**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C.  20549**

**FORM 10-Q**

x           **Quarterly Report Pursuantto Section 13 or 15(d) of the Securities Exchange Act of 1934**

For the quarterlyperiod ended June 30, 2006

or

o                                    **Transition Report Pursuant to Section 13 or 15(d) of the SecuritiesExchange Act of 1934**For the transition period from                                     to                                     

Commission FileNumber:  1-12213

**COVANCEINC**.(Exact name of Registrant as specified in its Charter)

| **Delaware**              | ** ** | **22-3265977**                        |
|---------------------------|------------|---------------------------------------|
| (State of  Incorporation) |       | (I.R.S. Employer  Identification No.) |

 

| **210 Carnegie Center, Princeton, New Jersey** | ** ** | **08540**  |
|------------------------------------------------|------------|------------|
| (Address of  Principal Executive Offices)      |       | (Zip Code) |

 

Registrant’stelephone number, including area code:  **(609) 452-4440**

Indicate by check markwhether the Registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act (the “Exchange Act”) of 1934during the preceding 12 months (or for such shorter period that the Registrantwas required to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.
| YES x |   | NO o |
|-------|--------|------|

 

Indicate by checkmark whether the Registrant is a large accelerated filer, an accelerated filer,or a non-accelerated filer (as described in Rule 12b-2 of the Exchange Act).

| Large Accelerated Filer x |   | Accelerated  Filer o |   | Non-Accelerated  Filer o |
|---------------------------|--------|----------------------|--------|--------------------------|

 

Indicate by checkmark whether the Registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).
| YES o |   | NO x |
|-------|--------|------|

 

APPLICABLE ONLY TOCORPORATE ISSUERS:

As of July 21, 2006, theRegistrant had 63,759,146 shares of Common Stock outstanding.

 

----

 

**CovanceInc.Form 10-Q For the Quarterly Period Ended June 30, 2006**

**INDEX**
|                                                                                                                 | ** ** | **Page** |
|-----------------------------------------------------------------------------------------------------------------|------------|----------|
| **Part I. Financial Information**                                                                               |       |     |
| Item 1.   Financial  Statements (Unaudited)                                                           |       |     |
| Consolidated  Balance Sheets—June 30, 2006 and December 31, 2005                                           |       | 2        |
| Consolidated Statements of Income—Three and Six Months  ended June 30, 2006 and 2005                       |       | 3        |
| Consolidated Statements of Cash Flows—Six Months ended  June 30, 2006 and 2005                             |       | 4        |
| Notes  to Consolidated Financial Statements                                                                     |       | 5        |
| Item 2.   Management’s  Discussion and Analysis of Financial Condition and Results of Operations |       | 18       |
| Item 3.   Quantitative and  Qualitative Disclosure About Market Risk                                  |       | 27       |
| Item 4.   Controls and  Procedures                                                                    |       | 27       |
| **Part  II. Other Information**                                                                                 |       |     |
| Item  1a. Risk  Factors                                                                                    |       | 28       |
| Item 2.   Unregistered  Sales of Equity Securities and Use of Proceeds                                |       | 32       |
| Item 4.   Submission of  Matters to a Vote of Security Holders                                        |       | 32       |
| Item 6.   Exhibits                                                                                    |       | 32       |
| **Signatures**                                                                                                  |       | 33       |

 

1

----

**COVANCE INC. ANDSUBSIDIARIESCONSOLIDATED BALANCE SHEETSJUNE 30, 2006 AND DECEMBER 31, 2005**
| **(Dollars in thousands)**                                                                                                                                                                                        | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                                                  | ** ** | **2006**          | ** ** | **2005**              | ** ** |
| ** **                                                                                                                                                                                                                  | ** ** | **(UNAUDITED)**   | ** ** | ** **            | ** ** |
| **Assets**                                                                                                                                                                                                                  |       |              |       |                  |       |
| Current Assets:                                                                                                                                                                                                             |       |              |       |                  |       |
| Cash and cash  equivalents                                                                                                                                                                                                  |       | $                 | 137,638    |                  | $          | 160,717 |   |
| Accounts  receivable                                                                                                                                                                                                        |       | 205,315           |       | 206,098               |       |
| Unbilled  services                                                                                                                                                                                                          |       | 100,723           |       | 88,297                |       |
| Inventory                                                                                                                                                                                                                   |       | 43,533            |       | 40,293                |       |
| Deferred income  taxes                                                                                                                                                                                                      |       | 5,245             |       | 2,062                 |       |
| Prepaid expenses  and other current assets                                                                                                                                                                                  |       | 66,353            |       | 49,243                |       |
| Total Current  Assets                                                                                                                                                                                                       |       | 558,807           |       | 546,710               |       |
| Property and equipment,  net                                                                                                                                                                                                |       | 442,914           |       | 410,665               |       |
| Goodwill, net                                                                                                                                                                                                               |       | 118,827           |       | 61,262                |       |
| Other assets                                                                                                                                                                                                                |       | 46,439            |       | 37,966                |       |
| Total Assets                                                                                                                                                                                                                |       | $                 | 1,166,987  |                  | $          | 1,056,603 |   |
|                                                                                                                                                                                                                        |       |              |       |                  |       |
| **Liabilities and Stockholders’  Equity**                                                                                                                                                                              |       |              |       |                  |       |
| Current Liabilities:                                                                                                                                                                                                        |       |              |       |                  |       |
| Accounts payable                                                                                                                                                                                                            |       | $                 | 29,322     |                  | $          | 26,975 |   |
| Accrued payroll  and benefits                                                                                                                                                                                               |       | 61,555            |       | 64,226                |       |
| Accrued expenses  and other current liabilities                                                                                                                                                                             |       | 50,752            |       | 48,298                |       |
| Unearned revenue                                                                                                                                                                                                            |       | 95,189            |       | 96,987                |       |
| Income taxes  payable                                                                                                                                                                                                       |       | 11,677            |       | 16,242                |       |
| Total Current  Liabilities                                                                                                                                                                                                  |       | 248,495           |       | 252,728               |       |
| Deferred income taxes                                                                                                                                                                                                       |       | 41,430            |       | 45,545                |       |
| Other liabilities                                                                                                                                                                                                           |       | 29,463            |       | 26,559                |       |
| Total  Liabilities                                                                                                                                                                                                          |       | 319,388           |       | 324,832               |       |
| Commitments and  Contingent Liabilities                                                                                                                                                                                     |       |              |       |                  |       |
| Stockholders’ Equity:                                                                                                                                                                                                  |       |              |       |                  |       |
| Preferred Stock  — Par value $1.00 per share; 10,000,000 shares authorized; no shares issued  and outstanding at June 30, 2006 and December 31, 2005                                                                   |       | 3⁄4            |       | 3⁄4                |       |
| Common Stock -  Par value $0.01 per share; 140,000,000 shares authorized; 72,856,292 and  71,813,112 shares issued and outstanding, including those held in treasury, at  June 30, 2006 and December 31, 2005, respectively |       | 729               |       | 718                   |       |
| Paid-in capital                                                                                                                                                                                                             |       | 396,780           |       | 350,678               |       |
| Retained  earnings                                                                                                                                                                                                          |       | 681,220           |       | 612,811               |       |
| Accumulated  other comprehensive income —  Cumulative translation adjustment                                                                                                                                           |       | 23,374            |       | 13,367                |       |
| Treasury stock  at cost (9,152,571 and 9,002,620 shares at June 30, 2006 and December 31,  2005, respectively)                                                                                                              |       | (254,504          | )          | (245,803              | )          |
| Total  Stockholders’ Equity                                                                                                                                                                                            |       | 847,599           |       | 731,771               |       |
| Total Liabilities and  Stockholders’ Equity                                                                                                                                                                            |       | $                 | 1,166,987  |                  | $          | 1,056,603 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

2

----

**COVANCE INC. ANDSUBSIDIARIESCONSOLIDATED STATEMENTS OF INCOMEFOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 AND 2005(UNAUDITED)**
| ** **                                                                      | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| **(Dollars in thousands, except per share data)** | ** ** | **June 30**                 | ** ** | **June 30**               | ** ** |
| ** **                                                                      | ** ** | **2006**                         | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Net revenues                                                                    |       | $                                | 335,240    |                           | $          | 293,963 |   | $ | 655,749 |   | $ | 575,228 |   |
| Reimbursable  out-of-pockets                                                    |       | 21,934                           |       | 13,449                         |       | 35,063 |   | 24,967 |   |
| Total revenues                                                                  |       | 357,174                          |       | 307,412                        |       | 690,812 |   | 600,195 |   |
| Cost and expenses:                                                              |       |                             |       |                           |       |   |   |   |   |
| Cost of revenue (excluding depreciation and amortization)                       |       | 222,723                          |       | 195,714                        |       | 436,383 |   | 382,486 |   |
| Reimbursed out-of-pocket expenses                                               |       | 21,934                           |       | 13,449                         |       | 35,063 |   | 24,967 |   |
| Selling, general  and administrative                                            |       | 51,312                           |       | 44,490                         |       | 99,598 |   | 86,626 |   |
| Depreciation and  amortization                                                  |       | 14,165                           |       | 11,833                         |       | 26,884 |   | 23,334 |   |
| Total costs and  expenses                                                       |       | 310,134                          |       | 265,486                        |       | 597,928 |   | 517,413 |   |
| Income from  operations                                                         |       | 47,040                           |       | 41,926                         |       | 92,884 |   | 82,782 |   |
| Other (income) expense,  net:                                                   |       |                             |       |                           |       |   |   |   |   |
| Interest income                                                                 |       | (1,717                           | )          | (1,035                         | )          | (3,622 | ) | (2,166 | ) |
| Interest expense                                                                |       | 35                               |       | 60                             |       | 127 |   | 179 |   |
| Foreign exchange  transaction (gain) loss, net                                  |       | (195                             | )          | 369                            |       | 67 |   | 951 |   |
| Other income, net                                                               |       | (1,877                           | )          | (606                           | )          | (3,428 | ) | (1,036 | ) |
| Income before  taxes and equity investee earnings                               |       | 48,917                           |       | 42,532                         |       | 96,312 |   | 83,818 |   |
| Taxes on income                                                                 |       | 14,407                           |       | 13,041                         |       | 28,663 |   | 25,759 |   |
| Equity investee  earnings                                                       |       | 510                              |       | 59                             |       | 760 |   | 355 |   |
| Net income                                                                      |       | $                                | 35,020     |                           | $          | 29,550 |   | $ | 68,409 |   | $ | 58,414 |   |
|                                                                            |       |                             |       |                           |       |   |   |   |   |
| Basic earnings  per share                                                       |       | $                                | 0.55       |                           | $          | 0.47 |   | $ | 1.08 |   | $ | 0.93 |   |
| Weighted average  shares outstanding - basic                                    |       | 63,626,078                       |       | 62,506,556                     |       | 63,399,226 |   | 62,630,820 |   |
|                                                                            |       |                             |       |                           |       |   |   |   |   |
| Diluted earnings  per share                                                     |       | $                                | 0.54       |                           | $          | 0.46 |   | $ | 1.06 |   | $ | 0.92 |   |
| Weighted average shares  outstanding — diluted                             |       | 64,849,638                       |       | 63,651,043                     |       | 64,623,847 |   | 63,820,766 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

3

----

**COVANCE INC. ANDSUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWSFOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005(UNAUDITED)**
| **(Dollars in thousands)**                                                         | ** ** | **Six Months Ended June 30** | ** ** |
|----------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                   | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| Cash flows from  operating activities:                                                       |       |                                             |       |   |   |
| Net income                                                                                   |       | $                                                | 68,409     |   | $ | 58,414 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities:           |       |                                             |       |   |   |
| Depreciation and  amortization                                                               |       | 26,884                                           |       | 23,334 |   |
| Non-cash compensation expense associated with employee  benefit and stock compensation plans |       | 14,331                                           |       | 6,913 |   |
| Deferred income  tax provision (benefit)                                                     |       | (697                                             | )          | (2,018 | ) |
| Other                                                                                        |       | (713                                             | )          | 185 |   |
| Changes in operating  assets and liabilities, net of businesses acquired:                    |       |                                             |       |   |   |
| Accounts  receivable                                                                         |       | 6,466                                            |       | (14,942 | ) |
| Unbilled  services                                                                           |       | (12,426                                          | )          | (10,859 | ) |
| Inventory                                                                                    |       | (2,826                                           | )          | 4,484 |   |
| Accounts payable                                                                             |       | 2,223                                            |       | 3,538 |   |
| Accrued  liabilities                                                                         |       | (2,691                                           | )          | (13,973 | ) |
| Unearned revenue                                                                             |       | (4,121                                           | )          | (13,478 | ) |
| Income taxes  payable                                                                        |       | (386                                             | )          | 18,247 |   |
| Other assets and  liabilities, net                                                           |       | (15,658                                          | )          | (8,129 | ) |
| Net cash  provided by operating activities                                                   |       | 78,795                                           |       | 51,716 |   |
|                                                                                         |       |                                             |       |   |   |
| Cash flows from  investing activities:                                                       |       |                                             |       |   |   |
| Capital  expenditures                                                                        |       | (49,335                                          | )          | (54,892 | ) |
| Acquisition of  businesses                                                                   |       | (74,323                                          | )          | (873 | ) |
| Other, net                                                                                   |       | 586                                              |       | 44 |   |
| Net cash used in  investing activities                                                       |       | (123,072                                         | )          | (55,721 | ) |
|                                                                                         |       |                                             |       |   |   |
| Cash flows from  financing activities:                                                       |       |                                             |       |   |   |
| Stock issued under employee stock purchase and option  plans                                 |       | 27,603                                           |       | 23,980 |   |
| Purchase of treasury stock                                                                   |       | (8,701                                           | )          | (54,963 | ) |
| Net cash  provided by (used in) financing activities                                         |       | 18,902                                           |       | (30,983 | ) |
|                                                                                         |       |                                             |       |   |   |
| Effect of  exchange rate changes on cash                                                     |       | 2,296                                            |       | (10,210 | ) |
| Net change in  cash and cash equivalents                                                     |       | (23,079                                          | )          | (45,198 | ) |
| Cash and cash  equivalents, beginning of period                                              |       | 160,717                                          |       | 177,712 |   |
| Cash and cash  equivalents, end of period                                                    |       | $                                                | 137,638    |   | $ | 132,514 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

4

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

**1.  Basis ofPresentation**

The accompanyingunaudited consolidated financial statements have been prepared in accordancewith U.S. generally accepted accounting principles (“GAAP”) for interimfinancial information and with the instructions to Form 10-Q and Article 10 ofRegulation S-X.  Accordingly, they do notinclude all of the information and footnotes required by GAAP for completefinancial statements.  In the opinion ofmanagement, all adjustments (consisting of normal recurring accruals)considered necessary for a fair presentation have been included.  Operating results for the three and sixmonths ended June 30, 2006 are not necessarily indicative of the results thatmay be expected for the year ending December 31, 2006.  The balance sheet at December 31, 2005 hasbeen derived from the audited financial statements at that date but does notinclude all of the information and footnotes required by GAAP for completefinancial statements.  You should readthese consolidated financial statements together with the historicalconsolidated financial statements of Covance Inc. and subsidiaries (“Covance”)for the years ended December 31, 2005, 2004, and 2003 included in our AnnualReport on Form 10-K for the year ended December 31, 2005.

