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Executives

Paul Surdez

William E. Klitgaard - Chief Information Officer, Corporate Senior Vice President and Treasurer

Joseph L. Herring - Chairman and Chief Executive Officer

Analysts

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

David H. Windley - Jefferies & Company, Inc., Research Division

Robert P. Jones - Goldman Sachs Group Inc., Research Division

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

Ricky Goldwasser - Morgan Stanley, Research Division

John Kreger - William Blair & Company L.L.C., Research Division

Todd Van Fleet - First Analysis Securities Corporation, Research Division

Garen Sarafian - Citigroup Inc, Research Division

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Douglas D. Tsao - Barclays Capital, Research Division

Timothy C. Evans - Wells Fargo Securities, LLC, Research Division

Sean W. Wieland - Piper Jaffray Companies, Research Division

Covance (CVD) Q1 2012 Earnings Call May 3, 2012 10:00 AM ET

Operator

Good day, everyone, and welcome to the Covance First Quarter 2012 Investor Earnings Conference Call. Today's call is being recorded. At this time, for opening remarks, I'd like to turn the call over to Vice President, Investor Relations, Mr. Paul Surdez. Please go ahead, sir.

Paul Surdez

Good morning, and thank you for joining us for Covance's first quarter 2012 earnings teleconference and webcast. Today, Joe Herring, Covance's Chairman and Chief Executive Officer; and Bill Klitgaard, Covance's Chief Financial Officer, will be presenting our first quarter financial results. Following our opening comments, we will host a Q&A session. In addition to the press release, 18 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. Certain of the 2011 financial measures we will discuss on this call are non-GAAP measures, which exclude the effects of events outside of our normal operations, such as items associated with our previous restructuring. We believe that providing these measures helps investors gain a more complete understanding of our results and is consistent with how management views our financial results. For a reconciliation of GAAP to pro forma results, please refer to supplemental schedules included in our press release issued last night.

Now I will turn it over to Bill for a review of our financial performance, which begins on Page 4 of the slide show.

William E. Klitgaard

Thank you, Paul. Good morning, everyone. All results in the first quarter of 2012 are presented on a GAAP basis, and in my comments, I'll be comparing those results to previously reported pro forma results from 2011. Net revenues for the first quarter were $531 million, that's an increase of 5.7% over the first quarter of last year. Growth was 5.9% on a constant dollar basis. Sequentially, a stronger U.S. dollar resulted in a slight $2.4 million FX headwind.

Operating income in the first quarter was $46.1 million, resulting in an operating margin of 8.7% of net revenue. This was down 220 basis points sequentially and 80 points year-on-year. EPS was $0.60 per share, which is flat year-on-year and down $0.13 from last quarter. The sequential decline in earnings per share was driven by weak performance in Early Development and to a lesser extent, the increased spending on information technology, which were partially offset by the strong performance in Late-Stage.

The benefit of the share repurchase program added approximately $0.02 to EPS in the quarter. The effective tax rate for the quarter was 21.6%, and we expect a similar effective tax rate as we look ahead to the rest of 2012.

Now please turn to Slide 5. In the first quarter, Early Development contributed 40% of net revenue, and Late-Stage contributed 60%. Also in the first quarter, 51% of our revenue came from the U.S., 15% from Switzerland, 12% from the U.K., 8% from countries in the Eurozone and the remaining 14% from the rest of the world.

Now please turn to Slide 6 to discuss the segment results. In Early Development in the first quarter, net revenue was $212 million, a 5.5% year-on-year reduction, as declines in revenue in both our North American and European tox services, as well as our Discovery Support Services more than offset year-on-year growth in other services.

Sequentially, revenue declined $22.8 million, driven primarily by a sharp decline in volumes from our Global Toxicology Discovery Support Services, as demand from a number of our large clients was well below expectations. Revenue in our Discovery Support Services were also impacted by seasonal buying patterns in our contractual minimum volume agreement. In Clinical Pharmacology, revenues while up year-on-year were down sequentially on a higher-than-expected level of study delays and cancellations.

Operating income for the first quarter was $11.3 million, which was down significantly on both the year-on-year and sequential basis. We had expected operating margins for the first quarter in the low double-digit range, and actual operating margins at 5.3% were well below that expectation and compares to 13.9% last quarter and 11.9% in the first quarter of 2011. The decline in profitability, both year-on-year and sequentially, was driven primarily by the lower revenue levels in global toxicology and Discovery Support Services where operating margin drop-through on the downside was very high, as well as to weakness in Clinical Pharmacology services.

Now turning to Late-Stage Development. Net revenue in the quarter was $319 million, which is up $21 million from the fourth quarter levels and up 14.9% -- 14.8% rather from the first quarter of last year. Sequential and year-on-year revenue growth was driven by the very strong performance of our Phase II-IV Clinical Development services. I'd also highlight that our revenues in Central Laboratory services increased year-on-year and sequentially in both reported dollars, as well as on a constant currency basis. Late-Stage Development operating margin was $72.4 million or 22.7% of revenue, that's up 270 basis points sequentially and 250 basis points from a year ago.

Now please turn to Slide 7 to recap the orders and backlog information. Adjusted net orders in the first quarter were again very strong at $704 million, which represents an adjusted net book to bill of 1.33:1. Backlog at March 31 stood at $6.28 billion, which is up -- $137 million sequentially on strong orders and $48 million tailwind from foreign exchange.

Now please turn to Page 8 for a review of cash flow information. We ended the quarter with DSO at a record low 29 days, as compared to 38 days at the end of Q4 and 37 days a year ago. This result was driven by a large increase in client advances in Clinical Development, particularly at the very end of the quarter. We expect these advances to get worked down as services are performed on projects and as a result, we continue to target year-end DSOs of approximately 40 days.

Cash equivalents were $440 million at the end of the quarter, a $51 million increase from the cash flow at the end of last year. At the end of the quarter, our debt balances stood at $340 million, which is up $30 million -- up from $30 million at the end of last year, due largely to borrowings made to finance stock repurchased during the quarter.

