PDI, Inc.

Annual Report on Form 10-K (continued)

~~Nature of Contracts by Segment~~

Our contracts are nearly all fee for service. They may contain operational benchmarks, such as a minimum amount of activity within a specified amount of time. These contracts may include incentive payments that can be earned if our activities generate results that meet or exceed performance targets. Contracts may be terminated with or without cause by our customers. Certain contracts provide that we may incur specific penalties if we fail to meet stated performance benchmarks. Occasionally, our contracts may require us to meet certain financial covenants, such as maintaining a specified minimum amount of working capital.

~~Sales Services~~

During fiscal 2006, the majority of our revenue was generated by contracts for dedicated sales teams. These contracts are generally for a term of one to two years and may be renewed or extended. The majority of these contracts, however, are terminable by the customer for any reason upon 30 to 90 days’ notice. Certain contracts provide for termination payments if the customer terminates the contract without cause. Typically, however, these penalties do not offset the revenue we could have earned under the contract or the costs we may incur as a result of its termination. The loss or termination of a large contract or the loss of multiple contracts could have a material adverse effect on our business, financial condition or results of operations.

~~Marketing Services~~

Our marketing services contracts generally take the form of either master service agreements with a term of one to three years or contracts specifically related to particular projects with terms typically lasting from two to six months. These contracts are generally terminable by the customer for any reason. Upon termination, the customer is generally responsible for payment for all work completed to date, plus the cost of any nonrefundable commitments made on behalf of the customer. There is significant customer concentration in our Pharmakon business, and the loss or termination of one or more of Pharmakon’s large master service agreements could have a material adverse effect on our business, financial condition or results of operations. Due to the typical size of most of TVG’s and VIM’s contracts, it is unlikely the loss or termination of any individual TVG or VIM contract would have a material adverse effect on our business, financial condition or results of operations.

~~PPG~~

The contracts within the products group were either performance based or fee for service and may have required sales, marketing and distribution of a product. In performance based contracts, we typically provided and financed a portion, if not all, of the commercial activities in support of a brand in return for a percentage of product sales. An important performance parameter was normally the level of sales or prescriptions attained by the product during the period of our marketing or promotional responsibility, and in some cases, for periods after our promotional activities have ended.

CRITICAL ACCOUNTING POLICIES

We prepare our financial statements in accordance with U.S. generally accepted accounting principles (GAAP). The preparation of financial statements and related disclosures in conformity with GAAP requires our management to make judgments, estimates and assumptions at a specific point in time that affect the amounts reported in the consolidated financial statements and disclosed in the accompanying notes. These assumptions and estimates are inherently uncertain. Outlined below are accounting policies, which are important to our financial position and results of operations, and require the most significant judgments on the part of our management in their application. Some of those judgments can be subjective and complex. Management’s estimates are based on historical experience, information from third-party professionals, facts and circumstances available at the time and various other assumptions that are believed to be reasonable. Actual results could differ from those estimates. Additionally, changes in estimates could have a material impact on our consolidated results of operations in any one period. For a summary of all of our significant accounting policies, including the accounting policies discussed below, see Note 1 to our consolidated financial statements.

~~Goodwill, Intangibles and Other Long-Lived Assets~~

~~We account for our purchases of acquired companies in accordance with SFAS No. 141,~~ ~~"Business Combinations"~~ ~~(FAS 141) and account for the related goodwill and other identifiable definite and indefinite-lived acquired intangible assets in accordance with SFAS No. 142,~~ ~~“Goodwill and Other Intangible Assets”~~ ~~(FAS 142). Additionally, we review our lived-assets for recoverability in accordance with SFAS No. 144, “~~~~Accounting for the~~ ~~Impairment or Disposal of Long-Lived Assets”~~ ~~(FAS 144).~~

~~PDI, Inc.~~

~~Annual Report on Form 10-K (continued)~~

The identification and valuation of these intangible assets and the determination of the estimated useful lives at the time of acquisition, as well as the completion of annual impairment tests require significant management judgments and estimates. These estimates are made based on, among others, consultations with an accredited independent valuation consultant, reviews of projected future cash flows and statutory regulations. In accordance with FAS 141, we allocate the cost of the acquired companies to the identifiable tangible and intangible assets and liabilities acquired, with the remaining amount being classified as goodwill. Since the entities we have acquired do not have significant tangible assets, a significant portion of the purchase price has been allocated to intangible assets and goodwill. The use of alternative estimates and assumptions could increase or decrease the estimated fair value of our goodwill and other intangible assets, and potentially result in a different impact to our results of operations. Further, changes in business strategy and/or market conditions may significantly impact these judgments thereby impacting the fair value of these assets, which could result in an impairment of the goodwill and acquired intangible assets.

