AmerisourceBergen Corporation
Q1 2018 Earnings Call Transcript

Published: 7 Feb 2018

[Operator:]

Ladies and gentlemen, thank you for standing by, welcome to the AmerisourceBergen First Quarter Fiscal 2018 Financial Results Conference Call. At this time, all phone lines are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given to you at that time. As a reminder, today's conference call is being recorded. I'll now turn the conference over to your opening speaker for today, Keri Mattox, Vice President, Corporate and Investor Relations. Please go ahead.

[Keri P. Mattox:]

Thank you. Good morning, and thank you all for joining us for this conference call to discuss the AmerisourceBergen fiscal 2018 first quarter financial results. I'm Keri Mattox, Vice President, Corporate and Investor Relations for AmerisourceBergen; and joining me today are Steve Collis, Chairman, President and CEO; and Tim Guttman, Executive Vice President and CFO. On today's call, we also will 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. During this conference call, we will also make forward-looking statements about our business and financial expectations on an adjusted non-GAAP basis, including but not limited to, EPS, operating margin and income taxes. Forward-looking statements are based on management's current expectations and are subject to uncertainty and change. AmerisourceBergen assumes no obligations to update any forward-looking statements or information, and this call cannot be rebroadcast without the express permission of the company. We remind you that there are uncertainties and risks that could cause our future actual results to differ materially from our current expectations. For a discussion of key risk factors and other cautionary statements and assumptions, we refer you to our SEC filings, including our most recent Form 10-K and to today's press release. I would also like to remind you that we have posted a slide presentation to accompany this morning's press release. You can find it at our website investor.amerisourcebergen.com. You'll have an opportunity to ask questions after today's remarks by management. We do ask that you limit your questions to one per participant in order for us to get to as many participants and inquiries as we can within the hour. With that, I'll turn the call over to Steve. Steve?

[Steven H. Collis:]

Thank you, Keri, and good morning, everyone. Today, I am pleased to discuss our first quarter results as well as AmerisourceBergen's continued execution, the stability we're seeing in the marketplace and our company's strong positioning for long-term growth and shareholder value creation. Revenues were up 6% to $40.5 billion for the quarter, and our adjusted diluted EPS was $1.55 for the first quarter, an increase of 14% compared to the previous fiscal year period. Importantly, our core Pharmaceutical Distribution businesses are executing extremely well, growing volumes with key customers and segments, and continue to effectively manage operating expenses. We're very pleased with the strong start for the fiscal year. We are proud of this continued solid execution, and I want to take a moment to again thank our amazing team of 21,000 associates, including those that have recently joined us through the acquisition of H. D. Smith for their dedication and performance. As I have said before, it is our associates around the globe, who help shape our culture, power our corporate transformation and drive our growth. So again, thank you. With one quarter completed in fiscal year 2018, we believe that our consistent ability to execute and achieve more will continue to drive growth and create value in the healthcare market and for our shareholders. My comments today will be focused on three topics

[Tim G. Guttman:]

