One Post Street
With industry-leading operations in the United States, Canada, and Mexico, McKesson Corporation is North America's largest pharmaceutical wholesaler. The company also has interests in bottled water and automotive care; its Sparkletts brand water ranked second in this fast-growing beverage category in the early 1990s, and its Armor All car-care products dominated their market. Although these two segments contributed less than four percent of McKesson's annual revenues, they added almost one-third of operating profits. In spite of uncertainties that troubled the health care industry in the 1990s, McKesson was considered well-positioned to take advantage of virtually any eventualities.
In 1833 John McKesson and a partner founded Olcott & McKesson, a wholesale drug company in Manhattan. Twenty years and another partner later, the firm changed its name to McKesson & Robbins. Yet this was just the beginning of the changes experienced by McKesson. When John McKesson died in 1893, the McKesson heirs left the company in order to form the New York Quinine and Chemical Works.
In 1926, McKesson & Robbins was sold to Frank D. Coster. The ownership transition plunged McKesson & Robbins into 13 years of disrepute attributed directly to its new owner and his crime-prone family. Coster, whose real name was Philip Musica, was the son of a New York importer of Italian foods. The Musica family had prospered in the import trade primarily by bribing dock customs officials to falsify shipment weights. When the Musica team was arrested in 1909, Philip paid a $5,000 fine and served five months in prison for the crime.
The prison experience did not reform the criminal family, however, and they were again arrested in 1913 on similar charges. This time, a hair importing business started after Philip left prison had racked up $500,000 in bank debt based on virtually nonexistent security. A bank investigation revealed that the supposedly valuable hair pieces being used for collateral were in fact only worthless ends and short pieces of hair. The Musica family was caught trying to escape on a departing New Orleans ship. Once again, Philip was the scapegoat for the family escapades; he served three years in prison. When he was released in 1916 he worked for the District Attorney's office as an undercover agent named William Johnson.
During World War I Musica began a poultry business, but his entanglement with the law was not over. After evading conviction for a 1920 murder, he changed his business interests from poultry to pharmaceuticals, posing as president of Adelphi Pharmaceutical Manufacturing Company in Brooklyn. In spite of many "second chances," Musica appeared unable to avoid a life of crime; his new venture, a partnership with Joseph Brandino, was actually a front for a bootlegging concern.
When Adelphi failed, Musica changed his name to Frank D. Coster. Hoping to put his criminal past behind him, Coster managed to establish himself as a respectable businessman by starting a hair tonic company that had a supposedly large customer list. With this apparently firm collateral, Coster seemed a viable acquirer when he offered to purchase McKesson & Robbins in 1926. In fact, for 13 years thereafter, Coster was able to keep his identity a secret; he was even listed in Who's Who in America, where he was described as a businessman as well as a "practicing physician" from 1912 to 1914.
Coster went on an acquisition spree when the Great Depression weakened many competitors. In 1928 and 1929 alone, he added wholesale drug companies in 42 cities to McKesson & Robbins's American and Canadian operations. Five more were acquired from 1930 to 1937.
Coster's true identity was revealed in 1938 when a treasurer at McKesson & Robbins became concerned over the way the profits were being handled. That curiosity soon led to an investigation that revealed a $3 million embezzlement scheme perpetrated by Coster. Some of the money was used to pay blackmail fees to his former partner, Brandino, who had discovered Coster's true identity and threatened to expose him. In 1939 Coster shot himself and Brandino was convicted of blackmail.
The company reorganized in the early 1940s and returned to private ownership. Its operations were presumably closely held during this period. However, the company's calm and relatively quiet existence was intruded upon in 1967 when Foremost Dairy of California implemented a hostile takeover. Acrimony over the conduct of the buyout fostered an unhappy relationship between the managers of the new "partners" for several years after the merger. In fact, it was three years before McKesson offices were even moved to San Francisco, the headquarters of Foremost.
The new company formed by this merger, Foremost-McKesson, Inc. had no corporate strategy and appeared to be moving in several different directions at the same time. Rudolph Drews, head of the unified firm, was described by Forbes magazine as the "freewheeling" president who had acquired several diverse companies from "sporting goods to candy" after the merger with McKesson, and who was better at making acquisitions than managing them. In 1974 Drews was forced from the corporation after a day long board meeting; his management style was considered the cause for a "flattening" of earnings.
