h care cro hcare

Equity Research

William Blair & Company, L.L.C.222 West Adams Street Chicago, Illinois 60606 312.236.1600 www.williamblair.com

Please consult pages 33-34 of this report for all disclosures.William Blair & Company, L.L.C. receives or seeks to receive compensation for investment banking services from companies covered in this research report. Investors should consider this report as a single factor in making an investment decision.

CRO Industry UpdateResults From Fifth Survey of Pharma and Biotech Sponsors

In conjunction with Life Science Strategy Group, we recently conducted our fi fth survey of pharmaceutical and biotechnology sponsors regarding their experience with vendors and general trends affecting the contract re-search organization (CRO) industry. We surveyed respondents on outsourcing penetration, the impact of strategic partnerships, and research-and-development budgeting trends. In addition, we asked participants to rank their favorite CROs and indicate the qualities they seek when selecting a vendor.

Covance, Charles River Laboratories, and Quintiles were cited most fre-quently as sponsors’ favorite CRO. Covance and Charles River were cited most often among preclinical-oriented respondents, while Quintiles and Covance were cited most often by respondents focused on clinical development. Notably, Quintiles was ranked in the top three in our last survey as well, but other CROs that were mentioned in past surveys slipped somewhat.

Outsourcing market growth should improve and favor larger CROs. Survey data suggests that market growth should improve over the next few years, based on expected growth in research-and-development spending and the number of products in the industry’s pipeline. In addition, outsourcing penetration—particu-larly over the longer term—should increase signifi cantly. We believe that strategic partnerships will continue to concentrate the benefi t from this increased penetra-tion into the hands of fewer CROs.

Leading indicators we track are consistent with our survey data and continue to suggest that the pharmaceutical outsourcing environment is growing again, but more slowly. Following an analysis of the four leading indicators, we believe the overall environment for pharmaceutical outsourcing is stable to improv-ing in the near term. Recent data suggests that new business and the product pipeline are growing (especially in the later stages), R&D spending is stable (but well below historical averages), and biotechnology funding is showing signs of improvement. We expect some improvement in growth in 2011, particularly after R&D budgets at pharma companies are fi nalized.

We reiterate our Outperform ratings on Parexel, Covance, and ShangPharma, and our Market Perform ratings for ICON, PPD, and Charles River. In our opinion, large pharma’s urgent need to replace revenue that will lose patent pro-tection in the next several years is forcing a focus on late-stage compounds and strategic partnering, which should work to the advantage of larger, global CROs. In this environment, we believe Parexel (with its global footprint, strategic alliance momentum, and later-stage focus) and Covance (which boasts the broadest functional breadth and largest strategic partnerships) are best positioned.

John Kreger Liping Cai, CFA Roberto Fatta312.364.8597 +86 21 2327 2260 [email protected] [email protected] [email protected]

Healthcare │Pharmaceutical Outsourcing

January 11, 2011Industry Report (11-010)

Charles River Laboratories Interna-tional, Inc.Ticker: CRL (NYSE)Price: $36.61Stock Rating: Market PerformCompany Profi le: Core Growth

Covance Inc.Ticker: CVD (NYSE)Price: $50.31Stock Rating: OutperformCompany Profi le: Established Growth

ICON plc Ticker: ICLR (Nasdaq)Price: $21.93Stock Rating: Market PerformCompany Profi le: Aggressive Growth

PAREXEL InternationalCorporationTicker: PRXL (Nasdaq)Price: $20.60Stock Rating: OutperformCompany Profi le: Aggressive Growth

PPD, Inc.Ticker: PPDI (Nasdaq)Price: $27.31Stock Rating: Market PerformCompany Profi le: Core Growth

ShangPharma Corporation Ticker: SHP (NYSE)Price: $12.35Stock Rating: OutperformCompany Profi le: Aggressive Growth

William Blair & Company, L.L.C.

John Kreger 312.364.8597 - 2 -

Contents

Introduction ....................................................................................................................3

Key Conclusions ...........................................................................................................3

CRO Industry Survey ....................................................................................................6

State of the Global Pharmaceutical Outsourcing Industry ......................................23

Summary Conclusions From Quality Survey and Leading Indicators ...................29

Global Pharmaceutical Outsourcing Market Model .................................................31

Summary of Valuation Statistics ................................................................................32

Analyst Name 312.364.xxxx - 3 -


Liping Cai +86 21 2327 2260 - 3 -

Introduction

To better understand the broad trends in pharmaceutical outsourcing and spot changing attitudes about the leading vendors, we have conducted several industry surveys over the past six years. For the most recent survey conducted in October, we partnered with Life Science Strategy Group, a leading consultancy specializing in new product planning and commercialization strategy to a variety of life science markets. The 156 respondents were split equally among large ($1 billion or more in annual research-and-development spend), midsize (between $50 million and $1 billion in annual R&D spend), and small (less than $50 million in annual R&D spend) biopharmaceutical companies, the majority of which were from North America. Our questions were generally geared toward the level of outsourcing and the factors affecting outsourcing strategy.

We believe our fi ndings are relevant for Covance, Charles River Laboratories, ICON, Par-exel, PPD, Kendle, ShangPharma, and WuXi, as well as a host of privately owned CROs, including Quintiles, PRA, and PharmaNet on the clinical side, and MPI, WIL Research, and Huntingdon on the preclinical side.

Key Conclusions

After reviewing the data and conducting channel checks with a variety of industry participants, we came away with fi ve primary conclusions regarding the pharmaceutical outsourcing market.

I. R&D Spending Is the Critical Variable in Determining the Outlook for Outsourcing in the Coming Few Years, and Could Be Stronger Than Investors Anticipate if the Economy Remains StableAfter a slowdown in R&D spending growth in 2009 and 2010, our survey respondents expect spending to ramp up again in 2011 and beyond. As illustrated in fi gures 4 and 5, on page 9, all three client segments, from large pharma to small biotechs, are reportedly expecting a marked increase in spending growth in 2011. We were particularly surprised that our large pharma respondents are expecting acceleration in growth of three percentage points in 2011. Midsize and small pharmaceutical companies expect R&D spending growth to increase to an even greater degree—by 6 and 14 percentage points, respectively.

We are somewhat skeptical of the growth rates expected by our respondents in the coming few years, because their opinions of 2010 spending were well above the fl at trend that we have observed year-to-date compared with 2009. We believe this is partly attributable to the fact that our data is dollar weighted. For example, a 10% reduction in spending across Pfi zer’s $8 billion-plus R&D budget carries more weight than a 10% increase in spending across Biogen Idec’s $1.2 billion R&D budget. In contrast, our survey respondents with R&D spending greater than $1 billion are counted as “large pharma” and are equally weighted. Despite the discrepancy in absolute growth rates between our survey and our own quarterly data, we are encouraged that trends seem to be moving in the right direction and consider the delta between the 2010 and 2011 projections as a reasonable proxy for the actual rate of growth likely in the coming year.

Our CRO model currently anticipates R&D spending growth of 2% in 2011 and 1% in 2012—levels that may prove conservative in light of the three points of improvement anticipated by large pharma respondents in the coming year. Longer term, while the survey data suggests that it is possible that growth returns to historical levels of roughly 9%, we believe that a return to these levels is unlikely, based on declining revenues and cost-cutting measures many companies are expected to undergo over the next several years. Still, responses to our survey suggest that the attitude at many pharma companies (particularly those not involved in mergers) may be more bullish than investors expect.


John Kreger 312.364.8597 - 4 -

II. The Pipeline of New Products Is RobustAccording to Pharmaprojects, there are roughly 9,600 products in the pipeline at the mo-ment (from preclinical through registration), which is up 6% since last year and up 14% since January 2009. As shown in fi gures 7 through 10, on pages 11-12, respondents expect the pipeline of products to increase across the development spectrum at companies of all sizes. Seventy-fi ve percent of respondents suggested that the pipeline of clinical products is expected to increase or increase signifi cantly, which is logical given the large number of branded product expirations that must be replaced over the next few years. We view this as bullish for clinical players and believe this trend has already manifested itself in 2010 through the strong bookings recorded by nearly all publicly traded clinical players. Similar to opinions about R&D spending growth noted above, the survey data about pipeline growth was more bullish than the Pharmaprojects data we track monthly.

III. Outsourcing Penetration Should Increase Over the Next Few YearsWe strongly believe the combination of an expanding pipeline and shrinking internal re-sources will result in an increased rate of outsourcing. Our survey suggested that over the next 18 to 24 months, outsourcing penetration should increase across nearly all areas of development. While this does not appear to be the case on a consolidated basis due to the decreases in penetration expected by small pharma respondents, large and midsize play-ers are expecting to increase penetration in nearly all categories (thus the dollar-weighted effects are different from what the simple averages imply).

We expect the current outsourcing penetration rate to increase by a few percentage points over the next year or two, and CRO management commentary suggests that over the next fi ve to seven years the outsourcing percentage could increase to more than 60%. Our model currently anticipates roughly a 10-percentage-point increase in penetration from 2010 through 2015.