**2.  Summary of Significant Accounting Policies**

**Principles ofConsolidation**

These unauditedconsolidated financial statements include the accounts of all entitiescontrolled by Covance.  All significantintercompany accounts and transactions are eliminated.  The equity method of accounting is used forinvestments in affiliates in which Covance owns between 20 and 50 percent anddoes not have the ability to exercise control. See Note 4.

**Use of Estimates**

These unauditedconsolidated financial statements have been prepared in conformity with GAAP,which requires management to make estimates and assumptions about future eventsthat affect the reported amounts of assets and liabilities, disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of revenues and expenses during the reporting period.  Actual results could differ from theseestimates.

**Prepaid Expenses andOther Current Assets**

In connection withthe management of multi-site clinical trials, Covance pays on behalf of its customersfees to investigators, volunteers and other out-of-pocket costs (such astravel, printing, meetings, couriers, etc.), for which we are reimbursed atcost, without mark-up or profit. Amounts receivable from customers inconnection with billed and unbilled investigator fees, volunteer payments andother out-of-pocket pass-through costs are included in prepaid expenses andother current assets in the accompanying Consolidated Balance Sheets andtotaled $33.0 million and $31.6 million at June 30, 2006 and December 31, 2005,respectively.  See Note 2 “ReimbursableOut-of-Pocket Expenses”.

**Inventory**

Inventories, whichconsist principally of finished goods and supplies, are valued at the lower ofcost (first-in, first-out method) or market.

**Goodwill and OtherIntangible Assets and Impairment**

Goodwill represents costsin excess of the fair value of net tangible and identifiable net intangibleassets acquired in business combinations. In accordance with Statement ofFinancial Accounting Standards (“SFAS”) No. 142, *Goodwill andOther Intangible Assets*, Covance performs an annual test forimpairment of goodwill and other intangible assets during the fourthquarter.  The most recent annual test forimpairment performed for 2005 did not identify any instances of impairment andthere were no events through June 30, 2006 that warranted a reconsideration ofour impairment test results.

5

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

**Revenue Recognition**

Covance recognizesrevenue either as services are performed or products are delivered, dependingupon the nature of the work contracted. Historically, a majority of Covance’snet revenues have been earned under contracts which range in duration from afew months to two years, but can extend in duration up to five years or longer.Service contracts generally take the form of fee-for-service or fixed-pricearrangements. In the case of fee-for-service contracts, revenue is recognizedas services are performed, based upon, for example, hours worked or samplestested. For long-term fixed-price service contracts, revenue is recognizedas services are performed, with performance generally assessed using outputmeasures, such as units-of-work performed to date as compared to the totalunits-of-work contracted. Changes in the scope of work generally result in arenegotiation of contract pricing terms. Renegotiated amounts are not includedin net revenues until earned and realization is assured. Estimates of costs tocomplete are made to provide, where appropriate, for losses expected oncontracts. Costs are not deferred in anticipation of contracts being awarded,but instead are expensed as incurred. In some cases, a portion of the contractfee is paid at the time the trial is initiated. These advances are deferred andrecognized as revenue as services are performed or products are delivered, asdiscussed above. Additional payments may be made based upon the achievement ofperformance-based milestones over the contract duration. Most contractsare terminable by the client either immediately or upon notice. These contractstypically require payment to Covance of expenses to wind down the study, feesearned to date and, in some cases, a termination fee or a payment to Covance ofsome portion of the fees or profits that could have been earned by Covanceunder the contract if it had not been terminated early. Termination fees areincluded in net revenues when realization is assured. In connection with themanagement of multi-site clinical trials, Covance pays on behalf of itscustomers fees to investigators, volunteers and other out-of-pocket costs (suchas for travel, printing, meetings, couriers, etc.), for which it is reimbursedat cost, without mark-up or profit. Investigator fees are not reflected intotal revenues or expenses where Covance acts in the capacity of an agent onbehalf of the pharmaceutical company sponsor, passing through these costswithout risk or reward to Covance. All other out-of-pocket costs are includedin total revenues and expenses.

Unbilled services are recorded for revenue recognized to date andrelate to amounts that are currently unbillable to the customer pursuant tocontractual terms. In general, amounts become billable upon the achievement ofmilestones or in accordance with predetermined payment schedules. Unbilledservices are billable to customers within one year from the respective balancesheet date. Unearned revenue is recorded for cash received from customers forwhich revenue has not been recognized at the balance sheet date.

**Taxes on Income**

Covance uses the asset and liability method of accounting for incometaxes.  Under this method, deferred taxassets and liabilities are recognized for the expected future tax consequencesof differences between the carrying amount of assets and liabilities and theirrespective tax bases using tax rates in effect for the year in which thetemporary differences are expected to reverse. The effect on deferred taxes of a change in enacted tax rates isrecognized in income in the period when the change is effective.

Covance has established, and periodically reviews and reevaluates, anestimated income tax reserve which is included in accrued expenses and othercurrent liabilities on its consolidated balance sheet.  This income tax reserve is for exposuresrelated to matters such as transfer pricing, nexus, deemed dividends and theallocation of overhead costs across various Federal, state and foreign incometax jurisdictions.  An accrual isestablished at the time an exposure is identified when it is both probable thata liability has been incurred and the amount of the liability can be reasonablyestimated.  The amount of the accrual foreach item for which an exposure exists is adjusted when either (a) matters aresettled at amounts which are different than the amount included in the reserveor (b) when facts indicate a significant change in either the probability orestimated amount of the potential exposure.

Covance’s historical policy has been to leave its unremitted foreignearnings invested indefinitely outside the United States. Except for theone-time opportunity provided under the American Jobs Creation Act, pursuant towhich Covance repatriated $103 million in accumulated foreign earnings in thefourth quarter of 2005, Covance intends to continue to leave its unremittedforeign earnings invested indefinitely outside the United States.  As a result, taxes have not been provided onany accumulated foreign unremitted earnings as of June 30, 2006.

6

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

**ComprehensiveIncome**

Covance’s totalcomprehensive income, which represents net income plus the change in thecumulative translation adjustment equity account for the periods presented, was$45.2 million and $18.6 million for the three months ended June 30, 2006 and2005, respectively, and $78.4 million and $38.5 million for the six monthsended June 30, 2006 and 2005, respectively.

**Earnings Per Share (“EPS”)**

Basic EPS iscomputed by dividing net income available to common stockholders by theweighted average number of shares outstanding during the period.  The computation of diluted EPS is similar tothe computation of basic EPS, except that the denominator is increased toinclude the number of additional common shares that would have been outstandingif the dilutive potential common shares had been issued; computed under thetreasury stock method in accordance with the requirements of SFAS No. 128, *Earnings Per Share*. In computing diluted earnings per share for the three months ended June30, 2006 and 2005, the denominator was increased by 1,223,560 shares and1,144,487 shares, respectively, and for the six months ended June 30, 2006 and2005, the denominator was increased by 1,224,621 shares and 1,189,946 shares,respectively, representing the number of additional common shares that wouldhave been outstanding if the dilutive potential common shares had been issuedfor stock options outstanding at June 30, 2006 and 2005 with exercise pricesless than the average market price of Covance’s Common Stock during eachrespective period.  Excluded from thecomputation of diluted EPS for the three months ended June 30, 2006 were optionsto purchase 4,015 shares of common stock at prices ranging from $58.88 to$61.26 per share because the exercise prices of such options were greater thanthe average market price of Covance’s common stock during this period.  Excluded from the computation of diluted EPSfor the six months ended June 30, 2006 were options to purchase 8,779 shares ofcommon stock at prices ranging from $57.47 to $61.26 per share because theexercise prices of such options were greater than the average market price of Covance’scommon stock during this period. Excluded from the computation of diluted EPS for the three months endedJune 30, 2005 were options to purchase 20,306 shares of common stock at pricesranging from $45.91 to $47.27 per share because the exercise prices of suchoptions were greater than the average market price of Covance’s common stockduring this period.  Excluded from thecomputation of diluted EPS for the six months ended June 30, 2005 were optionsto purchase 23,439 shares of common stock at prices ranging from $43.83 to$47.27 per share because the exercise prices of such options were greater thanthe average market price of Covance’s common stock during this period.

**ReimbursableOut-of-Pocket Expenses**

As discussed in Note 2 “PrepaidExpenses and Other Current Assets”, Covance pays on behalf of its customersfees to investigators, volunteers and other out-of-pocket costs for which weare reimbursed at cost, without mark-up or profit.  In connection with the requirements of FinancialAccounting Standards Board Emerging Issues Task Force Rule No. 01-14 (“EITF01-14”), *Income Statement Characterization of ReimbursementsReceived for “Out-of-Pocket” Expenses Incurred*, amounts paid tovolunteers and other out-of-pocket costs are reflected in operating expenses,while the reimbursements received are reflected in revenues in the ConsolidatedStatements of Income.  Covance willcontinue to exclude from revenue and expense in the Consolidated Statements ofIncome fees paid to investigators and the associated reimbursement sinceCovance acts as an agent on behalf of the pharmaceutical company sponsors withregard to investigator payments, in accordance with the Financial AccountingStandards Board Emerging Issues Task Force Rule No. 99-19 (“EITF 99-19”), *Reporting Revenue Gross as a Principal versus Net asan Agent*.

**Stock-Based Compensation**

TheCompany sponsors several stock-based compensation plans pursuant to whichnon-qualified stock options and restricted stock awards are granted to eligibleemployees.  These plans are describedmore fully in Note 7 herein and Note 10 to our audited consolidatedfinancial statements included in our Annual Report on Form 10-K for the yearended December 31, 2005.

7

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

Throughthe year ended December 31, 2005, the Company followed the disclosure-onlyprovisions of Statement of Financial Accounting Standards No. 123,*Accounting for Stock-Based Compensation*, (“SFAS 123”), and,accordingly, accounted for awards under these plans pursuant to the recognitionand measurement principles of Accounting Principles Board Opinion No. 25, *Accounting for Stock Issued to Employees*, (“APB 25”) andrelated Interpretations, as permitted by SFAS 123. Under APB 25, compensationexpense was recognized in the financial statements relating to awards of stock.  However, no compensation expense was recordedin the financial statements for stock option grants, as all options have beengranted with an exercise price equal to the market value of the underlyingcommon stock on the date of grant. Additionally, no compensation expense was recorded in the financialstatements for shares purchased by employees under the Company’s Employee StockPurchase Plan as that plan was considered to be non-compensatory under APB 25.

EffectiveJanuary 1, 2006, the Company adopted the fair value recognition provisions ofStatement of Financial Accounting Standards No. 123R, *Share-BasedPayments*, (“SFAS 123R”) using the modified prospective transitionmethod.  SFAS 123R revises SFAS 123,supersedes APB 25 and amends Statement of Financial Accounting Standards No.95, *Statement of Cash Flows*.  Under the modified prospective transitionmethod, compensation expense is recognized in the financial statements on a goforward basis for (a) all share-based payments granted prior to, but not vestedas of January 1, 2006, based upon the grant-date fair value estimated inaccordance with the original provisions of SFAS 123, and (b) share-basedpayments granted on or subsequent to January 1, 2006, based upon the grant-datefair value estimated in accordance with the provisions of SFAS 123R.  The grant-date fair value of awards expectedto vest is expensed on a straight-line basis over the vesting period of therelated awards.  Under the modifiedprospective transition method, results for prior periods are not restated.

**SupplementalCash Flow Information**

Cash paid for interestwas $0.2 million for each of the six month periods ended June 30, 2006 and2005. Cash paid for income taxes for the six month periods ended June 30, 2006and 2005 totaled $26.2 million and $6.6 million, respectively.  The change in income taxes payable in theConsolidated Statement of Cash Flows for the six months ended June 30, 2006reflects as an operating cash outflow the excess tax benefit received from theexercise of non-qualified stock options as measured under SFAS 123R of $5.4million (a corresponding cash inflow of $5.4 million has been reflected infinancing cash flows).  The change inincome taxes payable in the Consolidated Statement of Cash Flows for the sixmonths ended June 30, 2005 reflects the tax benefit from employee exercise ofnon-qualified stock options of $8.0 million as measured and accounted for underSFAS 123 and APB 25.  Pursuant to thosestandards, both the reduction in taxes payable and the increase in equityresulting from the excess tax benefit received are reflected in operating cashflows.

**RecentlyIssued Accounting Standards**

In June 2006, theFinancial Accounting Standards Board (the “FASB”) issued Interpretation No. 48,*Accounting for Uncertainty in Income Taxes —an Interpretation of FASB Statement No. 109* (“FIN 48”).  This authoritative interpretation clarifiesand standardizes the manner by which companies will be required to account foruncertain tax positions.  Adoption of FIN48 is required for fiscal years beginning after December 15, 2006.  Covance will be required to adopt FIN 48 nolater than the quarter beginning January 1, 2007.  Covance is currently in the process ofevaluating the Interpretation and has not yet determined the impact, if any,FIN 48 will have on its consolidated financial results.

8

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

**3.  TreasuryStock**

In June 2004, the CovanceBoard of Directors authorized the repurchase of an additional 3.0 millionshares under Covance’s stock repurchase program.  At June 30, 2006, there are approximately 0.5million shares remaining for purchase under the 2004 authorization.  Covance also reacquires shares of its commonstock in connection with certain employee benefit plans when employees tendershares either in connection with reload stock options or to satisfy income taxwithholdings associated with the vesting of stock awards.  The following table sets forth the treasurystock activity during the six month periods ended June 30, 2006 and 2005.
| ** **                              | ** ** | **Six Months Ended June 30** | ** ** |
|-----------------------------------------|------------|--------------------------------------------------|------------|
| ** **                              | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| **(amounts in thousands)**    | ** ** | **$**                                            | ** ** | **# shares** | ** ** | **$** | ** ** | **# shares** | ** ** |
| Shares  repurchased in connection with: |       |                                             |       |   |   |   |   |   |   |
| Board approved buyback programs         |       | $                                                | 7,799      |   | 134.3 |   | $ | 53,210 |   | 1,195.5 |   |
| Employee benefit plans                  |       | 902                                              |       | 15.7 |   | 1,753 |   | 39.9 |   |
| Total                                   |       | $                                                | 8,701      |   | 150.0 |   | $ | 54,963 |   | 1,235.4 |   |

** **

**4.  EquityMethod Investees**

Covance has a 47%minority equity position in Noveprim Ltd., an existing supplier of researchproducts, which was acquired in March 2004 at a cost of $20.7 million.  The excess of the purchase price over theunderlying equity in Noveprim’s net assets at the date of acquisition of $13.8million represents goodwill and is included in the carrying value of Covance’sinvestment.  This investment is reflectedin Other Assets on the Consolidated Balance Sheet.  During the three and six month periods endedJune 30, 2006, Covance recognized $0.5 million and $0.8 million, respectively,representing its share of Noveprim’s earnings, less an elimination of profit oninventory purchased from Noveprim Limited and still on hand at Covance at June30, 2006.  During the three and six monthperiods ended June 30, 2005, Covance recognized $0.3 million and $0.6 million,respectively, representing its share of Noveprim’s earnings, less anelimination of profit on inventory purchased from Noveprim Limited and still onhand at Covance at June 30, 2005.  Thecarrying value of Covance’s investment in Noveprim as of June 30, 2006 andDecember 31, 2005 was $22.7 million and $21.7 million, respectively.

