UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

To prepare the financial statements in conformity with GAAP, management must make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of these financial statements and income and expenses during the reporting period. Actual amounts may differ from these estimated amounts. In our opinion, the accompanying unaudited condensed consolidated financial statements include all normal recurring adjustments necessary for a fair presentation of our financial position, results of operations and cash flows for the interim periods presented.

Certain prior period amounts, which relate to our discontinued operations, have been reclassified to conform to the current period presentation.

The Company’s fiscal year begins on April 1 and ends on March 31. Unless otherwise noted, all references to a particular year shall mean the Company’s fiscal year.

Recently Adopted Accounting Pronouncements

Recently Issued Accounting Pronouncements Not Yet Adopted

In September 2015, we entered into an agreement to acquire the pharmaceutical distribution business of UDG Healthcare Plc (“UDG”) based in Ireland for €408 million in cash (or, using the currency exchange ratio of $1.12/$1.09/€1 as of September 30,December 31, 2015, approximately $457$445 million).  The business primarily provides pharmaceutical and other healthcare products to retail and hospital pharmacies.  The transaction was approved by UDG shareholders on October 13, 2015, and is subject to the approval fromof the applicable regulatory authorities as well as other customary closing conditions. The acquisition is currently expected to close induring the first half of calendar year 2016.

In July 2015, we also announced plans to acquire the pharmacy business of J Sainsbury Plc (“Sainsbury”) based in the U.K. for £125 million in cash (or, using the currency exchange ratio of $1.52/$1.48/£1 as of September 30,December 31, 2015, approximately $190$185 million). Under the terms of the transaction, we will acquire 281 pharmacies in the U.K. including 277 in-store pharmacies and four located in hospitals.hospital pharmacies. The transaction is subject to the approval of the applicable regulatory authorities as well as other customary closing conditions and is currently expected to close during the fourth quarterfirst half of calendar year 2016.

Upon closing, the acquired UDG and Sainsbury businesses will be included as part of our International pharmaceutical distribution and services business within our Distribution Solutions segment.

In addition to our February 2014 acquisition of Celesio AG (“Celesio”), weWe completed a number of smaller acquisitions within our Distribution Solutions segment during the last two years. Financial results for our business acquisitions have been included in our consolidated financial statements since their respective acquisition dates. Purchase prices for our business acquisitions have been allocated based on estimated fair values at the date of acquisition. Goodwill recognized for our business acquisitions is generally not expected to be deductible for tax purposes. However, if we acquire the assets of a company, the goodwill may be deductible for tax purposes.

Under a domination and profit and loss transfer agreement (the “Domination Agreement”), McKesson is obligated to pay an annual recurring compensation amount of €0.83 per Celesio share (“Compensation Amount”) to the noncontrolling shareholders of Celesio.Celesio AG (“Celesio”). Additionally, the noncontrolling interests in Celesio are redeemable at the option of the holder as a result of a right to put their Celesio shares at €22.99 per share (“Put Right”) under the Domination Agreement. Accordingly, the noncontrolling interests in Celesio are presented as “Redeemable Noncontrolling Interests” on the accompanying condensed consolidated balance sheet. The Put Right amount is increased annually for interest in the amount of five percentage points above a base rate published by the German Bundesbank semiannually, less the guaranteed dividend paid during the second quarter of 2016 related to calendar year 2014 (“Guaranteed Dividend”) and any Compensation Amount already paid in respect of the relevant time period (“Put Amount”). The Domination Agreement was approved at the general shareholders’ meeting of Celesio on July 15, 2014, approved by the Stuttgart Higher Regional Court for registration on December 2, 2014, and was registered in the commercial register of Celesio at the local court of Stuttgart on December 2, 2014.

