UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

IDEXX LABORATORIES, INC.

DELAWARE		01-0393723
(State or other jurisdiction of incorporation		(IRS Employer Identification No.)
or organization)
ONE IDEXX DRIVE, WESTBROOK, MAINE		04092
(Address of principal executive offices)		(ZIP Code)

207-556-0300
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ 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 þ		Accelerated filer o		Non-accelerated filer o		Smaller reporting company o
				(Do not check if a smaller reporting company)

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. The number of shares outstanding of the registrant’s Common Stock, $0.10 par value, was 59,436,722 on July 21, 2008.

 

 

IDEXX LABORATORIES, INC.
Quarterly Report on Form 10-Q
Table of Contents

Item No.				Page
		PART I—FINANCIAL INFORMATION
Item 1.		Financial Statements (unaudited)
		Condensed Consolidated Balance Sheets as of June 30, 2008 and December 31, 2007			3
		Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2008 and 2007			4
		Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2008 and 2007			5
		Notes to Condensed Consolidated Financial Statements			6
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			15
Item 3.		Quantitative and Qualitative Disclosures About Market Risk			31
Item 4.		Controls and Procedures			31
		PART II—OTHER INFORMATION
Item 1.		Legal Proceedings			32
Item 1A.		Risk Factors			32
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds			36
Item 4.		Submission of Matters to a Vote of Security Holders			37
Item 6.		Exhibits			37
Signatures					38
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements.

IDEXX LABORATORIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share amounts)
(Unaudited)

		June 30,				December 31,
		2008				2007
ASSETS
Current Assets:
Cash and cash equivalents		$	75,265			$	60,360
Accounts receivable, less reserves of $2,277 in 2008 and $1,742 in 2007			120,565				108,384
Inventories			106,182				98,804
Deferred income tax assets			24,033				23,606
Other current assets			13,019				14,509
Total current assets			339,064				305,663
Property and equipment, net			166,604				141,852
Goodwill and other intangible assets, net			242,137				236,414
Other long-term assets, net			17,084				18,250
			259,221				254,664
TOTAL ASSETS		$	764,889			$	702,179
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Accounts payable		$	25,357			$	32,510
Accrued expenses			34,749				29,182
Accrued employee compensation and related expenses			40,144				44,753
Accrued taxes			12,767				18,206
Accrued customer programs			16,306				15,107
Short-term debt			157,973				72,236
Current portion of long-term debt			742				720
Deferred revenue			11,014				10,678
Total current liabilities			299,052				223,392
Long-term Liabilities:
Deferred tax liabilities			12,228				14,697
Long-term debt, net of current portion			5,350				5,727
Deferred revenue			5,859				6,210
Other long-term liabilities			13,939				13,830
Total long-term liabilities			37,376				40,464
Commitments and Contingencies (Note 3 and 13)
Stockholders’ Equity:
Common stock, $0.10 par value: Authorized: 120,000 shares; Issued: 95,018 and 94,504 shares in 2008 and 2007, respectively			9,502				9,450
Additional paid-in capital			532,950				514,773
Deferred stock units: Outstanding: 99 and 82 units in 2008 and 2007, respectively			2,546				2,201
Retained earnings			652,777				585,862
Accumulated other comprehensive income			31,011				22,705
Treasury stock, at cost: 35,475 and 33,500 shares in 2008 and 2007, respectively			(800,325	)			(696,668	)
Total stockholders’ equity			428,461				438,323
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	764,889			$	702,179

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

IDEXX LABORATORIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(Unaudited)

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Revenue:
Product revenue		$	190,488			$	159,886			$	359,478			$	305,350
Service revenue			90,082				77,160				170,166				142,851
			280,570				237,046				529,644				448,201
Cost of Revenue:
Cost of product revenue			70,738				72,319				135,279				130,609
Cost of service revenue			58,572				50,506				113,269				94,792
			129,310				122,825				248,548				225,401
Gross profit			151,260				114,221				281,096				222,800
Expenses:
Sales and marketing			44,214				36,747				88,215				72,329
General and administrative			29,881				27,690				59,702				53,839
Research and development			18,274				17,317				35,569				33,288
Income from operations			58,891				32,467				97,610				63,344
Interest expense			(1,213	)			(1,454	)			(2,244	)			(2,088	)
Interest income			570				620				1,116				1,282
Income before provision for income taxes			58,248				31,633				96,482				62,538
Provision for income taxes			18,884				9,969				29,567				19,847
Net income		$	39,364			$	21,664			$	66,915			$	42,691
Earnings per Share:
Basic		$	0.66			$	0.35			$	1.11			$	0.69
Diluted		$	0.63			$	0.34			$	1.06			$	0.66
Weighted Average Shares Outstanding:
Basic			60,029				61,697				60,448				61,984
Diluted			62,440				64,400				63,017				64,758