IV. Strategic Deals Will Likely Change the Way Outsourcing Is ConductedIn the near term, our respondents indicate that strategic deals should accelerate the rate of outsourcing and concentrate bookings in the hands of fewer CROs. We believe this trend will work in the favor of large, global players with broad therapeutic and functional expertise. While we do not yet know what the full ramifi cations of strategic deals will be, we believe the trend will ultimately change the way outsourcing is done and drive penetration much higher. We believe the integration of CRO teams into the existing infrastructure of large pharma companies should drive better outcomes and greater effi ciency for sponsors. We believe it may take a few years for CROs to optimize the new model, but once they do, we do not see any structural reason why the underlying level of profi tability of the business should be reduced. In other words, we expect enhanced visibility and sales-and-marketing effi ciencies to offset pricing concessions likely inherent with larger, multiyear deals.

V. Spending From Small Sponsors May Be Beginning to ThawBased on bullish responses to our survey, it appears small companies are becoming more optimistic about the future. Most telling were the responses for R&D spending. While all of the respondents suggested that R&D growth rates should improve, small participants were the most bullish. On average, companies expected growth to remain fl at for 2010, but to improve to the midteens beginning in 2011 (see fi gure 5, on page 9). While outsourcing penetration rates for these companies appear to be less optimistic (coming down in some categories), we believe the strong increase in R&D spending should offset the decline. In addition, numerous channel checks and our leading indicators have begun to suggest that small pharma and biotech companies have reduced their decision-making time and have ramped up spending. We believe this has been driven, at least in part, by an improvement in biotech funding, which was up 51% sequentially, to $3.1 billion in the fourth quarter. In our view, this should bode well for the CRO group in the early part of 2011. We were pleasantly surprised to hear that small sponsors are starting to spend again, given that bookings over the past year appear to have been driven primarily by large pharma. If this trend continues, it could herald improving demand across the development spectrum, but particularly in the early stage, where small sponsors tend to focus their buying power.



Liping Cai +86 21 2327 2260 - 5 -

Given generally consistent feedback relative to previous surveys, our perception of the highest-quality players in the space has not changed, as the usual suspects are once again at the top end of the quality list in our survey. Interestingly, a large number of early-stage players are at or near the top of the list this time, which we believe is due to a higher per-centage of respondents being responsible for preclinical contracting. Thirty-one percent of respondents said they were early-stage focused, 49% said they were both early- and late-stage focused, and 20% were late-stage focused. Our previous surveys were solely focused on clinical development outsourcing. In addition, while our older surveys were concentrated more in the large and midsize pharma space, our current survey captures a fair number of small biotech customers with products very early in the development process. This would explain the presence of companies such as WuXi and MPI near the top of the list.

Still, Covance ranked highest in our survey by a wide margin and scored well among both preclinical- and clinical-oriented respondents. This is likely due to its global reach and unique presence across the development spectrum, which makes it an attractive potential partner, in our view. CROs that have ranked high in our previous surveys (Quintiles and PPD) are again among the top fi ve. However, ICON seems to have dropped a bit and was overtaken by Parexel.

To summarize, it appears that sponsors are somewhat more optimistic about the future than investors are, which should bode well for CROs, in our opinion. We believe the stronger-than-expected responses for R&D spending, pipeline growth, and small company spending in particular reinforce our views that the longer-term outlook for the CROs remains strong.

In addition, comments on sponsors’ favorite CROs appear to validate our opinions on the best ways to participate in the space. Specifi cally, we believe that in the short term the clini-cal business seems to have the most momentum, and within that space, Parexel seems to have the best fundamentals at the moment (represented by its leapfrogging of ICON among all respondents). For 2011, therefore, we continue to recommend Parexel as our favorite CRO. While ICON is still one of the top players in the space and a long-term survivor, in our opinion, it might have a more diffi cult 2011 as it ramps up investment spending on new capabilities, geographies, and technology.

Over the longer term, we believe strategic partnerships will be the major driver of stock performance and that the CROs with the broadest capabilities and geographic footprint are best positioned. Therefore, we were not surprised that Covance received the greatest number of total votes as top CRO, based on its strong presence across the development spectrum. We believe Covance represents the best longer-term play in the space, despite a higher-than-average valuation relative to its peers.

Over the following pages, we provide a more detailed analysis of the survey data and channel checks that led us to these conclusions. In addition, we provide an update on the pharmaceutical outsourcing environment over the past six months, the changing demand trends, and the implications of industry restructuring on future growth.


John Kreger 312.364.8597 - 6 -

CRO Industry Survey

The majority of CRO stock performance, in our opinion, is driven by macro factors that af-fect all industry participants. As a result, we spend the majority of our time tracking the four leading indicators (discussed in more detail below): R&D spending trends, biotechnology industry funding, the product pipeline, and changes in outsourcing—all of which drive in-dustry bookings trends. Yet the current turbulent environment may offer greater-than-normal opportunities for CROs to gain or lose market share, as large pharmaceutical companies urgently seek to reinvent their drug discovery and development models.

The key questions, in our view, are: 1) Will the pharmaceutical industry grow or cut R&D spend over the next fi ve years when billions of dollars in revenues are lost to generics? 2) Can outsourcing ramp up quickly enough to compensate for potentially lower R&D spend? 3) Will the rapid shift to strategic partnering ultimately be positive or negative for the CRO industry in terms of growth and profi tability? These questions led us to conduct our fi fth CRO industry survey. We walk through the results of the survey here.

Our seven survey questions are listed in table 1:

1.

2.

3.

4.

5.

6.

7.

Sources: Life Science Strategy Group, LLC and William Blair & Company, L.L.C.

What percentage of your total annual budget is currently outsourced (by phase of development), and how do you think it will change over the next 18 to 24 months?

Which CROs are best positioned to capture your outsourced developmental spend over the next two to three years (i.e., vendors to whom you are likely to award more business based on your own internal metrics of perceived value, such as quality, price, on-time delivery, etc.)? Please list your top three CROs in ranked order (No. 1 = best). Please explain why you ranked this company as your top CRO.

In addition, please rank your top CROs on the following performance criteria: expertise, price, turnaround time, breadth of services, quality, relationship, and global reach (5 = best/most favorable).

Table 1Survey Questions

How do you envision strategic partnerships will change the nature of your company’s outsourcing to CROs? (Answer options included: closer relationships with fewer CROs, pricing concessions [up to 20%], pricing concessions [20% or more], longer contracts [one to two years], longer contracts [three to five years), more risk-sharing deals, more asset transfers, and no change.)

How do you envision strategic partnerships will change the rate of your company’s outsourcing to CROs? (Answer options included accelerate significantly, accelerate somewhat, no change, slow down somewhat, slow down significantly.)

How have your total R&D budgets changed, and how are they expected to change in each of the following years versus the prior year (2010 versus 2009, 2011 versus 2010, 2012 versus 2011, and 2013 onward)? Why?

How do you expect your company’s drug pipeline to change over the next two to three years by phase of development? (Answer options included: increase significantly, increase, no change, decrease, decrease significantly, don’t know.)

How have your outsourcing strategies changed over the past one to two years in terms of percentage and dollars outsourced? Why?



Liping Cai +86 21 2327 2260 - 7 -

Our survey gathered data from 156 respondents, split roughly equally among large ($1 billion or more in annual R&D spend), midsize (between $50 million and $1 billion in annual R&D spend), and small (less than $50 million in annual R&D spend) biopharmaceutical compa-nies, the majority of which were from North America (fi gures 1, 2, and 3 provide more detail).

Summarizing the vendors that were most often singled out, Covance claimed the position as the most frequently mentioned favorite CRO vendor in this year’s survey, which is up from No. 4 in our prior survey. Charles River Laboratories claimed the No. 2 slot; ICON and PPD tied for this rank in the previous survey. Quintiles took the third slot, down slightly from No. 1 in our prior survey. We are somewhat surprised by the presence of so many early-stage CROs at the top of the list. We attribute this partly to a larger concentration of small biotech respondents with drugs in the early stages of development, as compared with respondents of our previous surveys. Most of the usual suspects remain in the top 10 of most-cited CROs.

Breaking down the data by respondent cohort, among those focused on preclinical research and development, Covance and Charles River were mentioned an equal number of times and were far ahead of the rest of the group. Among respondents focused solely on late-stage re-search and development, Quintiles received the most votes, followed by Covance, PPD, ICON, and Parexel. We were surprised by the number of votes Covance received in this category, which suggests it is gaining traction in clinical. Lastly, in the cohort of respondents that deal with both preclinical and clinical R&D, Covance received the most votes, followed by Charles River, Quintiles, and PPD. Consolidating all respondent groups, Covance received the most votes, followed by Charles River, Quintiles, MPI, and PPD. Tables 2 through 5, on pages 17 and 18, provide additional detail. In total, 115 different CROs were mentioned; however, 93 of these received only two total mentions or less. This illustrates the signifi cant fragmentation of this sector, and tells us there remains plenty of market share to win if a company can clearly differentiate itself on quality. As strategic partnerships gain traction, we expect this number of providers to be reduced.

Note: 156 total respondentsSources: Life Science Strategy Group, LLC and William Blair & Company, L.L.C.