Subsequent to the Domination Agreement’s registration, certain noncontrolling shareholders of Celesio initiated appraisal proceedings (“Appraisal Proceedings”) with the Stuttgart Higher Regional Court to challenge the Compensation Amount, Guaranteed Dividend and/or Put Amount. As long as any Appraisal Proceedings are pending, the Compensation Amount, Guaranteed Dividend and/or Put Amount will be paid as specified currently in the Domination Agreement. If any such Appraisal Proceedings result in an adjustment to the Compensation Amount, Guaranteed Dividend and/or Put Amount, Celesio HoldingsMcKesson Deutschland GmbH & Co. KGaA (formerly(“McKesson Deutschland,” formerly known as “McKesson DeutschlandDragonfly GmbH & Co. KGaA”)KGaA) would be required to make certain additional payments for any shortfall to all Celesio noncontrolling shareholders who previously received the Guaranteed Dividend, Compensation Amount and/or Put Amount. The Put Right specified in the Domination Agreement may be exercised until two months after the announcement regarding the end of the Appraisal Proceedings. In addition, if the Domination Agreement is terminated, the Put Right may be exercised for a two-month period after the date of termination.

The exercise of the Put Right will reduce the balance of redeemable noncontrolling interests. There were no material exercises during the secondthird quarter and first sixnine months of 2016. The balance of redeemable noncontrolling interests is reported at the greater of its carrying value or its maximum redemption value at each reporting date. The redemption value is the Put Amount adjusted for exchange rate fluctuations each period. At September 30,December 31, 2015 and March 31, 2015, the carrying value of redeemable noncontrolling interests of $1.41$1.38 billion and $1.39 billion exceeded the maximum redemption value of $1.26$1.22 billion and $1.21 billion. At September 30,December 31, 2015 and March 31, 2015, we owned approximately 76.0% of Celesio’s outstanding common shares.

Changes in redeemable noncontrolling interests were as follows:

The effects ofThere were no material changes in our ownership interest in Celesio on McKesson’s equity are as follows:interests with noncontrolling interests during the third quarters and first nine months of 2016 and 2015.

In August 2015,During the second quarter of 2016, we sold our ZEE Medical business within our Distribution Solutions segment for a total purchase price of $134 million. Wemillion and recorded a pre-tax gain from this sale of $51 million ($33 million after-tax) during the second quarter of 2016 and $51$52 million ($29 million after-tax) during the first six months of 2016.from this sale.

During the first quarter of 2016, we also sold our nurse triage business within our Technology Solutions segment for net sale proceeds of $84 million and recorded a pre-tax gain of $51 million ($38 million after-tax) from the sale.

These divestitures did not meet the criteria to qualify as discontinued operations under the amended accounting guidance, which became effective for us in the first quarter of 2016.  Accordingly, pre-tax gains from both divestitures were recorded in operating expenses within continuing operations of our condensed consolidated statements of operations. Pre and after-tax income of these businesses werewas not material for the quarters and sixnine months ended September 30,December 31, 2015 and 2014.

During the fourth quarter of 2015, we committed to a plan to sell our Brazilian pharmaceutical distribution business and a small business from our Distribution Solutions segment. We acquired the Brazilian distribution business through our February 2014 acquisition of Celesio. The results of operations and cash flows of these businesses are classified as discontinued operations for all periods presented in our condensed consolidated financial statements.

During the fourth quarter of 2015, we recorded $241 million of non-cash pre-tax ($235 million after-tax) impairment charges to reduce the carrying value of this Brazilian distribution business to its estimated fair value, less costcosts to sell.sell, based on our assessment at that time. The ultimate loss from the sale of this Brazilian distribution business may be higher or lower thandifferent from our current assessment of the business’ fair value and will be recorded invalue. As a result, we may record additional loss upon the disposition of the business within discontinued operations. In April 2015, a fire destroyed one of our Brazilian warehouses. While we maintain property loss and business interruption insurance, this event may impact the fair value of our Brazilian business.

During the first quarter of 2015, we decided to retain the workforce business within our International Technology business, which had been classified as a discontinued operation since the time we committed to a plan to sell the International Technology business in the first quarter of 2014. As a result, the workforce business was reclassified to continuing operations effective in the first quarter of 2015 for all periods presented and we recorded a non-cash pre-tax charge of $34 million primarily in cost of sales relating to depreciation and amortization expense for the period in 2014 while the business was classified as held for sale. The workforce business, which provided workforce management solutions for the National Health Service in the United Kingdom, was transitioned to another service provider during the first quarter of 2016.

We completed the sale of a software business within our International Technology business during the second quarter of 2015 and at that time, we recorded a pre-tax and after-tax loss of $6 million within the discontinued operations of our condensed consolidated statements of operations.

