Not applicable.

 

Industry Overview

The CRO industry provides independent product development services for the pharmaceutical, biotechnology and medical device industries. Companies in these industries outsource product development services to CROs in order to manage the drug development process more efficiently and to cost-effectively maximize the profit potential of both patent-protected and generic products. The CRO industry has evolved since the 1970s from a small number of companies that provided limited clinical services to a larger number of CROs that offer a range of services that encompass the entire research and development process, including pre-clinical development, clinical trials management, clinical data management, study design, biostatistical analysis, post marketing surveillance, central laboratory and regulatory affairs services. CROs are required to provide these services in accordance with good clinical and laboratory practices, as governed by the applicable regulatory authorities.

The CRO industry is highly fragmented, consisting of several hundred small, limited-service providers and a limited number of medium-sized and large CROs with global operations. Although there are few barriers to entry for small, limited-service providers, we believe there are significant barriers to becoming a CRO with global capabilities. Some of these barriers include the infrastructure and experience necessary to serve the global demands of clients, the ability to manage simultaneously complex clinical trials in numerous countries, broad therapeutic expertise and the development and maintenance of the complex information technology systems required to integrate these capabilities. In recent years, the CRO industry has experienced consolidation, resulting in the emergence of a select group of CROs that have the capital, technical resources, integrated global capabilities and expertise to conduct multiple phases of clinical trials on behalf of pharmaceutical, biotechnology and medical device companies. We believe that some large pharmaceutical companies, rather than utilizing many CRO service providers, are selecting a limited number of CROs who are invited to bid for projects. We believe that this trend will further concentrate the market share among CROs with a track record of quality, speed, flexibility, responsiveness, global capabilities and overall development experience and expertise.

New Drug Development - An Overview

Before a new drug may be marketed, the drug must undergo extensive testing and regulatory review in order to determine that the drug is safe and effective. The following discussion primarily relates to the FDA approval process. Similar procedures must be followed for clinical trials in other countries. The stages of this development process are as follows:

 

Preclinical Research (1 to 3.5 years).“In vitro” (test tube) and animal studies are conducted to establish the relative toxicity of the drug over a wide range of doses and to detect any potential to cause birth defects or cancer. If results warrant continuing development of the drug, the manufacturer will file for an Investigational New Drug Application, or IND, upon which the FDA may grant permission to begin human trials.

 

Clinical Trials (3.5 to 6 years)

 

Phase I (6 months to 1 year). Basic safety and pharmacology testing in 20 to 80 human subjects, usually healthy volunteers, includes studies to determine how the drug works, if it is safe, how it is affected by other drugs, where it goes in the body, how long it remains active and how it is broken down and eliminated from the body.

 

Phase II (1 to 2 years). Basic efficacy (effectiveness) and dose-range testing in 100 to 200 patients to help determine the best effective dose, confirm that the drug works as expected, and provide additional safety data.

 

Phase III (2 to 3 years). Efficacy and safety studies in hundreds or thousands of patients at many investigational sites (hospitals and clinics). These studies can be placebo-controlled trials, in which the new drug is compared with a “sugar pill”, or studies comparing the new drug with one or more drugs with established safety and efficacy profiles in the same therapeutic category.

 

TIND (may span late Phase II, Phase III, and FDA review). When results from Phase II or Phase III show special promise in the treatment of a serious condition for which existing therapeutic options are limited or of minimal value, the FDA may allow the manufacturer to make the new drug available to a larger number of patients through the regulated mechanism of a Treatment Investigational New Drug, or TIND. Although less scientifically rigorous than a controlled clinical trial, a TIND may enroll and collect a substantial amount of data from tens of thousands of patients.

 

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NDA Preparation and Submission. Upon completion of Phase III trials, the manufacturer assembles the statistically analyzed data from all phases of development into a single large submission, the New Drug Application, or NDA, which today comprises, on average, approximately 100,000 pages.

 

FDA Review & Approval (1 to 1.5 years). Data from all phases of development (including a TIND) is scrutinized to confirm that the manufacturer has complied with regulations and that the drug is safe and effective for the specific use (or “indication”) under study.

 

Post-Marketing Surveillance and Phase IV Studies. Federal regulation requires the manufacturer to collect and periodically report to the FDA additional safety and efficacy data on the drug for as long as the manufacturer markets the drug (post-marketing surveillance). If the drug is marketed outside the U.S., these reports must include data from all countries in which the drug is sold. Additional studies (Phase IV) may be undertaken after initial approval to find new uses for the drug, to test new dosage formulations, or to confirm selected non-clinical benefits, e.g., increased cost-effectiveness or improved quality of life.

 

Key Trends Affecting the CRO Industry

CROs derive substantially all of their revenue from the research and development expenditures of pharmaceutical, biotechnology and medical device companies. Based on industry surveys and investment analyst research, we estimate that clinical development expenditures outsourced by pharmaceutical and biotechnology companies worldwide in 2005 was approximately $14 billion. We believe that the following trends create further growth opportunities for global CROs, although there is no assurance that growth will materialize.

Innovation driving new Drug Development activity.

Technologies such as combinational chemistry and high throughput screening, together with improved understanding of disease pathology (driven by scientific advances such as the mapping of the human genome) have greatly increased the number of new drug candidates being investigated in early development and greatly broadened the number of biological mechanisms being targeted by such candidates. Arising from this innovation, funding for research and development, particularly by biotechnology companies, has been growing strongly. This is leading to significant increased activity in both Preclinical and Phase I development which we believe will lead to more treatments in Phase II-III clinical trials. As the number of trials that need to be performed increases, we believe that drug developers will increasingly rely on CROs to manage these trials in order to continue to focus on drug discovery.

Declining productivity within Research and Development programs.

Whilst the total number of compounds that have entered clinical development has risen over the last few years, the number of novel drugs that have successfully been approved for marketing has remained relatively stable. Pharmaceutical and biotechnology companies have responded in a number of ways including looking to extend the product life cycle of existing drugs and initiating programs to drive efficiency in the development process. One example of this has been the efforts to achieve a more seamless transition across development phases, particularly Phase I-III. In parallel regulatory initiatives such as the FDA’s “Critical Path” and the emergence of techniques such as adaptive trial design are focused on ensuring unsafe or ineffective drugs are eliminated from the development process earlier, allowing effective treatments to get to patients quicker at potentially reduced development costs.

Pressure to Accelerate Time to Markets; Globalization of the Marketplace.

Reducing product development time maximizes the client’s potential period of patent exclusivity, which in turn maximizes potential economic returns. We believe that clients are increasingly using CROs that have the appropriate expertise to improve the speed of product development to assist them in improving economic returns. In addition, applying for regulatory approval in multiple markets and for multiple indications simultaneously, rather than sequentially, reduces product development time and thereby maximizes economic returns. We believe that CROs with global operations and experience in a broad range of therapeutic areas are a key resource to support a global regulatory approval strategy. Alongside this, the increasing need to access pools of “treatment naive” patients is leading to the conduct of clinical trials in new “emerging regions” such as Eastern Europe, Latin America, South America and India. We believe that having access to both traditional and emerging clinical research markets gives global CROs a competitive advantage.

 

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Emergence of the Biotechnology Sector

The nature of the drugs being developed is changing. Biotechnology is enabling the development of targeted drugs with diagnostic tests to determine a priori whether a drug will be effective given a patient’s genomic profile. An increasing proportion of R&D expenditure is being spent on the development of highly technical drugs to treat very specific therapeutic areas. Much of this discovery expertise is found in smaller biotechnology firms. We believe that it is to these organizations that the large pharmaceutical companies will look for an increasing proportion of their new drug pipelines. Whether it is through licensing agreements, joint ventures or equity investment, we believe we will see the emergence of more strategic relationships between small discovery firms and the larger pharmaceutical groups. As the majority of these biotechnology companies do not have a clinical development infrastructure, we believe that the services offered by CROs will continue to be in demand from such companies.

