Covance Inc. Q2 2010 Earnings Call Transcript

Covance Inc. (CVD)

Q2 2010 Earnings Conference Call

July 29, 2010 09:00 am ET

Executives

Paul Surdez - VP, IR

Joe Herring - Chairman & CEO

Bill Klitgaard - Corporate SVP & CFO

Analysts

Ross Muken - Deutsche Bank

Eric Lo - Bank of America/Merrill Lynch

Eric Coldwell - Robert W. Baird

Steve Unger - Lazard Capital Markets

John Kreger - William Blair & Company, LLC

Robert Jones - Goldman Sachs

Greg Bolan - Wells Fargo Securities, LLC

Todd Van Fleet - First Analysis Security Corporation

Douglas Tsao - Barclays Capital

Lesley Owens - UBS

Dave Windley - Jefferies & Co.

Tycho Peterson - JPMorgan

Andy Schenker - Morgan Stanley

Presentation

Operator

Good day, and welcome to the Covance second quarter 2010 investor conference call. This call is being recorded. At this time, for opening remarks, I would like to turn the conference over to Vice President of Investor Relations, Mr. Paul Surdez. Please go ahead, sir.

Paul Surdez

Good morning and thank you for joining us for Covance's second quarter 2010 earnings teleconference and the webcast. Today Joe Herring, Covance's Chairman and Chief Executive Officer; and Bill Klitgaard, Covance's Chief Financial Officer will be presenting our second quarter financial results.

Following our opening comments, we will host a Q&A session. In addition to the press release, 21 slides corresponding to the commentary you are about to hear are available on our website at www.covance.com.

Before we begin the commentary, I would like to remind you that statements made during today's conference call and webcast, which are not historical facts, might be considered forward-looking statements. Such statements may include comments regarding future financial results and are subject to a number of risks and uncertainties; certain of which are beyond Covance's control. Actual results could differ materially from such statements due to a variety of facts, including the ones outlined in our SEC filings.

Now, I will turn it over to Bill for a review of our financial performance, which begins on page four of the slideshow.

Bill Klitgaard

Thank you Paul and good morning everyone. Net revenues for the second quarter were $475 million, an increase of 2% over the second quarter of last year. Sequentially, net revenues declined $6.8 million but was up $1.7 million at constant exchange rates.

Operating margin was 8.9% in the second quarter. Included in second quarter results were cost associated with the consolidation of our Austin Phase I clinic and Kalamazoo research products facility into other existing sites, and other cost reduction actions totaling $7.7 million. Costs consist of primarily of approximately $3 million severance, $2.5 million of facility lease obligations and $1.5 million in accelerated depreciation.

In the third quarter we expect to carry an additional $1.5 million of costs related to these actions. Excluding the $7.7 million of second quarter cost, consolidated operating margin was 10.6% versus 11% last quarter and 12.9% in the second quarter of 2009.

EVS in the second quarter was $0.49 including $0.09 from facility rationalization and cost reduction action. That compares to $0.60 in the first quarter of 2010 and $0.67 in the second quarter of 2009. Effective tax rate in the second quarter was 24.9%. We expect the full year 2010 effective tax rate to be approximately 25%.

Please turn to slide five now. In the second quarter of 2010, early development contributed 44% of our revenue and late stage 56%. In the second quarter 57% for our revenue came from United States, 15% from Switzerland, 11% from the United Kingdom, 6% from countries within the euro zone, and the remaining 11% from the rest of the world.

Now please turn to page six to discuss segment results. In early development, in the second quarter net revenues grew 4.2% year-on-year to $208 million. Sequentially, revenues increased $3 million or $6 million on a constant currency basis, primarily from growth across our chemistry and discovery services.

Global tax revenue. Toxicology revenues were down slightly from first quarter levels but up on a constant currency basis. Second quarter early development operating margins were 10.8% versus 11.2% last quarter and 13.6% in the second quarter of last year. Included in early development second quarter operating income, the facility of rationalization and other cost reduction actions totaling $6.7 million, excluding these costs, operating margins is a segment of 14%. Our early development revenue and profitability improved in the second quarter. Our most recent forecast for the third quarter indicate pressure on profitability due to weaker GLP Toxicology which shows (inaudible).

Now please look at late-stage development. Net revenues in the quarter were $267 million, which is up 0.3% over last year. On a sequential basis revenues were down $10 million in reported dollars or $4.5 million in constant currency. And we're impacted by three delayed Phase III trials we discussed last quarter. Third quarter late-stage development revenues are expected to be roughly inline with second quarter.

In terms of full year outlook, we now anticipate year-on-year segment revenue growth, a low single-digit range in 2010. This compares for our previous expectation for mid single-digit revenue growth.

Our forecasted operating margins in the second quarter in late-stage development were 21.2% compared 23.9% in the first quarter and 24.6% in the second quarter of last year. Operating margins in our central labs, we still are at the first quarter level we stabilize the first quarter level but we're lower in clinical development. Looking again, late-stage operating margin is expected to remain at the 21% range in Q3 before decreasing in Q4. For the full year we continue to expect operating margins in 22% range.

Please turn to slide seven to recap orders and backlog. Adjusted net orders in the second quarter were $590 million which represents an adjusted net book-to-bill of 1.24 to 1. Backlog at June 30 grew 3.6% year-on-year to $44.83 billion compared to $4.63 billion at June 30, 2009. Backlog is just $38 million from the end of last quarter more than overcoming a $31 million negative impact in foreign exchange.

Now please turn to page eight for a review of cash flow data. Net DSO at June 30 was 47 days. That compares to 42 days at the end of last quarter and 41 days at the end of second quarter 2009. The increase in DSO was primarily due to the timing of cash flushes and the achievement of (inaudible) milestones. We expect DSO to moderate the low 40-day range in the back half of the year.

Cash and equivalents was $291 million at the end of June, a $23 million increase compared to $268 million at the end of the first quarter; we remain debt free. Free cash flow for the second quarter was $24 million, which consist of operating income; operating cash flow rather of $61 million less capital expenditures is $37 million.

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