Figure 1Survey Respondent Demographics - Type and Location

26.9%23.7% 23.7%

7.1%9.6% 9.0%

0%

5%

10%

15%

20%

25%

30%

Large Pharma Midsize Pharma Small Pharma

North America Rest of World (ROW)


John Kreger 312.364.8597 - 8 -


Figure 2Survey Respondent Demographics - Functional Area

20%

31%

49%

Clinical R&D ONLY Preclinical R&D ONLY Both


Figure 3Survey Respondent Demographics - Functional Role

27%

16%

20%

15%

10%1%

11%

Principal Scientist Project ManagementSenior Management (VP and above) Contracting/SourcingClinical Operations PurchasingOther



Liping Cai +86 21 2327 2260 - 9 -

Below we detail that the survey responses often broken down by sponsor size or area of focus within the development spectrum.

Question 1: How have your total R&D budgets changed, and how are they expected to change in each of the following years versus the prior year (2010 versus 2009, 2011 versus 2010, 2012 versus 2011, and 2013 onward)? Why?


Figure 4Total R&D Growth

5.5%

13.2%12.1%

13.0%

0%

2%

4%

6%

8%

10%

12%

14%

2010 2011 2012 2013

Aver

age

Annu

al G

row

th

Note: 156 total respondents (Large - 53; Midsize - 52; Small - 51)Sources: Life Science Strategy Group, LLC and William Blair & Company, L.L.C.

Figure 5Total R&D Growth by Size

7.7%

10.7%9.4%

10.5%

7.3%

13.6%

9.4%12.0%

1.4%

15.5%17.5%

16.7%

0%

4%

8%

12%

16%

20%

2010 2011 2012 2013

Aver

age

Annu

al G

row

th



John Kreger 312.364.8597 - 10 -


Total R&D Growth by Phase of DevelopmentFigure 6

5.5%

13.2%12.1%

13.0%

4.2%

9.9%

11.0%

13.2%

1.6%

11.8%

10.8%

12.6%

7.9%

15.8%

13.2% 13.1%

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

2010 2011 2012 2013

Total R&D Growth Preclinical Clinical Both

Comments and conclusionsAccording to the data we gathered, it appears as though survey respondents are expecting double-digit growth in their annual R&D budgets in each of the next two to three years on average. From a segment view, we noted that the expected budget growth during this period ranged from 9%-11% for large pharma to 16%-18% for small pharma. While these estimates paint an encouraging picture, we are approaching these growth expectations with a sense of skepticism. If we compare the growth rates expected in 2010 from the survey with those we have observed year-to-date from the sample of companies we track, we notice a fairly large divergence between expectations and reality. Specifi cally, large pharma respondents suggested that 2010 growth would be in the 8% range, while actual spending according to our numbers is roughly fl at. However, we note that our R&D spend data is dollar weighted, while our survey data equally weights each respondent’s estimates, as mentioned previously.

Thus, we look more at the change in expectations between 2010 and 2011 as a better proxy for growth in spending. All three respondent cohorts suggest an increase in spending next year, with large pharma expecting an acceleration of 3 percentage points, midsize vendors expecting 6 points of improvement, and smaller clients looking for 14 points of added growth. Our CRO model is expecting growth in the low single digits over the next couple of years. These results bolster our view that it is reasonable to expect in aggregate at least a small increase in R&D spend in 2011.

When asked about the factors leading to expected changes in R&D spend over time, re-spondents indicated that pipeline growth and maturation of pipeline, increases in funding and improved access to funding, and increased number of projects and programs were drivers of increased spend. As it relates to those expecting declines in R&D budgets, the main drivers included the economic downturn, pipeline diminution, savings from restricting outside partnerships and collaboration, and termination/completion of projects and programs.



Liping Cai +86 21 2327 2260 - 11 -

Question 2: How do you expect your company’s drug pipeline to change over the next two to three years by phase of development? (Answer options included: increase sig-nifi cantly, increase, no change, decrease, decrease signifi cantly, don’t know.)


Figure 7Expected Changes in Pipeline Over Next Two to Three Years

50.4%

68.5%74.5%

31.2%

19.9%16.1%15.6%

9.6%5.4%2.8% 2.1% 4.0%

0%

10%

20%

30%

40%

50%

60%

70%

80%

Discovery Preclinical Clinical

Perc

ent o

f Res

pond

ents

Increase and/or Increase SignificantlyNo changeDecrease and/or Decrease SignificantlyDon't know


Figure 8Expected Changes in Pipeline for Large Pharma Over Next Two to Three Years

44.9%

54.9%

69.8%

20.4%

29.4%

17.0%

30.6%

13.7%9.4%

4.1% 2.0% 3.8%

0%

10%

20%

30%

40%

50%

60%

70%

80%


Perc

ent o

f Res

pond

ents

Increase and/or Increase Significantly No change

Decrease and/or Decrease Significantly Don't know


John Kreger 312.364.8597 - 12 -


Expected Changes in Pipeline for Midsize Pharma Over Next Two to Three YearsFigure 9

50.0%

71.7%76.1%

43.2%

21.7%17.4%

4.5% 6.5%2.2%2.3% 0.0%

4.3%

0%

10%

20%

30%

40%

50%

60%

70%

80%


Perc

ent o

f Res

pond

ents

Increase and/or Increase Significantly No change

Decrease and/or Decrease Significantly Don't know


Expected Changes in Pipeline for Small Pharma Over Next Two to Three YearsFigure 10

56.3%

79.6% 78.0%

31.3%

8.2%14.0%10.4% 8.2%

4.0%2.1% 4.1% 4.0%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%


Perc

ent o

f Res

pond

ents

Increase and/or Increase SignificantlyNo changeDecrease and/or Decrease SignificantlyDon't know



Liping Cai +86 21 2327 2260 - 13 -

Comments and conclusionsBased on their responses, the majority of respondents in each of the customer segments expect drug pipelines to increase to some extent over the next two to three years in each of the developmental phases, with a particular focus on later-stage/clinical investment. The same general trend is expected in each of the customer segments; however, we noted that roughly 31% of large pharma respondents expect decreases in their discovery pipelines over the next two to three years.

Given the impending wave of branded products that are expected to lose patent protection over the next few years, we are not at all surprised that the pipeline appears to be focused on later-stage clinical products, particularly at large pharma companies. Accordingly, the pipeline expectations for discovery compounds at large pharma seems to be a bit lower than other segments. Because drug discovery is critical to the long-term success of the industry, we would expect the pipeline for these products to reaccelerate at some point over the next few years. Pharmaprojects also seems to support this theory, as (see fi gure 27, on page 28) the number of compounds in the pipeline seems to have improved, particularly in Phases II and III, over the past two years (up 17.1% and 14.4%, respectively). While preclinical and Phase I compounds have also grown (both up 13.6% since January 2009), they have done so at a slower rate.

Question 3: How have your outsourcing strategies changed over the past one to two years in terms of percentage and dollar outsourced? Why?


Figure 11Changes in Percentage of R&D Budget Outsourced

Over Past Two Years - Large Pharma

14.9%

61.7%

17.0%

2.1% 4.3%0%

10%20%30%40%50%60%70%

Increase Significantly

Increase Somewhat

No Change Decrease Somewhat

Decrease Significantly

Perc

ent o

f Res

pons

es



Over Past Two Years - Midsize Pharma

31.3%

20.8%

31.3%

10.4%6.3%

0%5%

10%15%20%25%30%35%40%


Increase Somewhat



Perc

ent o

f Res

pons

es


John Kreger 312.364.8597 - 14 -



Over Past Two Years - Small Pharma

34.7%

16.3%

36.7%

6.1% 6.1%

0%5%

10%15%20%25%30%35%40%


Increase Somewhat



Perc

ent o

f Res

pons

es

Comments and conclusionsWe were not surprised to fi nd that roughly 60% of survey respondents indicated that over the past one to two years, the percentage of their R&D budget outsourced has increased at some level. Of the 60% that reported an increase, nearly 33% indicated that the percent-age of the R&D budget outsourced has increased 1%-20%, and approximately 27% noted that the percentage outsourced increased 21% or more. The growth was primarily driven by large pharma respondents, where 77% of respondents saw an increase, compared with roughly 50% of midsize and small pharma.

Conversely, 12% of the respondents cited decreases in the percentage outsourced. Of these responses, only 6% of large pharma survey respondents indicated decreases in the percentage of developmental spending outsourced.

As compared with our model, our current CRO projections assume roughly a 10-percentage-point increase in penetration from 2010 through 2015.



Liping Cai +86 21 2327 2260 - 15 -

Question 4: What percentage of your total annual budget is currently outsourced (by phase of development), and how do you think it will change over the next 18 to 24 months?