Now with regard to the share repurchases, I'd like to highlight that Covance purchased approximately 5.9 million shares of its common stock at a cost of $277 million in the quarter. Based upon the timing of the share repurchases to date, we estimate that the EPS accretion will be near the high end of the targeted $0.15 to $0.20 range we provided in our guidance last quarter. There remains $58 million of share repurchase authorization, which we plan to complete later this year.

Free cash flow for the quarter was $15 million consisting of operating cash flow of $45 million and capital expenditures of $30 million. We continue to expect full year CapEx of approximately $180 million in 2012. Corporate expenses were $37.6 million or 7.1% of net revenue in the quarter, and this compares to pro forma corporate spending of $34.2 million last quarter and $34.9 million in the first quarter of last year. We expect corporate spending to rise throughout 2012, as spending increases on the data center consolidation investment. And finally, we ended the quarter with 11,528 employees.

Now I'd like to turn the call over to Joe for his comments.

Joseph L. Herring

Thanks, Bill, and good morning, everyone. Let me start by summarizing 4Q results. First, Early Development results were disappointing, coming in significantly below our expectations. To adjust what we now see as a small toxicology market, we are further reducing our capacity and cost structure. Second, Late-Stage Development results were very strong, especially in Clinical Development, and Central Lab volumes improved for the third consecutive quarter. This enabled us to meet our consolidated first quarter financial targets.

Next, adjusted net orders were outstanding once again, exceeding $700 million for the second consecutive quarter and growing 25% year-on-year. Central Labs and Clinical Development each had record adjusted net orders in the quarter. Finally, the strategic IT projects we announced last quarter are all running on time and on budget.

I'd now like to detail these results and the actions we are taking. Within Early Development, toxicology, Discovery Support and Clinical Pharmacology services all performed below our expectations. As we reported on the fourth quarter call, January activity was very light across the segment and February continued at that low level. However, we experienced a sharp recovery in March with segment revenues increasing 12% over the run rate from the first 2 months of the quarter and operating margins increasing to 8.5%.

In toxicology, our larger clients were very slow to place and start work in the first quarter. Even though the first quarter was light for these clients, by and large, they continued to forecast full year 2012 volumes consistent with last year's levels. In the first quarter, we did see a marked increase in business from transactional clients but not the level we needed to offset the lower volume from our large client segment.

Toxicology orders were softer in the first 2 months of the quarter but rebounded strongly in March, ultimately exceeding our expectations for the full quarter. This uptick in orders continued in April and is expected to drive increased revenue and profitability in Q2. In Discovery Support Services, the traditionally slow seasonal buying pattern from our clients covered under CMV agreements was more pronounced than usual. While we're seeing this every year in Discovery Support, the magnitude of the swing caused the service line to lose money in Q1. Since a large portion of Discovery revenue is covered under CMV agreements and orders improving, we expect to see a nice pickup in volume over the next 3 quarters.

In Clinical Pharmacology, results were also sequentially lower, with the primary driver being study delays and cancellations. In addition, orders were quite soft leading us to forecast a further sequential decline. While the business can rebound quickly, we are reviewing a number of cost actions to help get Clinical Pharmacology back on track. Rounding out Early Development results. Research Products, which lost money in the fourth quarter, returned to profitability in the first quarter, and our Chemistry services performed largely as expected.

I will now provide more detail on the cost actions we announced last night. These actions are intended to better align toxicology capacity, earn preclinical market demand and improve Early Development profitability. Overwhelmingly, our clients have changed their decision process and incentives relative to new compounds they advance into regulated drug development.

Five years ago, leaders of preclinical development inside Pharma companies were getting paid for shots on goal. This volume-driving strategy also coincided with the time of robust biotech funding. The combination of these 2 factors created an era of peak demand and limited supply. Covance positioned itself very well to capitalize on these market dynamics and delivered superior results for many years. However, after a decade of declining R&D productivity, patent cliffs and increased financial pressures, our clients are now getting paid for shots in goal, which intensifies their focus on the quality of the compounds they nominate for development. This change in focus has significantly reduced industry demand at a time when biotech funding has also slowed considerably.

So our clients are investing in fewer, though hopefully, much better characterized compounds to put into GLP toxicology. It has become increasingly clear to us that demand at these lower levels is the new normal, and we need to adjust our capacity accordingly. Frankly, as I look back over the last several years, the results of building new toxicology capacity that came online just as the market turned down, as well as holding on to our capacity in anticipation of a market rebound, yielded very disappointing Early Development results for Covance. Obviously, if we had today's information a few years ago, we would have made different decisions. We are now moving forward with more substantial corrective actions.

Perhaps most notably, we are closing our Chandler, Arizona facility. This is the large preclinical laboratory we built to service a rapidly growing West Coast customer base that is now much smaller than when we began building the facility in 2006 and '07. Beginning immediately, we will plan to consolidate all GLP toxicology work in North America into our Madison facility with the exception of DART and Gene Tox, which will be conducted in Greenfield, Indiana. When we closed our Vienna, Virginia laboratory last year, we retained approximately 80% of our clients, and we are targeting a similar level for our Chandler clients.

As the graph of Slide 9 depicts, following the close of Chandler, our remaining room capacity in North America will be very close to 2007 levels. We believe this action positions us for a substantial margin expansion as volumes increase in Madison and Greenfield. We are planning to permanently close the Chandler facility once all projects are completed, which we expect to be by year end. Given our large write-down of the Chandler facility in 2010, we do not expect additional large write-downs related to those assets.

In addition to the Chandler closure, we will simplify, streamline and reduce our overall Early Development cost structure. A combination of these cost and capacity actions are expected to deliver gross annualized savings of at least $20 million, of which approximately 1/3 is expected to be realized in 2012. We are also evaluating further cost actions in Early Development. Some of these actions will take a little more time to assess, while others are contingent on the outcome of discussions we are currently having with clients.