(1) Assets and liabilities of discontinued operations are included under the captions “Prepaid expenses and other” and “Other accrued liabilities” within our condensed consolidated balance sheets.

During the secondthird quarters of 2016 and 2015, income tax expense related to continuing operations was $244$204 million and $223$198 million and included a net discrete tax benefitsbenefit of $24$16 million and $6a net discrete tax expense of $4 million. During the first sixnine months of 2016 and 2015, income tax expense related to continuing operations was $500$704 million and $408$606 million and included net discrete tax benefits of $29$45 million and $18$14 million. Our reported income tax rates for the secondthird quarters of 2016 and 2015 were 27.7%24.1% and 31.2%27.5% and for the first sixnine months of 2016 and 2015 were 28.8%27.3% and 31.0%29.7%. The fluctuations in our reported income tax rates are primarily due to changes within our business mix, including varying proportions of income attributable to foreign countries that have lower income tax rates and discrete items.

During the third quarter of 2016, we recognized a $19 million discrete tax benefit due to a reduction in our deferred tax liabilities as a result of enacted tax law changes in certain foreign jurisdictions. During the second quarter of 2016, we evaluated the recent U.S. Tax Court’s decision in Altera Corp. v. Commissioner related to the treatment of stock-based compensation expense in an intercompany cost-sharing agreement and recognized a discrete tax benefit of $25 million based on our historical tax filing position.

We report interest and penalties on tax deficiencies as income tax expense. We recognized income tax benefit of $1 million and income tax expense of $3 million and $5 million during the secondthird quarters of 2016 and 2015 and income tax expense of $5$9 million and $7$12 million during the first sixnine months of 2016 and 2015, before any tax benefit, related to interest and penalties in our condensed consolidated statements of operations. At September 30,December 31, 2015, and 2014, before any tax benefits, our accrued interest and penalties on unrecognized tax benefits amounted to $75 million and $161$78 million.

We file income tax returns in the U.S. federal jurisdiction, various U.S. state jurisdictions and various foreign jurisdictions. During the first quarter of 2015, we reached an agreement with the Internal Revenue Service (“IRS”) to settle all outstanding issues relating to years 2003 through 2006 and recognized a discrete tax benefit of $17 million to record a previously unrecognized tax benefit. The IRS is currently examining our U.S. corporation income tax returns for years 2007 through 2009 and may issue a Revenue Agent Report before the end of our fiscal year 2016.

We previously received reassessments from the Canada Revenue Agency (“CRA”) related to a transfer pricing matter impacting years 2003 through 2010. On December 13, 2013,During the third quarter of 2014, the Tax Court of Canada dismissed our appeal of the 2003 reassessment and we filed a Notice of Appeal to the Federal Court of Appeal. During the first quarter of 2016, we reached an agreement to settle the transfer pricing matter for years 2003 through 2010 and recorded a discrete income tax benefit of $12 million for a previously unrecognized tax benefit. The CRA is currently examining our Canadian income tax returns for years 2011 through 2013.

Basic earnings per common share are computed by dividing net income by the weighted average number of common shares outstanding during the reporting period. Diluted earnings per common share are computed similar to basic earnings per common share except that it reflects the potential dilution that could occur if dilutive securities or other obligations to issue common stock were exercised or converted into common stock.

The computations for basic and diluted earnings per common share are as follows:

Changes in the carrying amount of goodwill were as follows:

At March 31, 2015, we had a term loan with an outstanding balance of $89 million (or £60 million). During the first quarter of 2016, we repaid this term loan for $93 million. During the second quarter of 2016, we repaid our $400 million floating rate notes due September 10, 2015 at maturity.

Revolving Credit Facilities and Lines of Credit

The Global Facility contains a financial covenant which obligates the Company to maintain a debt to capital covenant ratio of no greater than 65% and other customary investment grade covenants. If we do not comply with these covenants, our ability to use the Global Facility may be suspended and repayment of any outstanding balances under the Global Facility may be required. At December 31, 2015, we were in compliance with all covenants.

