10-Q 1 g79165e10vq.txt QUINTILES TRANSNATIONAL CORP. Securities and Exchange Commission Washington, D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended September 30, 2002 Commission file number 000-23520 QUINTILES TRANSNATIONAL CORP. -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) North Carolina 56-1714315 ---------------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 4709 Creekstone Dr., Suite 200 Durham, NC 27703-8411 ---------------------------------------- ------------------------------------- (Address of principal executive offices) (Zip Code) (919) 998-2000 ------------------------------------------------------------------------------- (Registrant's telephone number, including area code) N/A ------------------------------------------------------------------------------- (Former name, former address and former fiscal year, 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 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. [X] Yes [ ] No Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). [X] Yes [ ] No The number of shares of Common Stock, $.01 par value, outstanding as of September 30, 2002 was 117,706,316. Index
Page ---- Part I. Financial Information Item 1. Financial Statements (unaudited) Condensed consolidated balance sheets - September 30, 2002 and December 31, 2001 3 Condensed consolidated statements of operations - Three months ended September 30, 2002 and 2001; nine months ended September 30, 2002 and 2001 4 Condensed consolidated statements of cash flows - Nine months ended September 30, 2002 and 2001 5 Notes to condensed consolidated financial statements - September 30, 2002 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 20 Item 3. Quantitative and Qualitative Disclosure about Market Risk 39 Item 4. Controls and Procedures 39 Part II. Other Information Item 1. Legal Proceedings 40 Item 2. Changes in Securities and Use of Proceeds 41 Item 3. Defaults upon Senior Securities - Not Applicable 41 Item 4. Submission of Matters to a Vote of Security Holders - Not applicable 41 Item 5. Other Information - Not Applicable 41 Item 6. Exhibits and Reports on Form 8-K 41 Signatures 42 Certifications 43 Exhibit Index 47
2 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30 DECEMBER 31 2002 2001 ------------ ----------- (unaudited) (Note 1) ASSETS in thousands, except share data) Current assets: Cash and cash equivalents $ 617,409 $ 565,063 Trade accounts receivable and unbilled services, net 355,432 426,954 Investments in debt securities 27,232 27,489 Prepaid expenses 29,322 28,085 Other current assets and receivables 38,270 32,147 ----------- ----------- Total current assets 1,067,665 1,079,738 Property and equipment 464,602 469,919 Less accumulated depreciation (199,112) (196,144) ----------- ----------- 265,490 273,775 Intangibles and other assets: Investments in debt securities 10,738 9,510 Investments in marketable equity securities 45,073 77,992 Investments in non-marketable equity securities and loans 46,312 37,590 Investments in unconsolidated affiliates 121,057 -- Goodwill 65,138 163,651 Other identifiable intangibles, net 131,347 123,999 Deferred income taxes 157,403 136,686 Deposits and other assets 146,509 44,799 ----------- ----------- 723,577 594,227 ----------- ----------- Total assets $ 2,056,732 $ 1,947,740 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable and accrued expenses $ 267,464 $ 223,573 Credit arrangements, current 20,424 16,116 Unearned income 218,749 205,783 Income taxes 27,471 14,811 Other current liabilities 1,621 1,903 ----------- ----------- Total current liabilities 535,729 462,186 Long-term liabilities: Credit arrangements, less current portion 20,481 21,750 Other liabilities 5,050 8,716 ----------- ----------- 25,531 30,466 ----------- ----------- Total liabilities 561,260 492,652 Shareholders' equity: Preferred stock, none issued and outstanding at September 30, 2002 and December 31, 2001 -- -- Common stock and additional paid-in capital, 117,706,316 and 118,623,669 shares issued and outstanding at September 30, 2002 and December 31, 2001, respectively 877,758 897,075 Retained earnings 648,208 589,142 Accumulated other comprehensive loss (30,494) (31,129) ----------- ----------- Total shareholders' equity 1,495,472 1,455,088 ----------- ----------- Total liabilities and shareholders' equity $ 2,056,732 $ 1,947,740 =========== ===========
The accompanying notes are an integral part of these condensed consolidated statements. 3 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 2002 2001 2002 2001 --------- ----------- ----------- ----------- (in thousands, except per share data) Revenues: Gross service revenues $ 458,839 $ 462,540 $ 1,402,058 $ 1,393,194 Commercial rights and royalties 28,671 10,472 65,866 16,264 Investment 3,455 (7,691) 14,570 (6,323) --------- ----------- ----------- ----------- Total gross revenues 490,965 465,321 1,482,494 1,403,135 Less: reimbursed service costs 94,058 65,909 297,130 193,585 --------- ----------- ----------- ----------- 396,907 399,412 1,185,364 1,209,550 Costs of revenues (excluding general, administrative, depreciation and amortization expenses shown below): Service 186,110 232,771 589,735 710,056 Commercial rights and royalties 29,065 10,718 69,914 16,526 Investment 38 61 217 408 --------- ----------- ----------- ----------- 215,213 243,550 659,866 726,990 --------- ----------- ----------- ----------- Contribution 181,694 155,862 525,498 482,560 General, administrative and other: General and administrative 128,842 127,598 381,970 391,243 Depreciation and amortization 20,837 24,345 63,504 70,387 Restructuring charges -- 52,023 -- 54,169 Write-off of goodwill and other assets -- 20,120 -- 20,120 Interest (income) expense, net (3,256) (3,825) (9,954) (14,258) Other (income) expense, net 1,473 183 344 (585) Impairment on investment in WebMD common stock -- 334,023 -- 334,023 --------- ----------- ----------- ----------- 147,896 554,467 435,864 855,099 --------- ----------- ----------- ----------- Income (loss) before income taxes 33,798 (398,605) 89,634 (372,539) Income tax expense (benefit) 11,602 (132,694) 30,028 (124,093) --------- ----------- ----------- ----------- Income (loss) before equity in (losses) earnings of unconsolidated affiliates 22,196 (265,911) 59,606 (248,446) Equity in (losses) earnings of unconsolidated affiliates (1,017) -- (540) -- --------- ----------- ----------- ----------- Income (loss) from continuing operations 21,179 (265,911) 59,066 (248,446) Extraordinary gain from sale of discontinued operation, net of income taxes -- 142,030 -- 142,030 --------- ----------- ----------- ----------- Net income (loss) $ 21,179 $ (123,881) $ 59,066 $ (106,416) ========= =========== =========== =========== Basic net income (loss) per share: Income (loss) from continuing operations $ 0.18 $ (2.22) $ 0.50 $ (2.11) Extraordinary gain from sale of discontinued operation -- 1.19 -- 1.21 --------- ----------- ----------- ----------- Basic net income (loss) per share $ 0.18 $ (1.03) $ 0.50 $ (0.90) ========= =========== =========== =========== Diluted net income (loss) per share: Income (loss) from continuing operations $ 0.18 $ (2.22) $ 0.50 $ (2.11) Extraordinary gain from sale of discontinued operation -- 1.19 -- 1.21 --------- ----------- ----------- ----------- Diluted net income (loss) per share $ 0.18 $ (1.03) $ 0.50 $ (0.90) ========= =========== =========== ===========
The accompanying notes are an integral part of these condensed consolidated statements. 4 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
NINE MONTHS ENDED SEPTEMBER 30 2002 2001 --------- --------- (in thousands) OPERATING ACTIVITIES Net income (loss) $ 59,066 $(106,416) Gain on the sale of discontinued operation, net of income taxes -- (142,030) --------- --------- Net income (loss) from continuing operations 59,066 (248,446) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 65,387 71,143 Restructuring charge (payments) accrual, net (18,953) 32,872 (Gain) loss from sales and impairments of investments, net (14,609) 340,346 Benefit from deferred income tax expense (7,432) (229,256) Change in operating assets and liabilities 83,475 134,445 Other 1,967 1,332 --------- --------- Net cash provided by operating activities 168,901 102,436 INVESTING ACTIVITIES Acquisition of property and equipment (30,608) (59,769) Proceeds from disposition of property and equipment 4,022 7,460 Acquisition of businesses, net of cash acquired (25,450) (6,620) (Purchases of) proceeds from debt securities, net (1,148) 71,882 Purchases of equity securities and other investments (15,028) (30,674) Proceeds from sale of equity securities and other investments 24,803 4,838 Purchases of commercial rights (41,435) -- Advances to unconsolidated affiliates (10,328) -- --------- --------- Net cash used in investing activities (95,172) (12,883) FINANCING ACTIVITIES Decrease in lines of credit, net -- (44) Principal payments on credit arrangements, net (11,081) (12,466) Issuance of common stock, net 7,730 46,050 Repurchase of common stock (27,024) (7,709) --------- --------- Net cash (used in) provided by financing activities (30,375) 25,831 Effect of foreign currency exchange rate changes on cash 8,992 (3,686) --------- --------- Increase in cash and cash equivalents 52,346 111,698 Cash and cash equivalents at beginning of period 565,063 330,214 --------- --------- Cash and cash equivalents at end of period $ 617,409 $ 441,912 ========= =========
The accompanying notes are an integral part of these condensed consolidated statements. 5 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements (unaudited) September 30, 2002 1. 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 with 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 nine-month period ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002. For further information, refer to the Consolidated Financial Statements and Notes thereto included in the Annual Report on Form 10-K for the year ended December 31, 2001 of Quintiles Transnational Corp. (the "Company"). The balance sheet at December 31, 2001 has been derived from the audited consolidated financial statements of the Company. Certain amounts in the 2001 financial statements have been reclassed or modified to conform with the 2002 financial statement presentation. The reclassifications and modifications had no effect on previously reported net income, shareholders' equity or net income per share. 2. Commercial Rights and Royalties The Company has entered into financial transactions and other arrangements with customers and other parties in which a portion of the Company's revenues and operating income depends on the performance of a specific pharmaceutical product. These transactions may include providing product development and/or commercialization services to customers, as well as the funding of such services, in return for royalties or commissions based on the sales of the customer's product. Below is a brief description of these agreements: In May 1999, the Company entered into an agreement with CV Therapeutics, Inc. ("CVTX") to commercialize Ranolazine for angina in the United States and Canada. Under the terms of this agreement, the Company purchased 1,043,705 shares of CVTX's common stock for $5 million of which the Company owns 256,705 shares as of September 30, 2002, and has made available a $10 million credit line for pre-launch sales and marketing activities. Once Ranolazine, which has completed Phase III studies, is approved, the Company will provide a $10 million milestone payment to CVTX which will be used to pay off any outstanding balances on the credit line. The Company will also make available an additional line of credit to help fund a portion of the first year sales and marketing expenses. Additionally, the Company has committed to provide a minimum of approximately $14.4 million per year of commercialization services and to fund a minimum of $7.8 million per year of marketing activities, for a period of five years. In return it will receive payment for services rendered by the Company in year one and royalties based on the net sales of Ranolazine in years two through five subject to a cap not to exceed 300% of funding by the Company in any year or over the life of the contract. In addition, the Company will also receive royalties in years six and seven. 6 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES In December 1999, the Company obtained the distribution rights to market four pharmaceutical products in the Philippines from a large pharmaceutical customer in exchange for providing certain commercialization services amounting to approximately $5.1 million during the two-year period ended December 31, 2001. As of September 30, 2002, the Company has capitalized 251.8 million philippino pesos (approximately $4.8 million) related to these commercial rights, and is amortizing these costs over seven years. Under the terms of the agreement, the customer has the option to reacquire the rights to the four products from the Company after seven years for a price to be determined at the exercise date. In January 2001, the Company entered into an agreement with Scios Inc. ("SCIO") to market Natrecor(R) for acute congestive heart failure in the United States and Canada. Under the terms of the agreement, the Company agreed to provide $30 million in funding over a two and one-half year period for sales and marketing activities following product launch. The $30 million in payments will be capitalized and amortized ratably as a reduction of revenue over the 24-month service period. As of September 30, 2002, $20.3 million has been paid by the Company. The Company also received warrants to purchase 700,000 shares of SCIO's common stock at $20 per share, exercisable in installments over two and one-half years. In addition to receiving payments on a fee for service basis for providing commercialization services through May 2003, the Company will receive royalties based on net sales of the product from 2002 through 2008. The royalty payments are subject to minimum and maximum amounts of $50 million and $65 million, respectively, over the life of the agreement. In June 2001, the Company entered into an agreement with Pilot Therapeutics, Inc. ("PLTT") to commercialize a natural therapy for asthma, AIROZIN(TM), in the United States and Canada. Under the terms of the agreement, the Company will provide commercialization services for AIROZIN(TM) and a milestone-based $6 million line of credit which is convertible into PLTT's common stock, of which $4 million was funded by the Company as of September 30, 2002. Further, based on achieving certain milestones, the Company has committed to funding 50% of sales and marketing activities for AIROZIN(TM) over five years with a $6 million limit per year. Following product launch, the Company will receive royalties based on the net sales of AIROZIN(TM). The royalty percentage will vary to allow the Company to achieve a minimum rate of return. In December 2001, the Company entered into an agreement with Discovery Laboratories, Inc. ("DSCO") to commercialize, in the United States, DSCO's humanized lung surfactant, Surfaxin(R), which is currently in Phase III studies. Under the terms of the agreement, the Company acquired 791,905 shares of DSCO's common stock and a warrant to purchase 357,143 shares of DSCO's common stock at $3.48 per share for a total of $3 million, and has agreed to make available a line of credit up to $10 million for pre-launch commercialization services as certain milestones are achieved by DSCO. As of September 30, 2002, the Company has made $2.8 million available under the line of credit, of which $1.3 million has been