~~We have elected to do the annual tests for indications of goodwill impairment as of December 31~~of each year. We utilize a discounted cash flow model to determine fair value in the goodwill impairment evaluation. In assessing the recoverability of goodwill, projections regarding estimated future cash flows and other factors are made to determine the fair value of the respective reporting units.

We review the carrying value of long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. If the sum of the expected future undiscounted cash flows is less than the carrying amount of the asset, an impairment loss is recognized by reducing the recorded value of the asset to its fair value.

While we use available information to prepare our estimates and to perform impairment evaluations, actual results could differ significantly from these estimates or related projections, resulting in impairment and losses related to recorded goodwill or long-lived asset balances.

Revenue ~~Recognition~~ and Associated Costs

Revenue and associated costs under pharmaceutical detailing contracts are generally based on the number of physician details made or the number of sales representatives utilized. With respect to risk-based contracts, all or a portion of revenues earned are based on contractually defined percentages of either product revenues or the market value of prescriptions written and filled in a given period. These contracts are generally for terms of one to two years and may be renewed or extended. The majority of these contracts, however, are terminable by the customer for any reason upon 30 to 90 days’ notice. Certain contracts provide for termination payments if the customer terminates usthe agreement without cause. Typically, however, these penalties do not offset the revenue we could have earned under the contract or the costs we may incur as a result of its termination.

The loss or termination of a large pharmaceutical detailing contract or the loss of multiple contracts could have a material adverse effect on our business, financial condition or results of operations. Historically, we have derived a significant portion of its service revenue from a limited number of customers. Concentration of business in the pharmaceutical services industry is common and the industry continues to consolidate. As a result, we are likely to continue to experience significant customer concentration in future periods. For the years ended December 31, 2008 and 2007, our three largest customers, who each individually represented 10% or more of our service revenue, together accounted for approximately 52.5% and 37.9% of its service revenue, respectively. For the year ended December 31, 2006 our two largest customers, who each individually represented 10% or more of our service revenue, together accounted for approximately 46.8% of our service revenue. See Note 14 to ~~the~~our consolidated financial statements.

Revenue and associated costs under marketing service contracts are generally based on a single deliverable such as a promotional program, accredited continuing medical education seminar or marketing research/advisory program. The contracts are generally terminable by the customer for any reason. Upon termination, the customer is generally responsible for payment for all work completed to date, plus the cost of any nonrefundable commitments made on behalf of the customer. There is significant customer concentration in our Pharmakon business, and the loss or termination of one or more of Pharmakon’s large master service agreements ~~would~~could have a material adverse effect on our business, financial condition or results of operations. Due to the typical size of most contracts of TVG and VIM, it is unlikely the loss or termination of any individual TVG or VIM ~~contract.~~contract would have a material adverse effect on our business, financial condition or results of operations.

Service revenue is recognized on product detailing programs and certain marketing, promotional and medical education contracts as services are performed and the right to receive payment for the services is assured. Many of the product detailing contracts allow for additional periodic incentive fees to be earned if certain performance benchmarks have been attained. Revenue earned from incentive fees is recognized in the period earned and when we are reasonably assured that payment will be made. Under performance based contracts, revenue is recognized when the performance based parameters are achieved. Many contracts also stipulate penalties if agreed upon performance benchmarks have not been met. Revenue is recognized net of any potential penalties until the performance criteria relating to the penalties have been achieved. Commissions based revenue is recognized when performance is completed. Revenue from recruiting and hiring contracts is recognized at the time the candidate begins full-time employment less a provision for sales allowances based on contractual commitments and historical experience. Revenue and associated costs from marketing research contracts are ~~recognize~~recognized upon completion of the contract. These contracts are generally short-term in nature typically lasting two to six months.

2322

PDI, Inc.

Annual Report on Form 10-K (continued)

Under our promotional program included in the product commercialization segment, we recognize revenue quarterly based on a specified formula set forth in our product commercialization agreement with Novartis related to product sales for the quarter. We will not receive any compensation during any quarter in which product sales are below certain thresholds established for that quarter as set forth in the agreement. Revenues recognized (if any) under this agreement will be directly impacted by prescription data provided by a third party vendor and other information provided by Novartis. Additionally, we must perform a minimum number of sales calls to designated physicians each year, and the failure to satisfy this requirement could result in penalties being imposed on PDI or provide the customer with the ability to terminate the agreement.

Cost of services consist primarily of the costs associated with executing product detailing programs, performance based contracts or other sales and marketing services identified in the contract. Cost of services include personnel costs and other costs associated with executing a product detailing or other marketing or promotional program, as well as the initial direct costs associated with staffing a product detailing program. Such costs include, but are not limited to, facility rental fees, honoraria and travel expenses, sample expenses and other promotional expenses.

Personnel costs, which constitute the largest portion of cost of services, include all labor related costs, such as salaries, bonuses, fringe benefits and payroll taxes for the sales representatives, ~~and~~ sales managers and professional staff that are directly responsible for executing a particular program. Initial direct program costs are those costs associated with initiating a product detailing program, such as recruiting, hiring, and training the sales representatives who staff a particular product detailing program. All personnel costs and initial direct program costs, other than training costs, are expensed as incurred for service offerings.

Reimbursable out-of-pocket expenses include those relating to travel and other similar costs, for which ~~we are~~the Company is reimbursed at cost by ~~our~~its customers. ~~In accordance with the requirements of Emerging Issues Task Force No. 01-14,~~ ~~“Income Statement Characterization of~~ Reimbursements ~~Received for Out-of-Pocket Expenses Incurred”~~ ~~(EITF 01-14), reimbursements~~ received for out-of-pocket expenses incurred are characterized as revenue and an identical amount is included as cost of goods and services in the consolidated statements of operations.

Training costs include the costs of training the sales representatives and managers on a particular product detailing program so that they are qualified to properly perform the services specified in the related contract. For ~~all~~the majority of the Company’s contracts, training costs are reimbursable out-of-pocket expenses. For contracts where the Company is responsible for training costs, these costs are deferred and amortized on a straight-line basis over the shorter of the life of the contract to which they relate or 12 months. ~~When we receive a specific contract payment from a customer upon commencement of a product detailing program expressly~~

Contract Loss Provisions

Provisions for losses to ~~compensate us for recruiting, hiring and training services associated with staffing that program, such payment is deferred and~~be incurred on contracts are recognized ~~as revenue~~in full in the ~~same~~ period in which it is determined that ~~the recruiting and hiring expenses are incurred and amortization~~a loss will result from performance of the ~~deferred training is expensed. When we do not receive~~contractual arrangement. Performance based contracts have the potential for higher returns but also an increased risk of contract loss as compared to the traditional fee for service contracts. We recognized a ~~specific~~ contract ~~payment for training, all revenue is deferred and recognized over the life of the contract.~~loss related to our product commercialization agreement in 2008. See Note 10 to our consolidated financial statements.

Product revenue was recognized when products are shipped and title is transferred to the customer. Product revenue for the year ended December 31, 2004 was negative, primarily from the adjustments to the Ceftin sales returns reserve, as discussed in Note 15, net of the sale of the Xylos Corporation (Xylos) wound care products.

~~Cost of goods sold includes all expenses for product distribution costs, acquisition and manufacturing costs of the product sold.~~

~~Loans and Investments in Privately Held Entities~~

From time to time, we make investments in and/or loans to privately-held companies. We consider whether the fair values of any investments in privately held entities have declined below their carrying value whenever adverse events or changes in circumstances indicate that recorded values may not be recoverable. If we considered any such decline to be other than temporary (based on various factors, including historical financial results, and the overall health of the investee’s industry), a write-down would be recorded to estimated fair value. Additionally, on a quarterly basis, we review outstanding loans receivable to determine if a provision for doubtful accounts is necessary. Our review includes discussions with senior management of the investee, and evaluations of, among other things, the investee’s progress against its business plan, its product development activities and customer base, industry market conditions, historical and projected financial performance, expected cash needs and recent funding events. Our assessments of value are highly subjective given that these companies may be at an early stage of development and rely regularly on their investors for cash infusions.

Allowance for Doubtful Accounts

We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. We review a customer’s credit history before extending credit. We establish an allowance for doubtful accounts based on the aging of a customer’s accounts receivable or when we become aware of a customer’s inability to meet its financial obligations (e.g., a bankruptcy filing). We operate almost exclusively in the pharmaceutical industry and to a great extent our revenue is dependent on a limited number of large pharmaceutical companies. We also partner with customers in the emerging pharmaceutical sector, some of whom may have limited financial resources. A general downturn in the pharmaceutical industry or a material adverse event to one or more of our emerging pharmaceutical customers could result in higher than expected customer defaults requiring additional allowances.

2423

PDI, Inc.

Annual Report on Form 10-K (continued)

~~Self-Insurance Accruals~~Goodwill, Intangibles and Other Long-Lived Assets

We are self-insured for certain losses for claims filed and claims incurred but not reported relating to workers’ compensation and automobile-related losses for our company-leased cars. Our liability is estimated on an actuarial undiscounted basis using individual case-based valuations and statistical analysis supplied by our insurance brokers and insurers and is based upon judgment and historical experience; however,allocate the ~~final~~ cost of ~~many~~acquired companies to the identifiable tangible and intangible assets and liabilities acquired, with the remaining amount being classified as goodwill. Since the entities we have acquired do not have significant tangible assets, a significant portion of the purchase price has been allocated to intangible assets and goodwill. The identification and valuation of these ~~claims~~intangible assets and the determination of the estimated useful lives at the time of acquisition, as well as the completion of annual impairment tests require significant management judgments and estimates. These estimates are made based on, among other factors, consultations with an accredited independent valuation consultant, reviews of projected future operating results and business plans, economic projections, anticipated future cash flows and the cost of capital. The use of alternative estimates and assumptions could increase or decrease the estimated fair value of goodwill and other intangible assets, and potentially result in a different impact to our results of operations. Further, changes in business strategy and/or market conditions may significantly impact these judgments thereby impacting the fair value of these assets, which could result in an impairment of the goodwill and acquired intangible assets.

We test goodwill for impairment at least annually and whenever events or circumstances change that indicate impairment may have occurred. These events or circumstances could include a significant long-term adverse change in the business climate, poor indicators of operating performance or a sale or disposition of a significant portion of a reporting unit. We test goodwill for impairment at the reporting unit level, which is one level below its operating segments. Goodwill has been assigned to the reporting units to which the value of the goodwill relates. We currently have six reporting units; however, only one reporting unit, Pharmakon, includes goodwill. Goodwill is tested by estimating the fair value of the reporting unit using a discounted cash flow model. The estimated fair value of the reporting unit is then compared with the carrying value including goodwill, to determine if any impairment exists. In assessing the recoverability of goodwill, projections regarding estimated future cash flows and other factors are made to determine the fair value of the respective reporting units. The key estimates and factors used in the discounted cash flow valuation include revenue growth rates and profit margins based on internal forecasts, terminal value and the weighted-average cost of capital used to discount future cash flows.

We review the recoverability of long-lived assets and finite-lived intangible assets whenever events or changes in circumstances indicate that the carrying value of such assets may not be ~~known~~recoverable. If the sum of the expected future undiscounted cash flows is less than the carrying amount of the asset, an impairment loss is recognized by reducing the recorded value of the asset to its fair value measured by future discounted cash flows. This analysis requires estimates of the amount and timing of projected cash flows and, where applicable, judgments associated with, among other factors, the appropriate discount rate. Such estimates are critical in determining whether any impairment charge should be recorded and the amount of such charge if an impairment loss is deemed to be necessary. In addition, future events impacting cash flows for ~~five years~~existing assets could render a write-down or longer. We maintain stop-loss coverage with third-party insurers to limit our total exposure on these programs. Management reviews these accruals on a quarterly basis. At December 31, 2006 and 2005, self-insurance accruals totaled $2.5 million and $3.8 million, respectively.

~~Contingencies~~write-off necessary that previously required no such write-down or write-off.

Contingencies

In the normal course of business, we are subject to various contingencies. Contingencies are recorded in the consolidated financial statements when it is probable that a liability will be incurred and the amount of the loss can be reasonably estimated, or otherwise ~~disclosed, in accordance with SFAS No. 5, “~~~~Accounting for Contingencies”~~ ~~(SFAS 5)~~.disclosed. We are currently involved in certain legal proceedings and, as required, we have accrued our estimate of the probable costs for the resolution of these claims. These estimates are developed in consultation with outside counsel and are based upon an analysis of potential results, assuming a combination of litigation and settlement strategies. Predicting the outcome of claims and litigation, and estimating related costs and exposures, involves substantial uncertainties that could cause actual costs to vary materially from estimates.

Income Taxes

~~In accordance with the provisions of SFAS No. 109, “~~~~Accounting for Income Taxes,”~~ weWe account for income taxes using the asset and liability method. This method requires recognition of deferred tax assets and liabilities for expected future tax consequences of temporary differences that currently exist between tax bases and financial reporting bases of our assets and liabilities based on enacted tax laws and rates. A valuation allowance is established, when necessary, to reduce the deferred income tax assets when it is more likely than not that all or a portion of a deferred tax asset will not be realized.

PDI, Inc.

Annual Report on Form 10-K (continued)

We operate in multiple tax jurisdictions and provide taxes in each jurisdiction where we conduct business and are subject to taxation. The breadth of our operations and the complexity of the various tax laws require assessments of uncertainties and judgments in estimating the ultimate taxes we will pay. The final taxes paid are dependent upon many factors, including negotiations with taxing authorities in various jurisdictions, outcomes of tax litigation and resolution of proposed assessments arising from federal and state audits. We have established estimated liabilities for federal and state income tax exposures that ~~arise and meet the criteria for accrual under SFAS 5.~~arise. These accruals represent accounting estimates that are subject to inherent uncertainties associated with the tax audit process. We adjust these accruals as facts and circumstances change, such as the progress of a tax audit. We believe that any potential audit adjustments will not have a material adverse effect on our financial condition or liquidity. However, any adjustments made may be material to our consolidated results of operations for a reporting period.

Significant judgment is also required in evaluating the need for and magnitude of appropriate valuation allowances against deferred tax assets. ~~Deferred tax assets are regularly reviewed for recoverability.~~ We currently have significant deferred tax assets resulting from net operating loss carryforwards and deductible temporary differences. The realization of these assets is dependent on generating future taxable income. AWe perform an analysis quarterly to determine whether the expected future income will more likely than not be sufficient to realize the deferred tax assets. Our recent operating results and projections of future income weighed heavily in our overall assessment. The minimum amount of future taxable income that would have to be generated to realize our net deferred tax assets is approximately $30 million and the existing levels of pretax earnings for financial reporting purposes are not sufficient to generate this amount of future taxable income. As a result, we established a full federal and state valuation allowance ~~is required when~~for the net deferred tax assets at December 31, 2008 and 2007 because we determined that it iswas more likely than not that ~~all or a portion of a deferred tax asset will~~these assets would not be realized.

Self-Insurance Accruals

Prior to October 1, 2008, we were self-insured for certain losses for claims filed and claims incurred but not reported relating to workers’ compensation and automobile-related liabilities for Company-leased cars. Beginning October 1, 2008, we are fully-insured through an outside carrier for these losses. Our liability for claims filed and claims incurred but not reported prior to October 1, 2008 is estimated on an actuarial undiscounted basis supplied by its insurance brokers and insurers using individual case-based valuations and statistical analysis and is based upon judgment and historical experience, however, the final cost of many of these claims may not be known for five years or longer. We also are self-insured for benefits paid under employee healthcare programs. Our liability for healthcare claims is estimated using an underwriting determination which is based on current year’s average lag days between when a claim is incurred to when it is paid. We maintain stop-loss coverage with third-party insurers to limit our total exposure on all of these programs. Periodically, we evaluate the level of insurance coverage and adjust insurance levels based on risk tolerance and premium expense. Management reviews our self-insurance accruals on a quarterly basis. Actual results can vary from these estimates, which results in adjustments in the period of the change in estimate.