These ongoing client discussions could generate awards, which significantly increase our capacity utilization. We expect to provide an update on these additional cost actions during our Q2 investor call. Even as we reduce our footprint, our Early Development services remain an important part of our service portfolio. While we are adjusting capacity to what we see as this new normal run rate for demand, providing industry-leading services, which help our clients select and develop, take in effect a drug candidate, remains a core Covance strategy. Additionally, when we assist clients with candidate selection, lead optimization, early efficacy and preclinical development services, we become a more obvious choice to secure Clinical and Central Lab work. And of course, our ability to cross-sell our entire portfolio uniquely positions us to strike broad-based R&D alliance agreements that create value for our clients and for Covance.

Let's now turn to Late-Stage Development, which delivered 60% of the company's revenue last quarter. Results were simply outstanding. First, Clinical Development had a tremendous quarter, with revenue growth well in excess of 25% and robust growth in operating income both year-on-year and sequentially. Covance Clinical Development continues to take market share because of our people. We are capitalizing on our service quality, innovative study design, trust-based client relationships developed by our clinical project leaders and the value our clients see in our Accelerate tool set.

In the first quarter, our client satisfaction scores were at all-time highs and our annualized employee turnover was less than 10%. Our clinical team delivered another terrific order quarter as well, and the pipeline of new opportunities remains robust. Central Laboratories continues to show signs of an upturn. While we model flat sequential growth for Q1, revenues were up several million dollars on higher kit and testing volumes, more than overcoming some foreign exchange headwind.

For the third consecutive quarter, Central Lab revenue grew sequentially on a constant currency basis. Cancellations, while still higher than we would like for them to be, moderated a bit from the very high levels we experienced in the back half of 2011. This lower level of cancellations, combined with substantial growth wins in the quarter, drove record adjusted net earnings for our Central Lab. Following 2 quarters of strong orders and a moderation in cancellations, we now expect modest sequential revenue growth in Central Laboratory versus our previous expectation of roughly flat revenue for 2012.

I would now like to comment on the important management appointments we announced last night. John Repko, our Chief Information Officer for the past 6 years, has been recruited to become the CIO of a large, diversified industrial services company. His placement speaks favorably of the talent and execution skills of our IT organization. We thank John for his many contributions and wish him well in his new assignment. We are taking advantage of this opportunity to enhance our IT leadership and make a key succession move which highlights our bench strength.

First, Bill Klitgaard has been appointed Chief Information Officer. Bill is a proven and disciplined executive who possesses a wide range of financial, strategic and Information Technology skills. Bill has tremendous passion for technology and informatics, and he's been a thought partner for me, the executive management team and the IT organization over the past decade. While serving as an executive sponsor of our IT steering committee, Bill played a critical leadership role in development and funding of the IT programs we shared with you last quarter. These programs underpinned the longer-term growth and success of Covance. Also under Bill's leadership, our finance team delivered a complex enterprise-wide financial system on time and on budget. And finally, Bill has also helped conceptualize and develop our informatics investments, including our highly successful Accelerate product.

As part of our succession planning process, we identified and have been developing an outstanding successor for Bill in the CFO role, Alison Cornell. Alison joined us in 2004 from AT&T where she was the Finance Head for a $30 billion division. She quickly made her mark as a future Covance Executive by co-leading the transformation of our Clinical Development Service organization into an important growth engine for Covance. Next, she was promoted to lead our enterprise-wide financial planning and analysis team. In this role, she has delivered exceptional results from several high-impact projects. Alison has been honored with 4 of Covance's most prestigious leadership awards. She was also a key driver of the cost and capacity rationalizations we announced both last year and today. Approximately 75% of the Covance finance staff already reported to Alison so she is well prepared to hit the ground running. Finally, Alison, who's with a client today in the U.K., has been a key member of our earnings reporting team over the last several years. She will be participating in several investor conferences in the second quarter beginning next week.

Now, I'd like to turn the call back over to Bill to comment on the progress of our IT investments and to provide our forward outlook.

William E. Klitgaard

Thanks, Joe, and thanks for your kind comments. I asked for this role in IT because I'm truly energized by the opportunity we have in Information Technology to transform and differentiate our services for our clients. I'd now like to update you on the progress of our strategic information investments, which are proceeding as expected, thanks to the work of our great IT team and our business teams as well.

For our clinical tools initiative, we have successfully signed vendor contracts for the clinical trial management systems and electronic trial master file aspects of that investment. And the hardware builds are now in progress. For our data center consolidation project, we begin the build-out of our European data center, and we anticipate installing equipment this summer, and we signed a lease for the U.S. data center and equipment is scheduled for installation and testing over the remainder of this year. Once complete, we will then begin the migration of our U.S. application data center.

Finally, regarding the implementation of a Central Lab system, we have completed the first 2 releases of a new data system and will continue to deploy functional releases in this staged manner throughout this year and into next year. The forecasted 2012 total IT operating expense we provided you last quarter of approximately $200 million remains unchanged. We will continue to update you on these projects throughout the year.

Thank you, Joe. Now I'm going to move on to our outlook for 2012. In the second quarter of 2012, we expect to deliver mid-single-digit year-on-year revenue growth and sequential increase in revenue in both segments. IT expenses will grow sequentially. And in total, we expect second quarter earnings per share, excluding the cost associated with our new cost actions, to be several cents above the first quarter level. For the full year 2012, we continue to forecast mid-single-digit year-on-year revenue growth and diluted earnings per share in the range of $2.50 to $2.80 per share. And those exclude -- that range excludes the cost associated with recently announced actions and assumes foreign exchange rates to remain roughly in line with March 31 levels. We expect stronger performance in Late-Stage Development services to offset weaker performance for early-stage services.

Okay. Now let me turn it back to Joe for his closing remarks.