Figure 14Percentage of Total Annual Budget Outsourced by Phase

38.1%

43.2%45.3% 44.6% 45.8%

37.6%

44.3% 45.0% 46.1% 45.1%

0%

10%

20%

30%

40%

50%

Preclinical Phase I Phase II Phase III Phase IV

Aver

age

Perc

ent O

utso

urce

d

Today Next 18-24 Months


Figure 15Percentage of Total Annual Budget Outsourced by Phase - Large Pharma

27.7%30.5%

32.2%

37.6%

44.5%

30% 31%33%

39%43%

0%

10%

20%

30%

40%

50%


Aver

age

Perc

ent O

utso

urce

d



John Kreger 312.364.8597 - 16 -


Figure 16Percentage of Total Annual Budget Outsourced by Phase - Midsize Pharma

31.4%

43.5%46.3%

49.2% 49.7%

30.8%

46.3% 47.6%50.0% 52.8%

0%

10%

20%

30%

40%

50%

60%


Aver

age

Perc

ent O

utso

urce

d



Percentage of Total Annual Budget Outsourced by Phase - Small PharmaFigure 17

52.5%56.9%

61.6%

51.4%

40.0%

49.3%

55.6% 56.2%

51.3%

34.7%

0%

10%

20%

30%

40%

50%

60%

70%


Aver

age

Perc

ent O

utso

urce

d


Comments and conclusionsBased on the survey results, overall outsourcing penetration rates are expected to remain relatively consistent or to slightly increase over the next 12 months in Phases I and III, while slight decreases are expected in preclinical, as well as Phases II and IV. The segment analyses above indicate that large and midsize pharma are expecting modest increases in most categories. We were surprised that small pharma sponsors are expecting to decrease the percentage of R&D outsourced over the next 12 months in each of the phases of de-velopment by an average of 3 points—perhaps illustrating the historical desire of smaller sponsors to add internal infrastructure as they increase in size.



Liping Cai +86 21 2327 2260 - 17 -

Question 5: Which CROs are best positioned to capture your outsourced developmental spend over the next two to three years (i.e., vendors to whom you are likely to award more business based on your own internal metrics of perceived value such as quality, price, on-time delivery, etc.)? Please list your top three CROs in ranked order (No. 1 = best). Please explain why you ranked this company as your top CRO.

In addition, please rank your top CROs on the following performance criteria (expertise, price, turnaround time, breadth of services, quality, relationship, and global reach). (Note: 5 = best/most favorable.)

Number of respondents assigning rank:

First Place

Second Place

Third Place

Total Mentions

Rank in Previous Survey

Covance 35 24 15 74 4Charles River 18 22 13 53 NAQuintiles 11 9 12 32 1MPI Research 5 6 10 21 NAPPDI 8 9 4 21 3Parexel 4 7 4 15 5ICON 2 2 7 11 2WuXi 4 3 2 9 NAHuntington Life Sciences 2 2 5 9 NAINC Research 1 1 3 5 13WIL 1 1 3 5 NAKendle 1 1 2 4 9PRA 1 1 2 4 8I3 Research 0 2 2 4 14Aptuit 1 1 1 3 NABioreliance 2 0 1 3 NABiotrial France 1 0 2 3 NACalvert 1 1 1 3 NAHarlan 2 0 1 3 NAMedspace 1 1 1 3 11Tandem Labs 2 1 0 3 NAPharmaron 0 0 3 3 NANote: 130 total respondentsSources: Life Science Strategy Group, LLC and William Blair & Company, L.L.C.

Table 2Preferred CRO Ranking

List order based on total mentions


Table 3Preferred CRO - Respondents Focused on Preclinical Work Only

List Order Based on Total MentionsTotal Mentions

Covance 22Charles River 22MPI Research 9

Huntingdon 6Wuxi 5PPDI 4

WIL Research 3Calvert 3Harlan 2

Bioreliance 2Pharmaron 2


John Kreger 312.364.8597 - 18 -


Table 4Preferred CRO - Respondents Focused on Clinical Work Only

List Order Based on Total MentionsTotal Mentions

Quintiles 13Covance 11

PPD 6ICON 6

Parexel 5Medpace 3

i3 3INC 3PRA 3

Kendle 2Biotrial 2


Preferred CRO - Respondents Focused on Both Preclinical and Clinical Work

List Order Based on Total Mentions

Table 5

Total MentionsCovance 41

Charles River 30Quintiles 18

PPDI 11MPI 11

Parexel 10ICON 5Wuxi 4

Huntington 3Aptuit 3

Tandem Labs 3



Liping Cai +86 21 2327 2260 - 19 -

Note: 85 total respondents (Charles River - 8; Covance - 33; ICON - 2; MPI Research - 5; Parexel - 4; PPDI - 8; Quintiles - 11; WuXi - 4)Sources: Life Science Strategy Group, LLC and William Blair & Company, L.L.C.

Figure 18Top CRO Performance for Select Criteria – All Respondents

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Charles River Covance ICON MPI Research Parexel PPDI Quintiles WuXiExpertise Price Turnaround time Breadth of Services Quality Relationship Global Reach

Comments and conclusionsAs illustrated in tables 2-5, Covance was mentioned most frequently as a preferred CRO, followed by Charles River Laboratories and Quintiles. In the past six surveys we have conducted, Quintiles has consistently been one of the top three most frequently mentioned CROs. According to the results of the survey, 115 different CROs were mentioned in total; however, only 22 of these received more than two total mentions. This illustrates the signifi -cant fragmentation of this sector and that the opportunity remains to win plenty of market share if a company can differentiate itself. When asked to provide the rationale for CRO rank selection, Covance, Charles River Laboratories, and Quintiles were singled out primarily for high-quality service and strong experience/expertise.

Further, as illustrated in fi gure 18, respondents were asked to score (on a scale of 1-5) their No. 1-ranked CRO in select criteria, including expertise, price, turnaround time, breadth of service, quality, relationship, and global reach. Outside of price, most respondents scored their No. 1 CRO quite favorable in each of the aforementioned categories.

We were more surprised by the following:

• A large number of early-development-focused companies ranked in the top 10 in terms of total mentions. Five of the top 10 responses are for companies that focus on pre-clinical toxicology or discovery services, many ranking ahead of the clinically focused global CROs like Parexel and ICON. We believe this is possibly due to the fact that there are more small companies participating in this survey than previous surveys we have conducted. Nonetheless, this also suggests that sponsors are focused on quality at the early stages of development to weed out weak candidates early in the development process. When we break respondents into early- versus late-stage focus, the top CRO list changes to the following: Covance and Charles River are still the top two players in early stage, followed by MPI, Huntingdon Life Sciences, and WuXi. On the late-stage


John Kreger 312.364.8597 - 20 -

side, Quintiles, Covance, PPD, ICON, and Parexel were the top fi ve responses. Tables 2-5 list the top CROs when we break the respondents down into preclinical, clinical, or both.

• Covance was far and away the most popular response, which we believe is due to its strong presence across all sectors of the development spectrum. This is echoed in Covance’s success in signing strategic deals with large companies like Eli Lilly and Sanofi -Aventis, and suggests that additional strategic deals are likely.

• ICON fell from a strong second in our previous survey to seventh in our current survey when considering all responses, and fourth when considering only the clinical cohort. We are somewhat surprised by this given the strong performance in previous surveys and reputation for quality. The modest drop could be attributable in part to the warning letter the company received in 2009 (along with Johnson & Johnson), or perhaps to growing pains following rapid expansion in 2006 through 2008. Longer term, we continue to view ICON as a top-quality player in the space and fully expect it to remain a major competitor for strategic business, based on its global footprint and therapeutic breadth. However, in the short term, we expect the company’s earnings growth may lag its peers as it ramps investment spending on new capabilities, geographies, and technology.

• China appears to be a more signifi cant part of the outsourcing process, with WuXi cracking the top 10 (9 total responses) and Pharmaron (3 total responses) making the list of favorite CROs for the fi rst time.

Question 6: How do you envision strategic partnerships will change the nature of your company’s outsourcing to CROs? (Answer options included: closer relation-ships with fewer CROs, pricing concessions [up to 20%], pricing concessions [20% or more], longer contracts [one to two years], longer contracts [three to fi ve years], more risk-sharing deals, more asset transfers, and no change.)


Figure 19Impact of Strategic Partnerships on Outsourcing to CROs

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No change

Pricing concessions (up to 20%)

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Pricing concessions (20% or more)

More risk sharing deals

Longer contracts (1-2 years)

More asset transfers



Liping Cai +86 21 2327 2260 - 21 -


Figure 20Impact of Strategic Partnerships on Outsourcing to CROs by Size

60.0%

50.0%47.6%

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Closer relationships with fewer CROs No change Pricing concessions (up to 20%)

Longer contracts (3-5 years) Pricing concessions (20% or more) More risk sharing deals

Longer contracts (1-2 years) More asset transfers

Comments and conclusionsAccording to the results of the survey, more than half of all respondents indicated that strategic partnerships will likely promote closer relationships with fewer CROs (see fi gure 19). Pricing concessions, longer contract terms, and more risk-sharing deals were also mentioned as factors affecting the decision to outsource to CROs. As fi gure 20 illustrates, response trends were generally consistent across each of the different segments (large, midsize, and small pharma).


John Kreger 312.364.8597 - 22 -

Question 7: How do you envision strategic partnerships will change the rate of your company’s outsourcing to CROs? (Answer options included: accelerate signifi cantly, accelerate somewhat, no change, slowdown somewhat, slowdown signifi cantly.)