Thanks, Steve, and good morning, everyone. Consistent with past quarters, my remarks will focus only on our non-GAAP adjusted financial results. And growth rates and comparisons are made against the prior year December quarter unless otherwise noted. For a discussion of our GAAP results, including one-time adjustments related to tax reform, I'd ask that you please refer to our earnings release. As Steve mentioned, we had a solid quarter and our focus continues to be on executing across our businesses. Overall, we finished better than we expected, driven by execution in several of our priority areas, despite a couple of headwinds. Our commitment as we move forward is to always deliver outstanding service, solutions and value to our customers. This morning, I'll provide commentary in two main areas. First, I will highlight our quarterly consolidated and segment performance. And the second area, I will cover our revised fiscal 2018 expectations, including impacts from tax reform and PharMEDium. Let's begin with our Q1 2018 results. We finished the quarter with adjusted diluted EPS at $1.55, an increase of 14%. This included $0.15 from the benefit of the new U.S. tax legislation. I will provide more color on the impact from tax reform shortly. Our consolidated revenues were $40.5 billion, up a solid 6%. Operating income – our adjusted operating income was $488 million, up $2 million with our operating margin down 6 basis points. As expected, and as we have previously communicated, we had a much higher growth rate in our operating expenses due to costs associated with new distribution centers, duplicate IT costs resulting from the implementation of new systems and variable costs supporting our higher revenues. Given the timing of the onboarding of the Walgreens new store business, we expect disproportionate relationships between gross profit contribution and operating expense to continue at least for the next quarter. Moving below the operating income line. Income taxes. Our adjusted income tax rate was 24.2% and reflects primarily the positive impact from tax reform and the new lower U.S. corporate income tax rate. Our annualized effective tax rate is based on a blended calculation using the previous corporate federal tax rate for one quarter and the new 21% tax rate for three quarters applied against our U.S. pre-tax income. For fiscal year 2018, the impact of tax reform will contribute about $0.60 to our adjusted EPS. During the December quarter, we also had a slightly lower tax rate than expected due to ongoing tax initiatives. Our adjusted net income increased about 13% to $342 million, as a result of our lower tax expense. Our diluted share count decreased slightly to 221 million shares. In the December quarter, we repurchased a modest amount of shares; given our announced H. D. Smith acquisition and our subsequent bond offering. We exited the quarter with $766 million remaining on our current board share repurchase authorization. Moving over to cash flow and our cash balance. In the December quarter, we are off to a good start, given that we had a very slight negative free cash flow of about $60 million, which is better than we expected. This year, we had the benefit from sales mix and also continued efforts in managing our working capital, including our inventory levels and churns. Last year, we were still making a working capital investment with our largest customer. We ended the quarter with roughly $3 billion in cash, which includes the proceeds from our November debt issuance. However, it's worth noting that in January, we used cash to fund and close our acquisition of H. D. Smith. Of our total cash balance at December quarter-end, we had about $1.1 billion offshore and a majority of this amount was U.S. denominated cash. This finishes the review of our consolidated results. Next let me switch and cover our segment results. And we can begin with Pharmaceutical Distribution Services. Total segment revenues were $38.9 billion, up nearly 6%. The segment continues to benefit from the growth of our largest customer, Walgreens, which includes incremental specialty drug sales to AllianceRx. We started servicing AllianceRx in the third quarter of fiscal 2017, so we haven't yet anniversaried this new business. During the quarter, we also had very good revenue growth across our existing customers in the independent retail segment. Our inside sales team is increasingly serving as a resource for our independent customers, focusing on their products and service needs, while helping to ensure customers are optimizing their contracts by reaching and exceeding their generics compliance rates. This creates a win-win for our customers and our business. Let me highlight year-over-year, we are extremely pleased with the overall decrease in our generic leakage percentage, down roughly 400 basis points. Moving over to specialty distribution, defined as our oncology and physician-administered specialty drugs and consistent with our previous reporting of legacy ABSG, we saw revenues increased 12%. Volume trends continue to be very good, especially in oncology, led by new innovative drugs, and also ophthalmology and MS. Wrapping up this segment, we did have revenue headwind of about 100 basis points, from lower Hepatitis C revenues again this quarter. Segment operating income increased about 2% to $388 million. This segment benefited from solid revenue growth, notably from specialty products. Additionally, we realized the benefits from driving higher-than-expected PRxO Generic revenues. We were pleased with the contribution from PRxO and our overall margins during the quarter. The segment's first quarter results and year-over-year comparisons were negatively impacted by PharMEDium, where we had lower-than-expected revenues and profit contribution. PharMEDium's 503B outsourcing facilities were inspected by the FDA, beginning in late calendar 2017 and carrying into early 2018. As a result of these inspections, we voluntarily suspended operations at our Memphis facility. Memphis is our largest 503B production facility and our most highly automated one. We are engaging an ongoing dialog with the FDA to implement any corrective actions that should be taken and to confirm a clear pathway to full compliance for this facility. We were previously optimistic that Memphis operations would restart in early January. However, the facility remains closed, and we currently anticipate that operations will resume this quarter. We fully expect to ramp production through the second half of the fiscal year and exit the year at full production. It's important to note that all of the other PharMEDium inspections are now complete, and our other three 503B facilities have remained operational throughout this process. Because of the time and certain ongoing incremental expenses required to perform remedial measures, PharMEDium's contribution to adjusted EBIT and EPS in fiscal 2018 will be lower than anticipated. As Steve mentioned, we are committed to continuing to build PharMEDium's position as the industry's market and quality leader. PharMEDium's business fundamentals remain strong and unchanged. There is certainly high demand for outsourced compounded sterile preparations. Additionally, we believe that FDA's new 2018 guidance will provide further clarity and increase oversight around its 503B standards. We believe this will be another positive for our business and create new opportunities. Overall, we remain confident that we'll cycle through this remediation period, and ultimately, we will increase PharMEDium's competitive advantage while delivering the highest quality compounded sterile preparations available today. We can now move to the Other segment, businesses that focus on Global Commercialization Services and Animal Health and include World Courier, AmerisourceBergen Consulting and MWI. In the quarter, total revenues were $1.5 billion, up 12%. All three businesses contributed to the revenue growth. World Courier had an excellent quarter, with records in both shipment and billable weight. MWI had revenue growth as a percentage in the low-teens, driven mostly by Alliance shipped that increased in the high-teens. On a comparable basis, we had a 10% growth rate in companion animal revenues. MWI is benefiting from a growing U.S. market, but they also continue to gain incremental share. From an operating income standpoint, this group had operating income of $100 million, down about 6%, or $7 million. As I just highlighted, World Courier had strong operating income growth, as a result of the businesses increased in revenues and mix of business. However, the segment did have lower contributions from both MWI and Consulting. MWI had a tough comparable to last year, when they earned certain manufacturer rebates based on established revenue targets. These rebates do not repeat in the December 2017 quarter. Additionally, MWI had higher operating costs, primarily associated with a higher number of shipments and revenues. That said, MWI's operating income growth rate is expected to improve going forward, and we are confident they will meet their full-year contribution target. Finally, our Consulting business was down year-over-year, due primarily to the implementation of Fusion and the cadence for Lash's new business development pipeline. During the quarter, we made progress converting and supporting manufacturer clients on this new technology platform. However, the conversion process is slower than we previously anticipated, which slows down Lash's ability to onboard new business. We are excited by the feedback we are receiving on Fusion so far. And despite, the slower-than-anticipated ramp, we remain confident that this new platform will be best-in-class, a unique asset and a long-term value driver. Now let's turn to our revised full-year fiscal 2018 expectations. Consolidated revenues, we continue to expect growth between 8% and 11%. This growth rate includes the onboarding of the Walgreens' Rite Aid stores, which will accelerate into our third fiscal quarter. The growth rate also includes nine months of revenue contribution from the new H. D. Smith business. Consolidated operating expenses. We are now able to formally adjust for the addition of the H. D. Smith business. As a result, we expect our OpEx growth rate will be between 6% and 8%. Let me emphasize, backing out the incremental OpEx impact from H. D. Smith, we will be right in line with our previous OpEx guidance. Consolidated adjusted operating income. We now expect to grow between 1% and 4%. Importantly, without the impact of PharMEDium, our operating income guidance range would have remained unchanged. Let me cover the revised guidance from a segment standpoint. We expect the following

