10-Q 1 lsrform10q.htm LSR 3Q FORM 10-Q lsrform10q.htm



 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
______________
 
 
FORM 10-Q
 
______________
 
 
 
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
 
 
OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended: September 30, 2008
 
OR
 
 
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
 
 
THE SECURITIES EXCHANGE ACT OF 1934
 
 
COMMISSION FILE NUMBER 0-33505
______________
 
LIFE SCIENCES RESEARCH, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

______________

MARYLAND
(JURISDICTION OF INCORPORATION OR ORGANIZATION)

52-2340150
IRS Employer Identification No.

PO BOX 2360, METTLERS ROAD, EAST MILLSTONE, NJ 08875-2360
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE: 732 649-9961

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or Section 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such report), and (2) has been subject to such filing requirements for the past 90 days.

Yes x
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.

Large accelerated filer       o
 
Accelerated filer                    x
Non-accelerated filer         o
(Do not check if a smaller reporting company)
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 x


APPLICABLE ONLY TO CORPORATE ISSUERS:


13,140,955 shares of voting common stock of $0.01 par value as of November 3, 2008
 

 


 
 
1

 

TABLE OF CONTENTS


PART I        FINANCIAL INFORMATION
Page
       
 
Item 1
Financial Statements (Unaudited).
 
       
   
Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2008 and 2007.
4
       
   
Condensed Consolidated Balance Sheets at September 30, 2008 and December 31, 2007.
5
       
   
Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2008 and 2007.
6
       
   
Notes to Condensed Consolidated Financial Statements.
7
       
 
Item 2
Management’s Discussion and Analysis of Financial Condition and Results of Operations.
12
       
 
Item 3
Quantitative and Qualitative Disclosures About Market Risk.
19
       
 
Item 4
Controls and Procedures.
21
       
       
PART II        OTHER INFORMATION
 
       
 
Item 1
Legal Proceedings.
22
       
 
Item 1A
Risk Factors
22
       
 
Item 2
Unregistered Sales of Equity Securities and Use of Proceeds.
22
       
 
Item 3
Defaults Upon Senior Securities.
22
       
 
Item 4
Submission of Matters to a Vote of Security Holders.
22
       
 
Item 5
Other Information.
23
       
 
Item 6
Exhibits.
23
       
 
Signatures.
24


 
2

 
Note Regarding Forward Looking Statements:
 
This Form 10-Q and other reports filed by the Company from time to time with the U.S.  Securities and Exchange Commission (the "SEC"), as well as the Company's press releases, contain or may contain forward-looking statements.  The information provided is based upon beliefs of, and information currently available to, the Company's management, as well as estimates and assumptions made by the Company's management.  Statements that are not statements of historical fact may be deemed to be forward-looking statements.  Forward-looking statements can be identified by the use of forward-looking terminology such as "believes," "may," "should," "anticipates," "estimates," "expects," "future," "intends," "hopes," "plans," or the negative thereof.  Such forward-looking statements involve known and unknown risks, uncertainties and other factors that could cause actual results of the Company to vary materially from historical results or from any future results expressed or implied in such forward-looking statements.
 
Any statements contained in this Form 10-Q that do not describe historical facts, including without limitation statements concerning expected revenues, earnings, product introductions and general market conditions, may constitute forward-looking statements.  Any such forward-looking statements contained herein are based on current expectations, but are subject to a number of risks and uncertainties that may cause actual results to differ materially from expectations.  The factors that could cause actual future results to differ materially from current expectations include, but are not limited to, the following: the Company's ability to raise the financing required to support the Company's operations; the Company's ability to establish its intended operations; fluctuations in demand for the Company's products and services; the Company's ability to manage its growth; the Company's ability to attract customers; and the ability of the Company to compete successfully in the future.  Any forward-looking statements should be considered in light of those factors.
 
The Company files periodic reports with the SEC, as well as current reports on Form 8-K, proxy or information statements and other reports required of publicly held reporting companies.  The public may read and copy any materials the Company files with the SEC at the SEC's Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549.  The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.  The SEC also maintains an Internet site that contains the reports, proxy and information statements, and other information that the Company files electronically with the SEC, which is available on the Internet at www.sec.gov.  Further information about the Company and its subsidiary may be found at www.lsrinc.net.
 
 
 
3

 
 
PART  I
FINANCIAL INFORMATION
   
ITEM  1
FINANCIAL STATEMENTS
 

LIFE SCIENCES RESEARCH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
 
   
   
Three months ended
September 30
   
Nine months ended
September 30
 
             
(Dollars in thousands, except per share data)
 
2008
   
2007
   
2008
   
2007
 
                         
Net revenues
  $ 63,560     $ 60,874     $ 191,117     $ 173,362  
Cost of sales
    (44,643 )     (42,525 )     (131,514 )     (123,219 )
Gross profit
    18,917       18,349       59,603       50,143  
Selling, general and administrative expenses
    (9,374 )     (9,777 )     (30,369 )     (27,826 )
Operating income
    9,543       8,572       29,234       22,317  
Interest income
    239       506       818       1,691  
Interest expense
    (2,494 )     (3,039 )     (7,822 )     (9,981 )
Other (expense)/income
    (5,100 )     15       (6,070 )     284  
Income before income taxes
    2,188       6,054       16,160       14,311  
Income tax (expense)/benefit
    (120 )     (185 )     (73 )     521  
Net income
  $ 2,068     $ 5,869     $ 16,087     $ 14,832  
                                 
Income per share
                               
-Basic
  $ 0.16     $ 0.47     $ 1.27     $ 1.17  
-Diluted
  $ 0.13     $ 0.39     $ 1.04     $ 0.99  


Weighted average number of common stock
                       
- Basic     (000’s)
    12,679       12,614       12,656       12,723  
- Diluted  (000’s)
    15,625       14,965       15,489       14,952  

See Notes to Condensed Consolidated Financial Statements.
 