Cost Containment Pressures.

Over the last several years, drug companies have sought more efficient ways of conducting business due to margin pressures stemming from patent expirations, greater acceptance of generic drugs, pricing pressures caused by the impact of managed care, purchasing alliances and regulatory consideration of the economic benefit of new drugs. Consequently, drug companies are centralizing research and development, streamlining their internal structures and outsourcing certain functions to CROs, thereby converting previously fixed costs to variable costs. The CRO industry, by specializing in clinical trials management, is often able to perform the needed services with greater focus and at a lower cost than the client could perform internally.

Increasing Number of Large Long-Term Studies

We believe that to establish competitive claims and to encourage drug prescription by physicians in some large and competitive categories, more clients need to conduct outcome studies to demonstrate, for example, that mortality rates are reduced by certain drugs. To verify such outcomes, very large patient numbers are required and they must be monitored over long time periods. We believe that as these types of studies increase there will be a commensurate increase in demand for the services of CROs who have the ability to quickly assemble large patient populations, globally if necessary, and manage this complex process throughout its duration.

A focus on long-term product safety

High profile recalls for drugs in recent times have increased the emphasis on monitoring the health effects of long term drug usage. Historically the industry has not tracked what has happened to consumers of drugs over long periods. This is important given that people can potentially be taking a drug for 20 or 30 years, and may have no idea what side-effects it will have over that period of time. Registry studies are one method of collecting safety and efficacy data over an extensive patient population once a drug is on the market. Much of the information collected is voluntary by both physicians and patients as part of routine care. This data can provide an early warning if a patient were to experience a serious adverse reaction. With increasing regulation in the area of post marketing surveillance, we believe pharmaceutical firms will look to CROs for support in the design and rollout of major post marketing safety programs.

Increasing Regulatory Demands.

We believe that regulatory agencies are becoming more demanding with regard to the data required to support new drug approvals and are seeking more evidence that new drugs are safer and more effective than existing products. As a result, the complexity of clinical trials and the size of regulatory submissions are driving the demand for services provided by CROs.

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The ICON Strategy

ICON’s mission is to provide flexible, superior quality, global pharmaceutical development services, that enable clients to expedite development, reduce costs and establish the benefits of treatments that enhance people’s lives.

We provide these development services to clients on a stand-alone basis or as part of an integrated “full service” solution. Our primary approach is to use dedicated teams to achieve optimum results. While we believe that this operating model differentiates us from our competition in the CRO industry and enables us to deliver high quality services to our clients, we do retain the operational flexibility to implement a range of resourcing models to suit client requirements.

Our strategy is to continue to grow by penetrating further our existing client base and adding new clients within the Phase I-IV outsourced development services market. The aim being to ensure we will be considered by every company for every major Phase I - IV project.

We intend to implement our strategy by continuing to deliver high quality services, by increasing our geographic presence, expanding the scale and range of our services and, where appropriate, cross selling these services into clients. As needed we intend to supplement our internal growth with strategic acquisitions.

o	Continue to Deliver High Quality Services and Customer Satisfaction. ICON’s core competency is project management, built up over the last fifteen years managing complex projects and underpinned by comprehensive and consistent processes which conform to the ISO9001:2000 quality certification.

We have an extensive therapeutic and scientific knowledge residing in the organization and the capability to consistently solve the challenges that arise during clinical trials, each of which is the equivalent of a unique scientific study.

We believe our quality processes, extensive experience and dedicated team approach allows us to provide consistent high quality, timely and cost effective services. We believe that the resulting customer satisfaction and enhanced reputation in the industry will continue to enable us to penetrate our existing client base and add new clients.

 

o

Expand Geographic Presence. In a highly fragmented industry, we are one of a small group of organizations with the capability and expertise to conduct clinical trials on a global basis. We believe that this capability to provide our services globally in most major and developing pharmaceutical markets enhances our ability to compete for new business from large multinational pharmaceutical, biotechnology and medical device companies. We have expanded geographically through the establishment of 49 offices in 30 countries and intend to continue expanding in regions that have the potential to increase our client base or increase our investigator and patient populations. We have most recently been expanding our presence in Eastern Europe and Latin America as well as parts of Asia including India and Japan.

o

Increase Scale and Range of Services. We seek to enhance our competitive position by increasing the scale and range of our services. We intend to expand our clinical trials, central laboratory, digital imaging, IVRS (interactive voice recognition system), data management, statistical and consulting operations in order to capitalize further on the outsourcing opportunities currently available from our clients. The recent high profile withdrawal of several drugs from the market is also placing the spotlight on drug safety which will lead to greater emphasis, by all involved in drug development, on post-marketing safety monitoring. ICON’s recent acquisition of Ovation has added additional capabilities to the organization in the areas of health economics, patient registries and outcomes research.

o

Cross Sell Services: By building up a full range of development services, ICON can support clients through all stages of their product lifecycle. There are signs that certain client segments are looking to rationalize their supply base down to a small number of CROs who can provide this breadth of service. A core part of our business development strategy is to “cross sell” ICON’s service portfolio. By developing and maintaining close relationships with clients, we gain repeat business and achieve lateral penetration of services with the client organization.

o	Strategic acquisitions: Alongside organic growth, we will continue to seek strategic acquisitions that fall within and are complimentary to our existing service lines.

 

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Services

ICON is a global provider of outsourced development services to the pharmaceutical, biotechnology and medical device industries. We specialize in the strategic development, management and analysis of programs that support Clinical Development - from compound selection to Phase I-IV clinical studies.

 

Our core Clinical Research business specializes in the planning, management, execution and analysis of Phase I - IV clinical trials, ranging from small studies to complex, multinational projects. Specific clinical research services offered include:

 

o	Investigator Recruitment

o	Study Monitoring and Data Collection

o	Case Report Form ("CRF") Preparation

o	Patient Safety Monitoring

o	Clinical Data Management

o	IVR (Interactive Voice Response)

o	Medical Reporting

o	Patient Registries

o	Outcomes Research

o	Health Economics

o	Strategic Analysis and Data Operations

o	Clinical Pharmacology

o	Bioanalysis

o	Pharmacokinetic and Pharmacodynamic analysis

o	Study Protocol Preparation

o	Regulatory Consulting

o	Product Development Planning

o	Strategic Consulting

o	Medical Imaging

o	Contract Staffing

 

An important element in monitoring patient safety during a clinical trial is the conduct of various laboratory tests on the patient's blood, urine and other bodily fluids at appropriate intervals during the trial. The analysis of these samples must be standardized and the results must be promptly transmitted to the investigator. ICON Central Laboratories provides global central laboratory services dedicated exclusively to clinical trials. Specific services offered by ICON Central Laboratories include:

 

o	Sample analyses

o	Safety testing

o	Microbiology

o	Custom flow cytometry

o	Electronic transmission of test results

 

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Organizational Structure

Name	Country of incorporation	Group ownership
ICON Clinical Research (UK) Limited	United Kingdom	100%
ICON Clinical Research Inc.	USA	100%
ICON Clinical Research Limited	Republic of Ireland	100%
ICON Japan K.K.	Japan	100%
ICON Clinical Research GmbH	Germany	100%
ICON Clinical Research Pty Limited	Australia	100%
ICON Clinical Research S.A.	Argentina	100%
ICON Clinical Research SARL	France	100%
ICON Clinical Research Pte.	Singapore	100%
ICON Clinical Research Israel Limited	Israel	100%
Medeval Group Limited	UK	100%
ICON Laboratories, Inc.	USA	100%
Managed Clinical Solutions, Inc.	USA	100%
ICON Clinical Research (Canada) Inc.	Canada	100%
GloboMax LLC	USA	100%
ICON Clinical Research Espana S.L.	Spain	100%
ICON Clinical Research Kft	Hungary	100%
Beacon Bioscience, Inc.	USA	70%
ICON Clinical Research India Private Limited	India	100%
ICON Clinical Research México, S.A. de C.V.	Mexico	100%
ICON Pesquisas Clinicas LTDA	Brazil	100%
Ovation Research Group Inc.	USA	100%
ICON Chile Limitada	Chile	100%
ICON Clinical Research Korea Yuhan Hoesa	Korea	100%

All shareholdings comprise ordinary shares.