funded. In addition, the Company receives warrants to purchase approximately 38,000 shares of DSCO common stock at an exercise price of $3.03 per share for each million dollars made available by the Company under the line of credit as milestones are achieved. The Company has agreed to fund the sales and marketing activities of this product up to $10 million per year for seven years. In return, the Company will receive commissions based on net sales of Surfaxin(R) for meconium aspiration syndrome, infant respiratory distress 7 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES syndrome and all "off-label" uses for 10 years. In December 2001, the Company acquired the license to market SkyePharma's Solaraze(TM) skin treatment in the United States, Canada and Mexico for 15 years from Bioglan Pharma Plc for a total consideration of $26.7 million. The Company will amortize the rights ratably over 15 years. The Company has a commitment to pay royalties to SkyePharma based on a percentage of net sales of Solaraze(TM). Pursuant to the license, the Company may pursue additional indications for the compound, which will be facilitated through the Company's ownership rights in the Solaraze(TM) New Drug Application and Investigational New Drug. In January 2002, the Company entered into an agreement with Kos Pharmaceuticals, Inc. ("KOSP") to commercialize, in the United States, KOSP's treatments for cholesterol disorders, Advicor(R) and Niaspan(R). Advicor(R) was launched in January 2002 and Niaspan(R) is also on the market. Under the terms of the agreement, the Company will provide, at its own expense, a dedicated sales force of 150 cardiovascular-trained representatives who, in combination with KOSP's sales force of 300 representatives, will commercialize Advicor(R) and Niaspan(R) for two years. In return, the Company also received warrants to purchase 150,000 shares of KOSP's common stock at $32.79 per share, exercisable in installments over two years. Further, the Company will receive commissions based on net sales of the product from 2002 through 2006. The commission payments are subject to minimum and maximum amounts of $45 million and $75 million, respectively, over the life of the agreement. In March 2002, the Company acquired certain assets of Bioglan Pharma, Inc. ("Bioglan") for a total consideration of approximately $27.9 million. The assets included distribution rights to market ADOXA(TM) in the United States for 10 years along with other products and product rights that Bioglan had previously marketed, as well as approximately $1.6 million in cash. Under the purchase method of accounting, the results of operations of Bioglan are included in the Company's results of operations as of March 22, 2002 and the assets and liabilities of Bioglan were recorded at their respective fair values. The fair values are preliminary and are subject to refinement as information relative to the fair values as of March 22, 2002 becomes available. The acquisition did not have a material impact on the financial position or results of operations for the Company. The acquisition resulted in total intangible assets of $27.5 million. The Company will amortize the intangible assets ratably over the lives of these products. Under certain of the contracts acquired, the Company has commitments to pay royalties based on a percentage of net sales of the acquired products. During the second quarter of 2002, the Company finalized the arrangements under its previously announced letter of intent with a large pharmaceutical customer to market pharmaceutical products in Belgium, Germany and Italy. The Company will provide, at its own expense, sales and marketing resources over the five-year life of the agreement. As of September 30, 2002, the Company estimates the cost of its minimum obligation over the remaining contract life to be approximately $46 million, in return for which the customer will pay the Company royalties on product sales in excess of certain baselines. The royalty is comprised of a minimal royalty on the baseline sales targets for these products plus a share of incremental net sales above these baselines. Either party may cancel the contract at six-month intervals in the event that sales are not above certain levels specified. Based on the terms of the letter of intent in place at March 31, 2002, the Company deferred $0.9 million of costs; with the final execution of these agreements during the second quarter of 2002, these costs were expensed. Future revenues under these agreements will be recognized as they are earned and 8 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES costs expensed as incurred. In July 2002, the Company entered into an agreement with Eli Lilly and Company ("LLY") to support LLY in its commercialization efforts for Cymbalta(TM) in the United States. LLY has submitted a New Drug Application ("NDA") for Cymbalta(TM), which is currently under review by the United States Food and Drug Administration ("FDA") for the treatment of depression. Under the terms of the agreement, the Company will provide, at its expense, more than 500 sales representatives to supplement the extensive LLY sales force in the promotion of Cymbalta(TM) for the five years following product launch. The sales force will promote Cymbalta(TM) in its primary, or P1, position within sales calls. During the first three years LLY will pay for the remainder of the capacity of this sales force, referred to as the P2 and P3 positions, on a fee-for-service basis. The Company will make marketing and milestone payments to LLY totaling $110 million; payments totaling $30 million were paid during the third quarter of 2002, $40 million was paid during the fourth quarter of 2002 and the remaining $40 million is due throughout the four quarters following FDA approval. The $70 million in payments made by the Company is on an at-risk basis, and is not refundable in the event the FDA does not grant final approval for Cymbalta(TM). However, if any such non-approval occurs solely as a result of regulatory issues the FDA cites with respect to LLY's manufacturing processes and facilities, the Company will be entitled to recoup its pre-approval outlays, plus interest at the prime rate plus five percent, from a percentage of any revenues or royalties LLY derives from the sales of Cymbalta(TM) by LLY or sublicense of Cymbalta(TM) to third parties, if any. The $110 million in payments will be capitalized and amortized ratably as a reduction of revenue over the five-year service period. The sales force costs will be expensed as incurred. The payments are reported in the accompanying statement of cash flows as an Investing Activity - Purchases of Commercial Rights. In return for the P1 position for Cymbalta(TM) and the marketing and milestone payments, LLY will pay to the Company 8.25% of U.S. Cymbalta(TM) sales for depression and other neuroscience indications over the five year service period followed by a 3% royalty over the subsequent three years. In addition to the Company's obligations, LLY is obligated to spend at specified levels. The Company or LLY has the ability to cancel this agreement if Cymbalta(TM) is not approved by January 31, 2005, in which case the Company would write-off any payments made through that date, unless the FDA had failed to grant approval for Cymbalta(TM) based on concerns over LLY's manufacturing processes and facilities. In July 2002, the Company entered into an agreement with Columbia Laboratories, Inc. ("COB") to assist COB in the U.S. commercialization of the following women's health products: Prochieve(TM) 8%, Prochieve(TM) 4%, Advantage-S(R) and RepHresh(TM). Under the terms of the agreement, the Company purchased 1,121,610 shares of COB common stock for $5.5 million. The Company will also pay to COB four quarterly payments of $1.125 million each commencing in the third quarter of 2002 in exchange for royalties of 5% on the sales of the four COB products for a five-year period beginning in the first quarter of 2003. The Company has funded $1.125 million as of September 30, 2002. The aggregate royalties are subject to a contractual minimum of $8.0 million and a maximum of $12.0 million. In addition, the Company will provide to COB, at COB's expense on a fee-for-service basis, a sales force to commercialize the products. The Company has firm commitments under the above arrangements to provide funding of approximately $257.4 million in exchange for various commercial rights. As of September 30, 2002, the Company has funded approximately $130.6 million of these commitments and has accrued the $40 million payment due to LLY as of September 30, 2002. Further, the Company has additional future funding commitments that are 9 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES contingent upon satisfaction of certain milestones being met by the third party such as receiving FDA approval, obtaining funding from additional third parties, agreement of a marketing plan and other similar milestones. Due to the uncertainty of the amounts and timing, these contingent commitments are not included in the firm commitment amounts. Below is a summary of the remaining firm commitments with pre-determined payment schedules under such arrangements, including the $40 million payment due to LLY during the fourth quarter of 2002 (in thousands):
Commitments ----------- 2002 $ 55,171 2003 37,793 2004 10,027 2005 10,010 2006 9,914 2007 3,834 -------- $126,749 ========
3. Investments - Marketable Equity Securities The Company has entered into financial arrangements with various customers and other parties in which the Company provides funding in the form of an equity investment. The equity investments may be subject to certain trading restrictions including "lock-up" agreements. The Company's portfolio in such investments as of September 30, 2002 is as follows (in thousands except share data):
Number of Cost Fair Market Company Trading Symbol Shares Basis Value ------- -------------- --------- ------- ----------- Common Stock: Triangle Pharmaceuticals Inc. VIRS 3,775,000 $15,029 $10,196 The Medicines Company MDCO 2,059,221 8,978 22,606 CV Therapeutics, Inc. CVTX 256,705 1,250 5,368 Columbia Laboratories, Inc. COB 1,121,610 5,500 5,047 Other 3,145 1,856 ------- ------- Total marketable equity securities $33,902 $45,073 ======= =======
The Company may from time to time acquire warrants of companies in which a current market value is not readily available. As such, these investments are included in Deposits and Other Assets. 10 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 4. Investments - Non-marketable Equity Securities and Loans The Company has entered into financial arrangements with various customers and other parties in which the Company provides funding in the form of an equity investment in non-marketable securities or loans. These financial arrangements are comprised of direct and indirect investments. The indirect investments are made through eight venture capital funds in which the Company is an investor. The Company's portfolio in such investments as of September 30, 2002 is as follows (in thousands):
Remaining Funding Company Cost Basis Commitment ------- ---------- ----------------- Venture capital funds $26,957 $25,004 Equity investments (eight companies) 11,546 -- Convertible loans (five companies) 6,552 2,447 Loans (two companies) 1,257 18,744 ------- ------- Total non-marketable equity securities and loans $46,312 $46,195 ======= =======
Below is a table representing management's best estimate as of September 30, 2002 of the amount and timing of the above commitments (in thousands):
Total ----- 2002 $ 5,499 2003 30,935 2004 9,761 -------- $ 46,195 ========
The Company also has future loan commitments that are contingent upon satisfaction of certain milestones by the third party such as receiving FDA approval, obtaining funding from additional third parties, agreement of a marketing plan and other similar milestones. Due to the uncertainty of the amounts and timing, these contingent commitments are not included in the commitment amounts described above. The Company has determined that it is not practicable at each reporting date to estimate the fair value of its investments in non-marketable equity securities; however, the carrying values are reviewed if the facts and circumstances suggest that a potential impairment may have occurred. During the third quarter of each of 2002 and 2001, the Company recognized $1.0 million and $7.9 million, respectively, of losses due to such impairments mainly due to declining financial condition of certain investees. 11 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 5. Investments in Unconsolidated Affiliates In May 2002, the Company and McKesson Corporation ("McKesson") completed the formation of a previously announced healthcare informatics joint venture named Verispan, L.L.C. ("Verispan"). The Company and McKesson are equal co-owners of a majority of the equity of Verispan, with a portion of the equity of Verispan owned by or to be issued to key providers of de-identified healthcare data in exchange for the data. The Company contributed the net assets of its informatics group and funded $10 million to Verispan. Accordingly, the Company has recorded its investment in Verispan, approximately $120.7 million at September 30, 2002, as an investment in unconsolidated affiliates. Verispan will license data products to the Company and McKesson for use in their respective core businesses. Under the license arrangement, the Company's product development and commercial services groups continue to have access to Verispan's products to enhance their service delivery to the Company's customers. The Company's pro rata share of Verispan's earnings, since the date of formation, is included in equity in (losses) earnings of unconsolidated affiliates. Results of operations for the informatics group prior to formation of Verispan are included in the Company's revenues and expenses as appropriate. In January 2002, the Company acquired an equity interest in a sales and marketing organization in France for approximately $328,000. The Company's pro rata share of earnings is included in (losses) earnings of unconsolidated affiliates. 6. Goodwill and Identifiable Intangible Assets On January 1, 2002, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets." As such, all goodwill is no longer amortized but reviewed at least annually for impairment. Other intangible assets continue to be amortized over their useful lives. The Company completed the required transitional impairment test as of January 1, 2002 and the annual impairment test as of July 31, 2002 and no goodwill impairment was deemed necessary. Through December 2001, goodwill was amortized on a straight-line basis over periods from five to 40 years. The following is a summary of reported net loss and net loss per share, adjusted to exclude goodwill amortization expense (in thousands, except per share amounts):
Three months ended September 30, 2001 Nine months ended September 30, 2001 ------------------------------------- ------------------------------------ Net loss $(123,881) $(106,416) Add: goodwill amortization 1,957 5,864 Less: income tax benefit (651) (1,953) --------- --------- Adjusted net loss $(122,575) $(102,505) ========= ========= Adjusted net loss per share: Basic $ (1.02) $ (0.87) Diluted (1.02) (0.87)
12 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES As of September 30, 2002, the Company had approximately $65.1 million of goodwill. The decrease in goodwill during 2002 is a result of the formation of the Verispan joint venture. The following is a summary of goodwill by segment (in thousands):