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

IDEXX LABORATORIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)

		For the Six Months Ended
		June 30,
		2008				2007
Cash Flows from Operating Activities:
Net income		$	66,915			$	42,691
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			23,980				19,271
Navigator® inventory write-down and royalty license impairment			—				10,138
Reduction in deferred compensation expense			(31	)			—
Provision for uncollectible accounts			824				295
Provision for (benefit of) deferred income taxes			181				(4,346	)
Share-based compensation expense			5,598				4,113
Tax benefit from exercises of stock options			(3,198	)			(4,070	)
Changes in assets and liabilities, net of acquisitions:
Accounts receivable			(9,495	)			(18,070	)
Inventories			(6,960	)			1,802
Other assets			(1,456	)			(1,442	)
Accounts payable			(7,447	)			1,969
Accrued liabilities			(520	)			9,483
Deferred revenue			(251	)			883
Net cash provided by operating activities			68,140				62,717
Cash Flows from Investing Activities:
Sales and maturities of short-term investments			—				35,000
Purchases of property and equipment			(42,564	)			(26,235	)
Acquisitions of equipment leased to customers			(429	)			(525	)
Acquisitions of intangible assets and businesses, net of cash acquired			(8,514	)			(85,507	)
Net cash used by investing activities			(51,507	)			(77,267	)
Cash Flows from Financing Activities:
Borrowings on revolving credit facilities, net			85,948				79,827
Payment of other notes payable			(357	)			(2,042	)
Purchase of treasury stock			(102,331	)			(92,114	)
Proceeds from exercises of stock options			9,174				11,986
Tax benefit from exercises of stock options			3,198				4,070
Net cash provided (used) by financing activities			(4,368	)			1,727
Net effect of exchange rates on cash			2,640				745
Net increase (decrease) in cash and cash equivalents			14,905				(12,078	)
Cash and cash equivalents at beginning of period			60,360				61,666
Cash and cash equivalents at end of period		$	75,265			$	49,588
Supplemental Disclosures of Cash Flow Information:
Interest paid		$	2,152			$	1,440
Income taxes paid		$	30,273			$	18,011

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

IDEXX LABORATORIES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 1. BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION

The accompanying unaudited, condensed consolidated financial statements of IDEXX Laboratories, Inc. (“IDEXX”, the “Company”, “we” or “our”) have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the requirements of Regulation S-X, Rule 10-01 for financial statements required to be filed as a part of Form 10-Q.

The accompanying unaudited, condensed consolidated financial statements include the accounts of IDEXX Laboratories, Inc. and our wholly-owned and majority-owned subsidiaries, and all other entities in which we have a variable interest and are determined to be the primary beneficiary. All material intercompany transactions and balances have been eliminated in consolidation.

The accompanying unaudited, condensed consolidated financial statements reflect, in the opinion of our management, all adjustments necessary for a fair statement of our financial position and results of operations. The condensed balance sheet data at December 31, 2007 was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States. The results of operations for the six months ended June 30, 2008 are not necessarily indicative of the results to be expected for the full year or any future period. These unaudited, condensed financial statements should be read in conjunction with this quarterly report on Form 10-Q for the three and six months ended June 30, 2008, and our Annual Report on Form 10-K for the year ended December 31, 2007 filed with the Securities and Exchange Commission.

On October 25, 2007, our board of directors approved a two-for-one split of the outstanding shares of our common stock, to be effected in the form of a 100% stock dividend. Each holder of common stock of record at November 5, 2007 received one additional share of common stock for each share of common stock then held. The additional shares of common stock were distributed on November 26, 2007. As a result of the stock split, the number of outstanding common shares doubled to approximately 61 million shares.

All share and per share data (except par value) have been adjusted to reflect the effect of the stock split for all periods presented. In addition, the exercise of outstanding stock options and the vesting of other stock awards, as well as the number of shares of common stock reserved for issuance under our various employee benefit plans, were proportionately increased in accordance with the terms of those respective agreements and plans.

Certain reclassifications have been made to the prior year condensed consolidated financial statements to conform to the current year presentation. Reclassifications had no material impact on previously reported results of operations or financial position.

NOTE 2. ACCOUNTING POLICIES

Significant Accounting Policies

The significant accounting policies used in preparation of these condensed consolidated financial statements for the six months ended June 30, 2008 are consistent with those discussed in Note 2 to the consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2007, except as discussed below.

Share-Based Compensation

To develop the expected term assumption for option awards, we previously elected to use the simplified method described in the Securities and Exchange Commission Staff Accounting Bulletin No. 107, which is based on vesting and contractual terms. Beginning in January 2008, we derive the expected term assumption for options based on historical experience and other relevant factors concerning expected employee behavior with regard to option exercise. See Note 4.