Drews' response, "I'll be back," after he was fired from Foremost-McKesson was no idle threat. Drews established his own corporate-merger consulting business and found an opportunity in 1976 to orchestrate a takeover bid of his former company. Drews' middleman for the corporate raid was Victor Posner, a Miami multimillionaire who saw his own opportunity to buy out Foremost-McKesson. William Morison, who had succeeded Drews as president of Foremost-McKesson, worked hard to prevent Sharon Steel, Posner's Pennsylvania firm, from acquiring his company's stock. Although Posner was able to obtain ten percent of Foremost-McKesson's equity, he soon found that the price of the stock could be measured in more than dollars and cents.
Morison's defense strategy focused on a negative public relations campaign that targeted Posner and Sharon Steel. Careful, well-publicized research revealed that Sharon Steel Corporation had overstated its earnings for 1975 by 45 percent in order to support its takeover offer. According to Forbes, Posner was "scourged coast to coast" for his tactics as a "corporate marauder." Having repulsed Posner and Drews' takeover attempt, Foremost-McKesson stockholders approved a charter change which prohibited any "unsuitable" party from acquiring over ten percent of the company's common stock. An unsuitable party was defined as any business that might jeopardize Foremost's liquor or drug licenses.
Although the takeover crisis only lasted a few months, Foremost-McKesson suffered long-term consequences. The company had lost valuable time in executing the turnaround plans devised by the new president William Morison. Morison was determined to make the company a more dynamic, streamlined operation. Up to this point, Foremost-McKesson had been viewed as two companies wedded together with no real direction or focus. Morison complained that "people on the East Coast think of us as McKesson the drug company, and people on the West coast think of us as Foremost the dairy company, and we don't think either one really fits anymore." Morison hoped not only to turn Foremost-McKesson around operationally, but also to create a new corporate image. In 1977, Executive Vice-President Thomas E. Drohan, compared the company to an elephant that, under the new direction of Morison, was now "off its knees and ambling noisily."
Morison had, in fact, worked to implement a reorganization in the midst of the 1976 battle to maintain autonomy. That year, Foremost-McKesson made two major acquisitions and sold or combined 11 of its less vital operations. Morison wanted to move the company away from its role of middleman as a wholesale distributor of pharmaceutical products, beverages and liquor, and emphasize production of proprietary products. His objective was to streamline the company by selling its low profit operations and investing $200 million into new businesses by 1990. Although the battle with Posner sidelined many of these goals, Foremost's acquisitions of C.F. Mueller Company, the country's largest pasta marker, and Gentry International, a processor of onion and garlic, were two significant acquisitions made in 1976 that met the objectives set by Morison.
Over the course of the two years before Morison's retirement, he reorganized the company into four major operating groups: drugs and health care, wine and spirits, foods, and chemicals, as well as a small home-building division. This new strategic plan was the first of its kind for Foremost-McKesson, and it was one factor that placed the company in a more comfortable position for the future.
Thomas P. Drohan, who was elected president upon Morison's 1978 retirement, continued his predecessor's strategy. Drohan's defense against corporate raids was to maintain a prohibitively high stock price. His management style focused on productivity and efficiency. Specifically, he automated inventory and stock procedures, allowing Foremost to reduce personnel costs by a third.
Drohan also redefined the company's "middleman" role in the distribution chain by establishing data processing procedures that would be valuable to both suppliers and customers, placing Foremost-McKesson in the position of acting as part of the marketing teams. This business strategy has been characterized by one Harvard Business Review analyst as a "value-adding partnership." Over the course of the 1980s, independent druggists were faced with competition from powerful mass and discount drug chains. Foremost-McKesson's value-adding partnership offered these small businessmen--many of whom could not afford the computerized inventory controls that were a key to the national chains' success--the benefits of automated systems without the expense. These practices catapulted the company to the vanguard of wholesale practices and contributed to average annual profit increases of 20 percent, ten times the rate recorded before 1976.
Neil Harlan succeeded to the chairmanship of Foremost-McKesson in 1979. A former army captain, Harvard business professor, and McKinsey & Company director, Harlan soon initiated a second restructuring, selling the pieces of the company that did not fit its distribution image. In 1983 alone, Harlan divested over one-third of the conglomerate's holdings to focus on health care and retail products. Divisions sold included C.F. Mueller as well as Foremost Dairies and its food processing and residential construction subsidiaries.