Product Commercial Development Services Informatics Consolidated ----------- ---------- ----------- ------------ Balance as of December 31, 2001 $31,746 $30,168 $ 101,737 $ 163,651 Add: acquisition 202 -- -- 202 Less: impairment -- -- -- -- contribution to joint venture -- -- (101,737) (101,737) Impact of foreign currency fluctuations 2,324 698 -- 3,022 ------- ------- --------- --------- Balance as of September 30, 2002 $34,272 $30,866 $ -- $ 65,138 ======= ======= ========= =========
In conjunction with the adoption of SFAS No. 142, the Company has reclassed capitalized software and related accumulated amortization to other identifiable intangible assets from property and equipment for all periods presented. Identifiable assets consist primarily of software, which are amortized over the estimated useful life ranging from three to five years, and commercial rights, which are amortized ratably, based on estimated cash flows, over the life of the rights ranging from five to 15 years. Amortization expense associated with identifiable intangible assets was $6.6 million and $7.1 million for the three months ended September 30, 2002 and 2001, respectively, and $19.0 million and $19.3 million for the nine months ended September 30, 2002 and 2001, respectively. The following is a summary of identifiable intangible assets (in thousands):
As of September 30, 2002 As of December 31, 2001 --------------------------------------- ------------------------------------------ Gross Accumulated Net Gross Accumulated Net Amount Amortization Amount Amount Amortization Amount -------- ------------ -------- -------- ------------ -------- Identifiable intangible assets: Software and related assets $148,109 $ 77,113 $ 70,996 $156,806 $ 63,938 $ 92,868 Commercial rights 64,304 3,953 60,351 33,475 2,344 31,131 -------- -------- -------- -------- -------- -------- $212,413 $ 81,066 $131,347 $190,281 $ 66,282 $123,999 ======== ======== ======== ======== ======== ========
Estimated amortization expense for existing identifiable intangible assets is targeted to be approximately $25 million to $26.5 million per year for each of the years in the five-year period ended December 31, 2006, respectively. Estimated amortization expense can be affected by various factors including future acquisitions of product and/or commercial rights. 7. Stock Repurchase The Company was authorized by its Board of Directors to repurchase up to $100 million of the Company's Common Stock until March 1, 2002. On February 7, 2002, the Board of Directors extended this authorization until March 1, 2003. During the nine months ended September 30, 2002, the Company entered into agreements to repurchase 1,570,000 shares of its Common Stock for an aggregate price of approximately $22.2 million. 13 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 8. Significant Customers One customer accounted for 10.9%, 11.7%, 10.3% and 10.7% of consolidated gross service revenues less reimbursed service costs for the three and nine months ended September 30, 2002 and 2001, respectively. The revenues were derived from the product development, commercial services and informatics groups. 9. Investment Revenues The following table is a summary of investment revenues for the three and nine months ended September 30, 2002 and 2001(in thousands):
Three months ended September 30 Nine months ended September 30 -------------------------------- ------------------------------ 2002 2001 2002 2001 ------- -------- -------- -------- Marketable equity securities: Gross realized gains $ 5,163 $ 235 $ 17,352 $ 2,505 Gross realized losses (602) -- (1,879) -- Impairment losses -- -- -- (3,099) Non-marketable equity securities and loans: Gross realized gains -- -- -- 2,197 Gross realized losses -- -- (400) -- Impairment losses (1,000) (7,926) (1,000) (7,926) Other (106) -- 497 -- ------- -------- -------- -------- $ 3,455 $ (7,691) $ 14,570 $ (6,323) ======= ======== ======== ========
10. Restructuring Charge During the second quarter of 2002, the Company revised its estimates of the restructuring plan adopted during 2001 ("2001 Plan") which resulted in a reduction of $9.1 million in accruals for the 2001 Plan. The reduction included approximately $5.7 million in severance payments and $3.4 million of exit costs. The reductions are primarily the result of a higher than expected number of voluntary terminations and the reversal of restructuring accruals due to the Company's contribution of its informatics segment to the Verispan joint venture. Also during the second quarter of 2002, the Company recognized $9.1 million of restructuring charges as a result of the continued implementation of the strategic plan announced during 2001. This restructuring charge included revisions to 2001 and 2000 restructuring plans of approximately $2.5 million and $1.9 million, respectively, due to a revision in the estimates for the exit costs relating to the abandoned leased facilities. In addition, the adopted follow-on restructuring plan ("2002 Plan") consisted of $4.3 million related to severance payments, $310,000 related to exit costs and $112,000 of asset write-offs. As part of this plan, approximately 99 positions are to be eliminated mostly in the Europe and Africa region. As of September 30, 2002, 66 individuals have been terminated. 14 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Activity during the first nine months of 2002 was as follows for the 2002 Plan (in thousands):
Balance at Write-Offs/ Balance at December 31, 2001 Accruals Payments September 30, 2002 ----------------- -------- ----------- ------------------ Severance and related costs $ -- $ 4,241 $(1,778) $2,463 Exit costs -- 310 (152) 158 Asset write-offs -- 112 (112) -- ---- ------- ------- ------ $ -- $ 4,663 $(2,042) $2,621 ==== ======= ======= ======
During the third quarter of 2001, the Company adopted a restructuring plan that resulted in the recognition of a restructuring charge of $50.9 million. Of the approximately 1,000 positions to be eliminated under this plan, 873 individuals have been terminated as of September 30, 2002. Activity during the first nine months of 2002 was as follows for the 2001 Plan (in thousands):
Revisions to 2001 Plan ---------------------- Balance at Write-Offs/ Balance at December 31, 2001 Payments Reversals Accruals September 30, 2002 ----------------- ----------- -------- -------- ------------------ Severance and related costs $ 19,323 $(10,824) $(5,725) $ -- $2,774 Exit costs 8,806 (3,852) (3,347) 2,472 4,079 -------- -------- ------- ------ ------ $ 28,129 $(14,676) $(9,072) $2,472 $6,853 ======== ======== ======= ====== ======
The Company adopted a restructuring plan in January 2000 ("January 2000 Plan") and a follow-on restructuring plan which resulted in the recognition of a restructuring charge of $58.6 million. Of the approximately 990 positions that were to be eliminated under these plans, 921 positions have been terminated as of September 30, 2002, which includes 770 positions under the January 2000 Plan. Activity during the first nine months of 2002 was as follows for the 2000 plans (in thousands):
Revisions to Balance at Write-Offs/ January Balance at December 31, 2001 Payments 2000 Plan September 30, 2002 ----------------- ----------- ----------- ------------------ Severance and related costs 894 (742) $ -- $ 152 Exit costs 1,714 (1,606) 1,937 2,045 ------ ------- ------ ------ $2,608 $(2,348) $1,937 $2,197 ====== ======= ====== ======
15 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES As a result of the restructuring plans, the Company has approximately 285,000 square feet of abandoned leased facilities as of September 30, 2002. A portion of these facilities has been subleased and the Company is pursuing disposition of the remaining abandoned facilities. Below is a summary of the total lease obligations for the abandoned facilities (in thousands): Remainder of 2002 $ 1,634 2003 5,587 2004 3,516 2005 2,764 2006 2,707 Thereafter 7,544 -------- Gross abandoned lease obligations 23,752 Less: sublease/restructuring accrual (11,761) -------- Total obligation in excess of existing subleases and related restructuring accrual balances $ 11,991 ========
11. Net Income Per Share The following table sets forth the computation of the weighted-average shares used when calculating the basic and diluted net income per share (in thousands):
Three months ended September 30 Nine months ended September 30 ------------------------------- ------------------------------ 2002 2001 2002 2001 ------- ------- ------- ------- Weighted average shares: Basic weighted average shares 117,694 119,838 118,240 117,786 Effect of dilutive securities: Stock options 151 -- 280 -- ------- ------- ------- ------- Diluted weighted average shares 117,845 119,838 118,520 117,786 ======= ======= ======= =======
Options to purchase approximately 29.8 million shares and 20.4 million shares of the Company's Common Stock were outstanding during the three and nine months ended September 30, 2002, respectively, but were not included in the computation of diluted net income per share because the option's exercise price was greater than the average market price of the Company's Common Stock and, therefore, the effect would be antidilutive. 12. Comprehensive Income The following table represents the Company's comprehensive income for the three and nine months ended September 30, 2002 and 2001, respectively (in thousands):
Three months ended September 30 Nine months ended September 30 ------------------------------- ------------------------------ 2002 2001 2002 2001 ---------- ---------- -------- ------------- Net income (loss) $21,179 $(123,881) $59,066 $(106,416) Other comprehensive income (loss): Unrealized gain (loss) on marketable securities, net of income taxes 1,382 (89,109) (9,796) (116,354) Reclassification adjustment, net of income taxes (5,364) 206,155 (13,114) 206,155 Foreign currency adjustment (932) 13,722 23,545 (7,622) ------- --------- ------- --------- Comprehensive income (loss) $16,265 $ 6,887 $59,701 $ (24,237) ======= ========= ======= =========
16 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 13. Segments The following table presents the Company's operations by reportable segment. The Company is managed through three reportable segments, namely, the product development group, the commercial services group, and the PharmaBio group. The informatics group was transferred to a joint venture in May 2002. Management has distinguished these segments based on the normal operations of the Company. The product development group is primarily responsible for all phases of clinical research and outcomes research consulting. The commercial services group is primarily responsible for sales force deployment and strategic marketing services. Before being transferred to the joint venture, the informatics group was primarily responsible for providing market research solutions and strategic analysis to support healthcare decisions. The PharmaBio group is primarily responsible for facilitating non-traditional customer alliances and consists primarily of product revenues, royalties and commissions and investment revenues relating to the financial arrangements with customers and other third parties. During 2002, the Late Phase, primarily Phase IV, operations previously included in the commercial services group were reclassified to the product development group in order to consolidate the operational and business development activities. These changes are reflected in all periods presented. The Company does not include general and administrative expenses, depreciation and amortization except amortization of commercial rights, interest income (expense), other income (expense) and income tax expense (benefit) in segment profitability. Significant intersegment revenues have been eliminated. (in thousands):
Three months ended September 30, 2002 ------------------------------------------------- Product Commercial Development Services Informatics PharmaBio Eliminations Consolidated ----------- ---------- ----------- --------- ------------ ------------ Net services: External $242,333 $122,448 $ -- $ -- $ -- $364,781 Intersegment -- 13,194 -- -- (13,194) -- -------- -------- ------- ------- -------- -------- Total net services 242,333 135,642 -- -- (13,194) 364,781 Commercial rights and royalties -- -- -- 28,671 -- 28,671 Investment -- -- -- 3,455 -- 3,455 -------- -------- ------- ------- -------- -------- Total net revenues $242,333 $135,642 $ -- $32,126 $(13,194) $396,907 ======== ======== ======= ======= ======== ======== Contribution $125,912 $ 52,759 $ -- $ 3,023 $ -- $181,694 ======== ======== ======= ======= ======== ========
Three months ended September 30, 2001 ------------------------------------------------- Product Commercial Development Services Informatics PharmaBio Eliminations Consolidated ----------- ---------- ----------- --------- ------------ ------------ Net services: External $230,679 $152,955 $12,997 $ -- $ -- $396,631 Intersegment -- 5,397 -- -- (5,397) -- -------- -------- ------- ------- -------- -------- Total net services 230,679 158,352 12,997 -- (5,397) 396,631 Commercial rights and royalties -- -- -- 10,472 -- 10,472 Investment -- -- -- (7,691) -- (7,691) -------- -------- ------- ------- -------- -------- Total net revenues $230,679 $158,352 $12,997 $ 2,781 $ (5,397) $399,412 ======== ======== ======= ======= ======== ======== Contribution $109,966 $ 48,426 $ 5,468 $(7,998) $ -- $155,862 ======== ======== ======= ======= ======== ========
17 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES
Nine months ended September 30, 2002 ----------------------------------------------------- Product Commercial Development Services Informatics PharmaBio Eliminations Consolidated ----------- ---------- ----------- --------- ------------ ------------ Net services: External $704,021 $380,560 $20,347 $ -- $ -- $1,104,928 Intersegment -- 36,748 -- -- (36,748) -- -------- -------- ------- ------- -------- ---------- Total net services 704,021 417,308 20,347 -- (36,748) $1,104,928 Commercial rights and royalties -- -- -- 65,866 -- 65,866 Investment -- -- -- 14,570 -- 14,570 -------- -------- ------- ------- -------- ---------- Total net revenues $704,021 $417,308 $20,347 $80,436 $(36,748) $1,185,364 ======== ======== ======= ======= ======== ========== Contribution $354,024 $153,144 $ 8,024 $10,306 $ -- $ 525,498 ======== ======== ======= ======= ======== ==========
Nine months ended September 30, 2001 ----------------------------------------------------- Product Commercial Development Services Informatics PharmaBio Eliminations Consolidated ----------- ---------- ----------- --------- ------------ ------------ Net services: External $688,528 $467,958 $43,123 $ -- $ -- $1,199,609 Intersegment -- 5,397 -- -- (5,397) -- -------- -------- ------- ------- -------- ---------- Total net services 688,528 473,355 43,123 -- (5,397) 1,199,609 Commercial rights and royalties -- -- -- 16,264 -- 16,264 Investment -- -- -- (6,323) -- (6,323) -------- -------- ------- ------- -------- ---------- Total net revenues $688,528 $473,355 $43,123 $ 9,941 $ (5,397) $1,209,550 ======== ======== ======= ======= ======== ========== Contribution $326,823 $143,235 $19,492 $(6,990) $ -- $ 482,560 ======== ======== ======= ======= ======== ==========
