Quest Diagnostics 2006 Annual Report Download

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200 6฀ANNUAL฀REPORT
courage฀
compassion฀
commitment

Table of contents

  • Page 1
    20 0 6฀ANNUAL฀REPORT courage฀ compassion฀ commitment

  • Page 2
    ... 06 5-Year฀CAGR 11 % 5-Year฀CAGR 18 % 5-Year฀CAGR 18 % Financial฀Highlights YEA R฀ END ED ฀ D ECEMBER฀ 3 1 in฀millions,฀except฀per฀share฀data 2006฀ Net฀Revenues Operating฀Income Net฀Income Net฀Earnings฀Per฀Diluted฀Share฀ Information฀is...

  • Page 3
    ...฀Diagnostics฀is฀the฀leading฀provider฀of฀diagnostic฀testing,฀฀ information฀and฀services฀in฀the฀nation,฀with฀the฀industry's฀most฀ extensive฀menu฀of฀lab฀tests.฀We฀touch฀the฀lives฀of฀patients฀฀ more฀than฀150฀million฀times฀a฀year...

  • Page 4
    ...industry฀that฀ provides฀a฀critical฀healthcare฀service฀to฀doctors฀and฀patients.฀Advances฀ in฀technology฀are฀increasing฀the฀relevance฀of฀diagnostic฀testing,฀while฀ enabling฀us฀to฀make฀it฀less฀painful฀and฀more฀convenient฀than฀ever.฀New...

  • Page 5
    ... diagnostic฀ testing฀ and฀ services,฀ our฀ industry฀ is฀ undergoing฀ dramatic฀ change฀ brought฀ on฀ by฀ broad฀ shifts฀ in฀ the฀ healthcare฀sector.฀Health฀plans฀have฀consolidated,฀ creating฀integrated฀enterprises฀with฀greater฀purchasing฀power...

  • Page 6
    ... have฀ created฀ specialized฀ sales฀ ฀ organizations฀ to฀ serve฀ medical฀ specialists฀ and฀ ฀ to฀ provide฀ information฀ technology฀ services฀ and฀ genetic฀testing. We฀are฀working฀with฀large฀health฀plans฀to฀understand฀and฀meet฀their฀needs...

  • Page 7
    ...฀ of฀ test฀ results฀ to฀ identify฀ broad฀ health฀ trends.฀ During฀ 2006฀ we฀ issued฀ the฀ Quest฀ Diagnostics฀ Health฀Trends฀Diabetes฀Report,฀which฀found฀that฀ between฀2001฀and฀2005฀people฀with฀diabetes฀who฀ visit฀health฀professionals...

  • Page 8
    ...฀ and฀ physicians.฀ We฀ are฀ relentless฀ in฀ enhancing฀ the฀ quality฀ and฀ technology฀ of฀ the฀ testing฀services฀we฀offer,฀making฀it฀easier฀and฀more฀convenient฀for฀patients฀to฀get฀tested฀using฀ innovative฀diagnostics฀and฀information...

  • Page 9
    ...฀ tests฀ to฀ help฀ determine฀ infertility฀ causes,฀ diagnose฀ and฀ manage฀ post-menopausal฀ symptoms฀ and฀ develop฀improved฀methods฀to฀automate฀the฀process฀used฀to฀identify฀carriers฀of฀the฀Fragile฀X฀gene. Quest฀Diagnostics฀2006฀Annual...

  • Page 10
    ...฀to฀healthcare฀because฀we฀have฀compassion฀for฀our฀patients.฀We฀make฀a฀meaningful฀ difference฀ in฀ our฀ patients'฀ lives฀ by฀ offering฀ easier฀ testing฀ alternatives,฀ accurate฀ clinical฀ results฀ and฀an฀extraordinary฀level฀of฀service...

  • Page 11
    ...patient฀service฀centers฀by฀piloting฀an฀appointment฀scheduling฀capability,฀making฀it฀easier฀for฀patients฀to฀get฀tested.฀We฀plan฀to฀ make฀scheduling฀available฀to฀all฀locations฀in฀2007. At฀the฀same฀time,฀we฀continue฀to฀offer฀a฀menu...

  • Page 12
    ...committed฀to฀driving฀growth.฀Diagnostic฀testing฀is฀central฀to฀what฀we฀do,฀and฀ we฀ continually฀ seek฀ new฀ ways฀ to฀ expand฀ and฀ enhance฀ that฀ business.฀ At฀ the฀ same฀ time฀ we฀ ฀ are฀ finding฀ innovative฀ ways฀ to฀ use฀ our...