All subsidiary undertakings are involved in the provision of contract research services to the pharmaceutical, biotechnology and medical device industries.

 

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Information Systems

Our information technology strategy is built around deploying IT systems to enable the delivery of our business services in a global environment. The focus is to provide ease of access to information for our staff and clients globally. Our current information systems are built on open standards and leading commercial business applications from vendors including Microsoft, Oracle, EMC, BEA, Phase Forward and Medidata. IT expenditure is authorized by strict IT Governance policies requiring senior level approval of all strategic IT expenditure. All critical business systems are formally delivered following a structured project management and systems delivery life cycle approach. Critical clinical information systems, which manage clinical data, are validated in accordance with FDA regulations and those of other equivalent regulatory bodies throughout the world.

In Clinical Operations, we have deployed a suite of software applications that assist in the management and tracking of our clinical trials activities. These software applications are both internally developed and commercially available applications from leading vendors in the industry. These include a clinical trials management application that tracks all relevant data in a trial and automates all management and reporting processes. In our Data Management function, we have deployed leading clinical data management solutions plus Electronic Data Capture (EDC) solutions from leading industry vendors. Our state of the art workflow technology allows us to process clinical trials data seamlessly throughout the Company. We have also developed an interactive voice response system to increase the efficiency of clinical trials. This system provides features such as centralized patient randomization, drug inventory management, and patient diary collection and provides our clients with a fully flexible data retrieval solution which can be utilized via telephone, internet browser or a WAP enabled device.

Recognizing that each client has its own requirements and systems, we seek to ensure an entirely flexible approach to client needs. An example of this flexibility is in the provision of portal solutions that allows clients access to study related information via a secure web based environment. We also provide secure remote access to client systems for clients to require us to utilize their internal platforms.

ICON’s strategy of using technology to enhance our global process can be seen in our recent deployment of a new global SOP Document Management system and our current investment in WEB based training delivery solutions.

In our central laboratory, we utilize a comprehensive suite of software, including a laboratory information management system (LIMS), a kit/sample management system and a web interface system to allow clients to review results online.

Our IT systems are operated from two centralized hubs in Philadelphia and Dublin. Other offices are linked to these hubs through a resilient network that is outsourced to a leading tier one telecommunications provider. Traveling staff can also access all systems via secure remote dial up facilities. A global corporate intranet portal provides access to all authorized data and applications for our internal staff as well as providing an internal platform for company wide communication.

Sales and Marketing

Our global sales and marketing strategy is to focus our business development efforts on pharmaceutical, biotechnology and medical device companies whose development projects are advancing. By developing and maintaining close relationships with our clients, we gain repeat business, can leverage a full service portfolio and achieve lateral penetration into other therapeutic divisions where applicable. Simultaneously, we are actively establishing new client relationships.

While our sales and marketing activities are carried out locally by executives in each of the major locations, the sales and marketing process is coordinated centrally to ensure a consistent and differentiated market positioning for ICON. In addition, all our business development professionals, senior executives and project team leaders share responsibility for the maintenance of key client relationships and business development activities.

Clients

In the year ended December 31, 2006, revenue was earned from over 350 clients, including all of the top 20 pharmaceutical companies as ranked by 2005 revenues.

We have expanded geographically in order to pursue larger multi-national clinical trials in markets worldwide and have expanded through acquisition to offer a broader range of services. In the year ended December 31, 2006, 58.4% of our net revenue was generated in the United States, 35.8% in Europe and 5.8% in Rest of World.

 

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We have in the past and may in the future derive a significant portion of our net revenue from a relatively limited number of major projects or clients. During the fiscal year ended May 31, 2004, we received 17% of our net revenue from Astra Zeneca. No other client contributed more than 10% of net revenues in the fiscal year ended May 31, 2004. During the fiscal year ended May 31, 2005, we received 12% of our net revenue from Astra Zeneca. No other client contributed more than 10% of net revenues in the fiscal year ended May 31, 2005. In the transition period ended December 31, 2005, no client contributed more than 10% of net revenues. During the year ended December 31, 2006, 35% of our net revenue was derived from our top five clients and no one client contributed more then 10% of net revenues. We believe that the importance of certain clients reflects our success in penetrating our client base. The loss of, or a significant decrease in business from one or more of these key clients could result in a material adverse effect. 

Contractual Arrangements

We are generally awarded contracts based upon our response to requests for proposals received from pharmaceutical, biotechnology and medical device industries.

Most of our revenues are earned from contracts which are fixed price, based on certain activities and performance specifications. Payment terms usually provide either for payments based on the achievement of certain identified milestones or activity levels or monthly payments according to a fixed payment schedule over the life of the contract. Where clients request changes in the scope of a trial or in the services to be provided by us, a change order or amendment is issued often resulting in additional revenues for us. We also contract on a "fee-for-service," or "time and materials" basis, but this accounts for a small portion of overall project activities.

Contract terms may range from several weeks to several years depending on the nature of the work to be performed. In most cases, a portion of the contract fee, typically 10% to 20%, is paid at the time the study or trial is started. The balance of the contract fee payable is generally payable in installments over the study or trial duration and may be based on the achievement of certain performance targets or "milestones" or, to a lesser extent, on a fixed monthly payment schedule. For instance, installment payments may be based on patient enrollment or delivery of the database. Reimbursable expenses are typically estimated and budgeted within the contract and invoiced on a monthly basis. Reimbursable expenses include payments to investigators, travel and accommodation costs and various other direct costs incurred in the course of the clinical trial which are fully reimbursable by the client.

Most of our contracts are terminable immediately by the client with justifiable cause or with 60 days notice without cause. In the event of termination, we are entitled to all sums owed for work performed through the notice of termination and certain costs associated with termination of the study. Some of our contracts provide for an early termination fee. Termination or delay in the performance of a contract occurs for various reasons, including, but not limited to, unexpected or undesired results, production problems resulting in shortages of the drug, adverse patient reactions to the drug, the client's decision to de-emphasize a particular trial or inadequate patient enrollment or investigator recruitment. 

Backlog

Our backlog consists of potential net revenue yet to be earned from projects awarded by clients.

At December 31, 2006, we had a backlog of approximately $872 million, compared with approximately $633 million at December 31, 2005. We believe that our backlog as of any date is not necessarily a meaningful predictor of future results, due to the potential for cancellation or delay of the projects underlying the backlog, and no assurances can be given that we will be able to realize this backlog as net revenue.

Competition

The CRO industry is highly fragmented, consisting of several hundred small, limited-service providers and a limited number of medium-sized and large CROs with global operations. We primarily compete against in-house departments of pharmaceutical companies and other CROs with global operations. Some of these competitors have substantially greater capital, technical and other resources than us. CROs generally compete on the basis of previous experience, the quality of contract research, the ability to organize and manage large-scale trials on a global basis, the ability to manage large and complex medical databases, the ability to provide statistical and regulatory services, the ability to recruit suitable investigators, the ability to integrate information technology with systems to improve the efficiency of contract research, an international presence with strategically located facilities, financial viability, medical and scientific expertise in specific therapeutic areas and price. We believe that we compete favorably in these areas. Our principal CRO competitors are Quintiles Transnational Corporation, Covance Inc., PAREXEL International Corp., Kendle International Inc., i3 Research. (United Health Group Incorporated), Omnicare, Inc., PRA International Inc., MDS Inc, PharmaNet Development Group, Inc. and Pharmaceutical Product Development, Inc. The trend toward CRO industry consolidation has resulted in heightened competition among the larger CROs for clients and acquisition candidates.