Joseph L. Herring

Let me summarize how we see the road ahead. Strategies and investments we have made in our clinical business are paying huge dividends, and we are positioned to drive sustained profitable growth. Our investment in Central Lab's automation have allowed us to deliver solid margins even during the downturn, and volumes are now increasing. We are taking significant cost actions to get Early Development back on track. Our order performance has consistently met and exceeding -- and exceeded our expectations during a time of global economic and industry turmoil. Our investments in IT will help increase our competitiveness and are expected to be a strong lever for earnings growth beginning in 2014. And we have differentiated Covance as a company that formulates innovative R&D alliances that benefit both us and our clients.

And finally, our unwavering commitment to our foundational strategy of operational and service excellence continues to position us well with clients. Covance was once again recognized as a premium brand in the marketplace in 3 new independent surveys issued in the last month. We will continue to build upon our strong service and quality reputation at a time when clients are looking to more aggressively than ever outsource R&D activities. We believe they will continue to look to a trusted, global broad-based partner like Covance.

Operator, you may now open up the line for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question will come from Eric Coldwell with Robert W. Baird.

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

I have several questions around early-stage toxicology primarily. Joe, the facility closure activity was, I think, fairly understood to be an option on the Street. It came a little earlier than I expected. It might be obvious why Chandler as opposed to other rationalization throughout the network, but I was just curious if you could give us a better sense on why Chandler. And then maybe a follow-up on what's going on in Münster and Harrogate where you've also taken cost actions over the last couple of quarters.

Joseph L. Herring

European toxicology is actually improving. We didn't call it out because overall, toxicologies were so disappointing. But there have been winning work now for a couple of quarters and improving on that front. With respect to why Chandler. Actually, Chandler's close to breakeven. It's a spectacular facility and a great team, but this decline in demand really begs for less capacity in the industry. And the savings that we are talking about here of at least $20 million was enabled largely by giving -- by reducing group costs. And so some of the savings will start to sprinkle in with respect to Chandler in Q3 and Q4 but enabled a much bigger cost takeout in infrastructure overheads, support services and other items. We also did market research over the last couple of months, Eric, and as the market has changed, clients are less sensitive to geography. And finally, the beachhead we had at Madison is very strong. It's a battleship facility that is trusted and respected by clients around the world. And the work from Chandler that will transition in that facility will be disproportionately more profitable than having done it in Chandler.

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

All fair. Just a couple of quick follow-ups. So you'll have the facility and acreage in Chandler, also Manassas and Vienna, I think if I'm not mistaken, you still have facilities and land in those markets. What is the thought process on all of this real estate? Do we get kind of a silver lining with some asset sales down the road?

Joseph L. Herring

Well, yes, we hope so. The Vienna facility, once we've wrapped up the studies, there's a time period to raise the facility and do the environmental analysis and prepare it for sale. We're closing a lot of those processes out now. So it's really just now being prepared to be marketed. The Manassas facility is in a very nice technology park but the activity is silent, driven by the broader economy. And Chandler is a pretty fresh decision. But if you add it up -- all up, it's a significant value that we hope to capture over the next year or so as the commercial real estate market begins to recover.

Operator

And we'll now go to Dave Windley with Jefferies.

David H. Windley - Jefferies & Company, Inc., Research Division

Joe, on the Late-Stage business, which obviously performed well in the quarter, I'm wondering how much of the strength in that business is now being supported or contributed to by strategic client CMV-type deals. Some of those have some -- maybe less Late-Stage component to them but some, and I wondered how much that is contributing there.

Joseph L. Herring

In terms of the revenue and margin production, I would say -- the type of clients you were characterizing I would say is very low. But the volume is picking up, and I would say it's more representative in the order volume that you saw in the last 2 quarters.

David H. Windley - Jefferies & Company, Inc., Research Division

Okay. And with the growth in Clinical, I saw that hiring headcount is going up not surprisingly. Where do you stand in your hiring needs to support the mid-20s growth rate in the Clinical business?

Joseph L. Herring

I think we're in good shape.

David H. Windley - Jefferies & Company, Inc., Research Division

So pretty much all in the curve, huh?

Joseph L. Herring

Yes.

Operator

And we'll now go to Robert Jones with Goldman Sachs.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

Just wanted to follow up on the closing of Chandler, and I appreciate, obviously these are never easy decisions. I guess, Joe, maybe just a little bit more about why permanently decide to close it as opposed to potentially just mothballing it for now. And then you mentioned in the slides that with the reduction of Chandler, this puts Covance back to 2007 levels as far as capacity. For perspective, I was wondering maybe if you could just share where demand is today relative to '07 and pricing as well.

Joseph L. Herring

We think demand is somewhat similar to 2007 or maybe slightly lower from a headcount perspective. On the backside of the moves we announced today, we're going to have less headcount than 2007, something more like in the 2005 range, prices is lower, solid double-digits, lower than it was at the time. But at the same time, we put in enterprise-wide IT systems and have been driving about 300 Six Sigma projects over the last several years. And so a combination of technology process improvement, our people are more productive. And obviously, this issue of having too many rooftops is something that we had to get after.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

Understood. And I guess just a follow-up on Late-Stage, really good growth in Clinical and Central Lab. In the quarter, it sounds like net orders even stronger than the performance we saw this quarter. Just trying to get a sense of the profitability in Late-Stage, specifically to the IT spend. Maybe, Bill, if there's any color you could give around the ramp in the expenses that were disclosed around IT in 2012, that would be really helpful.

Joseph L. Herring

From an IT standpoint, several million in the first quarter and it's going to ramp as we go through the year. And then first quarter is a seasonally strong quarter for Clinical Development because you really don't have holidays. In the fourth quarter, you have both the Thanksgiving and Christmas holiday where you're paying people to take their holidays. And obviously, the tremendous sequential jump in margin was driven by additional volume plus people working the full quarter. As you look into the second, and increasingly in the third and fourth quarter, you have drags in terms of vacation time and holidays there. So really terrific margin jump in the first quarter. And we see that being sort of flattish throughout the year. I guess increasing volume is somewhat offset by increasing IT spending, as well as the seasonality.