Recent Accounting Pronouncements

We adopted the provisions of Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standard (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS No. 157”) on January 1, 2008. As permitted by FASB Staff Position (“FSP”) No. SFAS 157-2, “Effective Date of FASB Statement No. 157” (“FSP No. SFAS 157-2”), we elected to defer the adoption of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis, until January 1, 2009. SFAS No. 157 establishes a framework for measuring fair value and expands financial statement disclosures about fair value measurements. There was no cumulative effect of adoption related to SFAS No. 157 and the adoption did not have an impact on our financial position, results of operations, or cash flows. We are studying SFAS No. 157 with respect to nonfinancial assets and nonfinancial liabilities falling under the scope of FSP No. SFAS 157-2 and have not yet determined the expected impact on our financial position, results of operations, or cash flows. See Note 16 for a discussion of our adoption of SFAS No. 157.

We adopted the provisions of SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of FASB Statement No. 115” (“SFAS No. 159”) on January 1, 2008. SFAS No. 159 permits entities to choose, at specified election dates, to measure eligible items at fair value (the “fair value option”). Under this pronouncement, a business entity must report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting period. We have not elected the fair value option for any items on our balance sheet.

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities — an amendment of SFAS No. 133” (“SFAS No. 161”). SFAS No. 161 changes the disclosure requirements for derivative instruments and hedging activities. This standard requires enhanced disclosures about how and why an entity uses derivative instruments, how instruments are accounted for under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” and how derivatives and hedging activities affect an entity’s financial position, financial performance and cash flows. This standard is effective for fiscal years beginning after November 15, 2008. We are studying SFAS No. 161 and have not yet determined the expected impact of the implementation of this pronouncement.

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.

NOTE 3. ACQUISITIONS OF BUSINESSES AND OTHER ASSETS

We paid $6.8 million in cash to acquire a business and certain intangible assets that did not comprise businesses during the six months ended June 30, 2008 and recognized liabilities, including contingent liabilities associated with purchase accounting, of $0.3 million. In addition, we agreed to pay up to $7.5 million in cash in the future upon achievement of certain revenue and other milestones. These payments will be accrued and recorded as additional intangible assets if and when we determine that it is probable that the milestones will be achieved.

More specifically, in January 2008, we acquired substantially all of the assets and assumed certain liabilities of VetLab Laboratorio Veterinario de Referencia, S.L. (“VetLab S.L.”). With operations in Barcelona, Spain, VetLab S.L. is a provider of reference laboratory testing services to veterinarians. We also acquired certain intellectual property and distribution rights associated with a diagnostic test product during the six months ended June 30, 2008. In connection with these acquisitions, we recognized goodwill of $0.4 million and amortizable intangible assets of $6.4 million.

During the six months ended June 30, 2008, we made purchase price payments of $1.7 million related to the achievement of milestones realized by certain businesses acquired in prior years, of which $1.5 million was previously accrued.

We believe that the acquired businesses enhance our existing businesses by either expanding the geographic range of our existing businesses or expanding our existing product lines. We determined the purchase price of each acquired business based on our assessment of estimated future cash flows attributable to the business enterprise taken as a whole, the strength of the business in the marketplace, the strategic importance of the acquisition to IDEXX, and the seller’s desire to be acquired by IDEXX versus perceived alternatives. We recognized goodwill based on the excess of the purchase price for each business over the fair values of the individual tangible and separately identified intangible assets acquired, which were valued in accordance with SFAS No. 141, “Business Combinations”.

We have commitments outstanding at June 30, 2008 for additional purchase price payments of up to $7.9 million in connection with acquisitions of businesses and intangible assets prior to June 30, 2008, of which $7.8 million is contingent on the achievement by certain acquired businesses of specified milestones.

The results of operations of the acquired businesses have been included since their respective acquisition dates. Pro forma information has not been presented because such information is not material to the financial statements taken as a whole.

NOTE 4. SHARE-BASED COMPENSATION

For the six months ended June 30, 2008, share-based compensation expense included $5.2 million for options, restricted stock units and deferred stock units with vesting conditions and $0.3 million for employee stock purchase rights. Share-based compensation expense has been included in our condensed consolidated statement of operations for the three and six months ended June 30, 2008 and 2007 as follows (in thousands):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Cost of revenue		$	261			$	149			$	447			$	271
Sales and marketing			382				202				805				495
General and administrative			1,525				993				3,180				2,498
Research and development			484				291				1,031				741
Total		$	2,652			$	1,635			$	5,463			$	4,005

The fair value of options, restricted stock units, deferred stock units with vesting conditions, and employee stock purchase rights awarded during the six months ended June 30, 2008 and 2007 totaled $17.4 million in both periods. The total unrecognized compensation cost for unvested share-based compensation awards outstanding at June 30, 2008, before consideration of estimated forfeitures, was $35.5 million. The weighted average remaining expense recognition period at June 30, 2008 was approximately 2.2 years.

