It’s been a tough year for Wall Street. But a number of industry factors freed the big three drug distributors — Cardinal Health, AmerisourceBergen and McKesson — to post some of the market’s best gains, so far, for 2022. That’s lifted McKesson stock and the other distributors.
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The resolution in February of a number of legal issues linked to the opioid epidemic provided an underlying positive for the stocks. At a more fundamental level, Jefferies analyst Brian Tanquilut says, McKesson (MCK), AmerisourceBergen (ABC) and Cardinal Health (CAH) are cash flow-generating machines. Their revenue streams are tied to largely recession-proof businesses. In addition, each company is pushing into new business lines like biosimilars, oncology, genetics and home health.
“I would say the No. 1 reason is these stocks are generally viewed as less speculative,” Tanquilut said in an interview. “As people have worried about upcoming inflation, the group has outperformed.”
On a year-to-date basis, the seven-company Medical-Wholesale Drug/Suppliers industry group has climbed more than 33%. That group strength partly reflects the companies’ strong balance sheets and stock buybacks. Cardinal Health has run neck-and-neck with McKesson stock, both up more than 53%. AmerisourceBergen stock trails with a 29% jump.
McKesson Stock: The Largest-Cap Distributor
McKesson, AmerisourceBergen and Cardinal Health are the top three pharmaceutical distributors in U.S., according to a 2019 report from consulting firm Deloitte. Various estimates suggest they control more than 90% of the market in the U.S. Some estimates put their market share closer to 95%.
These companies are intermediaries. They buy drugs, medical equipment and supplies at wholesale prices and then disseminate them to pharmacies, hospitals and doctor’s offices. McKesson has close ties to the pandemic as the sole distributor of Covid vaccines from Moderna (MRNA) and Johnson & Johnson (JNJ). The company also sends out Covid tests. AmerisourceBergen distributes Covid treatments.
McKesson is the group’s big dog, weighing in with market capitalization of $54.2 billion. AmerisourceBergen’s market cap is $34.1 billion, vs. a $20.8 billion girth for Cardinal.
During the September quarter, McKesson narrowly lagged sales expectations at $70.16 billion. But McKesson stock ultimately advanced 2% the following day after raising its guidance for the year, in part due to continued — though slowing — demand for Covid shots. McKesson’s sales grew 5%.
AmerisourceBergen and Cardinal Health, on the other hand, topped expectations with a respective $61.17 billion and $49.6 billion in sales. AmerisourceBergen’s sales grew 4% while Cardinal’s revenue increased 13%. Both companies also beat earnings views.
Eric Coldwell, a Baird Equity Research analyst, notes McKesson and AmerisourceBergen will likely see continued declines for their Covid businesses. But that’s expected. He rates AmerisourceBergen and McKesson stocks as overweight, and has a neutral rating on Cardinal shares.
“AmerisourceBergen is currently modulating from very strong U.S. profit growth rates. McKesson is holding steady and chronic laggard Cardinal Health is seeing consistent profit growth in the U.S. for the first time in about five years,” Coldwell said in a September report.
Outperformance Amid Broader Market Woes
So, what’s driving the outperformance?
After years of uncertainty, the three companies have benefited from recent clarity around the opioid epidemic and myriad lawsuits. In February, they agreed to pay $21 billion over 18 years to settle claims related to their role in the crisis. Johnson & Johnson is on the hook for $5 billion.
Coldwell says that opioid litigation wrapped up “with a bow.” He acknowledges there will still likely be cases litigated over the year, “but the big exposure is tallied with confidence.” Jefferies Tanquilut says the settlement acted as a clearing event, erasing risk for McKesson stock and its cohort.
Beyond that, the companies are all reporting strength for their core business, drug distribution. In the recent quarter, McKesson’s U.S. pharma business saw 12% growth, AmerisourceBergen reported a 5% jump for its U.S. health care solutions and Cardinal’s pharmaceuticals business popped 15%.
The growth was particularly strong in the U.S., says JPMorgan analyst Lisa Gill.
“We remain positive on the group as a whole, believing that core performance remains robust, and while pressures remain in the near term, we see them as unwinding in the coming quarters,” she said in a November report.
Pressures Still Face McKesson Stock, Rivals
Among those pressures, Gill noted generic drugs face deflation. That means there’s less money to be made for the manufacturers and distributors. Further, the Inflation Reduction Act could have a chilling impact on branded drug prices, says Coldwell, the Baird analyst.
There are also company-specific challenges, including an activist investor that pushed for a strategic review at Cardinal Health. Meanwhile, Cardinal Health’s medical supplies distribution business continues to struggle. The company has an improvement plan in place, but medical sales still fell 9% in the fiscal first quarter of 2023. Further, Walgreens Boots Alliance (WBA) recently sold a $2 billion stake in ABC.
McKesson is also in the midst of streamlining its business by organizing an exit from Europe. Its operations in Canada remain intact.
McKesson Chief Executive Brian Tyler remained upbeat on the company’s recent earnings call. He noted the economic environment remains fluid and McKesson is facing cost inflation as well as some supply chain disruptions.
But “the demand for health care proves to be fairly resilient and largely impacted,” he said. “And I would say this is similar to what we have observed in past economic cycles.”
Highly Rated Stocks
The Big Three distributors trade in the top 6% of all stocks in terms of 12-month performance.
McKesson stock has a strong Relative Strength Rating of 95 out of a best-possible 99, according to IBD Digital. This means shares rank in the leading 5% of all stocks. Cardinal Health is a few notches higher with an RS Rating of 97. AmerisourceBergen trails with a 94 RS Rating.
Analysts are closely watching the companies’ efforts in specialty pharmaceuticals. Biotechs are rapidly paving the way for new medicines that harness the immune system and genetics. The three biggest distributors are right there beside them.
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McKesson called out strength from its specialty and oncology businesses on its quarterly call while AmerisourceBergen talked up its efforts in cell and gene therapies. Cardinal Health says it’s focusing, in part, on biosimilars. Biosimilars are lower-cost versions of biologic drugs. These tend to cost more than small-molecule medicines like pills and tablets, and are therefore more lucrative for companies.
“Specialty medicines play a role in future pharmaceutical innovation,” AmerisourceBergen CEO Steven Collis said on the company’s recent earnings call. “And with our continued innovation and investments, we further strengthened our leadership to capture this growth opportunity.”
AmerisourceBergen, McKesson Stocks Break Out
All together, even after strong gains over the past year, the outlook remains bright for the drug distributors, says Baird’s Coldwell.
McKesson stock recently broke out of a flat base with a buy point at 375.33, MarketSmith.com shows. Broad macro worries and a massive shift in health care sent shares tumbling more than 7%-8% below their entry, signaling investors should cut their losses short. But McKesson stock is now back above support at its 10-week moving average and climbing again.
AmerisourceBergen stock broke out from a cup-with-handle base in late November. Shares are in a buy range above a 167.39 entry. Cardinal Health stock managed to avoid an extreme downfall and remains extended above a cup-with-handle buy point at 71.22.
Coldwell calls the pharmaceutical distributors “one of the few safe harbors in a stormy world.”
“If you need a short-term parking spot, distributors easily fit that bill,” he said. “But we’re advocating for long-term investment based on a strong mosaic that’s been building for years.”
Follow Allison Gatlin on Twitter at @IBD_AGatlin.
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Source: https://www.investors.com/research/industry-snapshot/mckesson-stock-and-its-peers-carve-gains-from-a-fearful-market/?src=A00220&yptr=yahoo