We also maintain bilateral credit lines primarily denominated in Euros with a total committed and uncommitted balance of $1.1 billion. During the first nine months of 2016 and 2015, we borrowed $631 million and $222 million and repaid $633 million and $181 million under these credit lines primarily related to short-term borrowings. These credit lines have interest rates ranging from 0.18% to 6%. As of December 31, 2015 and March 31, 2015, there were $29 million and $29 million outstanding under these credit lines.

The net periodic expense for our defined pension benefit plans is as follows:

Cash contributions to these plans were $10$8 million and $44$35 million for the second quarterthird quarters of 2016 and 2015, and $52 million and $65 million for the first sixnine months of 2016 and $16 million and $31 million for the second quarter and first six months of 2015. The projected unit credit method is utilized in measuring net periodic pension expense over the employees’ service life for the pension plans. Unrecognized actuarial losses exceeding 10% of the greater of the projected benefit obligation or the market value of assets are amortized straight-line over the average remaining future service periods and expected life expectancy.

In the normal course of business, we are exposed to interest rate changes and foreign currency fluctuations. At times, we limit these risks through the use of derivatives such as interest rate swaps and forward foreign exchange contracts. In accordance with our policy, derivatives are only used for hedging purposes. We do not use derivatives for trading or speculative purposes.

The majorityWe conduct our business worldwide in U.S. dollars and the functional currencies of our operations are conductedforeign subsidiaries, including Euro, British pounds and Canadian dollars. Changes in U.S. dollars; however, certainforeign exchange rates will affect our results of operations, assets and liabilities, revenues and expensecapital ratios and purchasing activities that are incurredreported in and exposed to other currencies.U.S. dollars. We have certain foreign currency rate risk programs that manage the impact of foreign currency fluctuations primarily through the use of foreign currency forward-exchange contracts. These contracts are typically used to offset the potential earnings effects from intercompany foreign currency loans. These programs reduce but do not entirely eliminate foreign currency rate risk.

At September 30,December 31, 2015 and March 31, 2015, forward contracts to hedge the U.S. dollar against cash flows denominated in Canadian dollars with total notional values of $399 million were designated for hedge accounting. These contracts will mature between March 2016 and March 2020. Changes in the fair values of contracts designated for hedge accounting are recorded tointo accumulated other comprehensive income and reclassified into earnings in the same period in which the hedged transaction affects earnings; amounts recorded to earnings for these contracts were not material during the quarterquarters and sixnine months ended September 30,December 31, 2015 and 2014.

We also have a number of forward contracts to primarily hedge the Euro against cash flows denominated in British pounds and other European currencies. At September 30,December 31, 2015 and March 31, 2015, the total notional value of these contracts was $1,894$1,878 million and $1,755 million. These contracts will mature from October 2015 tothrough June 2016 and none of these contracts were designated for hedge accounting. Changes in the fair values of contracts not designated for hedge accounting are recorded directly tointo earnings and accordingly, net gainslosses of $67$24 million and $22$2 million for the secondthird quarter and first sixnine months of 2016 and net losses of $30$24 million and $50$74 million for the secondthird quarter and first sixnine months of 2015 were recorded within operating expenses. However, the gains and losses from these contracts are largely offset by changes in the value of the underlying intercompany foreign currency loans.

Information regarding the fair value of derivatives on a gross basis is as follows:

Refer to Financial Note 12, "Fair Value Measurements," for more information on these recurring fair value measurements.

Fair values of our forward foreign currency derivatives were determined using quoted market prices of similar instruments in an active market and other observable inputs from available market information.  These inputs are considered Level 2 under the fair value measurements and disclosure guidance, and may not be representative of actual values that could have been realized or that will be realized in the future. Refer to Financial Note 11, "Hedging Activities," for more information on our forward foreign currency derivatives.

In addition to commitments and obligations in the ordinary course of business, we are subject to various claims, other pending and potential legal actions for damages, investigations relating to governmental laws and regulations and other matters arising out of the normal conduct of our business. As described below, many of these proceedings are at preliminary stages and many seek an indeterminate amount of damages.