Options

The weighted average valuation assumptions used to determine the fair value of each option grant on the date of grant were as follows:

		For the Six Months Ended
		June 30,
		2008				2007
Expected stock price volatility			25	%			29	%
Expected term, in years			4.9				5.0
Risk-free interest rate			2.7	%			4.7	%

The total fair value of options vested during the six months ended June 30, 2008 and 2007 was $10.5 million and $11.9 million, respectively.

Restricted and Other Deferred Stock Units With Vesting Conditions

The weighted average fair value per unit of restricted stock units and deferred stock units with vesting conditions granted during the six months ended June 30, 2008 and 2007 was $56.80 and $41.99, respectively.

NOTE 5. INVENTORIES

Inventories include material, labor and overhead, and are stated at the lower of cost (first-in, first-out) or market. The components of inventories were as follows (in thousands):

		June 30,				December 31,
		2008				2007
Raw materials		$	28,737			$	26,182
Work-in-process			16,745				16,425
Finished goods			60,700				56,197
		$	106,182			$	98,804

NOTE 6. PROPERTY AND EQUIPMENT

Property and equipment, net, consisted of the following (in thousands):

		June 30,				December 31,
		2008				2007
Land and improvements		$	7,694			$	7,754
Buildings and improvements			54,421				54,072
Leasehold improvements			17,729				16,737
Machinery and equipment			102,659				92,139
Office furniture and equipment			67,492				61,472
Construction in progress			42,520				23,002
			292,515				255,176
Less accumulated depreciation and amortization			125,911				113,324
Total property and equipment		$	166,604			$	141,852

Depreciation expense was $17.4 million and $13.7 million for the six months ended June 30, 2008 and 2007, respectively.

In 2007 we began the renovation and expansion of our primary facility in Westbrook, Maine. Related to this project we have capitalized, as construction in progress, $16.4 million during the six months ended June 30, 2008 and $28.9 million since the inception of the project.

Instruments placed with customers under certain minimum volume commitment programs are capitalized and depreciated over the shorter of the useful life of the instrument or the minimum volume commitment period.

NOTE 7. GOODWILL AND OTHER INTANGIBLE ASSETS

Intangible assets other than goodwill consisted of the following (in thousands):

		June 30, 2008								December 31, 2007
						Accumulated								Accumulated
		Cost				Amortization				Cost				Amortization
Patents		$	10,880			$	4,512			$	10,895			$	4,003
Product rights (1)			34,009				12,679				27,838				10,428
Customer-related intangible assets (2)			59,529				10,713				57,907				8,011
Other, primarily noncompete agreements			6,836				2,931				6,416				2,299
		$	111,254			$	30,835			$	103,056			$	24,741

Amortization expense of intangible assets was $2.6 million and $5.2 million for the three and six months ended June 30, 2008, respectively. Amortization expense of intangible assets was $2.4 million and $4.2 million for the three and six months ended June 30, 2007, respectively.

During the six months ended June 30, 2008, we acquired customer-related intangible assets of $1.4 million, product rights of $4.8 million, and other intangible assets of $0.2 million, all of which were assigned to the Companion Animal Group (“CAG”) segment, with weighted amortization periods of 15 years, 10 years and 3 years, respectively. See Note 3 for additional information. The remaining changes in the cost of intangible assets other than goodwill during the six months ended June 30, 2008 resulted from changes in foreign currency exchange rates.

Goodwill by segment consisted of the following (in thousands):

		June 30,				December 31,
		2008				2007
CAG segment		$	133,666			$	131,004
Water segment			17,506				17,566
Production animal segment			10,546				9,529
		$	161,718			$	158,099

During the six months ended June 30, 2008, we recognized goodwill of $0.6 million (all of which is expected to be tax deductible) related to business acquisitions prior to June 30, 2008, which was assigned to the CAG segment. See Note 3 for additional information. The remaining changes in goodwill during the six months ended June 30, 2008 resulted from changes in foreign currency exchange rates.

NOTE 8. WARRANTY RESERVES

We provide for the estimated cost of instrument warranties in cost of product revenue at the time revenue is recognized based on the estimated cost to repair the instrument over its warranty period. Cost of revenue reflects not only estimated warranty expense for the systems sold in the current period, but also any changes in estimated warranty expense for the installed base that results from our quarterly evaluation of service experience. Our actual warranty obligation is affected by instrument performance in the customer’s environment and associated costs incurred in servicing instruments. Should actual service rates or costs differ from our estimates, which are based on historical data, revisions to the estimated warranty liability would be required. Following is a summary of changes in accrued warranty reserve during the three and six months ended June 30, 2008 and 2007 (in thousands):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Balance, beginning of period		$	1,561			$	1,831			$	1,667			$	1,978
Provision for warranty expense			551				292				1,059				782
Liability assumed in connection with business acquisition			—				—				—				86
Change in estimate of prior warranty expense			(13	)			75				(79	)			251
Settlement of warranty liability			(520	)			(447	)			(1,068	)			(1,346	)
Balance, end of period		$	1,579			$	1,751			$	1,579			$	1,751

