Pharmaceutical Product Development, Inc., 2009 Guidance Call Transcript

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 |  About: Pharmaceutical Product Development, Inc. (PPDI)
by: SA Transcripts

Pharmaceutical Product Development, Inc. (NASDAQ:PPDI)

2009 Guidance Call

January 15, 2009 9:00 am ET

Executives

Dr. Fredric N. Eshelman - Vice Chairman and Chief Executive Officer

Daniel G. Darazsdi - Chief Financial Officer

William J. Sharbaugh - Chief Operating Officer

Analysts

John Kreger - William Blair & Company

Jon D. Wood - Banc of America Securities

Randall Stanicky - Goldman Sachs

David Windley - Jefferies & Co.

Steven Halper - Thomas Weisel Partners

Douglas Tsao - Barclays Capital

Greg Bolan - Wachovia Capital Markets

(Jake) - Raymond James

Sean Wieland - Piper Jaffray & Co.

Eric W. Coldwell - Robert W. Baird & Co., Inc.

Operator

Welcome to the Pharmaceutical Product Development 2009 Guidance Call. (Operator Instructions). At this time, it is my pleasure to turn the conference over to the Vice Chairman and CEO, Dr. Fred Eshelman.

Dr. Fredric N. Eshelman

I will begin by saying that except for historical information, all statements, expectations, and assumptions discussed in today’s call including revenue and earnings guidance and compound partnering activities are forward-looking statement and involve a number of risks and uncertainties. Actually results might differ materially from those in the forward-looking statements. Information about the factors that cause actual results to vary is disclosed in the press release announcing our guidance and in the SEC filings for PPD, copies of which are available free of charge from our Investor Relations department.

Our net revenue forecast excludes reimbursed out-of-pockets. Although this non-GAAP financial measure is not superior to or a substitute for GAAP net revenue, we exclude reimbursed out-of-pockets from our forecasted net revenue because they are difficult to accurately forecast and are immaterial because they do not affect operating income, net income, or earnings per share. We also believe this non-GAAP measure is useful to investors because it more accurately reflects the net revenue that PPD will generate from it services and because it is useful in making period-to-period comparisons.

While 2008 was a challenging year in many respects, PPD closed the year with positive news including a listing on the NASDAQ 100 Index and announcements of lab expansions for GNP in Ireland and GCL in Singapore. The bullish news has continued with the closing of the Vaccine Lab and GCL deals with Merck which were announced on January 5th. Additionally, Takeda revealed the US regulatory review date for alogliptin, and last but certainly not least, we are excited about the prospects from Europe regarding dapoxetine.

Let’s now turn to 2009 and start by discussing the Discovery and Compound Partnering Segment. As you recall, dapoxetine was filed in Europe under the decentralized procedure in December 2007, with Sweden as the reference member state. Under this procedure, communicating member states have not raised additional issues, and national approval should begin this month or next. If obtained, the first two national approvals will each trigger a $2.5 million milestone payment for a total of $5 million. This amount is included in Q1 guidance. If approvals are received, upon launch, a double-digit royalty would begin on net sales followed by certain sales-based milestones if requisite sales levels are reached. We have not included any royalties in guidance at this time, preferring to wait for the early sales ramp to make any amendment to guidance should it be necessary.

For alogliptin, we have included the US approval milestone of $25 million in Q2 ‘09 and have also forecasted an EU milestone of $10 million in Q3 ’09. As with dapoxetine, we have not included any royalty income in the ’09 guidance, preferring to wait for early sales figures prior to making any adjustments to guidance if necessary. This segment also includes the biomarker and preclinical oncology labs. Taken together, they should generate approximately $20 to $23 million in revenue and basically break even operating income due to losses in the Biomarker Lab.

Totals for the Discovery and Compound Partnering Segment again without royalties from either dapoxetine or alogliptin should be revenue of approximately $65 million and an EPS contribution of $0.22. We will continue to look for compound partnering opportunities, but do not have anything far enough along to include in the guidance.

Turning to the Development Services Segment, we expect revenue growth of around 10% in 2009, ranging in absolute terms from $1530 million to $1605 million. We are forecasting EPS growth of around 10% for this segment, resulting in an EPS contribution of $1.75 to $1.83. This assumes gross and operating margins excluding stock option expense revolve around 50% and 20% respectively. Projected unit growth rates will probably continue to shift revenue ex-US, resulting in about a 60-40% revenue contribution from North America and rest of world respectively.