When a loss is considered probable and reasonably estimable, we record a liability in the amount of our best estimate for the ultimate loss. However, the likelihood of a loss with respect to a particular contingency is often difficult to predict and determining a meaningful estimate of the loss or a range of loss may not be practicable based on the information available and the potential effect of future events and decisions by third parties that will determine the ultimate resolution of the contingency. Moreover, it is not uncommon for such matters to be resolved over many years, during which time relevant developments and new information must be reevaluated at least quarterly to determine both the likelihood of potential loss and whether it is possible to reasonably estimate a range of possible loss. When a loss is probable but a reasonable estimate cannot be made, disclosure of the proceeding is provided.

Disclosure also is provided when it is reasonably possible that a loss will be incurred or when it is reasonably possible that the amount of a loss will exceed the recorded provision. We review all contingencies at least quarterly to determine whether the likelihood of loss has changed and to assess whether a reasonable estimate of the loss or range of loss can be made. As discussed above, development of a meaningful estimate of loss or a range of potential loss is complex when the outcome is directly dependent on negotiations with or decisions by third parties, such as regulatory agencies, the court system and other interested parties. Such factors bear directly on whether it is possible to reasonably estimate a range of potential loss and boundaries of high and low estimates.

Significant developments in previously reported proceedings and in other litigation and claims, since the filing of our 2015 Annual Report on Form 10-K and our Quarterly Report on Form 10-Q for the periodperiods ended June 30, 2015 and September 30, 2015, are set out below. Unless otherwise stated, we are currently unable to estimate a range of reasonably possible losses for the unresolved proceedings described below. Should any one or a combination of more than one of these proceedings be successful, or should we determine to settle any or a combination of these matters, we may be required to pay substantial sums, become subject to the entry of an injunction or be forced to change the manner in which we operate our business, which could have a material adverse impact on our financial position or results of operations.

From time-to-time,time to time, the Company receives subpoenas or requests for information from various government agencies. The Company generally responds to such subpoenas and requests in a cooperative, thorough and timely manner. These responses sometimes require time and effort and can result in considerable costs being incurred by the Company. Such subpoenas and requests also can lead to the assertion of claims or the commencement of civil or criminal legal proceedings against the Company and other members of the health care industry, as well as to settlements. Examples of such subpoenas and investigations are included in the Company’s 2015 Annual Report on Form 10-K. The Company continues to receive and respond to these requests.

We operate in various countries outside the United States which collect value added taxes (“VAT”).  The determination of the manner in which a VAT applies to our foreign operations is subject to varying interpretations arising from the complex nature of the tax laws. We have received assessments for VAT which are in various stages of appeal. We disagree with these assessments and believe that we have strong legal arguments to defend our tax positions.  Certain VAT assessments relate to years covered by an indemnification agreement.  Due to the complex nature of the tax laws, it is not possible to estimate the outcome of these matters.  However, based on the currently available information, we believe the ultimate outcome of these matters will not have a material adverse effect on our financial position, cash flows or results of operations.

Each share of the Company’s outstanding common stock is permitted one vote on proposals presented to stockholders and is entitled to share equally in any dividends declared by the Company’s Board of Directors (the “Board”).

In July 2015, the Company’s quarterly dividend was raised from $0.24 to $0.28 per common share for dividends declared on or after such date by the Board. The Company anticipates that it will continue to pay quarterly cash dividends in the future.  However, the payment and amount of future dividends remain within the discretion of the Board and will depend upon the Company's future earnings, financial condition, capital requirements and other factors.

In May 2015, the Board authorized the repurchase of up to $500 million of the Company’s common stock. During the second quarter of 2016, we bought 2.5 million shares at an average price per share of $196.20. At September 30, 2015, no authorized amounts remainwere available for future repurchases of the Company’s common stock under the May 2015 Board approved share purchase plan. In October 2015, the Board authorized the repurchase of up to $2 billion of the Company’s common stock. During the third quarter of 2016, we bought 1.9 million shares at an average price per share of $186.99. During 2016, our share repurchases were completed through open market transactions. The total authorization outstanding for repurchases of the Company’s common stock was $1.6 billion at December 31, 2015.

Other Comprehensive Income (Loss)

Information regarding other comprehensive income (loss) including noncontrolling and redeemable noncontrolling interests, net of tax, by component is as follows:

Accumulated Other Comprehensive Income (Loss)

Information regarding changes in our accumulated other comprehensive income (loss), net of tax, by component for the secondthird quarter and first sixnine months of 2016 is as follows: