UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

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

Commission file number 000-23019

KENDLE INTERNATIONAL INC.

(Exact name of registrant as specified in its charter)

Ohio		31-1274091
(State or other jurisdiction		(IRS Employer Identification No.)
of incorporation or organization)
441 Vine Street, Suite 500, Cincinnati, Ohio		45202
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code (513) 381-5550

(Former name, former address and former fiscal year, if changed since last report)

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o		Accelerated filer þ		Non-accelerated filer o		Smaller reporting company o

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 14,881,685 shares of Common Stock, no par value, as of October 30, 2009.

 

 

KENDLE INTERNATIONAL INC.

		Page
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets — September 30, 2009 and December 31, 2008			3
Condensed Consolidated Statements of Operations — Three Months Ended September 30, 2009 and 2008; Nine Months Ended September 30, 2009 and 2008			4
Condensed Consolidated Statements of Comprehensive Income (Loss) — Three Months Ended September 30, 2009 and 2008; Nine Months Ended September 30, 2009 and 2008			5
Condensed Consolidated Statements of Cash Flows — Nine Months Ended September 30, 2009 and 2008			6
Notes to Condensed Consolidated Financial Statements			7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			22
Item 3. Quantitative and Qualitative Disclosure About Market Risk			35
Item 4. Controls and Procedures			35
Part II. Other Information
Item 1. Legal Proceedings			35
Item 1A. Risk Factors			36
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			37
Item 3. Defaults upon Senior Securities			37
Item 4. Submission of Matters to a Vote of Security Holders			37
Item 5. Other Information			37
Item 6. Exhibits			38
Signatures			39
Exhibit Index			40
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

KENDLE INTERNATIONAL INC.

		September 30,				December 31,
(in thousands, except share data)		2009				2008 (1)
ASSETS
Current assets:
Cash and cash equivalents		$	56,406			$	35,169
Restricted cash			1,297				884
Accounts receivable, net			131,310				157,971
Deferred tax assets — current			10,053				14,077
Other current assets			23,196				18,439
Total current assets			222,262				226,540
Property and equipment, net			50,787				44,578
Goodwill			243,283				236,329
Other finite-lived intangible assets, net			16,139				19,031
Long-term deferred tax assets			6,936				1,346
Other assets			7,809				27,064
Total assets		$	547,216			$	554,888
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of obligations under capital leases		$	75			$	188
Trade payables			16,638				19,015
Advance billings			82,106				94,561
Other accrued liabilities			61,087				44,181
Total current liabilities			159,906				157,945
Obligations under capital leases, less current portion			44				123
Convertible notes, net			141,726				171,848
Deferred tax liabilities			5,814				4,424
Non-current income taxes payable			1,830				2,123
Other liabilities			5,160				5,801
Total liabilities		$	314,480			$	342,264
Commitments and contingencies
Shareholders’ equity:
Preferred stock — no par value; 100,000 shares authorized; none issued and outstanding
Common stock — no par value; 45,000,000 shares authorized; 14,903,292 and 14,861,518 shares issued and 14,880,240 and 14,838,466 outstanding at September 30, 2009 and December 31, 2008, respectively		$	75			$	75
Additional paid in capital			180,962				180,020
Accumulated earnings			31,405				18,499
Accumulated other comprehensive income:
Foreign currency translation adjustment			20,786				14,522
Less: Cost of common stock held in treasury, 23,052 shares at September 30, 2009 and December 31, 2008, respectively			(492	)			(492	)
Total shareholders’ equity			232,736				212,624
Total liabilities and shareholders’ equity		$	547,216			$	554,888

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

KENDLE INTERNATIONAL INC.

		For the Three Months Ended								For the Nine Months Ended
		September 30,								September 30,
(in thousands, except per share data)		2009				2008 (1)				2009				2008 (1)
Net service revenues		$	104,588			$	124,828			$	320,042			$	365,941
Reimbursable out-of-pocket revenues			29,172				56,254				100,934				151,346
Total revenues			133,760				181,082				420,976				517,287
Costs and expenses:
Direct costs			48,914				64,070				162,096				186,763
Reimbursable out-of-pocket costs			29,172				56,254				100,934				151,346
Selling, general and administrative expenses			35,854				40,649				109,110				122,009
Restructuring expense			380				—				6,386				—
Depreciation and amortization			3,907				4,240				11,802				11,245
Total costs and expenses			118,227				165,213				390,328				471,363
Income from operations			15,533				15,869				30,648				45,924
Other expense:
Interest income			72				94				435				483
Interest expense			(3,462	)			(3,832	)			(11,066	)			(12,079	)
Gain (loss) on extinguishment of debt			(182	)			—				2,951				—
Other			(213	)			3,364				3,981				(815	)
Total other expense			(3,785	)			(374	)			(3,699	)			(12,411	)
Income before income taxes			11,748				15,495				26,949				33,513
Income taxes			2,922				6,114				14,043				13,725
Net income		$	8,826			$	9,381			$	12,906			$	19,788
Income per share data:
Basic:
Net income per share		$	0.59			$	0.64			$	0.87			$	1.34
Weighted average shares			14,868				14,769				14,853				14,721
Diluted:
Net income per share		$	0.59			$	0.62			$	0.86			$	1.32
Weighted average shares			14,979				15,018				14,981				14,982

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

KENDLE INTERNATIONAL INC.

		For the Three Months Ended								For the Nine Months Ended
		September 30,								September 30,
(in thousands)		2009				2008 (1)				2009				2008 (1)
Net income		$	8,826			$	9,381			$	12,906			$	19,788
Other comprehensive income:
Foreign currency translation adjustment			4,654				990				6,264				4,034
Comprehensive income		$	13,480			$	10,371			$	19,170			$	23,822

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

KENDLE INTERNATIONAL INC.