[Keri P. Mattox:]

Thanks, Tim. Operator, we're now ready to move into the Q&A portion of the call.

[Operator:]

Our first question will come from the line of Glen Santangelo of Deutsche Bank. Please go ahead.

[Glen Santangelo:]

Yeah. Thanks and good morning. Tim, I just want to follow-up with some comments you made with respect to the guidance. I think you said that the operating profit growth goal was 4% to 7%, and that was sort of post the H. D. Smith acquisition. Now it's 1% to 4%. So, you decreased the guidance by about 3% off the midpoint, and just looking at your operating profit, totals for the year, it looks like to be about a $60 million hit to your guidance. And I think you said that absent PharMEDium, you would not have changed that guidance. So, are we correct in assuming that PharMEDium is about a $60 million drag on your operating profit numbers this year?

[Tim G. Guttman:]

Yeah. Hi Glen. Good morning. Yeah. I would say that you're thinking about it correctly. I mean, we were transparent, we gave our new revised guidance. PharMEDium is – when we purchased PharMEDium high-margin, high-growth, very profitable. So, I would say, as you think about the change in guidance and that midpoint, think about the core business performing really well, probably better than we expected, all the trends that we called out. So positive from the core business, offset almost all by PharMEDium and a little bit of Lash. So that's – yeah, directionally you're thinking about it right. Please don't forget about the core performing very well.

[Glen Santangelo:]

Yeah. That was going to be my follow-up question. Steve, you sort of went into it and you talked a little bit about some of the issues in MWI and Lash, maybe being a little bit weaker than expected within this fiscal year. And it kind of sounds like the weakness might be offset within the range of the guidance, or as Tim just sort of pointed out, maybe the core Pharmaceutical Distribution business maybe doing a little bit better than expected. So, could you just sort of weigh-in on that a little bit?

