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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934.
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _________ TO ___________
Commission file number 000-23019
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KENDLE INTERNATIONAL INC.
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(Exact name of registrant as specified in its charter)
Ohio 31-1274091
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(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
441 Vine Street, Suite 1200, Cincinnati, Ohio 45202
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(Address of principal executive offices) Zip Code
Registrant's telephone number, including area code (513) 381-5550
---------------------------
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(Former name or former address, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X_ No __
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 13,313,245 shares of Common
Stock, no par value, as of April 26, 2005.
1
KENDLE INTERNATIONAL INC.
INDEX
Page
----
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets -March 31, 2005
and December 31, 2004 3
Condensed Consolidated Statements of Operations - Three Months
Ended March 31, 2005 and 2004 4
Condensed Consolidated Statements of Comprehensive Income
Three Months Ended March 31, 2005 and 2004 5
Condensed Consolidated Statements of Cash Flows - Three
Months Ended March 31, 2005 and 2004 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 13
Item 3. Quantitative and Qualitative Disclosure About Market Risk 23
Item 4. Controls and Procedures 23
Part II. Other Information 23
Item 1. Legal Proceedings 23
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 23
Item 3. Defaults upon Senior Securities 23
Item 4. Submission of Matters to a Vote of Security Holders 23
Item 5. Other Information 23
Item 6. Exhibits 24
Signatures 25
Exhibit Index 26
2
KENDLE INTERNATIONAL INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data) March 31, December 31,
2005 2004
--------- ------------
(unaudited) (note 1)
ASSETS
Current assets:
Cash and cash equivalents $ 21,099 $ 17,665
Restricted cash 715 971
Available-for-sale securities 10,270 10,271
Accounts receivable 52,026 56,025
Other current assets 10,098 10,243
--------- ---------
Total current assets 94,208 95,175
--------- ---------
Property and equipment, net 16,381 16,821
Goodwill 25,245 26,003
Other finite-lived intangible assets 625 663
Other indefinite-lived intangible assets 15,000 15,000
Other assets 8,188 9,018
--------- ---------
Total assets $ 159,647 $ 162,680
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of obligations under capital leases $ 596 $ 740
Current portion of amounts outstanding under credit facilities 6,180 3,000
Convertible note -- 1,500
Trade payables 6,901 9,169
Advance billings 23,160 24,924
Other accrued liabilities 13,922 15,128
--------- ---------
Total current liabilities 50,759 54,461
--------- ---------
Obligations under capital leases, less current portion 688 863
Long-term debt 3,000 3,750
Other noncurrent liabilities 1,098 831
--------- ---------
Total liabilities 55,545 59,905
--------- ---------
Commitments and contingencies
Shareholders' equity:
Preferred stock -- no par value; 100,000 shares authorized; no shares
issued and outstanding
Common stock -- no par value; 45,000,000 shares authorized; 13,326,057 and
13,262,826 shares issued and 13,306,160 and 13,242,929
outstanding at March 31, 2005 and December 31, 2004, respectively 75 75
Additional paid in capital 136,471 136,111
Accumulated deficit (33,451) (35,596)
Accumulated other comprehensive:
Net unrealized holding losses on available-for-sale securities (75) (49)
Unrealized loss on interest rate swap (30) (92)
Foreign currency translation adjustment 1,505 2,719
--------- ---------
Total accumulated other comprehensive income 1,400 2,578
Less: Cost of common stock held in treasury, 19,897 shares at
March 31, 2005 and December 31, 2004, respectively (393) (393)
--------- ---------
Total shareholders' equity 104,102 102,775
--------- ---------
Total liabilities and shareholders' equity $ 159,647 $ 162,680
========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
KENDLE INTERNATIONAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(in thousands, except per share data) For the Three Months Ended
March 31,
-------------------------
2005 2004
-------- --------
Net service revenues $ 47,687 $ 40,786
Reimbursable out-of-pocket revenues 10,918 11,000
-------- --------
Total revenues 58,605 51,786
-------- --------
Costs and expenses:
Direct costs 25,726 23,261
Reimbursable out-of-pocket costs 10,918 11,000
Selling, general and
administrative expenses 16,854 14,276
Depreciation and amortization 2,258 2,299
Severance and office consolidation costs -- 254
-------- --------
Total costs and expenses 55,756 51,090
-------- --------
Income from operations 2,849 696
Other income (expense):
Interest income 182 80
Interest expense (147) (214)
Other 201 463
Gain on debt extinguishment 300 254
-------- --------
Income before income taxes 3,385 1,279
Income tax expense 1,240 606
-------- --------
Net income $ 2,145 $ 673
======== ========
Income per share data:
Basic:
Net income per share $ 0.16 $ 0.05
======== ========
Weighted average shares 13,273 13,073
Diluted:
Net income per share $ 0.16 $ 0.05
======== ========
Weighted average shares 13,624 13,356
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
KENDLE INTERNATIONAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(in thousands) For the Three Months Ended
March 31,
--------------------------
2005 2004
------- -------
Net income $ 2,145 $ 673
------- -------
Other comprehensive income:
Foreign currency translation adjustment (1,214) (570)
Net unrealized holding gains (losses) on
available for sale securities arising
during the period, net of tax (26) 6
Net unrealized holding gains (losses) on
interest rate swap agreement 62 (5)
------- -------
Comprehensive income $ 967 $ 104
======= =======
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
KENDLE INTERNATIONAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands) For the three Months Ended
March 31,
---------------------------
2005 2004
-------- --------
Net cash (used in) provided by operating activities $ 4,083 $ (6,575)
-------- --------
Cash flows from investing activities:
Proceeds from sales and maturities of available for sale securities 1,585 3,609
Purchases of available for sale securities (1,653) (3,386)
Acquisitions of property and equipment (1,364) (522)
Additions to software costs (240) (535)
Other 3 7
-------- --------
Net cash used in investing activities (1,669) (827)
-------- --------
Cash flows from financing activities:
Net proceeds (repayments) under credit facilities 2,450 (750)
Net repayments - book overdraft (177) (45)
Repayment of convertible note (1,200) (747)
Proceeds from exercise of stock options 216 68
Payments on capital lease obligations (198) (227)
-------- --------
Net cash provided by (used in) financing activities 1,091 (1,701)
-------- --------
Effects of exchange rates on cash and cash equivalents (71) 123
Net increase (decrease) in cash and cash equivalents 3,434 (8,980)
Cash and cash equivalents:
Beginning of period 17,665 21,750
-------- --------
End of period $ 21,099 $ 12,770
======== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
KENDLE INTERNATIONAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Basis of Presentation
The accompanying unaudited Condensed Consolidated Financial Statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and the instructions
to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include
all of the information and notes required by accounting principles generally
accepted in the United States of America for complete financial statements. In
the opinion of management, all adjustments (consisting of normal recurring
adjustments) considered necessary for a fair presentation have been included.