Figure 21Impact of Strategic Partnerships on Rate of Outsourcing to CROs

11.1% 8.7% 7.1% 9.0%

57.8%

41.3%38.1%

45.9%

28.9%

47.8% 50.0%

42.1%

2.2% 2.2% 4.8% 3.0%

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Large Pharma Midsize Pharma Small Pharma All

Perc

ent o

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pons

es

Accelerate significantly Accelerate somewhat No Change

Slowdown somewhat Slowdown significantly

Comments and conclusionsWe are encouraged that roughly 55% of all respondents expect strategic partnerships will accelerate the rate of outsourcing to some extent, and of that 9% expect the rate to acceler-ate signifi cantly. Further, only 3% of respondents expect strategic partnerships to slow down the rate of outsourcing. When we look at the survey results from a segment view, 69% of large pharma respondents expect strategic partnerships to increase the rate of outsourcing to CROs at some level.



Liping Cai +86 21 2327 2260 - 23 -

State of the Global Pharmaceutical Outsourcing Industry

Shifting gears away from the survey, CRO stocks have appreciated roughly 50% in the last six years, despite a 50% drop in 2008 (see fi gure 22). CROs have performed well since 2004, as pharmaceutical and biotechnology companies have increasingly used outsourcing providers to run their preclinical programs and clinical trials more effi ciently. Since 2005, the top CROs’ revenues have grown 91% (at a 12% compound annual rate).

CRO index consists of Charles River, Covance, ICON, Kendle, Parexel, PPD, and PRA Source: Thomson Financial

Figure 22CRO Historical Stock PerformanceDecember 2004 – January 11, 2011

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12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 12/31/2009 12/31/2010

CRO Index S&P 500 BTK DRG

BTK up 137%

CROs up 51%

S&P up 5%

DRG down 3%

CRO companies included: Covance, ICON, Inveresk (when available), Kendle, Parexel, PPD Sources: Company reports

CRO Group Net New BusinessFigure 23

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John Kreger 312.364.8597 - 24 -

Beginning in 2008, when pharmaceutical and biotechnology sponsors dramatically reined in spending on research and development (see fi gure 25), CROs’ net new business awards slowed and led to decelerating revenue growth trends. Demand for CRO services declined in late 2008 and 2009 (reaching a low of $1.4 billion in net contract awards (on an adjusted basis) and a net book-to-bill ratio of 1.00 times in third quarter 2009) because of a number of factors, including the global economic crisis, large pharma mergers (Pfi zer/Wyeth and Merck/Schering-Plough), pharma’s efforts to restructure and reprioritize pipelines, and the uncertainty surrounding healthcare reform efforts.

Interestingly, despite signifi cant improvement in bookings over the past year, CRO revenue growth has not yet improved meaningfully. We believe this is because of the emergence of the strategic partnership outsourcing model, where awards are taking place earlier in the clinical trial design process. Couple this with a heightened budget sensitivity on the part of the sponsor (R&D expenses are incurred by the sponsor when a trial begins, rather than when a contract is awarded), and the result is a slower pace of awards converting into revenues. Will the spike in awards over the past year eventually translate into a boost in revenue growth? We believe the answer is yes, given that cancellation rates appear to have normalized, and a new budget year for sponsors is beginning. We therefore expect revenue growth to steadily improve as we progress through 2011.

CRO companies included: Covance, ICON, Inveresk, Kendle, Parexel, PharmaNet, PPD, PRA, Quintiles Sources: Company reports

Figure 24Pharmaceutical Outsourcing Group Book-to-Bill Ratio Versus Revenue Growth

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Table 6 details recent commentary from various pharmaceutical company executives (mostly obtained from recent earnings conference calls). Specifi cally, the goal of sponsors appears to be to push a similar number of compounds through the pipeline, but using leaner R&D budgets. We believe this trend toward tighter R&D budgets will become the new reality in pharma until the growing number of products in the late-stage pipeline are approved and begin contributing to earnings. We believe the impact of this lower spending pattern is nega-tive for CROs in the short term (delays, cancelations, fewer drugs moving into development), but quite positive in the long term, since it should accelerate the conversion to outsourcing as part of a broader effort from sponsors to become more effi cient and convert R&D spend increasingly to a variable expense. In summary, commentary was somewhat mixed in 2010, with large companies recently involved in mergers suggesting cuts, but many also suggest-ing spending will increase in 2011. We suspect the net result will be a modest increase in total R&D spending in the low- to midsingle-digit range.



Liping Cai +86 21 2327 2260 - 25 -

CompanyR&D Spending

Outlook Commentary for 2010

AstraZeneca Neutral Expect R&D savings/restructuring will partly mitigate the increase in investment for late-stage R&D projects. For 2011 and beyond, expect R&D dynamics to continue

Bristol-Myers Positive Expected to be up in the mid- to high-single-digit range

Eli Lilly Positive Expected to grow in the low double digits

GlaxoSmithKline Neutral to Negative In 2010, R&D as percentage of sales is expected to be 14% (in line with the 2009 ratio); expect GBP 250 million in R&D savings by 2012

Johnson & Johnson Positive Expect low single digits; for the year-to-date period ended third quarter 2010, R&D spending as a percentage of sales up 2% from the prior year

Merck Neutral Expect R&D expense to be roughly $8.2 billion to $8.6 billion for full year 2010. Consistent with slight increase from 2009

Novartis PositiveExpected R&D as a percentage of sales to stay fairly constant at 20% level; pharma sales expected to increase mid- to high single digits in local currencies. Expect to continue to invest heavily in R&D

Pfizer Negative2010 R&D guidance is for spending between $9.1 billion and $9.5 billion, which is down from roughly $11 billion spent by the two companies combined in 2008; by 2012, total R&D expense is expected to be between $8.0 billion and $8.5 billion

Roche Negative Expect slight decline in 2010

Sanofi-Aventis Negative

Cost-reduction program implemented in 2009 should begin to take hold in 2010; overall, the company aims to save at least EUR 600 million in 2010. Through third quarter 2010, there was a reduction of R&D costs by roughly 4.5% in constant currencies. This decrease was mainly attributable to a decrease in internal R&D costs and increased spending on R&D partnerships

Abbott Laboratories Positive In 2010, expected R&D as a percentage of sales to increase to 9.5%-10%, from roughly 9% in 2009

Takeda Pharmaceutical Neutral For fiscal 2010, expected R&D up slightly from 2009. For fiscal 2011 and 2012, expecting R&D to

be in line with fiscal 2010

Amgen Neutral In 2010, R&D as percentage of sales is expected to consistent with 2009 levels

Bayer Schering Positive 2010 R&D guidance is for spending of approximately EUR 3.1 billion, a 13% increase from 2009 spending of EUR 2.7 billion

Astellas Positive In 2010, R&D as percentage of sales is expected to approximate 21.9% (or roughly JPY 206 billion of spending), compared with 20.1% of sales in 2009

Daiichi-Sankyo Positive In 2010, forecast R&D spending is expected to approximate JPY 210 billion, a 7% increase from 2009 spending of JPY 196.8 billion

Eisai NegativeIn 2010, forecast R&D spending is expected to approximate JPY 150 billion, a 16% decrease from 2009 spending of JPY 179.1 billion; spending as a percentage of sales is expected to approximate 18.9%, down from 22.3% in 2009

Gilead Neutral Fiscal 2010 R&D guidance is $830 million to $840 million, which is down in total and as a percentage of sales from $914 million in fiscal 2009. Expect to increase spending in fiscal 2011

Table 6Pharmaceutical R&D Spending Outlook

Sources: Company reports


John Kreger 312.364.8597 - 26 -

As shown in fi gure 25, pharma’s R&D spending peaked in early 2007 and then rapidly slowed over the next two years. Yet we are somewhat encouraged that R&D spending trends ap-pear to have stabilized in 2010. We expect moderate growth in the coming years as cuts from the combined Pfi zer/Wyeth, Merck/Schering, and Roche/Genentech entities are offset by growth from other industry players. As shown in table 6, most companies suggest that R&D spending growth should be positive, which we believe will largely offset the declines expected at companies recently involved in mergers. Specifi cally, of the 18 companies we analyzed eight had positive commentary for R&D in 2010, fi ve were neutral, and fi ve were negative. In addition, R&D growth estimates for the top 10 pharma companies, according to Thomson, suggest modest growth (0%-1% including PFE and MRK and 1%-2% excluding them). As a result, we currently expect R&D spending growth to be in the low-to-midsingle-digit range over the next few years, which is lower than the historical trend, but higher than 2009 and 2010. Longer term, we expect that the maturation of the strategic partnership model will ultimately result in more effi cient R&D spending, with a larger portion of those dollars funneled to CROs as opposed to work done in-house. For fourth quarter 2010, however, we perceive that spending trends will remain somewhat muted, translating into bookings comparable to the third quarter, but sluggish conversion of such bookings into revenue.