  • Page 13
    ...฀our฀employees฀by฀providing฀them฀with฀specialized฀training฀programs,฀like฀IntelliQuest,฀and฀make฀ them฀ Ambassadors฀ for฀ the฀ company฀ by฀ giving฀ them฀ value-added฀ benefits฀ like฀ our฀ proprietary฀ Blueprint฀ for฀ Wellness™฀ health...

  • Page 14
    ...฀their฀customer฀networks.฀Major฀employers฀ rely฀ on฀ us฀ for฀ routine฀ drug฀ testing,฀ as฀ well฀ as฀ for฀ comprehensive฀ wellness฀ testing฀ and฀ health฀ assessments฀for฀their฀employees.฀Life฀insurance฀companies฀turn฀to฀Quest฀Diagnostics...

  • Page 15
    ...Using฀it฀ultimately฀saved฀my฀ life.฀People฀should฀know฀that฀taking฀the฀InSure฀test฀is฀a฀simple฀process฀that฀can฀help฀them฀catch฀ disease฀early฀and฀live฀longer,฀healthier฀lives." Quest฀Diagnostics฀2006฀Annual฀Report฀-฀page฀13

  • Page 16
    ...฀I฀would฀do฀everything฀I฀could฀to฀make฀his฀ life฀as฀normal฀and฀positive฀as฀possible.฀Going฀to฀Quest฀Diagnostics฀made฀such฀a฀difference.฀Mona฀ made฀sure฀Eddie฀never฀had฀to฀dread฀the฀countless฀blood฀draws,฀and฀her฀friendship...

  • Page 17
    ...INTERNAL฀ Dr.฀Pelfrey.฀"It฀has฀already฀transformed฀the฀way฀our฀office฀operates,฀positioning฀us฀to฀deliver฀even฀bet- MEDICINE฀AND฀CARE36 0฀USER ter฀patient฀care."฀Care360฀gives฀physicians฀electronic฀access฀to฀a฀wealth฀of฀patient฀data...

  • Page 18
    ...York,฀New฀York Founder฀and฀President฀฀ Common฀Ground฀Community฀฀ New฀York,฀New฀York Rosanne฀Haggerty Surya฀N.฀Mohapatra,฀Ph.D. Chairman,฀President฀and฀฀ Chief฀Executive฀Officer฀฀ Quest฀Diagnostics฀Incorporated฀฀ Lyndhurst,฀New฀Jersey...

  • Page 19
    ฀ ฀ ฀

  • Page 20
    UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Fiscal Year Ended December 31, 2006 Commission File Number 001-12215 Quest Diagnostics Incorporated 1290 Wall Street West, ...

  • Page 21
    ... ...Healthcare Information Technology...Privacy and Security of Health Information; Standard Transactions...Regulation of Reimbursement for Clinical Laboratory Services...Government Investigations and Related Claims...Compliance Program ...Intellectual Property Rights ...Insurance ...Employees...

  • Page 22
    ..., in each case, facilities operated at our joint ventures). We provide full esoteric testing services, including gene-based testing, on both coasts through our Quest Diagnostics Nichols Institute laboratory facilities, located in San Juan Capistrano, California and Chantilly, Virginia, as well...

  • Page 23
    ... healthcare providers, including clinical laboratories. See "Recent Changes in Payer Relationships" and "Payers and Customers - Healthcare Insurers". While the diagnostic testing industry in the United States will be impacted by a number of factors and may continue to experience intensified pricing...

  • Page 24
    ... better access to patient-centric information. We believe that these products enhance the value we provide to our customers and result in increased customer loyalty. Our Care360TM products, including our Care360 Physician Portal, enable doctors to order diagnostic tests and review laboratory results...

  • Page 25
    ... industry factors in the U.S. diagnostic testing industry and the differentiated services we offer to our customers will enable us to grow organically, we see a number of opportunities to grow beyond our current principal business of operating diagnostic testing laboratories in the United States...

  • Page 26
    ... provides health screening and risk assessment services to life insurance companies, as well as clinical diagnostic testing services to healthcare providers and drugs-of-abuse testing to employers. LabOne operates regional laboratories in Lenexa, Kansas, and Cincinnati, Ohio, as well as a state...

  • Page 27
    ... testing business accounted for approximately 92% of our net revenues, with the balance derived from risk assessment services, clinical trials testing, healthcare information technology services and diagnostic products. Substantially all of our services are provided within the United States...