Operating results for the three months ended March 31, 2005 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2005. For further information, refer to the Consolidated Financial Statements
and notes thereto included in the Form 10-K for the year ended December 31, 2004
filed by Kendle International Inc. ("the Company") with the Securities and
Exchange Commission.
The condensed consolidated balance sheet at December 31, 2004 has been derived
from the audited financial statements at that date but does not include all of
the information and notes required by accounting principles generally accepted
in the United States of America for complete financial statements.
Net Income Per Share Data
Net income per basic share is computed using the weighted average common shares
outstanding. Net income per diluted share is computed using the weighted average
common shares and potential common shares outstanding.
The net income used in computing net income per diluted share has been
calculated as follows:
(in thousands) Three Months Ended Three Months Ended
March 31, 2005 March 31, 2004
------------------ ------------------
Net income per Statements of operations $2,145 $673
------ ----
Net income for diluted earnings per share
calculation $2,145 $673
7
The weighted average shares used in computing net income per diluted share have
been calculated as follows:
(in thousands) Three Months Ended Three Months Ended
March 31, 2005 March 31, 2004
------------------ ------------------
Weighted average common shares
outstanding 13,273 13,073
Stock options 351 283
------ ------
Weighted average shares 13,624 13,356
------ ------
Options to purchase approximately 700,000 shares of common stock were
outstanding during the three months ended March 31, 2005 but were not included
in the computation of earnings per diluted share because the effect would be
antidilutive.
Options to purchase approximately 1,100,000 shares of common stock were
outstanding during the three months ended March 31, 2004 but were not included
in the computation of earnings per diluted share because the effect would be
antidilutive.
Stock-Based Compensation
The Company accounts for stock options issued to associates in accordance with
Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued
to Employees." Under APB No. 25, the Company recognizes expense based on the
intrinsic value of the options. The Company has adopted the disclosure
requirements of Statement of Financial Accounting Standards (SFAS) No. 123,
"Accounting for Stock-Based Compensation," as amended by SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure" which
requires compensation expense to be disclosed based on the fair value of the
options granted at the date of grant.
Had the Company adopted SFAS No. 123 for expense recognition purposes, the
amount of compensation expense that would have been recognized in the first
quarter of 2005 and 2004 would have been approximately $900,000 and $1.0
million, respectively. The Company's pro-forma net income (loss) per diluted
share would have been adjusted to the amounts below:
- -------------------------------------------------------------------------------------------
(in thousands, except per share data) Three Months Ended Three Months Ended
March 31, 2005 March 31, 2004
- -------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------
PRO FORMA NET INCOME (LOSS):
- -------------------------------------------------------------------------------------------
As reported $2,145 $673
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Less: pro forma adjustment for
stock-based compensation, net of tax (706) (773)
------ ------
- -------------------------------------------------------------------------------------------
Pro-forma net income (loss) $1,439 $ (100)
- -------------------------------------------------------------------------------------------
8
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PRO-FORMA NET INCOME (LOSS) PER BASIC SHARE:
- -------------------------------------------------------------------------------------------
As reported $ 0.16 $ 0.05
- -------------------------------------------------------------------------------------------
Effect of pro forma expense $(0.05) $(0.06)
- -------------------------------------------------------------------------------------------
Pro-forma $ 0.11 $(0.01)
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PRO-FORMA NET INCOME (LOSS) PER DILUTED SHARE:
- -------------------------------------------------------------------------------------------
As reported $ 0.16 $ 0.05
- -------------------------------------------------------------------------------------------
Effect of pro forma expense $(0.05) $(0.06)
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Pro-forma $ 0.11 $(0.01)
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New Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 123, "Share-Based Payment" (SFAS
123(R)). SFAS 123(R) requires that compensation costs relating to share-based
payment transactions be recognized in the financial statements. The cost will be
measured based on the fair value of the equity or liability instruments issued.
SFAS 123(R) covers a range of shared-based compensation arrangements, including
stock options, restricted stock plans, performance-based awards, stock
appreciation rights and employee stock purchase plans. The Company currently
uses the Black-Scholes option pricing model to value options and is currently
assessing which model may be used in the future under the new statement. In
addition to determining the fair value model to be used, the Company will also
be required to determine the transition method to be used at the date of
adoption. The allowed transition methods include prospective and retroactive
adoption options. The prospective method requires that compensation expense be
recorded for all unvested stock options at the beginning of the first quarter
following the adoption of SFAS 123(R), while the retroactive methods would
record compensation expense for all unvested stock options beginning with the
first period restated. The Company is in the process of evaluating the impact
SFAS 123(R) will have on its Condensed Consolidated Financial Statements.
In April 2005, the Securities and Exchange Commission announced the adoption of
a new rule that amends the effective date of SFAS 123(R). The effective date of
the new standard under these new rules for the Company's Condensed Consolidated
Financial Statements is January 1, 2006.
In December 2004, the FASB issued FASB Staff Position (FSP) No. 109-2,
"Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provision within the American Jobs Creation Act of 2004." The FSP provides
guidance under FAS No. 109, "Accounting for Income Taxes," with respect to
recording the potential impact of the repatriation provision of the American
Jobs Creation Act of 2004 (the "Jobs Act") on enterprises' income tax expense
and deferred tax liability. The Jobs Act, enacted on October 22, 2004, creates a
temporary incentive for U.S. corporations to repatriate undistributed income
earned abroad by providing an 85 percent dividends received deduction for
certain dividends from controlled foreign corporations. FSP No. 109-2 states
that companies are allowed time beyond the financial reporting period of
enactment to evaluate the effect of the Jobs Act on its plan for reinvestment or
repatriation of foreign earnings for purposes of applying FAS No. 109. The
Company has evaluated the effects of the repatriation provision and does not
plan to repatriate undistributed income earned abroad. Therefore, the provisions
of FSP 109-2 have no material effect on the Company's Condensed Consolidated
Financial Statements.
