##### Table of Contents

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SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549



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FORM 10-Q



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(Mark One)

|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934.
|- | --------------------------------------------------------------------------------------------

For the quarterly period ended March 31, 2006.

OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
|- | -----------------------------------------------------------------------------------------

For the transition period from  to
.

Commission File Number 0-27570



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PHARMACEUTICAL PRODUCT
DEVELOPMENT, INC.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|North Carolina                                                 |  | 56-1640186                             
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification Number)

3151 South Seventeenth Street

Wilmington, North Carolina

(Address of principal executive
offices)

28412

(Zip Code)

Registrants telephone number, including area code: (910) 251-0081



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Indicate by check mark whether
the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No ̈

Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act.



|Large | accelerated filer  x    Accelerated filer ̈Non-accelerated filer ̈
|----- | ----------------------------------------------------------------

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Act).    Yes ̈No  x

Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date: 116,628,836 shares
of common stock, par value $0.05 per share, as of April 30, 2006.



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##### Table of Contents

INDEX



|                                                                                              |  |                                                                                                                |  |     
|--------------------------------------------------------------------------------------------- |  | -------------------------------------------------------------------------------------------------------------- |  | ----
|                                                                                              |  |                                                                                                                |  | Page
|Part I. FINANCIAL INFORMATION                                                                 |  |                                                                                                               
|                                                                                              | 
|Item 1. Financial Statements                                                                  |  |                                                                                                               
|                                                                                              |  |                                                                                                               
|                                                                                              |  | Consolidated Condensed Statements of Operations for the Three Months Ended March 31, 2005 and 2006 (unaudited) |  | 3   
|                                                                                              |  |                                                                                                               
|                                                                                              |  | Consolidated Condensed Balance Sheets as of December 31, 2005 and March 31, 2006 (unaudited)                   |  | 4   
|                                                                                              |  |                                                                                                               
|                                                                                              |  | Consolidated Condensed Statements of Cash Flows for the Three Months Ended March 31, 2005 and 2006 (unaudited) |  | 5   
|                                                                                              |  |                                                                                                               
|                                                                                              |  | Notes to Consolidated Condensed Financial Statements (unaudited)                                               |  | 6   
|                                                                                              | 
|Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 25                                                                                                            
|                                                                                              | 
|Item 3. Quantitative and Qualitative Disclosures about Market Risk                            |  | 39                                                                                                            
|                                                                                              | 
|Item 4. Controls and Procedures                                                               |  | 40                                                                                                            
|                                                                                              | 
|Part II. OTHER INFORMATION                                                                    |  |                                                                                                               
|                                                                                              | 
|Item 6. Exhibits                                                                              |  | 41                                                                                                            
|                                                                                              | 
|Signatures                                                                                    |  | 42                                                                                                            



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##### Table of Contents

Part I. FINANCIAL INFORMATION

Item 1. Financial Statements

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS

(unaudited)

(in
thousands, except per share data)



|                                                      |  |                             |         |   |      |   |         |  
|----------------------------------------------------- |  | --------------------------- | ------- | - | ---- | - | ------- | -
|                                                      |  | Three Months EndedMarch 31, |        
|                                                      |  | 2005                        |         |   | 2006 |  
|Net Revenue:                                          |  |                             |         |   |      |   |         |  
|Development                                           |  | $                           | 212,921 |   |      | $ | 257,749 |  
|Discovery Sciences                                    |  |                             | 12,860  |   |      |   | 18,949  |  
|Reimbursed out-of-pockets                             |  |                             | 18,273  |   |      |   | 22,671  |  
|                                                      |  |                             |         |   |      |   |         |  
|Total net revenue                                     |  |                             | 244,054 |   |      |   | 299,369 |  
|                                                      |  |                             |         |   |      |   |         |  
|Direct Costs:                                         |  |                             |         |   |      |   |         |  
|Development                                           |  |                             | 109,828 |   |      |   | 128,417 |  
|Discovery Sciences                                    |  |                             | 1,927   |   |      |   | 2,408   |  
|Reimbursable out-of-pocket expenses                   |  |                             | 18,273  |   |      |   | 22,671  |  
|                                                      |  |                             |         |   |      |   |         |  
|Total direct costs                                    |  |                             | 130,028 |   |      |   | 153,496 |  
|                                                      |  |                             |         |   |      |   |         |  
|Research and development expenses                     |  |                             | 8,821   |   |      |   | 681     |  
|Selling, general and administrative expenses          |  |                             | 57,883  |   |      |   | 71,957  |  
|Depreciation                                          |  |                             | 8,359   |   |      |   | 11,023  |  
|Amortization                                          |  |                             | 288     |   |      |   | 273     |  
|Loss on disposal of assets                            |  |                             | 105     |   |      |   | 1,011   |  
|Gain on exchange of assets                            |  |                             | (5,144  | ) |      |   |        |  
|                                                      |  |                             |         |   |      |   |         |  
|Total operating expenses                              |  |                             | 200,340 |   |      |   | 238,441 |  
|                                                      |  |                             |         |   |      |   |         |  
|Income from operations                                |  |                             | 43,714  |   |      |   | 60,928  |  
|Interest income, net                                  |  |                             | 1,275   |   |      |   | 3,110   |  
|Other expense, net                                    |  |                             | (95     | ) |      |   | (151    | )
|                                                      |  |                             |         |   |      |   |         |  
|Income before provision for income taxes              |  |                             | 44,894  |   |      |   | 63,887  |  
|Provision for income taxes                            |  |                             | 12,013  |   |      |   | 22,041  |  
|                                                      |  |                             |         |   |      |   |         |  
|Net income                                            |  | $                           | 32,881  |   |      | $ | 41,846  |  
|                                                      |  |                             |         |   |      |   |         |  
|Net income per common share:                          |  |                             |         |   |      |   |         |  
|Basic                                                 |  | $                           | 0.29    |   |      | $ | 0.36    |  
|                                                      |  |                             |         |   |      |   |         |  
|Diluted                                               |  | $                           | 0.29    |   |      | $ | 0.35    |  
|                                                      |  |                             |         |   |      |   |         |  
|Weighted average number of common shares outstanding: |  |                             |         |   |      |   |         |  
|Basic                                                 |  |                             | 113,516 |   |      |   | 116,233 |  
|Dilutive effect of stock options and restricted stock |  |                             | 1,542   |   |      |   | 1,740   |  
|                                                      |  |                             |         |   |      |   |         |  
|Diluted                                               |  |                             | 115,058 |   |      |   | 117,973 |  
|                                                      |  |                             |         |   |      |   |         |  

The accompanying notes are an integral part of these consolidated condensed financial statements.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

CONSOLIDATED CONDENSED BALANCE SHEETS

(in thousands)



|                                                                      |  |                  |           |               |   |          
|--------------------------------------------------------------------- |  | ---------------- | --------- | ------------- | - | ---------
|                                                                      |  | December 31,2005 |           | March 31,2006
|                                                                      |  |                  |           | (unaudited)  
|Assets                                                                |  |                  |           |               |   |          
|Current assets:                                                       |  |                  |           |               |   |          
|Cash and cash equivalents                                             |  | $                | 182,000   |               | $ | 138,341  
|Short-term investments                                                |  |                  | 137,820   |               |   | 198,494  
|Accounts receivable and unbilled services, net                        |  |                  | 303,386   |               |   | 336,572  
|Income tax receivable                                                 |  |                  | 14        |               |   | 107      
|Investigator advances                                                 |  |                  | 13,578    |               |   | 8,366    
|Prepaid expenses and other current assets                             |  |                  | 34,651    |               |   | 41,794   
|Deferred tax assets                                                   |  |                  | 11,435    |               |   | 11,548   
|                                                                      |  |                  |           |               |   |          
|Total current assets                                                  |  |                  | 682,884   |               |   | 735,222  
|                                                                      |  |                 
|Property and equipment, net                                           |  |                  | 210,020   |               |   | 232,603  
|Goodwill                                                              |  |                  | 208,883   |               |   | 209,613  
|Investments                                                           |  |                  | 29,171    |               |   | 34,439   
|Intangible assets                                                     |  |                  | 2,772     |               |   | 2,304    
|Long-term deferred tax assets                                         |  |                  | 20,080    |               |   | 17,059   
|Other assets                                                          |  |                  | 5,790     |               |   | 1,436    
|                                                                      |  |                  |           |               |   |          
|Total assets                                                          |  | $                | 1,159,600 |               | $ | 1,232,676
|                                                                      |  |                  |           |               |   |          
|Liabilities and Shareholders Equity                                  |  |                  |           |               |   |          
|Current liabilities:                                                  |  |                  |           |               |   |          
|Accounts payable                                                      |  | $                | 10,363    |               | $ | 14,090   
|Payables to investigators                                             |  |                  | 43,126    |               |   | 35,999   
|Accrued income taxes                                                  |  |                  | 18,099    |               |   | 31,127   
|Other accrued expenses                                                |  |                  | 119,304   |               |   | 111,916  
|Deferred tax liabilities                                              |  |                  | 85        |               |   | 82       
|Unearned income                                                       |  |                  | 162,662   |               |   | 166,702  
|Current maturities of long-term debt and capital lease obligations    |  |                  | 1,607     |               |   | 1,375    
|                                                                      |  |                  |           |               |   |          
|Total current liabilities                                             |  |                  | 355,246   |               |   | 361,291  
|                                                                      |  |                 
|Long-term debt and capital lease obligations, less current maturities |  |                  | 22,695    |               |   | 29,543   
|Accrued additional pension liability                                  |  |                  | 11,151    |               |   | 11,256   
|Deferred tax liabilities                                              |  |                  | 2,195     |               |   | 2,937    
|Deferred rent and other                                               |  |                  | 17,637    |               |   | 17,063   
|                                                                      |  |                  |           |               |   |          
|Total liabilities                                                     |  |                  | 408,924   |               |   | 422,090  
|                                                                      |  |                 
|Shareholders equity:                                                 |  |                  |           |               |   |          
|Common stock                                                          |  |                  | 5,800     |               |   | 5,828    
|Paid-in capital                                                       |  |                  | 395,452   |               |   | 410,716  
|Retained earnings                                                     |  |                  | 346,417   |               |   | 385,335  
|Accumulated other comprehensive income                                |  |                  | 3,007     |               |   | 8,707    
|                                                                      |  |                  |           |               |   |          
|Total shareholders equity                                            |  |                  | 750,676   |               |   | 810,586  
|                                                                      |  |                  |           |               |   |          
|Total liabilities and shareholders equity                            |  | $                | 1,159,600 |               | $ | 1,233,876
|                                                                      |  |                  |           |               |   |          

The accompanying notes are an integral part of these consolidated condensed financial statements.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

(unaudited)

(in
thousands)



|                                                                                          |  |                             |         |   |      |   |          |  
|----------------------------------------------------------------------------------------- |  | --------------------------- | ------- | - | ---- | - | -------- | -
|                                                                                          |  | Three Months EndedMarch 31, |        
|                                                                                          |  | 2005                        |         |   | 2006 |  
|Cash flows from operating activities:                                                     |  |                             |         |   |      |   |          |  
|Net income                                                                                |  | $                           | 32,881  |   |      | $ | 41,846   |  
|Adjustments to reconcile net income to net cash provided by operating activities:         |  |                             |         |   |      |   |          |  
|Depreciation and amortization                                                             |  |                             | 8,647   |   |      |   | 11,296   |  
|Stock compensation expense                                                                |  |                             | 4,216   |   |      |   | 4,531    |  
|Gain on exchange of assets                                                                |  |                             | (5,144  | ) |      |   |         |  
|Loss on disposal of assets                                                                |  |                             | 105     |   |      |   | 1,011    |  
|Gain on sale of assets                                                                    |  |                             | (20     | ) |      |   | (9       | )
|Provision for doubtful accounts                                                           |  |                             | 50      |   |      |   | 10       |  
|Provision (benefit) for deferred income taxes                                             |  |                             | 1,219   |   |      |   | (180     | )
|Change in operating assets and liabilities, net of acquisitions                           |  |                             | 5,088   |   |      |   | (30,050  | )
|                                                                                          |  |                             |         |   |      |   |          |  
|Net cash provided by operating activities                                                 |  |                             | 47,042  |   |      |   | 28,455   |  
|                                                                                          |  |                             |         |   |      |   |          |  
|Cash flows from investing activities:                                                     |  |                             |         |   |      |   |          |  
|Purchases of property and equipment                                                       |  |                             | (58,432 | ) |      |   | (27,900  | )
|Proceeds from sale of property and equipment                                              |  |                             | 18      |   |      |   | 9        |  
|Purchases of available-for-sale investments                                               |  |                             | (24,720 | ) |      |   | (220,465 | )
|Maturities and sales of available-for-sale investments                                    |  |                             | 129,740 |   |      |   | 161,325  |  
|Purchases of investments                                                                  |  |                             | (5,101  | ) |      |   |         |  
|                                                                                          |  |                             |         |   |      |   |          |  
|Net cash provided by (used in) investing activities                                       |  |                             | 41,505  |   |      |   | (87,031  | )
|                                                                                          |  |                             |         |   |      |   |          |  
|Cash flows from financing activities:                                                     |  |                             |         |   |      |   |          |  
|Principal repayments of long-term debt                                                    |  |                             | (94     | ) |      |   | (92      | )
|Proceeds from construction loan                                                           |  |                             |        |   |      |   | 7,042    |  
|Repayment of capital leases obligations                                                   |  |                             | (423    | ) |      |   | (466     | )
|Proceeds from exercise of stock options and employee stock purchase plan                  |  |                             | 4,835   |   |      |   | 9,198    |  
|Income tax benefit from exercise of stock options and disqualifying dispositions of stock |  |                             | 370     |   |      |   | 1,640    |  
|Cash dividends paid                                                                       |  |                             |        |   |      |   | (2,911   | )
|                                                                                          |  |                             |         |   |      |   |          |  
|Net cash provided by financing activities                                                 |  |                             | 4,688   |   |      |   | 14,411   |  
|                                                                                          |  |                             |         |   |      |   |          |  
|Effect of exchange rate changes on cash and cash equivalents                              |  |                             | (1,225  | ) |      |   | 506      |  
|                                                                                          |  |                             |         |   |      |   |          |  
|Net increase (decrease) in cash and cash equivalents                                      |  |                             | 92,010  |   |      |   | (43,659  | )
|Cash and cash equivalents, beginning of the period                                        |  |                             | 144,348 |   |      |   | 182,000  |  
|                                                                                          |  |                             |         |   |      |   |          |  
|Cash and cash equivalents, end of the period                                              |  | $                           | 236,358 |   |      | $ | 138,341  |  
|                                                                                          |  |                             |         |   |      |   |          |  

The accompanying notes are an integral part of these consolidated condensed financial statements.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL
STATEMENTS

(unaudited)

1.
SIGNIFICANT ACCOUNTING POLICIES

The significant accounting policies followed by Pharmaceutical Product Development, Inc. and its
subsidiaries (collectively the Company) for interim financial reporting are consistent with the accounting policies followed for annual financial reporting. The Company prepared these unaudited consolidated condensed financial statements
in accordance with Rule 10-01 of Regulation S-X and, in managements opinion, has included all adjustments of a normal recurring nature necessary for a fair presentation. The accompanying consolidated condensed financial statements should be
read in conjunction with the consolidated financial statements and notes thereto in the Companys Annual Report on Form 10-K for the year ended December 31, 2005. The results of operations for the three-month period ended March 31,
2006 are not necessarily indicative of the results to be expected for the full year or any other period. The amounts in the December 31, 2005 consolidated condensed balance sheet are derived from the audited financial statements included in the
Companys Annual Report on Form 10-K for the year ended December 31, 2005.