 
 
4

 
 
 
LIFE SCIENCES RESEARCH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS

 
(Dollars in thousands except per share data)
 
September 30,
   
December 31,
 
   
2008
   
2007
 
ASSETS
 
(Unaudited)
   
(Audited)
 
Current assets:
           
Cash and cash equivalents
  $ 30,158     $ 32,304  
Short-term investments
    -       3,919  
Accounts receivable, net
    31,348       30,116  
Unbilled receivables, net
    24,942       25,935  
Inventories
    3,196       2,530  
Prepaid expenses and other current assets
    9,711       9,270  
Total current assets
  $ 99,355     $ 104,074  
                 
Property and equipment, net
    72,185       70,994  
Goodwill
    6,572       7,268  
Other assets
    6,294       8,382  
Deferred income taxes
    10,754       10,865  
Total assets
  $ 195,160     $ 201,583  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY/(DEFICIT)
         
Current liabilities:
               
Accounts payable
  $ 13,122     $ 15,477  
Accrued payroll and other benefits
    6,815       6,644  
Accrued expenses and other liabilities
    27,257       33,086  
Short-term debt
    220       618  
Fees invoiced in advance
    37,532       47,347  
Total current liabilities
  $ 84,946     $ 103,172  
                 
Long-term debt, net
    75,202       75,429  
Deferred gain on disposal of US property
    8,547       8,787  
Pension liabilities
    35,925       43,522  
Total liabilities
  $ 204,620     $ 230,910  
                 
Commitments and contingencies
               
Stockholders’ equity/(deficit)
               
Preferred Stock, $0.01 par value.  Authorized 5,000,000
               
Issued and outstanding: None
    -       -  
Non-Voting Common Stock, $0.01 par value. Authorized 5,000,000
         
Issued and outstanding: None
    -       -  
Voting Common Stock, $0.01 par value.  Authorized 50,000,000
               
Issued and outstanding at September 30, 2008: 12,729,081 (December 31, 2007: 12,626,498)
    127       126  
Paid in capital
    88,364       87,216  
Accumulated other comprehensive loss
    (44,244 )     (46,875 )
Accumulated deficit
    (53,707 )     (69,794 )
Total stockholders’ deficit
    (9,460 )     (29,327 )
Total liabilities and stockholders’ deficit
  $ 195,160     $ 201,583  

See Notes to Condensed Consolidated Financial Statements.

 
 
5

 
 
LIFE SCIENCES RESEARCH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

   
Nine months ended September 30
 
(Dollars in thousands)
 
2008
   
2007
 
             
Cash flows from operating activities:
           
Net income
  $ 16,087     $ 14,832  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation and amortization
    7,410       7,010  
Amortization of gain on disposal of US property
    (241 )     (240 )
Non-cash compensation expense associated with employee stock compensation plans
    1,579       1,451  
Foreign exchange loss/(gain) on March 2006 Financing
    4,041       (1,660 )
Foreign exchange loss/(gain) on intercompany balances
    16       (345 )
Deferred income tax benefit
    73       (521 )
Provision for losses on accounts receivable
    272       (99 )
Interest expense related to the amortization of debt issue costs
    1,513       1,046  
Amortization of financing costs
    1,404       1,719  
                 
Changes in operating assets and liabilities:
               
Accounts receivable, unbilled receivables and prepaid expenses
    (7,915 )     (1,388 )
Inventories
    (928 )     70  
Accounts payable, accrued expenses and other liabilities
    (1,050 )     (2,316 )
Fees invoiced in advance
    (5,647 )     11,282  
Net cash provided by operating activities
  $ 16,614     $ 30,841  
                 
Cash flows used in investing activities:
               
Purchase of property, plant and equipment
    (13,947 )     (12,415 )
Sale of property, plant and equipment
    -       17  
Payment for acquisition
    (1,779 )     -  
Sale of short-term investments
    3,919       -  
Net cash used in investing activities
  $ (11,807 )   $ (12,398 )
                 
Cash flows used in financing activities:
               
Proceeds from issuance of Voting Common Stock
    571       203  
Increase in deferred finance/other assets
    -       (4,800 )
Repurchase of Voting Common Stock
    -       (4,000 )
Repurchase of warrants
    (1,000 )     (6,694 )
Repayments of long-term borrowings
    (1,542 )     (10,129 )
Repayments of short-term borrowings
    (496 )     (666 )
Net cash used in financing activities
  $ (2,467 )   $ (26,086 )
                 
Effect of exchange rate changes on cash and cash equivalents
    (4,486 )     777  
Decrease in cash and cash equivalents
    (2,146 )     (6,866 )
Cash and cash equivalents at beginning of period
    32,304       44,088  
Cash and cash equivalents at end of period
  $ 30,158     $ 37,222  
                 
Supplementary Disclosures
               
Interest paid
  $ 6,055     $ 8,117  
Taxes paid
  $ 149     $ 328  
                 

 
See Notes to Condensed Consolidated Financial Statements.
 