9
2. OFFICE CONSOLIDATION AND EMPLOYEE SEVERANCE:
In the first quarter of 2004, in order to align its resources to meet customer
need and demand projections, the Company implemented a workforce realignment
plan which resulted in a pre-tax charge of approximately $254,000 for severance
and outplacement benefits. An additional $48,000 in net costs (composed of
approximately $80,000 in additional costs offset by a reduction to the liability
of approximately $32,000) was incurred in the second quarter of 2004 relating to
this plan. The workforce realignment plan impacted approximately 3 percent of
the Company's North American workforce. Payments in 2004 totaled $302,000 and no
amounts remain accrued at March 31, 2005.
In August 2003, the Company initiated a workforce realignment plan which
immediately eliminated approximately 65 positions from its global workforce. In
the third quarter of 2003, the Company recorded a pre-tax charge of
approximately $897,000 for severance and outplacement benefits relating to this
workforce realignment. Approximately $15,000 remains accrued and is reflected in
Other Accrued Liabilities on the Company's Condensed Consolidated Balance Sheet.
The amounts accrued for the workforce reduction and office consolidation costs
are detailed as follows:
- -------------------------------------------------
(in thousands) Employee
Severance
- -------------------------------------------------
Liability at December 31, 2004 $ 15
- -------------------------------------------------
Amounts accrued --
- -------------------------------------------------
Amounts paid --
- -------------------------------------------------
Adjustment to liability --
- -------------------------------------------------
Liability at March 31, 2005 $ 15
- -------------------------------------------------
3. GOODWILL AND OTHER INTANGIBLE ASSETS:
Non-amortizable intangible assets at March 31, 2005 and December 31, 2004 are
composed of:
(in thousands)
Indefinite-lived
Goodwill Intangible
-------- ----------------
Balance at 12/31/04 $26,003 $15,000
Foreign currency fluctuations (661) --
Tax benefit to reduce goodwill (97) --
------- -------
Balance at 3/31/05 $25,245 $15,000
======= =======
10
Amortizable intangible assets at March 31, 2005 and December 31, 2004 are
composed of:
(in thousands)
Customer Non-Compete Internally-Developed
Relationships Agreements Software
------------- ----------- --------------------
Balance at 12/31/04 $ 346 $ 317 $5,097
Additional amounts acquired 240
Dispositions (12)
2005 amortization (10) (28) (708)
------ ------- ------
Balance at 3/31/05 $ 336 $ 289 $4,617
====== ======= ======
Amortization expense for the next five years relating to these amortizable
intangible assets is estimated to be as follows:
(in thousands)
Remainder of 2005: $2,078
2006: $1,530
2007: $1,094
2008: $ 539
2009: $ 271
4. DEBT:
In June 2002, the Company entered into an Amended and Restated Credit Agreement
(the "Facility") that replaced the previous credit facility that would have
expired in October 2003. Certain provisions of this Facility have been
subsequently amended. The Facility consists of a revolving credit loan that
expires in May of 2005 and a $15.0 million term loan that matures in March of
2007. The Facility is in addition to an existing $5.0 million Multicurrency
Facility that is renewable annually and is used in connection with the Company's
European operations. The revolving credit loan bears interest at a rate equal to
either (a) The Eurodollar Rate plus the Applicable Percentage (as defined) or
(b) the higher of the Federal Fund's Rate plus 0.5% or the Bank's Prime Rate.
The $15.0 million term loan bears interest at a rate equal to the higher of the
Federal Funds Rate plus 0.5% and the Prime Rate or an Adjusted Eurodollar Rate.
Under terms of the Facility, revolving loans are convertible into term loans
within the Facility if used for acquisitions. The Facility contains various
restrictive financial covenants, including the maintenance of certain fixed
coverage and leverage ratios. The Company is in compliance with the financial
covenants contained in the Facility (as amended) as of March 31, 2005.
The $5.0 million Multicurrency Facility is composed of a euro overdraft facility
up to the equivalent of $3.0 million and a pound sterling overdraft facility up
to the equivalent of $2.0 million. This Multicurrency Facility bears interest at
a rate equal to either (a) the rate published by the European Central Bank plus
a margin (as defined) or (b) the Bank's Base Rate (as determined by the bank
having regard to prevailing market rates) plus a margin (as defined).
At March 31, 2005 no amounts were outstanding under the Company's revolving
credit loan, $6.0 million was outstanding under the term loan, and $3.2 million
was outstanding under the
11
$5.0 million Multicurrency Facility. Interest is payable on the term loan at a
rate of 5.8% and on the Multicurrency Facility at a rate of 6.75%. Principal
payments of $750,000 are due on the term loan on the last business day of each
quarter through March 2007. The Company is in the process of negotiating a new
credit agreement to replace the Facility, the revolving portion of which expires
in May of 2005.
Effective July 1, 2002, the Company entered into an interest rate swap agreement
to fix the interest rate on the $15.0 million term loan. The swap is designated
as a cash flow hedge under the guidelines of Statement of Financial Accounting
Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging
Activities." Under the swap agreement, the interest rate on the term loan is
fixed at 4.32% plus the applicable margin (currently 1.50%). The swap is in
place through the life of the term loan, ending on March 31, 2007. Changes in
fair value of the swap are recorded in Accumulated Other Comprehensive Loss on
the Condensed Consolidated Balance Sheet. At March 31, 2005, approximately
$30,000 has been recorded in Accumulated Other Comprehensive Income to reflect
the unrealized loss of the swap compared to the unrealized loss of approximately
$92,000 at December 31, 2004.
With the acquisition of Clinical and Pharmacologic Research, Inc. (CPR), the
Company entered into a $6.0 million convertible note payable to the shareholders
of CPR. The principal balance was convertible at the holders' option into
314,243 shares of the Company's Common Stock at any time through January 29,
2005 (the Maturity Date). If the note had not been converted at the Maturity
Date, the Company had the option to extend the Maturity Date of the note for
another three years. The note bore interest at an annual rate of 3.80% from
January 29, 2002 through the Maturity Date. Interest was payable semi-annually.
In June of 2003, the Company and the shareholders of CPR entered into Note
Prepayment Agreements. Under the Note Prepayment Agreements, the Company agreed
to satisfy its payment obligations under the $6.0 million convertible note by
making a series of four payments between June 30, 2003 and January 10, 2005. The
four payments were initiated either by the Company through the exercise of a
"call" option or by the CPR shareholders through the exercise of a "put" option.