Revenue per FTE should rise slightly. CapEx is forecasted at about $85 million, with the majority for IT, facility improvements and expansions, and laboratory instrumentation. The overall rollup should look like this. Total net revenue of about $1595 million to $1670 million with a targeted 12% growth rate over projected 2008 net revenue. EPS for the full year of ’09 should be $1.97 to $2.05 representing about an 18% increase over 2008. By quarter, we believe that EPS number may be Q1 $0.38 to $0.40, Q2 $0.54 to $0.56, Q3 $0.51 to $0.53, and Q4 $0.54 to $0.56. We are optimistic about our business and believe that both segments will perform well.

Dan Darazsdi, our CFO, will now make some comments followed by Bill Sharbaugh, our COO. At the end of Bill’s comments, we will take your questions.

Daniel G. Darazsdi

All net revenue numbers, gross margins, and operating margins included in my remarks today exclude reimbursed out-of-pockets and stock option expense. We are expecting 2009 to be another strong year for PPD from a financial viewpoint in a challenging overall economic environment. In ’09, we anticipate solid topline growth of 12%, continued strong operating margin rates, EPS growth of 18%, and operating cash flow generation of over $250 million. Net revenue for the Development Segment in ’09 is expected to grow by approximately 10%. We expect revenue growth to increase as we progress through the year due to continued strength in Europe, Middle East, and Africa and Asia-Pacific regions. In addition, while North America growth is soft in the first part of ’09, we expect that it will increase as the year progresses.

Foreign exchange rates are expected to generate some revenue headwind in ’09 based on the anticipated strengthening of the dollar against the euro and pound sterling. Without this headwind, development revenue growth would have been approximately 1.5 percentage points higher based on average 2008 exchange rates. Our 2009 forecasted net revenue is based on an estimated overall cancellation rate of 25%. The percentage of forecasted revenue already included in backlog for our ’09 forecast is consistent with the percentage we used for our initial ’08 forecast.

We are forecasting average employment growth to be 8% in ’09, slightly lower than the revenue growth due to productivity improvements. Our projected development operating margin rates are expected to continue to run at a targeted rate of 20% as we continue to focus on operational excellence and deliver gross margin rates at our 50% targeted level. Management continues to focus on SG&A spending and improving productivity.

Included in our guidance is stock option expense for ’09 net of tax of $0.11 to $0.12 per diluted share compared to a range of $0.13 to $0.14 per diluted share for ’08. Other income will be down approximately $0.03 in ’09, mostly due to lower yields on investment. For the full year of ’09, we are forecasting an effective tax rate of 31.5% to 32.5%. For ’09, our forecast is based on an average exchange rate of 1.49 for the sterling, 1.35 for the euro, and 0.45 for the Brazilian real. A significant portion of our foreign exchange exposure on earnings is hedged in ’09. As a result, if the US dollar weakens resulting in exchange rates of 1.64 for the sterling, 1.49 for the euro, and all else remains equal, the impact on our EPS guidance would be a reduction of approximately $0.02. We are forecasting approximately 120 million weighted shares outstanding for ’09 which is flat to ’08. Given our desire to maintain significant cash reserves in the current economic environment and the number of significant opportunities we see in the market at this time, we have not included any share repurchase in our ’09 assumptions. We are aiming our investment dollars on growth opportunities as evidenced by our InnoPharm acquisition, Ireland’s cGMP, Singapore GCL, and our new vaccine labs. In addition, we expect to continue to distribute our quarterly dividend at present levels for ’09.

Cash flow from operations in ’09 is anticipated to be north of $250 million. We made great strides in driving down DSOs in 2008 and will continue to focus on delivering DSOs in the low to mid 40s during ’09 in support of our strong cash flow delivery. With our new vaccine lab, we expect incremental ’09 revenue in excess of $30 million at our targeted operating income rate of 20% which is accretive by about $0.03 to $0.04 in 2009.

This concludes my remarks. I will now turn it over to our Chief Operating Officer.

William J. Sharbaugh

Let me start off with a general business outlook for 2009.

As Fred noted in his opening comments, PPD closed 2008 and opened 2009 with some very positive news. And while we enter 2009 facing the stiff head wins of the global recession which may affect R&D spending, it is clear that biopharmaceutical companies see strategic partnering as an imperative. The ability of a credible strategic partner is a differentiator in our sector, and PPD has the financial strength, operational expertise, and track record to be a stable, long-term, full service development partner to form bio-tacking government institutions. Additionally, the large global multi-service CRO such as PPD are better positioned to meet partnering requirements.

As R&D executives prioritize portfolios, we believe late stage assets will be allocated a larger percentage of the budget, and therefore late stage CROs such as PPD will fair better in the current market conditions. We’re forecasting 10% revenue growth for the development segment in ’09 while maintaining margins and working to decrease G&A. This will deliver development revenue of $1.53 billion to $1.605 billion and EPS of $1.75 to $1.83.

I would like to talk about our labs which have been the subject of recent announcements.

On December 16, 2008, we announced plans to open a central lab in Singapore based on market opportunity, customer feedback, and favorable discussions with the economic development board. We plan to be operational in the second quarter augmenting our existing central lab in China with a Singapore location that fills out our Asia Pacific footprint. For 2009 we expect central lab revenue growth in line with our development segment.

On December 18, 2008, we announced our intention to expand operations into Ireland by opening a cGMP analytical testing laboratory in Athlone. We will begin operations in the second half of 2009, expect to create up to 250 jobs and invest as much as $18 million over time to develop the facility. The expansion of our cGMP lab services in Europe will allow us to capture a broader set of customers. Service offerings will include method development and validation, stability studies, and quality control testing for all phases of drug development with an emphasis on inhalation based products.

The cGMP lab will be licensed by the Irish Medicines Board, and based on favorable discussions with the Ireland Investment and Development Agency, we will look for opportunities to place other operations in Ireland. For 2009, we expect GMP lab revenue growth in line with our development segment.

On January 5, 2009, we announced the strategic collaboration with Merck whereby we purchased Merck’s 130,000 sq. ft. vaccine testing laboratory in Wayne, Pennsylvania, hired 80 Merck scientists and technicians, and entered into a partnership to provide Merck with testing services to support their vaccine portfolio over a period of 5 years. Services include immunogenicity testing of a vaccine’s ability to induce neutralizing antibodies, PCRs for viral detection, assay development, and sample storage. The facilities involved in vaccine, antibody, and testing for new and existing vaccines such as HIV, Adenovirus, Influenza, HPV, Pneumococcus, Staph, HIB, Hep A, measles, mumps, rubella vaccine, zoster virus, rotavirus, and some other tumor types.

The acquisition gives PPD new capability in the vaccine and biologic testing market along with excess capacity which we can use to provide services to other customers. In addition, PPD entered into an agreement with Merck that significantly expands our existing central lab service relationship.

Under this agreement, PPD will be providing the majority of traditional central lab and sample storage services to Merck for its clinical development activities over a period of 5 years.

We expect the performance of our phase I clinic and bio-analytical lab to be stable contributors to operating income and margins in 2009. In our state-of-the-art clinic we will continue to target the more complex, first and human and cardiac safety trials and grow our dental pain trials. In the bio-analytical lab, we will expand our use of LCMS technologic for biologics and expand our program and sell neutralizing antibody assays.

Moving on to the phase II through IV business, we expect to see most of our revenue growth in EMEA, Europe, Middle East, Africa, and Asia Pacific. Our growth in North America is weighted to the second half of the year, and we are taking actions that we hope will accelerate that growth.

Across our phase II through IV business, added focus is being placed on improved execution, quality, data integration, our selling model, and flexibility in our customer service. We have a series of projects aimed at improving adverse event reporting, site start-up and selection, patient recruitment, study feasibility, and bid defenses to name a few. We expect these initiatives to result in more consistent delivery, increased productivity, and improved financial realization on each project which will preserve our growth in operating margins.

Our shared goal between operations and business development in 2009 is to enhance strategic and long-term relationships with our larger accounts to drive revenue and sustainability. We believe our size, proven track record of partnering, financial stability, and global multi-service footprint gives us an advantage. We will continue as always to evaluate acquisitions and partnerships that would enhance our growth trajectory and service offering in terms of geographic scope, technical capability, or market access. As an example, earlier this week, we announced the strategic alliance with World Health Information Science Consultants strengthening our post approval drug safety expertise in epidemiology, risk management, and pharmacovigilance.

That concludes my comments and I will turn it over to our CEO, Dr. Fred Eshelman.

Dr. Fredric N. Eshelman

Lori, we are now ready for questions and comments, please.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from John Kreger with William Blair.

John Kreger - William Blair & Company

I was hoping you could discuss the flow of new business that you saw around year end, and if you have any thoughts on what your Q4 book-to-bill might be?

Dr. Fredric N. Eshelman

Actually, we’re going to preserve those discussions for our end-of-the-year and Q4 call which should take place on February 10th.

John Kreger - William Blair & Company

Okay. Can you just give us an idea of what sort of demand dynamics you’re seeing? Specifically when you work out phase I versus phase II through IV, are you seeing a difference in demand from earlier states versus later states?

Dr. Fredric N. Eshelman

I don’t think so really. The phase I unit as Bill called specifically concentrates on first in man and complicated QTC and other types of cardiology studies so that we really don’t see a lot of clutter, but are really focused on new molecular energies and so forth and that flow of business seems to be fairly steady. I am not struck that it’s markedly going either up or down. So I can’t really differentiate the signing pressure, if you will, between phase I and later stage.

Operator

Our next question comes from Jon Wood with Banc of America.

Jon D. Wood - Banc of America Securities

Dan, can you characterize the working capital assumptions in the cash flow outlook? I appreciate the former comments, but the $250 million I guess is a base case scenario. Does that include some deterioration in the working capital matrix?

Daniel G. Darazsdi

It’s a good question. I just want to go back and want to reiterate that we made really nice DSO improvements throughout the way; we demonstrated that through the year. For 2009, our guidance is based on a low-to-mid 40s number, and it’s consistent with the progress we made through all of last year, and we’ve been able to drive down DSO. That’s the single biggest moving part of our working capital, and we’re continuing to expect to be able to stay at that level. Now, having said that, once you are down there, you’ll start to use some cash just based on DSOs and revenue growth, but we feel confident that we’re going to be able to continue to manage DSOs really aggressively and working off some really nice performance.

The only other part about the cash is the capital expenditure part when you get down to free cash flow. We’re characterizing that as $80 million to $90 million, and we think that’s an appropriate level given our requirements at this time.

Jon D. Wood - Banc of America Securities

Okay great. And then just on the share base, a flat share base is in the expectation; how’s that possible if you don’t have buybacks in the model? There is some dilution from options, correct? Is it just a function of your being very active in the share repurchase in the fourth quarter to get the starting rate down?

Daniel G. Darazsdi

I think your insight is right. What’s taking place through the course of our wait is that we were able to move the shares outstanding down faster than any options that came up. So, through the course of ’09 it will start to drift back up, but all in, year over year, it’s very very close on the total average share count for ’08 versus the total average share count for ’09. So, that $120 million I talked of is a reasonable low-end approach for the full year and you can expect that by quarter there will be some increase in share count to get us back to that average.

Operator

Our next question comes from Randall Stanicky with Goldman Sachs.

Randall Stanicky - Goldman Sachs

Dan, can you just help us understand some of the back half waiting to the guidance, may be some of the inputs that you’ve packed into that outlook?

Daniel G. Darazsdi

As we’ve talked our expectations are really pinned up against two parameters. One is, and as you saw throughout the course of ’08 and Bill pointed out, Europe, Middle East, Africa, and Asia-Pacific were quite strong from an authorization viewpoint, and so our expectations are that will come through, the revenue dynamics for the course of ’09. in addition to that, we see that the opportunities from our strategic partnership approach and what’s going on in the market should help us to improve the growth trajectory of North America through the course of the year and that’s one of the expectations underlying our ’09 guidance. So, while North America being slower at the beginning of the year, we’re expecting it to be able to recover through the course of the year based on some of our key BD initiative and expecting then we’ll take traction.

Randall Stanicky - Goldman Sachs

In reference to some of your competitors that they are looking at a book to bill moderating down to a range of close to $1.2; Fred, are you willing to pull it, your book to bill range that you’re factoring into your outlook out there?

Dr. Fredric N. Eshelman

No, I’d want to address it right now on a specific ratio. Obviously, we had to have an internal model of our expectations including cancellation rates. We certainly are not willing to take a Chicken Little approach at this point. We think that there’s huge opportunity out there. We believe that we’ll rebound. We continue to believe in the basic model of biotech and pharma which of course is you must generate new patents of innovative medicines to sustain your revenue and EPS model, and as far as we know there’s only one way to do that and that’s through R&D. So, while I think everybody is spooked a little bit right at this moment and we’re spooked in the fall of ’08 due almost to a perfect storm of an economic collapse in both the credit and equity markets and some consternation in some quarters over a regime change, an FDA leadership change, and so forth, and the uncertainty which surrounds that, not only regulatory wise, but pricing wise, but again we think that all that will become more clear in ’09. People will get back to business, they’ll start making decisions again, and this model will be fine.

Randall Stanicky - Goldman Sachs

Let me ask you differently; have you seen a slowdown in other CROs in this space or is it business as usual?

Dr. Fredric N. Eshelman

It’s business as usual in many respects. We track RFP or request for proposal volume as you might expect, and we have tracked it over the years. We track our average marketing log, we track all kinds of parameters to try to take the pulse of the market, so to speak, and while there has certainly been a sharp upward trend in all of those parameters really since ’04, on a quarterly basis, the noise level in there is tremendous, and what we have seen with the exception of ’04, every year subsequent to that, there seems to be somewhat of a slowing in all of those parameters in Q4 in terms of the business that we’re bidding on. That does not necessarily carry over into the win rates in the various quarters. So, in other words, we might have fewer proposals, but a higher win rate, and so the net-net in some of these quarters just plays a little bit different pattern than one might expect. We also had higher than our usual cancellations certainly in the first three quarters of ’08, and we would expect that to calm down a little bit in ’09 and going forward. So, without putting a specific ratio number on it, I hope that gives some color to the thinking behind our buildup.

Randall Stanicky - Goldman Sachs

As you talk to pharma managers and business with people at some of the companies you deal with, are you seeing people make decisions, are you seeing decisions being made or are you still seeing a slowdown in some of that activity here? Maybe, can you give us some qualitative color on what you are seeing in the marketplace as you talk to people?

Dr. Fredric N. Eshelman

I don’t want to stray into an area where we’re commenting on Q4 because we’re going to do that on February 10th, but as I say we believe that the inherent models are intact. We think maybe there has been some pause in decision making which we expect to pick up in ’09, and it almost has to or by default you are building in such delays in your development programs, if you are pharma and biotech, that you want to penalize revenue flows going out, and I think that’s the last thing that these companies want. And even in the small biotech space where there may be some consternation around DC funding and so forth, the flip side of that is it obviously might represent great potential for established pharma and biotech to pick off some of that stuff from those opportunities and the net result of that could quite possibly be a net increase rather than a net decrease.

Operator

Our next question comes from David Windley with Jefferies & Co.

David Windley - Jefferies & Co.

First one that I wanted to ask is, on the revenue growth guidance, I wonder, by the percentage side, point estimating on the 10%, I wondered if that implied that your 4Q revenue actually came in significantly below your expectations or rather does it indicate that you expect to be in the top of your range, because as I calculate it, the midpoint of this guidance range compared to your existing ’08 guidance would be about 8.5% to 9%, not 10%.

Dr. Fredric N. Eshelman

Any time you have a range you can pick almost any point you want to to pivot on and by quoting a 10% we’re trying to give you our best estimate of what kind of market rate growth we would expect and the kind of average increase in RFPs that we would expect and the hit rates we’re expecting and so forth and so on. So, I wouldn’t read too much into that in terms of what it does or does not represent about Q4, and in terms of any specific revenue number for ’04, we are not going to comment on that until February 10th. As you saw, we made no comment on ’08 guidance and per our standard procedure unless we think there’s going to be a material deflection, we don’t comment on guidance. So, I guess I’d have to leave that at that.

David Windley - Jefferies & Co.

Fred, in your presentation at the JP Morgan Conference earlier this week, there were a couple of data points I was interested in; one was your goal of 500 basis points of market share gains. Over what time period are you generally thinking about that, and through what mechanism do you think those gains will come?