Covance has aminority equity position (approximately 21% at June 30, 2006) in Bio-ImagingTechnologies, Inc. (“BITI”).  BITI usesproprietary medical imaging technologies to process and analyze medical images,and also provides other services, including the data-basing and regulatorysubmission of medical images, quantitative data and text.  During the three and six month periods endedJune 30, 2006, Covance recognized losses of $0.01 million and $0.08 million,respectively, representing its share of BITI’s losses.  During the three and six month periods endedJune 30, 2005, Covance recognized losses of $0.2 million and $0.3 million,respectively, representing its share of BITI’s losses.  The carrying value of Covance’s investment inBITI as of June 30, 2006 and December 31, 2005 was $0.4 million and $0.5million, respectively, while the fair market value was $9.7 million and $7.6million, respectively.

9

----

**COVANCE INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (UNAUDITED) June 30, 2006 and 2005 (dollars in thousands, unless otherwise indicated)**

**5. Acquisitions**

OnMay 31, 2006, Covance acquired the stock of Radiant Research Inc. (“Radiant”)in a merger transaction for a cash payment of approximately $65.5 million(including direct acquisition costs of $0.5 million).  Radiant operates eight early development clinicalsites performing Phase I/IIa clinical trial services. Results of operations forRadiant, which are now part of Convance’s Early Development segment serviceoffering, are included in Covance’s consolidated statements of income beginningJune 1, 2006.

OnMay 31, 2006, Covance also acquired certain assets and liabilities of SignetLaboratories, Inc. (“Signet”) for a cash payment of approximately $9.1 million(including direct acquisition costs of $0.2 million).  Signet specializes in the development ofmonoclonal antibodies and diagnostic assays for cancer, infectious diseases andneurodegenerative diseases. Results of operations for Signet, which are nowpart of Convance’s Early Development segment service offering, are included inCovance’s consolidated statements of income beginning June 1, 2006.

Thetable below summarizes the preliminary purchase price allocations for theRadiant and Signet acquisitions:

|                                                                         | ** ** | **Radiant** | ** ** | **Signet** | ** ** |
|-------------------------------------------------------------------------|------------|-------------|------------|------------|------------|
| Estimated fair  value of net tangible assets acquired                   |       | $           | 8,973      |       | $          | 352 |   |
| Fair value of  intangible assets (8 year weighted average useful life): |       |        |       |       |       |
| Customer list (10 year weighted average useful life)                    |       | 3,810       |       | 700        |       |
| Technology (5 year weighted average useful life)                        |       | 2,190       |       | 150        |       |
| Patient list (4 year weighted average useful life)                      |       | 320         |       | —     |       |
| Non-competes (3 year weighted average useful life)                      |       | 190         |       | —     |       |
| Backlog (1 year weighted average useful life)                           |       | 310         |       | —     |       |
| Goodwill                                                                |       | 49,670      |       | 7,895      |       |
| Net assets  acquired                                                    |       | $           | 65,463     |       | $          | 9,097 |   |

 

Intangible assets are amortized on a straight-linebasis over their estimated useful lives. Amortization expense for the three andsix month periods ended June 30, 2006 was $0.1 million. The estimatedamortization expense expected to be recorded in future periods is as follows:

|                 | ** ** | **Radiant** | ** ** | **Signet** | ** ** |
|-----------------|------------|-------------|------------|------------|------------|
| 2006            |       | $           | 636        |       | $          | 42 |   |
| 2007            |       | 1,117       |       | 85         |       |
| 2008            |       | 962         |       | 85         |       |
| 2009            |       | 931         |       | 85         |       |
| 2010            |       | 859         |       | 85         |       |
| 2011 and beyond |       | 2,315       |       | 468        |       |
|            |       | $           | 6,820      |       | $          | 850 |   |

 

The purchase price allocations are based uponpreliminary estimates, using available information and making assumptionsmanagement believes are reasonable. Accordingly, these purchase price allocations are subject tofinalization within one year of each acquisition.  The goodwill resulting from the Signetacquisition is expected to be deductible for tax purposes, while the goodwillresulting from the merger with Radiant is not expected to be deductible for taxpurposes.

In June 2005,Covance acquired the business of an antibody products provider for a cashpayment of $0.9 million.  The goodwillresulting from this transaction aggregated $0.4 million.

10

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

**6.  DefinedBenefit Plans**

Covance sponsors various pension and otherpost-retirement benefit plans.  Inaccordance with the interim disclosure provisions of SFAS No. 132 (revised2003), *Employers’ Disclosure About Pensionsand Other Post-Retirement Benefits,* the interim disclosures requiredare shown below.

**DefinedBenefit Pension Plans**

Covance sponsors twodefined benefit pension plans for the benefit of its employees at two UnitedKingdom subsidiaries and one defined benefit pension plan for the benefit ofits employees at a German subsidiary, all of which are legacy plans ofpreviously acquired companies.  Benefitamounts for all three plans are based upon years of service andcompensation.  The German plan isunfunded while the UK plans are funded. Covance’s funding policy has been to contribute annually a fixedpercentage of the eligible employee’s salary at least equal to the localstatutory funding requirements.  Pensionplan assets are administered by the plans’ trustees and are principallyinvested in equity and debt securities. The components of net periodic pension expense for these plans for thethree and six month periods ended June 30, 2006 and 2005 are as follows:
| ** **                                               | ** ** | **United Kingdom Plans**             | ** ** | **German Plan**                           | ** ** |
|----------------------------------------------------------|------------|------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                               | ** ** | **Three Months Ended  June 30** | ** ** | **Three Months Ended  June 30** | ** ** |
| ** **                                               | ** ** | **2006**                                       | ** ** | **2005**                                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| Components of Net  Periodic Pension Cost:                |       |                                           |       |                                           |       |   |   |   |   |
| Service cost                                             |       | $                                              | 1,462      |                                           | $          | 1,222 |   | $ | 101 |   | $ | 79 |   |
| Interest cost                                            |       | 1,563                                          |       | 1,393                                          |       | 75 |   | 64 |   |
| Expected return  on plan assets                          |       | (1,777                                         | )          | (1,416                                         | )          | — |   | — |   |
| Amortization of  net actuarial loss                      |       | 463                                            |       | 380                                            |       | 12 |   | 1 |   |
| Participant  contributions                               |       | (563                                           | )          | (554                                           | )          | — |   | — |   |
| Net periodic  pension cost                               |       | $                                              | 1,148      |                                           | $          | 1,025 |   | $ | 188 |   | $ | 144 |   |
|                                                     |       |                                           |       |                                           |       |   |   |   |   |
| Assumptions Used to  Determine Net PeriodicPension Cost: |       |                                           |       |                                           |       |   |   |   |   |
| Discount rate                                            |       | 5.00                                           | %          | 5.75                                           | %          | 4.65 | % | 5.25 | % |
| Expected rate of  return on assets                       |       | 6.75                                           | %          | 6.75                                           | %          | n/a |   | n/a |   |
| Salary increases                                         |       | 4.00                                           | %          | 4.00                                           | %          | 2.50 | % | 2.50 | % |

 
| ** **                                               | ** ** | **United Kingdom Plans**           | ** ** | **German Plan**                         | ** ** |
|----------------------------------------------------------|------------|----------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                               | ** ** | **Six Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
| ** **                                               | ** ** | **2006**                                     | ** ** | **2005**                                     | ** ** | **2006** | ** ** | **2005** | ** ** |
| Components of  Net Periodic Pension Cost:                |       |                                         |       |                                         |       |   |   |   |   |
| Service cost                                             |       | $                                            | 2,851      |                                         | $          | 2,480 |   | $ | 197 |   | $ | 164 |   |
| Interest cost                                            |       | 3,047                                        |       | 2,827                                        |       | 146 |   | 132 |   |
| Expected return on plan assets                           |       | (3,464                                       | )          | (2,875                                       | )          | — |   | — |   |
| Amortization of net actuarial loss                       |       | 902                                          |       | 771                                          |       | 24 |   | 3 |   |
| Participant contributions                                |       | (1,098                                       | )          | (1,124                                       | )          | — |   | — |   |
| Net periodic pension cost                                |       | $                                            | 2,238      |                                         | $          | 2,079 |   | $ | 367 |   | $ | 299 |   |
|                                                     |       |                                         |       |                                         |       |   |   |   |   |
| Assumptions Used  to Determine Net PeriodicPension Cost: |       |                                         |       |                                         |       |   |   |   |   |
| Discount rate                                            |       | 5.00                                         | %          | 5.75                                         | %          | 4.65 | % | 5.25 | % |
| Expected rate of return on assets                        |       | 6.75                                         | %          | 6.75                                         | %          | n/a |   | n/a |   |
| Salary increases                                         |       | 4.00                                         | %          | 4.00                                         | %          | 2.50 | % | 2.50 | % |

##  

11

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

#### **Supplemental Executive Retirement Plan**

In addition tothese foreign defined benefit pension plans, Covance also has a non-qualifiedSupplemental Executive Retirement Plan (“SERP”).  The SERP, which is not funded, is intended toprovide retirement benefits for certain executive officers of Covance.  Benefit amounts are based upon years ofservice and compensation of the participating employees.  The components of net periodic pension costfor the three and six month periods ended June 30, 2006 and 2005 are asfollows:
| ** **                                                | ** ** | **Three Months Ended  June 30**           | ** ** | **Six Months Ended  June 30** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                                | ** ** | **    2006    ** | ** ** | **2005**                                     | ** ** | **2006** | ** ** | **2005** | ** ** |
| Components of  Net Periodic Pension Cost:                 |       |                                                     |       |                                         |       |   |   |   |   |
| Service cost                                              |       | $                                                        | 232        |                                         | $          | 277 |   | $ | 463 |   | $ | 554 |   |
| Interest cost                                             |       | 164                                                      |       | 147                                          |       | 328 |   | 293 |   |
| Amortization of prior service cost                        |       | 19                                                       |       | 19                                           |       | 38 |   | 38 |   |
| Amortization of net actuarial loss                        |       | 8                                                        |       | —                                       |       | 16 |   | — |   |
| Net periodic pension cost                                 |       | $                                                        | 423        |                                         | $          | 443 |   | $ | 845 |   | $ | 885 |   |
|                                                      |       |                                                     |       |                                         |       |   |   |   |   |
| Assumptions Used  to Determine Net Periodic Pension Cost: |       |                                                     |       |                                         |       |   |   |   |   |
| Discount rate                                             |       | 5.50                                                     | %          | 6.00                                         | %          | 5.50 | % | 6.00 | % |
| Salary increases                                          |       | 4.00                                                     | %          | 4.00                                         | %          | 4.00 | % | 4.00 | % |

 

#### **Post-Employment Retiree Health and WelfarePlan**

Covance also sponsorsa post-employment retiree health and welfare plan for the benefit of eligibleemployees at certain U.S. subsidiaries who retire after satisfying service andage requirements.  This plan is funded ona pay-as-you-go basis and the cost of providing these benefits is shared withthe retirees.  The components of netperiodic post-retirement benefits cost for the three and six month periodsended June 30, 2006 and 2005 are as follows:
| ** **                                                                | ** ** | **Three Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
|---------------------------------------------------------------------------|------------|------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                                                | ** ** | **2006**                                       | ** ** | **2005**                                     | ** ** | **2006** | ** ** | **2005** | ** ** |
| Components of  Net Periodic Post-retirement Benefits Cost:                |       |                                           |       |                                         |       |   |   |   |   |
| Service cost                                                              |       | $                                              | 44         |                                         | $          | 49 |   | $ | 88 |   | $ | 98 |   |
| Interest cost                                                             |       | 78                                             |       | 90                                           |       | 156 |   | 180 |   |
| Amortization of net actuarial loss                                        |       | 13                                             |       | 36                                           |       | 26 |   | 72 |   |
| Net periodic post-retirement benefits cost                                |       | $                                              | 135        |                                         | $          | 175 |   | $ | 270 |   | $ | 350 |   |
|                                                                      |       |                                           |       |                                         |       |   |   |   |   |
| Assumptions Used  to Determine Net Periodic Post-retirement Benefit Cost: |       |                                           |       |                                         |       |   |   |   |   |
| Discount rate                                                             |       | 5.50                                           | %          | 6.00                                         | %          | 5.50 | % | 6.00 | % |
| Health care cost  trend rate                                              |       | 9.00                                           | %(a)       | 9.00                                         | %(a)       | 9.00 | %(a) | 9.00 | %(a) |

----

(a) decreasing to ultimatetrend of 5.00% in 2010

12

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

**7.  Stock Compensation**

In June 2002,Covance’s Board of Directors adopted the 2002 Employee Stock Option Plan (the “2002ESOP”). The 2002 ESOP will expire on June 24, 2012. The 2002 ESOPauthorizes the Compensation and Organization Committee of the Board ofDirectors (the “Compensation Committee”), or such committee as is appointed bythe Covance Board of Directors, to administer the 2002 ESOP, to grant awards toemployees of Covance or entities in which Covance has a controlling orsignificant interest, except that officers as defined in Rule 16(a)-1(f)of the Securities Exchange Act of 1934, and members of the Board of Directorsare not eligible to receive awards. The 2002 ESOP authorizes the CompensationCommittee to grant the following awards to eligible employees: options topurchase common stock and stock appreciation rights. The exercise period forstock options granted under the 2002 ESOP is determined by the CompensationCommittee at the time of grant, and is generally ten years from the date ofgrant.  The vesting period for stockoptions granted under the 2002 ESOP is determined by the Compensation Committeeat the time of grant and options vest over a two year period. No stockappreciation rights have ever been granted under the 2002 ESOP. The number ofshares of Covance common stock initially available for grant under the 2002ESOP totaled 5.9 million. The Company issues authorized but previouslyunissued shares when options are exercised. At June 30, 2006, there wereapproximately 3.0 million shares remaining available for grants or awardsunder the 2002 ESOP.

InMay 2002, Covance’s shareholders approved the 2002 Employee EquityParticipation Plan (the “2002 EEPP”) in replacement of the 2000 Employee EquityParticipation Plan (the “2000 EEPP”). The 2002 EEPP became effective onMay 7, 2002 and will expire on May 6, 2012. The 2002 EEPP authorizesthe Compensation Committee, or such committee as is appointed by the CovanceBoard of Directors, to administer the 2002 EEPP, to grant awards to employeesand consultants of Covance or entities in which Covance has a controlling orsignificant interest. The 2002 EEPP authorizes the Compensation Committee togrant the following awards to eligible employees: options to purchase commonstock; stock appreciation rights; and other stock awards either singly or in combination.  The exercise period for stock options grantedunder the 2002 EEPP is determined by the Compensation Committee at the time ofgrant, and is generally ten years from the date of grant.  The vesting period for stock options andstock awards granted under the 2002 EEPP is determined by the CompensationCommittee at the time of grant. Options vest over a three year period forsenior executives and over a two year period for all other employees. Stockawards generally vest over a three year period for all employees. The number ofshares of Covance common stock initially available for grant under the 2002EEPP totaled approximately 3.25 million plus approximately0.9 million shares remaining available under the 2000 EEPP at the time the2002 EEPP was approved. Effective upon approval of the 2002 EEPP, no furthergrants or awards were permitted under the 2000 EEPP. All grants and awardsunder the 2000 EEPP remaining outstanding are now administered and paid inaccordance with the provisions of the 2000 EEPP out of shares issuable underthe 2002 EEPP. The Company issues authorized but previously unissued shareswhen options are exercised. At June 30, 2006 there were approximately 3.6million shares remaining available for grants or awards under the 2002 EEPP.