 
 
6

 
 
 
1.  THE COMPANY AND ITS OPERATIONS

Life Sciences Research, Inc. ("LSR") and subsidiaries (collectively, the "Company") is a global contract research organization, offering worldwide pre-clinical and non-clinical testing services for biological safety evaluation research to the pharmaceutical and biotechnology, as well as the agrochemical and industrial chemical industries.

2.  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 for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Accordingly, these financial statements do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America.  The Company has included all normal recurring adjustments, which are, in the opinion of management, necessary to give a fair statement of its consolidated financial position, results of operations and cash flows for the interim periods shown.

The condensed consolidated financial statements are unaudited and are subject to such year-end adjustments as may be considered appropriate and should be read in conjunction with the historical consolidated financial statements of LSR for the years ended December 31, 2007, 2006 and 2005 included in LSR's Annual Report on Form 10-K for the fiscal year ended December 31, 2007.  The December 31, 2007 condensed consolidated balance sheet data was derived from audited financial statements.  Operating results for the three and nine month periods ended September 30, 2008 are not necessarily indicative of the results that may be expected for the year ending December 31, 2008.

Consolidation
The consolidated financial statements incorporate the accounts of LSR and each of its subsidiaries.  All intercompany balances have been eliminated upon consolidation.

Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the dates of the financial statements and the results of operations during the reporting periods.  These also include management estimates in the calculation of pension liabilities covering discount rates, return on plan assets and other actuarial assumptions.  Although these estimates are based upon management’s best knowledge of current events and actions, actual results could differ from those estimates.

 
 
7

 
 
Recently Issued Accounting Standards
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements (“SFAS 157”).  SFAS 157 provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally accepted accounting principles more consistent and comparable.  SFAS 157 also requires expanded disclosures to provide information about the extent to which fair value is used to measure assets and liabilities, the methods and assumptions used to measure fair value, and the effect of fair value measures on earnings.  SFAS 157 is effective for fiscal years beginning after November 15, 2007 (2008 fiscal year), although early adoption is permitted.  In February 2008, the FASB formally provided a one-year deferral for the implementation of SFAS 157 only with regard to certain nonfinancial assets and liabilities (2009 fiscal year).  The Company has not yet determined the impact, if any, of SFAS 157 on the Company’s consolidated results of operations or financial position.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”).  SFAS 159 allows entities the option to measure eligible financial instruments at fair value as of specified dates.  SFAS 159 is effective for fiscal years beginning after November 15, 2007.  The Company does not expect SFAS 159 to have a material effect on the Company’s consolidated results of operations or financial position.

In December 2007, the FASB issued FAS 141(R), "Business Combinations - a replacement of FASB Statement No. 141", which significantly changes the principles and requirements for how the acquirer of a business recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree.  The statement also provides guidance for recognizing and measuring the goodwill acquired in the business combination and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination.  This statement is effective prospectively, except for certain retrospective adjustments to deferred tax balances, for fiscal years beginning after December 15, 2008.  This statement will be effective for the Company beginning in fiscal year 2009.  The Company is currently evaluating FAS 141(R), and has not yet determined the impact if any, FAS 141(R) will have on its consolidated results of operations or financial position.

In March 2008, the FASB issued SFAS No. 161 Disclosures about Derivative Instruments and Hedging Activities (FAS 161).  FAS 161 changes the disclosure requirements for derivative instruments and hedging activities.  Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under FASB Statement 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity's financial position, financial performance and cash flows.  FAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008.  This statement is not expected to have an impact on the Company’s consolidated financial statements.

 
 
8

 
In April 2008, the FASB issued FSP FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS 142-3”).  FSP FAS 142-3 amends FASB Statement No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”) to improve the consistency between the useful life of a recognized intangible asset under SFAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under FASB Statement No 141, “Business Combinations” (“SFAS No. 141”) and other U.S. GAAP.  This FSP is effective for fiscal years beginning after December 15, 2008.  The guidance for determining the useful life of a recognized intangible asset is to be applied prospectively, therefore, the impact of the implementation of this pronouncement cannot be determined until the transactions occur.

In May 2008, the FASB issued SFAS No. 162 “The Hierarchy of Generally Accepted Accounting Principles”.  SFAS No. 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles.  SFAS No. 162 is effective 60 days following the Securities and Exchange Commission’s approval of the Public Company Accounting Oversight Board Auditing amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.” The Company does not expect the adoption of SFAS No. 162 to change its current practice nor does the Company anticipate an effect on its results of operations or financial position.

In June 2008, the FASB issued FSP No. EITF 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities” (“FSP EITF 03-6-1”).  FSP EITF 03-6-1 concludes that unvested share-based payment awards that contain rights to receive nonforfeitable dividends or dividend equivalents are participating securities, and thus, should be included in the two-class method of computing earnings per share (“EPS”).  FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008, and interim periods within those years.  Early application of EITF 03-6-1 is prohibited.  This FSP also requires that all prior-period EPS data be adjusted retrospectively.  The Company is currently evaluating the impact FSP EITF 03-6-1 will have on its consolidated financial statements.

Management does not believe that any other recently issued, but not yet effective, accounting standard if currently adopted would have a material effect on the accompanying financial statements.


3.  SEGMENT ANALYSIS

The Company operates within two segments based on geographical markets, the United Kingdom and the United States, and incurs corporate administrative expenses.  The Company has one continuing activity, Contract Research, throughout these periods.

Transactions between segments, which are immaterial, are carried out on an arms-length basis.  Interest income, interest expense and income taxes are also not reported on an operating segment basis because they are not considered in the performance evaluation by the Company's chief operating decision-maker.
 