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Government Regulation

Regulation of Clinical Trials

The clinical investigation of new drugs is highly regulated by government agencies. The standard for the conduct of clinical research and development studies is Good Clinical Practice, which stipulates procedures designed to ensure the quality and integrity of data obtained from clinical testing and to protect the rights and safety of clinical subjects.

 

Regulatory authorities, including the FDA, have promulgated regulations and guidelines that pertain to applications to initiate trials of products, the approval and conduct of studies, report and record retention, informed consent, applications for the approval of drugs and post-marketing requirements. Pursuant to these regulations and guidelines, service providers that assume the obligations of a drug sponsor are required to comply with applicable regulations and are subject to regulatory action for failure to comply with such regulations and guidelines. In the United States and Europe, the trend has been in the direction of increased regulation by the applicable regulatory authority.

 

In providing our services in the United States, we are obligated to comply with FDA requirements governing such activities. These include ensuring that the study is approved by an appropriate independent review board (IRB)/Ethics Committee, obtaining patient informed consents, verifying qualifications of investigators, reporting patients’ adverse reactions to drugs and maintaining thorough and accurate records. We must maintain critical documents for each study for specified periods, and such documents may be reviewed by the study sponsor and the FDA during audits.

 

The services we provide outside the United States are ultimately subject to similar regulation by the relevant regulatory authority, including the Medicines Control Agency in the United Kingdom and the Bundesinstitut für Arzneimittel und Medizinprodukte in Germany. In addition, our activities in Europe are affected by the European Medicines Evaluation Agency, which is based in London, England.

 

We must retain records for each study for specified periods for inspection by the client and by the applicable regulatory authority during audits. If such audits document that we have failed to comply adequately with applicable regulations and guidelines, it could result in a material adverse effect. In addition, our failure to comply with applicable regulation and guidelines, depending on the extent of the failure, could result in fines, debarment, termination or suspension of ongoing research or the disqualification of data, any of which could also result in a material adverse effect.

 

Potential Liability and Insurance

 

We contract with physicians who serve as investigators in conducting clinical trials to test new drugs on their patients. Such testing creates a risk of liability for personal injury to or death of the patients resulting from adverse reactions to the drugs administered. In addition, although we do not believe that we are legally accountable for the medical care rendered by third party investigators, it is possible that we could be subject to claims and expenses arising from any professional malpractice of the investigators with whom we contract. We also could be held liable for errors or omissions in connection with the services we perform.

 

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We believe that the risk of liability to patients in clinical trials is mitigated by various regulatory requirements, including the role of institutional review boards and the need to obtain each patient’s informed consent. The FDA requires each human clinical trial to be reviewed and approved by the institutional review board at each study site. An institutional review board is an independent committee that includes both medical and non-medical personnel and is obligated to protect the interests of patients enrolled in the trial. After the trial begins, the institutional review board monitors the protocol and measures designed to protect patients, such as the requirement to obtain informed consent.

 

We further attempt to reduce our risks through contractual indemnification provisions with clients and through insurance maintained by clients, investigators and us. However, the contractual indemnifications generally do not protect us against certain of our own actions such as negligence, the terms and scope of such indemnification vary from client to client and from trial to trial, and the financial performance of these indemnities is not secured. Therefore, we bear the risk that the indemnity may not be sufficient or that the indemnifying party may not have the financial ability to fulfill its indemnification obligations. We maintain worldwide professional liability insurance. We believe that our insurance coverage is adequate. There can be no assurance, however, that we will be able to maintain such insurance coverage on terms acceptable to us, if at all. We could be materially adversely affected if we were required to pay damages or bear the costs of defending any claim outside the scope of or in excess of a contractual indemnification provision or beyond the level of insurance coverage or in the event that an indemnifying party does not fulfill its indemnification obligations.

 

Description of Property

We lease all but one of our facilities under operating leases.

Our principal executive offices are located in South County Business Park, Leopardstown, Dublin, Republic of Ireland, where we own an office facility of approximately 3,900 square meters on approximately four and a half acres. We currently lease an additional office facility of approximately 2,300 square meters in the same business park.

 

In February 2006, we began building an extension to the development which comprises four 4 storey office blocks linked to the existing building. The four additional blocks will extend the premises by approximately 11,900 square meters, bringing the entire development when completed to approximately 15,800 square meters. The new development is due for completion on a phased basis from June 2007 to October 2008.

 

We also maintain two U.S. offices in each of the following cities: New York, Chicago, Philadelphia and San Francisco, and one US office in each of the following cities: Irvine, Nashville, Houston, Wilmington, Raleigh, Baltimore, Tampa, San Diego and Salt Lake City. Our European subsidiaries maintain offices in Southampton, Frankfurt, Paris, Moscow, Amsterdam, Marlow, Manchester, Tel Aviv, Stockholm, Riga, Budapest, Milan, Barcelona, Vilinius and Warsaw. Our Rest of World offices are located in Tokyo, Singapore, Sydney, Chennai, Buenos Aires, Johannesburg, Montréal, Hong Kong, Mexico City, Taipei, São Paulo, Bangkok, Seoul, Santiago, Beijing and Bangalore.

 

The following discussion and analysis should be read in conjunction with our Consolidated Financial Statements, accompanying notes and other financial information, appearing in Item 18. The Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States.

Overview

We are a contract research organization (“CRO”), providing outsourced development services on a global basis to the pharmaceutical, biotechnology and medical device industries. We specialize in the strategic development, management and analysis of programs that support Clinical Development - from compound selection to Phase I-IV clinical studies. We have the operational flexibility to provide development services on a stand-alone basis or as part of an integrated “full service” solution. Our primary approach is to use dedicated teams to achieve optimum results, but we can implement a range of resourcing models to suit client requirements.

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In a highly fragmented industry, we are one of a small number of companies with the capability and expertise to conduct clinical trials in all major therapeutic areas on a global basis. Currently, we have approximately 4,300 employees, in 49 locations in 30 countries, providing Phase I - IV Clinical Trial Management, Drug Development Support Services, Data Management and Biostatistics and Central Laboratory and Imaging Services. For the year ended December 31, 2006 we derived approximately 58.4%, 35.8% and 5.8% of our net revenue in the United States, Europe and Rest of World, respectively.

Revenue consists primarily of fees earned under contracts with third-party clients. In most cases, a portion of the contract fee is paid at the time the study or trial is started, often upon the signing of a letter of intent, and the balance of the contract fee is generally payable in installments over the study or trial duration, based on the achievement of certain performance targets or "milestones". Revenue for contracts is recognized on the basis of the relationship between time incurred and the total estimated duration of the trial or on a fee-for-service basis according to the particular circumstances of the contract. As is customary in the CRO industry, we subcontract with third party investigators in connection with clinical trials. All subcontractor costs and certain other costs where reimbursed by clients, are, in accordance with industry practice, deducted from gross revenue to arrive at net revenue. As these costs vary from contract to contract, we view net revenue as our primary measure of revenue growth.

Direct costs consist primarily of compensation and associated fringe benefits for project-related employees, other direct project driven costs and share based compensation expense. Selling, general and administrative expenses consist of compensation and related fringe benefits for selling and administrative employees, professional services, advertising costs, all costs related to facilities and information systems and share based compensation expense.