EffectiveJanuary 1, 2006, the Company adopted the fair value recognition provisions ofSFAS 123R using the modified prospective transition method.  SFAS 123R revises SFAS 123, supersedes APB 25and amends Statement of Financial Accounting Standards No. 95, *Statement of Cash Flows*. Under the modified prospective transition method, compensation expenseis recognized in the financial statements on a go forward basis for (a) allshare-based payments granted prior to, but not vested as of January 1, 2006, basedupon the grant-date fair value estimated in accordance with the originalprovisions of SFAS 123, and (b) share-based payments granted on or subsequentto January 1, 2006, based upon the grant-date fair value estimated inaccordance with the provisions of SFAS 123R. The grant-date fair value of awards expected to vest is expensed on astraight-line basis over the vesting period of the related awards.  Under the modified prospective transitionmethod, results for prior periods are not restated.

Asa result of the adoption of SFAS 123R, both income from operations and incomebefore taxes for the three and six month periods ended June 30, 2006 includeincremental stock-based compensation expense of $3.8 million and $7.8 million,respectively.  For the three months endedJune 30, 2006, the after tax impact of this incremental stock-basedcompensation expense on net income, basic and diluted earnings per share was$2.6 million, $0.04 and $0.04 respectively. For the six months ended June 30, 2006, the after tax impact of thisincremental stock-based compensation expense on net income, basic and dilutedearnings per share was $5.3 million, $0.08 and $0.08 respectively.  Results of operations for the three monthperiod ended June 30, 2006 include $5.1 million ($3.5 million net of taxbenefit of $1.6 million) of total stock-based compensation expense, $1.7million of which has been included in cost of revenue and $3.4 million of whichhas been included in selling,

13

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

general and administrative expenses. Results of operations for the six month period ended June 30, 2006include $9.4 million ($6.4 million net of tax benefit of $3.0 million) of totalstock-based compensation expense, $3.5 million of which has been included incost of revenue and $5.9 million of which has been included in selling, generaland administrative expenses.

Priorto January 1, 2006, Covance followed the disclosure-only provisions of SFAS 123and, accordingly, accounted for awards under its share based compensation planspursuant to the recognition and measurement principles of APB 25 and relatedInterpretations, as permitted by SFAS 123. Under APB 25, compensation expense was recognized in the financialstatements for the fair value of stock awards. However, no compensation expense was recorded in the financialstatements for stock option grants, as all options have been granted with anexercise price equal to the market value of the underlying common stock on thedate of grant. Additionally, no compensation expense was recorded in thefinancial statements for shares purchased by employees under the Company’sEmployee Stock Purchase Program as that plan was considered to benon-compensatory under APB 25. The following table illustrates the effect onnet income and earnings per share for the three and six month periods endedJune 30, 2005 had Covance applied the fair value recognition provisions ofSFAS 123 to all of its stock-based employee compensation plans.
| ** **                                                                                                                                    | ** ** | **Three Months Ended,  June 30, 2005 ** | ** ** | **Six Months Ended,  June 30, 2005** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------|------------|----------------------------------------------------------|------------|
| Net income, as  reported                                                                                                                      |       |                                                             | $          | 29,550                                                   |       |   |   | $ | 58,414 |   |   |
| Add: Stock award-based  employee compensation included in reported net income, net of related tax  effects                                    |       |                                                             | 833        |                                                     |       |   | 1,941 |   |   |
| Deduct: Total  stock-based employee compensation expense determined under fair value  based method for all awards, net of related tax effects |       |                                                             | (3,902     | )                                                        |       |   | (8,364 | ) |   |
| Pro forma net  income                                                                                                                         |       |                                                             | $          | 26,481                                                   |       |   |   | $ | 51,991 |   |   |
|                                                                                                                                          |       |                                                             |       |                                                     |       |   |   |   |   |
| Earnings per  share:                                                                                                                          |       |                                                             |       |                                                     |       |   |   |   |   |
| Basic—as reported                                                                                                                        |       |                                                             | $          | 0.47                                                     |       |   |   | $ | 0.93 |   |   |
| Basic—pro forma                                                                                                                          |       |                                                             | $          | 0.42                                                     |       |   |   | $ | 0.83 |   |   |
|                                                                                                                                          |       |                                                             |       |                                                     |       |   |   |   |   |
| Diluted—as reported                                                                                                                      |       |                                                             | $          | 0.46                                                     |       |   |   | $ | 0.92 |   |   |
| Diluted—pro  forma                                                                                                                       |       |                                                             | $          | 0.42                                                     |       |   |   | $ | 0.81 |   |   |

 

*Options*—Thegrant-date fair value of stock option awards is estimated using an optionpricing model.  For stock options grantedprior to January 1, 2006, the Company used the Black-Scholes-Merton optionpricing formula to estimate the grant-date fair value of such awards.  For stock options granted on or subsequent toJanuary 1, 2006, the Company is using the Lattice-Binomial option pricingformula to estimate the grant-date fair value of stock option awards.  The Company changed to the Lattice-Binomialoption pricing formula as it believes such formula may result in a betterestimate of fair value than the Black-Scholes-Merton formula.  In order to estimate the grant-date fairvalue, option pricing models require the use of estimates and assumptions as to(a) the expected term of the option, (b) the expected volatility of the priceof the underlying stock, (c) the risk-free interest rate for the expected termof the option and (d) pre-vesting forfeiture rates.  The expected term of the option is based uponthe contractual term, taking into account expected employee exercise andexpected post-vesting employment termination behavior.  The expected volatility of the price of theunderlying stock is based upon the historical volatility of the Company’s stockcomputed over a period of time equal to the expected term of the option.  The risk free interest rate is based upon theimplied yields currently available from the U.S. Treasury zero-coupon yieldcurve for issues with a remaining duration equal to the expected term of the option.  Pre-vesting forfeiture rates are estimatedbased upon past voluntary termination behavior and past option forfeitures.

14

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

Thefollowing table sets forth the weighted-average assumptions used to calculatethe fair value of options granted for the three and six month periods endedJune 30, 2006 and 2005:
| ** **                        | ** ** | **Three Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
|-----------------------------------|------------|------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                        | ** ** | **2006**                                       | ** ** | **2005**                                     | ** ** | **2006** | ** ** | **2005** | ** ** |
| Expected stock  price volatility  |       | 43.6%                                          |       | 43.6%                                        |       | 43.6% |   | 43.6% |   |
| Risk free  interest rate(s)       |       | 4.61%  - 4.99%                                 |       | 3.65%                                        |       | 4.38%  - 4.57% |   | 3.66% |   |
| Expected life of  options (years) |       | 4.33                                           |       | 5.0                                          |       | 4.33 |   | 5.0 |   |

 

Thefollowing table sets forth Covance’s stock option activity as of and for thesix month period ended June 30, 2006:
| ** **                                             | ** ** | **Number  of Shares  (in thousands)** | ** ** | **Weighted  Average  Price** | ** ** | **Weighted  Average  Remaining  Contractual Life** | ** ** | **Aggregate  Intrinsic  Value  (in millions)** | ** ** |
|--------------------------------------------------------|------------|-------------------------------------------------|------------|------------------------------|------------|---------------------------------------------------------|------------|-----------------------------------------------------|------------|
| Options  outstanding, December 31, 2005                |       | 3,841.9                                         |       | $                            | 28.58      |                                                    |       |                                                |       |   |
| Granted                                                |       | 382.9                                           |       | $                            | 56.12      |                                                    |       |                                                |       |   |
| Exercised                                              |       | (741.6                                          | )          | $                            | 27.01      |                                                    |       |                                                |       |   |
| Forfeited                                              |       | (138.6                                          | )          | $                            | 32.30      |                                                    |       |                                                |       |   |
| Options  outstanding, June 30, 2006                    |       | 3,344.6                                         |       | $                            | 31.89      |                                                    | 7.0 years  |                                                | $          | 98.1 |   |
|                                                   |       |                                            |       |                         |       |                                                    |       |                                                |       |
| Vested and  unvested expected to vest at June 30, 2006 |       | 3,344.2                                         |       | $                            | 31.67      |                                                    | 7.0 years  |                                                | $          | 98.8 |   |
| Exercisable at June 30,  2006                          |       | 2,502.1                                         |       | $                            | 26.42      |                                                    | 6.3 years  |                                                | $          | 87.1 |   |

 

Theweighted-average grant-date fair value per share of options granted during thethree month periods ended June 30, 2006 and 2005 were $21.83 and $19.47,respectively.  The weighted-averagegrant-date fair value per share of options granted during the six month periodsended June 30, 2006 and 2005 were $22.04 and $18.10, respectively.  As of June 30, 2006, the total unrecognizedcompensation cost related to non-vested stock options granted was $11.9 millionand is expected to be recognized over a weighted average period of 1.74 years.

Thefollowing table sets forth the aggregate intrinsic value of options exercisedand the aggregate grant-date fair value of shares which vested for the threeand six month periods ended June 30, 2006 and 2005:
| ** **                                        | ** ** | **Three Months Ended June 30** | ** ** | **Six Months Ended June 30** | ** ** |
|---------------------------------------------------|------------|----------------------------------------------------|------------|--------------------------------------------------|------------|
| **(in millions)**                            | ** ** | **2006**                                           | ** ** | **2005**                                         | ** ** | **2006** | ** ** | **2005** | ** ** |
| Aggregate  intrinsic value of options exercised   |       |                                               | $          | 7.1                                              |       |   |   | $ | 4.2 |   |   |   | $ | 23.0 |   |   |   | $ | 25.9 |   |   |
| Aggregate grant-date  fair value of shares vested |       |                                               | $          | 0.9                                              |       |   |   | $ | 1.7 |   |   |   | $ | 13.0 |   |   |   | $ | 15.1 |   |   |

 

Cashproceeds from stock options exercised during the six month periods ended June30, 2006 and 2005 totaled $19.9 million and $22.0 million, respectively.  Prior to the adoption of SFAS 123R, the Company presented the taxbenefit of deductions resulting from the exercise of stock options as anoperating cash flow in the Statements of Cash Flows in accordance with SFAS 123and APB 25.  For the six months endedJune 30, 2005, the tax benefit realized and included in operating cash flowstotaled $8.0 million.  SFAS 123R requiresthat the cash flows resulting from tax benefits realized on tax deductions “inexcess of” the compensation expense recognized (either in the financialstatements or the pro forma footnote disclosures) for stock options exercisedin the period be classified as a financing cash flow.  The “excess tax benefit” classified as afinancing cash inflow

15

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

during the six months ended June 30, 2006 was $5.4 million and wouldhave been classified as an operating cash inflow under SFAS 123.  The actual tax benefit realized on stockoptions exercised during the six month period ended June 30, 2006 was $9.6million.  The difference between theactual tax benefit received and the “excess tax benefit” computed in accordancewith SFAS 123R of $4.2 million continues to be classified as an operating cashinflow.

*Restricted Stock Awards*—Restricted stock awards are granted subject tocertain restrictions, including in some cases service conditions (restrictedstock) and in other cases service and performance conditions (performanceshares).  The grant-date fair value ofrestricted stock and performance share awards, which has been determined basedupon the market value of Covance’s shares on the grant date, is expensed overthe vesting period.

The following table setsforth Covance’s performance shares and restricted stock activity as of and forthe six month period ended June 30, 2006:
| ** **                      | ** ** | **Performance Shares**                     | ** ** | **Restricted Stock**                               | ** ** |
|---------------------------------|------------|-------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                      | ** ** | **Number  of Shares  (in thousands)** | ** ** | **Weighted  Average  Grant Date  Fair Value** | ** ** | **Number  of Shares  (in thousands)** | ** ** | **Weighted  Average  Grant Date  Fair Value** | ** ** |
| Nonvested at  December 31, 2005 |       | 175.2                                           |       | $                                                       | 34.12      |   | 30.0 |   | $ | 44.99 |   |
| Granted                         |       | 157.9                                           |       | $                                                       | 49.27      |   | 175.5 |   | $ | 56.32 |   |
| Vested                          |       | (8.7                                            | )          | $                                                       | 36.35      |   | (0.5 | ) | $ | 56.18 |   |
| Forfeited                       |       | (21.9                                           | )          | $                                                       | 34.20      |   | (10.9 | ) | $ | 53.13 |   |
| Nonvested at June 30,  2006     |       | 302.5                                           |       | $                                                       | 41.95      |   | 194.1 |   | $ | 54.75 |   |

 

The blended weightedaverage grant-date fair value for the performance shares and restricted stockawards granted during the three and six months ended June 30, 2006 was $58.41and $52.98, respectively and during the three and six months ended June 30,2005 was $44.98 and $36.39, respectively. As of June 30, 2006, the total unrecognized compensation cost related tonon-vested performance shares and restricted stock awards was $17.0million.  This cost is expected to berecognized over a weighted average period of 2.5 years.

*Employee Stock Purchase Plan*- Covance also has an employee stock purchase plan(the “ESPP”) pursuant to which Covance may make available for sale to employeesshares of its common stock at a price equal to 85% of the lower of the marketvalue on the first or last day of each calendar quarter. The ESPP, administeredby the Compensation Committee, is intended to give Covance employees theopportunity to purchase shares of Covance common stock through payrolldeductions. A maximum of 3.0 million shares may be purchased by Covanceemployees under the ESPP.

**8.  Segment Information**

Covance has tworeportable segments: early development and late-stage development. Earlydevelopment services, which includes Covance’s preclinical and clinicalpharmacology service capabilities, involve evaluating a new compound for safetyand early effectiveness as well as evaluating the absorption, distribution,metabolism and excretion of the compound in the human body.  It is at this stage that a pharmaceuticalcompany, based on available data, will generally decide whether to continuefurther development of a drug. Late-stage development services, which include Covance’s centrallaboratory, clinical development, periapproval, cardiac safety services, andmarket access services, are geared toward demonstrating the clinicaleffectiveness of a compound in treating certain diseases or conditions,obtaining regulatory approval and maximizing the drug’s commercial potential.