Gains resulting from this early extinguishment of debt were recorded when paid
as a gain in the Company's Condensed Consolidated Statements of Operations. In
the first quarter of 2005, the CPR shareholders exercised their final put option
and the Company paid approximately $1.2 million to settle the remaining $1.5
million of the convertible note that was outstanding at December 31, 2004. A
gain of $300,000 has been recorded in the first quarter of 2005 in the Company's
Condensed Consolidated Statements of Operations. No amounts remain outstanding
under this convertible note at March 31, 2005. Total gains resulting from early
extinguishment of debt under the Note Prepayment Agreement were approximately
$1.5 million.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information discussed below is derived from the Condensed Consolidated
Financial Statements included in this Form 10-Q for the three months ended March
31, 2005 and should be read in conjunction therewith. The Company's results of
operations for a particular quarter may not be indicative of results expected
during subsequent quarters or for the entire year.
COMPANY OVERVIEW
Kendle International Inc. (the Company) is an international contract research
organization (CRO) that provides integrated clinical research services,
including clinical trial management, clinical data management, statistical
analysis, medical writing, regulatory consulting and organizational meeting
management and publications services on a contract basis to biopharmaceutical
companies. The Company is managed in one reportable segment encompassing
contract services related to Phase I through IV clinical trials.
The Company's contracts are generally fixed price, with some variable
components, and range in duration from a few months to several years. A contract
typically requires a portion of the contract fee to be paid at the time the
contract is entered into and the balance is received in installments over the
contract's duration, in most cases on a milestone-achievement basis. Net service
revenues from contracts are generally recognized on the percentage of completion
method, measured principally by the total costs incurred as a percentage of
estimated total costs for each contract. The estimated total costs of contracts
are reviewed and revised periodically throughout the lives of the contracts with
adjustments to revenues resulting from such revisions being recorded on a
cumulative basis in the period in which the revisions are made. When estimates
indicate a loss, such loss is provided in the current period in its entirety.
The Company also performs work under time-and-materials contracts, recognizing
revenue as hours are worked based on the hourly billing rates for each contract.
Additionally, the Company recognizes revenue under units-based contracts as
units are completed multiplied by the contract per-unit price. Finally, at one
of the Company's subsidiaries, the contracts are of a short-term nature and
revenue is recognized under the completed contract method of accounting.
The Company incurs costs, in excess of contract amounts, in subcontracting with
third-party investigators as well as other out-of-pocket costs. These
out-of-pocket costs are reimbursable by the Company's customers. The Company
includes amounts paid to investigators and other out-of-pocket costs as
reimbursable out-of-pocket revenues and reimbursable out-of-pocket expenses in
the Condensed Consolidated Statements of Operations. In certain contracts, these
costs are fixed by the contract terms, so the Company recognizes these costs as
part of net service revenues and direct costs.
Direct costs consist of compensation and related fringe benefits for
project-related associates, unreimbursed project-related costs and an allocation
of indirect costs including facilities, information systems and other costs.
Selling, general and administrative expenses consist of compensation and related
fringe benefits for sales and administrative associates and professional
services, as well as unallocated costs related to facilities, information
systems and other costs.
13
Depreciation and amortization expenses consist of depreciation and amortization
costs recorded on a straight-line method over the estimated useful life of the
property or equipment and internally developed software.
The CRO industry in general continues to be dependent on the research and
development efforts of the principal pharmaceutical and biotechnology companies
as major customers, and the Company believes this dependence will continue. The
loss of business from any of its major customers could have a material adverse
effect on the Company.
The Company's results of operations are subject to volatility due to a variety
of factors. The cancellation or delay of contracts and cost overruns could have
short-term adverse affects on the Condensed Consolidated Financial Statements.
Fluctuations in the Company's sales cycle and the ability to maintain large
customer contracts or to enter into new contracts could hinder the Company's
long-term growth. In addition, the Company's aggregate backlog, consisting of
signed contracts and letters of intent, is not necessarily a meaningful
indicator of future results. Accordingly, no assurance can be given that the
Company will be able to realize the net service revenues included in the
backlog.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2005 COMPARED TO THREE MONTHS ENDED MARCH 31, 2004
Net Service Revenues
Net service revenues increased approximately $6.9 million, or 17%, to $47.7
million in the first quarter of 2005 from $40.8 million in the first quarter of
2004. The 17% increase in net service revenues was due entirely to organic
revenue growth. Foreign currency exchange rate fluctuations accounted for a 2%
increase in net service revenues in the first quarter of 2005 compared to 2004.
In the first quarter of 2005, net service revenues in the North American and
European regions increased by approximately $2.5 million or 10% and $4.7 million
or 33%, respectively, from the same period of the prior year. The growth in net
service revenues is primarily due to the Company's expanding customer base in
both North America and Europe.
Approximately 43% of the Company's net service revenues were derived from
operations outside of North America in the first quarter of 2005 compared to 39%
in the corresponding period in 2004. The top five customers based on net service
revenues contributed approximately 39% of net service revenues during the first
quarter of 2005 compared to approximately 45% of net service revenues during the
first quarter of 2004. Net service revenues from Pfizer Inc. (including the
former Pharmacia Inc.) accounted for approximately 20% of total first quarter
2005 net service revenues compared to approximately 23% of total first quarter
2004 net service revenues. The Company's net service revenues from Pfizer Inc.
are derived from numerous projects that vary in size, duration and therapeutic
indication. No other customer accounted for more than 10% of the net service
revenues for the quarter in either period presented.
Reimbursable Out-of-Pocket Revenues
Reimbursable out-of-pocket revenues fluctuate from period to period, primarily
due to the level of investigator activity in a particular period. Reimbursable
out-of-pocket revenues decreased 1% to $10.9 million in the first quarter of
2005 from $11.0 million in the corresponding period of 2004.
14
Operating Expenses
Direct costs increased approximately $2.4 million, or 11%, to $25.7 million in
the first quarter of 2005 from $23.3 million in the first quarter of 2004. The
increase in direct costs was composed entirely of organic growth. Foreign
currency exchange rate fluctuations accounted for a 3% increase in direct costs
in the first quarter of 2005 compared to 2004. The growth in direct costs
relates directly to the increase in net service revenues in the first quarter of
2005. Direct costs expressed as a percentage of net service revenues were 53.9%
for the three months ended March 31, 2005 compared to 57.0% for the three months
ended March 31, 2004. The decrease in direct costs as a percentage of net
service revenues is attributable to increased utilization of billable associates
during the first quarter of 2005.