NOTE 9. DEBT

In February 2008, we increased the aggregate principal amount available under our unsecured short-term revolving credit facility (“Credit Facility”) to $200.0 million from $125.0 million. At June 30, 2008 we had $157.9 million outstanding under the Credit Facility with a weighted average interest rate of 3.4%. Of the total amount outstanding at June 30, 2008, $7.9 million was borrowed by our Canadian subsidiary and denominated in Canadian dollars.

NOTE 10. INCOME TAXES

Our effective income tax rates for the three and six months ended June 30, 2008 were 32.4% and 30.6%, respectively, compared with 31.5% and 31.7% for the three and six months ended June 30, 2007, respectively.

 The increase in our effective income tax rate for the three months ended June 30, 2008 compared to June 30, 2007 was primarily due to federal research and development tax incentives that were not available during the three months ended June 30, 2008 because of expiration of a law. This unfavorable item was partly offset by a state law change that became effective during the three months ended June 30, 2007 which required a reduction of our deferred tax assets during that period.

The decrease in our effective income tax rate for the six months ended June 30, 2008 compared to June 30, 2007 was primarily related to a reduction in international deferred tax liabilities due to a recent change in the statutory tax rates for a jurisdiction in which we operate and a state tax law change that became effective during the six months ended June 30, 2007 that required a reduction of our deferred tax assets during that period. This reduction of statutory rates was a non-recurring benefit of approximately $1.5 million, which reduced our effective income tax rate for the six months ended June 30, 2008 by 1.5%. These favorable items were partly offset by federal research and development tax incentives that were not available for the six months ended June 30, 2008 because of expiration of a law.

NOTE 11. COMPREHENSIVE INCOME

The following is a summary of comprehensive income for the three and six months ended June 30, 2008 and 2007 (in thousands):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Net income		$	39,364			$	21,664			$	66,915			$	42,691
Other comprehensive income (loss):
Foreign currency translation adjustments			(1,114	)			1,970				8,906				3,039
Change in fair value of foreign currency contracts classified as hedges, net of tax			650				(576	)			(631	)			(529	)
Change in fair market value of investments, net of tax			103				48				31				55
Comprehensive income		$	39,003			$	23,106			$	75,221			$	45,256

NOTE 12. EARNINGS PER SHARE

Basic earnings per common share is computed by dividing net income available to common shareholders by the weighted-average number of shares of common stock and vested deferred stock units outstanding during the period. Diluted earnings per common share is computed by dividing net income available to common shareholders by shares used for basic earnings per share increased by the dilutive impact using the treasury stock method of options, restricted stock units and deferred stock units.

The following is a reconciliation of shares outstanding for basic and diluted earnings per share (in thousands):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Shares Outstanding for Basic Earnings per Share:
Weighted average shares outstanding			59,930				61,616				60,353				61,918
Weighted average vested deferred stock units outstanding			99				81				95				66
			60,029				61,697				60,448				61,984
Shares Outstanding for Diluted Earnings per Share:
Shares outstanding for basic earnings per share			60,029				61,697				60,448				61,984
Dilutive effect of options issued to employees and directors			2,357				2,657				2,472				2,720
Dilutive effect of restricted stock units issued to employees			49				35				91				43
Dilutive effect of nonvested deferred stock units issued to directors			5				11				6				11
			62,440				64,400				63,017				64,758

Vested deferred stock units outstanding are included in shares outstanding for basic and diluted earnings per share because the associated shares of our common stock are issuable for no cash consideration, the number of shares of our common stock to be issued is fixed and issuance is not contingent.

Certain options to acquire shares and restricted stock units have been excluded from the calculation of shares outstanding for dilutive earnings per share because they were anti-dilutive. The following table presents information concerning those anti-dilutive options (in thousands, except per share amounts):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Weighted average number of shares underlying anti-dilutive options			739				760				640				683
Weighted average exercise price per underlying share of anti-dilutive options		$	52.37			$	43.01			$	51.73			$	42.29
Weighted average number of shares underlying anti-dilutive restricted stock units			175				—				134				1

The following table presents additional information concerning the exercise prices of vested and unvested options outstanding at the end of the period (in thousands, except per share amounts):

		June 30,
		2008				2007
Closing price per share of our common stock		$	48.74			$	47.31
Number of shares underlying options with exercise prices below the closing price			4,838				5,817
Number of shares underlying options with exercise prices equal to or above the closing price			603				200
Total number of shares underlying outstanding options			5,441				6,017

NOTE 13. COMMITMENTS, CONTINGENCIES AND GUARANTEES

Significant commitments, contingencies and guarantees at June 30, 2008 are consistent with those discussed in our Annual Report on Form 10-K for the year ended December 31, 2007 in Note 13 to the consolidated financial statements, except as described in Note 3.