Principles of consolidation

The accompanying unaudited consolidated condensed financial statements include the accounts and results of operations of the Company. All intercompany
balances and transactions have been eliminated in consolidation.

Stock Split

On December 30, 2005, the Companys Board of Directors approved a two-for-one stock split. The record date for the stock split was
February 17, 2006. The distribution of shares was completed on February 28, 2006. All share and per share amounts for all periods presented in the accompanying consolidated financial statements have been adjusted to reflect the effect of
this stock split.

Recent accounting pronouncements

In December 2004, the Financial Accounting Standards Board, or FASB, issued SFAS No. 123 (revised 2004), Share-Based Payment, that will require compensation costs related to share-based payment
transactions to be recognized in the financial statements. With limited exceptions, the amount of compensation cost will be measured based on the fair value on the date of grant of the equity or liability instruments issued. In addition, the fair
value of liability instruments will be remeasured each reporting period. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. In March 2005, the SEC issued Staff Accounting Bulletin 107
which describes the SEC staffs expectations in determining the assumptions that underlie the fair value estimates and discusses the interaction of SFAS No. 123 (revised) with existing SEC guidance. In April 2005, the SEC deferred the
effective date for SFAS No. 123 (revised) to the beginning of the first fiscal year that begins after June 15, 2005. On January 1, 2006, the Company adopted SFAS No. 123 (revised) using the modified retrospective transition
method permitted by the statement and will continue to value its grants using the Black-Scholes option pricing method. In accordance with the modified retrospective application method prescribed by SFAS No. 123 (revised), financial statements
for all periods prior to January 1, 2006 have been adjusted to give effect to the fair-value based method of accounting for all awards granted in fiscal years beginning after December 15, 1994. Amounts previously disclosed as pro-forma
adjustments have been reflected in earnings for all prior periods. See Note 9 for further details.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

1. SIGNIFICANT ACCOUNTING POLICIES (continued)

Recent accounting pronouncements (continued)

In March
2005, the FASB issued Interpretation No. 47, Accounting for Conditional Asset Retirement Obligation, or FIN 47, to clarify that the term conditional asset retirement obligation as used in SFAS No. 143 refers to a
legal obligation to perform an asset retirement activity in which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the entity. An entity must recognize a liability for the fair
value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. FIN 47 also defines when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement
obligation. FIN 47 is effective as of the end of fiscal years ending after December 15, 2005. The adoption of this statement did not have a material impact on the Companys financial statements.

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, which changes the requirements for the accounting
and reporting of a change in accounting principle. SFAS No. 154 applies to all voluntary changes in accounting principle as well as to changes required by an accounting pronouncement that does not include specific transition provisions. SFAS
No. 154 requires that changes in accounting principle be retrospectively applied. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of this
statement did not have a material impact on the Companys financial statements.

In June 2005, the FASB issued Staff Position
No. 143-1, Accounting for Electronic Equipment Waste Obligations, or FSP 143-1. FSP 143-1 provides guidance on how commercial users and producers of electronic equipment should recognize and measure asset retirement obligations that
arise from European Union (EU) Directive 2002/96/EC on Waste Electrical and Electronic Equipment (the Directive). FSP 143-1 is effective the later of the first reporting period that ends after June 8, 2005 or the date
that the EU-member country adopts a law to implement the Directive. The Company has adopted FSP 143-1 and the statement did not have a material impact on the Companys financial statements.

In June 2005, the Emerging Issues Task Force, or EITF, reached a consensus on EITF 05-6, Determining the Amortization Period
for Leasehold Improvements Purchased after Lease Inception or Acquired in a Business Combination. EITF 05-6 requires leasehold improvements purchased after the beginning of the initial lease term or that are acquired in a business combination
to be amortized over the lesser of the useful life of the assets or a term that includes the original lease term plus any renewals that are reasonably assured at the date the leasehold improvements are purchased or acquired. In September 2005, the
EITF modified the consensus to clarify that this issue does not apply to preexisting leasehold improvements. This guidance was effective for leasehold improvements purchased or acquired in reporting periods beginning after June 29, 2005. The
adoption of this statement did not have a material impact on the Companys financial statements.

In October 2005, the FASB issued
Staff Position No. 13-1, Accounting for Rental Costs Incurred During a Construction Period, or FSP 13-1. FSP 13-1 states that rental costs associated with ground or building operating leases incurred during a construction period
shall be recognized as rental expense and not capitalized. FSP 13-1 is effective for the first reporting period beginning after December 15, 2005. The adoption of this statement did not have a material impact on the Companys financial
statements.

In November 2005, the FASB issued Staff Position Nos. FAS 115-1 and FAS 124-1, The Meaning of Other-Than-Temporary
Impairment and its Application to Certain Investments. This statement addresses the determination as to when an investment is considered impaired, whether the impairment is other-than-temporary and the measurement of an impairment loss. The
statement is effective for reporting periods beginning after December 15, 2005. The adoption of this statement did not have a material impact on the Companys financial statements.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

1. SIGNIFICANT ACCOUNTING POLICIES (continued)

Inventory

Inventories, which consist principally of
laboratory supplies, are valued at the lower of cost (first-in, first-out method) or market. Inventories totaling $2.3 million and $2.4 million as of December 31, 2005 and March 31, 2006, respectively, were included in prepaid expenses and
other current assets.

Earnings per share

The computation of basic income per share information is based on the weighted average number of common shares outstanding during the period. The computation of diluted income per share information is based on the weighted average number of
common shares outstanding during the period plus the effects of any dilutive common stock equivalents.

Reclassification

The Company has reclassified certain 2005 financial statement amounts to conform to the 2006 financial statement presentation. Specifically, prior period
amounts have been adjusted pursuant to the modified retrospective application method provided for in SFAS No. 123 (revised), Share-Based Payment. See Note 9 for further details. Additionally, all share and per share amounts for 2005
have been adjusted to reflect the two-for-one stock split completed on February 28, 2006.

Use of estimates in the preparation of financial
statements

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those estimates.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

2. ACQUISITIONS

In February 2005, the Company completed its acquisition of substantially all of the assets of SurroMed, Inc.s biomarker business. The acquisition expanded the Companys business by adding biomarker
discovery and patient sample analysis capability to the services offered by the Company. In exchange for the assets, the Company surrendered to SurroMed all shares of preferred stock of SurroMed it held. As additional consideration for the
acquisition, the Company assumed approximately $3.4 million of SurroMed liabilities under capital leases and additional operating liabilities, and agreed to guarantee repayment of up to $1.5 million under a SurroMed bank loan. In February 2006, this
amount was reduced to $0.8 million and SurroMed pledged a $0.5 million certificate of deposit to secure payment of the bank loan. In accordance with the requirements of SFAS No. 5, Accounting for Contingencies, as clarified by FASB
Interpretation No. 45, the Company has recorded a liability in the amount of $0.03 million for the estimated fair value of the net obligation it has assumed under this guarantee. The Company recognized a pre-tax gain on exchange of assets of
$5.1 million, primarily related to the $4.9 million gain on the termination of a preexisting facility lease arrangement with SurroMed in accordance with EITF 04-01, Accounting for Preexisting Relationships between the Parties to a Business
Combination. The fair value of the leasing arrangement was determined based on the discounted cash flows of the difference between the future required rental payments under the lease agreement and the current market rate for similar
facilities. The results of operations from the biomarker assets acquired are included in the Companys consolidated condensed statements of operations as of and since February 1, 2005, the effective date of the acquisition. This biomarker
business is part of the Discovery Sciences segment of the Company.

This acquisition was accounted for using the purchase method of
accounting, utilizing appropriate fair value techniques to allocate the purchase price based on the estimated fair values of the assets and liabilities. Accordingly, the estimated fair value of assets acquired and liabilities assumed were included
in the Companys consolidated condensed balance sheet as of the effective date of the acquisition.

The total purchase price
for the SurroMed acquisition in 2005 was allocated to the estimated fair value of assets acquired and liabilities assumed as set forth in the following table:



|                                         |  |   |        |  
|---------------------------------------- |  | - | ------ | -
|(in thousands)                           |  |   |       
|Condensed balance sheet:                 |  |   |        |  
|Current assets                           |  | $ | 186    |  
|Property and equipment, net              |  |   | 8,780  |  
|Deferred rent and other                  |  |   | (742   | )
|Current liabilities                      |  |   | (3,512 | )
|Long-term liabilities                    |  |   | (2,267 | )
|                                         | 
|Value of identifiable intangible assets: |  |   |        |  
|Goodwill                                 |  |   | 33,001 |  
|                                         |  |   |        |  
|Total                                    |  | $ | 35,446 |  
|                                         |  |   |        |  

The purchase price allocation has been finalized for this acquisition. Goodwill will be evaluated
annually as required by SFAS No. 142. The Company expects goodwill related to SurroMed to be deductible for tax purposes.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

2. ACQUISITIONS (continued)

The unaudited proforma results from operations for the Company assuming the SurroMed acquisition was consummated as of January 1, 2005 were as
follows:



|                                      |  |                                  |        
|------------------------------------- |  | -------------------------------- | -------
|(in thousands, except per share data) |  | Three Months EndedMarch 31, 2005
|Total revenue                         |  | $                                | 244,716
|Net income                            |  | $                                | 32,679 
|Net income per share:                 |  |                                  |        
|Basic                                 |  | $                                | 0.29   
|Diluted                               |  | $                                | 0.28   

The above amounts are based upon assumptions and estimates the Company believes are reasonable,
but they do not reflect any benefit from economies that might be achieved from combined operations. Proforma adjustments were made to income tax benefit, increasing net income by $0.1 million for the three-month period ended March 31, 2005.
These adjustments are reflected in the above table. The proforma financial information presented above is not necessarily indicative of either the results of operations that would have occurred had the acquisition taken place at the beginning of the
period indicated or of future results of operations of the Company.

3. ACCOUNTS RECEIVABLE AND UNBILLED SERVICES

Accounts receivable and unbilled services consisted of the following:



|                                |  |                  |         |   |               |   |         |  
|------------------------------- |  | ---------------- | ------- | - | ------------- | - | ------- | -
|(in thousands)                  |  | December 31,2005 |         |   | March 31,2006 |  
|Billed                          |  | $                | 204,686 |   |               | $ | 224,067 |  
|Unbilled                        |  |                  | 102,626 |   |               |   | 116,191 |  
|Provision for doubtful accounts |  |                  | (3,926  | ) |               |   | (3,686  | )
|                                |  |                  |         |   |               |   |         |  
|                                |  | $                | 303,386 |   |               | $ | 336,572 |  
|                                |  |                  |         |   |               |   |         |  

4. PROPERTY AND EQUIPMENT

Property and equipment, stated at cost, consisted of the following:



|                                               |  |                  |          |   |               |   |          |  
|---------------------------------------------- |  | ---------------- | -------- | - | ------------- | - | -------- | -
|(in thousands)                                 |  | December 31,2005 |          |   | March 31,2006 |  
|Land                                           |  | $                | 6,986    |   |               | $ | 7,018    |  
|Buildings and leasehold improvements           |  |                  | 58,321   |   |               |   | 59,953   |  
|Construction in progress                       |  |                  | 31,205   |   |               |   | 54,059   |  
|Furniture and equipment                        |  |                  | 152,952  |   |               |   | 156,478  |  
|Computer equipment and software                |  |                  | 114,331  |   |               |   | 119,162  |  
|                                               |  |                  |          |   |               |   |          |  
|                                               |  |                  | 363,795  |   |               |   | 396,670  |  
|Less accumulated depreciation and amortization |  |                  | (153,775 | ) |               |   | (164,067 | )
|                                               |  |                  |          |   |               |   |          |  
|                                               |  | $                | 210,020  |   |               | $ | 232,603  |  
|                                               |  |                  |          |   |               |   |          |  

Capitalized costs for the new corporate headquarters facility included in construction in
progress as of December 31, 2005 and March 31, 2006 were $19.7 million and $35.2 million, respectively. During the three months ended March 31, 2005 and 2006, the Company capitalized interest of approximately $0 and $0.3 million,
respectively, relating to the construction of the new corporate headquarters facility in Wilmington, North Carolina.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

4. PROPERTY AND EQUIPMENT (continued)

Property and equipment under capital leases, stated at cost, consisted of the following:



|                                               |  |                  |        |   |               |   |        |  
|---------------------------------------------- |  | ---------------- | ------ | - | ------------- | - | ------ | -
|(in thousands)                                 |  | December 31,2005 |        |   | March 31,2006 |  
|Leasehold improvements                         |  | $                | 824    |   |               | $ | 824    |  
|Computer equipment and software                |  |                  | 656    |   |               |   | 656    |  
|Furniture and equipment                        |  |                  | 2,114  |   |               |   | 1,975  |  
|                                               |  |                  |        |   |               |   |        |  
|                                               |  |                  | 3,594  |   |               |   | 3,455  |  
|                                               |  |                 
|Less accumulated depreciation and amortization |  |                  | (1,211 | ) |               |   | (1,473 | )
|                                               |  |                  |        |   |               |   |        |  
|                                               |  | $                | 2,383  |   |               | $ | 1,982  |  
|                                               |  |                  |        |   |               |   |        |  

As of March 31, 2006, the Company had $1.8 million in net book value of property and
equipment under capital lease from the acquisition of SurroMeds biomarker business. The remaining $0.2 million in net book value of property and equipment under capital lease related to a lease for scientific equipment used at the
Companys Phase I clinic in Austin, Texas.

5. GOODWILL AND INTANGIBLE ASSETS

Changes in the carrying amount of goodwill for the twelve months ended December 31, 2005 and the three months ended March 31, 2006, by operating
segment, were as follows:



|                                                     |  |             |         |   |                   |   |        |  |   |         |  
|---------------------------------------------------- |  | ----------- | ------- | - | ----------------- | - | ------ |  | - | ------- | -
|(in thousands)                                       |  | Development |         |   | DiscoverySciences |   | Total  | 
|Balance as of January 1, 2005                        |  | $           | 159,166 |   |                   | $ | 20,615 |  | $ | 179,781 |  
|Goodwill recorded during the period for acquisitions |  |             |        |   |                   |   | 33,001 |  |   | 33,001  |  
|Translation adjustments                              |  |             | (3,899  | ) |                   |   |       |  |   | (3,899  | )
|                                                     |  |             |         |   |                   |   |        |  |   |         |  
|Balance as of December 31, 2005                      |  |             | 155,267 |   |                   |   | 53,616 |  |   | 208,883 |  
|Translation adjustments                              |  |             | 730     |   |                   |   |       |  |   | 730     |  
|                                                     |  |             |         |   |                   |   |        |  |   |         |  
|Balance as of March 31, 2006                         |  | $           | 155,997 |   |                   | $ | 53,616 |  | $ | 209,613 |  
|                                                     |  |             |         |   |                   |   |        |  |   |         |  

Information regarding the Companys other intangible assets follows:



|                                   |                |                   |                         |                |     |       |                |   |                         |  |     |       |  |   |       |  |   |      
|---------------------------------- | -------------- | ----------------- | ----------------------- | -------------- | --- | ----- | -------------- | - | ----------------------- |  | --- | ----- |  | - | ----- |  | - | -----
|(in thousands)                     |                | December 31, 2005 |                         | March 31, 2006
|                                   | CarryingAmount |                   | AccumulatedAmortization |                | Net |       | CarryingAmount |   | AccumulatedAmortization |  | Net
|Backlog and customer relationships |                | $                 | 543                     |                | $   | 338   |                | $ | 205                     |  | $   | 543   |  | $ | 371   |  | $ | 172  
|Patents                            |                |                   | 22                      |                |     | 22    |                |   |                        |  |     |      |  |   |      |  |   |     
|License and royalty agreements     |                |                   | 5,000                   |                |     | 2,433 |                |   | 2,567                   |  |     | 5,000 |  |   | 2,868 |  |   | 2,132
|                                   |                |                   |                         |                |     |       |                |   |                         |  |     |       |  |   |       |  |   |      
|Total                              |                | $                 | 5,565                   |                | $   | 2,793 |                | $ | 2,772                   |  | $   | 5,543 |  | $ | 3,239 |  | $ | 2,304
|                                   |                |                   |                         |                |     |       |                |   |                         |  |     |       |  |   |       |  |   |      