  • Page 28
    ...two esoteric testing laboratories, which conduct business as Quest Diagnostics Nichols Institute, are among the leading esoteric clinical testing laboratories in the world. In 1998, our esoteric testing laboratory in San Juan Capistrano, California, was the first clinical laboratory in North America...

  • Page 29
    ... and diagnostic testing. We believe that we are well positioned to benefit from these advances. As testing methods become more complex, we believe that it is also important to provide sound medical and scientific consultation to ensure the correct application and interpretation of the test results...

  • Page 30
    ... provider of risk assessment services to the life insurance industry in the United States. Our risk assessment services comprise underwriting support services to the life insurance industry including teleunderwriting, specimen collection and paramedical examinations, laboratory testing, medical...

  • Page 31
    ..., another laboratory or an employer) who referred the testing to us, (2) the patient, or (3) a third party who pays the bill for the patient, such as an insurance company, Medicare or Medicaid. Some states, including New York, New Jersey and Rhode Island, prohibit us from billing physician clients...

  • Page 32
    ... Medicare Advantage programs. We offer QuestNetTM, a service whereby we develop and administer customized networks of clinical laboratory providers for healthcare insurers. Through QuestNetTM, physicians and patients are provided multiple choices for clinical laboratory testing while healthcare...

  • Page 33
    ...throughout the United States that vary from esoteric testing to helping manage their laboratories. We believe that we are the industry's market leader in servicing hospitals. Our hospital customers account for approximately 11% of our net revenues, the majority of which represents services billed to...

  • Page 34
    ... laboratories and physician office laboratories. Customer service representatives perform a number of services for patients and customers. They monitor services, answer questions and help resolve problems. Our couriers pick up specimens from most clients daily. Our corporate marketing function...

  • Page 35
    ...laboratories and physician-office laboratories. We are the leading clinical laboratory testing provider in the United States, with net revenues of $6.3 billion during 2006, and facilities in substantially all of the country's major metropolitan areas. Our largest competitor is Laboratory Corporation...

  • Page 36
    ... of patient specimens, as well as the precision and accuracy of analysis and result reporting. Our quality assurance efforts focus on proficiency testing, process audits, statistical process control and personnel training for all of our laboratories and patient service centers. We continue...

  • Page 37
    ...of most clinical laboratory specimens and some laboratory supplies are considered hazardous materials subject to regulation by the Department of Transportation, the Public Health Service, the United States Postal Service and the International Air Transport Association. Corporate Practice of Medicine...

  • Page 38
    ... to obtain laboratory orders and to communicate results and provide other laboratory reporting. Innovations in healthcare information technology, or HCIT, have the potential to improve patient care, promote efficiency and reduce expense. Both at the federal and state levels, there are public and...

  • Page 39
    ... NPIs to Medicare, Medicaid and other commercial health plans. We have also updated our billing systems so that we can report the NPIs of referring physicians for our claims that require referring physician NPI information after May 23, 2007, such as claims submitted to the Medicare program. We are...

  • Page 40
    .... In addition, state Medicaid programs are prohibited from paying more (and in most instances, pay significantly less) than Medicare. Major clinical laboratories, including Quest Diagnostics, typically use two fee schedules for tests billed on a fee-for-service basis: • "Client" fees charged to...

  • Page 41
    ... not pay for many commonly ordered clinical tests unless the ordering physician has provided an appropriate diagnosis code supporting the medical necessity of the test. Physicians are required by law to provide diagnostic information when they order clinical tests for Medicare and Medicaid patients...

  • Page 42
    ... the clinical laboratory fee schedule applicable to the carrier region where the referred test was performed. This streamlined process allows a laboratory to file all of its clinical laboratory claims to its "home" carrier. CMS also has announced a parallel change with regard to purchased diagnostic...

  • Page 43
    .... During the mid-1990s, Quest Diagnostics and SBCL settled significant government claims that primarily involved industry-wide billing and marketing practices that both companies believed to be lawful. The federal or state governments may bring additional claims based on new theories as to our...

  • Page 44
    ... of New York. The subpoenas request a wide range of business records, including documents regarding testing and test kits related to parathyroid hormone ("PTH") testing. The Company is cooperating with the United States Attorney's Office. The Company has voluntarily provided information, witnesses...