BioMarin, Celgene, Cephalon, Genentech, Genzyme, Gilead, Isis, Bristol-Myers, Eli Lilly, Novartis, Sanofi-Aventis, The Medicines Company, and VertexSources: Company reports and William Blair & Company, L.L.C. estimates

Figure 25Biopharmaceutical R&D Spending Trends

Sample of companies includes: Pfizer, Johnson & Johnson, GlaxoSmithKline, AstraZeneca, Merck, Roche, Amgen, Amylin, Biogen,

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Historical Trend: 8.5%

Pharma consolidation and earnings management Recession and

more pharma consolidation

In addition to feeling better about pharmaceutical spending trends with CROs—particularly as we consider the potential impact of strategic partnerships—we are also becoming somewhat more enthusiastic about the funding environment for small biotechnology companies. After three consecutive quarters of decline in 2010, funding in the fourth quarter was up meaning-fully on a sequential basis. As fi gure 26 indicates, fourth quarter 2010 biotechnology funding was down 26% from last year, but was up 51% compared to the third quarter. As a result, we would expect business fl ow from this client group to begin to improve in the near term.



Liping Cai +86 21 2327 2260 - 27 -

In aggregate, we now assume R&D spending growth in our CRO model of 2% in 2011 and 1% in 2012, trending to 4% in 2013 and beyond. This, coupled with an increase in outsourc-ing penetration of 3 percentage points from 2010 to 2011, leads to overall CRO industry growth estimated at 9% in 2011.

Source: BioCentury

Figure 26Biotech Funding

Source: BioCentury

Figure 26Biotech Funding

With respect to relative performance across the CRO group, companies with large toxicology components (such as Charles River and Covance) saw the greatest deterioration in demand, pricing trends, and margins since mid-2008, given larger pipeline cuts in early stage and the fi xed-cost nature of the business. While the number of compounds in early-stage develop-ment appears to be increasing, there has not been a notable improvement in the demand environment for toxicology. In fact, commentary suggests demand may have actually gotten worse in the second half of 2010. As expected, R&D dollars have been refocused on getting late-stage compounds into the commercialization phase, which has resulted in a signifi cant increase in the number of compounds in Phase III testing. Figure 27, on the following page, shows the estimated change in the number of drugs in each stage of development over the past few years, with preclinical seeing the largest volatility across the four phases and Phase III seeing the most signifi cant increases.

While there continue to be positive long-term signals for CRO industry growth, we remain somewhat cautious on CRO stocks—especially on the early-stage side—over the next one to two quarters, given the continued market softness. We believe that eventually the preclinical market will improve (as excess supply is either decommissioned or absorbed by increases in biotech demand), but do not expect this to happen until late 2011 or early 2012. When the improvement does happen, it could be quite vigorous and we would expect earnings growth to snap back quickly. On the clinical side, we expect the slow translation of bookings into revenue to speed up as we get into the fi rst quarter of 2011 (as budget sensitivity going into year-end lets up and strategic business begins to fl ow), resulting in better revenue and earnings growth as the year goes on.

We are as confi dent as ever in the long-term opportunity for outsourcing companies to play a larger role in the drug discovery and development processes. As cost-cutting efforts at biopharma companies continue and strategic partnerships mature, we expect outsourcing penetration to increase signifi cantly over the next fi ve years. We believe the winners in this long-term scenario will be companies with a clear strategy that can foster close partnerships with sponsors, based on breadth of services as well as a broad global footprint. The los-ers will likely be those with less fl exible solutions, limited scale, and/or inconsistent quality.

William

Blair &

Com

pany, L.L.C

.

John Kreger 312.364.8597

- 28 -

Source: PharmaProjects

Figure 27Estimated Number of Drug Candidates in Each Stage of Development (Preclinical Through Phase III)

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Liping Cai +86 21 2327 2260 - 29 -

Summary Conclusions From Quality Survey and Leading Indicators

After considerable uncertainty in 2008 and 2009, our survey data and channel checks sug-gest that the CRO group appears to be on the road to recovery (particularly the late-stage players). We believe strong new business trends and innovative R&D strategies under stra-tegic partnerships suggest a reacceleration in income metrics may not be far off. However, we believe investors remain somewhat cautious on the group for three reasons: 1) revenue growth has not corresponded of late to bookings growth; 2) concern that margins may suffer from the new partnership structure; and 3) uncertainty over the direction of R&D spending as we head into the heavy generic conversion years.

From our perspective, the fi rst and second issues will begin to show improvement as 2011 progresses and revenues begin to catch up with expenses. To be clear, we do not expect much improvement in fourth-quarter earnings, but perhaps in the fi rst or second quarter, given that bookings for clinical CROs improved a year ago. We concur that R&D spending growth (or decline) is tougher to call, based on the many crosscurrents in the industry. Our channel checks are inconsistent on this key point, but the survey provides us with greater confi dence to conclude that at least modest R&D spending growth is likely in 2011.

We continue to prefer the clinical players to preclinical for the moment as the toxicology market has not shown any signs of improvement as yet.

Parexel is our favorite stock idea in the CRO space for the coming year, as the company continues to perform well, appears to have gained the most share in 2009 and 2010, and is favorably positioned as a leading player in late-stage development thanks to its solid position in Asia and a unique bet on technology. However, the stock has struggled recently, given concerns about the quality of the backlog and the translation of that backlog into revenue. We believe these concerns are overblown and expect revenues to begin to accelerate over the coming quarters. This should allow for multiple expansion from the current level of 14.7 times to reach the group average of 17.0 times. We rate Parexel Outperform and reiter-ate our enthusiasm at current multiples, as we view it as having one of the highest-growth outlooks among CROs over the next two to three years.

We also continue to recommend purchase of Covance, and rate the stock as Outperform, based on a favorable position in both early- and late-stage development, strong earnings growth outlook in 2011 even without an improvement in early development, success with strategic partnerships, and the surprising number of responses as best CRO in our survey. We believe the large strategic deals with Eli Lilly and Sanofi are going better than expected, should attract additional customers, and drive earnings growth for years to come. The company remains one of the best operators in the business, and even with the modest premium earnings multiple relative to the group (17.4 times versus 17.0 times), we suggest that investors with a long-term horizon add to positions at these levels.

We are also bullish on ShangPharma given the strong trend toward outsourcing in China. We believe that over the next decade growth in outsourcing in China will be roughly double that in the rest of the world (roughly 20% growth) and as a leading player in the discovery services market, ShangPharma should benefi t from that trend. In addition, the company has invested in the expansion of its service offering beyond core chemistry and should see both a revenue benefi t and margin benefi t in the near-term as the fruits of those investments are harvested. Lastly, the company is trading at a signifi cant discount to its direct peer, WuXi PharmaTech. We believe that as this relatively young company and management prove themselves in the fi rst few quarters after coming public, the valuation disparity should narrow.

We remain somewhat cautious on Charles River, ICON, and PPD heading into 2011. Charles River will likely struggle to show any improvement until the toxicology market turns around, given that it is 100% tied to the early-stage market. In addition, recent pressure on manage-ment to enhance shareholder returns may prove to be a distraction.


John Kreger 312.364.8597 - 30 -

ICON and PPD are somewhat more diffi cult to call. We believe the consensus estimates on ICON could have farther to fall, as the company works hard to become even more com-petitive in certain areas such as Asia, central lab, and technology, but most of the drop has already been seen to this point. Consensus expectations now refl ect growth of only 3% in 2011, well below the peer group. Until the central lab becomes profi table (perhaps near the end of 2011) and investments begin to slow, we believe ICON’s earnings growth may lag its peers. Still, it has a strong management team, has secured several strategic partners, and is focused in late stage, which should allow for improved performance over the longer term.

Similarly, PPD has made signifi cant improvement in recent quarters in regaining new busi-ness momentum, which should translate into improved revenue growth in 2011. However, the company could have a diffi cult balancing act trying to bring margins back up to historical levels while not harming the areas of signifi cant investment of the last two years, such as a deeper management team and Asia. Longer term, we believe the group still represents a solid opportunity for investors willing to undergo some short-term uncertainty, as outsourc-ing penetration rates could roughly double from the current level to more than 60% over the next fi ve to seven years.

Table 7 shows our global pharmaceutical outsourcing market model. Table 8, on page 32, shows our CRO industry valuation summary.

Additional information is available upon request.

This report is available in electronic form to registered users via R*Docs™ at www.rdocs.com or www.williamblair.com.

Please contact us at (800) 621-0687 or consult http://www.williamblair.com/pages/eqresearch_coverage.asp for all disclosures.