The Company amortizes all intangible assets on a straight-line basis, based on estimated useful
lives of three to five years for backlog and customer relationships and three to ten years for license and royalty agreements. The weighted average amortization period is 4.1 years for backlog, approximately 6.2 years for license and royalty
agreements and approximately 5.9 years for all intangibles collectively.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

5. GOODWILL AND INTANGIBLE ASSETS (continued)

Amortization expense for the three months ended March 31, 2005 and 2006 was $0.3 million for both periods. Estimated amortization expense for the
next five years is as follows:



|                          |  |   |    
|------------------------- |  | - | ---
|(in thousands)            |  |  
|2006 (remaining 9 months) |  | $ | 292
|2007                      |  |   | 312
|2008                      |  |   | 283
|2009                      |  |   | 250
|2010                      |  |   | 250

6. SHORT-TERM INVESTMENTS AND INVESTMENTS

Short-term investments, which are composed of available-for-sale securities, and investments consisted of the following:



|                                            |  |                  |         |               |   |        
|------------------------------------------- |  | ---------------- | ------- | ------------- | - | -------
|(in thousands)                              |  | December 31,2005 |         | March 31,2006
|Short-term investments:                     |  |                  |         |               |   |        
|State and municipal debt securities         |  | $                | 137,820 |               | $ | 196,634
|Chemokine Therapeutics Corp.                |  |                  |        |               |   | 1,860  
|                                            |  |                  |         |               |   |        
|Total short-term investments                |  | $                | 137,820 |               | $ | 198,494
|                                            |  |                  |         |               |   |        
|                                            |  |                 
|Cost-basis investments:                     |  |                  |         |               |   |        
|Oriel Therapeutics, Inc.                    |  | $                | 500     |               | $ | 500    
|Bay City Capital Fund IV, L.P.              |  |                  | 1,852   |               |   | 2,186  
|A.M. Pappas Life Science Ventures III, L.P. |  |                  | 691     |               |   | 691    
|Other equity investments                    |  |                  | 250     |               |   | 250    
|                                            |  |                  |         |               |   |        
|Total cost-basis investments                |  |                  | 3,293   |               |   | 3,627  
|Marketable equity securities:               |  |                  |         |               |   |        
|BioDelivery Sciences International, Inc.    |  |                  | 1,953   |               |   | 2,201  
|Chemokine Therapeutics Corp.                |  |                  | 2,360   |               |   |       
|Accentia Biopharmaceuticals, Inc.           |  |                  | 21,565  |               |   | 28,611 
|                                            |  |                  |         |               |   |        
|Total marketable equity securities          |  |                  | 25,878  |               |   | 30,812 
|                                            |  |                  |         |               |   |        
|Total investments                           |  | $                | 29,171  |               | $ | 34,439 
|                                            |  |                  |         |               |   |        

Short-term investments

As of December 31, 2005, the Companys short-term investments consisted of Auction Rate Securities (ARS). ARS generally have stated
maturities of 20 to 30 years. However, these securities have economic characteristics of short-term investments due to a rate-setting mechanism and the ability to liquidate them through a Dutch auction process that occurs on pre-determined intervals
of less than 90 days. As such, these investments are classified as short-term investments. The Companys short-term investments were classified as available-for-sale securities due to managements intent regarding these securities.Since the fair market value equaled the adjusted cost, there were no unrealized gains or losses associated with these investments as of December 31, 2005.

As of March 31, 2006, the Company had short-term investments in ARS and other municipal debt securities. The unrealized losses associated with these investments as of March 31, 2006 were $0.3 million. The
gross realized (losses)/gains on these securities were $(17,000) and $0 in the three months ended March 31, 2005 and 2006, respectively, determined on a specific identification basis.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

6. SHORT-TERM INVESTMENTS AND INVESTMENTS (continued)

As of March 31, 2006, the Company has also classified its investment in Chemokine Therapeutics Corp. as short-term. In April 2006, the Company
entered into a new agreement with Chemokine under which either Chemokine will repurchase the 2.0 million shares of preferred stock held by the Company for $0.86 per share or the Company may choose to convert some or all of its shares into
common shares and resell them to a third-party buyer prior to the close of the transaction. The transaction is expected to close on or before May 27, 2006. As of March 31, 2006, the unrealized gain associated with the Companys
investment in Chemokine was $1.2 million.

Investments

The Company has equity investments in publicly traded entities. Investments in publicly traded entities are denoted as marketable equity securities in the above table and are classified as available-for-sale
securities and measured at market value. The Company records net unrealized gains or losses associated with investments in publicly traded entities as a component of shareholders equity until they are realized or an other-than-temporary
decline has occurred. The market value of the Companys equity investments in publicly traded entities is based on the closing price as quoted by the applicable stock exchange or market on the last day of the reporting period. As of
March 31, 2006, the Companys equity investments in publicly traded companies were classified as long-term assets due to the Companys ability to hold its investments long-term, the strategic nature of the investment and the lack of
liquidity in the public markets for these securities to easily liquidate the investment without significantly impacting the market value. As of December 31, 2005 and March 31, 2006, gross unrealized gains on long-term investments in
marketable securities were $8.5 million and $14.2 million, respectively, and there were no gross unrealized losses in either period.

The
Company also has investments in privately held entities in the form of equity and convertible debt instruments that are not publicly traded and for which fair values are not readily determinable. The Company records all of its investments in private
entities under the cost method of accounting. The Company assesses the net realizable value of these entities on a quarterly basis to determine if there has been a decline in the fair value of these entities, and if so, if the decline is
other-than-temporary. This quarterly review includes an evaluation of, among other things, the market condition of the overall industry, historical and projected financial performance, expected cash needs and recent funding events. This impairment
analysis requires significant judgment.

In September 2005, the Company became a limited partner in Bay City Capital Fund IV, L.P., a
venture capital fund. The Bay City Fund IV was established in July 2004 for the purpose of investing in life sciences companies. The Company has committed to invest up to a maximum of $10.0 million in the Bay City Fund IV. No capital call can exceed
20% of the Companys aggregate capital commitment. Thus, the Company anticipates its aggregate investment will be made through a series of future capital calls over the next several years. During the first quarter of 2006, the Company accrued a
capital call in the amount of $0.3 million, which was subsequently paid in April 2006. Capital calls through March 31, 2006 were $2.2 million. The Company owned approximately 2.9% of the Bay City Fund IV as of March 31, 2006. The
Companys capital commitment will expire in June 2009.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

7. COMPREHENSIVE INCOME

Comprehensive income consisted of the following:



|                                                                                                                      |      |                             |        |      |  |   |       
|--------------------------------------------------------------------------------------------------------------------- | ---- | --------------------------- | ------ | ---- |  | - | ------
|(in thousands)                                                                                                        |      | Three Months EndedMarch 31,
|                                                                                                                      | 2005 |                             |        | 2006
|Net income, as reported                                                                                               |      | $                           | 32,881 |      |  | $ | 41,846
|Other comprehensive (loss) income:                                                                                    |      |                             |        |      |  |   |       
|Cumulative translation adjustment                                                                                     |      |                             | (2,992 | )    |  |   | 1,322 
|Change in fair value of hedging transaction, net of taxes of $48 and $(99), respectively                              |      |                             | (89    | )    |  |   | 231   
|Reclassification adjustment for hedging results included in direct costs, net of taxes of $29 and $(32), respectively |      |                             | (63    | )    |  |   | 73    
|Unrealized (loss) gain on investments, net of taxes of $0 and $2,393                                                  |      |                             | (284   | )    |  |   | 4,074 
|                                                                                                                      |      |                             |        |      |  |   |       
|Total other comprehensive (loss) income                                                                               |      |                             | (3,428 | )    |  |   | 5,700 
|                                                                                                                      |      |                             |        |      |  |   |       
|Comprehensive income                                                                                                  |      | $                           | 29,453 |      |  | $ | 47,546
|                                                                                                                      |      |                             |        |      |  |   |       

Accumulated other comprehensive income consisted of the following:



|                                              |  |                  |        |   |               |   |        |  
|--------------------------------------------- |  | ---------------- | ------ | - | ------------- | - | ------ | -
|(in thousands)                                |  | December 31,2005 |        |   | March 31,2006 |  
|Translation adjustment                        |  | $                | 4,766  |   |               | $ | 6,088  |  
|Minimum pension liability, net of tax         |  |                  | (7,329 | ) |               |   | (7,329 | )
|Fair value on hedging transaction, net of tax |  |                  | (533   | ) |               |   | (229   | )
|Unrealized gain on investments                |  |                  | 6,103  |   |               |   | 10,177 |  
|                                              |  |                  |        |   |               |   |        |  
|Total                                         |  | $                | 3,007  |   |               | $ | 8,707  |  
|                                              |  |                  |        |   |               |   |        |  



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

8. ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

In January 2004, the Company began entering into foreign exchange forward and option contracts that are designated and qualify as cash flow hedges under
SFAS No. 133 Accounting for Derivative Instruments and Hedging Activities. Changes in the fair value of the effective portion of these outstanding forward and option contracts are recognized in accumulated other comprehensive
income, or OCI. The Company reclassifies these amounts from OCI and recognizes them in earnings when either the forecasted transaction occurs or it becomes probable that the forecasted transaction will not occur.

The Company recognizes changes in the ineffective portion of a derivative instrument in earnings in the current period. Effectiveness for forward cash
flow hedge contracts is measured by comparing the fair value of the forward contract to the change in the forward value of the anticipated transaction. The fair market value of the hedged exposure is presumed to be the market value of the hedge
instrument when critical terms match. The Companys hedging portfolio had no ineffectiveness during 2005 and the first three months of 2006.

The Company has significant international revenues and expenses, and related receivables and payables, denominated in non-functional currencies in the Companys foreign subsidiaries. As a result, the Company purchased currency option
and forward contracts as cash flow hedges to help manage certain foreign currency exposures that can be identified and quantified. Pursuant to its foreign exchange risk hedging policy, the Company may hedge anticipated and recorded transactions, and
the related receivables and payables denominated in non-functional currencies, using forward foreign exchange rate contracts and foreign currency options. The Companys policy is to only use foreign currency derivatives to minimize the
variability in the Companys operating results arising from foreign currency exchange rate movements. The Company does not enter into derivative financial instruments for speculative or trading purposes. Hedging contracts are measured at fair
value using dealer quotes and mature within twelve months from their inception.

The Companys hedging contracts are intended to
protect against the impact of changes in the value of the U.S. dollar against other currencies and its impact on operating results. Accordingly, for forecasted transactions, non-U.S. dollar subsidiaries incurring expenses in foreign currencies hedge
U.S. dollar revenue contracts. The Company reclassifies OCI associated with hedges of foreign currency revenue into direct costs upon recognition of the forecasted transaction in the statement of operations. The Company expects that all values
reported in OCI at March 31, 2006 will be reclassified to earnings within twelve months. At March 31, 2006, the face amount of these foreign exchange contracts was $6.0 million.

The Company also enters into foreign currency forward contracts to hedge against changes in the fair value of monetary assets and liabilities denominated
in a non-functional currency. These derivative instruments are not designated as hedging instruments; therefore, the Company recognizes changes in the fair value of these contracts immediately in other income, net as an offset to the changes in the
fair value of the monetary assets or liabilities being hedged. At March 31, 2006, the face amount of these contracts was $12.8 million.

At March 31, 2006, the fair value of the Companys foreign currency derivative portfolio was a gain of $9,000 recorded as a component of prepaid expenses and other current assets and a loss of $0.4 million recorded as a component
of other accrued expenses.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

9. STOCK PLANS

The Company has an equity compensation plan (the Plan) under which the Company may grant stock options, restricted stock and other types of stock-based awards to its employees and directors. Total shares
authorized for grant under this plan are 21.3 million. The exercise price of each option granted is equal to the market price of the Companys common stock on the date of grant and the maximum exercise term of each option granted does not
exceed 10 years. Options are granted upon approval of the Compensation Committee of the Board of Directors and vest over various periods, as determined by the Compensation Committee at the date of the grant. The majority of the Companys
options vest ratably over a period of three or four years. The options expire on the earlier of ten years from the date of grant or within specified time limits following termination of employment, retirement or death. Shares are issued from the
Companys pool of authorized but unissued stock. The Company does not pay dividends on unexercised options. As of March 31, 2006, there were 6.1 million shares of common stock available for grant.

Adoption of Statement of Financial Accounting Standard No. 123 (R)

Prior to January 1, 2006, the Company accounted for its stock-based compensation plan in accordance with the intrinsic value provisions of Accounting Principles Board Opinion No. 25, Accounting for
Stock Issued to Employees, or APB No. 25, and provided the required proforma disclosures of SFAS No. 123, Accounting for Stock-Based Compensation. Accordingly, because all stock options granted had an exercise price equal
to the market value of the underlying common stock on the date of the grant, no expense related to employee stock options was recognized. Also, as the employee stock purchase plan was considered noncompensatory, no expense related to this plan was
recognized. However, expense related to the grant of restricted stock was recognized in the income statement under APB No. 25.

Effective January 1, 2006, the Company adopted SFAS No. 123 (revised) using the modified retrospective application method. Accordingly, stock-based compensation cost is measured at grant date, based on the fair value of the award,
and is recognized as expense over the employees requisite service period. In accordance with the modified retrospective application method, financial statements for all periods prior to January 1, 2006 have been adjusted to give effect to
the fair-value based method of accounting for all awards granted in fiscal years beginning after December 15, 1994. Amounts previously disclosed as proforma adjustments have been reflected in earnings for all prior periods.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

9. STOCK PLANS (continued)

The following table details the impact of retrospective application of SFAS No. 123 (revised) on previously reported amounts:



|                                             |  |          |           |                      |   |           |  
|-------------------------------------------- |  | -------- | --------- | -------------------- | - | --------- | -
|                                             |  | Restated |           | Aspreviouslyreported |  
|For the quarter ended March 31, 2005:        |  |          |           |                      |   |           |  
|                                             |  |         
|Total direct costs                           |  | $        | 130,028   |                      | $ | 128,368   |  
|Selling, general and administrative expenses |  |          | 57,883    |                      |   | 55,432    |  
|Income from operations                       |  |          | 43,714    |                      |   | 47,930    |  
|Income before provision for income taxes     |  |          | 44,894    |                      |   | 49,110    |  
|Net income                                   |  |          | 32,881    |                      |   | 35,621    |  
|                                             |  |         
|Net income per common share:                 |  |          |           |                      |   |           |  
|Basic                                        |  |          | 0.29      |                      |   | 0.31      |  
|Diluted                                      |  |          | 0.29      |                      |   | 0.31      |  
|                                             |  |         
|Net cash provided by operating activities    |  |          | 47,042    |                      |   | 47,412    |  
|Net cash provided by financing activities    |  |          | 4,688     |                      |   | 4,318     |  
|                                             |  |         
|At December 31, 2005:                        |  |          |           |                      |   |           |  
|                                             |  |         
|Long-term deferred tax assets                |  |          | 20,080    |                      |   | 11,628    |  
|Total assets                                 |  |          | 1,159,600 |                      |   | 1,151,148 |  
|Paid-in capital                              |  |          | 395,452   |                      |   | 340,451   |  
|Retained earnings                            |  |          | 346,417   |                      |   | 396,068   |  
|Deferred compensation                        |  |          |          |                      |   | (3,102    | )
|Total shareholders equity                   |  |          | 750,676   |                      |   | 742,224   |  

Equity Compensation Plan

For the three-month periods ended March 31, 2005 and 2006, stock-based compensation cost totaled $3.6 million and $3.7 million, respectively. The
associated future income tax benefit recognized was $1.3 million for each of the three-month periods ended March 31, 2005 and 2006.