Dr. Fredric N. Eshelman

We don’t have a specific annualized run rate for that. We certainly don’t expect to pick up 500 basis points in one year, but on the other hand, I would hate to give our guys a 5-year platform when I am hoping that I could do that in less than 5 years. So, we’ll do it as quick as we can. The obvious bases for picking up market share, I think are, several things in our minds. First and foremost, you’ve got to be the very best performer in the business, and if you are, the business will come to you and you will hold business. So, as always, that is the basis of any step of expectation for us. Secondly, as Dan and Bill pointed out, we believe that we’re very well positioned to continue to enter into strategic type relationships with big pharma of the nature that we did with Merck and previously Covance did with Lilly and some of our other competitors have done to our knowledge with other companies. We believe that is one of the waves of the future and obviously those can bring business in big buckets. And so, we’re going after that very hard. Lastly, as I presented at the conference in San Francisco, when we look at opportunities for growth in our core markets, we’ve reduced our expectation of annualized R&D spend to increase and I think that’s in line with what’s going on. However, we like some analysts believe that the penetration rate within and between clients is going to escalate, and if it does, then the opportunity number there is huge. So, we’re obviously concentrating on penetration rates as evidenced by quality and picking up some market share, hopefully from our competitors as I said through strategic relationships.

David Windley - Jefferies & Co.

I presume, in that market share, that market share could come from any of those sources? Right? From internal activity, from competitors, etc.?

Dr. Fredric N. Eshelman

Absolutely.

David Windley - Jefferies & Co.

Right. Final question; you commented on how you think the geographic spread of revenue will lay out generally in ’09, and more of that coming from XUS; historically PPD has been fairly heavy US and building out now more quickly lately in the XUS, does that geography push outside the US create any utilization differences or I think you’ve commented in the past that some of the European countries are more disjointed from a labor standpoint and because of the different country specific entities that you have to create, the margins aren’t as attractive there; just wondering if there was any shift in margin structure as a result of the growth outside the US?

Dr. Fredric N. Eshelman

Hopefully not, because you know our hurdle rates for operating margins, and I don’t think we would be entering into things that we felt would, in and of themselves, lower that operating margin. Now, certainly we may have some ramp-up in some of these things, particularly when we go Greenfield. In Singapore with the GCL and in Ireland, with the CGMP, we don’t expect to blow the doors off in terms of profitability or margin in ’09, but after the catch-hold in subsequent years we would expect those to perform at least equal to what we have right now or else there is no reason to do that.

Operator

Our next question comes from Steven Halper with Thomas Weisel Partners.

Steven Halper - Thomas Weisel Partners

If you look historically, the development business has grown much faster in the past. So the 10% number is much lower, and you talked about some delays in North America, better growth in the second half of the year. The question is, how do you feel about your win rates at this time?

Dr. Fredric N. Eshelman

I think a couple of things are occurring. Certainly the law of big numbers to a certain extent hits in, but I don’t want to hide behind that. Certainly, in North America, the growth rates of the last little bit have been very disappointing to me. They are far off what they were historically and we used to own the US market. So, as Bill and Dan pointed out, we’re taking great steps to try to turn that boat around. We looked at the opportunities that we’re bidding on because people had suggested, well, there are just not any opportunities in the US. Well, that’s just not true. There are multi-billion dollar opportunities as evidenced by our own RFPs where 80% or more of the work is done in the US. So, the only conclusion I can come to is somebody has kicked our butt all over the playing field in the US and we intend to turn that around. So, I think if we do that we’ll get our growth rate back up. As you know, we’ve also had the misfortune certainly in the first three quarters of ’08 to have cancellation rates which were above what we would expect, and what we normally see, and so the run rate on that book of business has disappeared, and therefore we can’t count on that in ’09. So, I think it’s a couple of things really that have come together. I am not going to tell you sitting here that we can do better than 10% necessarily top line for development segment in ’09, but we’re certainly going to try to put the machine together where we can get back on a little higher track in subsequent years.

Steven Halper - Thomas Weisel Partners

Just one further question on cancellation rates; historically it’s always been around 20%, you are assuming 25%, and I am assuming you are doing that just because that’s what it’s been recently?

Dr. Fredric N. Eshelman

Yes. That’s correct.

Operator

We’ll take our next question from Douglas Tsao with Barclays Capital.