William E. Klitgaard

And I mentioned before, I think the IT spending for the year, we stay on track for our prior guidance of around, roughly speaking, $200 million of spending. It will be stepping up a little bit quarter-to-quarter throughout the year as some of these big projects come online. But there's no change in trajectory or performance. On time on budget, that's the new mantra.

Joseph L. Herring

So Bill is emphasizing the IT in his M.I.T MBA right now.

Operator

And our next question will come from Tycho Peterson with JPMorgan.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

I'm sorry, I'm going to ask you one more on Chandler. But as we think about that business, you had always kind of staffed it fairly leanly. So can you just talk about whether that business had actually turned profitable for you? And then also, maybe just talk about what happens to the anchor client as -- has that business already been committed to move?

Joseph L. Herring

The staff, it was greater than 100 heads. Chandler has been profitable for a number of quarters, been unprofitable for a few quarters and most recently relatively close to breakeven. And we have been in discussion with all the clients placing work there. And obviously, they're -- we're pretty close with them. They see what's going on in the industry and with our company and suspect something like this would happen. And basically they told us they're happy to work in Madison. So those discussions are obviously happening today as well, but we're optimistic based on historical, as well as our knowledge of the clients that we'll move that volume to Madison. And obviously, that should be a good guide for us.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

And then with regards to the IT investments that you talked about last quarter. And I mean, now that you've had a little bit of time to kind of communicate to clients your strategy there, can you just talk about the reception from your customers in the field and importantly how you're thinking about kind of the payback on those investments? And is there an ability to kind of get better visibility on future business as a result?

Joseph L. Herring

It's really less about describing the projects to the client because frankly, they could sort of care less about the projects. What the clients are seeing and what they're excited about are value creating information and decision support tools around site selection, ramping up trials faster, managing grants in a more cost-effective way, providing them productivity information on how a trial is ramping, providing forecasting tools in terms of how much clinical supply they will need, predicting case report forms -- I'm sorry, data management pages and things like that. It's really the information they're excited about. And frankly, both -- what we can deliver now manually or sort of tweaking the systems, is helping us differentiate Covance and win work. A lot of the projects we talked about are literally finding ways to automate that make it go faster, make it more robust. And again, Bill has been the visionary and the thought leader here, and Informatics has reported to him for the last couple of years, and he's been the architect of a lot of that, at least the strategic architect. And so really these systems are designed to help place that information tools in the hands of our teams and our clients. And then the other benefit, which is very obvious, is that we can arrest the growth rate in IT spending. Take something that's been growing 11%, have it grow 0% to 2%, and that's a huge earnings driver as we start to look at 2014. So what we're trying to do is make these strategic investments that make us more competitive and more valuable as a partner to clients. And with some of the actions we're taking in preclinical, I think you start to look at 2013 and go, well, the IT investments are big but they're important but with these cost takeouts, Covance has a chance to really start growing earnings maybe faster than we thought. And then you get another earnings juice in 2014. So we like the way things are shaping up for us. Clearly, the Early Development downturn was worse than expected but it will bounce back and it can give us some good opportunities.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Okay. And then just to be clear on the trends in Late-Stage because we've had a few people ask on it this morning. I mean, obviously, it's a little bit of a benefit from some of the strategics, and should we assume I think for the year that, that business is kind of high-single digit, not necessarily what you saw this quarter?

Joseph L. Herring

Well, I think Late-Stage is poised to be better than we thought. And we are counting on that to offset the softness that we saw in Early Development in the first quarter. But no, I think the outlook for Clinical and Central Labs is better than we thought.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Okay. But was there a timing component here? In other words, were there a couple of big projects that were pushed through by the strategics that may be in play this quarter?

Joseph L. Herring

No, no, no. There was some of that in orders, as I said earlier, but not from a revenue perspective. Pretty broad-based.

Operator

Next is Greg Bolan with Sterne Agee.

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

So Bill, how will you treat revenues and presumably losses as you decline business at Chandler through the course of 2012?

William E. Klitgaard

The wind-down costs and the losses during that wind-down will be pro forma treatment.

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

Okay. That's great. And then, Joe, on Central Labs, how would you size what would be the major drivers for the year-on-year growth? We haven't seen year-on-year growth like this since, I guess, 1Q '10. So kind of sizing between market share gain and just a general uptick in patient enrollments that I think you kind of have characterized last quarter as being somewhat flat trailing 12 months.

Joseph L. Herring

The number one factor by far is cancellations moderating. So you can imagine a study that's ramping up and going as canceled has an immediate impact in revenue, and not so much as in clinical but a little bit of stranded cost. And like I said throughout all of this, gross orders have remained at or above target. It's more of cancellations. So moderation in cancellations is the biggest single driver.

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

That's great. And then do you continue to believe you are gaining share or flat or down?

Joseph L. Herring

Well, as we look at the broader market we think, as measured by orders, that we continue to take some shares.

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

That's fair. That seems right. So you used a major portion of the share buyback authorization in 1Q at about $1 lower than where the stock is today, presumably going to be several bucks lower by the market close. But, Joe, as the cash balance continues to grow, would you continue to be an incremental buyer around these levels?

Joseph L. Herring

Well, we got the majority of what the board authorized done in the first quarter, and we'll buy opportunistically throughout the balance of the year.

Gregory T. Bolan - Sterne Agee & Leach Inc., Research Division

Okay, that's great. And then I guess lastly, Joe, I imagine the decision to shutter Chandler was probably very tough, so congrats on making such a difficult decision.

Operator

We'll take our next question from Ricky Goldwasser with Morgan Stanley.