Reimbursable out-of-pocket costs decreased 1% to $10.9 million in the first
quarter of 2005 from $11.0 million in the corresponding period of 2004.
Selling, general and administrative expenses increased $2.6 million, or 18%,
from $14.3 million in the first quarter of 2004 to $16.9 million in the same
quarter of 2005. The increase in selling, general and administrative costs was
composed entirely of organic growth. Foreign currency exchange rate fluctuations
accounted for a 1% increase in selling, general and administrative expenses in
the first quarter of 2005 compared to the comparable period of 2004. The
increase is primarily due to costs associated the Company's marketing efforts in
the first quarter of 2005 and increases in employee-related costs. The increase
in employee-related costs is composed of general salary increases and
corresponding payroll tax increases as well as an increase in sales commissions
and profit-sharing accrual. Selling, general and administrative expenses
expressed as a percentage of net service revenues were 35.3% for the three
months ended March 31, 2005 compared to 35.0% for the corresponding 2004 period.
Depreciation and amortization expense decreased by $41,000 in the first quarter
of 2005 compared to the first quarter of 2004.
In the first quarter of 2004, in order to align its resources to meet customer
need and demand projections, the Company implemented a workforce realignment
plan which resulted in a pre-tax charge of approximately $254,000 for severance
and outplacement benefits. This workforce realignment plan impacted
approximately 3 percent of the Company's North American workforce. No amounts
related to this plan remain accrued at March 31, 2005.
Other Income (Expense)
Other Income (Expense) was income of approximately $536,000 in the first quarter
of 2005 compared to income of approximately $583,000 in the first quarter of
2004. Interest expense decreased by approximately $67,000 in the first quarter
of 2005 compared to the first quarter of 2004 due to decreased debt outstanding
in the first quarter of 2005. Interest income increased by approximately
$100,000 in the first quarter of 2005 due to larger cash and investment balances
in the quarter compared to the first quarter of 2004. The available-for-sale
securities balance averaged $10.3 million in the first quarter of 2005 compared
to $8.8 million in the first quarter of 2004. Foreign exchange rate gains were
approximately $460,000 in the first quarter of 2004 compared to $265,000 in the
first quarter of 2005. Finally, in both quarters the Company made a
15
partial early repayment on its convertible note and recorded gains in the amount
of $300,000 and $254,000 in the first quarter of 2005 and 2004, respectively.
Income Taxes
The Company reported tax expense at an effective rate of 36.6% in the quarter
ended March 31, 2005, compared to tax expense at an effective rate of 47.4% in
the quarter ended March 31, 2004. The Company continues to record full valuation
allowances against the net operating losses incurred in some of its
subsidiaries. Since Kendle operates on a global basis, the effective tax rate
varies from quarter to quarter based on the locations that generate the pre-tax
earnings or losses.
Net Income
The net income for the quarter ended March 31, 2005 was approximately $2.1
million or $0.16 per basic and diluted share compared to net income for the
quarter ended March 31, 2004 of $673,000, or $0.05 per basic and diluted share.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents increased by $3.4 million for the three months ended
March 31, 2005 as a result of cash provided by operating and financing
activities of $4.1 million and $1.1 million, respectively, offset by cash used
in investing activities of $1.7 million and the negative effects of exchange
rates on cash and cash equivalents of $71,000. At March 31, 2005, cash and cash
equivalents amounted to $21.1 million. In addition, the Company has
approximately $715,000 in restricted cash that represents cash received from
customers that is segregated in a separate Company bank account and available
for use only for specific project expenses. Net cash provided by operating
activities for the period consisted primarily of net income adjusted for
non-cash items and a decrease in net accounts receivable. Fluctuations in
accounts receivable and advance billings occur on a regular basis as services
are performed, milestones or other billing criteria are achieved, invoices are
sent to customers, and payments for outstanding accounts receivable are
collected from customers. Such activity varies by individual customer and
contract. Accounts receivable, net of advance billings, was approximately $28.9
million at March 31, 2005, and $31.1 million at December 31, 2004.
Investing activities for the three months ended March 31, 2005 consisted
primarily of capital expenditures of approximately $1.6 million, mostly relating
to computer equipment and software purchases, including internally developed
software.
Financing activities for the quarter ended March 31, 2005, consisted primarily
of scheduled repayments relating to the Company's credit facility of $750,000
and partial early repayment of the Company's convertible debt of approximately
$1.2 million offset by borrowing on the Company's European Multicurrency
Facility of approximately $3.2 million.
The Company had available-for-sale securities totaling $10.3 million at both
March 31, 2005 and December 31, 2004.
In June 2002, the Company entered into an Amended and Restated Credit Agreement
(the "Facility") that replaced the previous credit facility that would have
expired in October 2003.
16
Certain provisions of this Facility have been subsequently amended. The Facility
consists of a revolving credit loan that expires in May of 2005 and a $15.0
million term loan that matures in March of 2007. The Facility is in addition to
an existing $5.0 million Multicurrency Facility that is renewable annually and
is used in connection with the Company's European operations. The revolving
credit loan bears interest at a rate equal to either (a) The Eurodollar Rate
plus the Applicable Percentage (as defined) or (b) the higher of the Federal
Fund's Rate plus 0.5% or the Bank's Prime Rate. The $15.0 million term loan
bears interest at a rate equal to the higher of the Federal Funds Rate plus 0.5%
and the Prime Rate or an Adjusted Eurodollar Rate.
Under terms of the Facility, revolving loans are convertible into term loans
within the Facility if used for acquisitions. The Facility contains various
restrictive financial covenants, including the maintenance of certain fixed
coverage and leverage ratios. The Company is in compliance with the financial
covenants contained in the Facility (as amended) as of March 31, 2005.
The $5.0 million Multicurrency Facility is composed of a euro overdraft facility
up to the equivalent of $3.0 million and a pound sterling overdraft facility up
to the equivalent of $2.0 million. This Multicurrency Facility bears interest at
a rate equal to either (a) the rate published by the European Central Bank plus
a margin (as defined) or (b) the Bank's Base Rate (as determined by the bank
having regard to prevailing market rates) plus a margin (as defined).