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CRO MARKET MODEL 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015Total R&D Spend $56.4 $62.2 $67.7 $75.8 $83.6 $90.4 $100.1 $111.8 $116.3 $113.9 $113.9 $116.2 $117.4 $122.1 $127.0 $132.0 % Growth (y-o-y) 7.9% 10.2% 8.9% 12.0% 10.3% 8.1% 10.7% 11.7% 4.0% -2.0% 0.0% 2.0% 1.0% 4.0% 4.0% 4.0%

Total Research Spend $18.0 $19.9 $21.7 $24.3 $26.8 $28.9 $32.0 $35.8 $37.2 $36.5 $36.5 $37.2 $37.6 $39.1 $40.6 $42.3 % Growth (y-o-y) 7.9% 10.2% 8.9% 12.0% 10.3% 8.1% 10.7% 11.7% 4.0% -2.0% 0.0% 2.0% 1.0% 4.0% 4.0% 4.0% % of R&D 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0% 32.0%

Total Development Spend $38.3 $42.3 $46.0 $51.6 $56.9 $61.5 $68.0 $76.0 $79.1 $77.5 $77.5 $79.0 $79.8 $83.0 $86.3 $89.8 % Growth (y-o-y) 7.9% 10.2% 8.9% 12.0% 10.3% 8.1% 10.7% 11.7% 4.0% -2.0% 0.0% 2.0% 1.0% 4.0% 4.0% 4.0% % of R&D 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0% 68.0%

Total Preclinical Development $7.2 $8.0 $9.4 $10.7 $11.8 $12.9 $13.6 $14.5 $14.8 $11.1 $10.2 $10.5 $10.6 $11.1 $11.6 $12.1 % Growth (y-o-y) 7.5% 11.0% 17.4% 13.3% 10.6% 9.6% 5.0% 7.0% 2.0% -25.0% -8.0% 2.5% 1.5% 4.5% 4.5% 4.5% % of Development 18.8% 19.0% 20.4% 20.7% 20.8% 21.0% 20.0% 19.1% 18.7% 14.3% 13.2% 13.3% 13.3% 13.4% 13.5% 13.5%

Internal Preclinical Development $5.7 $6.3 $7.3 $8.3 $9.1 $9.9 $10.2 $10.7 $10.8 $8.1 $7.4 $7.4 $7.3 $7.5 $7.6 $7.6 % Growth (y-o-y) 7.2% 10.7% 17.1% 13.0% 10.0% 8.9% 3.2% 5.0% 0.6% -25.3% -8.8% 0.4% -0.7% 2.2% 1.4% 0.5%

Outsourced Preclinical Development $1.6 $1.8 $2.1 $2.4 $2.7 $3.0 $3.4 $3.8 $4.0 $3.0 $2.9 $3.1 $3.3 $3.6 $4.0 $4.5 % Growth (y-o-y) 8.5% 12.0% 18.5% 14.3% 12.9% 12.0% 11.1% 13.1% 5.9% -24.2% -6.0% 8.0% 6.7% 9.6% 10.9% 12.1% % Outsourced to CROs 21.8% 22.0% 22.2% 22.4% 22.9% 23.4% 24.7% 26.1% 27.1% 27.4% 28.0% 29.5% 31.0% 32.5% 34.5% 37.0%

Total Clinical Development $31.1 $34.2 $36.6 $40.9 $45.1 $48.5 $54.5 $61.5 $64.2 $66.4 $67.2 $68.5 $69.2 $71.9 $74.7 $77.6 % Growth (y-o-y) 8.0% 10.1% 6.9% 11.7% 10.2% 7.7% 12.2% 12.9% 4.5% 3.3% 1.3% 1.9% 0.9% 3.9% 3.9% 3.9% % of Development 81.2% 81.0% 79.6% 79.3% 79.2% 79.0% 80.0% 80.9% 81.3% 85.7% 86.8% 86.7% 86.7% 86.6% 86.5% 86.5%

Internal Clinical Development $22.3 $24.5 $25.8 $28.9 $31.7 $33.7 $37.9 $42.9 $43.3 $44.9 $45.2 $44.5 $43.2 $43.3 $43.0 $42.1 % Growth (y-o-y) 9.0% 9.9% 5.2% 12.1% 9.8% 6.1% 12.6% 13.1% 1.0% 3.7% 0.5% -1.5% -2.9% 0.3% -0.8% -2.0%

External Clinical Development $8.8 $9.7 $10.8 $12.0 $13.4 $14.9 $16.5 $18.6 $20.9 $21.4 $22.1 $24.1 $26.0 $28.6 $31.7 $35.5 % Growth (y-o-y) 5.3% 10.6% 11.3% 10.8% 11.2% 11.2% 11.3% 12.4% 12.5% 2.5% 3.0% 9.0% 8.0% 10.0% 11.0% 12.0% % of Total Clinical Development 28% 28% 30% 29% 30% 31% 30% 30% 33% 32% 33% 35% 38% 40% 42% 46%

Payments to Investigators, sites, AMCs $4.5 $4.9 $5.3 $5.7 $6.1 $6.6 $7.2 $7.8 $8.5 $8.7 $9.0 $9.8 $10.6 $11.6 $12.9 $14.4 % Growth (y-o-y) 7.8% 8.0% 8.0% 8.0% 8.0% 8.0% 8.0% 9.0% 9.0% 2.5% 3.0% 9.0% 8.0% 10.0% 11.0% 12.0% % of External Clinical Development 51.2% 50.0% 48.5% 47.3% 45.9% 44.6% 43.3% 41.9% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6% 40.6%

Outsourced Clinical Development (to CROs) $4.3 $4.9 $5.6 $6.3 $7.2 $8.2 $9.4 $10.8 $12.4 $12.7 $13.1 $14.3 $15.4 $17.0 $18.8 $21.1 % Growth (y-o-y) 2.8% 13.4% 14.5% 13.5% 14.0% 14.0% 14.0% 15.0% 15.0% 2.5% 3.0% 9.0% 8.0% 10.0% 11.0% 12.0% % of Total Clinical Development 13.8% 14.2% 15.2% 15.5% 16.0% 17.0% 17.2% 17.6% 19.3% 19.2% 19.5% 20.8% 22.3% 23.6% 25.2% 27.2%

Total Outsourced Development (to CROs) $5.9 $6.6 $7.7 $8.7 $9.9 $11.3 $12.7 $14.6 $16.4 $15.8 $16.0 $17.4 $18.7 $20.6 $22.8 $25.6 % Growth (y-o-y) 4% 13% 16% 14% 14% 13% 13% 14% 13% -4% 1% 9% 8% 10% 11% 12% % of Total Development 17% 18% 19% 19% 20% 21% 21% 21% 23% 23% 23% 25% 27% 29% 31% 34%

Total Payments to CROs and Investigators $10.4 $11.5 $12.9 $14.4 $16.1 $17.9 $19.9 $22.4 $24.9 $24.5 $24.9 $27.2 $29.3 $32.2 $35.7 $40.0 % Growth (y-o-y) 6% 11% 12% 11% 11% 11% 11% 13% 11% -2% 2% 9% 8% 10% 11% 12% % of Total Development 27% 27% 28% 28% 28% 29% 29% 29% 32% 32% 32% 34% 37% 39% 41% 45%

Source: Company reports, EFPIA, JPMA, PhRMA, Pharmaprojects, and William Blair & Company, L.L.C. estimates

Table 7Global Pharmaceutical Outsourcing Market Model

($ in millions)

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Table 8

Summary of Valuation StatisticsCRO Industry

Curr. Mkt. 3 Yr Est 2011 DVDRating / 1/10/2011 % Chg Diluted Mkt Ann. Cap/ EV/EBITDA Growth P/E to yield EBIT

Company Profile Price YTD Shares Cap Rev. Rev 2009(A) 2010(E) 2011(E) '09(E) '10(E) 11(E) '11(E) Rate Growth (ann.) Rev EPS MarginCONTRACT RESEARCH ORGANIZATIONSCharles River Laboratories (CRL) M/C $36.61 3% 62.6 $2,292 $1,104 2.1x $2.38 $1.90 $2.30 15.4x 19.3x 15.9x 11.0x 15% 1.1x 0.0% -7% -30% 16%Covance (CVD) O/E $50.31 -2% 65.0 $3,270 $1,908 1.7x $2.60 $2.23 $2.89 19.4x 22.6x 17.4x 8.6x 18% 1.0x 0.0% 0% -23% 9%ICON plc (ICLR) M/A $21.93 0% 60.7 $1,332 $900 1.5x $1.53 $1.36 $1.42 14.3x 16.1x 15.4x 7.9x 18% 0.9x 0.0% 2% -26% 9%Kendle (KNDL) NR $11.06 2% 15.0 $166 $450 0.4x $2.07 $0.33 $0.57 5.3x 33.9x 19.5x 7.3x 13% 1.6x 0.0% -16% -86% 7%PAREXEL International (PRXL) O/A $20.60 -3% 59.7 $1,229 $1,183 1.0x $0.99 $1.18 $1.40 20.8x 17.5x 14.7x 7.1x 18% 0.8x 0.0% 14% 37% 10%Pharm. Prod. Devel. (PPDI) M/C $27.31 1% 119.8 $3,272 $1,358 2.4x $1.28 $1.03 $1.43 21.3x 26.5x 19.1x 8.9x 15% 1.3x 2.2% 7% -6% 17% CRO AVERAGE 0% 1.5x 16.1x 22.6x 17.0x 8.5x 16% 1.1x 0% -22% 11%CONTRACT SALES ORGANIZATIONSProfessional Detailing (PDII) O/A $10.58 0% 14.7 $155 $144 1.1x ($1.05) ($0.09) $0.22 NM NM NM 13.1x NM NM 0.0% 83% NM NM CSO AVERAGE 0% 1.1x NM NM NM 13.1x NA NA 83% NA NACLINICAL TRIAL TECHNOLOGY ORGANIZATIONSDatatrack (DATA) NR $0.90 8% 14.3 $13 $7 1.8x NA NA NA NM NM NM NM NA NA 0.0% 17% NA NAMedidata (MDSO) NR $25.91 9% 23.9 $618 $164 3.8x $0.57 $0.84 $1.16 45.5x 31.0x 22.3x 11.6x 25% NA 0.0% 17% 80% 25% CLINICAL TRIAL TECH AVERAGE 8% 2.8x 45.5x 31.0x 22.3x 11.6x 25% NA 17% 80% 25%CHEMISTRY RELATED SERVICES ORGANIZATIONS .Albany Molecular (AMRI) NR $5.80 3% 25.3 $147 $202 0.7x $0.03 ($0.19) NA NM NA NA 7.5x 13% NA 0.0% 6% 500% NAShangPharma Corporation (SHP) O/A $12.35 7% 19.2 $237 $92 2.6x $0.91 $1.02 NA 13.6x 12.2x 6.2x 23% 0.5x 0.0% 17% 36% 15%WuXi PharmaTech (WX) NR $17.44 8% 72.5 $1,265 $324 3.9x $0.72 $1.16 $1.19 24.2x 15.0x 14.7x 9.7x 22% 0.7x 0.0% 20% 37% 27% CHEMISTRY SERVICES AVERAGE 10% 1.5x 24.2x 15.0x 14.7x 8.6x 19% 0.6x 14% 191% 21%LAB & OTHERCambrex (CBM) NR $4.93 -5% 29.4 $145 $191 0.8x $0.36 $0.31 $0.38 13.7x 15.9x 13.0x 4.5x 4% NM 0.0% -15% -60% 6%eResearchTechnology Inc (ERES) NR $7.09 -4% 49.3 $349 $181 1.9x $0.22 $0.34 $0.51 32.2x 20.9x 14.0x 5.4x 20% 0.7x 0.0% 99% 83% 21% OTHER AVERAGE -4% 1.3x 23.0x 18.4x 13.5x 4.9x 12% 70% 42% 12% 14%Average price change data hidden #REF! #REF! #N/A