16

----

**COVANCE INC. ANDSUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)(UNAUDITED)June 30, 2006 and 2005(dollars in thousands, unless otherwise indicated)**

The accountingpolicies of the reportable segments are the same as those described in Note2.  Segment net revenues, operatingincome and total assets for the three and six months ended June 30, 2006 and2005 are as follows:
| ** **                              | ** ** | **Early  Development** | ** ** | **Late-Stage  Development** | ** ** | **Other  Reconciling Items** | ** ** | **Total** | ** ** |
|-----------------------------------------|------------|------------------------|------------|-----------------------------|------------|-----------------------------------|------------|-----------|------------|
| ***Three  months ended June 30, 2006*** |       |                   |       |                        |       |                              |       |      |       |
| Total revenues from external customers  |       | $                      | 155,749    |                        | $          | 179,491                           |       | $         | 21,934     |  (a) | $ | 357,174 |   |
| Operating income                        |       | $                      | 39,135     |                        | $          | 28,530                            |       | $         | (20,625    | )(b) | $ | 47,040 |   |
| Total assets                            |       | $                      | 679,032    |                        | $          | 399,699                           |       | $         | 88,256     |  (c) | $ | 1,166,987 |   |
|                                    |       |                   |       |                        |       |                              |       |      |       |
| ***Three  months ended June 30, 2005*** |       |                   |       |                        |       |                              |       |      |       |
| Total revenues from external customers  |       | $                      | 139,766    |                        | $          | 154,197                           |       | $         | 13,449     |  (a) | $ | 307,412 |   |
| Operating income                        |       | $                      | 33,718     |                        | $          | 26,895                            |       | $         | (18,687    | )(b) | $ | 41,926 |   |
| Total assets                            |       | $                      | 500,050    |                        | $          | 401,794                           |       | $         | 31,637     |  (c) | $ | 933,481 |   |
| *** ***                            |       |                   |       |                        |       |                              |       |      |       |
| ***Six  months ended June 30, 2006***   |       |                   |       |                        |       |                              |       |      |       |
| Total revenues from external customers  |       | $                      | 298,188    |                        | $          | 357,561                           |       | $         | 35,063     |  (a) | $ | 690,812 |   |
| Operating income                        |       | $                      | 74,634     |                        | $          | 60,513                            |       | $         | (42,263    | )(b) | $ | 92,884 |   |
| Total assets                            |       | $                      | 679,032    |                        | $          | 399,699                           |       | $         | 88,256     |  (c) | $ | 1,166,987 |   |
|                                    |       |                   |       |                        |       |                              |       |      |       |
| ***Six  months ended June 30, 2005***   |       |                   |       |                        |       |                              |       |      |       |
| Total revenues from external customers  |       | $                      | 270,717    |                        | $          | 304,511                           |       | $         | 24,967     |  (a) | $ | 600,195 |   |
| Operating income                        |       | $                      | 65,694     |                        | $          | 52,539                            |       | $         | (35,451    | )(b) | $ | 82,782 |   |
| Total assets                            |       | $                      | 500,050    |                        | $          | 401,794                           |       | $         | 31,637     |  (c) | $ | 933,481 |   |

----

(a)           Represents revenues associated with reimbursableout-of-pocket expenses.

(b)           Represents corporate expenses (primarily informationtechnology, marketing, communications, human resources, finance andlegal).  Beginning in 2006, incrementalstock based compensation expense under SFAS 123R is now recorded in results ofoperations and has been included in corporate expenses.

(c)           Represents corporate assets.

17

----

**Item 2. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations**

You should read the following discussion together withthe unaudited Covance consolidated financial statements and the accompanyingnotes included in this Quarterly Report on Form 10-Q for the quarter ended June30, 2006.

**Overview**

Covance is a leading drugdevelopment services company providing a wide range of early-stage andlate-stage product development services on a worldwide basis primarily to thepharmaceutical, biotechnology and medical device industries.  Covance also provides services such aslaboratory testing to the chemical, agrochemical and food industries. Theforegoing services comprise two reportable segments for financial reportingpurposes: early development services, which includes preclinical and clinicalpharmacology service offerings; and late-stage development services, whichincludes central laboratory, clinical development, periapproval, cardiac safetyservices, and market access services.  Althougheach segment has separate services within it, they can be combined in jointservice offerings and we believe clients increasingly are interested inopportunities for such combined services. Covance believes it is one of the largest drug development servicescompanies, based on annual net revenues, and one of a few that is capable ofproviding comprehensive global product development services. Covance offers itsclients high quality services designed to provide data to clients as rapidly aspossible and reduce product development time. We believe this enables Covance’s customers to introduce their productsinto the marketplace faster and as a result, maximize the period of marketexclusivity and monetary return on their research and development investments.Additionally, Covance’s comprehensive services and broad experience provide itscustomers with a variable cost alternative to fixed cost internal developmentcapabilities.

**Critical Accounting Policies**

Covance’sconsolidated financial statements are prepared in accordance with U.S.generally accepted accounting principles (“GAAP”), which require management tomake estimates and assumptions about future events that affect the amountsreported in the financial statements and the accompanying notes.  Actual results could differ from theseestimates.  The following discussionhighlights what we believe to be the critical accounting policies and judgmentsmade in the preparation of these consolidated financial statements.

***Revenue Recognition.***Covance recognizes revenueeither as services are performed or products are delivered, depending upon thenature of the work contracted. Historically, a majority of Covance’s net revenues have been earnedunder contracts which range in duration from a few months to two years, but canextend in duration up to five years or longer. Service contracts generally take the form of fee-for-service orfixed-price arrangements.  In the case offee-for-service contracts, revenue is recognized as services are performed,based upon, for example, hours worked or samples tested.  For long-term fixed-price service contracts,revenue is recognized as services are performed, with performance generallyassessed using output measures, such as units-of-work performed to date ascompared to the total units-of-work contracted. Changes in the scope of work generally result in a renegotiation ofcontract pricing terms.  Renegotiatedamounts are not included in net revenues until earned and realization isassured.  Estimates of costs to completeare made to provide, where appropriate, for losses expected on contracts.  Costs are not deferred in anticipation ofcontracts being awarded, but instead are expensed as incurred.  In some cases, a portion of the contract feeis paid at the time the trial is initiated. These advances are deferred and recognized as revenue as services areperformed or products are delivered, as discussed above.  Additional payments may be made based uponthe achievement of performance-based milestones over the contract duration.  Most contracts are terminable by the clienteither immediately or upon notice.  Thesecontracts typically require payment to Covance of expenses to wind down thestudy, fees earned to date and, in some cases, a termination fee or a paymentto Covance of some portion of the fees or profits that could have been earnedby Covance under the contract if it had not been terminated early.  Termination fees are included in net revenueswhen realization is assured.

***Bad Debts. ***Covanceendeavors to assess and monitor the creditworthiness of its customers to whichit grants credit terms in the ordinary course of business.  Covance maintains a provision for doubtfulaccounts relating to amounts due that may not be collected.  This bad debt provision is monitored on amonthly basis and adjusted as circumstances warrant.  Since the recorded bad debt provision isbased upon management’s judgment, actual bad debt write-offs may be greater orless than the amount recorded. Historically bad debt write-offs have not been material.

18

----

***Taxes on Income.***SinceCovance conducts operations on a global basis, its effective tax rate has andwill continue to depend upon the geographic distribution of its pre-taxearnings among locations with varying tax rates. Covance’s profits are furtherimpacted by changes in the tax rates of the various jurisdictions. Inparticular, as the geographic mix of Covance’s pre-tax earnings among varioustax jurisdictions changes, Covance’s effective tax rate may vary from period toperiod.  In addition, Covance’s policy isto provide income taxes on earnings of foreign subsidiaries only to the extentthose earnings are taxable or are expected to be remitted.  Covance’s historical policy has been to leaveits unremitted foreign earnings invested indefinitely outside the UnitedStates. Except for the amounts repatriated in the fourth quarter of 2005 underthe American Jobs Creation Act of 2004 (the “Act”), Covance intends to continueto leave its unremitted foreign earnings invested indefinitely outside theUnited States.  As a result, taxes havenot been provided on any accumulated foreign unremitted earnings as of June 30,2006.

Covance has established, and periodically reviews andreevaluates, an estimated income tax reserve which is included in accruedexpenses and other current liabilities on its consolidated balance sheet.  This income tax reserve is for exposuresrelated to matters such as transfer pricing, nexus, deemed dividends and theallocation of overhead costs across various Federal, state and foreign incometax jurisdictions. An accrual is established at the time an exposure isidentified when it is both probable that a liability has been incurred and theamount of the liability can be reasonably estimated.  The amount of the accrual for each item forwhich an exposure exists is adjusted when either (a) matters are settled atamounts which are different than the amount included in the reserve or (b) whenfacts indicate a significant change in either the probability or estimatedamount of the potential exposure.  WhileCovance believes that it has identified all reasonably identifiable exposuresand that the reserve it has established for identifiable exposures isappropriate under the circumstances, it is possible that additional exposures existand that exposures will be settled at amounts different than the amountsreserved.  It is possible that changes inestimates in the future could cause Covance to either materially increase orreduce the carrying amount of its income tax reserve.

***StockBased Compensation.***The Company sponsors severalstock-based compensation plans pursuant to which non-qualified stock optionsand restricted stock awards are granted to eligible employees.  Through the year ended December 31, 2005, theCompany followed the disclosure-only provisions of Statement of FinancialAccounting Standards No. 123,*Accounting forStock-Based Compensation*, (“SFAS 123”), and, accordingly, accountedfor awards under these plans pursuant to the recognition and measurementprinciples of Accounting Principles Board Opinion No. 25, *Accountingfor Stock Issued to Employees*, (“APB 25”) and relatedInterpretations, as permitted by SFAS 123. Under APB 25, compensation expense was recognized in the financialstatements relating to awards of stock. However, no compensation expense was recorded in the financialstatements for stock option grants, as all options have been granted with anexercise price equal to the market value of the underlying common stock on thedate of grant. Additionally, no compensation expense was recorded in thefinancial statements for shares purchased by employees under the Company’sEmployee Stock Purchase Plan (pursuant to which employees are able to purchaseshares of the Company’s common stock at a price equal to 85% of the lower ofthe market value on the first or last day of each calendar quarter) as thatplan was considered to be non-compensatory under APB 25.

Effective January 1,2006, the Company adopted the fair value recognition provisions of Statement ofFinancial Accounting Standards No. 123R, *Share-Based Payments*,(“SFAS 123R”) using the modified prospective transition method.  SFAS 123R revises SFAS 123, supersedes APB 25 and amends Statement ofFinancial Accounting Standards No. 95, *Statement of Cash Flows*.  Under that transition method,compensation expense is now recognized in the financial statements on a goforward basis for (a) all share-based payments granted prior to, but not vestedas of January 1, 2006, based upon the grant-date fair value estimated inaccordance with the original provisions of SFAS 123, and (b) share-basedpayments granted on or subsequent to January 1, 2006, based upon the grant-datefair value estimated in accordance with the provisions of SFAS 123R.  The grant-date fair value of awards expectedto vest is expensed on a straight-line basis over the vesting period of therelated awards.  Under the modifiedprospective transition method, results for prior periods have not beenrestated.

Prior to the adoption ofSFAS123R, the Company used stock options as the vehicle through whichstock-based compensation awards were granted to eligible employees, other thanexecutive officers who historically were granted a combination ofperformance-based share awards and stock options.  As a result of the adoption of SFAS 123R, theCompany is now using a mix of restricted share awards and stock options as thevehicles through which stock-based compensation awards are granted to eligibleemployees, other than executive officers who continue to receive a combinationof performance-based share awards and stock options.

The grant-date fair valueof stock awards is based upon the underlying price of the stock on the date ofgrant.  The grant-date fair value ofstock option awards must be determined using an option pricing model.  Option pricing models require the use ofestimates and assumptions as to (a) the expected term of the option, (b) theexpected volatility of the price of the underlying stock, (c) the risk-freeinterest rate for the expected term of the option and (d) pre-vestingforfeiture rates.  For stock options

19

----

granted prior toJanuary 1, 2006, the Company used the Black-Scholes-Merton option pricingformula for determining the grant-date fair value of such awards.  For stock options granted on or subsequent toJanuary 1, 2006, the Company is using the Lattice-Binomial option pricingformula for determining the grant-date fair value of stock option awards.  The Company changed to the Lattice-Binomial option pricing formula asit believes such formula may result in a better estimate of fair value than theBlack-Scholes-Merton formula.

The expected term of theoption is based upon the contractual term and expected employee exercise andexpected post-vesting employment termination behavior.  The expected volatility of the price of theunderlying stock is based upon the historical volatility of the Company’s stockcomputed over a period of time equal to the expected term of the option.  The risk free interest rate is based upon theimplied yields currently available from the U.S. Treasury zero-coupon yieldcurve for issues with a remaining duration equal to the expected term of theoption.  Pre-vesting forfeiture rates areestimated based upon past voluntary termination behavior and past optionforfeitures.

Thefollowing table sets forth the weighted-average assumptions used to calculatethe fair value of options granted for the three and six month periods endedJune 30, 2006 and 2005:

 
| ** **                        | ** ** | **Three Months Ended June 30**                                                                                                                               | ** ** | **Six Months Ended June 30** | ** ** |
|-----------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                        | ** ** | **              2006              ** | ** ** | **2005**                                         | ** ** | **2006** | ** ** | **2005** | ** ** |
| Expected stock  price volatility  |       | 43.6%                                                                                                                                                                            |       | 43.6%                                            |       | 43.6% |   | 43.6% |   |   |
| Risk free  interest rate(s)       |       | 4.61% - 4.99%                                                                                                                                                                    |       | 3.65%                                            |       | 4.38% - 4.57% |   | 3.66% |   |   |
| Expected life of  options (years) |       | 4.33                                                                                                                                                                             |       | 5.0                                              |       | 4.33 |   | 5.0 |   |   |
|                                   |            |                                                                                                                                                                                  |            |                                                  |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

Changes in any of theseassumptions could impact, potentially materially, the amount of expenserecorded in future periods related to stock based awards.

As of June 30, 2006, the total unrecognized compensation cost related tonon-vested stock options granted was $11.9 million and is expected to berecognized over a weighted average period of 1.74 years. As of June 30,2006, the total unrecognized compensation cost related to non-vestedperformance shares and restricted stock awards was $17.0 million and isexpected to be recognized over a weighted average period of 2.5 years.

***Impairment of Assets.***Covance reviews its long-lived assets other than goodwill and otherintangible assets for impairment, when events or changes in circumstances occurthat indicate that the carrying value of the asset may not be recoverable.  The assessment of possible impairment isbased upon Covance’s judgment of its ability to recover the asset from theexpected future undiscounted cash flows of the related operations.  Actual future cash flows may be greater orless than estimated.

Covanceperforms an annual test for impairment of goodwill and other intangible assetsduring the fourth quarter.  This test isperformed by comparing, at the reporting unit level, the carrying value to itsfair value.  Covance assesses fair valuebased upon its best estimate of the present value of the future cash flows thatit expects to be generated by the reporting unit.  The test performed for 2005 did not identifyany instances of impairment.  However,changes in expectations as to the present value of the reporting unit’s futurecash flows might impact subsequent years’ assessments of impairment.

***Defined Benefit Pension Plans****.*Covance sponsors definedbenefit pension plans for the benefit of its employees at three foreignsubsidiaries.  The measurement of therelated pension benefit obligation and the expense recorded in each year isbased upon actuarial computations which require judgment as to (a) theappropriate discount rate to use in computing the present value of the benefitobligation, (b) the expected return on plan assets and (c) the expected futurerate of salary increases.  Actual resultswill likely differ, in some periods materially, from the assumptions used in theactuarial valuations.