Our backlog consists of potential net revenue yet to be earned from projects awarded by clients. At December 31, 2006, we had a backlog of approximately $872 million, compared with approximately $633 million at December 31, 2005. We believe that our backlog as of any date is not necessarily a meaningful predictor of future results, due to the potential for cancellation or delay of the projects underlying the backlog, and no assurances can be given that we will be able to realize this backlog as net revenue.

As the nature of ICON's business involves the management of projects having a typical duration of one to three years, the commencement or completion of projects in a fiscal year can have a material impact on revenues earned with the relevant clients in such years. In addition, as we typically work with some, but not all, divisions of a client, fluctuations in the number and status of available projects within such divisions can also have a material impact on revenues earned from such clients from year to year.

Although we are domiciled in Ireland, we report our results in U.S. dollars. As a consequence the results of our non-U.S. based operations, when translated into U.S. dollars, could be materially affected by fluctuations in exchange rates between the U.S. dollar and the currencies of those operations.

In addition to translation exposures, we are also subject to transaction exposures because the currency in which contracts are priced can be different from the currencies in which costs relating to those contracts are incurred. We have 17 operations operating in U.S. dollars, 6 trading in Euros, 3 in pounds Sterling, 2 in Indian Rupee and 1 each in Australian dollars, Singapore dollars, Yen, Israeli New Shekels, Latvian Lats, Swedish Krona, Argentine Peso, South African Rand, Russian Rouble, Canadian dollar, Hungarian Forint, Hong Kong dollar, Taiwan dollar, Mexican Peso, Brazilian Real, Chilean Peso, South Korean Won, Thai Baht, Polish Zloty, Chinese Yuan Renminbi and Lithuanian Litas. Our operations in the United States are not materially exposed to such currency differences as the majority of our revenues and costs are in U.S. dollars. However, outside the United States the multinational nature of our activities means that contracts are usually priced in a single currency, most often pounds Sterling, U.S. dollars or Euros, while costs arise in a number of currencies, depending, among other things, on which of our offices provide staff for the contract, and the location of investigator sites. Although many such contracts benefit from some degree of natural hedging due to the matching of contract revenues and costs in the same currency, where costs are incurred in currencies other than those in which contracts are priced, fluctuations in the relative value of those currencies could have a material effect on ICON's results of operations. We regularly review our currency exposures and hedge a portion of these, using forward exchange contracts, where they are not covered by natural hedges.

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We have received capital and revenue grants from Enterprise Ireland, an Irish government agency. We record capital grants as deferred income, which are credited to income on a basis consistent with the depreciation of the relevant asset. Grants relating to operating expenditures are credited to income in the period in which the related expenditure is charged. The capital grant agreements provide that in certain circumstances the grants received may be refundable in full. These circumstances include sale of the related asset, liquidation of ICON or failing to comply in other respects with the grant agreements. The operating expenditure grant agreements provide for repayment in the event of a downsizing calculated by reference to any reduction in employee numbers. We have not recognized any loss contingency having assessed as remote the likelihood of these events arising. Up to December 31, 2006, we have received $2,695,280 and $2,003,315 under capital grants and operating grants, respectively. Pursuant to the terms of the grant agreements, we are restricted from distributing some of these amounts by way of dividend or otherwise.

As we conduct operations on a global basis, our effective tax rate has depended and will depend on the geographic distribution of our revenue and earnings among locations with varying tax rates. ICON's results of operations therefore may be affected by changes in the tax rates of the various jurisdictions. In particular, as the geographic mix of our results of operations among various tax jurisdictions changes, our effective tax rate may vary significantly from period to period. 

Operating Results

The following table sets forth for the periods indicated certain financial data as a percentage of net revenue and the percentage change in these items compared to the prior comparable period. The trends illustrated in the following table may not be indicative of future results.

		May 31, 2005			Transition Period June 1, 2005 to Dec 31, 2005			Jan 1, 2006 to Dec 31, 2006			Transition Period June 1, 2005 to Dec 31, 2005			Jan 1, 2006 to Dec 31, 2006
		Percentage of Net Revenue									Percentage Increase/ (Decrease)
Net revenue			100	%		100	%		100	%		(38.2	%)		125.6	%
Costs and expenses: Direct costs			55.0	%		56.5	%		56.2	%		(36.5	%)		124.8	%
Selling, general and administrative			31.8	%		30.8	%		30.0	%		(40.0	%)		119.3	%
Depreciation and amortization			4.1	%		4.0	%		3.3	%		(39.3	%)		84.7	%
Share based compensation			-			3.0	%		-			100	%		(100.0	%)
Other charges			3.4	%		-			-			(100	%)		-
Income from operations			5.7	%		5.7	%		10.5	%		(37.9	%)		313.9	%

 

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Year ended December 31, 2006 compared to Seven Month Transition Period Ended December 31, 2005

Note: Results below compare a 12 month accounting period ended December 31, 2006 to a 7 month accounting period ended December 31, 2005

Net revenue increased by $253.7 million, or 125.6%, from $201.9 million to $455.6 million. Revenues in the United States, Europe and the Rest of World increased by 125%, 139% and 70% respectively. In the year ended December 31, 2006, net revenue from our central laboratory business increased by 160%, from $18.2 million, to $47.2 million, while our clinical research segment improved by 122%, from $183.8 million to $408.4 million, over the prior period. This increase in net revenue has resulted from a combination of increased business from existing clients, business won from new clients, increased use of outsourcing by the pharmaceutical, biotechnology and medical device industries, an underlying increase in research and development spending and consolidation in the CRO industry.

 

Direct costs increased by $142.3 million, or 124.8%, from $114.0 million to $256.3 million. Direct costs as a percentage of net revenue decreased from 56.5% in the seven month transition period ended December 31, 2005, to 56.2% in the year ended December 31, 2006. A comparative period analysis shows an increase in direct costs primarily due to increased staff numbers needed to support increased project related activity. In addition, $2.3m can be attributed to the share based compensation expense arising from the adoption of SFAS123R Share Based Payments in 2006.

 

Selling, general and administrative expenses increased by $74.3 million, or 119.3%, from $62.3 million to $136.6 million. As a percentage of net revenue, selling, general and administrative expenses, decreased from 30.8% in the seven month transition period ended December 31, 2005, to 30% for the year ended December 31, 2006. A comparative period analysis shows an increase in SG&A costs due to the continued expansion of our operations. In addition, $1.8m can be attributed to the share based compensation expense arising from the adoption of SFAS123R Share Based Payments in 2006.

The total share based compensation expense during 2006 amounted to $4.1m.

Depreciation and amortization expense increased by $6.9 million, or 84.7%, from $8.1 million to $14.9 million. As a percentage of net revenue, depreciation and amortization decreased from 4% of net revenues in the seven month transition period ended December 31, 2005, to 3.3% for the year ended December 31, 2006. A comparative period analysis shows an increase in depreciation as a result of continued investment in facilities and information technology to support the growth in activity and in providing for future capacity.

Income from operations increased by $36.3 million, or 313.9%, from $11.6 million to $47.8 million. As a percentage of net revenue, income from operations increased from 5.7% of net revenues in the seven month transition period ended December 31, 2005, to 10.5% for the year ended December 31, 2006. The year ended December 31, 2006, saw a continued improvement in the performance of the central laboratory business, from a loss from operations, as a percentage of net revenue of 16.7% for the seven month transition period ended December 31, 2005, to an operating profit of 4.9% for the year ended December 31, 2006. The central laboratory constitutes approximately 10.4% of our business revenues for the year ended December 31, 2006. Operating margins for our clinical research segment increased to 11.1% in the year ended December 31, 2006, from 7.9% for the seven month transition period ended December 31, 2005.

Net interest income for the year ended December 31, 2006, was $3.6 million, an increase of $2.4 million from the seven month transition period ended December 31, 2005. Higher interest rates in 2006 over the 2005 transition period contributed to the increased interest income.

ICON plc’s effective tax rate for the year ended December 31, 2006, was 25% compared with 42% for the seven month transition period ended December 31, 2005. The decrease in the effective tax rate is due to a number of factors, including the release of $3.04 million of the valuation allowance against the losses forward in ICON Laboratories, Inc. In addition, in the seven month period ended December 31, 2005, there had been a once off tax disallowance of the compensation expense amounting to $6.024 million in respect of the gift of 64,000 and 80,000 ADSs made by Dr. Ronan Lambe and Dr. John Climax to Mr. Peter Gray, the Company’s Chief Executive Officer.

 

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Seven Month Transition Period Ended December 31, 2005 Compared to Fiscal Year Ended May 31, 2005

Note: Results below compare a 7 month accounting period ended December 31, 2005 to a 12 month accounting period ended May 31, 2005.

Net revenue decreased by $124.8 million, or 38.2%, from $326.7 million to $201.9 million. Revenues in the United States, Europe and the Rest of World fell by 36.6%, 44.1% and 14.9% respectively. In the transition period to December 31, 2005, net revenue from our central laboratory business decreased by 28.6% from $25.5 million to $18.2 million, while our clinical research segment declined by 39.0% from $301.2 million to $183.8 million over the prior period. If the figures above were analyzed with a comparative period, they would show a general improvement through a combination of increased business from existing clients, business won from new clients, increased use of outsourcing by the pharmaceutical, biotechnology and medical device industries, an underlying increase in research and development spending and consolidation in the CRO industry.

 

Direct costs decreased by $65.7 million, or 36.5%, from $179.7 million to $114.0 million. Direct costs as a percentage of net revenue increased from 55.0% in the twelve months to May 31, 2005 to 56.5% in the 2005 transition period ending December 31, 2005. A comparative period analysis shows an increase in direct costs primarily due to increased staff numbers needed to support increased project related activity.

 

Selling, general and administrative expenses decreased by $41.5 million, or 40.0%, from $103.8 million to $62.3 million. As a percentage of net revenue, selling, general and administrative expenses, decreased from 31.8% in the twelve months to May 31, 2005 to 30.8% for the transition period ended December 31, 2005. A comparative period analysis shows an increase in SG&A costs due to the continued expansion of our operations.

Depreciation and amortization expense decreased by $5.2 million, or 39.3%, from $13.3 million to $8.1 million. As a percentage of net revenue, depreciation and amortization decreased from 4.1% of net revenues in the twelve months to May 31, 2005, to 4.0% for the transition period ended December 31, 2005. A comparative period analysis shows an increase in depreciation as a result of continued investment in facilities and information technology to support the growth in activity and in providing for future capacity.

In the transition period an amount of $6.2 million was expensed in relation to share based compensation (See Item 7: Major Shareholders and Related Party Transactions).

The principal items classified as other charges in the year ended May 31, 2005 were asset impairments, computer software write-off and lease termination and exit costs.

Income from operations decreased by $7.0 million, or 37.9%, from $18.6 million to $11.6 million. As a percentage of net revenue, income from operations remained static at 5.7% of net revenues for the transition period ended December 31, 2005 when compared to the twelve months to May 31, 2005. For the transition period ended December 31, 2005, losses from operations, as a percentage of net revenue for the central laboratory decreased to 16.7%, from 59.9%, in the twelve month period ending May 31, 2005. The loss for the year to May 31, 2005 included the effects of other charges. The central laboratory constitutes approximately 9.0% of our business revenues for the period ended December 31, 2005. Operating margins for our clinical research segment decreased to 7.9% in the transition period ended December 31, 2005 from 11.3% for the twelve month period ending May 31, 2005.

Net interest income for the transition period ended December 31, 2005, was $1.3 million, an increase of $0.3 million on the year ended May 31, 2005. Higher interest rates in the 2005 transition period over fiscal 2005 contributed to the increased interest income.

ICON plc’s effective tax rate for the transition period ended December 31, 2005, was 42.0% compared with 29.9% for the year ended May 31, 2005.

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Fiscal Year Ended May 31, 2005 Compared to Fiscal Year Ended May 31, 2004

Net revenue increased by $29.7 million, or 10.0%, from $296.9 million to $326.7 million. This improvement arose through a combination of increased business from existing clients, business won from new clients and revenues from acquisitions not included in the comparative period. The additional revenues from acquisitions amounted to $9.1 million for the fiscal year ended May 31, 2005. Including the impact of acquisition, revenues in the United States, Europe and the Rest of World grew by 0.9%, 20.1% and 73.5%, respectively. In the twelve months to May 31, 2005, net revenue from our central laboratory business decreased by 5.2% from $26.9 million to $25.5 million while our clinical research segment grew by 11.5% from $270.0 million to $301.2 million over the comparable period. The decrease in net revenue in our central laboratory segment is primarily due to lower testing volumes in fiscal 2005. The growth in net revenue in our clinical research segment is due to the expansion of our services to both existing and new clients, increased use of outsourcing by the Pharmaceutical, Biotechnology and Medical Device industries, an underlying increase in research and development spending and consolidation in the CRO industry.

 

Direct costs increased by $17.1 million, or 10.5%, from $162.6 million to $179.7 million, primarily due to increased staff numbers needed to support increased project related activity and increased costs arising from acquisitions amounting to $4.3 million. Direct costs as a percentage of net revenue increased from 54.7% in the twelve months to May 31, 2004 to 55.0% in fiscal 2005.

 

Selling, general and administrative expenses increased by $15.0 million, or 16.9%, from $88.8 million to $103.8 million. The increase in costs is due to the continued expansion of our operations and additional selling, general and administrative costs from acquisition of $3.3 million not included in the comparative period. As a percentage of net revenue, selling, general and administrative expenses, increased from 29.9% in the twelve months to May 31, 2004 to 31.8% for the fiscal year ended May 31, 2005.

Depreciation and amortization expense increased by $2.1 million, or 19.3%, from $11.2 million to $13.3 million. This increase is due to the continued investment in facilities and information technology to support the growth in activity and in providing for future capacity and increased costs arising from acquisition of $0.4 million. As a percentage of net revenue, depreciation and amortization increased from 3.8% of net revenues in the twelve months to May 31, 2004, to 4.1% for the fiscal year ended May 31, 2005.

 

Other charges of $11.3 million were incurred during the year ended May 31, 2005. The principal items classified as other charges include asset impairments, computer software write-off and lease termination and exit costs, as outlined in Note 14 to the Consolidated Financial Statements.

Income from operations decreased by $15.8 million, or 45.9%, from $34.4 million to $18.6 million, including acquisitions. As a percentage of net revenue, income from operations decreased from 11.6% for the twelve months to May 31, 2004 to 5.7% of net revenues for the fiscal year ended May 31, 2005. For the fiscal year 2005, losses from operations, as a percentage of net revenue for the central laboratory increased to 59.9%, or 25.6% excluding other charges, from 12.2%, in fiscal 2004 due to an expanded cost base. The central laboratory constitutes approximately 7.8% of our business revenues in the year ended May 31, 2005. Operating margins for our clinical research segment decreased from 13.9% in the twelve months to May 31, 2004, to 11.3% for the fiscal year ended May 31, 2005.

Net interest income for the year ended May 31, 2005, was $1.0 million, an increase of $0.7 million on the year ended May 31, 2004. Higher average level of funds invested and higher interest rates in fiscal 2005 over fiscal 2004 contributed to the increased interest income.

