Item 2. Management's Discussion and Analysis of Financial Condition and Results

of Operations Financial Overview Quarter Ended Six Months Ended September 30, September 30, (In millions, except per share data) 2009 2008 Change 2009 2008 Change Revenues $ 27,130 $ 26,574 2 % $ 53,787 $ 53,278 1 % Income Before Income Taxes $ 424 $ 379 12 $ 845 $ 737 15 Income Tax Expense $ (123 ) $ (52 ) 137 $ (256 ) $ (175 ) 46 Net Income $ 301 $ 327 (8 ) $ 589 $ 562 5 Diluted Earnings Per Share: $ 1.11 $ 1.17 (5 ) $ 2.17 $ 2.00 9 Weighted Average Diluted Shares 271 280 (3 ) 272 281 (3 )

Revenues for the second quarter of 2010 grew 2% to $27.1 billion and for the first six months of 2010 revenues grew 1% to $53.8 billion compared to the same periods a year ago primarily due to increases associated with market growth rates offset by lost business in late 2009.
Income before income taxes for the second quarter of 2010 grew 12% to $424 million and for the first six months grew 15% to $845 million. Results for 2010 were positively impacted by an increase in our Distribution Solutions and Technology Solutions segments' operating profit, partially offset by a $24 million pre-tax gain on the sale of our 42% equity interest in Verispan, L.L.C. ("Verispan") in 2009.
Net income for the second quarter of 2010 decreased 8% to $301 million and for the first six months increased 5% to $589 million. For those same periods, diluted earnings per share decreased 5% to $1.11 and increased 9% to $2.17 compared to the prior year. The decreases in the second quarter of 2010 primarily reflect the recognition in the second quarter of 2009 of $76 million of previously unrecognized tax benefits and related interest as a result of the effective settlement of uncertain tax positions. Financial results for the first six months of 2010 were positively impacted by an increase in our Distribution Solutions and Technology Solution segments' operating profit. Diluted earnings per share also benefited from a decrease in our weighted average shares outstanding due to share repurchases.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED) Results of Operations Revenues: Quarter Ended Six Months Ended September 30, September 30, (In millions) 2009 2008 Change 2009 2008 Change Distribution Solutions Direct distribution & services $ 17,850 $ 16,611 7 % $ 34,888 $ 33,039 6 % Sales to customers' warehouses 5,501 6,319 (13 ) 11,552 12,983 (11 ) Total U.S. pharmaceutical distribution & services 23,351 22,930 2 46,440 46,022 1 Canada pharmaceutical distribution & services 2,255 2,182 3 4,395 4,423 (1 ) Medical-Surgical distribution & services 734 700 5 1,419 1,327 7 Total Distribution Solutions 26,340 25,812 2 52,254 51,772 1 Technology Solutions Services 613 582 5 1,202 1,146 5 Software and software systems 142 140 1 272 278 (2 ) Hardware 35 40 (13 ) 59 82 (28 ) Total Technology Solutions 790 762 4 1,533 1,506 2 Total Revenues $ 27,130 $ 26,574 2 $ 53,787 $ 53,278 1

Revenues for the second quarter of 2010 increased 2% and for the first six months of 2010 increased 1% compared to the same periods a year ago primarily driven by continued growth in our Distribution Solutions segment, which accounted for over 97% of consolidated revenues.
Direct distribution and services revenues increased primarily reflecting a shift of revenues from sales to customers' warehouses to direct store delivery and market growth rates (which include price increases and growing drug utilization). This increase was partially offset by the loss of several customers in late 2009. Sales to customers' warehouses decreased primarily as a result of a shift of revenues to direct store delivery and for the first six months of 2010 were also impacted by the loss of a large customer.
Canadian pharmaceutical distribution and services revenues increased on a constant currency basis by 9% and 10% in the second quarter and first six months of 2010 due to market growth rates. The growth was offset by an unfavorable foreign exchange rate impact of 6% and 11% in the second quarter and the first six months of 2010.
Medical-Surgical distribution and services revenues increased primarily reflecting business acquisitions and additionally, for the first six months of 2010, new business, market growth rates and an increase in demand from the flu season.
Technology Solutions revenues increased in the second quarter and first six months of 2010 compared to the same periods a year ago. McKesson's Horizon Enterprise Revenue ManagementTM solution became generally available in the second quarter of 2010 and as a result we recognized previously deferred revenue. Revenues also increased due to higher services revenues primarily reflecting increases in claims processing and maintenance. These increases were partially offset by lower hardware installations and unfavorable foreign exchange rates.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED) Gross Profit: Quarter Ended Six Months Ended September 30, September 30, (Dollars in millions) 2009 2008 Change 2009 2008 Change Gross Profit Distribution Solutions $ 960 $ 951 1 % $ 1,914 $ 1,885 2 % Technology Solutions 375 351 7 724 685 6 Total $ 1,335 $ 1,302 3 $ 2,638 $ 2,570 3 Gross Profit Margin Distribution Solutions 3.64 % 3.68 % (4 )bp 3.66 % 3.64 % 2 bp Technology Solutions 47.47 46.06 141 47.23 45.48 175 Total 4.92 4.90 2 4.90 4.82 8