Douglas Tsao - Barclays Capital

In terms of the backlog coverage, you indicated going into ’09 your forecast for ’09 was based on the same backlog coverage as what you had for ’08, but I think ’08 is going to end up being a little lighter than you originally anticipated. I was just wondering what were the factors that make you think that you can pace your forecast for ’09 off that same coverage rate, if the conversion appeared to be a little slower last year?

Dr. Fredric N. Eshelman

I think the first part of your statement implied that authorizations were going to be weak in ’04 and we’ve certainly not given that signal. So, I don’t want to comment any further. I don’t want to affirm that particular suggestion if that’s what it was. In terms of our calculations of backlog flow into ’09 from existing as Dan said, it is very very similar to what we’ve seen in the past, but it is actually, if I recall, a few basis points higher in terms of conversion than it was in the past, not materially. In terms of the average length of contract for the model in ’09, if I remember correctly, it is 34 to 35 months, which I think is actually slightly ahead of the average for ’08. So, I think maybe we’ve actually been a little bit conservative there.

Douglas Tsao - Barclays Capital

Okay. I wasn’t judging that the bookings were weak for the fourth quarter, obviously you haven’t commented them. I was wondering the fact that the top line growth, since you did lower the guidance in the middle of the year, you obviously ended up a little lower than your original expectation?

William J. Sharbaugh

Yes, that’s correct, but I think that was based on the Q2 weakness in ’07 and ’08 in terms of sales.

Operator

Our next question will come from Greg Bolan with Wachovia Capital Markets.

Greg Bolan - Wachovia Capital Markets

Can you first talk about your assumptions around discovery revenue growth in ’09, and is the strength coming from bio-market discovery or something else beyond the milestones?

William J. Sharbaugh

Beyond the milestones, no. As I pointed out, the preclinical oncology lab and the biomarker lab, those two things put together we’re expecting a revenue of $20 to $23 million and really pretty much will break-even on EPS because while the preclinical oncology lab performs fine, the biomarker lab is still losing money, and so it’s pretty much a wash on the EPS there. So, no huge contribution there. Most of what we’re seeing out of that reporting segment is the milestone.

Greg Bolan - Wachovia Capital Markets

Fair enough. And then, Fred, can you talk about new RFP structures that have been coming across your desk? What I mean by this is, as we look at big pharma, it is very clear that internal resources are shifting towards select therapeutic areas with a particular focus on compounds further along in the development process; is it safe to say that some of these sponsors, either because of deficient internal resources or just less interest in certain therapeutic areas, that they may be looking to bundle multiple clinical compounds into similar RPs and possibly then look to CROs like PPD to share some financial risk with the development?

Fredric N. Eshelman

Let me split that into two parts. We’re certainly seeing some activity around certain clients saying, “Look, what we’d like to do is really select a couple of players and just split our clinical development outsourcing between two people. Life’s too complicated to have more than that.” So, we are seeing that kind of phenomenon come into reality. So insofar, that would represent bundling of multiple compounds that might be. We’re also though seeing activity where somebody might say, and we’ve done this in the past, “Look, why don’t you do the majority of the work in a given therapeutic area and/or why don’t you take a compound all the way through when you’re really responsible for that compound pretty much from phase II onwards.” So, we’re seeing all of those kinds of things. In terms of risk share itself, we try to keep that over in our compound partnering arenas so that if we’re getting into those kinds of deals, then in terms of risk share, we got to have some opportunity to share in the compound itself as we go forward, not merely sharing risk so to speak on somebody else’s compound because that’s not shared risk, that’s just assumption of risk, and I don’t think we want to go there.

Operator

Our next question comes from (Jake) with Raymond James.

(Jake) - Raymond James

Dan, when I take a look at your quarterly EPS guidance, I believe it implies a pretty material ramp in your operating margins and I know Bill rattled off a few of your new business initiatives that should help margins, but is this implied ramp really a function of those initiatives gaining traction through the year or is there something else? If you could just delve into that a little deep that would be appreciated.

Daniel G. Darazsdi

Yes, there is not a great ramp in margins through the course of the year. We indicated that with the revenue that comes up, we’re going to get some incremental gross margin toward the end of the year, and I think it’s more of a function of the revenue ramp at basically the same kind of GP rates, we’re going to be managing overheads, but our expectations are that overall the margins are going to hold really well, both the gross profit level and the operating income level, and we’ll get a little bit of additional EPS pump as revenue growth.