ICON plc’s effective tax rate for the year ended May 31, 2005, was 29.9% compared with 25.8% for the comparable period in the previous year. The increase in the effective rate was primarily due to a change in the geographic distribution of pre-tax earnings.

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Liquidity and Capital Resources

The CRO industry generally is not capital intensive. Since our inception, we have financed our operations and growth primarily with cash flows from operations, net proceeds of $49.1 million raised in our initial public offering in May 1998 and net proceeds of $44.3 million raised in our public offering in August 2003. Our principal cash needs are payment of salaries, office rents, travel expenditures and payments to investigators. The aggregate amount of employee compensation, excluding stock compensation expense, paid by us and our subsidiaries for the two years ended May 31, 2004 and 2005, the seven month transition period ending December 31, 2005 and the year ended December 31, 2006, amounted to $174.5 million, $194.1 million, $121.4 million and $274.6 million, respectively. Investing activities primarily reflect capital expenditures for facilities, information systems enhancements, the purchase of short-term investments and acquisitions.

Our clinical research and development contracts are generally fixed price with some variable components and range in duration from a few weeks to several years. Revenue from contracts is generally recognized as income on the basis of the relationship between time incurred and the total estimated contract duration or on a fee-for-service basis. The cash flow from contracts typically consists of a down payment of between 10% and 20% paid at the time the contract is entered into, with the balance paid in installments over the contract's duration, in some cases on the achievement of certain milestones. Accordingly, cash receipts do not correspond to costs incurred and revenue recognized on contracts.

 

As of December 31, 2006, our working capital was $160.3 million, compared to $132.3 million at December 31, 2005 and $125.3 million at May 31, 2005. The most significant influence on our operating cash flow is revenue outstanding, which comprises accounts receivable and unbilled revenue, less payments on account. The dollar values of these amounts and the related days revenue outstanding can vary due to the achievement of contractual milestones, including contract signing, and the timing of cash receipts. The number of days revenue outstanding was 53 days at December 31, 2006, 65 days at December 31, 2005, and 63 days at May 31, 2005.

Net cash provided by operating activities was $50.5 million in the year ended December 31, 2006, compared with $13.8 million in the transition period ended December 31, 2005, $25.2 million in fiscal year ended May 31, 2005, and $43.6 million in the fiscal year ended May 31, 2004.

Net cash used in investing activities was $55.3 million in the year ended December 31, 2006, compared with $16.3 million in the seven month period ended December 31, 2005, $25.7 million in the year ended May 31, 2005 and $47.3 million in the year ended May 31, 2004. The increase in net cash used in the year ended December 31, 2006, over the seven month transition period ended December 31, 2005 is due principally to the commencement of the construction of the new facility head office building located in Dublin, Republic of Ireland, the acquisition of Ovation and the investment in short term investments.

Net cash provided by financing activities was $7.7 million in the year ended December 31, 2006, compared with $6.6 million in the seven month transition period ended December 31, 2005, $0.9 million in the year ended May 31, 2005 and $42.5 million in the fiscal year ended May 31, 2004.

As a result of these cash flows, cash and cash equivalents increased by $3.5 million in the year ended December 31, 2006 compared to $3.2 million in the transition period ended December 31, 2005, $0.7 million in the year ended May 31, 2005 and $37.4 million in the year ended May 31, 2004.

The Company has short-term bank loan facilities as follows:

 

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On July 3, 2003, we entered into a facility agreement (the "Facility Agreement") for the provision of a term loan facility of U.S.$40 million, multi-currency overdraft facility of $5 million and revolving credit facility of $15 million (the "Facilities") with The Governor and Company of the Bank of Ireland and Ulster Bank Ireland Limited (the “Banks”). Our obligations under the Facilities are secured by certain composite guarantees and indemnities and pledges in favor of each of the banks. The term loan facility bears interest at an annual rate equal to the Banks’ prime rate plus one percent. The multi-currency overdraft facility and the revolving credit facility bear interest at an annual rate equal to the Banks’ prime rate plus three quarters of one percent. ICON plc and its subsidiaries are entitled to make borrowings under a term loan facility of $40 million and a multi currency overdraft facility of $5 million. As at December 31, 2006, $15 million of the term loan facility was available to be drawn down, while the entire $5 million multi currency overdraft had been drawn down. The multi currency overdraft facility will become payable on demand if the Company defaults under its obligations as specified in the loan agreement. The reduction in the term loan facility is due to amortization terms in the facility agreement. The term loan facility will reduce by a further $5 million dollars at six monthly intervals until the facility expires on June 30, 2008. ICON Clinical Research, Inc. (a subsidiary of ICON plc) is entitled to make borrowings under the revolving credit facility of $15 million. As at December 31, 2006, the full amount of this facility was available to be drawn down.

 

We entered into an overdraft agreement with Allied Irish Banks, plc (“AIB”) whereby the Company guarantees any overdraft of its subsidiary ICON Clinical Research GmbH up to an amount of €120,000 (U.S.$157,645). As of December 31, 2006, the full facility was available to be drawn down.

 

On July 10, 2006, we acquired 100% of the common stock of Ovation Healthcare Research 2 Inc. (“Ovation”), based in Illinois, USA, for an initial cash consideration of U.S.$6.6 million, excluding costs of acquisition. Working capital provisions were built into the acquisition contract requiring the potential payment of additional deferred consideration up to a maximum of U.S.$1.4 million. On October 27, 2006, $0.18 million was paid to the former Shareholders of Ovation in full and final settlement of the working capital provisions.

 

On July 1, 2004, we completed the acquisition of 70% of Beacon Biosciences, Inc. for an initial cash consideration of U.S.$9.9 million.

 

On December 1, 2004, we acquired the workforce of Biomines Research Solutions Private Limited for a total cash consideration of U.S. $0.25 million. The workforce is engaged in the business of clinical trial data management and statistical analysis services and has been transferred to our existing Indian operation.

 

Contractual obligations table

The following table represents our contractual obligations and commercial commitments as of December 31, 2006:

		Payments due by period
		Total			Less than 1 year			1 to 3 years			3 to 5 years			More then 5 years
		(U.S.$ in millions)
Capital lease obligations		$	0.4		$	0.2		$	0.2		$	-		$	-
Bank credit lines and loans facilities			5.0			5.0			-			-			-
Operating lease obligations			160.7			26.1			43.7			34.8			56.1
Building construction commitments			44.7			44.7			-			-			-
Total (U.S.$ in millions)		$	210.8		$	76		$	43.9		$	34.8		$	56.1

Excluding the expenditure in relation to the building construction, we expect to spend approximately $16 million in the next twelve months on further investments in information technology, the expansion of existing facilities and the addition of new offices and expect to increase this level of spending in subsequent years. We believe that we will be able to fund our additional foreseeable cash needs for the next twelve months from cash flow from operations and existing cash balances. In the future, we will consider acquiring businesses to enhance our service offerings and global presence. Any such acquisitions may require additional external financing and we may from time to time seek to obtain funds from public or private issues of equity or debt securities. There can be no assurance that such financing will be available on terms acceptable to us.

 

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Critical Accounting Policies

The preparation of consolidated financial statements in accordance with generally accepted accounting principles in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period.

 

We base our estimates and judgments on historical experience and on the other factors that we believe are reasonable under current circumstances. Actual results may differ from these estimates if these assumptions prove to be incorrect or if conditions develop other than as assumed for the purposes of such estimates. The following is a discussion of the accounting policies used by us, which we believe are critical in that they require estimates and judgments by management.

 

Revenue Recognition

 

Significant management judgments and estimates must be made and used in connection with the recognition of revenue in any accounting period. Material differences in the amount of revenue in any given period may result if these judgments or estimates prove to be incorrect or if management’s estimates change on the basis of development of the business or market conditions. To date there have been no material differences arising from these judgments and estimates.