 
9

 

The analysis of the Company's net revenues and operating income by segment for the three and nine month periods ended September 30, 2008 and September 30, 2007 is as follows:

   
Three months ended September 30
   
Nine months ended
September 30
 
(Dollars in thousands)
 
2008
   
2007
   
2008
   
2007
 
                         
Net revenues
                       
UK
US
  $ 49,962     $ 47,737     $ 150,513     $ 136,759  
    13,598       13,137       40,604       36,603  
Corporate
    -       -       -       -  
    $ 63,560     $ 60,874     $ 191,117     $ 173,362  
                                 
Operating income
                               
UK
  $ 9,520     $ 8,743     $ 29,831     $ 23,919  
US
    2,347       2,477       7,269       5,797  
Corporate
    (2,324 )     (2,648 )     (7,866 )     (7,399 )
    $ 9,543     $ 8,572     $ 29,234     $ 22,317  

4.  DEBT

On March 2, 2006, the Company entered into a $70 million loan (the “March 2006 Financing”) under the terms of a Financing Agreement dated March 1, 2006 with a third party lender.  The loan matures on March 1, 2011 and had an interest rate of LIBOR + 825 basis points (which reduced to LIBOR + 800 basis points upon the Company meeting certain financial tests).  On August 1, 2007 the Company entered into an amendment to the March 2006 Financing (the “Amended March 2006 Financing”) in which the principal amount was reduced to $60 million and the interest rate was reduced from the reduced rate of LIBOR + 800 basis points to LIBOR + 350 basis points.  On November 30, 2007, the Company entered into a second amendment to the March 2006 Financing (the “Second Amended March 2006 Financing”) in which certain financial covenants were modified and consent was given by the lender to permit the Company to complete a fold-in acquisition.  The original and amended loans have a LIBOR floor set at 425 basis points.  LIBOR has fallen below 425 basis points for part of 2008 resulting in the interest rate being fixed at 775 basis points (the LIBOR floor of 425 basis points plus 350 basis points) for some months during 2008.

On September 5, 2008 the Company repurchased 40,600 of the warrants issued on November 9, 2005 to an independent third party advisor who provided advisory services to assist the Company in obtaining a listing on the NYSE Arca, for an aggregate consideration of $1,000,000.  Accordingly, the independent third party advisor now owns warrants to acquire 271,900 shares of Life Sciences Research, Inc. (“LSR”) Common Stock at an exercise price of $10.46 per share.

 
 
10

 
 
5.  RELATED PARTY TRANSACTIONS

On June 14, 2005, the Company entered into and consummated with Alconbury Estates Inc. and subsidiaries (collectively “Alconbury”) a sale/leaseback transaction (the "Sale/Leaseback Transaction"), in which the Company sold to Alconbury its three properties (two in the UK, one in the US) for an aggregate consideration of $40 million and immediately leased back the properties under 30 year leases with an aggregate annual rental payment of approximately $5 million.  Alconbury was newly formed in June 2005 and controlled by LSR’s Chairman and CEO, Andrew Baker.  Since the Sale/Leaseback Transaction was with a related party (Mr. Baker, LSR’s Chairman and CEO and the controlling owner of Alconbury), an Independent Committee of LSR’s Board of Directors (the “Committee”) was formed to analyze and consider the proposed Sale/Leaseback Transaction.  The Company agreed to pay the expenses incurred by Alconbury in the Sale/Leaseback Transaction of $4.6 million, subject to Alconbury's obligation to reimburse those expenses in the future in five annual 20% installments beginning in June 2008.  Alconbury paid the Company approximately $1 million of those expenses in June 2008 in the first such installment.

6.  COMMITMENTS

The Compensation Committee approved and adopted at its December 6, 2006 meeting the 2007 Long Term Incentive Plan (the “2007 LTIP”), which provides for awards of cash compensation to executive officers and other members of the senior management team if certain performance goals are achieved during the 2007-2010 performance period.  The Compensation Committee established a 16% operating margin percentage to be achieved over any four consecutive quarters during such performance period that would trigger such awards.  The aggregate amount payable to all participants under the 2007 LTIP if the threshold performance level is achieved is approximately $5 million.

Management will be ratably accruing, as compensation expense, an amount equal to the estimated cash bonus that would be payable over the performance period during which the specified performance goals are achieved.  Management will re-evaluate this estimate periodically throughout the performance period and, if applicable, will adjust the estimate accordingly.

7.  SUBSEQUENT EVENTS

Subsequent to September 30, 2008, on October 27, 2008, the Company issued 410,914 shares of LSR Voting Common Stock from the exercise of warrants resulting in cash proceeds of $616,371.  Warrants exercised were for 410,914 shares at $1.50 per share.  Each of the warrants was set to expire on June 11, 2012.  Cash proceeds of $616,371 were received on October 27, 2008.
 
 
11

 
 
ITEM 2
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion of the Company’s financial condition and results of operations should be read together with the financial statements and related notes, which are included elsewhere in this Quarterly Report on Form 10-Q.  This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties.  The Company’s actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth in more detail in its 2007 Annual Report on Form 10-K.  The Company undertakes no obligation to update any information in its forward-looking statements.