NOTE 14. TREASURY STOCK

Our board of directors has authorized the repurchase of up to 40,000,000 shares of our common stock in the open market or in negotiated transactions. We believe that the repurchase of our common stock is a favorable investment and we also repurchase to offset the dilutive effect of our employee share-based compensation programs. Repurchases of our common stock may vary depending upon the level of other investing activities and the share price.

From the inception of the program in August 1999 to June 30, 2008, we repurchased 35,100,000 shares for $792.5 million. From the inception of the program to June 30, 2008, we also received 375,000 shares of stock with a market value of $7.8 million that were surrendered by employees in payment for the minimum required withholding taxes due on the exercise of stock options, vesting of restricted stock units, settlement of deferred stock units, and in payment for the exercise price of stock options.

Information about our treasury stock purchases and other receipts is presented in the table below (in thousands, except per share amounts):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
Shares acquired			1,002				1,310				1,975				2,129
Total cost of shares acquired		$	51,007			$	57,714			$	103,657			$	92,533
Average cost per share		$	50.89			$	44.07			$	52.47			$	43.46

NOTE 15. SEGMENT REPORTING

We are organized into business units by market and customer group. Our reportable segments include: products and services for the veterinary market, which we refer to as our Companion Animal Group (“CAG”), water quality products (“Water”), and products for production animal health, which we refer to as the Production Animal Segment (“PAS”). We also operate two smaller segments that comprise products for dairy quality, which we refer to as Dairy, and products for the human medical diagnostic market, which we refer to as OPTI Medical. Financial information about the Dairy and OPTI Medical operating segments are combined and presented in an “Other” category because they do not meet the quantitative or qualitative thresholds for reportable segments. CAG develops, designs, manufactures, and distributes products and performs services for veterinarians. Water develops, designs, manufactures, and distributes products to detect contaminants in water. PAS develops, designs, manufactures, and distributes products to detect disease in production animals. Dairy develops, designs, manufactures, and distributes products to detect contaminants in dairy products. OPTI Medical develops, designs, manufactures, and distributes point-of-care electrolyte and blood gas analyzers and related consumable products for the human medical diagnostics market.

Items that are not allocated to our operating segments comprise primarily corporate research and development expenses, a portion of share-based compensation expense, interest income and expense, and income taxes. We allocate most of our share-based compensation expense to the operating segments. This allocation differs from the actual expense and consequently yields a difference between the total allocated share-based compensation expense and the actual expense for the total company.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies in our Annual Report on Form 10-K for the year ended December 31, 2007 in Notes 2 and 17.

The following is the segment information (in thousands):

		For the Three Months Ended June 30,
																		Unallocated				Consolidated
		CAG				Water				PAS				Other				Amounts				Total
2008
Revenues		$	230,752			$	20,150			$	21,489			$	8,179			$	—			$	280,570
Income (loss) from operations		$	47,807			$	8,302			$	5,514			$	(54	)		$	(2,678	)		$	58,891
Interest expense, net																							643
Income before provision for income taxes																							58,248
Provision for income taxes																							18,884
Net income																						$	39,364
2007
Revenues		$	194,025			$	17,105			$	18,683			$	7,233			$	—			$	237,046
Income (loss) from operations		$	23,179			$	7,156			$	3,760			$	(101	)		$	(1,527	)		$	32,467
Interest expense, net																							834
Income before provision for income taxes																							31,633
Provision for income taxes																							9,969
Net income																						$	21,664

		For the Six Months Ended June 30,
																		Unallocated				Consolidated
		CAG				Water				PAS				Other				Amounts				Total
2008
Revenues		$	434,361			$	36,966			$	42,651			$	15,666			$	—			$	529,644
Income (loss) from operations		$	77,362			$	14,572			$	11,342			$	(243	)		$	(5,423	)		$	97,610
Interest expense, net																							1,128
Income before provision for income taxes																							96,482
Provision for income taxes																							29,567
Net income																						$	66,915
2007
Revenues		$	367,458			$	31,510			$	35,494			$	13,739			$	—			$	448,201
Income (loss) from operations		$	46,764			$	12,798			$	7,725			$	(514	)		$	(3,429	)		$	63,344
Interest expense, net																							806
Income before provision for income taxes																							62,538
Provision for income taxes																							19,847
Net income																						$	42,691

Revenue by product and service category was as follows (in thousands):

