Motley Fool: McKesson well positioned for profitability

It rakes in close to $200 billion per year, employs about 70,000 people and is No. 5 on the Fortune 500 list, but relatively few people have heard of McKesson (NYSE: MCK).

By revenue, it’s the largest of the big three wholesale prescription drug distributors in the U.S. (ahead of Cardinal Health and AmerisourceBergen), enjoying powerful economies of scale.

Earnings growth over the past year has been somewhat elusive for McKesson and its peers, which has kept the stock price depressed. An unpredictable political environment has not helped, either.

Increasing payer pushback against branded prescription drug prices has squeezed McKesson’s profit margins in recent quarters. This might hamper growth in the short term, but it also strengthens the company’s advantage over smaller competitors.

Meanwhile, McKesson has posted nearly $6 billion in free cash flow over the past year, enabling it to pay dividends, buy back shares, pay down debt and acquire other companies.

McKesson is well positioned for decades of profitability. Its dividend offers a meager 0.8 percent yield at recent prices, but massive share repurchases have been shrinking its share count and boosting the value of remaining shares. The average stock in the S&P 500 was recently trading at a nerve-rattling price-to-earnings (P/E) ratio of 24, making McKesson’s recent P/E ratio of 17 look like a much better value. (The Motley Fool has recommended McKesson.)

Ask the Fool

Q: What’s a company’s “capital allocation”? – B.R., Sioux City, Iowa

A: The term capital allocation refers to how a company spends its money. For example, it can pay down its debt, pay its shareholders a dividend, buy back some of its shares, buy another company or use it to further its own growth, such as by hiring more workers, building a new plant, spending more on advertising, and so on.

The money should be spent in the most productive ways, so companies need to avoid spending too much on an acquisition or buying back shares when they’re overvalued. When a company’s capital is not allocated effectively, it’s wasted, and that hurts shareholders.

Q: Can I claim a loss on worthless stock without selling the shares? – K.W., Bremerton, Washington

A: Only if the stock qualifies as “worthless” according to IRS rules. It’s often simpler just to sell the shares.

Some brokerages will buy shares of clients’ worthless stock for a small sum. If yours won’t, you can sell the shares to a friend (or cousin, aunt or uncle) for pennies. (But not to a spouse, siblings, parents, grandparents or lineal descendants.) Here’s one way to do it:

1. Get the actual stock certificates from your broker. 2. Formally sell the shares, with a payment check and bill of sale. 3. Sign over the stock certificate (on its back) to the buyer. Have the signatures verified by your banker and/or a local stockbroker. 4. Send the certificate to the stock’s transfer agent, explaining that the shares have been sold. Ask them to cancel the old shares and issue a new certificate to the new owner.

Learn more from the horse’s mouth at irs.gov.

My dumbest investment

Back in fall 2013, I bought a bunch of stock in networking software specialist Extreme Networks. It looked good at first.

A couple of months later, I saw that some insiders were selling off stock. I did nothing. That was really dumb. Within a week, the stock tanked – and then a few weeks later, it tanked again on weak earnings and a new CFO being named.

I sold after losing $16,000. Moral of the story: When you see some really negative news, don’t do nothing. Follow your gut. If I had sold when I first saw the insider sales, I would have made a profit. Shoulda, coulda, woulda. – L.H., online

The Fool responds: It’s good to take action whenever you see troubling news about a company in which you’re invested. Don’t just sell, though – it’s best to do some digging first, to find out whether the company is facing lasting challenges or is merely encountering temporary troubles.

Don’t be alarmed when insiders sell shares, unless there’s sudden mass selling. Many executives and people who work for younger companies receive a significant chunk of their compensation in the form of stock grants and stock options, so when they need money (perhaps to buy a home or car or pay a tuition bill), they will routinely sell some shares.

Extreme Networks has more than doubled over the past year.