		For the Nine Months Ended
		September 30,
(in thousands)		2009				2008 (1)
Cash flows from operating activities:
Net income		$	12,906			$	19,788
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation and amortization			11,802				11,245
Deferred income taxes			125				(667	)
Income tax benefit from stock option exercises			—				(175	)
Compensation expense on stock grants			951				1,325
Debt issue cost amortization			5,931				5,775
Foreign currency exchange (gain) loss			(2,435	)			1,071
(Gain) loss on extinguishment of debt			(2,951	)			—
Other			1,050				527
Changes in operating assets and liabilities, net of effects from acquisitions:
Restricted cash			(255	)			(45	)
Accounts receivable			30,271				(52,579	)
Other current assets			(7,618	)			(3,033	)
Other assets			3				(257	)
Trade payables			(1,749	)			3,387
Advance billings			(15,164	)			17,897
Accrued liabilities and other			17,163				(810	)
Net cash provided by operating activities			50,030				3,449
Cash flows from investing activities:
Proceeds from termination of foreign currency hedges			17,312				—
Acquisitions of property and equipment and internally developed software			(14,122	)			(18,067	)
Acquisitions of businesses, less cash acquired			(2,875	)			(18,107	)
Interest rate collar termination costs			—				(1,082	)
Other			32				20
Net cash provided by (used in) investing activities			347				(37,236	)
Cash flows from financing activities:
Repurchase of convertible notes			(31,559	)			—
Debt issue costs			(482	)			—
Payments on capital lease obligations			(195	)			(180	)
Repurchase of note hedges and warrants			(97	)			—
Amounts payable — book overdraft			111				2,881
Proceeds from issuance of common stock			216				2,195
Proceeds under credit facilities			—				37,500
Repayments under credit facilities			—				(35,500	)
Income tax benefit from stock option exercises			—				175
Net cash provided by (used in) financing activities			(32,006	)			7,071
Effects of exchange rates on cash and cash equivalents			2,866				(1,227	)
Net increase (decrease) in cash and cash equivalents			21,237				(27,943	)
Cash and cash equivalents:
Beginning of period			35,169				45,512
End of period		$	56,406			$	17,569

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

KENDLE INTERNATIONAL INC.

1. Summary of Significant Accounting Policies:

Basis of Presentation

The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial information and the instructions to the Quarterly Report on Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three months and nine months ended September 30, 2009 are not necessarily indicative of the results that may be expected for the year ending December 31, 2009. For further information, refer to the Consolidated Financial Statements and notes thereto included in the Annual Report on Form 10-K for the year ended December 31, 2008 filed by Kendle International Inc. (“the Company”) with the Securities and Exchange Commission.

The Condensed Consolidated Balance Sheet at December 31, 2008 has been derived from the audited consolidated financial statements at that date, adjusted for the impact of the retrospective adoption of accounting guidance related to convertible debt as stated in Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 470, Debt (ASC 470), (see Note 2-Accounting Changes for additional information), but does not include all of the information and notes required by U.S. GAAP for complete financial statements.

Net Income Per Share Data

Net income per basic share is computed using the weighted average common shares outstanding. Net income per diluted share is computed using the weighted average common shares and potential common shares outstanding.

The following table sets forth the computation for basic and diluted EPS (in thousands, except per share information):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
						(As								(As
						Adjusted)								Adjusted)
Basic earnings per share calculation:
Net income		$	8,826			$	9,381			$	12,906			$	19,788
Weighted average shares outstanding for basic EPS computation			14,868				14,769				14,853				14,721
Earnings per share — basic		$	0.59			$	0.64			$	0.87			$	1.34
Diluted earnings per share calculation:
Net income		$	8,826			$	9,381			$	12,906			$	19,788
Weighted average shares outstanding			14,868				14,769				14,853				14,721
Dilutive effect of stock options and restricted stock			111				249				128				261
Weighted average shares outstanding for diluted EPS computation			14,979				15,018				14,981				14,982
Earnings per share — assuming dilution		$	0.59			$	0.62			$	0.86			$	1.32

Under accounting guidance related to contingently convertible instruments on diluted earnings per share, due to the Company’s obligation to settle the par value of its Convertible Notes (defined in Note 4) in cash, the Company is not required to include any shares underlying the Convertible Notes in its weighted average shares outstanding used in calculating diluted earnings per share until the average price per share for the quarter exceeds the $47.71 conversion price and only to the extent of the additional shares that the Company may be required to issue in the event that the Company’s conversion obligation exceeds the principal amount of the Convertible Notes converted. These conditions have not been met as of the quarter ended September 30, 2009. At any such time in the future that these conditions are met, only the number of shares that would be issuable (under the “treasury” method of accounting for the share dilution) will be included, which is based upon the amount by which the average stock price

exceeds the conversion price. The following table provides examples of how changes in the Company’s stock price will require the inclusion of additional shares in the denominator of the weighted average shares outstanding — assuming dilution calculation. The table also reflects the impact on the number of shares that the Company would expect to issue upon concurrent settlement of the Convertible Notes and the bond hedges and warrants mentioned below:

														Shares Due to the				Incremental Shares Issued
		Convertible Notes				Warrant				Total Treasury Method				Company under Note				by the Company Upon
Share Price		Shares				Shares				Incremental Shares (1)				Hedges				Conversion (2)
$40.00			—				—				—				—				—
$45.00			—				—				—				—				—
$50.00			153,366				—				153,366				(153,366	)			—
$55.00			444,275				—				444,275				(444,275	)			—
$60.00			686,700				—				686,700				(686,700	)			—
$65.00			891,828				195,166				1,086,994				(891,828	)			195,166
$70.00			1,067,652				420,752				1,488,404				(1,067,652	)			420,752

Effective January 1, 2009, the Company adopted the new accounting guidance related to participating securities which clarifies that unvested share-based payment awards that contain nonforfeitable rights to dividends (whether paid or unpaid) are participating securities and are to be included in the computation of earnings per share under the two class method. This guidance is effective for years beginning after December 15, 2008 and did not have a material effect on the Company’s condensed consolidated results of operations, financial position or cash flows.

Acquisition of DecisionLine Clinical Research Corporation and related company :

In June 2008, the Company completed its acquisition of 100% of the outstanding common stock of DecisionLine Clinical Research Corporation (DecisionLine), an Ontario corporation, and its related company. DecisionLine, previously privately owned, is a clinical research organization (CRO) located in Toronto, Ontario specializing in the conduct of early phase studies. DecisionLine (now Kendle Toronto) was integrated as part of the Company’s Early Stage segment.

For the acquisition discussed above, results of operations are included in the Company’s Condensed Consolidated Statements of Operations from the date of acquisition.

The following unaudited pro forma results of operations assume the acquisition of DecisionLine occurred at the beginning of 2008:

		Nine Months Ended
(in thousands, except per share data)		September 30, 2008
Net service revenues		$	376,627
Income before income taxes		$	35,904
Net income		$	21,124
Net income per diluted share		$	1.41
Weighted average shares			14,982

Pro forma results for the nine months ended September 30, 2008 reflect Kendle Toronto’s preacquisition restructuring costs of approximately $480,000 ($307,000 net of tax).

The pro forma financial information is not necessarily indicative of the operating results that would have occurred had the acquisition been consummated as of January 1, 2008, nor is it necessarily indicative of future operating results.

Accounting for Uncertainty in Income Taxes

At December 31, 2008, the total amount of unrecognized tax benefits was approximately $1.8 million, of which $1.7 million would impact the effective tax rate, if recognized.

Interest and penalties associated with uncertain tax positions are recognized as components of the income tax expense in the Company’s Condensed Consolidated Statements of Operations. Tax-related interest and penalties and the related recorded liability were not material at September 30, 2009.

During the third quarter of 2009, the statute of limitations relating to the Company’s 2005 U.S. federal income tax return lapsed. As a result, the Company has recorded a discrete tax benefit in the third quarter of approximately $374,000 consisting of approximately $217,000 of previously unrecognized tax benefits and interest of approximately $157,000.

The Company does not have a material amount of unrecognized tax benefits for which the statute of limitations is expected to expire within the next 12 months. The remaining unrecognized tax benefits primarily include potential transfer pricing exposures from allocation of income between tax jurisdictions and potential deemed foreign dividends.

The tax years that remain subject to examination for the Company’s major tax jurisdictions are shown below:

Jurisdiction		Open Years
United States		2006 – 2008
Germany		2007 – 2008
United Kingdom		2006 – 2008
Netherlands		2005 – 2008

The Company operates in various state and local jurisdictions. Open tax years for state and local jurisdictions approximate the open years reflected above for the United States.

In the third quarter of 2009, the Company completed its 2008 U.S. federal income tax return. As a result, estimates made in prior periods regarding amounts that would ultimately be reflected on this return were revised to be consistent with the actual filing. As a result of these changes in estimates, the Company recorded a tax benefit of approximately $1.1 million in the third quarter of 2009. The majority of the benefit related to revisions made to estimates of foreign deemed dividends and stock based compensation, final computations of which were not available at the time the Company’s 2008 income tax provision calculations were completed.

Also in the third quarter of 2009, the Company received revised information pertaining to an acquisition made in 2006. As a result of this new information, the Company determined that it is able to claim additional net operating loss deductions on an amended 2006 federal income tax return. After claiming these additional net operating loss deductions, the Company will then have available for use approximately $6.9 million of foreign tax credits to offset the Company’s future U.S. tax liabilities. Accordingly, the Company has recorded a gross deferred tax asset for these foreign tax credits. However, due to the uncertainty associated with the ultimate realizability of those additional deferred tax assets, the Company has determined that a valuation allowance is required to be recorded against 100% of the additional deferred tax assets, thus resulting in no change to the Company’s third quarter tax expense. A change in judgment regarding the realizability of these additional deferred tax assets in a subsequent period could have a material effect on the Company’s tax expense in such future period.

New Accounting Pronouncements

In October 2009, the Financial Accounting Standards Board issued FASB ASC 2009-13, Revenue Recognition (Topic 605) related to revenue recognition for multiple deliverable revenue arrangements. The guidance must be adopted no later than the beginning of the first fiscal year beginning on or after June 15, 2010 (January 1, 2011 for the Company). The Company is currently evaluating the impact, if any, of this guidance on its consolidated financial statements.

2. Accounting Changes:

Effective January 1, 2009, the Company retrospectively adopted new accounting guidance related to the accounting for convertible debt instruments contained in FASB ASC 470. This guidance requires the liability and equity components of convertible debt instruments that may be settled in cash upon conversion to be separately accounted for in a manner that reflects the issuer’s nonconvertible debt borrowing rate. The Company applied the guidance to its $200 million (par value) 3.375% Convertible Notes issuance. The Company calculated the initial fair value of the debt component of the Convertible Notes as

of the issuance date of July 16, 2007 to be $162.3 million and the resulting value of the conversion option or equity component to be $37.7 million based on an interest rate for comparable nonconvertible debt of 8.02%. Additionally, the initial debt issuance costs of $6.6 million were allocated on a proportional basis consistent with the debt instrument into debt issuance costs of $5.4 million and equity issuance costs of $1.2 million. The following financial statement line items for the three and nine month periods ended September 30, 2008 and as of December 31, 2008 were affected by this accounting change (in thousands):

Balance Sheet
As of December 31, 2008

		As Reported				Adjustments				As Adjusted
		Before ASC				due to				After
		470				ASC 470				ASC 470
Other Assets		$	27,735			$	(671	)		$	27,064
Total Assets			555,559				(671	)			554,888
Convertible Notes			200,000				(28,152	)			171,848
Total Liabilities			370,416				(28,152	)			342,264
Additional Paid in Capital			143,608				36,412				180,020
Accumulated Earnings			27,430				(8,931	)			18,499
Total Shareholders’ Equity			185,143				27,481				212,624
Total Liabilities and Shareholders’ Equity			555,559				(671	)			554,888