Stock Compensation Costs

The estimated compensation cost associated with the granting of stock-based awards is based on the grant date fair value of the stock award on the date of grant. We recognize the compensation cost, net of estimated forfeitures, over the vesting term. Forfeitures are initially estimated based on historical information and subsequently updated over the life of the awards to ultimately reflect actual forfeitures. As a result, changes in forfeiture activity can influence the amount of stock compensation cost recognized from period to period.

We primarily use the Black-Scholes option pricing model to determine the fair value of stock options and stock-based stock appreciation rights (SARs). The determination of the fair value of stock-based payment awards is made on the date of grant and is affected by our stock price as well as assumptions made regarding a number of complex and subjective variables. These assumptions including our expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, the risk-free interest rate, and expected dividend yield. Our assumptions are detailed in Note 13 to our consolidated financial statements.

Changes in the valuation assumptions could result in a significant change to the cost of an individual award. However, the total cost of an award is also a function of the number of awards granted, and as result, we have the ability to manage the cost and value of our equity awards by adjusting the number of awards granted.

25
PDI, Inc.
Annual Report on Form 10-K (continued)

Restructuring, Facilities Realignment and Related Costs

From time to time, in order to consolidate operations, downsize and improve operating efficiencies, we recognize restructuring or facilities realignment charges. The recognition of these charges requires estimates and judgments regarding employee termination benefits, lease termination costs and other exit costs to be incurred when these actions take place. Actual results can vary from these estimates, which results in adjustments in the period of the change in estimate.

~~PDI, Inc.~~

~~Annual Report on Form 10-K (continued)~~

~~CONSOLIDATED RESULTS OF OPERATIONS~~

CONSOLIDATED RESULTS OF OPERATIONS

The following table sets forth for the periods indicated below selected statement of continuing operations data as a percentage of revenue. The trends illustrated in this table may not be indicative of future operating results.

	Years Ended December 31,
Continuing operations data	2008			2007			2006			2005			2004
Revenues:
Service, net		100.0	%		100.0	%		100.0	%		100.0	%		100.4	%
Product, net		-			-			-			-			(0.4	%)
Total revenues, net		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%
Cost of goods and services:
Cost of services		96.0	%		73.0	%		76.7	%		82.8	%		73.1	%
Cost of goods sold		-			-			-			-			0.1	%
Total cost of goods and services		96.0	%		73.0	%		76.7	%		82.8	%		73.2	%

Gross profit		4.0	%		27.0	%		23.3	%		17.2	%		26.8	%

Operating expenses:
Compensation expense		20.3	%		20.9	%		11.7	%		8.5	%		8.9	%
Other selling, general and administrative		14.7	%		17.1	%		9.5	%		9.6	%		7.2	%
Asset impairment		-			-			-			2.0	%		-
Executive severance		1.1	%		-			0.2	%		1.9	%		0.1	%
Legal and related costs, net		0.2	%		0.3	%		(1.4	%)		0.6	%		0.7	%
Facilities realignment		0.1	%		0.9	%		0.8	%		0.8	%		-
Total operating expenses		36.4	%		39.2	%		20.9	%		23.3	%		16.9	%

Operating (loss) income		(32.4	%)		(12.2	%)		2.5	%		(6.2	%)		9.9	%
Gain (loss) on investments		-			-			-			1.5	%		(0.3	%)
Interest income, net		2.5	%		5.2	%		2.0	%		1.0	%		0.5	%
(Loss) income from continuing operations
before income taxes		(29.8	%)		(7.0	%)		4.5	%		(3.7	%)		10.1	%
Income tax expense (benefit)		0.8	%		1.5	%		(0.3	%)		0.1	%		4.2	%
(Loss) income from continuing operations		(30.6	%)		(8.5	%)		4.8	%		(3.7	%)		5.9	%

Years Ended December 31,
Continuing operations data
2006 2005 2004 2003 2002
Revenues:
Service, net 100.0 % 100.0 % 100.4 % 103.5 % 97.8 %
Product, net - - (0.4 %) (3.5 %) 2.2 %
Total revenues, net 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
Cost of goods and services:
Cost of services 76.7 % 82.8 % 73.1 % 73.9 % 91.5 %
Cost of goods sold - - 0.1 % 0.4 % -
Total cost of goods and services 76.7 % 82.8 % 73.2 % 74.3 % 91.5 %