OVERVIEW OF THE COMPANY'S BUSINESS

The Company provides pre-clinical and non-clinical biological safety evaluation research services to most of the world’s leading pharmaceutical and biotechnology companies, as well as many agrochemical and industrial chemical companies.  The purpose of this safety evaluation is to identify risks to humans, animals or the environment resulting from the use or manufacture of a wide range of chemicals, which are essential components of our clients' products.  The Company’s services are designed to meet the regulatory requirements of governments around the world.
 
The Company’s aim is to develop its business within these markets, principally in the pharmaceutical sector, and through organic growth.  In doing so, the Company expects to benefit from strong drug pipelines in the pharmaceutical industry and a growing trend towards greater outsourcing as clients focus more internal resources on research and increasingly look to variabilize their development costs.


CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The following discussion and analysis of the Company’s financial condition and operating results is based on the Company’s financial statements.  The preparation of this Quarterly Report requires the Company to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities at the date of the Company’s financial statements, and the reported amount of revenue and expenses during the reporting period.  Actual results may differ from those estimates and assumptions.  See “Notes to Unaudited Condensed Financial Statements” in Part I of this Quarterly Report for a presentation of the Company’s significant accounting policies.  No changes have been made to the Company’s critical accounting policies and estimates disclosed in its 2007 Annual Report on Form 10-K.
 
 
12

 
 
RESULTS OF OPERATIONS

Three months ended September 30, 2008 compared with three months ended September 30, 2007.

Net revenues for the three months ended September 30, 2008 were $63.6 million, an increase of 4.4% on net revenues of $60.9 million for the three months ended September 30, 2007.  The underlying increase, after adjusting for the impact of the movement in exchange rates was 9.8%; with the UK showing a 11.6% increase and the US a 3.5% increase.  The increase in revenues reflects growth in all the Company’s service offerings, particularly safety assessment and regulatory support.

Cost of sales for the three months ended September 30, 2008 were $44.6 million (70.2% of revenue), an increase of 5.0% on cost of sales of $42.5 million (69.9% of revenue) for the three months ended September 30, 2007.  The underlying increase, after adjusting for the impact of the movement in exchange rates was 10.6% with the UK showing a 11.4% increase and the US a 7.4% increase.  The increase in cost of sales as a % of revenue was due to a 130 basis points increase in labor costs as a % of revenue.  In addition to headcount increases due to the growth in revenues there have been a limited number of hires to strengthen the scientific and operational infrastructure of the Company.  Compensation packages have also increased.  This was offset by a  reduction of 10 basis points in direct study costs as a % of revenue as a result of a change in the mix of business, and a 90 basis points reduction in overhead costs as a % of revenues with improved capacity utilization.

Selling, general and administrative expenses (SG&A) decreased by 4.1% to $9.4 million for the three months ended September 30, 2008 from $9.8 million in the corresponding period in 2007.  The underlying decrease, after adjusting for the impact of the movement in exchange rates was 0.2%.  That decrease in costs was primarily due to a reduction in incentive accruals.

Net interest expense decreased by 11.0% to $2.3 million for the three months ended September 30, 2008 from $2.5 million for the three months ended September 30, 2007.  Of the decrease of $0.2 million, $0.6 million relates to a decrease in interest expense associated with the $10 million reduction in the principal of the March 2006 Financing and the reduced interest rate associated with the Amended March 2006 Financing, offset by a $0.4 million decrease in interest income.

Other expense of $5.1 million for the three months ended September 30, 2008 comprised $5.1 million from the non-cash foreign exchange re-measurement loss on the March 2006 Financing denominated in US dollars (the functional currency of the financial subsidiary that holds the loan is UK sterling) and finance arrangement fees of $0.5 million, offset by other exchange gains of $0.5 million.  In the three months ended September 30, 2007, there was other income of $0.02 million which comprised $0.5 million from the non-cash foreign exchange re-measurement gain on the March 2006 Financing denominated in US dollars (the functional currency of the financial subsidiary that holds the loan is UK sterling) and other exchange gains of $0.1 million, offset by finance arrangement fees of $0.6 million.
 
 
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Income tax expense for the three months ended September 30, 2008 was $0.1 million.  The income tax expense for the three months ended September 30, 2007 was $0.2 million.  Net operating losses are $85.4 million at September 30, 2008, with net operating losses in the US of $7.8 million and net operating losses in the UK of $77.6 million.

Net income for the three months ended September 30, 2008 was $2.1 million compared with net income of $5.9 million for the three months ended September 30, 2007.  The decrease in net income of $3.8 million is due to a $1.0 million increase in operating income, a decrease in the net interest expense of $0.2 million, a decrease in non-cash finance arrangement fees of $0.1 million, a decrease in the income tax expense of $0.1 million, offset by a movement of $5.2 million from a gain to a loss in non-cash foreign exchange re-measurement.

Net income per outstanding common share for the three months ended September 30, 2008 was 16 cents, compared to 47 cents income in the three months ended September 30, 2007, on the weighted average common shares outstanding of 12,679,488 and 12,613,629 respectively.  Net income per fully diluted share for the three months ended September 30, 2008 was 13 cents, compared to 39 cents in the three months ended September 30 2007, on the weighted average fully diluted common shares outstanding of 15,625,054 and 14,965,067 respectively.


Nine months ended September 30, 2008 compared with nine months ended September 30, 2007.

Net revenues for the nine months ended September 30, 2008 were $191.1 million, an increase of 10.2% on net revenues of $173.4 million for the nine months ended September 30, 2007.  The underlying increase, after adjusting for the impact of the movement in exchange rates was 12.0%; with the UK showing a 12.3% increase and the US a 10.9% increase.  The increase in revenues reflects growth in all the Company’s service offerings, particularly safety assessment and regulatory support.