[Steven H. Collis:]

Yeah. I think on the core business, we carry on hitting on very well on specialty with another record revenue quarters and market leadership there, and new products coming out. I think we've done very well with launches and participate in our Commercialization Services. As you noted, we did have a tough quarter in MWI but that was more from a comp perspective and not out of the historical norm. And Mark Shaw and Jim Frary and the team, they are working hard to make their numbers for the year and we've got every confidence they will. And I just would say that we had good trends in utilization. Our portfolio of customers is excellent, as you know, all growing very well. And we're benefiting a bit from mix, so although we still see higher than anticipated generic deflation rates. There are lot of other offsetting trends, including specialty, better compliance and some of the rebalancing that we've done, which is a long-term process, but definitely we're seeing that it has benefited us. That discipline that we've observed about two or three years ago is really benefiting as that top line changes even quicker than we expected it would because of deflation in generics. And then brand inflation trends were pretty much as expected, maybe slightly higher than expected. So overall, we liked the quarter a lot. We just got control of all issues around our own performance with two businesses that we're working very hard on.

[Glen Santangelo:]

Okay. Thanks for the details.

[Keri P. Mattox:]

Yeah. Thanks so much. Operator, can we have the next question, please?

[Operator:]

Our next question will come from the line of Robert Jones of Goldman Sachs. Please go ahead.

[Robert Patrick Jones:]

Great. Thanks for the questions. Just wanted to go back to PharMEDium. I believe there are four PharMEDium facility locations and I know you said that the others were up and running; but is there any FDA concerns or focus around this particular issue at the other facilities? And then just trying to put some numbers around the PharMEDium issue. Tim, could you give us just a sense of what percent of total PharMEDium production comes from Memphis? I know you said it was the highest and most automated facility, but just trying to get a little bit more specific of a gauge of how big that is relative to total PharMEDium?

[Tim G. Guttman:]

Yeah. Hey, Bob, Good morning. Yeah, let me emphasis that there are four facilities. Three, the other three, have their inspections completed, all are operational; and again that's a positive. Memphis is our largest facility. They're roughly, ballpark, maybe half of our production capacity. They're highly automated. They're some robotics and some automation equipment there. So, they're not only large, but they're very efficient. We're confident, we're mobilized, we're on Memphis. We anticipate it's going to be open this quarter. There will be a glide path to get production back up. And as Steve mentioned, it's manageable, controllable, there's tremendous demand from customers. The positive is a lot of the production that we – if we put a customer on quota it shifted back to the hospital, we feel confident that we can regain and get that share back in a reasonable amount of time. So, again, a little bit slower than we anticipated this year, but a positive that we exit the year and get into next year.

[Robert Patrick Jones:]

No, that's helpful. And then just a quick follow-up on tax. I just want to make sure I understand the impact from tax reform on the quarter and the full-year. So, I think you're excluding a benefit from reduced tax liabilities in the quarter. That sounds like it was a result of tax reform, but yet the tax rate on an adjusted basis for 1Q was obviously quite a bit lower than what was expected at around 24%. So, I guess, what drove the lower rate? And then for the guidance, that $0.60 that you're talking about being a benefit for the full-year, does that include any portion of the lower rate that we saw in 1Q or is that all incremental starting January 1?

[Tim G. Guttman:]

Yeah, Bob, let me – let me – the $0.60 is all tax reform. I mean, that's our estimate of the change in the statutory rate for three quarters over our annualized U.S. income, again, but we also had a benefit in our tax rate just from different initiatives and, again, with our share price up a little bit higher previously, we saw some stock comps. So clearly the $0.60 is all tax reform, but we continue to work hard to be very thoughtful and plan for our tax rate. Hopefully that answers your question.

[Keri P. Mattox:]

Yeah. Thanks, Bob.

[Robert Patrick Jones:]

Thank you.

[Keri P. Mattox:]

Operator, can we move to the next question, please?

[Operator:]

Our next question will come from the line of Charles Rhyee of Cowen. Please go ahead.

[Charles Rhyee:]

Yeah. Hey. Thanks for taking the question. I'm sorry to keep jumping back to PharMEDium here, but as we expect the ramp and the facility to get back online, and you expect that to ramp up. Is there any reason not to think that we would recover the EBIT contribution from the Memphis facility? Or is there anything in sort of remediation that would change sort of what the output of that facility would be?