For the three-month periods ended March 31, 2005 and 2006, the amount of cash received from the exercise of stock options was $2.0 million and $5.6 million, respectively. In connection with these exercises, the actual excess tax
benefit realized for the tax deductions by the Company for the three-month periods ended March 31, 2005 and 2006 were $0.2 million and $1.6 million, respectively.



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PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

9. STOCK PLANS (continued)

A summary of the option activity under the Plan as of March 31, 2006, and changes during the three months then ended, is presented below:



|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       
|--------------------------------------------------- |  | ------ | - |  | ----------------------------- | ----- | ---------------------------------------- | ---- | ----------------------- | - | ------
|(shares and aggregate intrinsic value in thousands) |  | Shares |   |  | Weighted-AverageExercisePrice |       | Weighted-AverageRemainingContractualTerm |      | AggregateIntrinsicValue
|Outstanding at January 1, 2006                      |  | 6,487  |   |  | $                             | 18.05 |                                          |      |                         |   |       
|Granted                                             |  | 1,370  |   |  |                               | 34.61 |                                          |      |                         |   |       
|Exercised                                           |  | (373   | ) |  |                               | 14.98 |                                          |      |                         |   |       
|Forfeited                                           |  | (47    | ) |  |                               | 21.86 |                                          |      |                         |   |       
|Expired                                             |  | (3     | ) |  |                               | 13.17 |                                          |      |                         |   |       
|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       
|Outstanding at March 31, 2006                       |  | 7,434  |   |  |                               | 21.23 |                                          | 8.16 |                         | $ | 99,466
|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       
|Exercisable at March 31, 2006                       |  | 2,713  |   |  | $                             | 14.89 |                                          | 6.72 |                         | $ | 53,491
|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       
|Vested or expected to vest at March 31, 2006        |  | 6,544  |   |  | $                             | 20.74 |                                          | 8.06 |                         | $ | 90,751
|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       
|Shares reserved for future options                  |  | 6,143  |   |  |                               |       |                                          |      |                         |   |       
|                                                    |  |        |   |  |                               |       |                                          |      |                         |   |       

All options granted during the three months ended March 31, 2005 and 2006 were granted with
an exercise price equal to the fair value of the Companys common stock at the grant date. The weighted-average grant date fair value of options granted for the three-month periods ended March 31, 2005 and 2006 was $10.56 and $15.96,
respectively. The fair value of options granted during the three-month periods ended March 31, 2005 and 2006 was $1.0 million and $21.9 million, respectively. The total intrinsic value of options (which is the amount by which the stock price
exceeded the exercise price of the options on the date of exercise) exercised during the three-month periods ended March 31, 2005 and 2006 was $1.5 million and $7.0 million, respectively.

A summary of the status of nonvested options as of March 31, 2006, and changes during the three months then ended, is presented below:



|                              |  |         |   |  |                                     |      
|----------------------------- |  | ------- | - |  | ----------------------------------- | -----
|Non-vested options            |  | Options |   |  | Weighted-AverageGrantDate FairValue
|Non-vested at January 1, 2006 |  | 3,744   |   |  | $                                   | 10.09
|Granted                       |  | 1,370   |   |  |                                     | 15.96
|Vested                        |  | (346    | ) |  |                                     | 7.17 
|Forfeited                     |  | (47     | ) |  |                                     | 10.78
|                              |  |         |   |  |                                     |      
|Non-vested at March 31, 2006  |  | 4,721   |   |  | $                                   | 12.00
|                              |  |         |   |  |                                     |      



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

9. STOCK PLANS (continued)

As of March 31, 2006, the total unrecognized compensation cost related to non-vested stock options was approximately $40.5 million. This cost is
expected to be recognized over a weighted-average period of 2.6 years in accordance with the vesting periods of the options. The total fair value of shares vested during the quarters ended March 31, 2005 and 2006, was $3.7 million and $2.5
million, respectively.

The fair value of each option award is estimated on the grant date using the Black-Scholes option-pricing model.
The following table indicates the assumptions used in estimating fair value for the quarters ended March 31, 2005 and 2006.



|                            |  |                             |  |      
|--------------------------- |  | --------------------------- |  | -----
|                            |  | Three Months EndedMarch 31,
|                            |  | 2005                        |  | 2006 
|Expected term (years)       |  | 5.00                        |  | 4.50 
|Dividend yield (%)          |  | 0.00                        |  | 0.32 
|Risk-free interest rate (%) |  | 4.18                        |  | 4.36 
|Expected volatility (%)     |  | 52.55                       |  | 51.39

The expected term represents an estimate of the period of time options are expected to remain
outstanding and is based on historical exercise and termination data. The dividend yield is based on the most recent dividend payment over the market price of the stock at the beginning of the period. The risk-free interest rate is based on the rate
for zero-coupon United States Treasury bonds at the date of grant with a term that approximates the expected term of the options. Expected volatilities are based on the historical volatility of the Companys stock price over a period equal to
the expected term of the options.

Restricted Stock

The Company awards shares of restricted stock to members of the senior management team and the Companys non-employee directors. The shares awarded to members of the senior management team are subject to a
three-year linear vesting schedule with one-third of the grant vesting on each of the first, second and third anniversaries of the grant date. The Company determines compensation cost based on the market value of shares on the date of grant, and
records compensation expense on these shares on a straight-line basis over the three-year vesting period. The restricted stock shares granted to the Companys non-employee directors vest over a three-year period, with ninety percent of the
shares vesting on the first anniversary of the grant and five percent vesting on each of the second and third anniversary dates. The Company records compensation expense on these shares according to this vesting schedule. During the three months
ended March 31, 2005 and 2006, the Company awarded 25,280 and 16,512 shares of restricted stock, respectively, with a fair value of $0.5 million for both periods to non-employee directors. The weighted average fair value of each share was
$20.57 and $31.47 for the three months ended March 31, 2005 and 2006, respectively. Total compensation expense recorded during the three months ended March 31, 2005 and 2006 for restricted stock shares granted was $0.1 million and $0.4
million, respectively. The associated future income tax benefit recognized was $0 and $0.2 million for the three months ended March 31, 2005 and 2006, respectively. As of March 31, 2006, the total unrecognized compensation cost related to
156,040 shares of non-vested restricted stock was approximately $3.2 million. This cost is expected to be recognized over a weighted-average period of 2.4 years in accordance with the vesting periods of the restricted stock.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

9. STOCK PLANS (continued)

Employee Stock Purchase Plan

The Board of Directors has reserved 2.5 million shares of
the Companys common stock for issuance under the Employee Stock Purchase Plan (the ESPP). The ESPP has two six-month offering periods (each an Offering Period) annually, beginning January 1 and July 1,
respectively. Eligible employees can elect to make payroll deductions from 1% to 15% of their base pay during each payroll period of an Offering Period. Special limitations apply to eligible employees who own 5% or more of the outstanding common
stock of the Company. In addition, in accordance with the ESPP and beginning with the first six-month Offering Period in 2006, the Board of Directors set a limit on the total payroll deductions for each Offering Period of $4.0 million. None of the
contributions made by eligible employees to purchase the Companys common stock under the ESPP are tax-deductible to the employees. During 2005, the purchase price was 85%, and beginning January 1, 2006 it is 90%, of the lesser of
(a) the reported closing price of the Companys common stock for the first day of the Offering Period or (b) the reported closing price of the common stock for the last day of the Offering Period. As of March 31, 2006, there were
0.5 million shares of common stock available for purchase by ESPP participants. If approved by the shareholders at the annual meeting in May 2006, an additional 2.0 million shares will be added to the ESPP.

The fair value of each ESPP share is estimated using the Black-Scholes option-pricing model. The following table indicates the assumptions used in
estimating fair value for the quarters ended March 31, 2005 and 2006.



|                            |  |                             |  |      
|--------------------------- |  | --------------------------- |  | -----
|                            |  | Three Months EndedMarch 31,
|                            |  | 2005                        |  | 2006 
|Expected term (years)       |  | 0.50                        |  | 0.50 
|Dividend yield (%)          |  | 0.00                        |  | 0.32 
|Risk-free interest rate (%) |  | 4.18                        |  | 4.37 
|Expected volatility (%)     |  | 52.55                       |  | 40.38

The compensation costs for the ESPP as determined based on the fair value of the discount and
option feature of the underlying ESPP grant, consistent with the method of SFAS No. 123, were $0.6 million and $0.4 million for the three months ended March 31, 2005 and 2006, respectively. The income tax benefit recognized was $0.2
million and $0.1 million for the three-month periods ended March 31, 2005 and 2006, respectively. As of March 31, 2006, the total unrecognized compensation cost related to ESPP shares for the current Offering Period was approximately $0.4
million. This cost is expected to be recognized over the remaining three months of the Offering Period.

For the three-month periods ended
March 31, 2005 and 2006, the value of stock issued for ESPP purchases was $2.8 million and $3.6 million, respectively. In connection with disqualifying dispositions, the tax benefits realized by the Company for the three-month periods ended
March 31, 2005 and 2006 were $0.1 million for both periods.

During the three months ended March 31, 2005 and 2006, employees
contributed $2.1 million and $1.9 million, respectively, to the ESPP.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

10. INCOME TAXES

The effective tax rates for the first quarter of 2005 and 2006 were 26.8% and 34.5%, respectively. The effective tax rate for 2005 was positively impacted by a $3.7 million reduction in the valuation allowance
provided for the deferred tax asset relating to capital loss carryforwards. This reduction was a result of the utilization of capital loss carryforwards that previously had a valuation allowance recorded against them, as well as the recognition of
capital gains for the SurroMed transaction and a dapoxetine new drug application milestone payment from ALZA Corporation received in March 2005. This reduction in the valuation allowances decreased the effective tax rate by 7.5%.

11. PENSION PLAN

Pension costs are determined under
the provisions of SFAS No. 87, Employers Accounting for Pensions, and related disclosures are determined under the provisions of SFAS No. 132 (revised 2003), Employers Disclosures about Pensions and other
Postretirement Benefits.

The Company has a separate contributory defined benefit plan for its qualifying United Kingdom employees
employed by the Companys U.K. subsidiaries. This pension plan was closed to new participants as of December 31, 2002. The benefits for the U.K. Plan are based primarily on years of service and average pay at retirement. Plan assets
consist principally of investments managed in a mixed fund.

Pension costs for the U.K. Plan included the following components:



|                                        |      |                             |      |      |  |   |      |  
|--------------------------------------- | ---- | --------------------------- | ---- | ---- |  | - | ---- | -
|(in thousands)                          |      | Three Months EndedMarch 31, |     
|                                        | 2005 |                             |      | 2006 | 
|Service cost                            |      | $                           | 304  |      |  | $ | 424  |  
|Interest cost                           |      |                             | 525  |      |  |   | 529  |  
|Expected return on plan assets          |      |                             | (438 | )    |  |   | (485 | )
|Amortization of transition asset amount |      |                             | (2   | )    |  |   |     |  
|Amortization of net loss                |      |                             | 155  |      |  |   | 174  |  
|                                        |      |                             |      |      |  |   |      |  
|Net periodic pension cost               |      | $                           | 544  |      |  | $ | 642  |  
|                                        |      |                             |      |      |  |   |      |  

For the three months ended March 31, 2006, the Company made contributions of $1.8
million and anticipates contributing an additional $0.8 million to fund this plan during the remainder of 2006.

12. COMMITMENTS AND
CONTINGENCIES

The Company currently maintains insurance for risks associated with the operation of its business, provision of
professional services, and ownership of property. These policies provide coverage for a variety of potential losses, including loss or damage to property, bodily injury, general commercial liability, professional errors and omissions and medical
malpractice. The Companys retentions and deductibles associated with these insurance policies range from $0.25 million to $1.0 million.

The Company is self-insured for health insurance for employees located within the United States, but maintains stop-loss insurance on a claims made basis for expenses in excess of $0.25 million per member per year. As of
December 31, 2005 and March 31, 2006, the Company maintained a reserve of approximately $5.0 million and $5.9 million, respectively, included in other accrued expenses on the consolidated condensed balance sheets, to cover open claims and
estimated claims incurred but not reported.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

12. COMMITMENTS AND CONTINGENCIES (continued)

In September 2005, the Company became a limited partner in Bay City Capital Fund IV, L.P., a venture capital fund. The Company has committed to invest up
to a maximum of $10.0 million in the Bay City Fund IV. Capital calls through March 31, 2006 totaled $2.2 million. The Companys capital commitment will expire in June 2009. No capital call can exceed 20% of the Companys aggregate
capital commitment. Thus, the Company anticipates its aggregate investment will be made through a series of future capital calls over the next several years. For further details, see Note 6 to Notes to Consolidated Condensed Financial Statements in
this Report on Form 10-Q.

In November 2003, the Company became a limited partner in A. M. Pappas Life Science Ventures III, L.P., a
venture capital fund. The Company has committed to invest up to a maximum of $4.75 million. The first capital call was made in January 2005. Capital calls through March 31, 2006 totaled $0.7 million. The Companys capital commitment will
expire in May 2009. For further details, see Note 6 to Notes to Consolidated Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2005.

In March 2005, the Company entered into a lease for additional space in Austin, Texas for its Phase II through IV operations. The additional space is
adjacent to the Companys new Phase I clinic. To induce the Company to enter into the lease for additional space, the landlord agreed to deposit $5.5 million into an escrow account to be used to reimburse the Company for the rent and other
expenses paid by the Company under the lease for the existing facilities after July 1, 2005 and the costs and expenses to sublease those facilities. The Company accounts for the amount to be received from the escrow account as a lease incentive
that will be recognized in income over the life of the ten-year term of the lease. The Company submitted the first request for distribution of funds from the escrow account in the second half of 2005, but the landlord objected to the distribution of
any funds to the Company. In April 2006, the Company and the landlord agreed to settle this dispute. Under the terms of the agreement, the Company received $4.3 million in full and final settlement of all claims. As a result, the Company reduced the
escrow account balance to $4.3 million and included the amount in prepaid expenses and other current assets on the March 31, 2006 balance sheet. The $4.3 million was collected on April 7, 2006.

In February 2005, the Company acquired substantially all of SurroMeds assets related to its biomarker business. As part of this acquisition, the
Company agreed to guarantee repayment of up to $1.5 million under a SurroMed bank loan with a maturity date of December 31, 2006. In February 2006, this amount was reduced to $0.8 million and SurroMed pledged a $0.5 million certificate of
deposit to secure payment of the bank loan. In accordance with the requirements of FASB Statement No. 5, Accounting for Contingencies, as clarified by FASB Interpretation No. 45, the Company has recorded a liability in the
amount of $0.03 million as of March 31, 2006 for the estimated fair value of the net obligation it has assumed under this guarantee.