Cost of sales for the nine months ended September 30, 2008 were $131.5 million (68.8% of revenue), an increase of 6.7% on cost of sales of $123.2 million (71.1% of revenue) for the nine months ended September 30, 2007.  The underlying increase, after adjusting for the impact of the movement in exchange rates was 8.5% with the UK showing a 8.3% increase and the US a 9.3% increase.  The decrease in cost of sales as a % of revenue was due to a reduction of 110 basis points in direct study costs as a % of revenue as a result of a change in the mix of business, and a 180 basis points reduction in overhead costs as a % of revenues with improved capacity utilization. These were offset by an increase of 60 basis points in labor costs as a % of revenue. In addition to headcount increases due to the growth in revenues there have been a limited number of hires to strengthen the scientific and operational infrastructure of the Company.  Compensation packages have also increased.

Selling, general and administrative expenses (SG&A) increased by 9.1% to $30.4 million for the nine months ended September 30, 2008 from $27.8 million in the corresponding period in 2007.  The underlying increase, after adjusting for the impact of the movement in exchange rates was 10.5%.  That increase in costs was due to an increase in staff costs to match the expansion of the business and higher employee stock option expenses.
 
 
14

 
Net interest expense decreased by 15.5% to $7.0 million for the nine months ended September 30, 2008 from $8.3 million for the nine months ended September 30, 2007.  Of the decrease of $1.3 million, $2.2 million relates to a decrease in interest expense associated with the $10 million reduction in the principal of the March 2006 Financing and the reduced interest rate associated with the Amended March 2006 Financing, offset by a $0.9 million decrease in interest income.

Other expense of $6.1 million for the nine months ended September 30, 2008 comprised $5.1 million from the non-cash foreign exchange re-measurement loss on the March 2006 Financing denominated in US dollars (the functional currency of the financial subsidiary that holds the loan is UK sterling) and finance arrangement fees of $1.5 million, offset by other exchange gains of $0.5 million.  In the nine months ended September 30, 2007 there was other income of $0.3 million which comprised $1.7 million from the non-cash foreign exchange re-measurement gain on the March 2006 Financing denominated in US dollars and other exchange gains of $0.3 million, offset by finance arrangement fees of $1.7 million.

Income tax expense for the nine months ended September 30, 2008 was $0.1 million.  The income tax benefit for the nine months ended September 30, 2007 was $0.5 million. 

Net income for the nine months ended September 30, 2008 was $16.1 million compared with net income of $14.8 million for the nine months ended September 30, 2007.  The increase in net income of $1.3 million is due to a $6.9 million increase in operating income, a decrease in the net interest expense of $1.3 million and a decrease in non-cash finance arrangement fees of $0.3 million, offset by a decrease in the income tax benefit of $0.6 million and a movement of $6.6 million from a gain to a loss in non-cash foreign exchange re-measurement.

Net income per outstanding common share for the nine months ended September 30, 2008 was $1.27, compared to $1.17 income in the nine months ended September 30, 2007, on the weighted average common shares outstanding of 12,655,939 and 12,722,989 respectively.  Net income per fully diluted share for the nine months ended September 30, 2008 was $1.04, compared to 99 cents in the nine months ended September 30, 2007, on the weighted average fully diluted common shares outstanding of 15,488,807 and 14,952,153 respectively.

 
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LIQUIDITY & CAPITAL RESOURCES

Cash and Cash Equivalents
During the nine months ended September 30, 2008 funds used were $2.1 million, decreasing cash and cash equivalents from $32.3 million at December 31, 2007 to $30.2 million at September 30, 2008.  The decrease in cash for the nine months ended September 30, 2008 was primarily caused by the increase in DSOs which utilized $10.0 million, and by capital expenditure exceeding depreciation and amortization by $6.5 million.  These offset cash generated by the strong operating performance in the period and the $3.9 million generated from the sale of short-term investments.  There were further payments during the period of $1.8 million regarding the small fold in acquisition,  $1.5 million repayments of long term borrowings, and $1.0 million repurchase of warrants.

Net days sales outstanding ("DSOs") at September 30, 2008 were 28 days, an increase from the 21 days at June 30, 2008 (2 days at September 30, 2007 and 13 days at December 31, 2007).  DSOs are calculated as a sum of accounts receivables, unbilled receivables and fees in advance over total net revenue.  Over the last 5 years, DSOs at the quarter ends have varied from 2 days to 28 days, so they are currently at a five year high. The impact on liquidity from a one-day change in DSO is approximately $666,000.

On March 2, 2006, the Company entered into a financing agreement (the “March 2006 Financing”) which matures on March 1, 2011.  On November 30, 2007, the Company entered into a second amendment to the March 2006 Financing (the “Second Amended March 2006 Financing”) in which certain financial covenants were modified and consent was given by the lender to permit the Company to complete a fold-in acquisition.

On September 5, 2008 the Company repurchased 40,600 of the warrants issued on November 9, 2005 to an independent third party advisor who provided advisory services to assist the Company in obtaining a listing on the NYSE Arca, for an aggregate consideration of $1,000,000.  Accordingly, the independent third party advisor now owns warrants to acquire 271,900 shares of Life Sciences Research, Inc. (“LSR”) Common Stock at an exercise price of $10.46 per share.
 