Ricky Goldwasser - Morgan Stanley, Research Division

I'm just trying to better understand the margin progression going forward. So if you can just help me a little bit with how we think about margin. So closing Chandler obviously has a positive impact on margin, but can you just give us some more detail as to what better margins means? Is it from kind of at this quarter level, or should we think about it more from last year's levels and expansion from there? And then kind of like the same type of question on Late-Stage. How will margin progress for the remainder of the year? How do we think about it? I mean, obviously, great backlog, good orders, so we should assume continued growth on the revenue line, but any help on the margin side would be great.

Joseph L. Herring

Yes. So first off, from an Early Development standpoint, I think the jumping off point for the second quarter is that March level, 8%, 8.5% range. And again, we had -- even though the orders came late in the quarter, we had a good order quarter in Early Development. And that continued into April. And so at that volume, we're talking about margin going forward, something probably in the 8% to 10% range. But this business has been highly variable and unpredictable. That's the reason why we're taking cost out. But I think I would be modest in that forecast and hopefully be surprised on the upside. In Late-Stage, in earlier question, I sort of detailed that out that the first and second quarter generally are strong margin quarters seasonally for the business. That will be tempered a little bit by the IT spend, which we've talked about, as well as some seasonality later in the year. But on the other hand, if we continue to win new work at the level that we're talking about, that could be a good guide as well. So, I guess those are my thoughts, Ricky.

Ricky Goldwasser - Morgan Stanley, Research Division

Okay. And just on the going forward, the 8% to 10%. Is that kind of like how we should think about year end for 2012?

Joseph L. Herring

Well, you're asking me to forecast a business that burns its backlog in 30 to 40 days, that has been very variable -- highly variable. And so I don't know if I'm going to peg a number that specifically. But the most recent data has something kind of 8% to 10% range as we factor in the cost actions that we take in and see how much work moves, and there's a number of variables. I mean, the DTS, the Discovery business, the clients performed at their CMV, and new orders that we won start dropping in. That will improve as well. But keep in mind, ClinPharm had a terrible quarter, both as a P&L and order standpoint. And so we think that trickles down in the second quarter, and hopefully rebounds as the year goes. So that's -- we think some sequential improvement going forward, but we're not going to characterize it more specifically than that at this point in time.

Operator

Next is John Kreger with William Blair.

John Kreger - William Blair & Company L.L.C., Research Division

Quick question for Bill. Bill, you took on a fair amount of debt in the quarter to fund the buyback. Will you be looking to pay that down with cash flow, or are you thinking about that more as permanent capital going forward?

William E. Klitgaard

No, I think we're going to pay it down as we generate positive cash flow. Keep in mind, the debt is entirely within the U.S. So it has to be U.S. cash flow that pays it down. I will say it was a little bit odd to see the debt balance pop up so much and have still positive increase in cash balances. And the entire reason for that was the advances that came unanticipated right at the end of the quarter. And so we actually got to pay down $35 million of that debt the first week in April. And I wish I could have -- had that happen right before the quarter end but it didn't work that way. But we will use the cash we generate to pay down debt as we go forward.

John Kreger - William Blair & Company L.L.C., Research Division

Great. And then, Joe, I think earlier in this call you talked about some of the surprising order flow coming in below expectations for your larger clients. Just coming back to that topic, as you think about that and better understand that as you talk to them, are you viewing that more as, I think the term you used, kind of a new normal? Or can it snap back over the next couple of quarters, particularly in Early, since it's not just about toxicology, right?

Joseph L. Herring

Right. Yes, well, I think as we said, John, the orders rebounded sharply in March and actually came in on the full quarter expectation that we had. But because they came in late, we didn't get February and March benefit from January orders. But March pharma clients, I tell you, there's still a lot of chop and turmoil and turnover of staff. And just the normal process of getting the budget for the year, lining up the work, prioritizing the work, is usually a January and most of February phenomenon. And that's been for almost 16 years I've been with the company. This year, it just took another month longer than it had historically, but as I said in the prepared comments, in specific conversation with these clients, they expect to place a similar amount of work, if not a little bit more, than they did last year. And a number of these are under CMV commitments. So they have a strong commitment to get the work to Covance. So I guess that's how I would characterize it.

John Kreger - William Blair & Company L.L.C., Research Division

Got it. So realizing it's very hard to predict early, given the quick turn, but would it be reasonable to assume that if those comments are accurate, by the fourth quarter you could kind of get back close to where you were at the fourth quarter of last year or does that seem aggressive?

Joseph L. Herring

Well, I mean, I think that's a reasonable way to read it. You could be dour and come up with a less rosy outlook. And you could actually come up with a more rosy outlook than that. But I think that would be sort of middle of the road-ish.

John Kreger - William Blair & Company L.L.C., Research Division

Great. And then a final question. Looking at your headcount, it seemed like headcount growth year-over-year was a little bit faster than revenue. Guessing it's trending up in Late-Stage and down in Early. If you think about the rest of the year, would you expect headcount to about trend with revenue growth, or more, or less?

Joseph L. Herring

Yes, approximately so. And then some of the hiring in the fourth -- in the first quarter, I'm sorry, was actually in Discovery where we have a big chunk of work coming and we had to hire about 33 heads ahead of that volume. And so -- and then the rest was pretty much in Clinical Development, but one of the processes that our clinical team has done an incredible job on is really on the recruiting and retention front. Our turnover was sort of at historical lows, which helps with bringing on new work. And their ability to hire the right people in the right geographies and onboard them and train them has -- it's been amazing, the progress that they've made. And obviously, Clinical Development is a headcount management kind of a business, and it's a core competency that's really helped with client satisfaction, employee satisfaction, as well as productivity.

Operator

Next is Todd Van Fleet with First Analysis.

Todd Van Fleet - First Analysis Securities Corporation, Research Division

Just trying to understand how you're thinking about the impact of Chandler considering that we're not looking at a changing guidance here from an EPS standpoint and so on? And it's a pretty broad range of EPS guidance, I recognize that. But is -- if you're going to be excluding the Chandler results from the results of operations moving forward, is there an offset and is that offset the decline in the pharma -- the Clinical Pharmacology business? I'm just trying to understand what is the offset to the benefit that you're getting from the lower expense base by excluding Chandler.