**Foreign Currency Risks**

Since Covance operates on a global basis, it isexposed to various foreign currency risks. Two specific risks arise from thenature of the contracts Covance executes with its customers since from time totime contracts are denominated in a currency different than the particularCovance subsidiary’s local currency. These risks are generally applicable onlyto a portion of the contracts executed by Covance’s foreign subsidiariesproviding clinical services. The first risk occurs as revenue recognized forservices rendered is denominated in a currency different from the currency inwhich the subsidiary’s expenses are incurred. As a result, the subsidiary’s netrevenues and resultant earnings can be affected by fluctuations in exchangerates.  Historically,

20

----

fluctuations in exchangerates from those in effect at the time contracts were executed have not had amaterial effect upon Covance’s consolidated financial results.  See “Risk Factors”.

Thesecond risk results from the passage of time between the invoicing of customersunder these contracts and the ultimate collection of customer payments againstsuch invoices. Because the contract is denominated in a currency other than thesubsidiary’s local currency, Covance recognizes a receivable at the time of invoicingfor the local currency equivalent of the foreign currency invoice amount.Changes in exchange rates from the time the invoice is prepared and paymentfrom the customer is received will result in Covance receiving either more orless in local currency than the local currency equivalent of the invoice amountat the time the invoice was prepared and the receivable established. Thisdifference is recognized by Covance as a foreign currency transaction gain orloss, as applicable, and is reported in other expense (income) in Covance’sConsolidated Statements of Income.

Finally, Covance’sconsolidated financial statements are denominated in U.S. dollars. Accordingly,changes in exchange rates between the applicable foreign currency and the U.S.dollar will affect the translation of each foreign subsidiary’s financialresults into U.S. dollars for purposes of reporting Covance’s consolidatedfinancial results. The process by which each foreign subsidiary’s financialresults are translated into U.S. dollars is as follows: income statementaccounts are translated at average exchange rates for the period; balance sheetasset and liability accounts are translated at end of period exchange rates;and equity accounts are translated at historical exchange rates. Translation ofthe balance sheet in this manner affects the stockholders’ equity account,referred to as the cumulative translation adjustment account. This accountexists only in the foreign subsidiary’s U.S. dollar balance sheet and isnecessary to keep the foreign balance sheet stated in U.S. dollars inbalance.  At June 30, 2006 theaccumulated other comprehensive income — cumulative translation account balancewas $23.4 million.

**Operating Expenses and Reimbursable Out-of-Pockets**

Covance segregates its recurringoperating expenses among four categories: cost of revenue; reimbursedout-of-pocket expenses; selling, general and administrative expenses; anddepreciation and amortization. Cost of revenue includes direct labor andrelated benefits, other direct costs, shipping and handling fees, and anallocation of facility charges and information technology costs, and excludesdepreciation and amortization. Cost of revenue, as a percentage of netrevenues, tends and is expected to fluctuate from one period to another, as aresult of changes in labor utilization and the mix of service offeringsinvolving hundreds of studies conducted during any period of time. Selling,general and administrative expenses consist primarily of administrative payrolland related benefit charges, advertising and promotional expenses,administrative travel and an allocation of facility charges and informationtechnology costs, and excludes depreciation and amortization.

In connection with themanagement of multi-site clinical trials, Covance pays on behalf of itscustomers fees to investigators, volunteers and other out-of-pocket costs (suchas for travel, printing, meetings, couriers, etc.), for which it is reimbursedat cost, without mark-up or profit. Investigator fees are not reflected in total revenues or expenses whereCovance acts in the capacity of an agent on behalf of the pharmaceuticalcompany sponsor, passing through these costs without risk or reward toCovance.  All other out-of-pocket costsare included in total revenues and expenses.

**Quarterly Results**

Covance’s quarterlyoperating results are subject to variation, and are expected to continue to besubject to variation, as a result of factors such as (1) delays in initiatingor completing significant drug development trials, (2) termination or reductionin size of drug development trials, (3) acquisitions and divestitures, (4)changes in the mix of our services, and (5) exchange rate fluctuations. Delaysand terminations of trials are often the result of actions taken by Covance’scustomers or regulatory authorities and are not typically controllable byCovance. Since a large amount of Covance’s operating costs are relatively fixedwhile revenue is subject to fluctuation, moderate variations in thecommencement, progress or completion of drug development trials may causesignificant variations in quarterly results.

**Results of Operations**

**Items AffectingComparability Between Periods**

Prior to 2006, theCompany followed the disclosure-only provisions of SFAS 123, and, accordingly,accounted for awards under these plans pursuant to the recognition andmeasurement principles of APB 25 and related Interpretations, as permitted bySFAS 123.  Under APB 25, compensationexpense was recognized in the financial statements relating to awards ofstock.  However, no compensation expensewas recorded in the financial statements for stock option grants, as alloptions have been granted with an exercise price equal to the market value ofthe underlying common stock on the date of grant. Additionally, no compensationexpense was recorded in the financial statements for shares purchased byemployees under the Company’s Employee Stock Purchase Plan (pursuant to whichemployees are able to purchase shares of the Company’s common stock at a

21

----

price equal to 85%of the lower of the market value on the first or last day of each calendarquarter) as that plan was considered to be non-compensatory under APB 25.  Covance reflected the expense associated withthe fair value of stock-based awards in its required pro forma footnotedisclosure under SFAS 123 in its SEC filings.

Effective January 1,2006, the Company adopted the fair value recognition provisions of SFAS 123Rusing the modified prospective transition method.  SFAS 123R revises SFAS 123, supersedes APB 25 and amends Statement ofFinancial Accounting Standards No. 95, *Statement of Cash Flows*.  Under that transition method,compensation expense is now recognized in the financial statements on a goforward basis for (a) all share-based payments granted prior to, but not vestedas of January 1, 2006, based upon the grant-date fair value estimated inaccordance with the original provisions of SFAS 123, and (b) share-basedpayments granted on or subsequent to January 1, 2006, based upon the grant-datefair value estimated in accordance with the provisions of SFAS 123R.  The grant-date fair value of awards expectedto vest is expensed on a straight-line basis over the vesting period of therelated awards.  Under the modifiedprospective transition method, results for prior periods have not beenrestated.

Management believes thatit may be useful for investors, in evaluating current period financialperformance, to compare to 2005 results that include stock-based compensationcomputed in accordance with SFAS 123. Management does not assert that such pro forma numbers are superior tothe 2005 “as reported” results; however, the pro forma numbers may helpinvestors compare results including stock option expense across both periods.

Although the Company isnow using the Lattice-Binomial option pricing formula for valuing stock optionsgranted beginning in 2006 (whereas previously the Company had used theBlack-Scholes-Merton option pricing formula), management believes that theLattice-Binomial and the Black-Scholes-Merton option pricing formulas, with theassumptions used by the Company, result in fair values which are substantiallysimilar in all material respects.  As aresult, the Company believes that the 2006 “as reported” amounts under SFAS123R are comparable to the 2005 “pro forma” amounts as previously disclosedunder SFAS 123.

***Three Months Ended June 30, 2006 Compared with Three Months Ended June30, 2005. ***Netrevenues increased 14.0% to $335.2 million for the three months ended June 30,2006 from $294.0 million for the corresponding 2005 period.  Excluding the impact of foreign exchange ratevariances between both periods net revenues increased 14.7% as compared to thecorresponding 2005 period.  Net revenuesfrom Covance’s early development segment grew 11.4%, or 12.0 % excluding theimpact of foreign exchange rate variances between both periods, and growth wasbroad based across the segment.  Netrevenues from Covance’s late-stage development segment grew 16.4%, or 17.1%excluding the impact of foreign exchange rate variances between both periods,primarily on strength in our central laboratory and commercializationservices.  This strength was partiallyoffset by the slower conversion of backlog to revenue in our clinicaldevelopment service offering resulting from a lengthening of the averageduration of clinical development projects in backlog due to a shift towardlarger, more complex studies coupled with the impact of the delay of threelarge Phase III clinical trials. Of the three delayed studies, one initiated inJune, another in July, and the third is scheduled to initiate by the end of2006.

Cost of revenue increased 13.8% to $222.7 million or66.4% of net revenues for the three months ended June 30, 2006 as compared to$195.7 million or 66.6% of net revenues for the corresponding 2005 period.  Comparisons to the prior year are impacted bythe inclusion of $1.7 million in stock-based compensation in cost of revenue inthe 2006 period pursuant to SFAS 123R. These expenses reduced 2006 gross margins by 50 basis points to 33.6% ofnet revenues.  Had stock-basedcompensation been included in cost of revenue for the three months ended June30, 2005 under SFAS 123, cost of revenue would have been $2.0 million higherand gross margins would have been 70 basis points lower or 32.7% of net revenueon a pro forma basis.

Overall,selling, general and administrative expenses increased 15.3% to $51.3 millionfor the three months ended June 30, 2006 from $44.5 million for thecorresponding 2005 period.  As a percentageof net revenues, selling, general and administrative expenses increased 20basis points to 15.3% for the three month period ended June 30, 2006 from 15.1%for the corresponding 2005 period. Comparisons to the prior year are impacted by the inclusion of $2.1million in stock-based compensation in selling, general and administrativeexpenses in the 2006 period pursuant to SFAS 123R.  These expenses increased selling, general andadministrative expenses as a percentage of revenue by 60 basis points.  Had incremental stock-based compensation beenincluded in selling, general and administrative expenses for the three monthsended June 30, 2005 under SFAS 123, selling, general and administrativeexpenses would have been $2.5 million higher and selling, general andadministrative expenses as a percentage of revenue would have been 90 basispoints higher or 16.0% of net revenue on a pro forma basis.

22

----

Depreciationand amortization increased 19.7 % to $14.2 million or 4.2% of net revenues forthe three months ended June 30, 2006 from $11.8 million or 4.0% of net revenuesfor the corresponding 2005 period primarily as a result of higher levels ofcapital spending over the last twelve months.

Incomefrom operations increased 12.2% to $47.0 million or 14.0% of net revenues forthe three months ended June 30, 2006 from $41.9 million or 14.3% of netrevenues for the corresponding 2005 period. Comparisons to the prior year are impacted by the inclusion of $3.8million in stock-based compensation in operating expenses in the 2006 periodpursuant to SFAS 123R.  These expensesreduced operating margin by 120 basis points. Had incremental stock-based compensation been included in operating expensesfor the three months ended June 30, 2005 under SFAS 123, operating expenseswould have been  $4.5 million higher andoperating margins would have been 160 basis points lower or 12.7% of netrevenue on a pro forma basis.

Incomefrom operations from Covance’s early development segment increased $5.4 millionor 16.1% to $39.1 million or 25.1% of net revenues for the three months endedJune 30, 2006 from $33.7 million or 24.1% of net revenues for the corresponding2005 period. Growth was broad based across most of the segment’s serviceofferings. Income from operations from Covance’s late-stage development segmentincreased $1.6 million or 6.1% to $28.5 million for the three months ended June30, 2006 from $26.9 million for the corresponding 2005 period.  Income from operations as a percentage of netrevenues decreased to 15.9% for the three months ended June 30, 2006 from 17.4%for the corresponding 2005 period, due to the previously mentioned slowerconversion of backlog to revenue in clinical development during the secondquarter of 2006, which partially offset growth in our central laboratory andcommercialization services.  Corporateexpense increased $1.9 million to $20.6 million or 6.2% of net revenues for thethree months ended June 30, 2006 from $18.7 million or 6.4% of net revenues forthe three months ended June 30, 2005.  Comparisonsto the prior year are impacted by the inclusion of $3.8 million or 1.1% of netrevenues in stock-based compensation in corporate expenses in the 2006 periodpursuant to SFAS 123R.  Had incrementalstock-based compensation been included in corporate expenses for the threemonths ended June 30, 2005 under SFAS 123, corporate expenses would have been$4.5 million higher, totaling $23.2 million or 7.9% of net revenue on a proforma basis.

Otherincome, net increased $1.3 million to $1.9 million for the three months endedJune 30, 2006 from $0.6 million for the corresponding 2005 period primarily asa result of a $0.7 million increase in net interest income resulting fromhigher average interest rates earned on invested cash balances.

Covance’seffective tax rate for the three months ended June 30, 2006 was 29.5% comparedto 30.7% for the corresponding 2005 period. The year over year 120 basis point reduction in Covance’s effective taxrate is attributable to a number of factors, including the mix of our pre-taxearnings across various tax jurisdictions, research and development tax creditsin the United Kingdom, the favorable settlement of a foreign tax matter andother planning initiatives.

Covancehas a minority equity position (approximately 21% at June 30, 2006) inBio-Imaging Technologies, Inc. (“BITI”). BITI uses proprietary medical imaging technologies to process andanalyze medical images, and also provides other services, including thedata-basing and regulatory submission of medical images, quantitative data andtext.  During the three month periodsended June 30, 2006 and 2005, Covance recognized losses of $0.01 million and$0.2 million, respectively, representing its share of BITI’s losses.

Covancehas a 47% minority equity position in Noveprim Limited, an existing supplier ofresearch products.  For the three monthperiods ended June 30, 2006 and 2005, Covance recognized $0.5 million and $0.3million, respectively, representing its share of Noveprim’s earnings, less anelimination of profit on inventory purchased from Noveprim Limited and still onhand at Covance at June 30, 2006 and 2005.

Netincome of $35.0 million for the three months ended June 30, 2006 increased $5.5million or 18.5% as compared to $29.6 million for the corresponding 2005period. Comparisons to the prior year are impacted by the inclusion of $2.6million in stock-based compensation in the 2006 period pursuant to SFAS123R.  Had incremental stock-basedcompensation been included in net income for the three months ended June 30,2005 under SFAS 123, net income would have decreased by $3.1 million to $26.5million on a proforma basis.

***Six Months Ended June 30, 2006 Compared with Six Months Ended June 30,2005. ***Net revenuesincreased 14.0% to $655.7 million for the six months ended June 30, 2006 from$575.2 million for the corresponding 2005 period. Excluding the impact offoreign exchange rate variances between both periods, net revenues increased15.9% as compared to the 

23

----

corresponding 2005 period.  Net revenues from Covance’s early developmentsegment grew 10.2%, or 11.7% excluding the impact of foreign exchange ratevariances between both periods, driven primarily by toxicology and chemistryservices.  Net revenues from Covance’slate-stage development segment increased 17.4%, or 19.6% excluding the impactof foreign exchange rate variances between both periods, driven by growth incentral laboratory and commercialization services, partially offset by theslower conversion of backlog to revenue in our clinical development serviceoffering resulting from a lengthening of the average duration of clinicaldevelopment projects in backlog due to a shift toward larger, more complexstudies coupled with the impact of the delay of three large Phase III clinicaltrials.  Of the three delayed studies,one initiated in June, another in July, and the third is scheduled to initiateby the end of 2006.