  • Page 45
    ... insurance coverages for claims that could result from providing or failing to provide clinical laboratory testing services, including inaccurate testing results and other exposures. Our insurance coverage limits our maximum exposure on individual claims; however, we are essentially self-insured...

  • Page 46
    ...laboratory service providers accept discounted fee structures, or assume all or a portion of the financial risk associated with providing testing services to their members through capitated payment arrangements. Historically, healthcare insurers, which had limited their network of laboratory service...

  • Page 47
    ... on our business. During the mid-1990s, Quest Diagnostics and SBCL settled significant government claims that primarily involved industry-wide billing and marketing practices that both companies believed to be lawful. The federal or state governments may bring additional claims based on new theories...

  • Page 48
    ... net revenues for the year ended December 31, 2006, is primarily the result of missing or incorrect billing information on requisitions received from healthcare providers and the failure of patients to pay the portion of the receivable that is their responsibility, rather than credit related issues...

  • Page 49
    ... of or deterioration in our services may result in a customer's decision to stop using us for clinical laboratory testing. Even if we are able to successfully complete the integration of Focus Diagnostics or the operations of other companies or business we may acquire in the future, we may...

  • Page 50
    ... May 23, 2007. See "Business - Privacy and Security of Health Information; Standard Transactions". We have obtained NPIs for all of our laboratory facilities and we have updated our billing systems so that we can report our NPIs to Medicare, Medicaid and other commercial health plans. We are in the...

  • Page 51
    ... operational, personnel and quality requirements intended to ensure that their clinical laboratory testing services are accurate, reliable and timely. The cost of compliance with CLIA makes it cost prohibitive for many physicians to operate clinical laboratories in their offices. Manufacturers...

  • Page 52
    ... risk of an erroneous result" under CLIA. However, we believe our acquisitions of HemoCue, Focus Diagnostics and Enterix, will help position us to service this market for physicians and hospitals. See "Business - Recent Acquisitions". Our growing international operations expose us to certain...

  • Page 53
    ... for Clinical Laboratory Services" and "Business - Payers and Customers - Healthcare Insurers". (d) The impact upon our testing volume and collected revenue or general or administrative expenses resulting from our compliance with Medicare and Medicaid administrative policies and requirements...

  • Page 54
    ...to bill the Medicare and Medicaid programs or other adverse regulatory actions by federal, state and local agencies. See "Business - Regulation of Clinical Laboratory Operations". (i) Changes in federal, state or local laws or regulations, including changes that result in new or increased federal or...

  • Page 55
    ... laboratory facility as a result of recent acquisitions. Location Leased or Owned Phoenix, Arizona Long Beach, California (Cypress, California) Los Angeles, California Sacramento, California San Jose, California San Juan Capistrano, California Denver, Colorado New Haven, Connecticut Washington...

  • Page 56
    ... in the United States, a site in Lake Forest, California that serves as our distribution center for HemoCue and our laboratory facility in Mexico City, Mexico. We also lease laboratory facilities in San Juan, Puerto Rico, and Heston, England and lease a manufacturing and laboratory facility near...

  • Page 57
    ...Our common stock is listed and traded on the New York Stock Exchange under the symbol "DGX". The following table sets forth, for the periods indicated, the high and low sales price per share as reported on the New York Stock Exchange Consolidated Tape and dividend information (all per share data has...

  • Page 58
    ... Quest Diagnostics' common stock since December 31, 2001, based on the market price of the Company's common stock and assuming reinvestment of dividends, with the cumulative total shareholder return of companies on the Standard & Poor's 500 Stock Index and the S&P 500 Healthcare Equipment & Services...

  • Page 59
    ...) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective. Changes in Internal Control - During the fourth quarter of 2006, there were no changes...

  • Page 60
    ...", "Information about our Corporate Governance - Code of Business Ethics and Stock Ownership of Directors and Executive Officers" and "Section 16(a) Beneficial Ownership Reporting Compliance". Executive Officers of the Registrant Officers of the Company are elected annually by the Board of Directors...

  • Page 61
    ... Governance - Related Person Transactions", "Information about our Corporate Governance - Independence of the Board of Directors" and "Information about our Corporate Governance - Director Independence" appearing in the Proxy Statement. Item 14. Principal Accounting Fees and Services The information...

  • Page 62
    ...2004, among Unilab Acquisition Corporation (d/b/a FNA Clinics of America), Quest Diagnostics Incorporated, The Bank Of New York, and the Subsidiary Guarantors (filed as an Exhibit to the Company's quarterly report on Form 10-Q for the quarter ended March 31, 2004 and incorporated herein by reference...

