Rounding off a financial year marked by rationalisation, redundancies, cost reductions and restructuring, US-based drug development services company Covance had some cheer to impart when it reported fourth-quarter earnings and revenues comfortably ahead of analysts’ estimates.

Chairman and chief executive officer Joe Herring cited “progress on a number of fronts” during a “challenging” 2010, as well as a sequential improvement of 70 basis points in the fourth-quarter operating margin, once restructuring costs of US$18.4 million had been stripped out. However, the company’s profit forecast for the first quarter of the current year lagged significantly behind the analyst consensus.

Covance had announced a string of measures at the third-quarter stage to address “softer market conditions across much of our portfolio”, including consolidation of its North American toxicology services, pulling back on a planned East Coast preclinical facility in Manassas, Virginia, spending cuts, savings from process improvements, and restructuring of its executive management team.

These actions combined were expected to cost US$35-US$40 million, with more than half of that coming in the fourth quarter of 2010 and the remainder this year.

The company delivered fourth-quarter operating income of US$28.9 million for the quarter ended 31 December 2010, down by 47.4% on the fourth quarter of 2009. Diluted earnings per share (EPS) were US$0.45, 29.7% lower year on year and including a US$0.22 hit from the restructuring costs, partially offset by a gain of US$0.11 per diluted share from favourable income tax resolutions.

Without these elements, diluted EPS were US$0.56 for the fourth quarter (US$0.64 in Q4 2009), while analysts had been looking for US$0.53 per share. Net revenues for the quarter edged up 1.3% to US$491.5 million, against an analyst consensus of US$488 million.

In the full year, which included an asset impairment charge of US$119.2 million taken in the third quarter, along with the US$18.4 million in fourth-quarter restructuring costs, operating income dived 79.2% to US$47.5 million.

Diluted EPS were 61.3% lower at US$1.06, which included US$1.15 per diluted share from the impairment charge and US$0.21 per share in restructuring costs, but eased partly by a gain of US$0.27 per diluted share from favourable tax resolutions during 2010. Without these adjustments, full-year EPS would have been US$2.15 compared with US$2.60 one year earlier.

Net revenues for 2010 were US$1,925.6 million, an increase of 3.1% on the previous year.

Early/Late Development

In Covance’s Early Development segment, the Q4 picture was markedly better than in the third quarter, when the business recorded an operating loss of US$98.5 million after levying the US$119.2 million impairment charge to absorb an excess of the carrying value of US facilities in Chandler and Manassas over their estimated fair market value.

In the latest quarter, operating income for the Early Development segment was US$21.1 million (including restructuring costs of US$5.4 million), 8.3% lower than in the same quarter of 2009. Net revenues were up by 8.6% to US$220.6 million.

In Late-Stage Development, operating income fell by 25.4% to USE$47.6 million in the fourth quarter, which included restructuring costs of US$7.1 million. Revenues were also down, by 3.9% year on year to US$270.9 million.

Brighter spots

Among the brighter spots last year, Herring pointed to the strategic alliance with sanofi-aventis announced in October, which helped to drive annual backlog growth of 27%, and a significant improvement in Covance’s cost structure.

Fourth-quarter highlights included a sequential increase of 3.0% in net revenues; the aforementioned increase in operating margin (ignoring charges) from quarter to quarter, reaching 9.6% in Q4; and sequential growth of 130 basis points to 12.0% in the pro forma operating margin of the Early Development segment.

This last achievement reflected two months of results from Covance’s new sites in Porcheville, France and Alnwick, UK, as well as “modest improvement” in toxicology from a depressed level in the third quarter.

Solid fourth-quarter business awards in Late-Stage Development led to adjusted net orders of $603 million, representing an adjusted book-to-bill ratio of 1.23 to 1, Herring noted. Backlog as of 31 December 2010 was US$6.2 billion, compared with US$6.0 billion at 30 September 2010 and US$4.87 billion at 31 December 2009.

Also signed in the fourth quarter, but not included in the adjusted net orders, was a US$125 million expansion and extension of an existing dedicated-space toxicology agreement from “a top ten pharmaceutical client”, Herring added.

Q1 forecast

Covance is expecting a “slight increase” in net revenues for the first quarter of 2011 compared with Q4 2010, largely reflecting higher levels of business under the alliance with sanofi-aventis.

Pro forma first-quarter earnings per share are projected to be in the range of US$0.56 to US$0.59, with incremental earnings from higher revenue levels, incremental sequential savings from the Q4 restructuring, and the impact of share repurchases offset by an increase of around US$0.05 per share in expenses “for incentive compensation accruals returning to normalised levels”, as well as by higher operating losses related to the transition of US services from Vienna, Virginia to Greenfield, Indiana.

Analysts polled by Thomson Reuters had pegged first-quarter earnings at US$0.65 per share.