Joseph L. Herring

Well, Todd, it's largely a reflection of the volatility that we've seen in the business. And the $7 million approximately benefit is certainly a good guide, but within a 30-cent range, and we're only 90 days into the year, we'd rather see some more cards before we make any dial ups or dial down. Keep in mind, Early Development is jumping off from a lower point and fortunately, Late-Stage is jumping off of a higher point. And we'll just keep you updated as things go.

Todd Van Fleet - First Analysis Securities Corporation, Research Division

Okay, Joe, if I could follow on to that, then the -- so as I think about the performance of Chandler and then the business that's going to be winding down that maybe would have gone to Chandler but will move to another location, I mean is your expectation -- let me ask, let me ask this. How much of the business that is in Chandler today is going to be moving, I guess, to other facilities? Do you expect it to be 100%, or do you think that they're all -- as you look at the list of customers and the base of business that you have there today, how much potential is there for follow-ups? So do you expect 70%, 80%, half of the revenue that's in there today to flow to the other facilities by the beginning of next year?

Joseph L. Herring

Based on our historical experience, as well as watching other competitors, we model something in the 75%, 80% range.

Operator

We'll now go to Garen Sarafian with Citi.

Garen Sarafian - Citigroup Inc, Research Division

First, I guess, congratulations, Bill, on your transition to CIO. We'll miss your thoughtful remarks but happy you're taking on and pursuing an important role within the company, so congrats. And I wanted to move on to just some of the Central Labs comments you had made. You had said that the -- you mentioned that the cancellation rates were moderating. So I just thought that incremental revenue in Central Labs would flow disproportionately to the bottom line. So could you just give any more maybe qualitative color as to how much they've moderated? It just sounds like it hasn't been too significant.

Joseph L. Herring

Yes. I think in the prepared comments we said, while higher than we would like, moderated from the very high levels in Q3 and Q4. And again, we've been modeling and signaling flat and have beat that in constant dollars for the last 3 consecutive quarters. Keep in mind that we were also putting in place the new Central Lab IT system, and that carries a pretty healthy DNA drag on operating margins.

Garen Sarafian - Citigroup Inc, Research Division

Got it. And then...

Joseph L. Herring

And keep in mind, we also have a little bit of FX headwind in the first quarter as well. So the incremental margin performance impact was very strong, but there were some other items that tamped that a little bit.

Garen Sarafian - Citigroup Inc, Research Division

Got it. And then you guys mentioned that the first couple of waves were released. What's the -- how many waves are there in total, and what's the time line on that?

Joseph L. Herring

I'm going to turn you over to my new CIO here.

William E. Klitgaard

Look, this is a very complex business, and it's a brand new lab system we're putting in place. We're going to be cautious. We're going to put out bits and pieces of this. We're not going to try and drop it in all at once. There's going to be several micro releases throughout this year and probably into next year even just to make sure that everything's running appropriately. But it's going to be on time on budget at the end of all this. We're not going to have a variation. We're certainly not going to upset the apple cart with respect to operations at Central Lab.

Garen Sarafian - Citigroup Inc, Research Division

Got it. And then moving on to the Tox business. The additional cost actions that you're evaluating, I think in the prepared remarks, it was mentioned that we could expect to hear more on the second quarter call. So I'm just wondering, how much of these future cost actions depend on client discussions versus the trends that you've been seeing March and into April continuing to improve?

Joseph L. Herring

Well if I sat and ranked it, I would say first and foremost is these client discussions. I mean we have a couple discussions ongoing that could bring pretty substantial volume into the system. And so that would be the #1 driver. And then the second thing would really be the demand we see going forward. And then last of all was that some cost actions take longer to assess and understand the cost and risk and impacts, and we want to be careful. And so I would just say that on the Q2 call, I think we'll bring all of that into sharper focus because we'll have more information.

Operator

Next is Steve Unger with Lazard Capital Markets.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Just quickly on -- first question. Can you ballpark, I guess, what the costs of the wind-down will be in 2012?

Joseph L. Herring

We have those internally. I think it's still being worked through exactly. It depends upon the number of projects that we have and how long they will extend. I don't really want to give you a number right now because I'm afraid it's still preliminary.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Okay. So it's still preliminary.

Joseph L. Herring

It's not a huge number, not a huge number, no.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Okay. And then it sounds like you're much more confident, Joe, in the Central Lab. I know it's a difficult business to forecast. So we're sitting at modest growth now, and your bookings have substantially improved over the last couple of quarters. When you look at 2013, I don't want to get too far ahead of ourselves, but as you're guiding at mid-single digit top line growth for '12. Are we talking accelerated revenue growth for 2013 since the Clinical business looks like that can sustain very high levels of growth?

Joseph L. Herring

We're still trying to get our feet underneath this from Q1. So we're not worried about 2013 yet, but the next quarter or 2, I think we'll start thinking about that.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

But all things being equal, it's looking better than worse, right?

Joseph L. Herring

Yes.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Got you. And then as far as just the overall Late-Stage margin. We had a 20% margin last year. I think with the incremental IT expense, your previous guidance was for that to come down in 2012. Your comments today, it looks like we're going to be higher than that in 2012?

Joseph L. Herring

Yes.

Stephen S. Unger - Lazard Capital Markets LLC, Research Division

Okay. So the Late-Stage margin that we have here in the first quarter, you believe is a sustainable margin even with the incremental IT expense?

Joseph L. Herring

Well, I think it would be safer to model something lower than that because the IT expense is going to increase. And as you well know, Steve, there's seasonality both in clinical and Central Labs where we're paying people as they're taking their holidays, as well as clients and investigator sites taking holidays as well. So I think I'd tamper it down from there.