Gross profit increased 3% in the second quarter and first six months of 2010 compared to the same periods a year ago. As a percentage of revenues, gross profit increased in the second quarter and first six months of 2010 compared to the same periods a year ago.
Distribution Solutions segment's gross profit margin decreased in the second quarter of 2010 due to a decline in sell margin, partially offset by a benefit from increased margins from sales of generic drugs and higher buy side margin. The buy side increase primarily reflects compensation from branded pharmaceutical manufacturers. In the first six months of 2010, Distribution Solutions segment's gross profit margin was positively impacted by increased margins from sales of generic drugs and higher buy side margin, which was partially offset by a decline in sell margin.
Technology Solutions segment's gross profit margin increased primarily due to McKesson's Horizon Enterprise Revenue ManagementTM solution becoming generally available in the second quarter of 2010. As a result, we recognized previously deferred revenue for which some associated expenses were recognized as incurred in prior periods. Gross profit margin also improved due to a change in revenue mix and cost containment efforts.
Operating Expenses and Other Income:

Quarter Ended Six Months Ended September 30, September 30, (Dollars in millions) 2009 2008 Change 2009 2008 Change Operating Expenses Distribution Solutions $ 546 $ 570 (4 )% $ 1,077 $ 1,132 (5 )% Technology Solutions 260 282 (8 ) 507 552 (8 ) Corporate 82 69 19 148 134 10 Litigation credit (20 ) - NM (20 ) - NM Total $ 868 $ 921 (6 ) $ 1,712 $ 1,818 (6 ) Operating Expenses as a Percentage of Revenues Distribution Solutions 2.07 % 2.21 % (14 )bp 2.06 % 2.19 % (13 )bp Technology Solutions 32.91 37.01 (410 ) 33.07 36.65 (358 ) Total 3.20 3.47 (27 ) 3.18 3.41 (23 ) Other Income, Net Distribution Solutions (1) $ 1 $ 25 (96 )% $ 8 $ 37 (78 )% Technology Solutions 1 2 (50 ) 2 4 (50 ) Corporate 2 6 (67 ) 4 13 (69 ) Total $ 4 $ 33 (88 ) $ 14 $ 54 (74 )

(1) Includes Distribution Solutions segment's sale of its 42% equity interest in Verispan during the second quarter of 2009.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED)
Operating expenses decreased 6% for the second quarter and the first six months of 2010 compared to the same periods a year ago. As a percentage of revenues, operating expenses decreased 27 basis points ("bp") and 23 bp for these same periods. Operating expenses in 2010 benefited from a decrease in employee compensation costs, which includes various cost containment efforts as well as lower profit sharing investment plan expenses as more fully described below. Additionally, operating expenses in 2010 decreased as a result of other cost containment efforts, the sales of two businesses during the first and third quarters in 2009 and favorable foreign exchange rates. Operating expenses also benefited from the reversal of a previously established litigation reserve as further discussed in Financial Note 12, "Other Commitments and Contingent Liabilities." Decreases in operating expenses were partially offset by an increase in expenses associated with our 2009 business acquisitions.
As previously reported in our Annual Report on Form 10-K for the fiscal year ended March 31, 2009 and Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2009, the McKesson Corporation Profit Sharing Investment Plan ("PSIP") is a member of the settlement class in the Consolidated Securities Litigation Action. On April 27, 2009, the court issued an order approving the distribution of the settlement funds. On October 9, 2009, the PSIP received approximately $119 million of the Consolidated Securities Litigation Action proceeds. Approximately $42 million of the proceeds are attributable to the allocated shares of McKesson common stock owned by the PSIP participants during the Consolidated Securities Litigation Action class holding period and will be allocated to the respective participants on that basis as soon as administratively feasible during the third quarter of 2010. Approximately $77 million of the proceeds are attributable to the unallocated shares (the "Unallocated Proceeds") of McKesson common stock owned by the PSIP in an employee stock ownership plan ("ESOP") suspense account. In accordance with the plan terms, the PSIP will distribute all of the Unallocated Proceeds to current PSIP participants as soon as administratively feasible after the close of the plan year. The receipt of the Unallocated Proceeds by the PSIP is reimbursement for the loss in value of the Company's common stock held by the PSIP in its ESOP suspense account during the Consolidated Securities Litigation Action class holding period and is not a contribution made by the Company to the PSIP or ESOP. Accordingly, there are no accounting consequences to the Company's financial statements relating to the receipt of the Unallocated Proceeds by the PSIP.
The Company anticipates that its PSIP expense for the full year will be negligible, as it currently does not anticipate making or committing to make additional contributions to the PSIP or ESOP. As a result, our compensation expense in 2010 will be lower than 2009. During the first six months of and full year 2009, PSIP expense was $28 million and $53 million.
PSIP expense by segment for the quarters and six months ended September 30, 2009 and 2008 was as follows:

Quarter Ended Six Months Ended September 30, September 30, (In millions) 2009 2008 2009 2008 Distribution Solutions $ - $ 5 $ - $ 12 Technology Solutions - 6 1 15 Corporate - - - 1 PSIP expense $ - $ 11 $ 1 $ 28

Distribution Solutions segment's operating expenses decreased compared to the same periods a year ago primarily reflecting the sale of two businesses during the first and third quarters of 2009, our continued focus on containing costs, no PSIP expense in 2010 and the favorable impact of foreign exchange rates. These decreases were partially offset by an increase in expenses associated with our 2009 business acquisitions. Operating expenses as a percentage of revenues decreased compared with the same periods a year ago primarily due to the sale of two businesses during the first and third quarters of 2009, our continued focus on containing costs and no PSIP expense in 2010.
Technology Solutions segment's operating expenses decreased compared to the same periods a year ago mostly due to cost containment efforts, lower PSIP expense and the favorable impact of foreign exchange rates. During the third and fourth quarters of 2009, the segment implemented reduction in workforce plans which benefited the second quarter and first six months of 2010.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED)
Corporate expenses increased compared to the same periods a year ago mostly due to additional costs incurred to support various initiatives. The increase during the second quarter is primarily due to higher compensation, pension and benefit costs. In the second quarter of 2010, we reversed a previously established litigation reserve. See Financial Note 12, "Other Commitments and Contingent Liabilities," for further information.
Other income, net decreased primarily reflecting a $24 million pre-tax gain from the sale of our 42% equity interest in Verispan recorded in 2009 and a decrease in interest income due to lower interest rates in 2010. Interest income is primarily recorded within our Corporate segment and financial results for Verispan were recorded within our Distribution Solutions segment.
Segment Operating Profit and Corporate Expenses:

Quarter Ended Six Months Ended September 30, September 30, (Dollars in millions) 2009 2008 Change 2009 2008 Change Segment Operating Profit (1) Distribution Solutions $ 415 $ 406 2 % $ 845 $ 790 7 % Technology Solutions 116 71 63 219 137 60 Subtotal 531 477 11 1,064 927 15 Corporate Expenses, Net (80 ) (63 ) 27 (144 ) (121 ) 19 Interest Expense (47 ) (35 ) 34 (95 ) (69 ) 38 Litigation Credit 20 - NM 20 - NM Income Before Income Taxes $ 424 $ 379 12 $ 845 $ 737 15 Segment Operating Profit Margin Distribution Solutions 1.58 % 1.57 % 1 bp 1.62 % 1.53 % 9 bp Technology Solutions 14.68 9.32 536 14.29 9.10 519

(1) Segment operating profit includes gross profit, net of operating expenses plus other income for our two business segments.