We earn revenues by providing a number of different services to our clients. These services include clinical trials management, biometric activities, consulting and laboratory services. We recognize biometric, consulting and laboratory revenues on a fee-for-service basis. Our laboratory service contracts are multiple element arrangements, with laboratory kits and laboratory testing representing the contractual elements. We determine the fair values for these elements, each of which can be sold separately, based on objective and reliable evidence of their respective fair values. Our laboratory contracts entitle us to receive non-refundable set-up fees and we allocate such fees as additional consideration to the contractual elements based on the proportionate fair values of the elements. We recognize revenues for the elements on the basis of the number of deliverable units completed in a period.

We recognize clinical trials revenue on the basis of the relationship between time incurred and the total estimated duration of the contract as this represents the most accurate pattern over which our contractual obligations are fulfilled. We invoice our customers upon achievement of specified contractual milestones. This mechanism, which allows us to receive payment from our customers throughout the duration of the contract, is not reflective of revenue earned. We recognize revenues over the period from the awarding of the customer’s contract to study completion and acceptance. This requires us to estimate total expected revenue, time inputs, contract costs, profitability and expected duration of the clinical trial. These estimates are reviewed periodically and, if any of these estimates change or actual results differ from expected results, then an adjustment is recorded in the period in which they become readily estimable.

If we do not accurately estimate the resources required or the scope of the work to be performed, or do not manage our projects properly within the planned cost or satisfy our obligations under the contracts, then future results may be significantly and negatively affected.

Goodwill

 

The principal judgments and uncertainties affecting our accounting for goodwill relate to carrying values. The carrying values of purchased goodwill are assessed annually, using discounted cash flows and net realizable values. The estimates and judgments used to assess carrying values include those relating to commercial risk, revenue and cost projections, our intention with respect to the acquired goodwill, the impact of competition, the impact of any reorganization or change of our business focus, the level of third party interest in our operations and market conditions.

If the implied fair value of reporting unit goodwill is lower then its carrying amount, goodwill is impaired and written down to its implied fair value. If we were to use different estimates or judgments, particularly with respect to expected revenue and cost projections or the impact of any reorganization or change of business focus, a material impairment charge to the statement of operations could arise. We believe that we have used reasonable estimates and judgments in assessing the carrying value of our goodwill. For further information, refer to Note 14 to the Consolidated Financial Statements. 

 

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Inflation

We believe that the effects of inflation generally do not have a material adverse impact on our operations or financial conditions.

New Accounting Pronouncements

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Correction (SFAS No. 154). SFAS No.154 is a replacement of APB Opinion No. 20, Accounting Changes (APB Opinion No. 20), and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements. The statement applies to all voluntary changes in accounting principle, and changes the accounting for, and reporting of, a change in accounting principle. SFAS No. 154 requires retrospective application to prior period financial statements of a voluntary change in accounting principle unless it is impracticable to do so. APB Opinion No. 20 previously required that most voluntary changes in accounting principle be recognized by including in net income of the period of the change the cumulative effect of changing to the new accounting principle. SFAS No. 154 carries forward many provisions of APB Opinion No. 20 without change, including the provisions related to the reporting of a change in accounting estimate, and the correction of an error. SFAS No. 154 does not change the provisions of any existing accounting pronouncements, including those that are in a transition phase at the effective date of the statement. The Company adopted the provisions of SFAS No. 154 on January 1, 2006, and the adoption of the new standard did not have a material impact on the Company’s consolidated financial position or results of operations.

In June 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of SFAS 109. This interpretation clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. This interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of the tax position taken in a tax return. It also provides guidance on de-recognition classification, interest and penalties, accounting in interim periods, disclosure and transition. Interpretation No. 48 is effective for fiscal years beginning after December 15, 2006. Earlier application is encouraged if the company has not yet issued financial statements, including interim financial statements, in the period Interpretation No. 48 is adopted. The Company does not expect the adoption of Interpretation No. 48 to have a material impact on the financial statements.

In September 2006, the SEC issued SAB No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements. SAB No. 108 provides guidance on how prior year financial statement misstatements should be considered when quantifying misstatements in current year financial statements for purposes of determining whether the current year’s financial statements are materially misstated. SAB No. 108 is effective for fiscal years ending after November 15, 2006, and as such, the Company adopted SAB No. 108 in the year ended December 31, 2006. The adoption of SAB No. 108 did not have a material impact on the Company’s consolidated results of operations or financial position.

In March 2005, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 47. In accordance with FASB Interpretation 47 companies must recognize a liability for the fair value of a legal obligation to perform asset-retirement activities that are conditional on a future event if the amount can be reasonably estimated. The Interpretation provides guidance on whether the fair value is reasonably estimable. The premise underlying the Interpretation is a need for more uniform application of Statement 143 "Accounting for Asset Retirement Obligations". Companies must adopt the Interpretation no later than the end of the fiscal year ending after December 15, 2005. The adoption of FASB Interpretation No 47 has not had a material impact on our financial position or results of operations.

In December 2004, the FASB issued Statement No. 123R, "Share-Based Payment” - An Amendment of FASB Statements No. 123 and 95 (“SFAS No.123R”), which is effective for public companies in periods beginning after June 15, 2005. We implemented the standard on January 1, 2006. SFAS No. 123R addresses the accounting for transactions in which an enterprise receives goods and services in exchange for: (a) equity instruments of the enterprise; or (b) liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using APB 25, and generally requires instead that such transactions be accounted for using a fair-value based method. Equity classified awards are measured at grant date at fair value and are not subsequently re-measured. Liability classified awards are re-measured at fair value at each balance sheet date until the awards are settled. We adopted the Black-Scholes model to derive fair values.

 

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In November 2004, the FASB issued statement No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4" (“SFAS No. 151”), which is effective for public companies prospectively for inventory costs incurred in periods beginning after June 15, 2005. This Statement amends the guidance in ARB No. 43, Chapter 4 “Inventory Pricing”, to clarify that accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) should be recognized as a current period change and to require the allocation of fixed production overhead to the costs of conversion based on normal capacity of the production facilities. The adoption of SFAS No. 151 has not had a material impact on our financial position or results of operations.

In December 2004, the FASB issued Statement No. 153, “Exchanges of Nonmonetary assets - an amendment of APB Opinion No. 29” (“SFAS No. 153”), which is effective for public companies in periods beginning after June 15, 2005. The guidance in APB opinion No. 29, Accounting for Nonmonetary Transactions, is based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in that Opinion, however, included certain exceptions to that principle. This statement amends Opinion 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The adoption of SFAS No. 153 has not had a material impact on our financial position or results of operations.

 

In November 2003 and March 2004, the Emerging Issues Task Force (EITF) reached partial consensus on EITF 03-1, “The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments,” (“EITF 03-1”). EITF 03-1 addresses the meaning of other then temporary impairment and its application to investments classified as either available-for-sale or held-to-maturity under SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities” and investments accounted for under the cost method. The EITF agreed on certain quantitative and qualitative disclosures about unrealized losses pertaining to securities classified as available-for-sale or held-to-maturity. In addition, EITF 03-1 requires certain disclosures about cost method investments. The recognition and measurement provisions of EITF 03-1 have been deferred until additional guidance is issued.

 

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Financial Statements

See Item 18.

Legal Proceedings

ICON is not party to any litigation or other legal proceedings that we believe could reasonably be expected to have a material adverse effect on our business, results of operations and financial condition.

Dividends

We have not paid cash dividends on our ordinary shares and do not intend to pay cash dividends on our ordinary shares in the foreseeable future.

We hereby incorporate by reference the description of the amendment to our Memorandum and Articles of Association described under the heading “Memorandum and Articles of Association” from Item 10 of this Form 20F.