14. Commitments and Contingencies On January 26, 2001, a purported class action lawsuit was filed in the State Court of Richmond County, Georgia, naming Novartis Pharmaceuticals Corp., Pharmed Inc., Debra Brown, Bruce I. Diamond and Quintiles Laboratories Limited, a subsidiary of the Company, on behalf of 185 Alzheimer's patients who participated in drug studies involving an experimental drug manufactured by defendant Novartis and their surviving spouses. The complaint alleges claims for breach of fiduciary duty, civil conspiracy, unjust enrichment, misrepresentation, Georgia RICO violations, infliction of emotional distress, battery, negligence and loss of consortium as to class member spouses. The complaint seeks unspecified damages, plus costs and expenses, including attorneys' fees and experts' fees. The Company believes the claims to be without merit and intends to defend the suit vigorously. 18 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES On January 22, 2002, Federal Insurance Company ("Federal") and Chubb Custom Insurance Company ("Chubb") filed suit against the Company, Quintiles Pacific, Inc. and Quintiles Laboratories Limited, two of the Company's subsidiaries, in the United States District Court for the Northern District of Georgia. In the suit, Chubb, the Company's primary commercial general liability carrier, and Federal, the Company's excess liability carrier, seek to rescind the policies issued to the Company for coverage years 2000-2001 and 2001-2002 based on an alleged misrepresentation by the Company on the policy application. Alternatively, Chubb and Federal seek a declaratory judgment that there is no coverage under the policies for some or all of the claims asserted against the Company and its subsidiaries in the litigation described in the prior paragraph and, if one or more of such claims is determined to be covered, Chubb and Federal request an allocation of the defense costs between the claims they contend are covered and non-covered claims. The Company has filed an answer with counterclaims against Federal and Chubb in response to their complaint. The Company believes their allegations are without merit and intends to defend this case vigorously. Since October 15, 2002, several purported class action lawsuits have been filed in Superior Court, Durham County, North Carolina by shareholders seeking to enjoin the consummation of the transaction contemplated by the non-binding proposal made by Pharma Services Company, a newly formed company wholly owned by Dennis B. Gillings, Ph.D., to acquire all of the outstanding shares of the Company for $11.25 per share in cash. In response to the proposal, which was received by the Company on October 13, 2002, the Company's Board of Directors established a special committee of independent directors to act on behalf of the Company with respect to the proposal or any alternatives in the context of evaluating what is in the best interest of the Company and its shareholders. On November 11, 2002, the special committee announced its rejection of the proposal and its intention to investigate strategic alternatives available to the Company for purposes of enhancing shareholder value, including the possibility of a sale of the Company and alternatives that would keep the Company independent and publicly owned. The lawsuits name as defendants Dr. Gillings, other members of the Company's Board of Directors, the Company and, in some cases, Pharma Services Company. The complaints allege, among other things, that the directors breached their duties with respect to the proposal. The complaints seek to enjoin the transaction proposed by Pharma Services Company, and the plaintiffs seek to recover damages. The Company is currently in the process of reviewing the complaints and considering an appropriate response. Based upon its preliminary review, the Company believes the lawsuits are without merit and intends to defend them vigorously. The Company is also a party to certain other pending litigation arising in the normal course of our business. In the opinion of management, based on consultation with its legal counsel, the outcome of such litigation currently pending will not have a material effect on the Company's consolidated financial statements. 15. Recently Adopted Accounting Pronouncements In August 2001, the Financial Accounting Standards Board issued SFAS No. 144, "Accounting for the Impairment on Disposal of Long-Lived Assets." This statement supersedes SFAS No. 121, "Accounting for Long-Lived Assets to Be Disposed Of" and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions." The Company adopted SFAS No. 144 as required to do so on January 1, 2002. The adoption of SFAS No. 144 did not have a material impact on the Company's results of operations and/or financial position. 19 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES In November 2001, the Emerging Issues Task Force ("EITF") released EITF Issue 01-14, "Income Statement Characterization of Reimbursements Received for "Out-of-Pocket" Expenses Incurred," requiring companies to report reimbursed costs as part of gross revenues. The Company adopted the provisions of EITF 01-14 as required to do so on January 1, 2002 and, as such, reimbursed service costs have been reclassified to gross service revenues for all periods presented. However, it was impracticable to identify and reclassify certain prior period commercialization reimbursed service costs and, accordingly, historical results have not been restated for these costs. During the three and nine months ended September 30, 2002, these commercialization reimbursed service costs totaled approximately $10.1 million and $45.8 million, respectively. 16. Subsequent Event On October 14, 2002, the Company announced that Pharma Services Company, a newly formed company owned by the Company's Chairman of the Board and Founder, made a non-binding proposal to acquire all of the Company's outstanding shares for a cash price of $11.25 per share. In response to the proposal, the Company's Board of Directors has established a special committee of independent directors to act on behalf of the Company with respect to the proposal or alternatives in the context of evaluating what is in the best interest of the Company and its shareholders. On November 11, 2002, the special committee announced its rejection of the proposal. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations CAUTIONARY STATEMENT FOR FORWARD LOOKING INFORMATION Information set forth in this Form 10-Q, including Management's Discussion and Analysis of Financial Condition and Results of Operations, contains various "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward looking statements represent our judgment concerning the future and are subject to risks and uncertainties that could cause our actual operating results and financial position to differ materially. Such forward looking statements can be identified by the use of forward looking terminology such as "may," "will," "expect," "anticipate," "estimate," "believe," "continue," or "target" or the negative thereof or other variations thereof or comparable terminology. We caution you that any such forward looking statements are further qualified by important factors that could cause our actual operating results to differ materially from those in the forward looking statements, including without limitation, uncertainties arising in connection with the proposed acquisition transaction, such as the possibility that neither the proposed transaction nor any other transaction will be approved or completed, the risk that the market for our products and services will not grow as we expect, the risk that our PharmaBio transactions will not generate revenues, profits or return on investment at the rate or levels we expect or that royalty revenues under our PharmaBio arrangements may not be adequate to offset our upfront and on-going expenses in providing sales and marketing services or in making milestone and marketing payments, risks associated with entering into a new line of business such as those being entered into by PharmaBio, our ability to distribute backlog among project management groups and match demand to resources, our actual operating performance, the actual savings and operating improvements resulting from our restructuring activities, our 20 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES ability to maintain large customer contracts or to enter into new contracts, changes in trends in the pharmaceutical industry, the risk that our joint venture with McKesson Corporation relating to the informatics business will not be successful, and liability risks associated with our business which could result in losses or indemnity to others not covered by insurance. See "Risk Factors" below for additional factors that could cause actual results to differ. Results of Continuing Operations We adopted Emerging Issues Task Force Issue 01-14 on January 1, 2002, as required. This new accounting guidance requires us to report reimbursed service costs as part of gross service revenues. Our reimbursed service costs include such items as payments to investigators and travel expenses for our clinical monitors and sales representatives. Historically, we have not reported these reimbursed service costs as service revenues since we do not earn a profit on these costs. In accordance with this new accounting guidance, we have reclassified reimbursed service costs to gross service revenues for all periods presented. However, it was impracticable to identify and reclassify certain prior period commercialization reimbursed service costs and, accordingly, historical results have not been restated for these costs. These commercialization reimbursed service costs totaled approximately $10.1 million and $45.8 million for the three and nine months ended September 30, 2002, respectively. Three Months Ended September 30, 2002 and 2001 Gross service revenues, which are total service fees accrued to our customers including reimbursed service costs, were $458.8 million for the third quarter of 2002 versus $462.5 million for the third quarter of 2001. Reimbursed service expenses, which are pass-through expenses that are to be reimbursed by our customers, were $94.1 million for the third quarter of 2002 as compared to $65.9 million for the third quarter of 2001. Gross service revenues accrued to our customers less reimbursed service costs, or net service revenues, for the third quarter of 2002 were $364.8 million, a decrease of $31.9 million or (8.0%) over the third quarter of 2001 net service revenues of $396.6 million. Included in net service revenues for the third quarter of 2001 is $13.0 million from our informatics group which was transferred to a joint venture in May 2002. Net service revenues were positively impacted in the third quarter of 2002 by approximately $11.0 million due to the effect of foreign currency fluctuations related to the weakening of the US Dollar relative to the euro, the British pound and Japanese yen. This was partially offset by the strengthening of the US Dollar relative to the South African Rand. Using a constant exchange rate for each period, net service revenues decreased $42.8 million or (10.8%). Net service revenues increased in the Asia Pacific region $7.4 million or 17.2% to $50.6 million, which was positively impacted by $1.2 million due to the effect of foreign currency fluctuations. Net service revenues increased $22.7 million or 16.0% to $164.5 million in the Europe and Africa region, which was positively impacted by $10.1 million due to the effect of foreign currency fluctuations. Net service revenues decreased $62.0 million or (29.3%) to $149.7 million in the Americas region primarily as a result of the decline in the commercial services segment due to continued difficult business conditions for large fee-for-service contracts in the United States. 21 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Commercial rights and royalties revenues, which include product revenues, royalties and commissions, were $28.7 million for the third quarter of 2002, an increase of $18.2 million over commercial rights and royalties revenues of $10.5 million for the third quarter of 2001. Commercial rights and royalties revenues were positively impacted in the third quarter of 2002 by approximately $868,000 due to the effect of foreign currency fluctuations related to the weakening of the US Dollar relative to the euro. These revenues include revenues from products for which we have acquired certain commercial rights, such as the dermatology products, Solaraze(TM) and ADOXA(TM). Also included are product revenues that we receive in exchange for providing commercial or product development services. The $18.2 million increase is primarily the result of our acquisition of certain assets of Bioglan Pharma, Inc., or Bioglan, and its suite of dermatology products, a new risk sharing contract in Europe with a large pharmaceutical customer and our contracts with Scios Inc. and Kos Pharmaceuticals, Inc. For the three months ended September 30, 2002, approximately 46.7% of our commercial rights and royalties revenues was attributable to the contracts with Scios and Kos, approximately 25.4% was attributable to the risk sharing contract in Europe, approximately 22.0% was attributable to our suite of dermatology products and the remaining 5.9% was attributable to miscellaneous contracts and other activities. Investment revenues, which include gains and losses on the sale of equity securities and impairment of investment instruments, for the third quarter of 2002 were $3.5 million versus a loss of $7.7 million for the third quarter of 2001. The third quarter of 2002 and 2001 included $1.0 million and $7.9 million, respectively, of impairment losses whose decline in fair value was other than temporary primarily due to the declining financial condition of certain investees. Total net revenues decreased $2.5 million or (0.6%) to $396.9 million for the third quarter of 2002 from $399.4 million for the third quarter of 2001. Service costs, which include compensation and benefits for billable employees, and certain other expenses directly related to service contracts, were $186.1 million or 51.0% of net service revenues for the third quarter of 2002 versus $232.8 million or 58.7% of net service revenues for the third quarter of 2001. The reduction as a percentage of net revenue is primarily a result of the continued effect of our process enhancements and cost reduction efforts. Commercial rights and royalties costs, which include compensation and related benefits for employees, amortization of commercial rights, infrastructure costs of the PharmaBio group and other expenses directly related to commercial rights and royalties, were $29.1 million for the third quarter of 2002 versus $10.7 million for the third quarter of 2001. These costs include services and products provided by third parties, as well as services provided by our other service groups, totaling approximately $13.2 million and $5.4 million for the third quarter of 2002 and 2001, respectively. The profit for these internal services is reported within the service group providing the services. The third quarter of 2002 also includes costs to market Solaraze(TM) and ADOXA(TM) and expenses relating to the risk sharing contract in Europe. Investment costs, which include costs directly related to direct and indirect investments in our customers or other third parties as part of the PharmaBio financing arrangements, were $38,000 for the third quarter of 2002 versus $61,000 for the third quarter of 2001. 