In January 2005, the Company acquired approximately 7.5 acres of property located in downtown Wilmington, North Carolina, on which the Company is constructing a new headquarters building. The total purchase price for the land was
approximately $2.8 million. In connection with the sale of the 7.5-acre tract, the seller, Almont Shipping Company, refinanced existing liens on the property with the proceeds of an $8.0 million loan from Bank of America. This loan is secured by a
lien on substantially all of Almonts assets, including an approximately 30-acre tract of land adjacent to the tract the Company acquired. This loan is also secured by a guarantee from the Company. In accordance with the requirements of FASB
Statement No. 5, Accounting for Contingencies, as clarified by FASB Interpretation No. 45, the Company has recorded a liability in the amount of $0.8 million for the estimated fair value of the obligation the Company assumed
under this guarantee. In March 2006, the loan matured and Almont filed a petition for relief under Chapter 11 of the United States Bankruptcy Code. In early April 2006, Bank of America demanded payment of the loan under the Companys guarantee.
The Company subsequently purchased the secured note and all related loan documents for approximately $7.5 million.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

12. COMMITMENTS AND CONTINGENCIES (continued)

In April 2003, the Company made an equity investment in Chemokine Therapeutics Corp. In connection with this investment, Chemokine granted the Company an
exclusive option to license a proprietary peptide. In April 2006, Chemokine and the Company entered into an agreement under which Chemokine will re-acquire the stock and the licensing rights for the proprietary peptide. The Company will continue to
hold a warrant to purchase Chemokine stock, as well as an interest in the peptide through potential future milestone payments and a share of net sales up to a specified dollar limit.

In the fourth quarter of 2003, the Company acquired from Eli Lilly & Company the patents for the compound dapoxetine for development in the
field of genitourinary disorders. This compound is currently licensed to ALZA Corporation, a subsidiary of Johnson & Johnson, and is being developed for premature ejaculation. Under the terms of the agreement with Lilly, the Company paid
Lilly $65.0 million in cash and agreed to pay Lilly a royalty of 5% on annual net sales of dapoxetine in excess of $800 million. ALZA submitted a new drug application for dapoxetine to the FDA in December 2004. On October 26, 2005, ALZA
received a not approvable letter from the FDA on its new drug application. Under the Companys license agreement with ALZA, the Company is entitled to receive future payments if regulatory milestones are achieved and royalty payments if
dapoxetine is approved for sale. ALZA stated that it plans to address the questions raised in the FDA letter, continue the global development program and resubmit the NDA. However, the Company does not know if or when ALZA will resubmit the NDA or
obtain regulatory approval for dapoxetine in the United States or any other country and, as such, does not know if it will receive any future milestone or royalties under its agreement with ALZA.

In July 2005, the Company entered into a collaboration with Takeda Pharmaceutical Company Limited under which it acquired the development and
commercialization rights to all human dipeptidyl peptidase IV, or DPP4, inhibitors previously granted to the Company under the collaboration agreement between PPD and Syrrx. Under the agreement, Takeda paid the Company a $15.0 million up-front
payment in the third quarter of 2005 and assumed the responsibility for the development and commercialization of the DPP4 inhibitors and future costs associated with those activities. Takeda commenced Phase III trials on the lead DPP4 candidate in
January 2006 and, in March 2006, the Company earned a $15.0 million milestone payment upon the dosing of the twentieth patient in the Phase III studies. The Company will also be entitled to receive additional potential milestone payments of up to an
aggregate of $70.5 million upon the occurrence of specified clinical and regulatory milestones, and if a DPP4 product is ever approved for sale, royalties on net sales as well as sales-based milestones up to an aggregate of $33.0 million upon the
achievement of specified sales thresholds. The Company does not know if or when Takeda will obtain regulatory approval for a DPP4 inhibitor in the United States or any other country. As a result, the Company does not know if it will ever receive any
further DPP4 milestone payments or royalties.

In August 2005, the Company amended its September 2004 royalty stream purchase agreement
with Accentia. Under the terms of the amended agreement, the Company agreed to provide specified clinical development services to Accentia in connection with two pivotal Phase III trials for SinuNase® for the treatment of chronic sinusitis. In
exchange for providing these services, Accentia agreed to pay the Company a royalty equal to 14% of the net sales of specified SinuNase products if approved for sale by the FDA. The Companys obligation to provide Phase III clinical development
services expired on December 31, 2005. In April 2006, the United States FDA granted SinuNase fast-track status. Accentia is planning to start the Phase III trials and the Company is in discussions with Accentia regarding a further amendment to
this agreement.



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##### Table of Contents

PHARMACEUTICAL PRODUCT DEVELOPMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(unaudited)

12. COMMITMENTS AND CONTINGENCIES (continued)

As of March 31, 2006, the Company had liabilities of $7.6 million for certain unsettled matters in connection with tax positions taken on the
Companys tax returns, including interpretations of applicable income tax laws and regulations. The Company establishes a reserve when, despite managements belief that the Companys tax returns reflect the proper treatment of all
matters, the treatment of certain tax matters is likely to be challenged. Significant judgment is required to evaluate and adjust the reserves in light of changing facts and circumstances. Further, a number of years may lapse before a particular
matter for which the Company has established a reserve is audited and finally resolved. While it is difficult to predict the final outcome or the timing of resolution of any particular tax matter, management believes that the reserves of $7.6
million reflect the probable outcome of known tax contingencies. The Company believes it is unlikely that the resolution of these matters will have a material adverse effect on the Companys financial position or results of operations.

Under most of the agreements for Development services, the Company agrees to indemnify and defend the sponsor against third-party claims
based on the Companys negligence or willful misconduct. Any successful claims could have a material adverse effect on the Companys financial condition, results of operations and future prospects.

In the normal course of business, the Company is a party to various claims and legal proceedings. In one proceeding currently pending against the
Company, a former client is claiming the Company breached its contract and committed tortious acts in conducting a clinical trial. That former client is claiming that it does not owe the Company the remaining amounts due under the contract and is
seeking other damages from the Companys alleged breach of contract and tortious acts. The Company records a reserve for pending and threatened litigation matters when an adverse outcome is probable and the amount of the potential liability is
reasonably estimable. Although the ultimate outcome of these matters is currently not determinable, management of the Company, after consultation with legal counsel, does not believe that the resolution of these matters will have a material effect
upon the Companys financial condition, results of operations or cash flows.

13. BUSINESS SEGMENT DATA

Revenue by principal business segment is separately stated in the consolidated condensed financial statements. Income from operations and identifiable
assets by principal business segment were as follows:



|                        |      |                             |           |               |   |          
|----------------------- | ---- | --------------------------- | --------- | ------------- | - | ---------
|(in thousands)          |      | Three Months EndedMarch 31,
|                        | 2005 |                             | 2006     
|Income from operations: |      |                             |           |               |   |          
|Development             |      | $                           | 37,831    |               | $ | 48,598   
|Discovery Sciences      |      |                             | 5,883     |               |   | 12,330   
|                        |      |                             |           |               |   |          
|Total                   |      | $                           | 43,714    |               | $ | 60,928   
|                        |      |                             |           |               |   |          
|                        |      |                            
|                        |      | December 31,2005            |           | March 31,2006
|Identifiable assets:    |      |                             |           |               |   |          
|Development             |      | $                           | 1,061,038 |               | $ | 1,116,589
|Discovery Sciences      |      |                             | 98,562    |               |   | 116,087  
|                        |      |                             |           |               |   |          
|Total                   |      | $                           | 1,159,600 |               | $ | 1,232,676
|                        |      |                             |           |               |   |          



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##### Table of Contents

Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations

The
following discussion and analysis is provided to increase understanding of, and should be read in conjunction with, our consolidated condensed financial statements and accompanying notes. In this discussion, the words PPD,
we, our and us refer to Pharmaceutical Product Development, Inc., together with its subsidiaries where appropriate.

Forward-looking Statements

This Form 10-Q contains forward-looking statements within the meaning of the federal securities
laws. These statements relate to future events or our future financial performance. Forward-looking statements include statements concerning plans, objectives, goals, strategies, future events or performance, expectations, predictions, assumptions
and other statements that are not statements of historical facts. In some cases, you can identify forward-looking statements by terminology such as might, will, should, expect, plan,
anticipate, believe, estimate, predict, intend, potential or continue, or the negative of these terms, or other comparable terminology. These statements are only
predictions. These statements rely on a number of assumptions and estimates that could be inaccurate and that are subject to risks and uncertainties. Actual events or results might differ materially due to a number of factors, including those listed
in Potential Volatility of Quarterly Operating Results and Stock Price below and in Risk Factors included in our Annual Report on Form 10-K for the year ended December 31, 2005. Although we believe that the expectations
reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.

Company Overview

We are a leading global contract research organization providing drug discovery and development services,
post-approval expertise and compound partnering programs. Our clients and partners include pharmaceutical, biotechnology, medical device and government organizations. Our corporate mission is to help clients and partners maximize returns on their
research and development investments and accelerate the delivery of safe and effective therapeutics to patients.

We have been in the drug
development business for more than 20 years. Our development services include preclinical programs and Phase I to Phase IV clinical development services. We have extensive clinical trial experience across a multitude of therapeutic areas and various
parts of the world, including regional, national and global studies. In addition, for marketed drugs, biologics and devices, we offer support services such as product launch services, medical information, patient compliance programs, patient and
disease registry programs, product safety and pharmacovigilance, Phase IV monitored studies and prescription-to-over-the-counter programs.

With offices in 27 countries and more than 8,400 professionals worldwide, we have provided services to 46 of the top 50 pharmaceutical companies in the world as ranked by 2004 healthcare research and development spending. We also work with
leading biotechnology and medical device companies and government organizations that sponsor clinical research. We believe that we are one of the worlds largest providers of drug development services to pharmaceutical, biotechnology and
medical device companies and government organizations based on 2005 annual net revenues generated from contract research organizations.

Building on our outsourcing relationship with pharmaceutical and biotechnology clients, we established our discovery services business in 1997. This business primarily focuses on preclinical evaluations of anticancer and diabetes therapies,
and on compound development and commercialization collaborations. We have developed a risk-sharing research and development model to help pharmaceutical and biotechnology clients develop compounds. Through collaborative arrangements based on this
model, we assist our clients by sharing the risks and potential rewards of the development and commercialization of drugs at various stages of development. In February 2005, we completed the acquisition of a biomarker business. The acquisition
expanded our discovery sciences business by adding biomarker discovery and patient sample analysis capability to the services we offer.

We
believe that our integrated drug discovery and development services offer our clients a way to identify and develop drug candidates more quickly and cost-effectively. We use our proprietary informatics technology to support these development
services. In addition, with global infrastructure, we are able to accommodate the multinational drug discovery and development needs of our customers. As a result of having core areas of expertise in discovery and development, we provide integrated
services across the drug development spectrum. For more detailed information on PPD, see our Annual Report on Form 10-K for the year ended December 31, 2005.



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##### Table of Contents

Executive Overview

Our revenues are dependent on a relatively small number of industries and clients. As a result, we closely monitor the market for our services. For a discussion of the trends affecting our market, see Item 1.
BusinessTrends Affecting the Drug Discovery and Development Industry in our Annual Report on Form 10-K for the year ended December 31, 2005. Although we cannot forecast the demand for CRO services in the remainder of 2006, we
believe the traditional market drivers for our industry are intact. In the first quarter of 2006, the market opportunity was among the most robust that we have seen over the past 10 years. The first quarter of 2006 marked a new high for our global
Phase II through IV business from a proposal volume standpoint. We submitted a total of $1.45 billion in new proposals to clients at an average price of $5.0 million per proposal. For the remainder of the year, we plan to continue to focus on
delivering timely, high quality services to our clients, as well as on our business development efforts in our core markets. We have historically conducted a significant amount of government-sponsored research and in July 2005 we were awarded a new
five-year contract, with an aggregate value of $245 million, to provide comprehensive research management and support to the National Institute of Allergy and Infectious Disease, or NIAID, Division of AIDS. NIAID is a component of the National
Institutes of Health, an agency of the U.S. Department of Health and Human Services. We plan to continue our efforts to win new business in this significant market.

We believe there are specific opportunities for continued growth in certain areas of our business. Our North American Phase II through IV unit had strong revenue growth over the first quarter of 2005 and we also hired
50% more people in North America Phase II through IV than we did in the first quarter of 2005. Our Latin American and European Phase II through IV units had strong operating and financial performance in 2005 and the first quarter of 2006 and we
believe there should be opportunities to continue growth in these regions. We continued to experience solid demand for our Phase I clinic services in Austin, Texas. We believe our state-of-the-art clinic and ability to service large, complex studies
should allow us to continue winning business in this arena and enable us to capitalize on our expanded Phase I facilities. Similarly, in 2005 and the first quarter of 2006, the demand for our GMP services increased and we are planning expansions and
new services for our GMP laboratory facilities over the next two years. We have also continued to invest in scientific equipment for our bioanalytical laboratory and we added seven new bioanalytical clients during the first quarter. Our global
central lab turned in a solid performance in the first quarter of 2006 and we currently expect more growth in revenue and earnings there throughout the remainder of 2006. While our central lab had historically focused primarily on lipids and
metabolic studies, we are expanding service offerings, especially in the infectious disease area.

We review various metrics to evaluate
our financial performance, including period-to-period changes in backlog, new authorizations, cancellation rates, revenue, margins and earnings. In the first quarter of 2006, we had new authorizations of $468.8 million, an increase of 41% over the
first quarter of 2005. The cancellation rate for the first quarter of 2006 was 19% compared to 17% in the full year of 2005. On a net basis, authorizations were up 35% in the first quarter of 2006 compared to the same period in 2005. Backlog grew to
$1.9 billion as of March 31, 2006, up 41% over March 31, 2005. Backlog by client type as of March 31, 2006 was 50% pharmaceutical, 33% biotech and 17% government/other as compared to 54% pharmaceutical, 36% biotech and 10%
government/other for the first quarter of 2005. Net revenue by client type for the quarter ended March 31, 2006 was 58% pharmaceutical, 32% biotech and 10% government/other compared to 63% pharmaceutical, 28% biotech and 9% government/other for
the first quarter of 2005. Top therapeutic areas by net revenue for the quarter ended March 31, 2006 were anti-infective/anti-viral, oncology, endocrine/metabolic, central nervous system and circulatory/cardiovascular. For a detailed discussion
of our revenue, margins, earnings and other financial results for the quarter ended March 31, 2006, see Results of Operations  Three Months Ended March 31, 2005 versus Three Months Ended March 31, 2006 below.

Capital expenditures for the three months ended March 31, 2006 totaled approximately $27.9 million. These capital expenditures were
for construction costs for our new corporate headquarters building and related parking facility in Wilmington, North Carolina, computer software and hardware, scientific equipment for our Phase I and laboratory units, and various building
improvements in our Phase II-IV facilities. We made these investments to support our growing businesses and to improve the efficiencies of our operations. For the remainder of 2006, we



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expect to spend between $150 million and $155 million for capital expenditures. In addition to the $85 million expected to be spent in the remainder of 2006
for the ongoing construction of our new headquarters building and related parking facility in Wilmington, North Carolina and the $5.8 million to complete the construction of our new building in Scotland, the majority of the remaining forecasted
capital expenditures is related to up-fit costs for facilities, information technology related expenditures and additional lab equipment.

As of March 31, 2006, we had $336.8 million of cash, cash equivalents and short-term investments, and we generated $28.5 million cash from operations in the first quarter. This does not include the $15.0 million that we expect
to receive from Takeda in the second quarter of 2006 in connection with the milestone payment that we earned in the first quarter of 2006. Because of our cash position and free cash flow, in late 2005, our Board of Directors declared a special
one-time cash dividend and adopted a policy to pay annual cash dividends. The annual cash dividend policy and the payment of future cash dividends are not guaranteed and are subject to the discretion of and continuing determination by our Board of
Directors that the policy remains in the best interests of our shareholders and in compliance with applicable laws.

With
regards to our Discovery Sciences segment, our preclinical oncology facility had a solid performance in 2005 and the first quarter of 2006, and is now offering models to support diabetes drug development. Our biomarker discovery unit incurred a loss
in the first quarter of 2006, but we have added business development resources in an effort to generate additional sales of our biomarker services and improve future performance. Our Discovery Sciences segment also includes our compound partnering
arrangements. These collaborations allow us to leverage our resources and global drug development expertise to create new opportunities for growth and to share the risks and potential rewards of drug development with our clients. For a background
discussion of our compound partnering arrangements, see Item 1. Business  Our Services  Our Discovery Sciences Group  Compound Partnering Programs in our Annual Report on Form 10-K for the year ended December 31,
2005.