Operating profit as a percentage of revenues in our Distribution Solutions segment increased for the second quarter and the first six months of 2010 compared to the same periods a year ago primarily reflecting lower operating expenses as a percentage of revenues, partially offset by the gain on the sale of our equity interest in Verispan during the second quarter of 2009. In addition, operating profit as a percentage of revenues was negatively impacted by a lower gross profit margin for the second quarter of 2010.
Operating profit as a percentage of revenues in our Technology Solutions segment increased compared to the same periods a year ago primarily reflecting decreases in operating expenses as a percentage of revenues and an increase in gross profit margin.
Corporate expenses, net increased primarily due to additional operating expenses as previously discussed and a decrease in interest income.
Interest Expense: Interest expense increased compared to the same periods a year ago primarily due to our issuance of $700 million of long-term notes in February 2009.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED)
Income Taxes: The Company's reported income tax rates for the second quarters of 2010 and 2009 were 29.0% and 13.7% and 30.3% and 23.7% for the first six months of 2010 and 2009. Fluctuations in our reported tax rate are primarily due to changes within state and foreign tax rates resulting from our business mix, including varying proportions of income attributable to foreign countries that have lower income tax rates. During the second quarter of 2010, income tax expense included $13 million of net income tax benefits for discrete items primarily relating to previously unrecognized tax benefits, related accrued interest and international tax credits. During the second quarter and first six months of 2009, income tax expense included net discrete items of a benefit of $76 million primarily relating to previously unrecognized tax benefits and related accrued interest. The recognition of these discrete items was primarily due to the lapsing of the statutes of limitations. Of the $76 million of net tax benefits, $65 million represented a non-cash benefit to McKesson.
Net Income: Net income was $301 million and $327 million for the second quarters of 2010 and 2009, or $1.11 and $1.17 per diluted share. Net income was $589 million and $562 million for the first six months of 2010 and 2009, or $2.17 and $2.00 per diluted share.
Weighted Average Diluted Shares Outstanding: Diluted earnings per share were calculated based on an average number of diluted shares outstanding of 271 million and 280 million for the second quarters of 2010 and 2009 and 272 million and 281 million for the six months ended September 30, 2009 and 2008. The decrease in the number of weighted average diluted shares outstanding primarily reflects a decrease in the number of common shares outstanding as a result of repurchased stock, partially offset by share-based awards exercised. Business Acquisitions
During the first quarter of 2009, we acquired McQueary Brothers Drug Company ("McQueary Brothers") of Springfield, Missouri for approximately $190 million. McQueary Brothers is a regional distributor of pharmaceutical, health and beauty products to independent and regional chain pharmacies in the Midwestern U.S. This acquisition expanded our existing U.S. pharmaceutical distribution business. The acquisition was funded with cash on hand. Approximately $126 million of the purchase price allocation was assigned to goodwill, which primarily reflects the expected future benefits from synergies to be realized upon integrating the business. During the first quarter of 2010, the acquisition accounting was completed. Financial results for McQueary Brothers have been included within our Distribution Solutions segment since the date of acquisition.
During the last two years, we also completed a number of other smaller acquisitions within both of our operating segments. 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. Pro forma results of operations for our business acquisitions have not been presented because the effects were not material to the consolidated financial statements on either an individual or an aggregate basis.
New Accounting Developments
New accounting pronouncements that we have recently adopted as well as those that have been recently issued but not yet adopted by us are included in Financial Note 1, "Significant Accounting Policies," to the accompanying condensed consolidated financial statements.

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McKESSON CORPORATION FINANCIAL REVIEW (CONTINUED) (UNAUDITED)
Financial Condition, Liquidity and Capital Resources We expect our available cash generated from operations, together with our existing sources of liquidity from our accounts receivable sales facility and short-term borrowings under the revolving credit facility and commercial paper, will be sufficient to fund our long-term and short-term capital expenditures, working capital and other cash requirements. In addition, from time-to-time, we may access the long-term debt capital markets to discharge our other liabilities.
Operating activities provided cash of $1,533 million and $548 million during the first six months of 2010 and 2009. Operating activities for 2010 primarily benefited from improved management of drafts and accounts payable as well as inventory. Operating activities for 2009 reflect a decrease in drafts and accounts payable, as well as increases in our accounts receivable and inventory balances primarily associated with the timing of payments and receipts, as well as inventory purchases. Cash flows from operations can be significantly impacted by factors such as the timing of receipts from customers and payments to vendors.
Investing activities utilized cash of $192 million and $453 million during the first six months of 2010 and 2009. Investing activities include $189 million and $170 million in capital expenditures for property acquisitions and capitalized software in 2010 and 2009 as well as $6 million and $320 million in 2010 and 2009 of payments for business acquisitions. Activity for 2009 includes the McQueary Brothers acquisition for approximately $190 million.
Financing activities utilized cash of $267 million and $329 million in the first six months of 2010 and 2009. Financing activities for 2010 and 2009 include $322 million and $351 million in cash paid for stock repurchases, partially offset by cash generated from stock issuances of $108 million and $65 million for 2010 and 2009.
In April 2008, the Company's Board of Directors (the "Board") approved a plan to repurchase $1.0 billion of the Company's common stock, of which $830 million remained available at March 31, 2009. During the second quarter and first six months of 2010, we repurchased 1 million and 8 million shares for $24 million and $299 million, leaving $531 million available for future repurchases as of September 30, 2009. Stock repurchases may be made from time-to-time in open market or private transactions.
In July 2008, the Board authorized the retirement of shares of the Company's common stock that may be repurchased from time-to-time pursuant to its stock repurchase program. During the second quarter of 2009, all of the 4 million repurchased shares, which we purchased for $204 million, were formally retired by the Company. The retired shares constitute authorized but unissued shares. We elected to allocate any excess of share repurchase price over par value between additional paid-in capital and retained earnings. As such, $165 million was recorded as a decrease to retained earnings.
On October 9, 2009, we paid $295 million into the escrow account related to the AWP Litigation settlement. See Financial Note 12, "Other Commitments and Contingent Liabilities," for further information.
We believe that our operating cash flow, financial assets and current access to capital and credit markets, as evidenced by our debt issuance in February 2009, including our existing credit and sales facilities, will give us the ability to meet our financing needs for the foreseeable future. However, there can be no assurance that continued or increased volatility and disruption in the global capital and credit markets will not impair our liquidity or increase our costs of borrowing.

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