Source: Thomson, Company reports and William Blair & Company, L.L.C.(NR) Not Rated(a) Consensus estimates from First Call for companies not rated by William Blair & Company, L.L.C.

Last Quarter ActualGrowth RateCalendar Year EPS(a) P/E Ratio



Liping Cai +86 21 2327 2260 - 33 -

DJIA: 11,637.45 S&P 500: 1,269.75 NASDAQ: 2,707.80

The prices of the common stock of other public companies mentioned in this report follow:

Biogen Idec Inc. (Market Perform) $66.90 Eli Lilly and Company $34.49 Merck & Company $37.20 Pfizer Inc. $18.26 Roche Holdings, Ltd. $34.85 Sanofi-Aventis $31.87

Current Ratings Distribution (as of 12/31/10)Coverage Universe Percent Inv. Banking Relationships* PercentOutperform (Buy) 64% Outperform (Buy) 8%Market Perform (Hold) 35% Market Perform (Hold) 2%Underperform (Sell) 1% Underperform (Sell) 0%

* Percentage of companies in each rating category that are investment banking clients, defi ned as companies for which William Blair has received compensation for investment banking services within the past 12 months.

John Kreger attests that 1) all of the views expressed in this research report accurately re-fl ect his personal views about any and all of the securities and companies covered by this report, and 2) no part of his compensation was, is, or will be related, directly or indirectly, to the specifi c recommendations or views expressed by him in this report. We seek to update our research as appropriate, but various regulations may prohibit us from doing so. Other than certain periodical industry reports, the majority of reports are published at irregular intervals as deemed appropriate by the analyst.

Stock Rating: William Blair & Company, L.L.C. uses a three-point system to rate stocks. Individual ratings refl ect the expected performance of the stock relative to the broader market over the next 12 months. The assessment of expected performance is a function of near-term company fundamentals, industry outlook, confi dence in earnings estimates, valuation, and other factors. Outperform (O) – stock expected to outperform the broader market over the next 12 months; Market Perform (M) – stock expected to perform approximately in line with the broader market over the next 12 months; Underperform (U) – stock expected to underperform the broader market over the next 12 months; Not Rated (NR) – the stock is currently not rated.

Company Profi le: The William Blair research philosophy is focused on quality growth companies. Growth companies by their nature tend to be more volatile than the overall stock market. Company profi le is a fundamental assessment, over a longer-term horizon, of the business risk of the company relative to the broader William Blair universe. Factors assessed include: 1) durability and strength of franchise (management strength and track record, market leadership, distinctive capabilities); 2) fi nancial profi le (earnings growth rate/consistency, cash fl ow generation, return on investment, balance sheet, accounting); 3) other factors such as sector or industry conditions, economic environment, confi dence in long-term growth prospects, etc. Established Growth (E) – Fundamental risk is lower relative to the broader William Blair universe; Core Growth (C) – Fundamental risk is approximately in line with the broader William Blair universe; Aggressive Growth (A) – Fundamental risk is higher relative to the broader William Blair universe.

The ratings and company profi le assessments refl ect the opinion of the individual analyst and are subject to change at any time.


John Kreger 312.364.8597 - 34 -

The compensation of the research analyst is based on a variety of factors, including perfor-mance of his or her stock recommendations; contributions to all of the fi rm’s departments, including asset management, corporate fi nance, institutional sales, and retail brokerage; fi rm profi tability; and competitive factors.

Our salespeople, traders, and other professionals may provide oral or written market com-mentary or trading strategies—to our clients and our trading desks—that are contrary to opinions expressed in this research. Our asset management and trading desks may make investment decisions that are inconsistent with recommendations or views expressed in this report. We will from time to time have long or short positions in, act as principal in, and buy or sell the securities referred to in this report. Our research is disseminated primarily electronically, and in some instances in printed form. Electronic research is simultaneously available to all clients. This research is for our clients only. No part of this material may be copied or duplicated in any form by any means or redistributed without the prior written consent of William Blair & Company, L.L.C.

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BUSINESS SERVICES

Global Services

Brandon Dobell, Principal 312.364.8773Group Head–Business ServicesEducational Services, Real Estate Services

Timothy McHugh, CFA 312.364.8229Consulting, Employer Services, Staffi ng

Robert Riggs, CFA 312.364.8610Business Process Outsourcing, Information Services

Christopher Shutler, CFA 312.364.8197FinTech and Payment Services

Industrial

Nate Brochmann, CFA 312.364.5385Commercial Services, Logistics/Transportation

Brian Drab, CFA 312.364.8280Diversifi ed Industrials, Filtration and Water Management, Industrial Technology

Ryan Merkel, CFA 312.364.8603Commercial Services, Industrial Distribution

CONSUMER

Sharon Zackfi a, CFA, Principal 312.364.5386Group Head–ConsumerApparel, Leisure, Restaurants

Jon Andersen, CFA 312.364.8697Consumer Products

Meggan Friedman 312.364.8664Media and Marketing Services, Packaging and Signage

Daniel Hofkin 312.364.8965Broad Assortment and Hardlines, Health, Beauty, and Convenience

Mark Miller, CFA, Principal 312.364.8498Broad Assortment and Hardlines, E-commerce, Health, Beauty, and Convenience

FINANCIAL

Mark Lane, Principal 312.364.8686Group Head–FinancialAsset Management, Brokerage, Commercial P/C Insurance, Exchanges

HEALTHCARE

Ben Andrew, Principal 312.364.8828Group Head–HealthcareMedical Devices

Ryan Daniels, CFA, Principal 312.364.8418Healthcare and Veterinary Services

John Kreger, Principal 312.364.8597Distribution, Outsourcing, Pharmacy Benefi t Management

Amanda Murphy, CFA 312.364.8951Diagnostic Services, Pharmacy Benefi t Management

Matthew O’Brien 312.364.8582Medical Devices

John Sonnier, Principal 312.364.8224Biotechnology

Corey Tobin, Principal 312.364.5362Healthcare Information Technology

Brian Weinstein, CFA 312.364.8170Diagnostic Products

TECHNOLOGY

Jason Ader, CFA 617.235.7519Co-Group Head–TechnologyData Networking and Storage

Laura Lederman, CFA, Principal 312.364.8223Co-Group Head–TechnologyBusiness Software & Services, IT Services, Software as a Service

Jim Breen, CFA 617.235.7513Communication Services

Anil Doradla 312.364.8016Communication Semiconductors, Electronic Components, Wireless Communications

Jonathan Ho 312.364.8276Cybersecurity, Security Technology

Ralph Schackart III, CFA, Principal 312.364.8753Digital Media

Bhavan Suri 312.364.5341Business Software & Services, IT Services

CHINA

Liping Cai, CFA +86 21 2327 2260China-Based Companies

EDITORIAL

Steve Goldsmith, Head Editor 312.364.8540Maria Erdmann 312.364.8925Beth Pekol +44 20 7868 4516Lisa Zurcher 312.364.8437

Equity Research Directory

Bob Newman, CFA, Principal Manager and Director of Research 312.364.8783Kyle Harris, CFA, Principal Operations Manager 312.364.8230

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