  • Page 63
    ..., Quest Diagnostics Incorporated, as Servicer, each of the lenders party thereto and Wachovia Bank, National Association, as Administrative Agent (filed as an Exhibit to the Company's quarterly report on Form 10-Q for the quarter ended March 31, 2004 and incorporated herein by reference) Amendment...

  • Page 64
    ...of Employees Stock Purchase Plan, as amended (filed as an Appendix B to the Company's Definitive Proxy Statement dated March 26, 2006 and incorporated herein by reference) Form of 1996 Employee Equity Participation Program, as amended (filed as an Exhibit to the Company's quarterly report on Form 10...

  • Page 65
    ... herein by reference) Code of Business Ethics (filed as an exhibit to the Company's current report on Form 8-K (Date of report: October 21, 2004) and incorporated herein by reference) Subsidiaries of Quest Diagnostics Incorporated Consent of PricewaterhouseCoopers LLP Certification of Chief...

  • Page 66
    ... him or her and in his or her name, place and stead, in any and all capacities, to sign this annual report on Form 10-K and any and all amendments thereto, and to file the same, with all exhibits thereto, granting unto said attorneys-in-fact and agents, and each of them full power and authority to...

  • Page 67
    ...our Company and management's discussion and analysis of financial condition and results of operations included elsewhere in this Annual Report on Form 10-K. Year Ended December 31, 2005(f) 2004 2003(g) (in thousands, except per share data) 2006(a) 2002(h) Operations Data: Net revenues...Operating...

  • Page 68
    ... and $4.1 million in charges related to consolidating operations in California into a new facility. (e) During the year ended December 31, 2006, we recorded $32 million in charges as a result of discontinuing NID's operations. (f) On November 1, 2005, we completed the acquisition of LabOne, Inc., or...

  • Page 69
    ... positioned to benefit from the long-term growth expected in the industry. Payments for clinical laboratory testing services are made by the government, healthcare insurers, physicians, hospitals, employers and patients. Physicians, hospitals and employers are typically billed on a fee-for-service...

  • Page 70
    ... can provide test utilization data across various products in a consistent format. In certain markets, such as California, healthcare insurers may delegate their covered members to independent physician associations, or IPAs, which in turn negotiate with laboratories for clinical laboratory services...

  • Page 71
    ... value of laboratory testing with healthcare insurers, and government payers at the federal and state level. The diagnostic testing industry is labor intensive. Employee compensation and benefits constitute approximately one-half of our total costs and expenses. Cost of services consists principally...

  • Page 72
    ...'s operations, including its health screening and risk assessment services to life insurance companies, as well as its clinical diagnostic testing services to healthcare providers and drugs-of-abuse testing to employers. LabOne had 3,100 employees and principal laboratories in Lenexa, Kansas, as...

  • Page 73
    .... It offers its reference testing services and diagnostic products to large academic medical centers, hospitals and commercial laboratories. Acquisition of Enterix On August 31, 2006, we completed the acquisition of Enterix Inc. ("Enterix"), a privately held Australiabased company that developed and...

  • Page 74
    ... collectibility of our receivables is directly linked to the quality of our billing processes, most notably those related to obtaining the correct information in order to bill effectively for the services we provide. As such, we have implemented "best practices" to reduce the number of requisitions...

  • Page 75
    ... and Company policies. Management periodically reports to the Quality, Safety & Compliance Committee of the Board of Directors regarding compliance operations. As an integral part of our compliance program, we investigate all reported or suspected failures to comply with federal and state healthcare...

  • Page 76
    ... publicly available information regarding comparable publicly-traded companies in the clinical laboratory testing industry, (ii) the financial projections and future prospects of our business, including its growth opportunities and likely operational improvements, and (iii) comparable sales prices...

  • Page 77
    ...a further discussion of stock-based compensation. Results of Operations Our clinical laboratory testing business currently represents our one reportable business segment. The clinical laboratory testing business for the years ended December 31, 2006, 2005 and 2004 accounted for approximately 92%, 96...

  • Page 78
    ... in the number of life insurance applicants being tested, partially offset by growth in paramedical exams and various risk assessment activities outsourced by life insurance companies. Operating Costs and Expenses Total operating costs and expenses for the year ended December 31, 2006 increased $691...