We have continued to make significant progress on the dipeptidyl peptidase, or DPP4, collaboration with Takeda
Pharmaceutical Company Limited. In January 2006, Takeda announced that the lead DPP4 candidate entered Phase III clinical development, and in March 2006, we earned a $15.0 million milestone payment on the dosing of the twentieth patient in the Phase
III trial. We will also be entitled to receive other potential development milestone payments upon the occurrence of specified clinical and regulatory milestones, and if a DPP4 product is ever approved for sale, royalties on net sales as well as
sales-based milestones upon the achievement of specified sales thresholds. Our agreement with Takeda also provides that we will be the sole provider of clinical and bioanalytical services for Phase II and Phase III trials of DPP4 inhibitors
conducted in the United States and Europe. We do not know if or when Takeda will obtain regulatory approval for a DPP4 inhibitor in the United States or any other country. As a result, we do not know if we will ever receive any further DPP4
milestone payments or royalties.

We recently entered into an agreement with Chemokine to sell our Chemokine preferred stock
and to surrender our license rights to Chemokines proprietary peptide, CTCE-0214. We will continue to hold a warrant to purchase Chemokine common stock and a financial interest in this peptide through potential future milestone payments and a
share of net sales up to a specified dollar limit.

We are committed to our compound partnering strategy and believe it is an
innovative way to use our cash resources and drug development expertise to drive mid- to long-term shareholder value. For the remainder of 2006, we will continue to work on our existing collaborations and evaluate new potential opportunities in this
area.

Acquisitions

In
February 2005, we completed our acquisition of substantially all of the assets of SurroMed, Inc.s biomarker business. In exchange for the assets, we surrendered to SurroMed for cancellation all shares of preferred stock of SurroMed we held. As
additional consideration for the acquisition, we assumed approximately $3.4 million of SurroMed liabilities under capital leases and additional operating liabilities, and guaranteed repayment of up to $1.5 million under a SurroMed bank loan. We
recognized a pre-tax gain on the exchange of assets of $5.1 million. The biomarker business is part of the Discovery Sciences segment. For further details regarding this acquisition, see Note 2 to the Notes to Consolidated Condensed Financial
Statements.



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New Business Authorizations and Backlog

New business authorizations, which are sales of our services, are reflected in backlog when we enter into a contract or letter of intent or receive
a verbal commitment. Authorizations can vary significantly from quarter to quarter and contracts generally have terms ranging from several months to several years. We recognize revenue on these authorizations as services are performed. Our new
authorizations for the three months ended March 31, 2005 and 2006 were $331.3 million and $468.8 million, respectively.

Our backlog consists of new business authorizations for which the work has not started but is anticipated to begin in the near future and contracts in process that have not been completed. As of March 31, 2006, the remaining
duration of the contracts in our backlog ranged from one month to 162 months with an average duration of 34.3 months. Amounts included in backlog represent future revenue and exclude revenue that we have previously recognized. Once work begins on a
project included in backlog, we recognize net revenue over the life of the contract as services are performed. Our backlog as of March 31, 2005 and 2006 was $1.35 billion and $1.90 billion, respectively. For various reasons discussed in
Item 1. Business  Backlog in our Annual Report on Form 10-K for the year ended December 31, 2005, our backlog might never be recognized as revenue and is not necessarily a meaningful predictor of future performance.

Results of Operations

Revenue
Recognition

We record revenue from contracts, other than time-and-material contracts, on a proportional performance basis in our
Development segment. To measure performance on a given date, we compare direct costs incurred through that date to estimated total contract direct costs. We believe this is the best indicator of the performance of the contractual obligations because
the costs relate primarily to the amount of labor incurred to perform the service. Changes to the estimated total contract direct costs result in a cumulative adjustment to the amount of revenue recognized. For time-and-material contracts in both
our Development and Discovery Sciences segments, we recognize revenue as hours are worked, multiplied by the applicable hourly rate. For our Phase I and laboratory businesses, we recognize revenue from unitized contracts as subjects or samples are
tested, multiplied by the applicable unit price.

In connection with the management of multi-site clinical trials, we pay, on behalf of our
customers, fees to investigators and test subjects as well as other out-of-pocket costs for items such as travel, printing, meetings and couriers. Our clients reimburse us for these costs. As required by Emerging Issues Task Force 01-14, amounts
paid by us as a principal for out-of-pocket costs are included in direct costs as reimbursable out-of-pocket expenses and the reimbursements we receive as a principal are reported as reimbursed out-of-pocket revenue. In our statements of operations,
we combine amounts paid by us as an agent for out-of-pocket costs with the corresponding reimbursements, or revenue, we receive as an agent. During the three months ended March 31, 2005 and 2006, fees paid to investigators and other fees we
paid as an agent and the associated reimbursements were approximately $69.8 million and $71.7 million, respectively.

Most of the contracts
for our Development segment can be terminated by our clients either immediately or after a specified period following notice. These contracts typically require payment to us of expenses to wind down a study, fees earned to date and, in some cases, a
termination fee or some portion of the fees or profit that we could have earned under the contract if it had not been terminated early. Therefore, revenue recognized prior to cancellation does not generally require a significant adjustment upon
cancellation. If we determine that a loss will result from the performance of a fixed-price contract, the entire amount of the estimated loss is charged against income in the period in which such determination is made.

The Discovery Sciences segment also generates revenue from time to time in the form of milestone payments in connection with licensing of compounds. We
only recognize milestone payments as revenue if the specified milestone is achieved and accepted by the customer, and continued performance of future research and development services related to that milestone are not required.



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Recording of Expenses

We generally record our operating expenses among the following categories:



| |  |  | direct costs;
| | - |  | -------------



| |  |  | research and development;
| | - |  | -------------------------



| |  |  | selling, general and administrative;
| | - |  | ------------------------------------



| |  |  | depreciation and
| | - |  | ----------------



| |  |  | amortization.
| | - |  | -------------

Direct costs consist of amounts necessary
to carry out the revenue and earnings process, and include direct labor and related benefit charges, other costs directly related to contracts, an allocation of facility and information technology costs, and reimbursable out-of-pocket expenses.
Direct costs, as a percentage of net revenue, tend to and are expected to fluctuate from one period to another as a result of changes in labor utilization and the mix of service offerings involved in the hundreds of studies being conducted during
any period of time.

Research and development, or R&D, expenses consist primarily of patent expenses, labor and related benefit charges
associated with personnel performing internal research and development work, supplies associated with this work, consulting services and an allocation of facility and information technology costs.

Selling, general and administrative, or SG&A, expenses consist primarily of administrative payroll and related benefit charges, sales, advertising
and promotional expenses, recruiting and relocation expenses, administrative travel, an allocation of facility and information technology costs, and costs related to operational employees performing administrative tasks.

Depreciation expenses consist of depreciation costs recorded on a straight-line method, based on estimated useful lives of 40 to 50 years for buildings,
five years for laboratory equipment, two to five years for software, computers and related equipment, and five to ten years for furniture and equipment, except for aircraft, which we depreciate over 30 years. We depreciate leasehold improvements
over the shorter of the life of the relevant lease or the useful life of the improvement. We depreciate property under capital leases over the life of the lease or the service life, whichever is shorter.

Amortization expenses consist of amortization costs recorded on intangible assets on a straight-line method over the life of the intangible assets.



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Three Months Ended March 31, 2005 Versus Three Months Ended March 31, 2006

The following table sets forth amounts from our consolidated condensed financial statements along with the dollar and percentage change for the three
months ended March 31, 2005 compared to the three months ended March 31, 2006.



|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|-------------------------------------------- |  | --------------------------------------- | ------- | - | ---- | - | ----------- |  | - | ----------- | - |  | ------ | -
|                                             |  | Three Months EndedMarch 31, (unaudited) |         |   |      |   |             | 
|(in thousands, except per share data)        |  | 2005                                    |         |   | 2006 |   | $ Inc (Dec) |  |   | % Inc (Dec) |  
|Net revenue:                                 |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Development                                  |  | $                                       | 212,921 |   |      | $ | 257,749     |  | $ | 44,828      |   |  | 21.1   | %
|Discovery Sciences                           |  |                                         | 12,860  |   |      |   | 18,949      |  |   | 6,089       |   |  | 47.3   |  
|Reimbursed out-of-pockets                    |  |                                         | 18,273  |   |      |   | 22,671      |  |   | 4,398       |   |  | 24.1   |  
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Total net revenue                            |  |                                         | 244,054 |   |      |   | 299,369     |  |   | 55,315      |   |  | 22.7   |  
|                                             |  |                                         |         |  
|Direct costs:                                |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Development                                  |  |                                         | 109,828 |   |      |   | 128,417     |  |   | 18,589      |   |  | 16.9   |  
|Discovery Sciences                           |  |                                         | 1,927   |   |      |   | 2,408       |  |   | 481         |   |  | 25.0   |  
|Reimbursable out-of-pocket expenses          |  |                                         | 18,273  |   |      |   | 22,671      |  |   | 4,398       |   |  | 24.1   |  
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Total direct costs                           |  |                                         | 130,028 |   |      |   | 153,496     |  |   | 23,468      |   |  | 18.0   |  
|                                             |  |                                         |         |  
|Research and development expenses            |  |                                         | 8,821   |   |      |   | 681         |  |   | (8,140      | ) |  | (92.3  | )
|Selling, general and administrative expenses |  |                                         | 57,883  |   |      |   | 71,957      |  |   | 14,074      |   |  | 24.3   |  
|Depreciation                                 |  |                                         | 8,359   |   |      |   | 11,023      |  |   | 2,664       |   |  | 31.9   |  
|Amortization                                 |  |                                         | 288     |   |      |   | 273         |  |   | (15         | ) |  | (5.2   | )
|Loss on disposal of assets                   |  |                                         | 105     |   |      |   | 1,011       |  |   | 906         |   |  | 862.9  |  
|Gain on exchange of assets                   |  |                                         | (5,144  | ) |      |   |            |  |   | 5,144       |   |  | (100.0 | )
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Income from operations                       |  |                                         | 43,714  |   |      |   | 60,928      |  |   | 17,214      |   |  | 39.4   |  
|                                             |  |                                         |         |  
|Interest and other income, net               |  |                                         | 1,180   |   |      |   | 2,959       |  |   | 1,779       |   |  | 150.8  |  
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Income before taxes                          |  |                                         | 44,894  |   |      |   | 63,887      |  |   | 18,993      |   |  | 42.3   |  
|Provision for income taxes                   |  |                                         | 12,013  |   |      |   | 22,041      |  |   | 10,028      |   |  | 83.5   |  
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Net income                                   |  | $                                       | 32,881  |   |      | $ | 41,846      |  | $ | 8,965       |   |  | 27.3   | %
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  
|Net income per diluted share                 |  | $                                       | 0.29    |   |      | $ | 0.35        |  | $ | 0.06        |   |  | 20.7   | %
|                                             |  |                                         |         |   |      |   |             |  |   |             |   |  |        |  

Total net revenue increased $55.3 million to $299.4 million in the first quarter of 2006. The
increase in total net revenue resulted primarily from an increase in our Development segment revenue. The Development segment generated net revenue of $257.7 million, which accounted for 86.1% of total net revenue for the first quarter of 2006. The
21.1% increase in Development net revenue was primarily attributable to an increase in the level of global Phase II through IV services we provided in the first quarter of 2006 as compared to 2005.

The Discovery Sciences segment generated net revenue of $18.9 million in the first quarter of 2006, an increase of $6.1 million from the first quarter of
2005. The increase in the Discovery Sciences net revenue was mainly attributable to the $15.0 million milestone payment we earned from Takeda in March 2006 in connection with the DPP4 agreement upon dosing of the twentieth patient in the Phase III
trial. During the first quarter of 2005, we received a $10.0 million milestone payment from ALZA Corporation for the filing of the dapoxetine NDA.

Total direct costs increased $23.5 million to $153.5 million in the first quarter of 2006 primarily as the result of an increase in the Development segment direct costs. Development direct costs increased $18.6 million to $128.4 million in
the first quarter of 2006. The primary reason for this increase was higher personnel and facility costs due to the hiring of additional employees in our Development segment.



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Discovery Sciences direct costs increased $0.5 million to $2.4 million in the first quarter of 2006. The
higher costs in 2006 related primarily to additional direct costs associated with our preclinical oncology division.

R&D expenses
decreased $8.1 million to $0.7 million in the first quarter of 2006. R&D expenses decreased primarily as a result of decreased spending in connection with the DPP4 program with Takeda. Under the DPP4 agreement with Takeda that we entered into in
July 2005, Takeda assumed the obligation to fund future development and commercialization costs of the DPP4 inhibitor program. Thus, we do not expect to incur additional R&D expense for the DPP4 program.

SG&A expenses increased $14.1 million to $72.0 million in the first quarter of 2006. As a percentage of total net revenue, SG&A expenses
increased to 24.0% in the first quarter of 2006 compared to 23.7% in the first quarter of 2005. The increase in SG&A expenses includes additional personnel costs of $10.6 million. The increase in personnel costs related mainly to training costs
for new personnel, higher levels of operations infrastructure to manage direct personnel, additional administrative personnel to manage the contract and project levels and changes in utilization levels. In addition, SG&A costs increased $1.2
million due to recruiting costs to hire additional personnel.

Depreciation expense increased $2.7 million to $11.0 million in the first
quarter of 2006. The increase was related to the depreciation of the property and equipment we acquired to accommodate our growth, a significant portion of which related to information technology system investments we made in 2005. Capital
expenditures were $27.9 million in the first quarter of 2006. Capital expenditures included $11.1 million for our new corporate headquarters building and related parking facility in Wilmington, North Carolina, $5.4 million for computer software and
hardware, $3.6 million for additional construction projects, mainly related to our new building in Scotland, $2.3 million related to leasehold improvements at various sites and $3.7 million for additional scientific equipment for our Phase I and
laboratory units.

Income from operations increased $17.2 million to $60.9 million in the first quarter of 2006. As a percentage of net
revenue, income from operations increased to 20.4% in the first quarter of 2006 from 17.9% in the first quarter of 2005. Income from operations in the first quarter of 2006 included a $15.0 million milestone payment from Takeda in connection with
the DPP4 agreement and a significant decrease in R&D expenses as discussed above. Income from operations in the first quarter of 2006 also included a $1.0 million loss on disposal of assets, composed of $0.8 million related to disposal of assets
in our Biomarker business and $0.2 million related to the disposal of an intangible asset. Income from operations for the first quarter of 2005 included a $10.0 million milestone payment related to the filing of the dapoxetine NDA and a $5.1 million
gain on exchange of assets associated with the acquisition of SurroMeds biomarker business.

Interest and other income increased $1.8
million to $3.0 million in the first quarter of 2006. This was due primarily to increased interest income due to higher interest rates and a larger average cash balance.

Our provision for income taxes increased $10.0 million to $22.0 million in the first quarter of 2006. Our effective income tax rate for the first quarter of 2006 was 34.5% compared to 26.8% for the first quarter of
2005. The effective tax rate for the first quarter of 2005 was positively impacted by a $3.7 million reduction in our valuation allowance provided for the deferred tax asset relating to a capital loss carryforward due to the recognition of capital
gains for the SurroMed transaction and a dapoxetine NDA milestone payment. This reduction in the valuation allowance decreased the effective tax rate by 7.5%.

Net income of $41.8 million in the first quarter of 2006 represents an increase of $9.0 million from $32.9 million in the first quarter of 2005. Net income per diluted share of $0.35 in the first quarter of 2006
represents a 20.7% increase from $0.29 net income per diluted share in the first quarter of 2005. Net income per diluted share for the first quarter of 2005 included $0.035 per share, net of tax, for the gain on exchange of assets associated with
the acquisition of SurroMeds biomarker business.