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OFF-BALANCE SHEET ARRANGEMENTS

As of September 30, 2008, the Company did not engage in any off-balance sheet arrangements as defined in Item 303 (a) (4) of Regulation S-K under the Securities Act of 1934, as amended, that have, or are likely to have, a material current or future effect on its consolidated financial position or results of operations.

Recently Issued Accounting Standards
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements (“SFAS 157”).  SFAS 157 provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally accepted accounting principles more consistent and comparable.  SFAS 157 also requires expanded disclosures to provide information about the extent to which fair value is used to measure assets and liabilities, the methods and assumptions used to measure fair value, and the effect of fair value measures on earnings.  SFAS 157 is effective for fiscal years beginning after November 15, 2007 (2008 fiscal year), although early adoption is permitted.  In February 2008, the FASB formally provided a one-year deferral for the implementation of SFAS 157 only with regard to certain nonfinancial assets and liabilities (2009 fiscal year).  The Company has not yet determined the impact, if any, of SFAS 157 on the Company’s consolidated results of operations or financial position.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”).  SFAS 159 allows entities the option to measure eligible financial instruments at fair value as of specified dates.  SFAS 159 is effective for fiscal years beginning after November 15, 2007.  The Company does not expect SFAS 159 to have a material effect on the Company’s consolidated results of operations or financial position.

In December 2007, the FASB issued FAS 141(R), "Business Combinations - a replacement of FASB Statement No. 141", which significantly changes the principles and requirements for how the acquirer of a business recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree.  The statement also provides guidance for recognizing and measuring the goodwill acquired in the business combination and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination.  This statement is effective prospectively, except for certain retrospective adjustments to deferred tax balances, for fiscal years beginning after December 15, 2008.  This statement will be effective for the Company beginning in fiscal year 2009.  The Company is currently evaluating FAS 141(R), and has not yet determined the impact if any, FAS 141(R) will have on its consolidated results of operations or financial position.

In March 2008, the FASB issued SFAS No. 161 Disclosures about Derivative Instruments and Hedging Activities (FAS 161).  FAS 161 changes the disclosure requirements for derivative instruments and hedging activities.  Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under FASB Statement 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity's financial position, financial performance and cash flows.  FAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008.  This statement is not expected to have an impact on the Company’s consolidated financial statements.

 
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In April 2008, the FASB issued FSP FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS 142-3”).  FSP FAS 142-3 amends FASB Statement No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”) to improve the consistency between the useful life of a recognized intangible asset under SFAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under FASB Statement No 141, “Business Combinations” (“SFAS No. 141”) and other U.S. GAAP.  This FSP is effective for fiscal years beginning after December 15, 2008.  The guidance for determining the useful life of a recognized intangible asset is to be applied prospectively, therefore, the impact of the implementation of this pronouncement cannot be determined until the transactions occur.

In May 2008, the FASB issued SFAS No. 162 “The Hierarchy of Generally Accepted Accounting Principles”.  SFAS No. 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles.  SFAS No. 162 is effective 60 days following the Securities and Exchange Commission’s approval of the Public Company Accounting Oversight Board Auditing amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.” The Company does not expect the adoption of SFAS No. 162 to change its current practice nor does the Company anticipate an effect on its results of operations or financial position.

In June 2008, the FASB issued FSP No. EITF 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities” (“FSP EITF 03-6-1”).  FSP EITF 03-6-1 concludes that unvested share-based payment awards that contain rights to receive nonforfeitable dividends or dividend equivalents are participating securities, and thus, should be included in the two-class method of computing earnings per share (“EPS”).  FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008, and interim periods within those years.  Early application of EITF 03-6-1 is prohibited.  This FSP also requires that all prior-period EPS data be adjusted retrospectively.  The Company is currently evaluating the impact FSP EITF 03-6-1 will have on its consolidated financial statements.

Management does not believe that any other recently issued, but not yet effective, accounting standard if currently adopted would have a material effect on the accompanying financial statements.
 
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ITEM 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

LSR is subject to market risks arising from changes in interest rates and foreign currency exchange rates.

Exchange Rate Risk
The consolidated financial statements of LSR are denominated in US dollars.  Changes in exchange rates between the UK pounds sterling and the US dollar will affect the translation of the UK subsidiary's financial results into US dollars for the purposes of reporting the consolidated financial results.  The process by which each foreign subsidiary's financial results are translated into US dollars is as follows: income statement accounts are translated at average exchange rates for the period; balance sheet asset and liability accounts are translated at end of period exchange rates; and capital accounts are translated at historical exchange rates and retained earnings are translated at weighted average of historical rates.  Translation of the balance sheet in this manner affects the stockholders' equity account, referred to as the accumulated other comprehensive loss.  Management has decided not to hedge against the impact of exposures giving rise to these translation adjustments as such hedges may impact upon the Company's cash flow compared to the translation adjustments which do not affect cash flow in the medium term.

The Company operates on a worldwide basis and generally invoices its clients in the currency of the country in which it operates.  Thus, for the most part, exposure to exchange rate fluctuations is limited as sales are denominated in the same currency as costs.  Trading exposures to currency fluctuations do occur as a result of certain sales contracts, performed in the UK for US clients, which are denominated in US dollars and contribute approximately 9% of total net revenues.  Management has decided not to hedge against this exposure.

Also, exchange rate fluctuations may have an impact on the relative price competitiveness of the Company vis á vis competitors who trade in currencies other than sterling or dollars.