Cost of revenue increased 14.1% to $436.4 million or66.5% of net revenues for the six months ended June 30, 2006 as compared to$382.5 million or 66.5% of net revenues for the corresponding 2005 period.  Comparisons to the prior year are impacted bythe inclusion of $3.5 million in stock-based compensation in cost of revenue inthe 2006 period pursuant to SFAS 123R. These expenses reduced 2006 gross margins by 50 basis points to 33.5% ofnet revenues.  Had stock-basedcompensation been included in cost of revenue for the six months ended June 30,2005 under SFAS 123, cost of revenue would have been $4.2 million higher andgross margins would have been 70 basis points lower or 32.8% of net revenue ona pro forma basis.

Overall,selling, general and administrative expenses increased 15.0% to $99.6 millionfor the six months ended June 30, 2006 from $86.6 million for the corresponding2005 period.  As a percentage of netrevenues, selling, general and administrative expenses increased 10 basispoints to 15.2% for the six months ended June 30, 2006 from 15.1% for thecorresponding 2005 period.  Comparisonsto the prior year are impacted by the inclusion of $4.3 million in stock-basedcompensation in selling, general and administrative expenses in the 2006 periodpursuant to SFAS 123R.  These expensesincreased selling, general and administrative expenses as a percentage ofrevenue by 70 basis points.  Hadincremental stock-based compensation been included in selling, general andadministrative expenses for the six months ended June 30, 2005 under SFAS 123,selling, general and administrative expenses would have been $5.2 millionhigher and selling, general and administrative expenses as a percentage ofrevenue would have been 90 basis points higher or 16.0% of net revenue on a proforma basis.

Depreciationand amortization increased 15.2% to $26.9 million or 4.1% of net revenues forthe six months ended June 30, 2006 from $23.3 million or 4.1% of net revenuesfor the corresponding 2005 period.

Incomefrom operations increased 12.2% to $92.9 million or 14.2% of net revenues forthe six months ended June 30, 2006 from $82.8 million or 14.4% of net revenuesfor the corresponding 2005 period. Comparisons to the prior year are impacted by the inclusion of $7.8million in stock-based compensation in operating expenses in the 2006 periodpursuant to SFAS 123R.  These expensesreduced operating margin by 110 basis points. Had incremental stock-based compensation been included in operatingexpenses for the six months ended June 30, 2005 under SFAS 123, operatingexpenses would have been $9.4 million higher and operating margins would havebeen 160 basis points lower or 12.8% of net revenue on a pro forma basis.

Incomefrom operations from Covance’s early development segment increased $8.9 millionor 13.6% to $74.6 million or 25.0% of net revenues for the six months endedJune 30, 2006 from $65.7 million or 24.3% of net revenues for the corresponding2005 period driven primarily by strength in toxicology and chemistry services.Income from operations from Covance’s late-stage development segment increased$8.0 million or 15.2% to $60.5 million for the six months ended June 30, 2006from $52.5 million for the corresponding 2005 period.  Income from operations as a percentage of netrevenues decreased to 16.9% for the six months ended June 30, 2006 from 17.3%for the corresponding 2005 period, due to the previously mentioned slowerconversion of backlog to revenue in clinical development during the secondquarter of 2006 which partially offset growth in our central laboratory andcommercialization services.  Corporateexpense increased $6.8 million to $42.2 million or 6.4% of net revenues for thesix months ended June 30, 2006 from $35.5 million or 6.2% of net revenues forthe six months ended June 30, 2005. Comparisons to the prior year are impacted by the inclusion of $7.8 millionor 1.2% of net revenues in stock-based compensation in corporate expenses inthe 2006 period pursuant to SFAS 123R. Had incremental stock-based compensation been included in corporateexpenses for the six months ended June 30, 2005 under SFAS 123, corporateexpenses would have been $9.4 million higher, totaling $44.9 million or 7.8% ofnet revenues on a pro forma basis.

Otherincome, net increased $2.4 million to $3.4 million for the six months endedJune 30, 2006 from $1.0 million for the corresponding 2005 period. Thisincrease is the result of a $1.5 million increase in net interest incomeresulting from higher average interest rates earned on invested cash balancescoupled with a $0.9 million decrease in foreign exchange losses.

24

----

Covance’seffective tax rate for the six months ended June 30, 2006 was 29.8% compared to30.7% for the corresponding 2005 period. The 90 basis point reduction in Covance’s effective tax rate year overyear is attributable to a number of factors, including the mix of our pre-taxearnings across various tax jurisdictions, research and development tax creditsin the United Kingdom, the favorable settlement of a foreign tax matter andother initiatives.

Covancehas a minority equity position (approximately 21% at June 30, 2006) inBio-Imaging Technologies, Inc. (“BITI”). BITI uses proprietary medical imaging technologies to process andanalyze medical images, and also provides other services, including thedata-basing and regulatory submission of medical images, quantitative data andtext.  During the six month periods endedJune 30, 2006 and 2005, Covance recognized losses of $0.08 million and $0.3million, respectively, representing its share of BITI’s losses.

Covancehas a 47% minority equity position in Noveprim Limited, an existing supplier ofresearch products.  For the six monthperiods ended June 30, 2006 and 2005, Covance recognized $0.8 million and $0.6million, respectively, representing its share of Noveprim’s earnings, less anelimination of profit on inventory purchased from Noveprim Limited and still onhand at Covance at June 30, 2006 and 2005.

Netincome of $68.4 million for the six months ended June 30, 2006 increased $10.0million or 17.1% as compared to $58.4 million for the corresponding 2005period. Comparisons to the prior year are impacted by the inclusion of $5.3million in stock-based compensation in the 2006 period pursuant to SFAS123R.  Had incremental stock-basedcompensation been included in net income for the six months ended June 30, 2005under SFAS 123, net income would have decreased by $6.4 million to $52.0million on a proforma basis.

**Liquidity and CapitalResources**

Covance’sexpected primary cash needs on both a short and long-term basis are for capitalexpenditures, expansion of services, possible future acquisitions, geographicexpansion, working capital and other general corporate purposes, includingpossible share repurchases.  Covance’s$75.0 million revolving credit facility (the “Credit Facility”) expires in June2009 and may be expanded to $125.0 million at Covance’s election. Covancebelieves cash from operations will provide sufficient liquidity for theforeseeable future.  At June 30, 2006,there were no outstanding borrowings and $0.8 million of outstanding letters ofcredit under the Credit Facility. Interest on all outstanding borrowings under the Credit Facility isbased upon the London Interbank Offered Rate (“LIBOR”) plus a 75 basis pointmargin.  The Credit Facility containsvarious financial and other covenants. At June 30, 2006, Covance was in compliance with the terms of the CreditFacility.  The Credit Facility iscollateralized by guarantees of certain of Covance’s domestic subsidiaries anda pledge of 65 percent of the capital stock of certain of Covance’s foreignsubsidiaries.

Duringthe six months ended June 30, 2006, Covance’s operations provided net cash of$78.8 million, an increase of $27.1  million from the corresponding 2005 period.  The change in net operating assets used $29.4million in cash during the six months ended June 30, 2006, primarily due anincrease in prepaid expenses and other current assets and unbilled services,partially offset by a decrease in accounts receivable, while this net changeused $35.1 million in cash during the six months ended June 30, 2005, primarilydue to an increase in accounts receivable and unbilled services and a reductionin unearned revenue and accrued liabilities, partially offset by an increase inincome taxes payable.  Covance’s ratio ofcurrent assets to current liabilities was 2.25 at June 30, 2006 and 2.16 atDecember 31, 2005.

  Investing activities for the six months endedJune 30, 2006 used $123.1 million, compared to using $55.7 million for thecorresponding 2005 period.  Capitalspending for the first six months of 2006 totaled $49.3 million, and was primarilyfor the expansion of our Madison, WI and Harrogate, UK facilities, outfittingof new facilities, purchase of new equipment, and upgrade of existing equipmentand software for newly hired employees. Capital spending for the corresponding 2005 period totaled $54.9million, and was primarily for the expansion of our Madison, WI and Harrogate,UK facilities, outfitting of new facilities, purchase of new equipment, upgradeof existing equipment and software for newly hired employees. Investmentactivities for the six months ended June 30, 2006 included the acquisitions ofRadiant Research and Signet Laboratories for approximately $74 million.

OnMay 31, 2006, Covance acquired the stock of Radiant Research Inc. (“Radiant”)in a merger transaction for a cash payment of approximately $65.5 million(including direct acquisition costs of $0.5 million).  Radiant operates eight early development clinicalsites performing Phase I/IIa clinical trial services. Results of operations forRadiant, which are now part of Covance’s Early Development segment serviceoffering, are included in Covance’s consolidated statements of income beginningJune 1, 2006.

25

----

Radiant’s assets and liabilities are reflected inCovance’s consolidated balance sheet at June 30, 2006 at their estimated fairvalue of $9.0 million on a net basis, based upon a preliminary purchase priceallocation.  Intangible assets acquiredwere valued at $6.8 million. The remaining purchase price of $49.7 millionrepresents goodwill. Radiant is expected to be accretive to earnings in 2007.

On May 31, 2006, Covance also acquired certain assetsand liabilities of Signet Laboratories, Inc. (“Signet”) for a cash payment ofapproximately $9.1 million (including direct acquisition costs of $0.2million).  Signet specializes in thedevelopment of monoclonal antibodies and diagnostic assays for cancer,infectious diseases and neurodegenerative diseases. Results of operations forSignet, which are now part of Covance’s Early Development segment serviceoffering, are included in Covance’s consolidated statements of income beginningJune 1, 2006. Signet’s assets and liabilities are reflected in Covance’sconsolidated balance sheet at June 30, 2006 at their estimated fair value of$0.4 million on a net basis, based upon a preliminary purchase priceallocation.  Intangible assets acquiredwere valued at $0.9 million. The remaining purchase price of $7.9 millionrepresents goodwill. Signet is expected to be accretive to earnings in 2006.

Financing activities forthe six months ended June 30, 2006 provided $18.9 million and was primarilycomprised of proceeds from the exercise of stock options of $19.9 million, excesstax benefits realized on the exercise of stock options of $5.4 million (whichare now required to be included in financing cash flows pursuant to SFAS 123R)and employee contributions to Covance’s employee stock purchase plan of $2.3million, partially offset by the purchase into treasury of 149,951 shares foran aggregate cost of $8.7 million, primarily in connection with a 3.0 millionshare buyback program authorized by Covance’s Board of Directors in June2004.  Financing activities for the six monthsended June 30, 2005 used $31.0 million and consisted primarily of the purchaseof 1,235,400 shares of Covance common stock for an aggregate cost of $55.0million, primarily in connection with a 3.0 million share buyback programauthorized by Covance’s Board of Directors in June 2004, partially offset by$24.0 million received from stock option exercises and employee contributionsto Covance’s noncompensatory employee stock purchase plan.

On April 22, 2006,Covance and IBM amended the terms of the contract under which IBM had beenproviding certain information technology services to Covance.  Pursuant to the terms of the amendedcontract, Covance will in-source certain elements of its information technologyinfrastructure support which were being provided by IBM.  IBM will continue to provide informationtechnology support services in areas including help desk and desktop computersupport on a worldwide basis.  Thisamended contract is not expected to have a material impact upon Covance’sliquidity.

**Inflation**

While most of Covance’snet revenues are earned under contracts, the long-term contracts (those inexcess of one year) generally include an inflation or cost of living adjustmentfor the portion of the services to be performed beyond one year from thecontract date. As a result, Covance believes that the effects of inflationgenerally do not have a material adverse effect on its operations or financialcondition.

**RecentlyIssued Accounting Standards**

In June 2006, theFinancial Accounting Standards Board (the “FASB”) issued Interpretation No. 48,*Accounting for Uncertainty in Income Taxes -an Interpretation of FASB Statement No. 109* (“FIN 48”).  This authoritative interpretation clarifiesand standardizes the manner by which companies will be required to account foruncertain tax positions.  Adoption of FIN48 is required for fiscal years beginning after December 15, 2006.  Covance will be required to adopt FIN 48 nolater than the quarter beginning January 1, 2007.  Covance is currently in the process ofevaluating the Interpretation and has not yet determined the impact, if any,FIN 48 will have on its consolidated financial results.

26

----

***ForwardLooking Statements.****Statements in thisManagement’s Discussion and Analysis of Financial Condition and Results ofOperations, as well as in certain other parts of this Quarterly Report on Form10-Q that look forward in time, are forward looking statements made pursuant tothe safe harbor provisions of the Private Securities Litigation Reform Act of1995. Forward looking statements include statements concerning plans,objectives, goals, strategies, future events or performance, expectations,predictions, and assumptions and other statements which are other thanstatements of historical facts. All such forward looking statements are basedon the current expectations of management and are subject to, and are qualifiedby, risks and uncertainties that could cause actual results to differmaterially from those expressed or implied by those statements. These risks anduncertainties include, without limitation, competitive factors, outsourcingtrends in the pharmaceutical industry, levels of industry research anddevelopment spending, the Company’s ability to continue to attract and retainqualified personnel, the fixed price nature of contracts or the loss of largecontracts, risks associated with acquisitions and investments, the Company’sability to increase order volume, the pace of translation of orders intorevenue in late-stage development services, difficulties or delays inintegrating the business of Radiant and achieving anticipated efficiencies andsynergies, and other factors described in Covance’s filings with the Securitiesand Exchange Commission, including its Annual Report on Form 10-K.*

**Item 3. Quantitative and Qualitative Disclosure About Market Risk**

For the six months ended June 30, 2006, approximately37% of our net revenues were derived from our operations outside the UnitedStates.  We do not engage in derivativeor hedging activities related to our potential foreign exchange exposures.  See “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — Foreign Currency Risks” for amore detailed discussion of our foreign currency risks and exposures.

**Item 4. Controls and Procedures**

Disclosurecontrols and procedures.  The Company’sPrincipal Executive Officer and Principal Financial Officer have reviewed andevaluated the effectiveness of the Company’s disclosure controls and proceduresas of the end of the period covered in this report.  Based on that evaluation, the PrincipalExecutive Officer and the Principal Financial Officer have concluded that theCompany’s current disclosure controls and procedures are effective.  There have been no significant changes in theCompany’s internal controls or in the other factors that significantly affectthose controls.

27

----

**Part II.Other Information**

**Item 1a. Risk Factors**

Thissection discusses various risk factors that are attendant with our business andthe provision of our services. If the events outlined below were to occurindividually or in the aggregate, our business, results of operations,financial condition, and cash flows could be materially adversely affected.

**Changes in government regulation or in practicesrelating to the pharmaceutical industry could decrease the need for theservices we provide.**

Governmental agencies throughout the world, butparticularly in the United States, strictly regulate the drug developmentprocess. Our business involves helping pharmaceutical and biotechnologycompanies navigate the regulatory drug approval process. Changes in regulation,such as a relaxation in regulatory requirements or the introduction ofsimplified drug approval procedures, or an increase in regulatory requirementsthat we have difficulty satisfying, or that make our services less competitive,could eliminate or substantially reduce the demand for our services. Also, ifgovernment efforts to contain drug costs and pharmaceutical and biotechnologycompany profits from new drugs, our customers may spend less, or reduce theirgrowth in spending on research and development. If health insurers were tochange their practices with respect to reimbursements for pharmaceuticalproducts, our customers may spend less, or reduce their growth in spending onresearch and development.