22 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Revenue less certain direct costs, or contribution, was $181.7 million or 45.8% of total net revenues for the third quarter of 2002 versus $155.9 million or 39.0% of total net revenues for the third quarter of 2001. General and administrative expenses, which include compensation and benefits for administrative employees, non-billable travel, professional services, and expenses for advertising, information technology and facilities, were $128.8 million or 32.5% of total net revenues for the third quarter of 2002 versus $127.6 million or 31.9% of total net revenues for the third quarter of 2001. General and administrative expenses decreased $1.2 million primarily due to realization of the benefits from our restructurings including efficiencies created through the implementation of our shared service centers, as well as global cost reduction efforts. Depreciation and amortization, which include depreciation of our property and equipment and amortization of our definite-lived intangible assets except commercial rights, decreased to $20.8 million for the third quarter of 2002 versus $24.3 million for the third quarter of 2001. This decrease is primarily due to the adoption of Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets," which requires all goodwill and indefinite-lived intangible assets no longer be amortized but reviewed at least annually for impairment. During the third quarter of 2002, we completed the annual goodwill impairment test, in which no goodwill impairment was deemed necessary. In connection with the implementation of our strategic plan, we recognized a $50.9 million restructuring charge during the third quarter of 2001. In addition, we recognized a $1.1 million restructuring charge as a revision of an estimate to a 2000 restructuring plan. Also in the third quarter of 2001, we recognized a $20.1 million charge to write-off goodwill and other operating assets primarily relating to goodwill recorded in four separate acquisitions in our commercial services segment. The goodwill was deemed impaired and written-off due to changing business conditions and strategic direction. Net interest income, which represents interest income received from bank balances and investments in debt securities net of interest expense incurred on lines of credit, notes and capital leases, was $3.3 million for the third quarter of 2002 versus $3.8 million for the third quarter of 2001. Although our investable funds for the third quarter of 2002 were greater than the investable funds for the same period in 2001, we experienced a $569,000 decrease in net interest income primarily due to a decline in interest rates. Other expense was $1.5 million for the third quarter of 2002 versus $183,000 for the third quarter of 2001. The $1.3 million variation was primarily the result of losses on the disposal of assets. During the third quarter of 2001 we recognized a $334.0 million loss as a result of the write-down of our cost basis in our investment in WebMD Corporation common stock due to an other than temporary decline in fair value. Income before income taxes was $33.8 million or 8.5% of total net revenues for the third quarter of 2002 versus a loss of $398.6 million for the third quarter of 2001. Excluding the $52.0 million restructuring charge, 23 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES the $20.1 million write-off of goodwill and other operating assets, and the $334.0 million impairment on investment in WebMD in the third quarter of 2001, income before income taxes was $7.6 million or 1.9% of total net revenue for the third quarter of 2001. The effective income tax rate was 34.3% for the third quarter of 2002 versus 33.3% for the third quarter of 2001. As is customary, we filed our 2001 United States Federal income tax return in September 2002 and re-evaluated our estimated income tax rate for 2002. As a result, we estimated our income tax rate for 2002 to be approximately 33.5%. Since we conduct operations on a global basis, our effective income tax rate may vary. In the third quarter of 2002, we recognized $1.0 million of losses from equity in unconsolidated affiliates which represents our pro rata share of net losses of unconsolidated affiliates, primarily the Verispan L.L.C. joint venture. Verispan continues to execute its data product strategy; however, the sales of the data products have been slower than expected due to difficult market conditions. Analysis by Segment: In the first quarter of 2002, we transferred the portion of the operations of our Late Phase, primarily Phase IV, clinical group that was in the commercial services group to the product development group. All historical information presented has been restated to reflect this change. The following table summarizes the operating activities for our four reportable segments for the three months ended September 30, 2002 and 2001, respectively. We do not include general and administrative expenses, depreciation and amortization except amortization of commercial rights, interest income (expense), other income (expense) and income tax expense (benefit) in our segment analysis. Significant intersegment revenues have been eliminated, (dollars in millions).
Total Net Revenues Contribution ------------------------------------- ----------------------------------------------- % of Net % of Net 2002 2001 Growth % 2002 Revenues 2001 Revenues ------ ------ ------ ------ ---- ------ ------ Product development $242.3 $230.7 5.1% $125.9 52.0% $110.0 47.7% Commercial services 135.6 158.4 (14.3) 52.8 38.9 48.4 30.6 Informatics -- 13.0 (100.0) -- -- 5.5 42.1 PharmaBio 32.1 2.8 1055.2 3.0 9.4 (8.0) (287.6) Eliminations (13.2) (5.4) 144.5 -- -- -- -- ------ ------ ------ ------ ---- ------ ------ $396.9 $399.4 (0.6)% $181.7 45.8% $155.9 39.0%
The product development group's financial performance improvement was a result of the continued effect of process enhancements and increased revenues in early development and laboratory services. The commercial services group's financial performance was negatively impacted by continued difficult business conditions for large fee-for-service contracts especially in the United States. The negative impact was offset by the effects of our cost reduction efforts. 24 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES The third quarter of 2002 includes no revenues and contribution for the informatics group as a result of the formation of Verispan in May of 2002. The PharmaBio group's increase in net revenues, which consist of commercial rights and royalties and investments, was primarily the result of our acquisition of certain assets of Bioglan and its suite of dermatology products, the risk sharing contract in Europe and our contracts with Scios Inc. and Kos Pharmaceuticals, Inc. The performance of this group was negatively impacted by the costs associated with the marketing of Solaraze(TM) and ADOXA(TM) and expenses relating to the risk sharing contract in Europe. We believe the costs of marketing these products and the expenses for the risk sharing contract will exceed related revenues during the first year. Nine Months Ended September 30, 2002 and 2001 Gross service revenues for the nine months ended September 30, 2002 were $1.40 billion versus $1.39 billion for the nine months ended September 30, 2001. Reimbursed service expenses were $297.1 million for the nine months ended September 30, 2002 as compared to $193.6 million for the nine months ended September 30, 2001. Net service revenues for the first nine months of 2002 were $1.10 billion, a decrease of $94.7 million or (7.9%) over net service revenues of $1.20 billion in the first nine months of 2001 . Included in net revenues for the first nine months of 2002 was $20.3 million from informatics group as compared to $43.1 million for the same period in 2001. Our informatics group was transferred to a joint venture during May 2002, therefore revenues for this group are not included in our net service revenues since the date of transfer. Net service revenues in the first nine months of 2002 were positively impacted by approximately $599,000 due to the effect of foreign currency fluctuations related to the weakening of the US Dollar relative to the euro and the British pound. This was partially offset by the strengthening of the US Dollar relative to the South African Rand and the Japanese yen. Using a constant exchange rate for each period, net service revenues decreased $95.3 million or (7.9%). Net service revenues increased in the Asia Pacific region $21.6 million or 18.5% to $138.7 million, which was negatively impacted by $3.2 million due to the effect of foreign currency fluctuations. Net service revenues increased $35.4 million or 8.1% to $470.7 million in the Europe and Africa region, which was positively impacted by $4.2 million due to the effect of foreign currency fluctuations. Net service revenues decreased $151.7 million or (23.4%) to $495.5 million in the Americas region primarily as a result of the decline in the commercial services group revenues. Commercial rights and royalties revenues, which include product revenues, royalties and commissions, for the first nine months of 2002 were $65.9 million, an increase of $49.6 million over the first nine months of 2001 commercial rights and royalties revenues of $16.3 million. Commercial rights and royalties revenues were positively impacted by approximately $1.1 million due to the effect of foreign currency fluctuations related to the weakening of the US Dollar relative to the euro. These revenues include products for which we have acquired the rights, such as the dermatology products, Solaraze(TM) and ADOXA(TM). Also included are product revenues that we receive in exchange for providing commercial or product development services. The $49.6 million increase is primarily the result of our acquisition of certain assets of Bioglan and its suite of dermatology products, a new risk sharing contract in Europe with a large pharmaceutical customer and our 25 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES contracts with Scios Inc. and Kos Pharmaceuticals, Inc. For the nine months ended September 30, 2002, approximately 58.2% of our commercial rights and royalties revenues was attributable to the contracts with Scios and Kos, approximately 18.3% was attributable to the risk sharing contract in Europe, approximately 15.6% was attributable to our suite of dermatology products and the remaining 7.9% was attributable to miscellaneous contracts and other activities. Investment revenues, which include gains and losses on the sale of equity securities and impairment of investment instruments, for the first nine months of 2002 were $14.6 million versus a loss of $6.3 million for the first nine months of 2001. The first nine months of 2002 and 2001 included $1.0 million and $11.0 million, respectively, of impairment losses on investments whose decline in fair value was considered to be other than temporary. Total net revenues decreased $24.2 million or (2.0%) to $1.19 billion for the first nine months of 2002 from $1.21 billion for the first nine months of 2001. Service costs, which include compensation and benefits for billable employees, and other certain expenses directly related to service contracts, were $589.7 million or 53.4% of net service revenues for the first nine months of 2002 versus $710.1 million or 59.2% of net service revenues for the first nine months of 2001. This reduction is primarily a result of the continued effect of our process enhancements and cost reduction efforts. Commercial rights and royalties costs, which include compensation and related benefits for employees, amortization of commercial rights, infrastructure costs of the PharmaBio group and other expenses directly related to commercial rights and royalties, were $69.9 million for the first nine months of 2002 versus $16.5 million for the first nine months of 2001. These costs include services and products provided by third parties, as well as services provided by our other service groups, totaling approximately $36.7 million for the first nine months of 2002 and $5.4 million for the first nine months of 2001. The profit for these internal services is reported within the service group providing the services. The first nine months of 2002 also includes costs to launch and market Solaraze(TM) and ADOXA(TM) and expenses relating to the risk sharing contract in Europe. Investment costs, which include costs directly related to direct and indirect investments in our customers or other third parties as part of the financing PharmaBio arrangements, were $217,000 for the first nine months of 2002 versus $408,000 for the first nine months of 2001. Revenue less certain direct cost, or contribution, was $525.5 million or 44.3% of total net revenues for the first nine months of 2002 versus $482.6 million or 39.9% of total net revenues for the first nine months of 2001. General and administrative expenses, which include compensation and benefits for administrative employees, non-billable travel, professional services, and expenses for advertising, information technology and facilities, were $382.0 million or 32.2% of total net revenues for the first nine months of 2002 versus $391.2 million or 32.3% of total net revenues for the first nine months of 2001. General and administrative expenses decreased $9.3 million primarily due to realization of the benefits from our restructurings, including 26 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES efficiencies created through the implementation of our shared service centers, as well as global cost reduction efforts. Depreciation and amortization, which include depreciation of our property and equipment and amortization of our definite-lived intangible assets except commercial rights, decreased to $63.5 million for the first nine months of 2002 versus $70.4 million for the first nine months of 2001. This decrease is primarily due to the adoption of Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets," which requires all goodwill and indefinite-lived intangible assets no longer be amortized but reviewed at least annually for impairment. During the first nine months of 2002, we completed the goodwill transitional impairment test as of January 1, 2002, as required, and the annual impairment test as of July 31, 2002, in which no goodwill impairment was deemed necessary at either date. In the first nine months of 2001, we recognized $54.2 million of restructuring charges which included approximately $1.1 million relating to a 2000 restructuring plan. In the third quarter of 2001, we recognized a $20.1 million charge to write-off goodwill and other operating assets primarily relating to goodwill recorded in four separate acquisitions in our commercial services segment. The goodwill was deemed impaired and written-off due to changing business conditions and strategic direction. Net interest income, which represents interest income received from bank balances and investments in debt securities net of interest expense incurred on lines of credit, notes and capital leases, was $10.0 million for the first nine months of 2002 versus $14.3 million for the first nine months of 2001. The $4.3 million decrease was due to a decline in interest rates. Other expense was $344,000 for the first nine months of 2002 versus other income of $585,000 for the first nine months of 2001. The $929,000 variation was a result of several factors, including effects of foreign currency translations, disposal of assets and transaction costs associated with the formation of the Verispan joint venture. During the first nine months of 2001, we recognized a $334.0 million impairment due to the write-down of our cost basis in our investment in WebMD whose decline in fair value was considered to be other than temporary. Income before income taxes was $89.6 million or 7.6% of total net revenues for the first nine months of 2002 versus a loss of $372.5 million for the first nine months of 2001. Excluding the $54.2 million restructuring charge, the $20.1 million write-off of goodwill, and the $334.0 million impairment on investment in WebMD in the first nine months of 2001, income before income taxes was $35.8 million or 3.0% of total net revenue for the first nine months of 2001. The effective income tax rate was 33.5% for the first nine months of 2002 versus 33.3% for the first nine months of 2001. Since we conduct operations on a global basis, our effective income tax rate may vary. 27 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES We recognized $540,000 of losses from equity in unconsolidated affiliates which represents our pro rata share of net losses of unconsolidated affiliates, primarily Verispan's net loss since its formation in May 2002. Analysis by Segment: During the first quarter of 2002, we transferred the portion of the operations of our Late Phase, primarily Phase IV, clinical group that was in the commercial services group to the product development group. All historical information presented has been restated to reflect this change. The following table summarizes the operating activities for our four reportable segments for the nine months ended September 30, 2002 and 2001, respectively. We do not include general and administrative expenses, depreciation and amortization except amortization of commercial rights, interest income (expense), other income (expense) and income tax expense (benefit) in our segment analysis. Significant intersegment revenues have been eliminated, (dollars in millions).