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
		2008				2007				2008				2007
CAG segment revenue:
Instruments and consumables		$	80,777			$	71,490			$	156,387			$	138,446
Rapid assay products			41,265				36,588				79,487				67,825
Laboratory and consulting services			79,341				68,548				149,448				126,436
Practice information systems and digital radiography			14,015				11,697				29,040				24,222
Pharmaceutical products			15,354				5,702				19,999				10,529
CAG segment revenue			230,752				194,025				434,361				367,458
Water segment revenue			20,150				17,105				36,966				31,510
PAS segment revenue			21,489				18,683				42,651				35,494
Other segment revenue			8,179				7,233				15,666				13,739
Total revenue		$	280,570			$	237,046			$	529,644			$	448,201

NOTE 16. FAIR VALUE MEASUREMENTS

On January 1, 2008, we adopted the provisions of SFAS No. 157 for our financial assets and liabilities. As permitted by FSP No. SFAS 157-2, we elected to defer the adoption of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis until January 1, 2009. SFAS No. 157 provides a framework for measuring fair value under accounting principles generally accepted in the United States of America and requires expanded disclosures regarding fair value measurements. SFAS No. 157 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. SFAS No. 157 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs, where available, and minimize the use of unobservable inputs when measuring fair value.

SFAS No. 157 describes three levels of inputs that may be used to measure fair value:

Level 1		Quoted prices in active markets for identical assets or liabilities. Our Level 1 assets and liabilities include investments in money market funds and marketable securities related to a deferred compensation plan assumed in a business combination. The liabilities associated with this plan relate to deferred compensation, which is indexed to the performance of the underlying investments.
Level 2		Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Our Level 2 liabilities include unrealized losses on hedge contracts.
Level 3		Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. At June 30, 2008, we have no Level 3 assets or liabilities.

The following table sets forth our financial assets and liabilities that were measured at fair value on a recurring basis at June 30, 2008 by level within the fair value hierarchy. We did not have any nonfinancial assets or liabilities that were measured or disclosed at fair value on a recurring basis at June 30, 2008. As required by SFAS No. 157, assets and liabilities measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability (in thousands):

		Quoted Prices				Significant
		In Active				Other				Significant
		Markets for				Observable				Unobservable
		Identical Assets				Inputs				Inputs				Balance at
		(Level 1)				(Level 2)				(Level 3)				June 30, 2008
Assets
Marketable securities (1)		$	2,011			$	—			$	—			$	2,011
Money market funds (2)			7,727				—				—				7,727
Liabilities
Deferred compensation (3)			2,011				—				—				2,011
Derivatives (4)			—				2,800				—				2,800

(1)		Relates to investments in marketable securities for a deferred compensation plan, which is included in other long-term assets.
(2)		Relates to short-term investment in registered funds and included in cash and cash equivalents.
(3)		Relates to deferred compensation liability associated with the above-mentioned marketable securities, included in other long-term liabilities.
(4)		Relates to unrealized losses on hedge contracts, included in accrued expenses. The notional value of these contracts is $92.0 million.

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

This quarterly report on Form 10-Q includes or incorporates forward-looking statements about our business and expectations within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements relating to future revenue growth rates, demand for our products, realizability of assets, warranty expense, share-based compensation expense, and competition. You can generally identify forward-looking statements by the fact that they do not relate strictly to historical or current facts. Words such as “expects,” “may,” “anticipates,” “intends,” “would,” “will,” “plans,” “believes,” “estimates,” “should,” and similar words and expressions are intended to help you identify forward-looking statements. These statements give our current expectations or forecasts of future events; are based on current estimates, projections, beliefs, and assumptions; and are not guarantees of future performance. Actual events or results may differ materially from those described in the forward-looking statements. These forward-looking statements involve a number of risks and uncertainties as more fully described under the heading “Part II, Item 1A. Risk Factors” in this quarterly report on Form 10-Q. The risks and uncertainties discussed herein do not reflect the potential impact of future mergers, acquisitions or dispositions. In addition, any forward-looking statements represent our estimates only as of the day this quarterly report was first filed with the Securities and Exchange Commission and should not be relied upon as representing our estimates as of any subsequent date. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, even if our estimates or expectations change.

• Business Overview

We operate primarily through three business segments: products and services for the veterinary market, which we refer to as our Companion Animal Group (“CAG”), water quality products (“Water”) and products for production animal health, which we refer to as the Production Animal Segment (“PAS”). We also operate two smaller segments that comprise products for dairy quality, which we refer to as Dairy, and products for the human medical diagnostic market, which we refer to as OPTI Medical. Financial information about the Dairy and OPTI Medical operating segments are combined and presented in an “Other” category because they do not meet the quantitative or qualitative thresholds for reportable segments.

CAG develops, designs, manufactures, and distributes products and performs services for veterinarians. Water develops, designs, manufactures, and distributes products to detect contaminants in water. PAS develops, designs, manufactures, and distributes products to detect diseases in production animals. Dairy develops, designs, manufactures, and distributes products to detect contaminants in dairy products. OPTI Medical develops, designs, manufactures, and distributes point-of-care electrolyte and blood gas analyzers and related consumable products for the human medical diagnostics market.