At March 31, 2005 no amounts were outstanding under the Company's revolving
credit loan, $6.0 million was outstanding under the term loan, and $3.2 million
was outstanding under the $5.0 million Multicurrency Facility. Interest is
payable on the term loan at a rate of 5.8% and on the Multicurrency Facility at
a rate of 6.75%. Principal payments of $750,000 are due on the term loan on the
last business day of each quarter through March 2007. The Company is in the
process of negotiating a new credit agreement to replace the Facility, the
revolving portion of which expires in May of 2005.
Effective July 1, 2002, the Company entered into an interest rate swap agreement
to fix the interest rate on the $15.0 million term loan. The swap is designated
as a cash flow hedge under the guidelines of Statement of Financial Accounting
Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging
Activities." Under the swap agreement, the interest rate on the term loan is
fixed at 4.32% plus the applicable margin (currently 1.50%). The swap is in
place through the life of the term loan, ending on March 31, 2007. Changes in
fair value of the swap are recorded in Accumulated Other Comprehensive Loss on
the Condensed Consolidated Balance Sheet. At March 31, 2005, approximately
$30,000 has been recorded in Accumulated Other Comprehensive Income to reflect
the unrealized loss of the swap compared to the unrealized loss of approximately
$92,000 at December 31, 2004.
With the acquisition of CPR, the Company entered into a $6.0 million convertible
note payable to the shareholders of CPR. The principal balance was convertible
at the holders' option into 314,243 shares of the Company's Common Stock at any
time through January 29, 2005 (the Maturity Date). If the note had not been
converted at the Maturity Date, the Company had the option to extend the
Maturity Date of the note for another three years. The note bore interest at an
annual rate of 3.80% from January 29, 2002 through the Maturity Date. Interest
was payable semi-annually.
In June of 2003, the Company and the shareholders of CPR entered into Note
Prepayment Agreements. Under the Note Prepayment Agreements, the Company agreed
to satisfy its payment obligations under the $6.0 million convertible note by
making a series of four payments
17
between June 30, 2003 and January 10, 2005. The four payments were initiated
either by the Company through the exercise of a "call" option or by the CPR
shareholders through the exercise of a "put" option. Gains resulting from this
early extinguishment of debt were recorded as a gain in the Company's Condensed
Consolidated Statements of Operations when payments were made by the Company. In
the first quarter of 2005, the CPR shareholders exercised their final put option
and the Company paid approximately $1.2 million to settle the remaining $1.5
million of the convertible note that was outstanding at December 31, 2004. A
gain of $300,000 has been recorded in the first quarter of 2005 in the Company's
Condensed Consolidated Statements of Operations. No amounts remain outstanding
under this convertible note at March 31, 2005. Total gains resulting from early
extinguishment of debt under the Note Prepayment Agreement were approximately
$1.5 million.
MARKET RISK
Interest Rates
The Company is exposed to changes in interest rates on its available-for-sale
securities and amounts outstanding under the Facility and Multicurrency
Facility. Available-for-sale securities are recorded at fair value in the
Condensed Consolidated Financial Statements. These securities are exposed to
market price risk, which also takes into account interest rate risk. At March
31, 2005, the potential loss in fair value resulting from a hypothetical
decrease of 10% in quoted market price would be approximately $1.0 million.
In July 2002, the Company entered into an interest rate swap agreement with the
intent of managing the interest rate risk on its five-year term loan. Interest
rate swap agreements are contractual agreements between two parties for the
exchange of interest payment streams on a principal amount and an agreed-upon
fixed or floating rate, for a defined period of time. See discussion of debt in
the Liquidity and Capital Resources section of Management's Discussion and
Analysis of Financial Condition and Results of Operations.
Foreign Currency
The Company operates on a global basis and is therefore exposed to various types
of currency risks. Two specific transaction risks arise from the nature of the
contracts the Company executes with its customers. From time to time contracts
are denominated in a currency different than the particular local currency. This
contract currency denomination issue is applicable only to a portion of the
contracts executed by the Company. The first risk occurs as revenue recognized
for services rendered is denominated in a currency different from the currency
in which the subsidiary's expenses are incurred. As a result, the subsidiary's
net service revenues and resultant net income or loss can be affected by
fluctuations in exchange rates.
The second risk results from the passage of time between the invoicing of
customers under these contracts and the ultimate collection of customer payments
against such invoices. Because the contract is denominated in a currency other
than the subsidiary's local currency, the Company recognizes a receivable at the
time of invoicing at the local currency equivalent of the foreign currency
invoice amount. Changes in exchange rates from the time the invoice is prepared
until the payment from the customer is received will result in the Company
receiving either more or less in local currency than the local currency
equivalent of the invoice amount at the time the invoice was prepared and the
receivable established. This difference is recognized by the
18
Company as a foreign currency transaction gain or loss, as applicable, and is
reported in Other Income (Expense) in the Condensed Consolidated Statements of
Operations.
A third type of transaction risk arises from transactions denominated in
multiple currencies between the Company's various subsidiary locations. The
Company maintains an intercompany receivable and payable among its various
subsidiaries, which is denominated in multiple currencies, at the end of any
given period. Changes in exchange rates from the time the intercompany
receivable/payable balance arises until the balance is settled or measured for
reporting purposes, results in exchange rate gains and losses. This intercompany
receivable/payable arises when work is performed by a Kendle location in one
country on behalf of a Kendle location in a different country that has
contracted with the customer. Additionally, there are occasions when funds are
transferred between subsidiaries for working capital purposes. The foreign
currency transaction gain or loss is reported in Other Income (Expense) in the
Condensed Consolidated Statements of Operations.
The Company's Condensed Consolidated Financial Statements are denominated in
U.S. dollars. Accordingly, changes in exchange rates between the applicable
foreign currency and the U.S. dollar will affect the translation of each foreign
subsidiary's financial results into U.S. dollars for purposes of reporting
Condensed Consolidated Financial Statements. The Company's foreign subsidiaries
translate their financial results from local currency into U.S. dollars as
follows: income statement accounts are translated at average exchange rates for
the period; balance sheet asset and liability accounts are translated at end of
period exchange rates; and equity accounts are translated at historical exchange
rates. Translation of the balance sheet in this manner affects the shareholders'
equity account referred to as the foreign currency translation adjustment
account. This account exists only in the foreign subsidiaries' U.S. dollar
balance sheet and is necessary to keep the foreign subsidiaries' balance sheet
stated in U.S. dollars in balance. Foreign currency translation adjustments,
reported as a separate component of shareholders' equity were approximately $1.5
million at March 31, 2005 compared to $2.7 million at December 31, 2004.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make significant
estimates and assumptions that affect the reported Condensed Consolidated
Financial Statements for a particular period. Actual results could differ from
those estimates.