Operator

Our next question comes from Sean Wieland with Piper Jaffray & Co.

Sean Wieland - Piper Jaffray & Co.

A couple of quick ones. The milestone payments, is that pretty much strapped to the bottomline or are they any faster?

Daniel G. Darazsdi

If you’re referring to dapoxetine and alogliptin, absolutely there is de minimis maintenance charge there where we have people working with the clients on patents, it’s very de minimis. So, I think in essence you’re absolutely correct, and barring something unforeseen, I think we’re much more confident in ’09 regarding these things than we have been here to fore, and with the dapoxetine thing, as we said, we’re looking for national approvals and licenses late this month or early next.

Sean Wieland - Piper Jaffray & Co.

And if there is any royalty revenue that does come in, I know it’s in your guidance, would there be any cost associated with that revenue?

Daniel G. Darazsdi

No.

Sean Wieland - Piper Jaffray & Co.

Second question is, just can you comment or give any additional color on use of cash?

Dr. Fredric N. Eshelman

I think as Dan and Bill both commented, we are very fortunate to be in the position that we’re in with no long-term debt and lots of cash which gives us a lot of flexibility in a time where on the one hand it’s tough and on the other hand it is filled with opportunity, and we’re looking at a lot of opportunities and we expect to execute on some opportunities, and that’s one of the reasons that we’re being conservative with cash. We are not looking to necessarily continue to pile it up because the returns we’re getting on it are miserable like most of you, so we would want to put this cash to use, not all of it, but some of it, and I think you can expect it hopefully to be along the same lines, we expand some of our operating units. We might make some niche acquisitions if appropriate. We would certainly entertain additional strategic type deals with clients. We continue to look for compound partnering opportunities, and we expect those to present themselves in ’09. So, I can’t say there’s some giant bucket coming along that we’re going to spend on. I think that there are enough various activities that would involve cash that we should be in a position to be able to execute.

Operator

We will take our next question from Eric W. Coldwell with Robert W. Baird & Co.

Eric W. Coldwell - Robert W. Baird & Co.

First, just a clarification, I missed the foreign currency rates this model for the euro, if you could repeat that?

Daniel G. Darazsdi

The exchange rates are 1.49 for the sterling, 1.35 for the euro, and 0.45 for the real.

Eric W. Coldwell - Robert W. Baird & Co.

Second question is regarding the Merck relationship I believe you quoted $30 million of incremental revenue and some incremental earnings, does that relate specifically to the partnership announced in January, the facility transfer, or does that also include the incremental traditional central lab work that you’re increasing with Merck?

Daniel G. Darazsdi

That’s specific to the new opportunity with the Wayne facilities that we acquired.

Eric W. Coldwell - Robert W. Baird & Co.

And then final question is, hoping we could an update on the Ranbaxy statin.

Dr. Fredric N. Eshelman

Yes, we have not done any additional clinical work on that. We continue the carcinogenicity studies of course and will let them run out to the end. We continue to look for folks that would be interested in partnering with us on the statin. I don’t have anything new to share with you unfortunately despite the fact that I’m sure you all saw the other day what a day it was in that well known medical journal, USA Today, that people are saying there are probably 11 million people in the United States alone additional who should be receiving statins. So, we’re a little bit disappointed. We haven’t seen more activity, but if and when we do have some we will certainly pass it along to you.

Eric W. Coldwell

One more followup, the tax rate came in a little lower than we were modeling. Could you, Dan, give us some direction on what’s driving that, what the opportunity is there?

Daniel G. Darazsdi

We do see some improvement as we’ve looked at your global tax rate and the geographic footprint for where the revenue and earnings are going. We do see the opportunity coming up, that the rate should come down somewhat through the course of ’09.

Operator

At this time there are no further questions. I would like to turn the conference back over to Dr. Fred Eshelman for any additional or closing comments.

Dr. Fredric N. Eshelman

Thanks a lot being on the call. If you have followup questions, please call Luke, Dan, myself, or Bill, or whoever is appropriate. Again, thanks a lot and good day.

Operator

Thank you very much ladies and gentlemen for joining today’s conference. This does conclude your call. You may now disconnect.

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