  • Page 79
    ... states and emerging diagnostic areas; and • enhancing our information technology infrastructure and development capabilities supporting our products which enable healthcare providers to order and receive laboratory test results, order prescriptions electronically, and create, collect, manage...

  • Page 80
    ...'s net revenues are generated from risk assessment services provided to life insurance companies, with the remainder classified as clinical laboratory testing. Our clinical testing business, which accounted for over 96% of our 2005 net revenues, grew approximately 7% for the year. The acquisition of...

  • Page 81
    ... providers to order and receive laboratory test results, order prescriptions electronically, and create, collect, manage and exchange healthcare information. Cost of services, which includes the costs of obtaining, transporting and testing specimens, was 59.0% of net revenues for the year ended...

  • Page 82
    ... expense related to the financing of the LabOne acquisition. Interest expense, net for the year ended December 31, 2004 included a $2.9 million charge representing the write-off of deferred financing costs associated with the second quarter 2004 refinancing of our bank debt and credit facility...

  • Page 83
    ...and the timing of various payments for taxes and accrued expenses partially offset by an increase in accounts receivable. Days sales outstanding, a measure of billing and collection efficiency, were 48 days at December 31, 2006 compared to 46 days at December 31, 2005. Net cash provided by operating...

  • Page 84
    ...was $1.1 billion, consisting primarily of the acquisition of LabOne and related transaction costs for $795 million, the acquisition of a small regional laboratory for $19 million, equity investments of $38 million in companies, which develop diagnostic tests, and capital expenditures of $224 million...

  • Page 85
    ... at December 31, 2006, all of which was issued against the $85 million letter of credit lines. The letters of credit, which are renewed annually, primarily represent collateral for automobile liability and workers' compensation loss payments. Our credit agreements relating to our senior unsecured...

  • Page 86
    ... that over the long term the industry will continue to grow. As the leading provider of diagnostic testing, information and services with the most extensive network of laboratories and patient service centers throughout the United States, we believe we are well positioned to benefit from the growth...

  • Page 87
    ... of compliance with the policies or procedures may deteriorate. Management's assessment of the effectiveness of the Company's internal control over financial reporting as of December 31, 2006 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated...

  • Page 88
    ... have completed integrated audits of Quest Diagnostics Incorporated's consolidated financial statements and of its internal control over financial reporting as of December 31, 2006, in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based...

  • Page 89
    assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect ...

  • Page 90
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS DECEMBER 31, 2006 AND 2005 (in thousands, except per share data) 2006 2005 Assets Current assets: Cash and cash equivalents ...Accounts receivable, net of allowance for doubtful accounts of $205,086 and $193,754 at December...

  • Page 91
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 (in thousands, except per share data) 2006 2005 2004 Net revenues ...Operating costs and expenses: Cost of services ...Selling, general and administrative ......

  • Page 92
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 (in thousands) 2006 2005 2004 Cash flows from operating activities: Net income...Adjustments to reconcile net income to net cash provided by operating ...

  • Page 93
    ...stock under benefit plans ...Stock-based compensation expense . Exercise of stock options ...Shares to cover employee payroll tax withholdings on stock issued under benefit plans ...Tax benefits associated with stockbased compensation plans...Purchases of treasury stock ...Balance, December 31, 2006...

  • Page 94
    ... other healthcare professionals to make decisions to improve health. The Company is also a leading provider of anatomic pathology services, testing to support clinical trials of new pharmaceuticals worldwide and risk assessment services for the life insurance industry. During 2006, Quest Diagnostics...

  • Page 95
    ... by Medicare and Medicaid programs. Under capitated arrangements with healthcare insurers, the Company recognizes revenue based on a predetermined monthly reimbursement rate for each member of an insurer's health plan regardless of the number or cost of services provided by the Company. Taxes...

  • Page 96
    ... the method of accounting for stock-based employee compensation and the effect of the method used on reported results. In December 2004, the FASB issued SFAS No. 123, revised 2004, "Share-Based Payment" ("SFAS 123R"). SFAS 123R requires that companies recognize compensation cost relating to share...

  • Page 97
    ... to these customers, is limited. While the Company has receivables due from federal and state governmental agencies, the Company does not believe that such receivables represent a credit risk since the related healthcare programs are funded by federal and state governments, and payment is primarily...

  • Page 98
    ... experience is an integral part of the estimation process related to allowances for doubtful accounts. In addition, the Company regularly assesses the state of its billing operations in order to identify issues which may impact the collectibility of receivables or reserve estimates. Revisions to the...