Revenue Recognition
The majority of the Company's net service revenues are based on fixed-price
contracts calculated on a percentage-of-completion basis based upon assumptions
regarding the estimated total costs for each contract. Costs are incurred for
each project and compared to the estimated budgeted costs for each contract to
determine a percentage of completion on the project. The percentage of
completion is multiplied by the total contract value to determine the amount of
revenue recognized. Management periodically reviews the budget on each contract
to determine if the budgeted amounts are correct, and budgets are adjusted as
needed. As the work progresses, original estimates might be changed due to
changes in the scope of the work. When estimates indicate a loss, such loss is
provided in the current period in its entirety. The Company attempts to
negotiate contract amendments with the customer to cover services provided
outside the terms
19
of the original contract. However, there can be no guarantee that the customer
will agree to proposed amendments, and the Company ultimately bears the risk of
cost overruns.
Amendments to contracts resulting in revisions to revenues and costs are
recognized in the period in which the revisions are negotiated. Included in
accounts receivable are unbilled accounts receivable, which represent revenue
recognized in excess of amounts billed.
As the Company provides services on projects, the Company also incurs
third-party and other pass-through costs, which are typically reimbursable by
its customers pursuant to the contract. In certain contracts, however, these
costs are fixed by the contract terms. In these contracts, the Company is at
risk for costs incurred in excess of the amounts fixed by the contract terms. In
these instances, the Company recognizes these costs as direct costs with
corresponding net service revenues. Excess costs incurred above the contract
terms would negatively affect the Company's gross margin.
Accounts Receivable/Allowance for Doubtful Accounts
Billed accounts receivable represent amounts for which invoices have been sent
to customers. Unbilled accounts receivable are amounts recognized as revenue for
which invoices have not yet been sent to customers. Advance billings represent
amounts billed or payment received for which revenues have not yet been earned.
The Company maintains an allowance for doubtful accounts receivable based on
historical evidence of accounts receivable collections and specific
identification of accounts receivable that might pose collection problems. If
the Company is unable to collect all or part of its outstanding receivables,
there could be a material impact to the Company's Condensed Consolidated Results
of Operations or financial position.
Long-Lived Assets
The Company analyzes goodwill and other indefinite-lived intangible assets to
determine any potential impairment loss on an annual basis, unless conditions
exist that require an updated analysis on an interim basis. A fair value
approach is used to test goodwill for impairment. The goodwill impairment
testing involves the use of estimates related to the fair market value of the
reporting unit and is inherently subjective. An impairment charge is recognized
for the amount, if any, by which the carrying amount of goodwill exceeds fair
value. At December 31, 2003 and 2004 the fair value of the Company exceeded the
carrying value, resulting in no goodwill impairment charge. During the first
three months of 2005, no events arose that indicated a need for an interim
impairment analysis. In addition to goodwill, the Company has a $15 million
indefinite lived intangible asset representing one customer relationship
acquired in the Company's acquisition of CPR. The intangible asset is evaluated
each reporting period to determine whether events or circumstances continue to
support an indefinite useful life. During the first three months of 2005, no
event or events have occurred which would indicate a need to adjust the
indefinite useful life of this asset.
Internally Developed Software
The Company capitalizes costs incurred to internally develop software used
primarily in the Company's proprietary clinical trial and data management
systems, and amortizes these costs over the estimated useful life of the
product, not to exceed five years. Internally developed software represents
software in the application development stage, and there is no assurance that
the software development process will produce a final product for which the fair
value exceeds
20
its carrying value. Internally developed software is an intangible asset subject
to impairment write-downs whenever events indicate that the carrying value of
the software may not be recoverable. As with other long-lived assets, this asset
is reviewed at least annually to determine the appropriateness of the carrying
value of the asset. Assessing the fair value of the internally developed
software requires estimates and judgment on the part of management.
Tax Valuation Allowance
The Company estimates its tax liability based on current tax laws in the
statutory jurisdictions in which it operates. Because the Company conducts
business on a global basis, its effective tax rate has and will continue to
depend upon the geographic distribution of its pre-tax earnings (losses) among
jurisdictions with varying tax rates. These estimates include judgments about
deferred tax assets and liabilities resulting from temporary differences between
assets and liabilities recognized for financial reporting purposes and such
amounts recognized for tax purposes. The Company has assessed the realization of
deferred tax assets and a valuation allowance has been established based on an
assessment that it is more likely than not that realization cannot be assured.
The ultimate realization of this tax benefit is dependent upon the generation of
sufficient operating income in the respective tax jurisdictions. If estimates
prove inaccurate or if the tax laws change unfavorably, significant revisions in
the valuation allowance may be required in the future.
NEW ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 123, "Share-Based Payment" (SFAS
123(R)). SFAS 123(R) requires that compensation costs relating to share-based
payment transactions be recognized in the financial statements. The cost will be
measured based on the fair value of the equity or liability instruments issued.
SFAS 123(R) covers a range of shared-based compensation arrangements, including
stock options, restricted stock plans, performance-based awards, stock
appreciation rights and employee stock purchase plans. The Company currently
uses the Black-Scholes option pricing model to value options and is currently
assessing which model may be used in the future under the new statement. In
addition to determining the fair value model to be used, the Company will also
be required to determine the transition method to be used at the date of
adoption. The allowed transition methods include prospective and retroactive
adoption options. The prospective method requires that compensation expense be
recorded for all unvested stock options at the beginning of the first quarter
following the adoption of SFAS 123(R), while the retroactive methods would
record compensation expense for all unvested stock options beginning with the
first period restated. The Company is in the process of evaluating the impact
SFAS 123(R) will have on its Condensed Consolidated Financial Statements.
In April 2005, the Securities and Exchange Commission announced the adoption of
a new rule that amends the effective date of SFAS 123(R). The effective date of
the new standard under these new rules for the Company's Condensed Consolidated
Financial Statements is January 1, 2006.
