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Covance Inc. (CVD - Analyst Report) reported adjusted earnings per share of 83 cents in the third quarter of 2013. The results beat the year-ago figure by 15.3% and was ahead of the Zacks Consensus Estimate by 3 cents.  The upside was driven by improved top line and margin.

Including the impact of certain one-time items, reported earnings in the quarter came in at 78 cents, registering a 13.0% beat compared with the year-ago earnings of 69 cents a share.

Revenues

Net revenues from continuing operations increased 12% from the year-ago quarter to reach $606.7 million, beating the Zacks Consensus Estimate of $596 million. Covance primarily derives its revenues from two segments, Early Development and Late-Stage Development. While solid sales performance was seen in Late-Stage Development backed by accelerated revenues in central laboratories, Early Development segment witnessed sluggish growth in the quarter.

Early Development

Net revenues from continuing operation in Early Development were up a mere 1.2% year over year to $220.4 million in the quarter, driven primarily by growth in clinical pharmacology services.

Early Development pro forma operating margin was 13.1%, up 180 basis points (bps) year over year.

Late-Stage Development

Net revenues from Late-Stage Development surged 19.2% year over year to $386.4 million on the back of continued strong performance in central labs, where net revenues were up 26% year over year. Pro forma operating margin expanded 260 bps on a year-over-year basis to 22.6%. Year-over-year increase in profits in central laboratories neutralized the increase in strategic IT spending.

Consolidated Margins

Gross margin expanded 189 bps to 29.9%. Operating margin increased about 496 bps to 15.6%. Reimbursable out-of-pocket expenses declined 23.6% year over year to $40.3 million, while selling, general and administrative expenses declined 7.8% year over year to $87.1 million.

Balance Sheet

Covance exited third-quarter 2013 with cash and cash equivalents and short-term investmentsof $592.6 million, up 20.2% year over year. Operating cash flow of $215 million and capital expenditure of $35 million in second-quarter 2013 resulted in free cash flow of $180 million.

Guidance

Covance expects 2013 revenues to grow by 10%, ahead of the earlier expectation that lay in the high single-digit range. The company also tightened its adjusted earnings expectation to $3.20 from the earlier provided range of $3.10−$3.20 per share. Currently, the Zacks Consensus Estimate for 2013is pegged at $3.16.

The company expects sequential growth in revenues and operating income in both the Early and Late-Stage Development segments in the fourth quarter of 2013.

Out Take

Covance has managed to post a better-than-expected third-quarter result with modest top- and bottom-line beats. However, the Early Development segment (contributing 36% of the company’s sales) continues to pose challenges. On the other hand, Late-Stage Development continues to drive single-handedly. Based on its expectation of accelerated growth for the rest of 2013, Covance increased its guidance for the fiscal. Another reason behind this optimistic approach might be the expiration of several patents in the pharmaceutical industry, which are likely to improve market conditions for Covance, going forward.

The stock carries a Zacks Rank #3 (Hold). Medical stocks such as Align Technologies Inc., (ALGN - Analyst Report), Cardinal Health, Inc. (CAH - Analyst Report) and Mindray Medical International Limited (MR - Analyst Report), each carrying a Zacks Rank #1 (Strong Buy), are expected to do well.

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