  • Page 99
    ... available information regarding comparable publiclytraded companies in the clinical laboratory testing industry, (ii) the financial projections and future prospects of the Company's business, including its growth opportunities and likely operational improvements, and (iii) comparable sales prices...

  • Page 100
    ... of equity securities in public corporations. Investments in trading equity securities represent participant directed investments of deferred employee compensation and related Company matching contributions held in a trust pursuant to the Company's supplemental deferred compensation plan (see Note...

  • Page 101
    ... with the realization of tax benefits derived from certain state net operating loss carryforwards, the allocation of income and expense among state jurisdictions, the characterization and timing of certain tax deductions associated with business combinations and employee compensation, and income and...

  • Page 102
    ... $138 million of assumed debt of LabOne. LabOne provides health screening and risk assessment services to life insurance companies, as well as clinical diagnostic testing services to healthcare providers and drugs-of-abuse testing to employers. Under the terms of the merger agreement, the...

  • Page 103
    ..., the Company acquired all of LabOne's operations, including its health screening and risk assessment services for life insurance companies, its clinical diagnostic testing services, and its drugs-of-abuse testing for employers. LabOne had 3,100 employees and principal laboratories in Lenexa, Kansas...

  • Page 104
    ... severance. Employee groups affected as a result of this plan included those involved in the testing of specimens, as well as administrative and other support functions. Of the total costs indicated above, $21 million related to actions that impact Quest Diagnostics' employees and its operations and...

  • Page 105
    ... with its acquisition of SmithKline Beecham Clinical Laboratories, Inc. ("SBCL"), which operated the clinical laboratory testing business of SmithKline Beecham plc ("SmithKline Beecham"), the Company entered into a tax indemnification arrangement with SmithKline Beecham that provides the parties...

  • Page 106
    ... 1 ...Goodwill acquired during the year ...Other ...Balance as of December 31 ... $3,385,280 $2,695,003 196,222 697,766 (9,264) (7,489) $3,572,238 $3,385,280 For the year ended December 31, 2006, the increase in goodwill was primarily related to the acquisitions of Focus Diagnostics and Enterix...

  • Page 107
    ... due to tradenames resulting from the acquisition of LabOne, $9.4 million (see Note 3). 9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses at December 31, 2006 and 2005 consisted of the following: 2006 2005 Trade accounts payable ...Accrued wages and benefits ...Accrued...

  • Page 108
    ... by reference to the prime rate or federal funds rate. As of December 31, 2006 and 2005, the Company's borrowing rate for LIBOR-based loans was LIBOR plus 0.50%. The Credit Facility is guaranteed by the Company's wholly owned subsidiaries that operate clinical laboratories in the United States (the...

  • Page 109
    ...the acquisition of LabOne in November 2005, the Company assumed $7.2 million of Industrial Revenue Bonds. Principal is payable annually in equal installments through September 1, 2009. Interest is payable monthly at a rate adjusted weekly based on LIBOR plus approximately 0.08%. At December 31, 2006...

  • Page 110
    ... rates. The Debentures due June 2034 are no longer convertible into shares of common stock of LabOne or the Company. The Debentures due June 2034 require semi-annual interest payments in June and December. Letter of Credit Lines The Company has two lines of credit with two financial institutions...

  • Page 111
    ...31, 2006, each share of Quest Diagnostics common stock traded with a preferred share purchase right, which entitled stockholders to purchase one-hundredth of a share of Series A Preferred Stock upon the occurrence of certain events. In conjunction with the SBCL acquisition, the Board of Directors of...

  • Page 112
    ...for the year ended December 31, 2006 by $33 million related to excess tax benefits from stock-based compensation arrangements. Employee and Non-employee Directors Stock Ownership Programs In 2005, the Company established the ELTIP to replace the Company's prior Employee Equity Participation Programs...

  • Page 113
    ... During 2006, 2005 and 2004, grants under the DLTIP totaled 95, 110 and 180 thousand shares, respectively. In general, the Company's practice has been to issue shares related to its stock-based compensation program from shares of its common stock held in treasury. See Note 11 for further information...

  • Page 114
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (dollars in thousands unless otherwise indicated) Transactions under the stock option plans for 2006, 2005 and 2004 were as follows: 2006 2005 2004 Weighted Average Weighted Weighted Weighted ...

  • Page 115
    ... for the year ended December 31, 2006. Income tax benefits related to stock-based compensation for 2005 and 2004 were not material. Employee Stock Purchase Plan Under the Company's Employee Stock Purchase Plan ("ESPP"), which was approved by the Company's shareholders at the 2006 Annual Meeting of...