The Company has debt denominated in US dollars, whereas the Company’s functional currency is the UK pound sterling, which results in the Company recording other income/expense associated with US dollars debt as a function of relative changes in foreign exchange rates.  The Company is unable to predict whether it will experience future gains or future losses from such exchange-related risks on the debt.  To manage the volatility relating to these exposures, from time to time, the Company might enter into certain derivative transactions.  The Company holds and issues derivative financial instruments for economic hedging purposes only.  There were no derivative financial instruments in place at September 30, 2008.
 
 
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Exchange rates for translating sterling into US dollars were as follows:

   
At December 31
   
At September 30
   
3 months to September 30
Average rate (1)
   
9 months to September 30
Average rate (1)
 
2006
    1.9572       1.8680       1.8751       1.8184  
2007
    1.9906       2.0374       2.0214       1.9869  
2008
    -       1.7825       1.8931       1.9476  

(1)  
Based on the average of the exchange rates on each day of each month during the period.

On November 3, 2008 the noon buying rate for sterling was £1.00 = $1.5855.

The Company has not experienced difficulty in transferring funds to and receiving funds remitted from those countries outside the US or UK in which it operates and management expects this situation to continue.

The following table summarizes the financial instruments denominated in currencies other than the US dollar held by LSR and its subsidiaries as of September 30, 2008:

     
Expected Maturity Date
 
     
2008
   
2009
   
2010
   
2011
   
2012
   
There
after
   
Total
   
Fair Value
 
(In US Dollars, amounts in thousands)
                                               
Cash
- Pound Sterling
    9,103       -       -       -       -       -       9,103       9,103  
 
- Euro
    660       -       -       -       -       -       660       660  
 
- Japanese Yen
    3,079       -       -       -       -       -       3,079       3,079  
Accounts receivable
 
- Pound Sterling
    25,000       -       -       -       -       -       25,000       25,000  
 
- Euro
    936       -       -       -       -       -       936       936  
 
- Japanese Yen
    3,889       -       -       -       -       -       3,889       3,889  
Capital leases
- Pound Sterling
    136       -       -       -       -       7,469       7,605       7,605  


LIBOR
In the three and nine months ended September 30, 2008, where LIBOR has been above 4.25%, the floor stipulated in the Company's Amended March 2006 Financing, a 1% change in LIBOR would have resulted in a fluctuation in interest expense of $144,000 and $432,000 respectively.  Below 4.25%, fluctuations in LIBOR do not result in a change in interest expense.

Revenue
For the three and nine months ended September 30, 2008, approximately 70% of the Company’s net revenues were from outside the US.

See Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
 
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ITEM 4
CONTROLS AND PROCEDURES

As of September 30, 2008 an evaluation was carried out, under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15.  Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of the quarter ended September 30, 2008 in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in its periodic SEC filings.  During the quarter ended September 30, 2008 there were no significant changes in internal controls or in other factors that have materially affected, or are reasonably likely to materially affect, internal controls over financial reporting.
 
 
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PART II                       OTHER INFORMATION

Item 1.  Legal Proceedings.

The Company is party to certain legal actions arising out of the normal course of its business.  In management's opinion, none of these actions will have a material effect on the Company's operations, financial condition or liquidity.  No form of proceedings has been brought, instigated or is known to be contemplated against the Company by any governmental agency.

Item 1A.  Risk Factors

The Company’s business is subject to a number of risks and uncertainties, which are discussed in detail in Part I, Item 1A of its 2007 Annual Report on Form 10-K.  There were no material changes to the Company’s risk factors during the period covered by this Quarterly Report on Form 10-Q.

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

(c)           Issuer Purchases of Equity Shares

Period
Total Number of Shares
(or Units) Purchased
Average Price Paid Per Share
(or Unit)
Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs
Maximum Number (or Approximate Dollar Value) of Shares (or Units) that may yet be Purchased under the Plans or Programs
 
July 1, 2008 –
July 31, 2008
 
0
 
0
 
0
 
N/A
 
August 1, 2008 –
August 31, 2008
 
0
 
 
0
 
0
 
N/A
 
September 1, 2008 –
September 30, 2008
 
40,600 (1)
 
$24.63 (2)
 
0
 
N/A

(1)
Transaction involved the privately negotiated purchase from an unaffiliated third party of warrants to acquire 40,600 shares of LSR common stock at an exercise price of $10.46 per share.

(2)
The Company paid $24.63 per each warrant to acquire a share of LSR common stock for $10.46 per share, for an aggregate consideration of $1,000,000.

Item 3.  Defaults Upon Senior Securities.

Not applicable.

Item 4.  Submission of Matters to a Vote of Security Holders.

Not applicable.


 
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Item 5.  Other Information.

Not applicable.

Item 6.  Exhibits.

 
Exhibit 31.1
Rule 13a-14(a) Certification of the Chief Executive Officer
Exhibit 31.2
Rule 13a-14(a) Certification of the Chief Financial Officer
Exhibit 32.1
Certification pursuant to 18 U.S.C.  Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of the Chief Executive Officer and Chief Financial Officer
Exhibit 99.1
Press Release, dated November 3, 2008 announcing the third quarter earnings results for 2008.


 
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SIGNATURES


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


Life Sciences Research Inc.
(Registrant)


By:
/s/ Andrew Baker
Name:
Andrew Baker
Title:
Chairman and Chief Executive Officer – Principal Executive Officer
Date:
November 5, 2008
   
   
By:
/s/ Richard Michaelson
Name:
Richard Michaelson
Title:
Chief Financial Officer – Principal Financial and Accounting Officer
Date:
November 5, 2008

 
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