[Steven H. Collis:]

Essentially, it should get back. It's timing. We have to ramp production up, build up inventory, get the inventories released, get customers back in the ordering cycling. So, if we are correct that we get back – that we get the facilities inspected and released this quarter, then we should see some impact the next quarter. Hopefully, we aimed fiscal year 2018 as the full run rate that we would expect, at least from revenue. Some slightly more operating expenses, but nothing serious; maybe 1% or 2% for a higher-margin business than – almost than any other business we have, so.

[Charles Rhyee:]

Okay. And then just a follow-up on the OpEx side, obviously, that ticked up again. Can you remind me – I'm sorry, I might have missed exactly what that was attributed to. And – should we think of this as – is this sort of a near-term phenomenon? And then should we expect that also to maybe normalize again later on? Thanks.

[Tim G. Guttman:]

Yeah. OpEx, we did change our guidance on OpEx. It increased and again, that's because of closing H. D. Smith and having that business for nine months. But again, in the prepared comments, we were very specific; ex H. D. Smith, excluding that, we would have been right in line with our OpEx that we gave originally. And then I think the OpEx – the important thing really on OpEx is we're going to create some value in 2019. The OpEx is high; there's a little bit of a mismatch as we take on all the business for the full-year. As we eliminate some of the duplication in the system, down the road, there's going to be value created on OpEx and better leverage. So again, getting into 2019, OpEx will certainly be a tailwind as that comes in line with where we expect it to be.

[Charles Rhyee:]

Yeah. But the – the H. D. Smith was included in the original OpEx guidance, too, wasn't it, so?

[Tim G. Guttman:]

No, it was not. When we gave original guidance at the end of the year, at the end of Q4, that was not contemplated and we never adjusted it when we announced H. D. Smith.

[Charles Rhyee:]

Okay. That's great to clarify. Thank you.

[Tim G. Guttman:]

Yeah. Thank you.

[Keri P. Mattox:]

Thanks, Charles.

[Operator:]

Our next question will come from the line of Kevin Caliendo of Needham. Please go ahead.

[Keri P. Mattox:]

Kevin, are you there? You may be on mute.

[Kevin Caliendo:]

I apologize. I was on mute. I apologize. Thanks for taking my call. Can you talk to what PharMEDium did from an EBIT perspective in fiscal 2017? Just so we have some scope of sort of how big this business is for you?

[Tim G. Guttman:]

Yeah. Hey, Kevin, it's Tim. Yeah, I don't think we want to size PharMEDium. I mean they're a terrific business, high margin. Like we said, demand is very strong. They're off to a good start this year. Our October-November, we were off to a really good start, so I don't think we want to call it out. And again, I mean without the impact from PharMEDium this year, we would've been right in line with op income, where we thought we would be. But again, I think PharMEDium we talked about it and we did the acquisition. We pay that healthy multiple because of the growth and what – and being a market leader and best-in-class, but I think that's as far as we want to go.

[Kevin Caliendo:]

No, that's fine. I appreciate that. Can we just talk a little bit about the Rite Aid onboarding? Obviously, it's in your guidance, but can you just talk a little bit about – I'm assuming that the Rite Aid stores will have a little bit lower margin than your corporate average. I'm guessing it will be the same as what you get from Walgreens. Is that a fair way to think about it?

[Steven H. Collis:]

Yeah. I mean we have, as we said, about 600 pharmacies that we really have onboard and we expect to be complete by the late spring. So quarter four will be the first quarter that we have the full run rate benefit. And sure, it's part of – (42

[Kevin Caliendo:]

Okay. Yeah. No, I just wanted to make sure we were thinking about the right way.

[Keri P. Mattox:]

Yeah. Thanks, Kevin.

[Kevin Caliendo:]

And just late – oh, I'm sorry.

[Keri P. Mattox:]

No, that's okay.

[Kevin Caliendo:]

Just really quick on H. D. Smith. Very good reputation business. Can you talk a little bit about how it would be integrated into Good Neighbor Pharmacy product? And if there's anything strategically you do with it, how you operate within the independents or the GPOs. Is there anything you can take from them? Or is it going to be fully integrated sort of into your business?