Total Net Revenues Contribution ----------------------------------------- ----------------------------------------------- % of Net % of Net 2002 2001 Growth % 2002 Revenues 2001 Revenues -------- -------- -------- ------ -------- ------ -------- Product development $ 704.0 $ 688.5 2.3% $354.0 50.3% $326.8 47.5% Commercial services 417.3 473.4 (11.8) 153.1 36.7 143.2 30.3 Informatics 20.3 43.1 (52.8) 8.0 39.4 19.5 45.2 PharmaBio 80.4 9.9 709.1 10.3 12.8 (7.0) (70.3) Eliminations (36.7) (5.4) (581.0) -- -- -- -- -------- -------- ------ ------ $1,185.4 $1,209.6 (2.0)% $525.5 44.3 $482.6 39.9%
The product development group's financial performance improvement was a result of several factors, including an increase in revenues and the continued effect of process enhancements. The commercial services group's financial performance was negatively impacted by difficult business conditions for large fee-for-service contracts in the United States, as well as the completion of several contracts in the United States. The negative impact was offset by the effects of our cost reduction efforts. The informatics group's performance was impacted by the pending transfer of this group into a joint venture with McKesson which was completed in May 2002. The 2002 results include only five months of revenues and contribution for the informatics group. The PharmaBio group's increase in net revenues, which consist of commercial rights and royalties and investments, was primarily the result of our acquisition of certain assets of Bioglan and its suite of dermatology products, the risk sharing contract in Europe and our contracts with Scios Inc. and Kos Pharmaceuticals, Inc. This group was negatively impacted by the costs associated with the launch and marketing of Solaraze(TM) and ADOXA(TM). We believe the costs of marketing these products and expenses for the risk sharing contract will exceed related revenues during the first year. 28 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Liquidity and Capital Resources Cash and cash equivalents were $617.4 million at September 30, 2002 as compared to $565.1 million at December 31, 2001. Cash provided by operations was $168.9 million for the nine months ended September 30, 2002 versus $102.4 million for the comparable period of 2001. Increasing cash from operations for the nine months ended September 30, 2001 was an income tax refund of $47.6 million. Investing activities during the first nine months of 2002 consisted primarily of the acquisition of certain assets of Bioglan, purchases of commercial rights, purchases and sales of equity securities and other investments and capital asset purchases. Purchases of equity securities and other investments required an outlay of cash of $15.0 million for the nine months ended September 30, 2002 compared to an outlay of $30.7 million for the same period in 2001. We received $24.8 million of proceeds from the sale of equity securities and other investments during the nine months ended September 30, 2002 as compared to $4.8 million for the same period in 2001. Capital asset purchases required an outlay of cash of $30.6 million for the nine months ended September 30, 2002 compared to an outlay of $59.8 million for the same period in 2001. On March 22, 2002, we acquired certain assets of Bioglan, including approximately $1.6 million in cash, for approximately $27.9 million. As part of the agreement, we also acquired Bioglan's rights to certain dermatology products already on the market in the United States, including ADOXA(TM). During the nine months ended September 30, 2002, purchases of commercial rights were $41.4 million. These purchases included the $30.0 million payment under our PharmaBio agreement with Eli Lilly and Company, also referred to as LLY. We have recorded an additional $40.0 million payable to LLY as a result of LLY receiving the approvable letter for Cymbalta(TM) during September 2002. We made this payment to LLY during October 2002. The following table is a summary of our net service receivables outstanding (dollars in thousands):
September 30, 2002 December 31, 2001 ------------------ ----------------- Trade service accounts receivable, net $ 209,054 $ 258,917 Unbilled services 143,097 166,754 Unearned income (217,998) (205,783) --------- --------- Net service receivables outstanding $ 134,153 $ 219,888 ========= ========= Number of days of service revenues outstanding 27 43
The decrease in the number of days of service revenues outstanding is a result of our continued focus on the fundamentals of our business and efficiencies generated by our shared service centers. Investments in debt securities were $38.0 million at September 30, 2002 as compared to $37.0 million at December 31, 2001. Our investments in debt securities consist primarily of U.S. Government Securities, which are callable by the issuer at par, and money funds. 29 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Investments in marketable equity securities at September 30, 2002 were $45.1 million, a decrease of $32.9 million, as compared to $78.0 million at December 31, 2001. This decrease is due primarily to unrealized losses on the portfolio as a result of stock price declines and sales of marketable equity securities. Investments in non-marketable equity securities and loans at September 30, 2002 were $46.3 million, an increase of $8.7 million, as compared to $37.6 million at December 31, 2001. In May 2002, we completed the formation of our previously announced healthcare informatics joint venture, Verispan, with McKesson which is designed to leverage the operational strengths of the healthcare information businesses of each company. We are equal co-owners of a majority of the equity of Verispan with McKesson, with a portion of the equity in Verispan owned or to be issued to key providers of de-identified healthcare data in exchange for the data. We contributed the net assets of our informatics group to the joint venture and funded $10.0 million to Verispan. Accordingly, we have recorded our investment in Verispan, which is approximately $120.7 million at September 30, 2002, as an investment in unconsolidated affiliates. Verispan will license data products to McKesson and us for use in our core businesses. Under the license arrangement, our product development and commercial services groups continue to have access to Verispan's products, at no license fee, to enhance their service delivery to our customers. We have available to us a (pound)10.0 million (approximately $15.6 million) unsecured line of credit and a (pound)1.5 million (approximately $2.3 million) general banking facility with a U.K. bank. At September 30, 2002, we did not have any outstanding balances on these facilities. Shareholders' equity at September 30, 2002 was $1.495 billion versus $1.455 billion at December 31, 2001. In March 2001, the Board of Directors authorized us to repurchase up to $100 million of our common stock until March 1, 2002. In February 2002, the Board extended this authorization until March 1, 2003. During the first nine months of 2002, we entered into agreements to repurchase approximately 1.6 million shares for an aggregate price of $22.2 million. We did not enter into any agreements to repurchase our common stock during the quarter ended September 30, 2002. Based on our current operating plan, we believe that our available cash and cash equivalents, together with future cash flows from operations and borrowings under our line of credit agreements will be sufficient to meet our foreseeable cash needs in connection with our operations. As part of our business strategy, we review many acquisition candidates in the ordinary course of business, and in addition to acquisitions already made, we are continually evaluating new acquisition and expansion possibilities. In addition, as part of our business strategy going forward, we intend to review and consider opportunities to acquire additional product rights, as appropriate. We may from time to time seek to obtain debt or equity financing in our ordinary course of business or to facilitate possible acquisitions or expansion. 30 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Subsequent Event On October 14, 2002, we announced that Pharma Services Company, a newly formed company owned by our Chairman of the Board and Founder, has made a non-binding proposal to acquire all of our outstanding shares for a cash price of $11.25 per share. In response to the proposal, our Board of Directors has established a special committee of independent directors to act on our behalf with respect to the proposal or alternatives in the context of evaluating what is in our best interest and the best interest of our shareholders. On November 11, 2002, the special committee announced its rejection of the proposal. Backlog and Net New Business Reporting We report backlog, $1.783 billion at June 30, 2002, based on anticipated net revenue from uncompleted projects that our customers have authorized. Backlog at June 30, 2002 includes approximately $77 million of backlog related to services contracted from our service groups, primarily commercial services, in connection with the strategic alliances forged by our PharmaBio group. Net new business, which is anticipated net revenue from contracts which we entered into during the period and adjusted for contracts which were cancelled during the period, for the six months ended June 30, 2002 was $580 million, including $54 million of internal service contracts. Net new business for our product development and commercial services groups during this same period was $360 million and $220 million, respectively. We do not include product revenue or commercial rights-related revenue (royalties and commissions) in backlog or net new business. Our backlog and net new business is calculated based upon our estimate of forecasted currency exchange rates. Annually, we adjust the beginning balance of our backlog to reflect changes in our forecasted currency exchange rates. Our backlog and net new business at any time can be affected by: - the variable size and duration of projects, - the loss or delay of projects, and - a change in the scope of work during the course of a project. If customers delay projects, the projects will remain in backlog, but will not generate revenue at the rate originally expected. Accordingly, historical indications of the relationship of backlog to revenues may not be indicative of the future relationship. The reporting of revenue backlog and net new business is not authoritatively prescribed, therefore practices tend to vary among companies in our industry and reported amounts are not necessarily comparable among competitors. 31 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES RISK FACTORS In addition to the other information provided in this report, you should consider the following factors carefully in evaluating our business and us. Additional risks and uncertainties not presently known to us, that we currently deem immaterial or that are similar to those faced by other companies in our industry or business in general, such as competitive conditions, may also impair our business operations. If any of the following risks occur, our business, financial condition, or results of operations could be materially adversely affected. Changes in outsourcing trends in the pharmaceutical and biotechnology industries could adversely affect our operating results and growth rate. Economic factors and industry trends that affect our primary customers, pharmaceutical and biotechnology companies, also affect our business. For example, the practice of many companies in these industries has been to hire outside organizations like us to conduct large clinical research and sales and marketing projects. This practice grew substantially during the 1990's and we benefited from this trend. Some industry commentators believe that the rate of growth of outsourcing will tend to decrease. If these industries reduce their tendency to outsource those projects, our operations, financial condition and growth rate could be materially and adversely affected. Recently, we also believe we have been negatively impacted by mergers and other factors in the pharmaceutical industry, which appear to have slowed decision making by our customers and delayed certain trials. A continuation of these trends would have an ongoing adverse effect on our business. In addition, numerous governments have undertaken efforts to control growing healthcare costs through legislation, regulation and voluntary agreements with medical care providers and pharmaceutical companies. If future regulatory cost containment efforts limit the profits which can be derived on new drugs, our customers may reduce their research and development spending, which could reduce the business they outsource to us. We cannot predict the likelihood of any of these events or the effects they would have on our business, results of operations or financial condition. If we are unable to successfully develop and market potential new services, our growth could be adversely affected. Another key element of our growth strategy is the successful development and marketing of new services that complement or expand our existing business. If we are unable to succeed in (1) developing new services and (2) attracting a customer base for those newly developed services, we will not be able to implement this element of our growth strategy, and our future business, results of operations and financial condition could be adversely affected. Our plan to web-enable our product development and commercialization services may negatively impact our results in the short term. We are currently developing an Internet platform for our product development and commercialization services. We have entered into agreements with certain vendors for them to provide web-enablement services to help us develop this platform. If such vendors fail to perform as required or if there are substantial delays in developing and implementing this platform, we may have to make substantial further investments, internally or with third parties, to achieve our objectives. Meeting our objectives is dependent on a number 32 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES of factors which