**Failure to comply with existing regulations couldresult in a loss of revenue or earnings or in increased costs.**

Any failure on our part to comply with applicableregulations could result in the termination of on-going research or thedisqualification of data for submission to regulatory authorities. For example,if we were to fail to verify that patient participants were fully informed andhave fully consented to a particular clinical trial, the data collected fromthat trial could be disqualified. If this were to happen, we could becontractually required to repeat the trial at no further cost to our customer,but at substantial cost to us.

**We maybear financial losses because most of our contracts are of a fixed price natureand may be delayed or terminated or reduced in scope for reasons beyond our control.**

Many of our contractsprovide for services on a fixed price or fee-for-service with a cap basis andthey may be terminated or reduced in scope either immediately or upon notice. Cancellationsmay occur for a variety of reasons, including:

·                   the failure ofproducts to satisfy safety requirements;

·                   unexpected orundesired results of the products;

·                   insufficientpatient enrollment;

·                   insufficientinvestigator recruitment;

·                   the client’sdecision to terminate the development of a product or to end a particularstudy; and

·                   our failure to perform properly ourduties under the contract.

The loss, reduction inscope or delay of a large contract or the loss or delay of multiple contractscould materially adversely affect our business, although our contracts frequentlyentitle us to receive the costs of winding down the terminated projects, aswell as all fees earned by us up to the time of termination. Some contractsalso entitle us to a termination fee.

**We may bear financial risk if we under price ourcontracts or overrun cost estimates.**

Since our contracts areoften structured as fixed price or fee-for-service with a cap, we bear thefinancial risk if we initially under price our contracts or otherwise overrunour cost estimates. Such under pricing or significant cost overruns could havea material adverse effect on our business, results of operations, financialcondition, and cash flows.

**We may not be able to successfully develop andmarket or acquire new services.**

We may seek to developand market new services that complement or expand our existing business orexpand our service offerings through acquisition. If we are unable to developnew services and/or create demand for those newly developed

28

----

services, or expand our service offerings throughacquisition, our future business, results of operations, financial condition,and cash flows could be adversely affected.

**Ourquarterly operating results may vary.**

Ouroperating results may vary significantly from quarter to quarter and areinfluenced by factors over which we have little control such as:

·                  exchange ratefluctuations;

·                  thecommencement, completion or cancellation of large contracts;

·                  the progress ofongoing contracts;

·                  the timing ofand charges associated with completed acquisitions or other events; and

·                  changesin the mix of our services.

Webelieve that operating results for any particular quarter are not necessarily ameaningful indication of future results. While fluctuations in our quarterlyoperating results could negatively or positively affect the market price of ourcommon stock, these fluctuations may not be related to our future overalloperating performance.

**We dependon the pharmaceutical and biotechnology industries**.

Ourrevenues depend greatly on the expenditures made by the pharmaceutical andbiotechnology industries in research and development. Accordingly, economicfactors and industry trends that affect our clients in these industries alsoaffect our business. If companies in these industries were to reduce the numberof research and development projects they outsource, our business could bematerially adversely affected.

**Weoperate in a highly competitive industry.**

Competitors in the contract research organizationindustry range from small, limited-service providers to full service globalcontract research organizations. Our main competition consists of in-housedepartments of pharmaceutical companies, full-service contract researchorganizations**,** and universities and teachinghospitals, although to a lesser degree. We compete on a variety of factors,including:

·                  reputation for on-time quality performance andregulatory compliance;

·                  expertise and experience in specific areas;

·                  scope of service offerings;

·                  strengths in various geographic markets;

·                  price;

·                  technological expertise and efficient drugdevelopment processes;

·                  quality of facilities;

·                  ability to acquire, process, analyze and reportdata in an accurate manner;

·                  ability to manage large-scale clinicaltrials both domestically and internationally;

·                  expertise and experience in market accessservices; and

·                  size.

For instance, our clinical development services havefrom time to time experienced periods of increased price competition which hada material adverse effect on Covance’s late-stage development profitability andconsolidated net revenues and net income.

Thereis competition among the larger contract research organizations for bothclients and potential acquisition candidates. Additionally, small,limited-service entities considering entering the contract research organizationindustry will find few barriers to entry, thus further increasing possiblecompetition. These competitive pressures may affect the attractiveness of ourservices and could adversely affect our financial results.

29

----

**We mayexpand our business through acquisitions.**

Wereview many acquisition candidates and, in addition to acquisitions which wehave already made, we are continually evaluating new acquisition opportunities.Factors which may affect our ability to grow successfully through acquisitionsinclude:

·                  difficultiesand expenses in connection with integrating the acquired companies andachieving the expected benefits;

·                  diversionof management’s attention from current operations;

·                  thepossibility that we may be adversely affected by risk factors facing theacquired companies;

·                  acquisitionscould be dilutive to earnings, or in the event of acquisitions made through theissuance of our common stock to the shareholders of the acquired company,dilutive to the percentage of ownership of our existing stockholders;

·                  potentiallosses resulting from undiscovered liabilities of acquired companies notcovered by the indemnification we may obtain from the seller;

·                  risksof not being able to overcome differences in foreign business practices,language and other cultural barriers in connection with the acquisition offoreign companies; and

·                  lossof key employees of the acquired companies.

**We may beaffected by potential health care reform.**

In recent years theUnited States Congress and state legislatures have considered various types ofhealth care reform in order to control growing health care costs. We are unableto predict what legislative proposals will be adopted in the future, if any. Similarreform movements have occurred in Europe and Asia.

Implementation of healthcare reform legislation that contain costs could limit the profits that can bemade from the development of new drugs. This could adversely affect researchand development expenditures by pharmaceutical and biotechnology companieswhich could in turn decrease the business opportunities available to us both inthe United States and abroad. In addition, new laws or regulations may create arisk of liability, increase our costs or limit our service offerings.

**We relyon third parties for important services.**

We depend on third parties to provide us with services critical to ourbusiness. For instance, we have entered into an agreement with IBM to managecertain of our information technology assets including help desk and desktopcomputer support worldwide. The failure of any of these third parties toadequately provide the needed services could have a material adverse effect onour business.

**Ourrevenues and earnings are exposed to exchange rate fluctuations**.

Wederive a large portion of our net revenues from international operations. Forthe six month period ended June 30, 2006, we derived approximately 37% ofour net revenues from outside the United States. Our financial statements aredenominated in U.S. dollars. As a result, factors associated with internationaloperations, including changes in foreign currency exchange rates, couldsignificantly affect our results of operations, financial condition and cashflows.

**The lossof our key personnel could adversely affect our business.**

Oursuccess depends to a significant extent upon the efforts of our seniormanagement team and other key personnel. The loss of the services of suchpersonnel could adversely affect our business. Also, because of the nature ofour business, our success is dependent upon our ability to attract and retaintechnologically qualified personnel. There is substantial competition forqualified personnel, and an inability to recruit or retain qualified personnelmay impact our ability to grow our business and compete effectively in ourindustry.

**Contractresearch services create a risk of liability**.

Incontracting to work on drug development trials, we face a range of potentialliabilities, for example:

30

----

 

·                  errors oromissions that create harm during a trial to study volunteers or after a trialto consumers of the drug after regulatory approval of the drug;

·                  general risksassociated with clinical pharmacology facilities, including negativeconsequences from the administration of drugs to clinical trial participants orthe professional malpractice of clinical pharmacology medical care providers;

·                  errors oromissions from tests conducted for the agrochemical and food industries;

·                  risks thatanimals in our breeding facilities may be infected with diseases that may beharmful and even lethal to themselves and humans despite preventive measurescontained in our company policies for the quarantine and handling of importedanimals; and

·                  errors andomissions during a trial that may undermine the usefulness of a trial or datafrom the trial.

We also contract with physicians, also referred to asinvestigators, to conduct the clinical trials to test new drugs on humanvolunteers. These tests can create a risk of liability for personal injury ordeath to volunteers, resulting from negative reactions to the drugsadministered or from professional malpractice by third party investigators,particularly to volunteers with life-threatening illnesses. We believe that ourrisks in this area are generally reduced by the following:

·                  contractprovisions entitling us to be indemnified or entitling us to a limitation ofliability;

·                  insurancemaintained by our clients, investigators, and by us; and

·                  variousregulatory requirements we must follow in connection with our business.

Contractual indemnifications generally do not protect us againstliability arising from certain of our own actions, such as negligence ormisconduct. We could be materially and adversely affected if we were requiredto pay damages or bear the costs of defending any claim which is not covered bya contractual indemnification provision or in the event that a party who mustindemnify us does not fulfill its indemnification obligations or which isbeyond the level of our insurance coverage. There can be no assurance that wewill be able to maintain such insurance coverage on terms acceptable to us.

**Reliance on air transportation**.

Our central laboratories and certain of our otherbusinesses are heavily reliant on air travel for transport of clinical trialkits and other material, products and people, and a significant disruption tothe air travel system, or our access to it, could have a material adverseeffect on our business.

**Certain serviceofferings and research products are dependent on limited sources of supply ofservices or products which if interrupted could affect our business.**

We depend on a limited number of suppliers for certain services and forone of our large animal populations. Disruptions to the continued supply ofthese services or products may arise from export import restrictions orembargoes, foreign political or economic instability, or otherwise. Disruptionof supply could have a material adverse effect on our business.

**Actions of animal rightsextremists may affect our business**.

Our early development services utilize animals (predominantly rodents)in preclinical testing of the safety and efficacy of drugs and also breed andsell animals for biomedical research. Such activities are required for thedevelopment of new medicines and medical devices under regulatory regimes inthe United States, Europe, Japan and other countries. Acts of vandalism andother acts by animal rights extremists who object to the use of animals in drugdevelopment could have a material adverse effect on our business.

**Our animal populations may sufferdiseases that can damage our inventory, harm our reputation, result indecreased sales of research products or result in other liability to us.**

Itis important that our research products be free of diseases, includinginfectious diseases. The presence of diseases can distort or compromise thequality of research results, can cause loss of animals in our inventory, canresult in harm to humans or outside animal populations if the disease is notcontained to animals in inventory, or can result in other losses. Such resultscould harm our reputation or have a material adverse effect on our financialcondition, results of operations, and cash flows.

31

----

**Item 2.    Unregistered Sales of Equity Securities and Use of Proceeds**

Repurchases of equitysecurities as reported on a settlement date basis during the quarter ended June30, 2006 were as follows:
| **Issuer Purchases of Equity Securities (a):** | ** ** | ** **                                  | ** ** | ** **                                   | ** ** | ** **                                                                                         | ** ** | ** **                                                                                                                    | ** ** |
|-------------------------------------------------------------------------|------------|---------------------------------------------|------------|----------------------------------------------|------------|----------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------|------------|
| **Period**                                                              | ** ** | **Total # of  Shares  Purchased** | ** ** | **Average Price  Paid Per  Share** | ** ** | **Total # of  Shares  Purchased as  Part of  Currently  Authorized  Programs** | ** ** | **Maximum # of  Shares that May  Yet Be Purchased  Under Currently  Authorized  Programs** | ** ** |
| April 1, 2006 — April  30, 2006                                    |       | 3⁄4                                      |       | 3⁄4                                       |       | 5,326,600                                                                                          |       | 673,400                                                                                                                       |       |
| May 1, 2006 — May 31,  2006                                        |       | 3⁄4                                      |       | 3⁄4                                       |       | 5,326,600                                                                                          |       | 673,400                                                                                                                       |       |
| June 1, 2006 — June 30, 2006                                       |       | 134,300                                     |       | $                                            | 58.07      |                                                                                               | 5,460,900  |                                                                                                                          | 539,100    |   |
|                                                                         |            |                                             |            |                                              |            |                                                                                                    |            |                                                                                                                               |            |  |

----

(a)              On June 28, 2004, the Company announcedthat its Board of Directors had approved the repurchase of up to an additionalthree million shares of common stock.

**Item 4.    Submissionof Matters to a Vote of Security Holders**

The Annual Meeting ofStockholders of Covance was held on May 10, 2006, pursuant to notice.

Two directors werereelected to the Board of Directors with the following votes cast: RobertBarchi received 58,082,306 votes for and 201,488 votes were withheld; Sandra L.Helton received 57,486,433 votes for and 797,361 votes were withheld.  The following directors’ terms of office as adirector continued after the meeting: Kathleen G. Bang, Robert M. Baylis,Joseph L. Herring, Irwin Lerner, J. Randall MacDonald and William C. Ughetta.

**Item 6.    Exhibits**
| 31.1   |   | Certification — Joseph L. Herring. ***Filed herewith.***                                                                                                               |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                        |
| 31.2   |   | Certification — William E. Klitgaard. ***Filed herewith.***                                                                                                            |
|   |   |                                                                                                                                                                        |
| 32.1   |   | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 — Joseph L.  Herring. ***Filed herewith.***    |
|   |   |                                                                                                                                                                        |
| 32.2   |   | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 — William  E. Klitgaard. ***Filed herewith.*** |

 

32

----

**SIGNATURES**

Pursuant to therequirements of the Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.
|                            |   |   |   |   |   | **COVANCE INC.**          |
|----------------------------|--------|--------|--------|--------|--------|---------------------------|
| ** **                 |   |   |   |   |   | ** **                |
| ** **                 |   |   |   |   |   | ** **                |
| Dated: August 2, 2006 |   | By:    |   | /s/    |   | Joseph L. Herring         |
|                       |   |   |   |   |   | Joseph L. Herring         |
|                       |   |   |   |   |   | Chairman of the Board and |
|                       |   |   |   |   |   | Chief Executive Officer   |

 

Pursuant to therequirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant and in thecapacities and on the dates indicated.
| Signature                | ** ** | **Title**                               | ** ** | **Date**            |
|--------------------------|------------|-----------------------------------------|------------|---------------------|
|                     |       |                                    |       |                |
| /s/ Joseph L. Herring    |       | Chairman of the Board and               |       |                |
| Joseph L. Herring        |       | Chief Executive Officer                 |       | August 2, 2006 |
|                     |       | (Principal Executive Officer)           |       |                |
|                     |       |                                    |       |                |
|                     |       |                                    |       |                |
| /s/ William E. Klitgaard |       | Corporate Senior Vice President and     |       |                |
| William E. Klitgaard     |       | Chief Financial Officer                 |       | August 2, 2006 |
|                     |       | (Principal Financial Officer)           |       |                |
|                     |       |                                    |       |                |
|                     |       |                                    |       |                |
| /s/ Michael Giannetto    |       | Corporate Vice President and Controller |       |                |
| Michael Giannetto        |       | (Principal Accounting Officer)          |       | August 2, 2006 |
|                     |       |                                    |       |                |

 

33

----

**EXHIBITINDEX**
| Exhibit  Number | ** ** | **Description**                                                                                                                                                             |
|-----------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 31.1            |       | Certification — Joseph L. Herring.***Filed herewith.***                                                                                                                |
|            |       | *** ***                                                                                                                                                                |
| 31.2            |       | Certification — William E. Klitgaard. ***Filed herewith.***                                                                                                            |
|            |       | *** ***                                                                                                                                                                |
| 32.1            |       | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 — Joseph L.  Herring. ***Filed herewith.***    |
|            |       | *** ***                                                                                                                                                                |
| 32.2            |       | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 — William  E. Klitgaard. ***Filed herewith.*** |

 

34

----