[Steven H. Collis:]

We just had our first sales integration review last week. Again, confirms that there's a really good cultural fit between the two businesses, they have competed surprisingly well against the Big 3 in an independent sectors. I would say we've seen some best practices in areas like long-term care, so – where we probably lagged a little bit maybe since we lost PharMerica. I think with PharMerica coming back into WBAD, we could really think about that sector and gain some reasonable market share there. We've retained – we're not going very fast, Jeff (sic) [Kevin]. I think that the team wants to be cautious. It's highly prized customer subset and certainly there are customers that were anxious to receive some of the benefits of elevating Good Neighbor Pharmacy and we try to transition those on an expedited basis. But we've kept all the sales force essentially, so far in our distribution centers have been cut down and we're looking at it very closely. We've just with the Rite Aid onboarding and that, we decided to just slow again. We have the room to do that. So – and we've had some key executives (44

[Kevin Caliendo:]

Great. Thanks so much, and thanks for all the disclosure.

[Keri P. Mattox:]

Thanks, Kevin.

[Operator:]

Our next question will come from the line of Erin Wright of Credit Suisse. Please go ahead. Erin Wilson Wright - Credit Suisse Securities (USA) LLC Hey. Thanks. In MWI, you need to lower rebates, is that a function of a, I guess, less favorable contract being negotiated contracts with a consolidated vendor base? Or is this a change in agency versus buy-sell relationships? And, I guess, how will that impact or inflate top line versus the margin trend for that business? Or are there any other changes or major changes in contracts in terms of that business going forward? Thanks.

[Steven H. Collis:]

Yeah. You could say with MWI, I think, I've got everything. There had been some shifting manufactured dynamics of the Boehringer Ingelheim acquisition of Sanofi, so that changed some things. I think you've had some manufacturers with some competitive overlaps, where there was some different pricing rebate issues. And we had a very – I wouldn't say we had a bad quarter loss in 2017. It was just really a very good fourth quarter in 2016, exceptionally good. Maybe more one-time items you could take them in the fourth quarter. So yes, it's something that we were a little bit behind expectations on. But quite a good plan and the business, the units that they're shipping are very good. The market share is good. We did a small little acquisition there, which was very important to the East Coast sales force and the East Coast customer base. So, I was at the sales meeting, and we're looking at what we could do better on expense control. And so, we're confident that MWI will hit their numbers and we've always given them a great target, so (46

[Keri P. Mattox:]

Great. Thanks, Erin. Erin Wilson Wright - Credit Suisse Securities (USA) LLC Okay. So...

[Keri P. Mattox:]

Operator, can we move to the next question? Sorry, I know we're closing in on only about ten minutes left in the call.

[Operator:]

George Hill, RBC.

[George Hill:]

Hey. Good morning, guys, and thanks for taking the question. I guess maybe switch gears a little bit and talk about Lash. You talked about the onboarding issues. I guess, is there any customer churn risk here? Can we talk about how many – or I guess can you guys talk about how many people have been on-boarded? And kind of how do we think about risk to the business as it relates to re-platforming?

[Steven H. Collis:]

Yeah, we did. Hi, George. Thanks for the question. We did have some customers that got a bit maybe frustrated about the delay or particularly price concerns, but not too many. We've on-boarded about three or four customers, I'd say. They're happy with the results. We just have renewed two new customers – well one new customer and renewed a big one. So, we've got solid leadership there, and it's a big project. If we had our (48

[Keri P. Mattox:]

Great. Thanks, Steve.

[George Hill:]

Okay.

[Keri P. Mattox:]

Operator, can we go to the next question, please?

[Operator:]

Certainly. Our next question will come from the line of Lisa Gill, JPMorgan.

[Lisa C. Gill:]

Thanks very much, and good morning. Just one clarification and then one question. On the clarification, when we think about PharMEDium and the Memphis facility and talking about it getting back up online, the way that I understand what you're saying is that the roughly $60 million impact is going to be for the rest of the year, even though things will start to come online, it wasn't specific to the quarter. Number one, do I understand that correctly? And then, secondly, I just want to understand, Steve or Tim, how you think about the impact of flu on your business as we think about how rampant it's been here in the first quarter.