In December 2004, the FASB issued FASB Staff Position (FSP) No. 109-2,
"Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provision within the American Jobs Creation Act of 2004." The FSP provides
guidance under FAS No. 109, "Accounting for Income Taxes," with respect to
recording the potential impact of the repatriation provision of the
21
American Jobs Creation Act of 2004 (the "Jobs Act") on enterprises' income tax
expense and deferred tax liability. The Jobs Act, enacted on October 22, 2004,
creates a temporary incentive for U.S. corporations to repatriate undistributed
income earned abroad by providing an 85 percent dividends received deduction for
certain dividends from controlled foreign corporations. FSP No. 109-2 states
that companies are allowed time beyond the financial reporting period of
enactment to evaluate the effect of the Jobs Act on its plan for reinvestment or
repatriation of foreign earnings for purposes of applying FAS No. 109. The
Company has evaluated the effects of the repatriation provision and does not
plan to repatriate undistributed income earned abroad. Therefore, the provisions
of FSP 109-2 have no material effect on the Company's Condensed Consolidated
Financial Statements.
CAUTIONARY STATEMENT FOR FORWARD-LOOKING INFORMATION
Certain statements contained in this Form 10-Q that are not historical facts
constitute forward-looking statements, within the meaning of the Private
Securities Litigation Reform Act of 1995, and are intended to be covered by the
safe harbors created by that Act. Reliance should not be placed on
forward-looking statements because they involve known and unknown risks,
uncertainties and other factors which may cause actual results, performance or
achievements to differ materially from those expressed or implied. Any
forward-looking statement speaks only as of the date made. The Company
undertakes no obligation to update any forward-looking statements to reflect
events or circumstances arising after the date on which they are made.
Statements concerning expected financial performance, on-going business
strategies and possible future action which the Company intends to pursue to
achieve strategic objectives constitute forward-looking information.
Implementation of these strategies and the achievement of such financial
performance are each subject to numerous conditions, uncertainties and risk
factors. Factors which could cause actual performance to differ materially from
these forward-looking statements include, without limitation, factors discussed
in conjunction with a forward-looking statement, changes in general economic
conditions, competitive factors, outsourcing trends in the pharmaceutical and
biotechnology industries, changes in the financial conditions of the Company's
customers, potential mergers and acquisitions in the pharmaceutical and
biotechnology industries, the Company's ability to manage growth, the Company's
ability to complete additional acquisitions and to integrate newly acquired
businesses, the Company's ability to penetrate new markets, competition and
consolidation within the industry, the fixed price nature of contracts or the
loss of large contracts, cancellation or delay of contracts, the progress of
ongoing projects, cost overruns, fluctuations in the Company's sales cycle, the
ability to maintain large customer contracts or to enter into new contracts, the
effects of exchange rate fluctuations, the carrying value of and impairment of
the Company's investments and the other risk factors set forth in the Company's
filings with the Securities and Exchange Commission, copies of which are
available upon request from the Company's investor relations department or from
the SEC. The Company's growth and ability to achieve operational and financial
goals is dependent upon its ability to attract and retain qualified personnel.
If the Company fails to hire, retain and integrate qualified personnel, it will
be difficult for the Company to achieve its financial and operational goals. No
assurance can be given that the Company will be able to realize the net service
revenues included in backlog and verbal awards. The Company believes that its
aggregate backlog and verbal awards are not necessarily meaningful indicators of
future results.
22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
See Management's Discussion and Analysis of Financial Condition and Results of
Operations.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures - The Company's chief executive
officer and chief financial officer have reviewed and evaluated the
effectiveness of the Company's disclosure controls and procedures (as defined in
the Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period
covered by this quarterly report. Based on that evaluation, the chief executive
officer and the chief financial officer have concluded that the Company's
disclosure controls and procedures are effective and designed to ensure that
material information relating to the Company and the Company's consolidated
subsidiaries are made known to them by others within those entities.
Changes in Internal Controls - During the fiscal quarter ended March 31, 2005,
there were no changes in the Company's internal control over financial reporting
that have materially affected, or are reasonably likely to materially affect,
the Company's internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings - None
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds - None
Item 3. Defaults upon Senior Securities - Not applicable
Item 4. Submission of Matters to a Vote of Security Holders - None
Item 5. Other Information
(a) The following matters are being reported in this Quarterly Report on
Form 10-Q in lieu of a separate filing of a Current Report on Form
8-K:
(1) In a meeting on May 5, 2005, the Company's Board of Directors
approved an amendment to the 1998 Employee Stock Purchase Plan
(the "ESPP") pursuant to the powers granted to the Board under
the terms of the ESPP. The ESPP originally was approved by the
Company's shareholders for up to 500,000 shares of the Company's
common stock. The ESPP enables an employee to purchase shares of
the Company's common stock with contributions made by the
employee during a plan year that runs from July 1 to June 30.
Based on historic participation rates, the Company anticipates
that the number of authorized shares will be exhausted during
the upcoming plan year, and the Company has determined not to
seek shareholder approval to increase authorized shares under
this ESPP. Accordingly, the ESPP amendment, which is filed as
an exhibit hereto, has been adopted to prescribe a method of
winding down participation in the ESPP.
(2) On May 5, 2005, each independent director was granted an option
to purchase 5,000 shares of the Company's common stock. Option
grants are
23
made annually to the independent directors under the 1997 Stock
Option and Stock Incentive Plan, but the size of the grant is
subject to change from year to year. Each director will enter
into a Grant Agreement in the form attached hereto as Exhibit
10.20(c)(5).
(b) Not applicable
Item 6. Exhibits
10.20(c)(5) Form of Option Grant Agreement with Independent
Directors
10.20(e)(4) Amendment No. 4 to 1998 Employee Stock Purchase Plan
31.1 Certificate of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certificate of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certificate of Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certificate of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
KENDLE INTERNATIONAL INC.
By: /s/ Candace Kendle
------------------------------
Date: May 10, 2005 Candace Kendle
Chairman of the Board and Chief
Executive Officer
By: /s/ Karl Brenkert III
------------------------------
Date: May 10, 2005 Karl Brenkert III
Senior Vice President -
Chief Financial Officer
25
KENDLE INTERNATIONAL INC.
EXHIBIT INDEX
Exhibits Description
-------- -----------
10.20(c)(5) Form of Option Grant Agreement with Independent
Directors
10.20(e)(4) Amendment No. 4 to 1998 Employee Stock Purchase Plan
31.1 Certificate of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certificate of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certificate of Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certificate of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
26