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Liquidity and Capital Resources

As of March 31, 2006, we had $138.3 million of cash and cash equivalents and $198.5 million of short-term investments. Our expected primary cash needs on both a short- and long-term basis are for capital
expenditures, including our new corporate headquarters facility, expansion of services, possible acquisitions, investments and compound collaborations, geographic expansion, dividends, working capital and other general corporate purposes. We have
historically funded our operations and growth, including acquisitions, primarily with cash flow from operations. In the first quarter of 2006, we entered into a construction loan to finance the construction of our new corporate headquarters building
and related parking facility in Wilmington, North Carolina. Our cash and cash equivalents are invested in financial instruments that are rated A or better by Standard & Poors or Moodys and earn interest at market rates.

In the first quarter of 2006, our operating activities provided $28.5 million in cash as compared to $47.0 million for the same period
last year. The decrease in cash flow from operations is primarily due to a decrease in cash related to changes in operating assets and liabilities of $30.1 million in the first quarter of 2006 compared to an increase of $5.1 million in 2005. The
decrease related to changes in operating assets and liabilities in the first quarter of 2006 primarily consisted of an increase of $32.3 million in growth of receivables and a decrease of $10.0 million related to accounts payable and other accrued
expenses, partially offset by an increase of $14.0 million in accrued income taxes. Fluctuations in receivables and unearned income occur on a regular basis as we perform services, achieve milestones or other billing criteria, send invoices to
clients and collect outstanding accounts receivable. Such activity varies by individual client and contract.

In the first quarter of 2006,
we used $87.0 million in cash related to investing activities. We used cash to purchase available-for-sale investments of $220.5 million and to make capital expenditures of $27.9 million. These amounts were partially offset by maturities and sales
of available-for-sale investments of $161.3 million. We expect our capital expenditures for the remainder of 2006 to be approximately $150 million to $155 million. This projection includes additional construction costs of approximately $85 million
for the new corporate headquarters building and the related parking facility. The majority of the remaining forecasted capital expenditures are related to up-fit costs for facilities, information technology related expenditures and additional
laboratory equipment.

In the first quarter of 2006, our financing activities provided $14.4 million in cash. We received $9.2 million in
proceeds from stock option exercises and purchases under our employee stock purchase plan, $7.0 million in borrowings under our new construction loan and $1.6 million in income tax benefits from the exercise of stock options and disqualifying
dispositions of stock. These amounts were partially offset by dividend payments of $2.9 million and repayments of $0.5 million on capital leases.



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The following table sets forth amounts from our consolidated balance sheet affecting our working capital
along with the dollar amount of the change from 2005 to 2006.



|                                                                   |  |                  |         |               |   |             |  |   |         |  
|------------------------------------------------------------------ |  | ---------------- | ------- | ------------- | - | ----------- |  | - | ------- | -
|(in thousands)                                                     |  | December 31,2005 |         | March 31,2006 |   | $ Inc (Dec) | 
|Current assets:                                                    |  |                  |         |               |   |             |  |   |         |  
|Cash and cash equivalents                                          |  | $                | 182,000 |               | $ | 138,341     |  | $ | (43,659 | )
|Short-term investments                                             |  |                  | 137,820 |               |   | 198,494     |  |   | 60,674  |  
|Accounts receivable and unbilled services, net                     |  |                  | 303,386 |               |   | 336,572     |  |   | 33,186  |  
|Income tax receivable                                              |  |                  | 14      |               |   | 107         |  |   | 93      |  
|Investigator advances                                              |  |                  | 13,578  |               |   | 8,366       |  |   | (5,212  | )
|Prepaid expenses and other current assets                          |  |                  | 34,651  |               |   | 41,794      |  |   | 7,143   |  
|Deferred tax assets                                                |  |                  | 11,435  |               |   | 11,548      |  |   | 113     |  
|                                                                   |  |                  |         |               |   |             |  |   |         |  
|Total current assets                                               |  | $                | 682,884 |               | $ | 735,222     |  | $ | 52,338  |  
|                                                                   |  |                  |        
|Current liabilities:                                               |  |                  |         |               |   |             |  |   |         |  
|Accounts payable                                                   |  | $                | 10,363  |               | $ | 14,090      |  | $ | 3,727   |  
|Payables to investigators                                          |  |                  | 43,126  |               |   | 35,999      |  |   | (7,127  | )
|Accrued income taxes                                               |  |                  | 18,099  |               |   | 31,127      |  |   | 13,028  |  
|Other accrued expenses                                             |  |                  | 119,304 |               |   | 111,916     |  |   | (7,388  | )
|Deferred tax liabilities                                           |  |                  | 85      |               |   | 82          |  |   | (3      | )
|Unearned income                                                    |  |                  | 162,662 |               |   | 166,702     |  |   | 4,040   |  
|Current maturities of long-term debt and capital lease obligations |  |                  | 1,607   |               |   | 1,375       |  |   | (232    | )
|                                                                   |  |                  |         |               |   |             |  |   |         |  
|Total current liabilities                                          |  | $                | 355,246 |               | $ | 361,291     |  | $ | 6,045   |  
|                                                                   |  |                  |        
|Working capital                                                    |  | $                | 327,638 |               | $ | 373,931     |  | $ | 46,293  |  

Working capital as of March 31, 2006 was $373.9 million, compared to $327.6 million at
December 31, 2005. The increase in working capital was due primarily to the increase in short-term investments and accounts receivable and unbilled services. These increases were partially offset by a decrease in cash and cash equivalents and
an increase in accrued income taxes due to higher pretax income. The number of days revenue outstanding in accounts receivable and unbilled services, net of unearned income, also known as DSO, was 32.2 and 36.8 days as of March 31, 2005
and 2006, respectively. We calculate DSO by dividing accounts receivable and unbilled services less unearned income by average daily gross revenue for the applicable period. Over the past three years, our year-to-date DSO has fluctuated between 32.2
days and 42.2 days. We expect DSO will continue to fluctuate in the future depending on contract terms, the mix of contracts performed within a quarter, the levels of investigator advances and unearned income, and our success in collecting
receivables.

In July 2005, we renewed our $50.0 million revolving credit facility with Bank of America, N. A. Indebtedness under the
facility is unsecured and subject to traditional covenants relating to financial ratios and restrictions on certain types of transactions. This revolving credit facility does not expressly restrict or limit the payment of dividends, and we do not
expect any of the covenants to affect our ability to pay dividends under our cash dividend policy for the foreseeable future. Outstanding borrowings under the facility bear interest at an annual fluctuating rate equal to the one-month London
Interbank Offered Rate, or LIBOR, plus a margin of 0.625%. Borrowings under this credit facility are available to provide working capital and for general corporate purposes. As of March 31, 2006, no amounts were outstanding under this credit
facility and we were in compliance with the covenants in the loan agreement. The aggregate amount we are able to borrow has been reduced by $1.25 million due to outstanding letters of credit issued under this facility. This credit facility is
currently scheduled to expire in June 2006, at which time any outstanding balance will be due.

In February 2006, we entered into an $80.0
million construction loan facility with Bank of America, N.A. This new construction loan facility is in addition to the $50.0 million revolving credit facility discussed above. Indebtedness under the construction loan facility is unsecured and is
subject to the same covenants as the revolving credit facility and additional covenants commonly used in construction loan agreements. In addition, we must maintain at least $50.0 million in cash, cash equivalents and short-term investments while
the loan is outstanding.



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Borrowings under this credit facility are available to finance the construction of our new corporate headquarters building and related parking facility in
Wilmington, North Carolina and will bear interest at an annual fluctuating rate equal to the one-month LIBOR plus a margin of 0.60%. Interest on amounts borrowed under this construction loan facility is payable quarterly. This credit facility has a
term of two years and will mature in February 2008, at which time the entire principal balance and all accrued and unpaid interest will be due. As of March 31, 2006, we had borrowed a total of approximately $24.1 million under this facility.

On October 3, 2005, our Board of Directors adopted an annual cash dividend policy under which we intend to pay an aggregate annual
cash dividend of $0.10 on each outstanding share of common stock, payable quarterly at the rate of $0.025 per share, as adjusted to give effect to our February 2006 two-for-one stock split. We paid the first quarterly cash dividend under our annual
dividend policy in the fourth quarter of 2005. In the first quarter of 2006, we also paid a dividend of $0.025 per share. The annual cash dividend policy and the payment of future quarterly cash dividends under that policy are not guaranteed and are
subject to the discretion of and continuing determination by our Board of Directors that the policy remains in the best interests of our shareholders and in compliance with applicable laws.

In August 2005, we amended our September 2004 royalty stream purchase agreement with Accentia. Under the terms of the amended agreement, we agreed to
provide specified clinical development services to Accentia in connection with two pivotal Phase III trials for SinuNase® for the treatment of chronic sinusitis. In exchange for providing these services, Accentia agreed to pay us a royalty equal to 14% of the net sales of
specified SinuNase products if approved for sale by the FDA. Our obligation to provide clinical development services expired on December 31, 2005. In April 2006, the United States FDA granted SinuNase fast-track status. Accentia is planning to
start the Phase III trials for SinuNase and we are in discussions with Accentia regarding a further amendment to this agreement.

In
February 2005, we acquired substantially all of SurroMeds assets related to its biomarker business. As part of this acquisition, we agreed to guarantee repayment of up to $1.5 million under a SurroMed bank loan with a maturity date of
December 31, 2006. In February 2006, this amount was reduced to $0.8 million and SurroMed pledged a $0.5 million certificate of deposit to secure payment of the bank loan. In accordance with the requirements of FASB Statement No. 5,
Accounting for Contingencies, as clarified by FASB Interpretation No. 45, we have recorded a liability in the amount of $0.03 million for the estimated fair value of the net obligation assumed under this guarantee.

In July 2005, we entered into a collaboration with Takeda under which it acquired the development and commercialization rights to all DPP4 inhibitors
previously granted to us under the collaboration agreement between PPD and Syrrx. Under the agreement, Takeda paid us a $15.0 million up-front payment in the third quarter of 2005 and assumed the responsibility for the development and
commercialization of the DPP4 inhibitors and future costs associated with those activities. Takeda commenced Phase III trials on the lead DPP4 candidate in January 2006 and, in March 2006, we earned a $15.0 million milestone payment upon the dosing
of the twentieth patient in the Phase III studies. We will also be entitled to receive additional potential milestone payments of up to an aggregate of $70.5 million upon the occurrence of specified clinical and regulatory milestones, and if a DPP4
product is ever approved for sale, royalties on net sales as well as sales-based milestones up to an aggregate of $33.0 million upon the achievement of specified sales thresholds. We do not know if or when Takeda will obtain regulatory approval for
a DPP4 inhibitor in the United States or any other country. As a result, we do not know if we will ever receive any further DPP4 milestone payments or royalties.

In April 2003, we made an equity investment in Chemokine Therapeutics Corp. In connection with this investment, Chemokine granted us an exclusive option to license a proprietary peptide. In April 2006, we entered into
an agreement under which Chemokine will re-acquire the stock and the licensing rights for the proprietary peptide. We will continue to hold a warrant to purchase Chemokine stock, as well as an interest in the peptide through potential future
milestone payments and a share of net sales up to a specified dollar limit.

In November 2003, we became a limited partner in A. M. Pappas
Life Science Ventures III, L.P., a venture capital fund formed to invest in life sciences, healthcare and technology industries. We have committed to invest up to a maximum of $4.75 million in this fund. The first capital call was made in January
2005. Capital calls through March 31, 2006 totaled $0.7 million. Our capital commitment will expire in May 2009. We anticipate that the remainder of our capital commitment will be invested through a series of capital calls to be made over the
term of our capital commitment.



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In September 2005, we became a limited partner in Bay City Capital Fund IV, L.P., a venture capital fund
formed to invest in life sciences companies. We have committed to invest up to a maximum of $10.0 million in the Bay City Fund IV. During the first quarter of 2006, we accrued a capital call in the amount of $0.3 million, which was subsequently paid
in April 2006. Capital calls through March 31, 2006 totaled $2.2 million. Our capital commitment will expire in June 2009. No capital call can exceed 20% of the Companys aggregate capital commitment. Thus, we anticipate that the remainder
of our capital commitment will be invested through a series of capital calls to be made over the term of our capital commitment.

In
January 2005, we acquired approximately 7.5 acres of property located in downtown Wilmington, North Carolina, on which we are constructing a new headquarters building. The new facility will be approximately 400,000 square feet and is expected to be
completed in early 2007. At that time, we will begin consolidating our Wilmington operations into the new building. The total cost for the construction and up-fit of the new building is expected to be approximately $100.0 million. In addition, we
are constructing a parking facility on an adjacent tract of land that will serve this new building and will cost approximately $18.0 million. The purchase price of the land for the new building was approximately $2.8 million. In connection with the
sale of the 7.5-acre tract, the seller, Almont Shipping Company, refinanced existing liens on the property with the proceeds of an $8.0 million loan from Bank of America, N.A. This loan is secured by a lien on substantially all of Almonts
assets, including an approximately 30-acre tract of land adjacent to our tract. This loan is also secured by a guarantee from us. In accordance with the requirements of FASB Statement No. 5, Accounting for Contingencies, as
clarified by FASB Interpretation No. 45, we have recorded a liability in the amount of $0.8 million for the estimated fair value of the obligation we assumed under this guarantee. In March 2006, the loan matured and Almont filed a petition for
relief under Chapter 11 of the United States Bankruptcy Code. In early April 2006, Bank of America demanded payment of the loan under our guarantee. We subsequently purchased the secured note and all related loan documents for approximately $7.5
million.

In March 2005, we entered into a lease for additional space in Austin, Texas for our Phase II through IV operations. The
additional space is adjacent to our new Phase I clinic. To induce us to enter into the lease for additional space, the landlord agreed to deposit $5.5 million in an escrow account to be used to reimburse us for the rent and other expenses paid by us
under the lease for our existing facilities after July 1, 2005 and the costs and expense to sublease those facilities. We account for the amount to be received from the escrow account as a lease incentive that will be recognized in income over
the life of the ten-year term of the lease. We submitted the first request for distribution of funds from the escrow account in the second half of 2005, but the landlord objected to the distribution of any funds to us. In April 2006, we and the
landlord agreed to settle this dispute. Under the terms of the agreement, we received $4.3 million in full and final settlement of all claims. As a result, we reduced the escrow account balance to $4.3 million and included the amount in prepaid
expenses and other current assets on the March 31, 2006 balance sheet. The $4.3 million was collected on April 7, 2006.

As of
March 31, 2006, we had liabilities of $7.6 million for certain unsettled matters in connection with tax positions taken on our tax returns, including interpretations of applicable income tax laws and regulations. We establish a reserve when,
despite managements belief that our tax returns reflect the proper treatment of all matters, the treatment of certain tax matters is likely to be challenged. Significant judgment is required to evaluate and adjust the reserves in light of
changing facts and circumstances. Further, a number of years may lapse before a particular matter for which we have established a reserve is audited and finally resolved. While it is difficult to predict the final outcome or the timing of resolution
of any particular tax matter, management believes that the reserves of $7.6 million reflect the probable outcome of known tax contingencies. We believe it is unlikely that the resolution of these matters will have a material adverse effect on our
financial position or results of operations.

Under most of our agreements for Development services, we agree to indemnify and defend the
sponsor against third party claims based on our negligence or willful misconduct. Any successful claims could have a material adverse effect on our financial condition, results of operations and future prospects.