[Tim G. Guttman:]

Yeah. Hi, Lisa. No. Thanks. I think it's an important question to clarify. Most of that, as you think about PharMEDium in terms of cadence for the year, I mean, we did have a couple penny impact in Q1 from lower production in December. Most of that change will be in the March quarter. I think, I mentioned there's a glide path, I mean, so most of the impact will be Q2. There will be a small impact again in Q3 as we kind of glide back to full production. And then, Q4 less of an impact and really no impact, because we're back to full production. So, as you think about the cadence, that's the right way of thinking about it.

[Keri P. Mattox:]

And then, flu.

[Lisa C. Gill:]

That's helpful.

[Tim G. Guttman:]

Flu. I mean, I think flu I saw some early numbers the other day, slight impact in December quarter, but, certainly, as we saw the numbers in January and really picked up in January in terms of revenues. And so far we haven't had any type of issues in terms of fulfillment or being short product; we're staying pretty current with what we're shipping out to our customers, but flu looks to be fairly strong from a revenue standpoint in January.

[Lisa C. Gill:]

Great. Thank you.

[Operator:]

Question from the line of Ross Muken of Evercore. Please go ahead.

[Elizabeth Anderson:]

Hi. This is Elizabeth Anderson in for Ross. I have a question about biosimilar contracting and you mentioned given that the biosimilar market there have been some products out for a little bit of time now. What changes are you seeing? And how are manufacturers reacting to your contracting them separately from other specialty products? Thanks.

[Steven H. Collis:]

Okay. Just repeat the last part of that question, contracting with...

[Elizabeth Anderson:]

Sure. Yeah. Just in terms of how you're contracting, the discussions are going with manufacturers, or separately from other specialty products?

[Tim G. Guttman:]

Yeah. We've talked about differentiated pricing. Certainly, as we think about biosimilars, that's a unique class of how we're contracting with a unique price and making sure we get appropriate compensation. So that's an area as we re-contract with customers, that has a specific price and margin and that's how we're going – that's how we're approaching the market. Again, Steve mentioned in his prepared comments, the rebalancing is really critical. It's going to help us offset lower contribution from generics and the headwind from generic deflation, but we want to make sure we get appropriate pricing on biosimilars, on specialty, on core brand, on generics. That's a big emphasis of the company and we're making good progress.

[Steven H. Collis:]

Yeah. And most of the margin has to come from buy-side, so services that we provide and the most robust portfolio of services we have is in oncology and specialty area. It's possible we could have some in U.S. bio, which is a business we're starting to highlight more, we've been very successful in oral oncology, but there's definitely going to be more and more products. I think it depends on how many products (52

[Keri P. Mattox:]

Great. Thanks. Operator, can we go to the next question, please?

[Operator:]

Certainly. Our next question will come from the line of Ricky Goldwasser of Morgan Stanley. Please go ahead. And the Goldwasser line is open.

[Ricky R. Goldwasser:]

Thank you. Hi, good morning. Just a couple of quick clarifications. So, Tim, just to clarify on fiscal year 2018 guidance, I thought that on November 20 you actually did up the EBIT guidance to include H. D. Smith. I think the 4% to 7% of Pharma EBIT growth included contributions. I guess, the question is, is what you're seeing in PharMEDium, has there been any – sorry, sorry, not PharMEDium – in H. D. Smith, has there been any changes to the fundamentals in the business? Or is it just that the integration might be taking a little bit slower?

[Tim G. Guttman:]

Yeah. Hi, Ricky. It's Tim. Yeah. We did update the guidance to include H. D. Smith. It was only the op income guidance but there have been no changes in H. D. Smith. We're still very pleased with H. D. Smith integrating. We've talked about this would be steady-state integrate, keep the customer experience, work on synergy 2019 and 2020, but so far as Steve mentioned, H. D. Smith is going really well, kept all the customers, no retention issues. The change in op income clearly on the new guidance and lowering it unfortunately is PharMEDium which is we believe manageable and contained and we're focused on it.

[Ricky R. Goldwasser:]

Okay. And then secondly, just as we think about the signposts to watch for PharMEDium and what's factored into guidance, so does the new guidance assume that the facility is going to reopen at the end of the quarter or when we think about the high to low end of the guidance range, is there also some assumption there that things might take longer to play out?