Operator

And we'll now go to Douglas Tsao with Barclays.

Douglas D. Tsao - Barclays Capital, Research Division

First, I want to congratulate Bill on his transition and just appreciate, you're always [indiscernible] helpful to us in understanding the business. But also just sort of thinking about the fundamentals, I was just hoping you could provide some perspective on the Greenfield facility. Obviously, you acquired it from Lilly and they are providing a significant amount of work there. Can you just help me provide some perspective on the ex-Lilly client contribution at that site and the client concentration there?

Joseph L. Herring

I quit counting when we got over 100 non-Lilly clients placing work there. And then obviously, we've put a nutritional chemistry lab there, we're moving some of our CMA call center work there. It's becoming a much more broadly utilized facility than just the Lilly work. I don't have at my fingertips nor do we disclose what that percentage is. But it's increasingly non-Lilly work substantially. I'm not sure we're quite at the halfway...

Douglas D. Tsao - Barclays Capital, Research Division

The majority of the work is non-Lilly?

Joseph L. Herring

No, not yet.

Douglas D. Tsao - Barclays Capital, Research Division

Okay. And then could you also just provide an update on the business, the Genomics lab work that you acquired from Merck in 2009 with that 5-year guarantee? Just sort of along the same lines, how has that business been in terms of building out a broader client portfolio?

Joseph L. Herring

Very successful. I think the last time I checked we were somewhere in the 40 to 50 non-Merck clients. And the synergy with everything else we do has just been very pleasing, and it's a great capability and we've gone into the next-gen technology and clients have applauded that. It's just -- it's been a hand-in-glove sort of thing.

William E. Klitgaard

I think also the comment I'd make there is that the focus -- the management team there has shifted the focus more towards the Clinical Development arena as opposed to preclinical. And it shows extremely well with clients who come by. I mean it really speaks to them about the capabilities of our company and has generated a lot of interest, not only in that facility but sort of more generally about the strength of Covance.

Operator

And we'll go to Tim Evans with Wells Fargo.

Timothy C. Evans - Wells Fargo Securities, LLC, Research Division

In the latter part of last year, you announced that a client had renegotiated one of their CMV contracts and opted to do more clinical work under a non-CMV contract. I was wondering if that client is booking clinical business as you expected.

Joseph L. Herring

Well, we said Late-Stage business, and the answer is yes.

Timothy C. Evans - Wells Fargo Securities, LLC, Research Division

Okay. And could you offer a little bit of color on what you think is going on in the Clinpharm business? I know some of your competitors have seen some stabilization in that type of business, and so just maybe a little color on that.

Joseph L. Herring

Well, I think if you look over the last 3 years, we have performed better than the market in Clinpharm. And a part of that is our program management capability that pulls molecules through pre-clinical into Clinpharm in a cross-selling systematic selling way. And the second thing is our large CMV clients all have a minimum contract commitment to place Clinpharm work. So those 2 factors have allowed us to perform far better than what we hear from competitors in the marketplace. What really hurt us in the first quarter was delayed and canceled work from large clients, and as well as orders were weak. So we're guiding down in the second quarter from even the first quarter level, which was not a loss, but it was far below our expectations. But again, these clients have seen the commitments to Covance and they're saying back half of the year, plus we're picking up a couple of new clients there, and so we'll see. It's a fit-and-start kind of a business. And it's just that first quarter was more of a fit and the second quarter looks like a dip, and we're trying to build volume, as well as take cost actions to protect the back half of the year.

Timothy C. Evans - Wells Fargo Securities, LLC, Research Division

Okay. So they can pace -- your CMV clients can pace the business over the year however they want to. There's no specification in the contract on how it has to get paced?

Joseph L. Herring

It's an annual review, not a quarterly review.

Operator

We'll now go to Sean Wieland with Piper Jaffray.

Sean W. Wieland - Piper Jaffray Companies, Research Division

So could you characterize the labor market in the industry, especially given some of the hiring practices of your competitors? And is it increasing, stable or decreasing?

Joseph L. Herring

I would say stable. It's not been a rate limiter for our growth or our service quality. Having said that, hiring and on-boarding several hundred people in the quarter, it's hard work. But it's not been a drag on our ability.

Operator

And our final question today is a follow-up question from Eric Coldwell with Robert Baird.

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

Two hopefully quick ones. First off on Phase I Clinpharm. Given the strong demand and very high pricing in generics, have you ever considered or would you consider repositioning existing facilities to go after that market where, historically, I know that hasn't been a major focus?

Joseph L. Herring

Not in a serious way, Eric.

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

Okay. So cost actions probably more in the traditional sense in the future if needed?

Joseph L. Herring

Right.

Eric W. Coldwell - Robert W. Baird & Co. Incorporated, Research Division

Okay. The other question is -- we've clearly and I think obviously seen the clinical activity accelerating across the group. And there's been a theme that eventually that would pull forward some of these delayed longer-term regulated Oncogenicity and even the DART studies. One of your -- your big competitor confirmed that they saw some action there -- here recently. I'm really curious what your status is with the DART business, in particular the developmental and reproductive talks in the build-out in Greenfield. Where are you with that new facility and initial client traction?

Joseph L. Herring

Yes. Thanks, Eric. In terms of the Oncogenicity studies, we did see some nice wins in the first quarter and then abruptly delayed which was somewhat disappointing. But I don't know that looking at our order book that we see a sea change relative to more sustained and persistent demand for Phase II, III or other trials matriculating along. And with respect to DART, I'd say we're running pretty much on track with the transition of clients from Vienna to Greenfield and starting to attract new clients. So I would say, at expectation.

Paul Surdez

Well, I think that was the last question. Operator, you can end the call. And before you do that, I'd like to thank everyone for their time this morning. I am available if you do have follow-up questions. Thank you.

Operator

Thank you very much. And that does conclude our conference for today. I'd like to thank everyone for your participation.

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