Acquisitions made in the early part of the decade strengthened Foremost-McKesson's role as a major distributor of health care products. In 1982 the drug distribution business contributed $2.1 billion to the company's $4 billion in sales. Fueled by $90 million in acquisitions of distribution and distribution-related businesses, revenues increased steadily in the early 1980s. Harlan's aggressive consolidation helped make McKesson one of the leaders in wholesale distribution. His strategy was two-fold; he believed that "any company that doesn't stick to what it does best is inviting trouble" and that "anybody who doesn't prepare [for a raider] is living in a dreamworld." A 1983 name change, to McKesson Corporation, reflected the declining influence of food operations.
Harlan, a popular leader, retired in 1986 and was succeeded by Thomas W. Field, Jr., formerly of American Stores Co., a national grocery chain. That same year, McKesson sold its poorly-performing chemical distribution division, McKesson Chemical, to Univar Corp. for $76 million. Proceeds of the sale funded acquisitions of additional drug and health care product distributors, software firms, and medical equipment distributors. The company also raised funds for capital investments through the public offering of shares amounting to about 15 percent of subsidiary Armor All Products Corp. and a similar stake in prescription reimbursement division PCS Health Systems Inc. in 1986. Part of the proceeds went toward a $115 million expenditure on increased automation and efficient new distribution hubs.
McKesson had acquired Armor All, the company that launched the automotive protective market, in 1979. After suffering five years of limited profits, Armor All took off in the late 1980s. Within four years of entering the Japanese market in 1984, the product had captured one-fourth of the market. By the late 1980s, Armor All had achieved $126 million in annual sales and held 90 percent of the U.S. auto protectant market. Hoping to parlay its complete dominance of this category into continuously-increasing sales, McKesson expanded Armor All's product line to include car waxes, detergents, and spray cleaners. By 1993, the products were offered in over 50 countries. McKesson's bottled water subsidiary also paid off during this period: from 1980 to 1990, the American market for bottled water grew by 250 percent, and McKesson's Sparklett's brand enjoyed a number-two ranking in that industry.
Although profits rose 33 percent and sales increased 46 percent over the course of CEO Field's term in office, he abruptly resigned in September 1989 amid difficulties related to McKesson's prescription reimbursement division, PCS Health Systems Inc. PCS managed pharmaceutical costs for the sponsors of corporate, government, and insurance health care plans by performing cost-benefit analyses of drugs and recommending the top candidates to their customers. Under pressure from insurance companies to cut costs, PCS had tried to reduce reimbursements to pharmacists and drug store chains. When major customers--including Rite Aid Corp. and Wal-Mart Stores--balked at the cuts, McKesson scrambled to keep both its constituencies satisfied. Neil Harlan came out of retirement to serve as McKesson's interim CEO. Harlan was able to rejoin the ranks of the retired by the end of the year, when Alan Seelenfreund, a 14-year veteran of McKesson, advanced to chairman and CEO.
Ironically, after causing such an uproar in the late 1980s, PCS evolved into a vital segment of McKesson's business in the early 1990s. During that time, PCS recorded sales and earnings increases of 50 percent annually, and although the company only contributed two percent of McKesson's annual sales, it brought in 20 percent of its profits. The parent company moved to transform PCS into what Business Week called "a full-fledged medical-services-management company" through the early 1994 acquisition of Integrated Medical Systems Inc., an electronic network designed to connect doctors, hospitals, medical laboratories, and pharmacies. While these two acquisitions improved PCS' operations, they also attracted the attention of an increasingly acquisitive pharmaceutical industry. In 1993, Merck & Co., then the world's largest ethical drug company, bought Medco Containment, a rival drug distributor, for $6.6 billion.
Merck's move prompted speculation that PCS and parent McKesson were the next logical takeover target. McKesson's stock increased by over 40 percent from July 1993 (when the Medco deal was announced) to February 1994. To a limited extent, that speculation became reality later that year, when McKesson agreed to sell PCS to Eli Lilly & Co. for $4 billion in cash.
McKesson used the sale as an opportunity to restructure its finances: the company gave shareholders $76 plus a "new share in McKesson in exchange for each McKesson old share they held. The remaining $600 million in proceeds from the sale were reinvested in the company.
CEO Seelenfreund looked to McKesson's future in the company's annual report for 1993. He noted that "In the competitive environment created by efforts to bring rising health care costs under control, the winners will be those organizations that have both the financial strength and the technological skills needed to improve the quality of care while cutting their own costs and those of their customers. McKesson is one of the few companies that possess both these strengths."
Principal Subsidiaries: Millbrook Distribution Services Co.; Armor All Products Corp.; McKesson Service Merchandising Co.; McKesson Water Products Co.; Medis Health & Pharmaceutical Services Inc. (Canada).