-3 years could contribute to downward ratings
pressure, to the extent that such actions restrict MCK's ability to
repay debt maturities as they come due. The addition of more long-term
debt than currently expected could also pressure the 'BBB+' ratings.
A positive rating action is not anticipated in the near-to-intermediate
The Negative Outlook represents the large amount of de-leveraging
necessary to support the 'BBB+' ratings, plus uncertainty related to the
longer-term post-deal capital structure. Furthermore, some event risk
remains surrounding future acquisition-related transactions and
processes. Significant setbacks in any of these areas requiring the use
of material amounts cash or external financing could contribute to
negative ratings pressure.
CELESIO DEAL IS STRATEGICALLY SOUND; LIMITED NEAR-TERM FINANCIAL BENEFITS
Fitch views the acquisition of Celesio by MCK as strategically sound, as
it offers the potential for better buy-side drug pricing and additional
growth opportunities outside the largely penetrated U.S. market. The
realization of these benefits, however, is likely to take several years.
Fitch sees relatively few financial synergies in the near term.
The combination of MCK and Celesio is differentiated from the
scale-plays engaged by other drug channel participants. Both of MCK's
competitors, AmerisourceBergen Corp. (ABC) and Cardinal Health, Inc.
(Cardinal), have entered into drug purchasing joint ventures with other
drug channel participants - ABC with Walgreen Co. and Alliance Boots
GmbH, and Cardinal with CVS Caremark Corp. Thus, these firms must share
the benefits of increased scale, namely buy-side cost savings on the
purchase of generic drugs. Conversely, MCK will retain all the benefit
of expected cost savings, but will also bear fully the risks associated
therewith. The overall relative benefits of these differing
globalization/scale-enhancing schemes cannot yet be ascertained and will
take some time to be fully realized.
STABLE OPERATIONS IN THE U.S. AND EUROPE
MCK and its peers in the drg distribution industry continue to exhibit
exceptionally stable operations and financial performance. Despite still
weak macroeconomic conditions and moderately decreased utilization of
healthcare in the U.S., core business growth at MCK has remained largely
in-step with or ahead of broader market growth. Organic long-range
growth in the low-single digits is driven by consistent demand for
pharmaceuticals and is realized relatively uniformly, given the largely
Fitch expects the U.S. drug distribution industry to maintain good
operating stability. The industry's very slim margins make it an
unlikely target for extra taxes and fees (like those recently imposed on
the pharma and medical device sectors in the U.S.). Distributors excel
in adding value to the drug channel through the supply chain management
and other services they offer to both upstream and downstream customers.
The Celesio transaction will provide MCK with significant new exposure
to the European drug distribution and pharmacy markets. Fitch sees the
European drug channel as relatively less stable and efficient than that
found in the U.S. Furthermore, Fitch believes risks related to drug
pricing and reimbursement are greater for drug channel participants in
Europe than in the U.S., especially given that regulatory and
reimbursement constructs generally vary from country to country. The
opportunity for increasing generic penetration in most markets could
provide upside, however, over the ratings horizon.
A FEW MORE YEARS OF THE UNPRECEDENTED GENERIC WAVE (News - Alert)
MCK and its peers - both in the U.S. and in Europe - continue to benefit
from the unprecedented wave of branded drug patent expirations in
calendar 2012-2014. Most drug channel participants, including
distributors, earn higher margins - though less revenues - on the sale
of lower-cost generic drugs. Fitch believes much of the margin expansion
MCK and its peers have achieved in recent years is durable.
Further margin growth is expected to benefit from the introduction of
biosimilars to the U.S. drug channel, as well as from new branded
biologic drugs, as the pace of traditional branded-to-generic
conversions slows post-2015. Fitch believes biosimilars could represent
an even more compelling margin expansion opportunity for drug
distributors than traditional generics in the intermediate-to-longer
SOLID PRESENCE IN SPECIALTY, MED-SURG, AND HIT
Traditional drug distribution in the U.S. is a consolidated industry
characterized by steady growth in the low-single digits. Traditional
drug distribution accounts for roughly 80% of MCK's overall revenues.
The remaining 20% comes from the company's leading market positions in
the distribution of specialty pharmaceuticals and of med-surg supplies,
and in healthcare information technology (HIT). MCK is one of only a
handful of companies with a significant share of these relatively
As a result, Fitch believes MCK is uniquely positioned to benefit from
growth opportunities related to its ancillary businesses as those
markets grow and consolidate over time. To that end, Fitch expects MCK
to continue consummating small, tuck-in acquisitions in especially the
med-surg and HIT spaces.
ROBUST CASH FLOWS AND SOLID LIQUIDITY
MCK's stable margins, efficient operations, and good asset management
contribute to stable and strong cash generation measures. Funds from
operations (FFO) and FCF for the latest 12 months (LTM) period ended
Dec. 31, 2013 were $3.1 billion and $2 billion, respectively. The firm's
solid liquidity position also includes a $1.3 billion unsecured revolver
due September 2016 and a $1.35 billion accounts receivable facility due
November 2014. Cash on hand as of Dec. 31, 2013 was $2.4 billion ($1.5
billion held outside the U.S.).
Debt maturities are estimated as follows: $350 million for the remainder
of fiscal 2014; $1.1 billion in 2016; $980 million in 2017 (including
EUR 350 million of Celesio bonds); $1.2 billion in 2018 (including EUR
500 million of Celesio bonds), and $2.4 billion thereafter.
Fitch has downgraded the following ratings of MCK:
-- Long-term IDR to 'BBB+' from 'A-';
-- Unsecured bank facility to 'BBB+' from 'A-';
-- Unsecured senior notes to 'BBB+' from 'A-'.
Fitch has affirmed the following ratings of MCK:
-- Short-term IDR at 'F2';
-- Commercial paper at 'F2'.
The Rating Outlook is Negative.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology: Including Short-Term Ratings and Parent
and Subsidiary Linkage' (Aug. 5, 2013);
--'U.S. Healthcare Stats Quarterly - Third-Quarter 2013' (Jan 2, 2014);
--'2014 Outlook: U.S. Healthcare - Secular Challenges Require a
Compelling Value Proposition' (Nov. 25, 2013);
--'Trekking the Path to Biosimilars - The Destination' (Oct. 4, 2013);
--'Vital Signs - Currents in the Drug Channel' (Podcast) (April 25,
--'Navigating the Drug Channel - Drug Distributors: A Deeper Dive'
(April 24, 2013).
Applicable Criteria and Related Research:
U.S. Healthcare Stats Quarterly - Third-Quarter 2013
Navigating the Drug Channel -- Drug Distributors: A Deeper Dive
Vital Signs -- Currents in the Drug Channel
Trekking the Path to Biosimilars -- The Destination
2014 Outlook: U.S. Healthcare - Secular Challenges Require a Compelling
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