We expect to continue expanding our operations through internal growth, strategic acquisitions and investments. Additionally, in October 2005, our Board
of Directors adopted a policy to pay a quarterly cash dividend on each outstanding share of common stock. We expect to fund these activities from existing cash, cash flow from operations and, if necessary or appropriate, borrowings under our
existing or future credit facilities. We believe that these sources of liquidity will be sufficient to fund our operations and dividends for the foreseeable future. From time to time, we evaluate potential acquisitions, investments and other growth
opportunities that might require additional external financing, and we might seek funds from public or private issuances of equity or debt



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securities. While we believe we have sufficient liquidity to fund our operations for the foreseeable future, our sources of liquidity and ability to pay
dividends could be affected by our dependence on a small number of industries and clients, compliance with regulations, international risks, personal injury claims, environmental or intellectual property claims, as well as other factors described
below under Critical Accounting Policies and Estimates, Potential Volatility of Quarterly Operating Results and Stock Price and Quantitative and Qualitative Disclosures about Market Risk. In addition, see
Risk Factors, Contractual Obligations and Commercial Commitments and Critical Accounting Policies and Estimates in our Annual Report on Form 10-K for the year ended December 31, 2005.

Critical Accounting Policies and Estimates

Prior to
January 1, 2006, we accounted for our stock-based compensation plan in accordance with the intrinsic value provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, or APB No. 25,
and provided the required proforma disclosures of SFAS No. 123, Accounting for Stock-Based Compensation. Accordingly, because all stock options granted had an exercise price equal to the market value of the underlying common stock
on the date of the grant, no expense related to employee stock options was recognized. Also, as the employee stock purchase plan was considered noncompensatory, no expense related to this plan was recognized. However, expense related to the grant of
restricted stock was recognized in the income statement under APB No. 25.

Effective January 1, 2006, we adopted SFAS
No. 123 (revised) using the modified retrospective application method. Accordingly, stock-based compensation cost is measured at grant date, based on the fair value of the award, and is recognized as expense over the employees requisite
service period. In accordance with the modified retrospective application method, financial statements for all periods prior to January 1, 2006 have been adjusted to give effect to the fair-value based method of accounting for all awards
granted in fiscal years beginning after December 15, 1994. Amounts previously disclosed as proforma adjustments have been reflected in earnings for all prior periods. The details of the impact of the retrospective application of SFAS
No. 123 (revised) on previously reported amounts in our Consolidated Condensed Statement of Operations as of March 31, 2005 and our Consolidated Balance Sheet as of December 31, 2005 are shown in Note 9 of our Consolidated Condensed
Financial Statements.

As of March 31, 2006, the total unrecognized compensation costs related to non-vested stock options was
approximately $40.5 million. This cost is expected to be recognized over a weighted-average period of 2.6 years in accordance with the vesting periods of the options. As of March 31, 2006, the total unrecognized compensation cost related to
non-vested restricted stock was approximately $3.2 million. This cost is expected to be recognized over a weighted-average period of 2.4 years in accordance with the vesting periods of the restricted stock. Our employee stock purchase plan has two
six-month offering periods (each an Offering Period) annually, beginning January 1 and July 1, respectively. As of March 31, 2006, the total unrecognized compensation cost related to employee stock purchase plan shares for
the current Offering Period was approximately $0.4 million. This cost is expected to be recognized over the remaining three months of the Offering Period.

The fair value of each option award is estimated on the grant date using the Black-Scholes option-pricing model. Expected volatilities are based on historical volatility of our stock price over a period equal to the
expected term of the options. Management believes this is the best estimate of the future results. See Note 9 of our Notes to Consolidated Condensed Financial Statements for details regarding the other assumptions used in estimating fair value for
the quarters ended March 31, 2005 and 2006 regarding our equity compensation plan and our employee stock purchase plan.

There were no
other material changes to our critical accounting policies and estimates in the first quarter of 2006. For detailed information on our other critical accounting policies and estimates, see our Annual Report on Form 10-K for the year ended
December 31, 2005.



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Recent Accounting Pronouncements

Recently issued accounting standards relevant to our financial statements, which are described in Recent Accounting Pronouncements in Note 1 to the Notes to Consolidated Condensed Financial Statements are:



|              |  |                                                                                                                                                   |  |                                                                                                                                                    
|------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------
|Date          |  | Title                                                                                                                                             |  | Effective Date                                                                                                                                     
|December 2004 |  | SFAS No. 123 (revised 2004), Share-Based Payment                                                                                                |  | First fiscal year that begins after June 15, 2005                                                                                                  
|              |  |                                                                                                                                                  
|March 2005    |  | Interpretation No. 47, Accounting for Conditional Asset Retirement Obligation                                                                   |  | End of fiscal years ending after December 15, 2005                                                                                                 
|              |  |                                                                                                                                                  
|May 2005      |  | SFAS No. 154, Accounting Changes and Error Corrections                                                                                          |  | Fiscal years beginning after December 15, 2005                                                                                                     
|              |  |                                                                                                                                                  
|June 2005     |  | Staff Position No. 143-1, Accounting for Electronic Equipment Waste Obligations                                                                 |  | The later of the first reporting period that ends after June 8, 2005 or the date that the EU-member country adopts a law to implement the Directive
|              |  |                                                                                                                                                  
|June 2005     |  | EITF 05-6, Determining the Amortization Period for Leasehold Improvements Purchased after Lease Inception or Acquired in a Business Combination |  | Reporting periods beginning after June 29, 2005                                                                                                    
|              |  |                                                                                                                                                  
|October 2005  |  | Staff Position No. 13-1, Accounting for Rental Costs Incurred During a Construction Period                                                      |  | First reporting period beginning after December 15, 2005                                                                                           
|              |  |                                                                                                                                                  
|November 2005 |  | Staff Position Nos. FAS 115-1 and FAS 124-1, The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments          |  | Reporting periods beginning after December 15, 2005                                                                                                

Income Taxes

Because we conduct operations on a global basis, our effective tax rate has and will continue to depend upon the geographic distribution of our pretax earnings among locations with varying tax rates. Our profits are
also impacted by changes in the tax rates of the various tax jurisdictions. In particular, as the geographic mix of our pretax earnings among various tax jurisdictions changes, our effective tax rate might vary from period to period.

Inflation

Our long-term contracts, those in excess
of one year, generally include an inflation or cost of living adjustment for the portion of the services to be performed beyond one year from the contract date. As a result, we expect that inflation generally will not have a material adverse effect
on our operations or financial condition.

Potential Liability and Insurance

Drug development services involve the testing of new drugs on human volunteers pursuant to a study protocol. This testing exposes us to the risk of
liability for personal injury or death to patients resulting from, among other things, possible unforeseen adverse side effects or improper administration of the new drug. Many of these patients are already seriously ill and are at risk of further
illness or death. We attempt to manage our risk of liability for personal injury or death to patients from administration of products under study through measures such as stringent operating procedures, patient informed consent, contractual
indemnification provisions with clients and insurance. We monitor clinical trials in compliance with government regulations and guidelines. We have adopted global standard operating procedures intended to satisfy regulatory requirements in the
United States and in many foreign countries and to serve as a tool for controlling and enhancing the quality of drug development services. The contractual indemnifications generally do not protect us against our own actions, such as gross
negligence. We currently maintain professional liability insurance coverage with limits we believe are adequate and appropriate.



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Potential Volatility of Quarterly Operating Results and Stock Price

Our quarterly and annual operating results have fluctuated in the past, and we expect that they will continue to fluctuate in the future. Factors that
could cause these fluctuations to occur include:



| |  |  | the timing and level of new business authorizations;
| | - |  | ----------------------------------------------------



| |  |  | the timing of the initiation, progress or cancellation of significant projects;
| | - |  | -------------------------------------------------------------------------------



| |  |  | the timing and amount of costs associated with R&D and compound partnering collaborations;
| | - |  | ------------------------------------------------------------------------------------------



| |  |  | the timing of our Discovery Sciences segment milestone payments or other revenue;
| | - |  | ---------------------------------------------------------------------------------



| |  |  | the timing of the opening of new offices;
| | - |  | -----------------------------------------



| |  |  | the timing of other internal expansion costs;
| | - |  | ---------------------------------------------



| |  |  | exchange rate fluctuations between periods;
| | - |  | -------------------------------------------



| |  |  | our dependence on a small number of industries and clients;
| | - |  | -----------------------------------------------------------



| |  |  | the mix of products and services sold in a particular period;
| | - |  | -------------------------------------------------------------



| |  |  | pricing pressure in the market for our services;
| | - |  | ------------------------------------------------



| |  |  | our ability to recruit and retain experienced personnel;
| | - |  | --------------------------------------------------------



| |  |  | rapid technological change;
| | - |  | ---------------------------



| |  |  | the timing and amount of start-up costs incurred in connection with the introduction of new products and services;
| | - |  | ------------------------------------------------------------------------------------------------------------------



| |  |  | the timing and extent of new government regulations;
| | - |  | ----------------------------------------------------



| |  |  | intellectual property risks;
| | - |  | ----------------------------



| |  |  | impairment of investments or intangible assets; and
| | - |  | ---------------------------------------------------



| |  |  | the timing and amount of costs associated with integrating acquisitions.
| | - |  | ------------------------------------------------------------------------

Delays and terminations of trials are often the result of actions taken by our customers or regulatory authorities, and are not typically controllable by us. Because a large percentage of our operating costs are
relatively fixed while revenue is subject to fluctuation, variations in the timing and progress of large contracts can materially affect our quarterly operating results. For these reasons, we believe that comparisons of our quarterly financial
results are not necessarily meaningful and should not be relied upon as an indication of future performance.

Fluctuations in quarterly
results, actual or anticipated changes in our dividend policy or other factors could affect the market price of our common stock. These factors include ones beyond our control, such as changes in earnings estimates by analysts, market conditions in
our industry, disclosures by product development partners and actions by regulatory authorities with respect to potential drug candidates, changes in pharmaceutical, biotechnology and medical device industries and the government sponsored clinical
research sector and general economic conditions. Any effect on our common stock could be unrelated to our longer-term operating performance. For more detail, see Risk Factors in our Annual Report on Form 10-K for the year ended
December 31, 2005.



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Item 3. Quantitative and Qualitative Disclosures about Market Risk

We are exposed to foreign currency risk
by virtue of our international operations. We derived approximately 27.8% and 28.3% of our net revenues for the three months ended March 31, 2005 and 2006, respectively, from operations outside the United States. We generally reinvest funds
generated by each subsidiary in the country where they are earned, although in 2005, we repatriated $48.0 million of undistributed earnings in the form of dividends from our foreign affiliates under the American Jobs Creation Act of 2004. Our
operations in the United Kingdom generated more than 39.3% of our net revenue from international operations during the three months ended March 31, 2006. Accordingly, we are exposed to adverse movements predominately in the pound sterling and
also in other foreign currencies.

The vast majority of our contracts are entered into by our U.S. or U.K. subsidiaries. The contracts
entered into by the U.S. subsidiaries are almost always denominated in U.S. dollars. Contracts entered into by our U.K. subsidiaries are generally denominated in pounds sterling, U.S. dollars or euros, with the majority in U.S. dollars. Although an
increase in exchange rates for the pound sterling or euro relative to the U.S. dollar would increase net revenue from contracts denominated in these currencies, a negative impact on income from operations results from dollar-denominated contracts
for services rendered in countries other than the United States. In these cases, revenue is not impacted by the weakening of the U.S. dollar, but the costs associated with performing these contracts, which are paid in local currency, are negatively
impacted when translated into U.S. dollars. In January 2004, we began engaging in hedging activities in an effort to manage our potential foreign exchange exposure.

We also have currency risk resulting from the passage of time between the invoicing of customers under contracts and the collection of customer payments against those invoices. If a contract is denominated in a
currency other than the subsidiarys local currency, we recognize a receivable at the time of invoicing for the local currency equivalent of the foreign currency invoice amount. Changes in exchange rates from the time the invoice is prepared
until payment from the customer will result in our receiving either more or less in local currency than the local currency equivalent of the receivable. We recognize this difference as a foreign currency transaction gain or loss, as applicable, and
report it in other income, net. We do not expect that a 10% increase or decrease in exchange rates would have a material effect on our financial statements.

Our strategy for managing foreign currency risk relies primarily on receiving payment in the same currency used to pay expenses and from time to time using foreign currency derivatives, such as forward exchange
contracts. As of March 31, 2006, we had open foreign exchange derivative contracts with a face amount totaling $18.8 million to buy the local currencies of our foreign subsidiaries. The estimated fair value of our foreign currency derivative
portfolio resulted in us recording in the first quarter of 2006 a $9,000 gain as a component of prepaid expenses and other current assets and a $0.4 million loss as a component of other accrued expenses. If the U.S. dollar had weakened an additional
10% relative to the pound sterling, euro and Brazilian real in the first quarter of 2006, net income would have been reduced by $1.6 million for the quarter. Our foreign currency hedging activities could have partially offset these potential losses.

Changes in exchange rates between the applicable foreign currency and the U.S. dollar will affect the translation of foreign
subsidiaries financial results into U.S. dollars for purposes of reporting our consolidated financial results. The process by which we translate each foreign subsidiarys financial results to U.S. dollars is as follows:



| |  |  | we translate income statement accounts at average exchange rates for the period;
| | - |  | --------------------------------------------------------------------------------



| |  |  | we translate balance sheet assets and liability accounts at end of period exchange rates; and
| | - |  | ---------------------------------------------------------------------------------------------



| |  |  | we translate equity accounts at historical exchange rates.
| | - |  | ----------------------------------------------------------

Translation of the balance sheet in this manner affects shareholders equity through the cumulative translation adjustment account. This account exists only in the foreign subsidiarys U.S. dollar balance sheet and is necessary to
keep the foreign balance sheet, stated in U.S. dollars, in balance. Translation adjustments are reported with accumulated other comprehensive income (loss) as a separate component of shareholders equity. To date, cumulative translation
adjustments have not been material to our consolidated financial position. However, future translation adjustments could materially and adversely affect us.

Currently, there are no material exchange controls on the payment of dividends or otherwise prohibiting the transfer of funds out of or from within any country in which we conduct operations. Although we perform
services



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for clients located in a number of foreign jurisdictions, we have not experienced any difficulties in receiving funds remitted from foreign countries.
However, new or modified exchange control restrictions could have an adverse effect on our financial condition.

We are exposed to changes
in interest rates on our cash equivalents and amounts outstanding under notes payable and lines of credit. We invest our cash and cash equivalents in financial instruments with interest rates based on financial market conditions. Even though as of
March 31, 2006 we had $24.1 million in principal outstanding under the construction loan for our new headquarters building, we do not expect that a 10% change in interest rates in the future would have a material effect on our financial
statements.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

Disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) are designed only to provide reasonable assurance that information to be
disclosed in our Exchange Act Reports is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. As of the end of the period covered by this report, we carried out an evaluation, under the
supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(b). Based upon that
evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective to provide the reasonable assurance discussed above.

Internal Control Over Financial Reporting

There were no changes in internal control over financial reporting during the first quarter of 2006 that materially affected, or are reasonably likely to materially affect, the Companys internal control over
financial reporting.



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Part II. OTHER INFORMATION

Item 6. Exhibits



|(a) | Exhibits
|--- | --------



|     |  |                                                                                                                                                 
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------
|31.1 |  | Certification of the Chief Executive Officer pursuant to Rule 13a-14(a)                                                                         
|     | 
|31.2 |  | Certification of the Chief Financial Officer pursuant to Rule 13a-14(a)                                                                         
|     | 
|32.1 |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002  Chief Executive Officer
|     | 
|32.2 |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002  Chief Financial Officer



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SIGNATURES

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.



PHARMACEUTICAL PRODUCT DEVELOPMENT, INC.(Registrant)By

/s/ Fredric N. EshelmanChief Executive Officer(Principal Executive Officer)By

/s/ Linda BaddourChief Financial Officer(Principal Financial and Accounting Officer)


Date: May 5, 2006



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