Statement of Operations
For the three months ended September 30, 2008

		As Reported				Adjustments				As Adjusted
		Before ASC				due to				After
		470				ASC 470				ASC 470
Interest Expense		$	(2,237	)		$	(1,595	)		$	(3,832	)
Total Other Income (Expense)			1,221				(1,595	)			(374	)
Income Before Taxes			17,090				(1,595	)			15,495
Net Income			10,976				(1,595	)			9,381
Earnings Per Share
Basic			0.74				(0.10	)			0.64
Diluted			0.73				(0.11	)			0.62
Comprehensive Income			11,966				(1,595	)			10,371

Statement of Operations
For the nine months ended September 30, 2008

		As Reported				Adjustments				As Adjusted
		Before ASC				due to				After
		470				ASC 470				ASC 470
Interest Expense		$	(7,432	)		$	(4,647	)		$	(12,079	)
Total Other Income (Expense)			(7,764	)			(4,647	)			(12,411	)
Income Before Taxes			38,160				(4,647	)			33,513
Net Income			24,435				(4,647	)			19,788
Earnings Per Share
Basic			1.66				(0.32	)			1.34
Diluted			1.63				(0.31	)			1.32
Comprehensive Income			28,469				(4,647	)			23,822

3. Goodwill and Other Intangible Assets:

Goodwill at September 30, 2009 and December 31, 2008 consisted of the following:

(in thousands)		Early Stage				Late Stage				Total
Balance at December 31, 2008		$	11,547			$	224,782			$	236,329
Contingent consideration paid			5,039				—				5,039
Foreign currency fluctuations			1,246				669				1,915
Balance at September 30, 2009		$	17,832			$	225,451			$	243,283

In connection with its June 2008 acquisition of DecisionLine, the Company has recorded approximately $14.1 million of goodwill. The goodwill and the finite-lived intangible assets acquired in the acquisition are not deductible for income tax purposes.

Amortizable intangible assets consisted of the following:

		As of September 30,				As of December 31,
(in thousands)		2009				2008
Amortizable intangible assets:
Carrying amount:
Customer relationships		$	22,012			$	22,007
Non-compete agreements			—				460
Completed technology			2,600				2,600
Backlog			6,200				6,200
Internally developed software (a)			17,914				17,427
Total carrying amount		$	48,726			$	48,694
Accumulated Amortization:
Customer relationships		$	(7,200	)		$	(5,003	)
Non-compete agreements			—				(460	)
Completed technology			(1,641	)			(1,252	)
Backlog			(5,832	)			(5,521	)
Internally developed software (a)			(16,057	)			(15,569	)
Total accumulated amortization		$	(30,730	)		$	(27,805	)
Net amortizable intangible assets		$	17,996			$	20,889

4. Debt:

The Company is party to a credit agreement (including all amendments, the “Facility”). The Facility currently is comprised of a revolving loan commitment with maximum borrowing capacity of $53.5 million that expires in August 2011. The Facility contains various affirmative and negative covenants including financial covenants regarding maximum leverage ratio, minimum interest coverage ratio and limitations on capital expenditures. In the first quarter of 2009, the Company sought and received an amendment to the Facility to adjust certain covenants at a cost of $482,000. These costs were deferred and are being amortized over the remaining life of the Facility.

The Company also maintains an existing $5.0 million Multicurrency Facility that is renewable annually and is used in connection with the Company’s European operations.

As of September 30, 2009 and December 31, 2008, there were no amounts outstanding under the revolving credit loan portion of the Facility or the Multicurrency Facility.

In July 2007, the Company entered into a Purchase Agreement with UBS Securities LLC (the Underwriter) for the issuance and sale by the Company of $200 million, including a $25 million over-allotment of the Company’s Convertible Notes (Convertible Notes). The Convertible Notes have a maturity date of July 15, 2012 and were sold to the Underwriters at a price of $1,000 per Convertible Note, less an underwriting discount of 3% per Convertible Note.

The discount on the Convertible Notes and the adjusted debt issuance costs are being amortized into interest expense over the term of the Convertible Notes using the effective interest rate method. The adoption of new accounting guidance related to accounting for convertible debt instruments (see Note 2-Accounting Changes) resulted in an adjusted liability amount of $162.3 million, $165.2 million, and $171.8 million as of July 16, 2007 (issuance date), December 31, 2007, and December 31, 2008, respectively. Additionally, the adoption of the new guidance resulted in an increase to additional paid in capital for the conversion option, net of equity issuance costs, of $36.4 million as of the issuance date. Interest expense for the years ended December 31, 2007 and December 31, 2008 increased by $2.7 million and $6.3 million, respectively, over previously reported amounts.

In the second quarter of 2009, the Company repurchased on the open market a portion of its outstanding Convertible Notes with a par value of $25 million for cash in the amount of $18.2 million, resulting in a net gain of $3.1 million. In the third quarter of 2009, the Company repurchased additional Convertible Notes with a par value of $15 million for cash in the amount of $13.3 million. The carrying value of these Convertible Notes at the time of repurchase was $13.2 million and a loss on extinguishment of debt of $182,000 was recorded. Debt issuance costs with a carrying value of $308,000 were written off in conjunction with this transaction. The third quarter transaction resulted in the allocation to equity of $203,000 of the consideration given for the repurchase, which was recorded as a reduction to additional paid in capital. For the entire repurchase program, the related bond hedges and warrant agreements were proportionately reduced at a net cost of $97,000 and were also recorded as a reduction to additional paid in capital.