  • Page 116
    ... credit, which are renewed annually, primarily represent collateral for current and future automobile liability and workers' compensation loss payments. The Company has in the past entered into several settlement agreements with various government and private payers relating to industry-wide billing...

  • Page 117
    ... of New York. The subpoenas request a wide range of business records, including documents regarding testing and test kits related to parathyroid hormone ("PTH") testing. The Company is cooperating with the United States Attorney's Office. The Company has voluntarily provided information, witnesses...

  • Page 118
    ... diagnostics products businesses. The Company's risk assessment business, acquired as part of the LabOne acquisition in 2005 (see Note 3), provides underwriting support services to the life insurance industry including teleunderwriting, paramedical examinations, laboratory testing and medical record...

  • Page 119
    ... testing business provides clinical laboratory testing performed in connection with clinical research trials on new drugs. MedPlus is a developer and integrator of clinical connectivity and data management solutions for healthcare organizations, physicians and clinicians. The Company's diagnostics...

  • Page 120
    ... results. HemoCue is the leading international provider in near patient testing for hemoglobin, with a growing share in professional glucose and microalbumin testing. In addition, HemoCue is currently developing new tests including a near patient test to determine white blood cell counts. New Credit...

  • Page 121
    ... the Company's Secured Receivables Credit Facility. The Company and the Subsidiary Guarantors provide collection services to QDRI. QDRI uses cash collections principally to purchase new receivables from the Company and the Subsidiary Guarantors. The following condensed consolidating financial data...

  • Page 122
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (dollars in thousands unless otherwise indicated) Condensed Consolidating Balance Sheet December 31, 2006 Parent Subsidiary Guarantors NonGuarantor Subsidiaries Eliminations Consolidated Assets ...

  • Page 123
    ... Consolidating Statement of Operations For the Year Ended December 31, 2006 Parent Subsidiary Guarantors NonGuarantor Subsidiaries Eliminations Consolidated Net revenues ...Operating costs and expenses: Cost of services ...Selling, general and administrative...Amortization of intangible assets...

  • Page 124
    ... Consolidating Statement of Operations For the Year Ended December 31, 2004 Parent Subsidiary Guarantors NonGuarantor Subsidiaries Eliminations Consolidated Net revenues ...Operating costs and expenses: Cost of services ...Selling, general and administrative...Amortization of intangible assets...

  • Page 125
    ... of Cash Flows For the Year Ended December 31, 2004 Parent Subsidiary Guarantors NonGuarantor Subsidiaries Eliminations Consolidated Cash flows from operating activities: Net income ...Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and...

  • Page 126
    ... of 2006, the Company recorded $19.4 million of stock-based compensation expense in accordance with SFAS 123R, $21 million in charges as a result of finalizing its plan of integration of LabOne, Inc., $4.1 million in charges related to consolidating operations in California into a new facility...

  • Page 127
    ... of 2006, the Company revised its estimate of the number of the performance share units expected to be earned at the end of the performance periods as a result of revising its estimates of projected performance and reduced stock-based compensation expense associated with performance share units by...

  • Page 128
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES SCHEDULE II - VALUATION ACCOUNTS AND RESERVES (in thousands) Balance at 1-1-06 Provision for Doubtful Accounts Net Deductions and Other (a) Balance at 12-31-06 Year ended December 31, 2006 Doubtful accounts and allowances ... $193,754 Balance at ...

  • Page 129
    QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES RECONCILIATION OF NON-GAAP MEASURES The following is a reconciliation of non-GAAP measures presented in the financial highlights to their most comparable measure under generally accepted accounting principles. 2001 Year Ended December 31, 2000 1999 ...

  • Page 130
    ...฀Report฀on฀ Form฀10-K฀for฀fiscal฀year฀2006฀filed฀ with฀the฀Securities฀and฀Exchange฀ Commission฀certificates฀of฀Quest฀ Diagnostics'฀Chief฀Executive฀Officer฀ and฀Chief฀Financial฀Officer฀certifying฀ the฀quality฀of฀the฀company's฀public...

  • Page 131
    Quest฀Diagnostics฀Incorporated 12 9 0 ฀ WA L L ฀ S T R E E T฀ W E S T LY N D H U R S T,฀ N J ฀ 0 7 0 71 www.questdiagnostics.com MI2117