[Tim G. Guttman:]

I'll start and Steve can jump in. The new guidance we did our best estimate, we put a lot of time and thought into it and talk to our business, and again our estimate assumes that they're going to be open during the quarter. And again, we know this is important and we'll update the investor community if that changes but that's our best estimate today that based on, yes, what we know behind the remediation and progress that'll be open during the quarter. I would say certainly the guidance as you think about the guidance, there are a lot of positive trends in the business, to the core business. So, the volumes turn out to be better. Reps are better. Generic compliance were chugging along. We're a little bit better on OpEx. We'll move up on the high end of the range. Certainly, we're optimistic and hopeful that we always are better than the guidance and that's what we're working for.

[Keri P. Mattox:]

Okay. Operator, I think we have time for maybe one or two more questions.

[Operator:]

Our next question will be from the line of Mr. David Larsen of Leerink. Please go ahead.

[David M. Larsen:]

Hi. Can you just talk briefly about brand inflation and generic pricing? With the 7% to 9% generic deflation, what in your mind is a normal range for the buy-side? Is it like minus 3% or so? And then can you touch on the sell-side environment? Like, how is your spread trending between the buy and sell-side? Thanks.

[Steven H. Collis:]

Again, the generic deflation that was all higher than the norm. We didn't have inflation for very long but we did – we were having one or two years where it was net or even slight positive with inflation and that was very helpful to the mix of business. So we've seen now stubbornly persistent high single digits sort of deflation rate. I think there are signs that it's going to turn with product rationalization, at least announced from the bigger players, so we will see how that turns. But so far, we haven't seen anything that would change our guidance, and we're more at the higher range of the range. On brand, we were encouraged in light of increases in the high-single digits, and so what we expected, maybe a slightly stronger trend than we expected. But I think that we would never expect anything more than that. That's a rate that (58

[Keri P. Mattox:]

Yeah. I think we have time for one more, operator.

[Operator:]

We have a question from the line of Brian Tanquilut of Jefferies. Please go ahead.

[Brian Gil Tanquilut:]

Hey. Good morning. Just to follow-up on that last question, so as we think about the negative 7% to negative 9% generic pricing comment. So, does that essentially mean flattening of the generic pricing levels at the current level today? And then how do you view that translating into margins, obviously excluding the drag from PharMEDium and H. D. Smith?

[Tim G. Guttman:]

Well, the 7% to 9%, we try to make that up by the unit sales and better compliance from customers, which I'd say in the last few years we've done very, very well on. Occasionally we have an opportunity to make more margin on the buy-side on a generic which could offset some of the inflation. So a product that's deflated say 10%, we manage to retain a bit more of the gross profit dollars, but it depends on reimbursement and the market. And of course there's been a lot of consolidation in the industry. Any time we buy a customer like H. D. Smith – the competitor like H. D. Smith that does change the dynamics in the market. So, as you get to understanding and processing that, others are enjoying in the market. So there has been a lot of activity in the market, and I think it's a market certainly where you could describe it as a buyer's market. So we're very active.

[Keri P. Mattox:]

Operator, thanks. I think this concludes the Q&A portion of the call. I'll just turn it over to Steve for any closing remarks. And thanks, everyone, for joining us. Steve?

[Steven H. Collis:]

Yes. So, Keri, thank you. I think we try to be well prepared to explain to you the manageable performance issues we have with PharMEDium and the fact that we see a bright future over there and at Lash as well. We think we've made all the right investments. Somebody was saying to me that every 483 you get you need to treat it as a learning experience, accept it, prove your standards and prove your qualities. That's what the team at PharMEDium is trying to do. We are the leader in the industry, so we think that upsetting the standard is the way to go. And then I just would like you to remember that on the 90% of our business we performed very well, and in almost at all cases above expectations and through some very strong trends. So, we are overall really thrilled with the quarter and feel good about the rest of the year. So thank you for your time and attention, and we look forward to being in touch with you at some conferences and certainly on the next earnings call to update you more. And also, last thing I'll say is that the tax reform worked out spectacularly well for ABC when you think about preserving LIFO, and such a significant benefit not only to EPS but to cash flow also. So we're very pleased with how that's all worked out, and we think that it's just made it a lot fairer for primarily U.S.-based companies like ourselves to compete internationally. So I wouldn't want to lose that as a very strong – a lot of you have not heard it already, but it's a very strong change in our business fundamentals, which we are extremely excited about. Thank you.

[Operator:]

Ladies and gentlemen, that does conclude our conference call for today. On behalf of today's panel, I'd like to thank you for your participation in today's ABC Earnings Call, and thank you for using our service. You have a wonderful day. You may now disconnect.