may not take place as we anticipate, including obtaining adequate web-enablement services, creating web-enablement services which our customers will find desirable and implementing our business model with respect to these services. Also, these expenditures are likely to negatively impact our profitability, at least until our web-enabled products are operationalized. Over time, we envision continuing to invest in extending and enhancing our Internet platform in other ways to further support and improve our services. We cannot assure you that any improvements in operating income resulting from our Internet capabilities will be sufficient to offset our investments in the Internet platform. Our results could be further negatively impacted if our competitors are able to execute their services on a web-based platform before we can launch our Internet services or if they are able to structure a platform that attracts customers away from our services. We may not be able to derive the benefits we hope to achieve from our joint venture with McKesson. In May 2002, we completed the formation of a joint venture with McKesson Corporation designed to leverage the operational strengths of the healthcare information business of each party. As part of the formation of the joint venture, we contributed our former informatics business. As a result, the joint venture remains subject to the risks to which our informatics business was exposed. If the joint venture is not successful or if it experiences any of the difficulties described below, there could be an adverse effect on our results of operations and financial condition, as the joint venture is a pass-through entity and, as such, its results are reflected in our financial statements to the extent of our interest in the joint venture. We may not achieve the intended benefits of the joint venture if it is not able to secure additional data in exchange for equity. Although the joint venture currently is in discussions with several major data providers to become equity participants in the joint venture in exchange for de-identified healthcare data, it is possible that these or other data providers will prefer to receive cash as payment for such data, instead of equity in the joint venture, or will not want to participate at all. Such a trend could have a material adverse effect on the joint venture's operations and financial condition. The joint venture also could encounter other difficulties, including: - its ability to obtain continuous access to de-identified healthcare data from third parties in sufficient quantities to support its informatics products; - its ability to process and use the volume of data received from a variety of data providers; - its ability to attract customers, besides Quintiles and McKesson, to purchase its products and services; - the risk of changes in healthcare information privacy laws and regulations that could create a risk of liability, increase the cost of the joint venture's business or limit its service offerings; - the risk that industry regulation may restrict the joint venture's ability to analyze and disseminate pharmaceutical and healthcare data; and - the risk that it will not be able to effectively and cost-efficiently replace services previously provided to the contributed businesses by the former parent corporations. 33 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Although we have a license to the joint venture company's data products for use by our product development and commercial services groups, if the joint venture is unable to provide us with the quality and character of data products that we need to support those services, we will not be able to fully realize the benefits of the joint venture and will need to seek other strategic alternatives to achieve our goals. The potential loss or delay of our large contracts could adversely affect our results. Many of our customers can terminate our contracts upon 15-90 days' notice. In the event of termination, our contracts often provide for fees for winding down the project, but these fees may not be sufficient for us to maintain our margins, and termination may result in lower resource utilization rates. Thus, the loss or delay of a large contract or the loss or delay of multiple contracts could adversely affect our net revenue and profitability. We believe that this risk has potentially greater effect as we pursue larger outsourcing arrangements with global pharmaceutical companies. Also, over the past two years we have observed that customers may be more willing to delay, cancel or reduce contracts more rapidly than in the past. If this trend continues, it could become more difficult for us to balance our resources with demands for our services and our financial results could be adversely affected. Underperformance of our commercial rights strategies could have a negative impact on our financial performance. As part of our PharmaBio Development business strategy, we enter into arrangements with customers in which we take on some of the risk of the potential success or failure of the customer's product. These transactions may include making a strategic investment in a customer, providing financing to a customer, or taking an interest in the revenues from a customer's product. For example, we may build or provide a sales organization for a biotechnology customer to commercialize a new product in exchange for a share in the revenues of the product. We anticipate that in the early periods of many of these relationships, our expenses will exceed revenues from these arrangements, particularly where we are providing a sales force for the product at our own cost. Aggregate royalty or other payments made to us under these arrangements may not be adequate to offset our total expenditure in providing a sales force or in making milestone or marketing payments to our customers. We must carefully analyze and select the customers and products with which we are willing to structure our risk-based deals. Products underlying our commercial rights strategies may not complete clinical trials, receive FDA approval or achieve the level of market acceptance or customer demand that we expect, in which case we might not be able to earn a profit or recoup our investment with regard to a particular arrangement. The potential negative effect to us could increase depending on the nature and timing of our investments and the length of time before it becomes apparent that the product will not achieve commercial success. Our financial results would be adversely affected if our customers or their products do not achieve the level of success that we anticipate and/or our return or payment from the product investment or financing is less than our costs of performance, investment or financing. 34 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Our rights to market and sell certain pharmaceutical products expose us to product risks typically associated with pharmaceutical companies. Our recent acquisition of the rights to market and sell Solaraze(TM) and the rights to other dermatology products acquired from Bioglan, as well as any other product rights we may hold at any time, subject us to a number of risks typical to the pharmaceutical industry. For example, we could face product liability claims in the event users of these products, or of any other pharmaceutical product rights we may acquire in the future, experience negative reactions or adverse side effects or in the event it causes injury, is found to be unsuitable for its intended purpose or is otherwise defective. While we believe we currently have adequate insurance in place to protect against these risks, we may nevertheless be unable to satisfy any claims for which we may be held liable as a result of the use or misuse of products which we manufacture or sell, and any such product liability claim could adversely affect our business, operating results or financial condition. In addition, like pharmaceutical companies, our commercial success in this area will depend in part on our obtaining, securing and defending our intellectual property rights covering our pharmaceutical products. These risks may be augmented by certain risks relating to our outsourcing of the manufacturing and distribution of these products or any pharmaceutical product rights we may acquire in the future. For example, as a result of our decision to outsource the manufacturing and distribution of Solaraze(TM), we are unable to directly monitor quality control in the manufacturing and distribution processes. Our plans to market and sell Solaraze(TM) and other pharmaceutical products also subject us to risks associated with entering into a new line of business. We have limited experience operating in this line of business. If we are unable to operate this new line of business as we expect, the financial results from this new line of business could have a negative impact on our results of operations as a whole. The risk that our results may be affected if we are unable to successfully operate our pharmaceutical operations may increase in proportion with (1) the number of products we license in the future, (2) the applicable stage of the drug approval process of the products and (3) the levels of outsourcing involved in the development, manufacture and commercialization of such products. If we lose the services of Dennis Gillings, Pamela Kirby or other key personnel, our business could be adversely affected. Our success substantially depends on the performance, contributions and expertise of our senior management team, led by Dennis B. Gillings, Ph.D., our Chairman, and Pamela J. Kirby, Ph.D., our Chief Executive Officer. Our performance also depends on our ability to attract and retain qualified management and professional, scientific and technical operating staff, as well as our ability to recruit qualified representatives for our contract sales services. The departure of Dr. Gillings, Dr. Kirby, or any key executive, or our inability to continue to attract and retain qualified personnel could have a material adverse effect on our business, results of operations or financial condition. The uncertainty associated with the special committee's investigation of strategic alternatives may increase this risk. 35 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Our product development services create a risk of liability from clinical trial participants and the parties with whom we contract. We contract with drug companies to perform a wide range of services to assist them in bringing new drugs to market. Our services include supervising clinical trials, data and laboratory analysis, patient recruitment and other services. The process of bringing a new drug to market is time-consuming and expensive. If we do not perform our services to contractual or regulatory standards, the clinical trial process could be adversely affected. Additionally, if clinical trial services such as laboratory analysis do not conform to contractual or regulatory standards, trial participants could be affected. These events would create a risk of liability to us from the drug companies with whom we contract or the study participants. Similar risks apply to our product development services relating to medical devices. We also contract with physicians to serve as investigators in conducting clinical trials. Such testing creates risk of liability for personal injury to or death of volunteers, particularly to volunteers with life-threatening illnesses, resulting from adverse reactions to the drugs administered during testing. It is possible third parties could claim that we should be held liable for losses arising from any professional malpractice of the investigators with whom we contract or in the event of personal injury to or death of persons participating in clinical trials. We do not believe we are legally accountable for the medical care rendered by third party investigators, and we would vigorously defend any such claims. For example, we are among the defendants named in a purported class action by participants in an Alzheimer's study seeking to hold us liable for alleged damages to the participants arising from the study. Nonetheless, it is possible we could be found liable for those types of losses. In addition to supervising tests or performing laboratory analysis, we also own a number of labs where Phase I clinical trials are conducted. Phase I clinical trials involve testing a new drug on a limited number of healthy individuals, typically 20 to 80 persons, to determine the drug's basic safety. We also could be liable for the general risks associated with ownership of such a facility. These risks include, but are not limited to, adverse events resulting from the administration of drugs to clinical trial participants or the professional malpractice of Phase I medical care providers. We also could be held liable for errors or omissions in connection with our services. For example, we could be held liable for errors or omissions or breach of contract if one of our laboratories inaccurately reports or fails to report lab results. Although, we maintain insurance to cover ordinary risks, insurance would not cover the risk of a customer deciding not to do business with us as a result of poor performance. Our insurance may not cover all of our indemnification obligations and other liabilities associated with our operations. We maintain insurance designed to cover ordinary risks associated with our operations and our ordinary indemnification obligations. This insurance might not be adequate coverage or may be contested by our carriers. For example, our insurance carrier, to whom we paid premiums to cover risks associated with our product development services, has filed suit against us seeking to rescind the insurance policies or to have coverage denied for some or all of the claims arising from class action litigation involving an Alzheimer 36 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES study. The availability and level of coverage provided by our insurance could have a material impact on our profitability if we suffer uninsured losses or are required to indemnify third parties for uninsured losses. In connection with our contribution to our joint venture with McKesson, the joint venture company assumed our obligation under our settlement agreement with WebMD to indemnify WebMD for losses arising out of or in connection with the cancelled Data Rights Agreement with WebMD, our data business that we contributed to the joint venture, the collection, accumulation, storage or use of data by ENVOY for the purpose of transmitting or delivering data to us, any transmission or delivery by ENVOY of data to us or violations of law or contract attributable to any such event. This indemnity obligation is limited to 50% for the first $20 million in aggregate losses, subject to exceptions for certain indemnity obligations that were not transferred to the joint venture. Although the joint venture company has assumed our indemnity obligations to WebMD relating to our data business, WebMD may seek indemnity from us and we would have to proceed against the joint venture. In addition, we remain subject to other indemnity obligations to WebMD, including for losses arising out of the settlement agreement itself or out of the sale of ENVOY to WebMD, including a class action lawsuit filed against ENVOY prior to its purchase by us and subsequent sale to WebMD. Our indemnification obligation with regard to losses arising from the sale of ENVOY to WebMD is not subject to the limitation on the first $20 million of losses described above. Relaxation of government regulation could decrease the need