The carrying amounts of the equity and debt components were as follows:

		As of September 30,				As of December 31,
(in thousands)		2009				2008
Equity component, carrying amount		$	36,209			$	36,412
Principal component, at par		$	160,000			$	200,000
Unamortized discount			(18,274	)			(28,152	)
Principal component, carrying amount		$	141,726			$	171,848

The net carrying amounts of the Convertible Notes are classified as long-term in the accompanying Condensed Consolidated Balance Sheets. The debt discount is being amortized, using the effective interest rate method, over the term of the Convertible Notes which mature on July 15, 2012. Interest expense on the Convertible Notes has been recorded at the effective rate of 8.02%.

Interest expense recognized related to the Convertible Notes was as follows:

		For the three months ended September 30,								For the nine months ended September 30,
(in thousands)		2009				2008				2009				2008
Interest cost at coupon rate		$	1,453			$	1,687			$	4,746			$	5,063
Discount amortization			1,541				1,685				4,969				4,935
Total interest expense recognized		$	2,994			$	3,372			$	9,715			$	9,998

The Company adopted, effective January 1, 2009, new accounting guidance related to freestanding contracts that are indexed to an entity’s own stock. No changes were required to the Company’s consolidated financial statements as a result of this pronouncement.

5. Commitments and Contingencies:

In the fourth quarter of 2008, the Company identified a programming issue unique to one study and one customer that requires the Company to rework a large portion of the project and additionally, to bear costs that would, under normal circumstances, be absorbed by the customer. As a result, in the fourth quarter of 2008, the Company recorded an accrual for estimated additional direct costs of approximately $4.9 million and reduced net service revenues by approximately $2.3 million. In the first quarter of 2009, based on information provided by the customer, the Company increased the accrual for estimated additional direct costs by $1.0 million to a total of $5.9 million. As a result of the ongoing discussions with the customer and the insurance provider, in the third quarter of 2009, the Company increased the accrual for direct costs by $1.6 million to a total of $7.5 million and recorded a receivable for the insurance claim recovery of $5.0 million. The insurance claim recovery was realizable as of September 30, 2009 and received in October 2009.

6. Stock Based Compensation:

In the first nine months of 2009, the Company issued 50,500 shares of time vested restricted share units (RSUs) under the 2007 Stock Incentive Plan. Of this award, 46,500 shares vest in their entirety after 18 months and the remaining 4,000 shares vest in their entirety after 60 months. Of the 50,500 shares awarded, 5,000 RSUs were issued to retirement eligible associates and resulted in immediate vesting and expense recognition. The expense for the remaining RSUs will be recorded on a straight-line basis over the vesting period.

In the first nine months of 2009, the Company issued 33,200 shares of performance-based restricted stock units. Of this award, the vesting of 27,200 of these shares is dependent upon a performance condition, the Company meeting a certain EPS target for 2009, and a service condition, as 33% vest in March 2010, 33% vest in January 2011, and 33% vest in January 2012. If the performance condition is not met at least at the 90% of target level, the award does not vest. If the performance condition is met at greater than 90% of target level but below 100% of target level, the number of shares is adjusted to 50% of the original award. Of the total of 33,200 shares issued, 18,000 were issued to retirement eligible associates. Under the terms of the award, regardless of whether or not the performance condition is achieved, should an event similar to retirement occur during the first half of 2009, one-half of the RSUs granted would immediately vest. Similarly, should an event similar to retirement occur during the second half of 2009, the full amount of the RSUs granted would immediately vest. The Company has therefore recorded one-half of the expense for the retirement eligible associates in the first quarter of 2009 and recorded the second half of the expense in the third quarter of 2009. Expense for non retirement-eligible associates is being recorded over the vesting period.

The following is a summary of stock based compensation expense recorded by the Company for the following periods:

		Three Months Ended September 30,								Nine Months Ended September 30,
(in thousands)		2009				2008				2009				2008
Stock options		$	22			$	81			$	308			$	687
Non-vested common stock			318				231				643				638
Total stock based compensation		$	340			$	312			$	951			$	1,325

As of September 30, 2009, there was approximately $1,141,000 of total unrecognized compensation cost, approximately $521,000 of which relates to options and $620,000 of which relates to non-vested common stock. The cost is expected to be recognized over a weighted-average period of 2.3 years for options and 1.5 years for non-vested common stock.

Stock Options:

The following table summarizes information regarding stock option activity in the first nine months of 2009:

										Weighted				Aggregate
						Weighted				Average				Intrinsic
						Average				Remaining				Value
		Shares				Exercise Price				Contractual Life				($ in thousands)
Options outstanding at December 31, 2008			414,677			$	17.35
Granted			48,750				11.90
Cancelled			(45,435	)			25.79
Exercised			(31,737	)			6.81
Options outstanding at September 30, 2009			386,255				16.54				5.19			$	1,941
Exercisable at September 30, 2009			340,305				15.24				4.74			$	1,871

Substantially all of the outstanding options are expected to vest.

The per share weighted-average fair value of options and awards granted is as follows:

		Three Months Ended September 30,								Nine Months Ended September 30,
		2009				2008				2009				2008
Stock options		$	7.06			$	25.34			$	5.77			$	19.28
Non-vested common stock		$	11.83			$	46.85			$	15.08			$	43.02

Under the provisions of accounting guidance related to stock compensation, the Company is required to estimate, on the date of grant, the fair value of each option using an option-pricing model. Accordingly, the Black-Scholes pricing model is used with the following weighted-average assumptions:

		Three Months Ended September 30,								Nine Months Ended September 30,
		2009				2008				2009				2008
Dividend yield			0	%			0	%			0	%			0	%
Expected volatility			71.8	%			52.8	%			70.9	%			51.9	%
Risk-free interest rate			2.4	%			3.5	%			2.1	%			3.6	%
Expected term			3.2				5.6				3.2				5.0

The expected volatility is based on the Company’s stock price over a historical period which approximates the expected term of the option as well as a comparison to volatility for other companies in the Company’s industry and expectations of future volatility. The risk free interest rate is based on the implied yield in U.S. Treasury issues with a remaining term approximating the expected term of the option. The expected option term is calculated as the historic weighted average life of similar awards.