Items that are not allocated to our operating segments comprise primarily corporate research and development expenses, a portion of share-based compensation expense, interest income and expense, and income taxes. We allocate most of our share-based compensation expense to the operating segments. This allocation differs from the actual expense and consequently yields a difference between the total allocated share-based compensation expense and the actual expense for the total company.

• Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. The significant accounting policies used in preparation of these condensed consolidated financial statements for the six months ended June 30, 2008 are consistent with those discussed in Note 2 to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2007 and in Note 2 to the condensed consolidated financial statements included in this quarterly report on Form 10-Q. The critical accounting policies and the significant judgments and estimates used in the preparation of our condensed consolidated financial statements for the six months ended June 30, 2008 are consistent with those discussed in our Annual Report on Form 10-K for the year ended December 31, 2007 in the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates”, except as discussed below.

Share-Based Compensation

We grant share-based compensation to certain employees annually in the first quarter of each year, including stock options. We have used subjective assumptions to value stock options, particularly for the expected stock price volatility and the expected term of the options, that we believe are reasonable.

To develop the expected term assumption for option awards, we previously elected to use the simplified method described in the Securities and Exchange Commission Staff Accounting Bulletin No. 107, which is based on vesting and contractual terms. Beginning in January 2008, we derive the expected term assumption for options based on historical experience and other relevant factors concerning expected employee behavior with regard to option exercise. Expected term for future awards will be determined using a consistent method. Longer expected term assumptions increase the fair value of option awards, and therefore increase the expense recognized per award.

Share-based compensation expense is based on the number of awards ultimately expected to vest and is, therefore, reduced for an estimate of the number of awards that are expected to be forfeited. The forfeiture estimates are based on historical data and other factors, and compensation expense is adjusted for actual results. Net share-based compensation costs for the six months ended June 30, 2008 were $5.5 million, which is net of a reduction of $0.6 million for estimated forfeitures. Changes in estimated forfeiture rates and differences between estimated forfeiture rates and actual experience may result in unanticipated increases or decreases in share-based compensation expense from period to period.

• Results of Operations

Three Months Ended June 30, 2008 Compared to Three Months Ended June 30, 2007

Revenue

Total Company. Revenue increased $43.5 million, or 18%, to $280.6 million for the three months ended June 30, 2008 from $237.0 million for the same period of the prior year. The favorable impact of currency exchange rates contributed 5% to revenue growth. The following table presents revenue by operating segment:

For the Three Months Ended June 30,
																										Percentage
																										Change Net of
																		Percentage				Percentage				Acquisitions
Net Revenue										Dollar				Percentage				Change from				Change from				and Currency
(dollars in thousands)		2008				2007				Change				Change				Currency (1)				Acquisitions (2)				Effect
CAG		$	230,752			$	194,025			$	36,727				18.9	%			4.0	%			0.4	%			14.5	%
Water			20,150				17,105				3,045				17.8	%			4.2	%			—				13.6	%
PAS			21,489				18,683				2,806				15.0	%			11.4	%			—				3.6	%
Other			8,179				7,233				946				13.1	%			5.1	%			—				8.0	%
Total		$	280,570			$	237,046			$	43,524				18.4	%			4.7	%			0.3	%			13.4	%

Companion Animal Group. Revenue for CAG increased $36.7 million, or 19%, to $230.8 million for the three months ended June 30, 2008 from $194.0 million for the same period of the prior year. Incremental sales from veterinary reference laboratory businesses acquired subsequent to April 1, 2007 contributed just under one-half of a percent to CAG revenue growth. The favorable impact of currency exchange rates contributed 4% to the increase in CAG revenue. The following table presents revenue by product and service category for CAG:

For the Three Months Ended June 30,
																										Percentage
																										Change Net of
																		Percentage				Percentage				Acquisitions
Net Revenue										Dollar				Percentage				Change from				Change from				and Currency
(dollars in thousands)		2008				2007				Change				Change				Currency (1)				Acquisitions (2)				Effect
Instruments and consumables		$	80,777			$	71,490			$	9,287				13.0	%			4.7	%			—				8.3	%
Rapid assay products			41,265				36,588				4,677				12.8	%			1.9	%			—				10.9	%
Laboratory and consulting services			79,341				68,548				10,793				15.7	%			5.2	%			1.2	%			9.3	%
Practice information management systems and digital radiography			14,015				11,697				2,318				19.8	%			1.7	%			—				18.1	%
Pharmaceutical products			15,354				5,702				9,652				169.3	%			—				—				169.3	%
Net CAG revenue		$	230,752			$	194,025			$	36,727				18.9	%			4.0	%			0.4	%			14.5	%