for the services we provide. Governmental agencies throughout the world, but particularly in the United States, highly regulate the drug development/approval process. A large part of our business involves helping pharmaceutical and biotechnology companies through the regulatory drug approval process. Any relaxation in regulatory approval standards could eliminate or substantially reduce the need for our services, and, as a result, our business, results of operations and financial condition could be materially adversely affected. Potential regulatory changes under consideration in the United States and elsewhere include mandatory substitution of generic drugs for patented drugs, relaxation in the scope of regulatory requirements or the introduction of simplified drug approval procedures. These and other changes in regulation could have an impact on the business opportunities available to us. Failure to comply with existing regulations could result in a loss of revenue. Any failure on our part to comply with applicable regulations could result in the termination of ongoing clinical research or sales and marketing projects or the disqualification of data for submission to regulatory authorities, either of which could have a material adverse effect on us. For example, if we were to fail to verify that informed consent is obtained from patient participants in connection with a particular clinical trial, the data collected from that trial could be disqualified, and we could be required to redo the trial under the terms of our contract at no further cost to our customer, but at substantial cost to us. 37 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES Our services are subject to evolving industry standards and rapid technological changes. The markets for our services are characterized by rapidly changing technology, evolving industry standards and frequent introduction of new and enhanced services. To succeed, we must continue to: - enhance our existing services; - introduce new services on a timely and cost-effective basis to meet evolving customer requirements; - integrate new services with existing services; - achieve market acceptance for new services; and - respond to emerging industry standards and other technological changes. Exchange rate fluctuations may affect our results of operations and financial condition. We derive a large portion of our net revenue from international operations. Our financial statements are denominated in U.S. dollars; thus, factors associated with international operations, including changes in foreign currency exchange rates and any trends associated with the transition to the euro, could significantly affect our results of operations and financial condition. Exchange rate fluctuations between local currencies and the U.S. dollar create risk in several ways, including: - Foreign Currency Translation Risk. The revenue and expenses of our foreign operations are generally denominated in local currencies. - Foreign Currency Transaction Risk. Our service contracts may be denominated in a currency other than the currency in which we incur expenses related to such contracts. We try to limit these risks through exchange rate fluctuation provisions stated in our service contracts, or we may hedge our transaction risk with foreign currency exchange contracts or options. Although we may hedge our transaction risk, there were no open foreign exchange contracts or options relating to service contracts at September 30, 2002. Despite these efforts, we may still experience fluctuations in financial results from our operations outside the United States, and we cannot assure you that we will be able to favorably reduce our currency transaction risk associated with our service contracts. We may be adversely affected by customer concentration. We have one customer that accounted for 10.9% and 11.7% of our net service revenues for the three and nine months ended September 30, 2002, respectively. These revenues resulted from services provided by the product development and commercial services groups. If any large customer decreases or terminates its relationship with us, our business, results of operations or financial condition could be materially adversely affected. If we are unable to submit electronic records to the FDA according to FDA regulations, our ability to service our customers during the FDA approval process could be adversely affected. If we were unable to submit electronic records to the United States Food and Drug Administration, also referred to as the FDA, according to FDA regulations, our ability to service our customers during the FDA 38 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES approval process could be adversely affected. The FDA published 21 CFR Part 11 "Electronic Records; Electronic Signatures; Final Rule" ("Part 11") in 1997. Part 11 became effective in August 1997 and defines the regulatory requirements that must be met for FDA acceptance of electronic records and/or electronic signatures in place of the paper equivalents. Part 11 requires that those utilizing such electronic records and/or signatures employ procedures and controls designed to ensure the authenticity, integrity and, as appropriate, confidentiality of electronic records and, in certain circumstances, Part 11 requires those utilizing electronic records to ensure that a person appending an electronic signature cannot readily repudiate the signed record. Pharmaceutical and biotechnology companies are increasing their utilization of electronic records and electronic signatures and are requiring their service providers and partners to do likewise. Many of our customers, or potential customers, are targeting 2003 for full compliance of all their affected systems. Becoming compliant with Part 11 involves considerable complexity and cost. Our ability to provide services to our customers in full compliance with applicable regulations includes a requirement that, over time, we become compliant with the requirements of Part 11. If we are unable to achieve this objective, our ability to provide services to our customers which meet FDA requirements may be adversely affected. The transaction proposed by our founder creates uncertainties for us. Pharma Services Company, a company wholly owned by Dennis B. Gillings, Ph.D., our chairman and founder, made a non-binding proposal to acquire all of the outstanding shares of our stock for a cash price of $11.25 per share. A special committee of our board was established to act on behalf of our company with respect to the proposal or alternatives in the context of evaluating what is in the best interests of our company and our shareholders. On November 11, 2002, the special committee announced its rejection of the proposal and its intention to investigate strategic alternatives available to us for purposes of enhancing shareholder value, including the possibility of a sale of the Company and alternatives that would keep us independent and publicly owned. It is possible that no other potential transaction will emerge, or if so, be approved or completed. In addition, the process of considering the proposal or alternatives and its effect on management and employees could have a disruptive effect on our business. Several shareholders have filed purported class action lawsuits against us, our directors and, in some cases, Pharma Services Company, seeking to block the proposal. Even though the transaction has been rejected, we may not prevail in this litigation. Item 3. Quantitative and Qualitative Disclosure about Market Risk The Company did not have any material changes in market risk from December 31, 2001. Item 4. Controls and Procedures Based on the Company's most recent evaluation, which was completed within 90 days of the filing of this Form 10-Q, the Company's Chairman (principal executive officer) and Chief Financial Officer believe the Company's disclosure controls and procedures (as defined in Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934, as amended) are effective. There have been no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of the most recent evaluation of the Company's internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses. 39 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES PART II. Other Information Item 1. Legal Proceedings On January 26, 2001, a purported class action lawsuit was filed in the State Court of Richmond County, Georgia, naming Novartis Pharmaceuticals Corp., Pharmed Inc., Debra Brown, Bruce I. Diamond and Quintiles Laboratories Limited, one of our subsidiaries, on behalf of 185 Alzheimer's patients who participated in drug studies involving an experimental drug manufactured by defendant Novartis and their surviving spouses. The complaint alleges claims for breach of fiduciary duty, civil conspiracy, unjust enrichment, misrepresentation, Georgia RICO violations, infliction of emotional distress, battery, negligence and loss of consortium as to class member spouses. The complaint seeks unspecified damages, plus costs and expenses, including attorneys' fees and experts' fees. We believe the claims to be without merit and intend to defend the suit vigorously. On January 22, 2002, Federal Insurance Company and Chubb Custom Insurance Company filed suit against us and two of our subsidiaries, Quintiles Pacific, Inc. and Quintiles Laboratories Limited, in the United States District Court for the Northern District of Georgia. In the suit, Chubb, our primary commercial general liability carrier, and Federal, our excess liability carrier, seek to rescind the policies issued to us for coverage years 2000-2001 and 2001-2002 based on an alleged misrepresentation by us on our policy application. Alternatively, Chubb and Federal seek a declaratory judgment that there is no coverage under the policies for some or all of the claims asserted against us and our subsidiaries in the litigation described in the prior paragraph, and, if one or more of such claims is determined to be covered, Chubb and Federal request an allocation of the defense costs between the claims they contend are covered and non-covered claims. We have filed an answer with counterclaims against Federal and Chubb in response to their complaint. We believe their allegations are without merit and intend to defend this case vigorously. Since October 15, 2002, several purported class action lawsuits have been filed in Superior Court, Durham County, North Carolina by shareholders seeking to enjoin the consummation of the transaction contemplated by the non-binding proposal made by Pharma Services Company, a newly formed company wholly owned by Dennis B. Gillings, Ph.D., to acquire all of our outstanding shares for $11.25 per share in cash. In response to the proposal, which was received by us on October 13, 2002, our Board of Directors established a special committee of independent directors to act on our behalf with respect to the proposal or any alternatives in the context of evaluating what is in our best interest and the best interest of our shareholders. On November 11, 2002, the special committee announced its rejection of the proposal and its intention to investigate strategic alternatives available to us for purposes of enhancing shareholder value, including the possibility of a sale of the Company and alternatives that would keep us independent and publicly owned. The lawsuits name as defendants Dr. Gillings, other members of our Board of Directors, us and, in some cases, Pharma Services Company. The complaints allege, among other things, that the directors breached their duties with respect to the proposal. The complaints seek to enjoin the transaction proposed by Pharma Services Company, and the plaintiffs seek to recover damages. We are currently in the process of reviewing the complaints and considering an appropriate response. Based upon our preliminary review, we believe the lawsuits are without merit and intend to defend them vigorously. 40 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES We are also a party to certain other pending litigation arising in the normal course of our business. While the final outcome of such litigation cannot be predicted with certainty, it is the opinion of management, based on consultation with legal counsel, that the outcome of these other matters would not materially affect our consolidated financial position or results of operations. Item 2. Changes in Securities and Use of Proceeds During the three months ended September 30, 2002, options to purchase 14,000 shares of our common stock were exercised at an average exercise price of $2.9621 per share in reliance on Rule 701 under the Securities Act of 1933. We granted such options prior to becoming subject to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, pursuant to our Non-qualified Employee Incentive Stock Option Plan. Item 3. Defaults upon Senior Securities - Not applicable Item 4. Submission of Matters to a Vote of Security Holders - Not Applicable Item 5. Other Information - Not applicable Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 99.1 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 99.2 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 (b) During the three months ended September 30, 2002, the Company furnished one report on Form 8-K. The Company furnished a Form 8-K to the Securities and Exchange Commission ("SEC"), dated August 13, 2002, including copies of the sworn statements of Dennis B. Gillings, the Company's Chairman, and James L. Bierman, the Company's Chief Financial Officer, as required by the SEC's Order 4-460 issued on June 27, 2002. The report on Form 8-K dated August 13, 2002 was furnished pursuant to Regulation FD. This report shall not be deemed to be incorporated by reference into this Form 10-Q or filed hereunder for purposes of liability under the Securities Exchange Act of 1934. No other reports on Form 8-K were filed or furnished during the three months ended September 30, 2002. 41 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 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 thereunto duly authorized. Quintiles Transnational Corp. ----------------------------- Registrant Date November 14, 2002 /s/ Dennis B. Gillings -------------------------- ----------------------------------------- Dennis B. Gillings, Chairman Date November 14, 2002 /s/ Pamela J. Kirby -------------------------- ----------------------------------------- Pamela J. Kirby, Chief Executive Officer Date November 14, 2002 /s/ James L. Bierman -------------------------- ----------------------------------------- James L. Bierman, Chief Financial Officer 42 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES CERTIFICATIONS I, Dennis B. Gillings, Ph.D., certify that: 1. I have reviewed this quarterly report on Form 10-Q of Quintiles Transnational Corp.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 43 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date November 14, 2002 ----------------------------- /s/ Dennis B. Gillings ----------------------------- Dennis B. Gillings, Ph.D. Chairman 44 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES I, James L. Bierman, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Quintiles Transnational Corp.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 45 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date November 14, 2002 ----------------------------- /s/ James L. Bierman ---------------------------- James L. Bierman Chief Financial Officer 46 QUINTILES TRANSNATIONAL CORP. AND SUBSIDIARIES EXHIBIT INDEX Exhibit Description 99.1 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 99.2 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 47