The total intrinsic value of stock options exercised was approximately $135,000 and $233,000 in the three and nine months ended September 30, 2009, respectively, compared to approximately $4.2 million and $6.0 million in the three and nine months ended September 30, 2008, respectively.

Non-Vested Common Stock:

A summary of non-vested common stock activity during the first nine months of 2009 is as follows:

Non-Vested Stock

		Shares
Shares outstanding at December 31, 2008			8,950
Granted			83,700
Vested			(1,850	)
Cancelled			(6,950	)
Shares outstanding at September 30, 2009			83,850

The weighted-average per share fair value of non-vested shares that vested during the first nine months of 2009 was $44.07 per share.

7. Fair Value of Financial Instruments:

Accounting guidance related to fair value measurements enables the reader of the financial statements to assess the inputs used to develop those measurements by establishing a hierarchy for ranking the quality and reliability of the information used to determine fair values. This guidance requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

Level 1:

Quoted market prices in active markets for identical assets or liabilities.

Level 2:

Observable market based inputs or unobservable inputs that are corroborated by market data.

Level 3:

Unobservable inputs that are not corroborated by market data.

The Company generally applies fair value techniques on a non-recurring basis associated with, (1) valuing potential impairment loss related to goodwill pursuant to accounting guidance related to goodwill and other intangible assets and (2) valuing potential impairment loss related to long-lived assets accounted for pursuant to accounting guidance related to impairment or disposal of long-lived assets.

The following table summarizes the carrying amounts and fair values of certain financial assets and liabilities at December 31, 2008:

						Quoted Prices in
						Active Markets for				Significant Other				Significant
		Carrying				Identical Assets				Observable Inputs				Unobservable Inputs
(in thousands)		Amount				(Level 1)				(Level 2)				(Level 3)
Foreign Currency Hedges		$	17,853			$	—			$	17,853			$	—
Money Market Accounts		$	16,937			$	16,937			$	—			$	—

The following table summarizes the carrying amounts and fair values of certain financial assets and liabilities at September 30, 2009:

Quoted Prices in

Active Markets for

Significant Other

Significant

Carrying

Identical Assets

Observable Inputs

Unobservable Inputs

(in thousands)

Amount

(Level 1)

(Level 2)

(Level 3)

Money Market Accounts

$

6,499

$

6,499

$

—

$

—

The fair values of derivative assets and liabilities traded in the over-the-counter market are determined using quantitative models that require the use of multiple inputs including interest rates, prices and indices to generate pricing and volatility factors, which are used to value the position. The predominant market inputs are actively quoted and can be validated through external sources, including brokers, market transactions and third-party pricing services.

The carrying amounts of cash, accounts receivable, and accounts payable approximate fair value. The fair value of the Company’s Convertible Notes was approximately 89% and 75% of the par value at September 30, 2009 and December 31, 2008, respectively.

8. Segment Information:

The Company operates its business in two reportable segments, Early Stage and Late Stage. The Early Stage business currently focuses on the Company’s Phase I operations, while Late Stage is comprised of contract services related to Phase II through IV clinical trials, regulatory affairs and biometrics offerings. Support and Other consists of unallocated corporate expenses, primarily information technology, marketing and communications, human resources, finance and legal.

Segment information for the three and nine months ended September 30, 2009 and 2008 is as follows:

		Early				Late				Support
(in thousands)		Stage				Stage				& Other				Total
Three months ended September 30, 2009
Net service revenues		$	10,764			$	91,496			$	2,328			$	104,588
Reimbursable out-of-pocket revenues		$	—			$	29,172			$	—			$	29,172
Total revenues		$	10,764			$	120,668			$	2,328			$	133,760
Operating income (loss)		$	1,784			$	23,002			$	(9,253	)		$	15,533
Three months ended September 30, 2008
Net service revenues		$	11,225			$	110,879			$	2,724			$	124,828
Reimbursable out-of-pocket revenues		$	—			$	56,254			$	—			$	56,254
Total revenues		$	11,225			$	167,133			$	2,724			$	181,082
Operating income (loss)		$	1,208			$	26,674			$	(12,013	)		$	15,869

		Early				Late				Support
(in thousands)		Stage(a)				Stage				& Other				Total
Nine months ended September 30, 2009
Net service revenues		$	27,227			$	284,691			$	8,124			$	320,042
Reimbursable out-of-pocket revenues		$	—			$	100,934			$	—			$	100,934
Total revenues		$	27,227			$	385,625			$	8,124			$	420,976
Operating income (loss)		$	2,699			$	63,134			$	(35,185	)		$	30,648
Nine months ended September 30, 2008
Net service revenues		$	25,500			$	331,793			$	8,648			$	365,941
Reimbursable out-of-pocket revenues		$	—			$	151,346			$	—			$	151,346
Total revenues		$	25,500			$	483,139			$	8,648			$	517,287
Operating income (loss)		$	3,745			$	79,963			$	(37,784	)		$	45,924

Identifiable assets by segment for the periods ended September 30, 2009 and December 31, 2008 are as follows:

						As Adjusted
		September 30,				December 31,
(in thousands)		2009				2008
Identifiable assets:
Early Stage		$	54,507			$	46,431
Late Stage		$	410,740			$	423,785
Support & Other (a)		$	81,969			$	84,672
Total assets		$	547,216			$	554,888

9. Restructuring Costs:

In the second quarter of 2009, the Company initiated a series of measures to achieve operating efficiencies and reduce its cost structure. These measures include workforce reductions, furloughs, reduction in work week, wage and hiring freezes, elimination of a portion of employee benefits, strict controls over discretionary spending and facilities closures, among other items. The Company recorded $6.0 million of expense in the second quarter for these restructuring costs. In the third quarter of 2009, the Company recorded $380,000 of additional restructuring expense. Approximately half of these costs relate to each of the Late Stage and the Support and Other reportable segments and a small portion related to the Early Stage reportable segment. Of this amount, approximately $1.5 million relates to closure or consolidation of facilities, net of expected sublease income. The accrual for the facilities related costs provides for remaining lease and other contractual payments and will be paid out over the remaining lease terms. Approximately $266,000 was charged against the accrual for facilities related costs in the third quarter, resulting in a remaining accrual of $1.2 million.

The remaining $4.9 million in restructuring costs relates to severance, employee benefits and outplacement expenses for approximately 9% of the Company’s workforce as of the beginning of the second quarter. The employees affected were primarily located in the U.S. and Western Europe. Approximately $3.7 million of this amount has been paid out as of September 30, 2009 and the remaining $1.2 million is expected to be paid by December 31, 2009 except where local country laws require delayed payments.

10. Subsequent Events:

Effective June 30, 2009, the Company adopted new accounting guidance related to subsequent events which requires entities to evaluate events or transactions occurring after the balance sheet date through the date of issuance of the condensed consolidated financial statements to determine whether events require recognition or nonrecognition and disclosure. Recognition is required for the effects of all subsequent events that provide additional evidence about conditions that existed at the date of the balance sheet, including estimates inherent in the process of preparing financial statements. Nonrecognized subsequent events may require disclosure. The Company has evaluated subsequent events through the issuance date of November 9, 2009.

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

The information discussed below is derived from the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for the three and nine months ended September 30, 2009 and should be read in conjunction therewith. The Company’s results of operations for a particular quarter may not be indicative of results expected during subsequent quarters or for the entire year.

Company Overview

Kendle International Inc. (the Company or Kendle) is a global clinical research organization (CRO) that delivers integrated clinical development services, including clinical trial management, clinical data management, statistical analysis, medical writing, regulatory consulting and organizational meeting management and publications services, among other services, on a contract basis to the biopharmaceutical industry. The Company operates in North America, Europe, Asia/Pacific, Latin America and Africa. The Company operates its business in two reportable operating segments, Early Stage and Late Stage. The Early Stage business currently focuses on the Company’s Phase I operations while Late Stage is comprised of clinical development services related to Phase II through IV clinical trials, regulatory affairs and biometrics and statistics offerings. The Company has, in the past, aggregated its clinical development operating unit, regulatory affairs operating unit, and biometrics operating unit into the Late Stage segment under the aggregation criteria in accounting guidance related to disclosures about segments of an enterprise and related information. The aggregation criteria met include a similar nature of services provided, a similar type of customer, similar methods used to distribute services, similar economic characteristics and a similar regulatory environment. In addition, the Company reports support functions primarily composed of unallocated corporate expenses, information technology, marketing and communications, human resources, finance and legal under the Support and Other category for purposes of segment reporting. A portion of the costs incurred from the support units are allocated to the Early and Late Stage reportable operating segments.

The Company is in the process of completing of an organizational realignment intended to drive innovation, improve productivity and gain efficiencies. The realignment primarily affects business units within the Late Stage reportable segment and is not expected to significantly affect the Company’s reporting under accounting guidance related to disclosures about segments. It is anticipated that the Late Stage operating units will continue to be aggregated as they still are expected to meet the aggregation criteria in the guidance. Additionally, the Company has implemented cost savings measures to reduce labor and facilities related costs. The expected outcome of the above efforts is a more streamlined, focused organization better positioned to provide services to our customers.

The Company primarily earns net service revenues through performance under Late Stage segment “full-service” contracts. The Company also recognizes revenues through limited service contracts, consulting contracts, and Early Stage segment contracts. For a detailed discussion regarding the Company’s Late Stage segment contracts, Early Stage segment contracts, revenue recognition process and other Critical Accounting Policies and Estimates, please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in the Annual Report on Form 10-K for the year ended December 31, 2008.

The CRO industry in general continues to be dependent on the research and development efforts of the principal pharmaceutical and biotechnology companies as major customers, and the Company believes this dependence will continue. The loss of business from any of its major customers could have a material adverse effect on the Company.

New Business Authorizations and Backlog

New business authorizations, representing new sales of our services, are added to backlog when the Company enters into a contract, letter of intent or other forms of commitments. Authorizations can vary significantly from quarter to quarter and contracts generally have terms ranging from several months to several years. The Company’s new business authorizations for the three months ended September 30, 2009 and 2008 were approximately $137 million and $212 million, respectively. New business authorizations for the nine months ended September 30, 2009 and 2008 were approximately $350 million and $597 million, respectively.

In 2009, new business authorizations declined significantly due to continued delays in and lengthening of the selling cycle. Mergers and acquisitions by and between the Company’s customers in the biopharmaceutical industry are resulting in delays in signed contracts, as well as extending the time in which our customers make final project decisions, as our customers are re-evaluating their research and development spending priorities in an effort to control costs. We believe that biopharmaceutical research and development spending has slowed from the historical levels and that growth rates may be relatively flat over the next few years. However, we also believe that outsourcing penetration is likely to increase, as outsourcing is an effective means for our customers to reduce their costs. In addition, smaller customers without large partners have experienced difficulty obtaining financing. In general, in the first nine months of 2009, the Company experienced cancellations at a higher level than its historical norms and in this current environment could continue to experience higher than its normal cancellations.

Backlog consists of new business authorizations for which the work has not started but is anticipated to begin in the future as well as contracts in process that have not been completed. The average duration of the contracts in backlog fluctuates from quarter to quarter based on the contracts constituting backlog at any given time. The Company generally experiences a longer period of time between contract award and revenue recognition with respect to large contracts covering global services. As the Company increasingly competes for and enters into large contracts that are global in nature, the Company expects the average duration of the contracts in backlog to increase. Backlog at September 30, 2009 was approximately $846 million. The net book-to-bill ratio was .8 to 1 and 1.4 to 1, respectively, for the three months ended September 30, 2009 and 2008 and .6 to 1 and 1.4 to 1 for the nine months ended September 30, 2009 and 2008, respectively.

As discussed in “Item 1 — Backlog” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008, the Company’s backlog might never be recognized as revenue and is not necessarily a meaningful predictor of future performance.

Results of Operations

The Company’s results of operations are subject to volatility due to a variety of factors. The cancellation or delay of contracts and cost overruns could have adverse effects on the Condensed Consolidated Financial Statements. Fluctuations in the Company’s sales cycle and the ability to maintain large customer contracts or to enter into new contracts could negatively affect the Company’s long-term growth. In addition, the Company’s aggregate backlog, consisting of signed contracts and letters of intent as well as awarded projects for which the contract is actively being negotiated, is not necessarily a meaningful indicator of future results. Accordingly, no assurance can be given that the Company will be able to realize the net service revenues included in the backlog. For a more detailed discussion regarding the risk factors associated with the Company’s results of operations, among other things, see Item 1A-Risk Factors, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

Revenues

		Three Months Ended September 30,												Nine Months ended September 30,
										% Increase												% Increase
		2009				2008				(Decrease)				2009				2008				(Decrease)
Net service revenues
Late stage		$	91,496			$	110,879				-17.5	%		$	284,691			$	331,793				-14.2	%
Early stage			10,764				11,225				-4.1	%			27,227				25,500				6.8	%
Support & other			2,328				2,724				-14.5	%			8,124				8,648				-6.1	%
Total net service revenues			104,588				124,828				-16.2	%			320,042				365,941				-12.5	%
Reimbursable out-of-pocket revenues*			29,172				56,254				-48.1	%			100,934				151,346				-33.3	%
Total revenues		$	133,760			$	181,082				-26.1	%		$	420,976			$	517,287				-18.6	%

Net service revenues declined approximately $20.2 million for the third quarter of 2009 and $45.9 million for the nine months as a result of changes in foreign currency exchange rates and reduced volume of services provided. The changes in currency rates reduced net service revenues by approximately 6% for the quarter and 10% for the nine month period.

Net service revenues in the Late Stage segment decreased from last year by approximately 18% in the three months ended September 30, 2009 and by approximately 14% for the nine month period. The declines were driven primarily by changes in foreign currency exchange rates and continued delays in the selling cycle, more specifically, advancing contracts from the awarded status to the signed contract status, which prevented the Company from commencing work and revenue generating activities. The Company also experienced a significantly higher than normal cancellation rate on previously awarded studies. The Company believes this situation is the result of weakness in the current global economy and reduced access to capital. Additionally, recent pharmaceutical company mergers as well as reduced prescription drug sales and uncertainty in the global economy delayed customer decisions on previously awarded contracts and slowed the contract signature process as pharmaceutical companies re-evaluate their pipelines and, in the case of newly merged customers, focus on integration efforts rather than future development of products.

Net service revenues from the Early Stage segment decreased by approximately 4% in the quarter, primarily as a result of lower net service revenues at the Company’s Phase I unit in the Netherlands as a result of continued project delays and cancellations. This decline was partially offset by increased net service revenues at the Company’s Phase I unit in Morgantown, West Virginia. For the nine months ended September 30, 2009, net services revenues in the Early Stage segment increased approximately 7% from the corresponding period of 2008. The increase in 2009 is primarily a result of a full nine months of Kendle Toronto (DecisionLine) net service revenue in 2009 compared to only four months of post-acquisition net service revenues in 2008. This increase was partially offset by decreased net service revenues at the Phase I unit in the Netherlands as a result of the previously mentioned project delays and cancellations.

A summary of net service revenues by geographic region for the three and nine months ended September 30, 2009 and 2008 is presented below.

		Three Months Ended September 30,												Nine Months ended September 30,
										% Increase												% Increase
		2009				2008				(Decrease)				2009				2008				(Decrease)
North America		$	46,914			$	62,500				-24.9	%		$	155,825			$	173,033				-9.9	%
Europe			44,013				46,305				-4.9	%			119,671				149,808				-20.1	%
Latin America			9,124				11,530				-20.9	%			32,111				29,017				10.7	%
Asia-Pacific			4,537				4,493				1.0	%			12,435				14,083				-11.7	%
Total net service revenues		$	104,588			$	124,828				-16.2	%		$	320,042			$	365,941				-12.5	%

The Company experienced continued strong growth in Latin America in the first nine months of 2009 as customers continued to conduct clinical trials in this region due to the region’s low-cost structure and patient availability. The Company’s net service revenues in Latin America increased by approximately 11% in the first nine months of 2009 compared to the same period of the prior year.

The top five customers based on net service revenues contributed approximately 27% of net service revenues during the third quarter of 2009 and 24% of net service revenues during the third quarter of 2008. On a year to date basis, the top five customers accounted for approximately 28% of 2009 net services revenues and 27% of 2008 net service revenues. No customer accounted for more than 10% of total net service revenues in any period presented.

Operating Expenses

		Three Months Ended September 30,												Nine Months ended September 30,
										% Increase												% Increase
		2009				2008				(Decrease)				2009				2008				(Decrease)
Direct costs		$	48,914			$	64,070				-23.7	%		$	162,096			$	186,763				-13.2	%
Reimbursable out-of-pocket costs			29,172				56,254				-48.1	%			100,934				151,346				-33.3	%
SG&A expenses			35,854				40,649				-11.8	%			109,110				122,009				-10.6	%
Restructuring expenses			380				—								6,386				—
Depreciation and amortization			3,907				4,240				-7.9	%			11,802				11,245				5.0	%
Total operating expenses		$	118,227			$	165,213				-28.4	%		$	390,328			$	471,363				-17.2	%