Gross profit 23.3 % 17.2 % 26.8 % 25.7 % 8.5 %

Operating expenses:
Compensation expense 11.7 % 8.5 % 8.9 % 10.6 % 10.4 %
Other selling, general and administrative 9.5 % 9.6 % 7.2 % 8.6 % 13.3 %
Asset impairment - 2.0 % - - -
Executive severance 0.2 % 1.9 % 0.1 % - -
Legal and related costs, net (1.4 %) 0.6 % 0.7 % 0.7 % 1.1 %
Facilities realignment 0.8 % 0.8 % - - -
Total operating expenses 20.9 % 23.3 % 16.9 % 19.9 % 24.8 %

Operating income (loss) 2.5 % (6.2 %) 9.9 % 5.8 % (16.3 %)
Gain (loss) on investments - 1.5 % (0.3 %) - -
Interest income, net 2.0 % 1.0 % 0.5 % 0.3 % 0.7 %
Income (loss) from continuing operations
before income taxes 4.5 % (3.7 %) 10.1 % 6.1 % (15.7 %)
Income tax (benefit) expense (0.3 %) 0.1 % 4.2 % 2.5 % (5.6 %)
Income (loss) from continuing operations 4.8 % (3.7 %) 5.9 % 3.6 % (10.0 %)

~~Comparison of 2006 and 2005~~

Revenue (in thousands)

Change Change
2006 2005 ($) (%)
Sales services $ 202,748 $ 270,420 $ (67,672 ) (25.0 %)
Marketing services 36,494 34,785 1,709 4.9 %
PPG - - - -
Total

$
239,242

$
305,205

$
(65,963
)

(21.6
%)

Total revenues for 2006 were $239.2 million, a decrease of $66.0 million or 21.6% from revenues of $305.2 million for 2005. The decrease was primarily related to the termination of the AstraZeneca sales force effective April 30, 2006 which consisted of approximately 800 representatives. The Astra Zeneca termination resulted in a decrease in revenue of approximately $63.8 million.

PDI, Inc.

Annual Report on Form 10-K (continued)

Comparison of 2008 and 2007

Revenue (in thousands)

	Year Ended
	December 31,
	2008			2007		Change ($)			Change (%)
Sales services	$	89,656		$	86,766	$	2,890			3.3	%
Marketing services		23,872			30,365		(6,493	)		(21.4	%)
Product commercialization		(1,000	)		-		(1,000	)		-
Total	$	112,528		$	117,131	$	(4,603	)		(3.9	%)

The decrease in total revenues of $4.6 million, or 3.9%, was primarily related to a decrease in revenue in the marketing services segment. The sales services segment ~~generated $202.7~~revenue increased by $2.9 million in ~~revenue for 2006, a decrease of $67.7 million~~2008 compared to ~~2005. This decrease is~~2007 primarily ~~related~~due to ~~the AstraZeneca~~an increase in revenue within our Select Access business unit of 32.6% due to new and expanded sales force ~~termination mentioned above.~~engagements during 2008.

~~On September 26, 2006, we announced that we had received verbal notification from GSK of its intention not to renew its contract sales engagement with us~~Revenue for ~~2007. The contract, which represented approximately $65 million to $70 million in revenue on an annual basis, expired as scheduled on December 31, 2006.~~

On October 25, 2006, we also announced that we had received notification from sanofi-aventis of its intention to terminate its contract sales engagement with us effective December 1, 2006. The contract, which represented approximately $18 million to $20 million in revenue on an annual basis, was previously scheduled to expire on December 31, 2006.

~~The~~the marketing services segment ~~generated $36.5~~decreased by approximately 21.4% as revenue at TVG and Pharmakon was lower due in part to a decrease in new projects as well as the curtailment or postponement of certain existing projects within these business units. Pharmakon revenue decreased by 28.5% as its two major clients postponed many of their projects with Pharmakon due to budget constraints.

The product commercialization segment recorded negative revenue of $1.0 million. This pertained to a non-refundable upfront payment we made to Novartis as per the terms of our promotion agreement, which has been recognized as negative revenue pursuant to Emerging Issues Task Force (EITF) Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Product." This segment had no revenue in 2007.

Cost of services (in thousands)

Year Ended	Sales		% of			Marketing			% of			Product		% of				% of
December 31,	services		sales			services			sales			commercialization		sales		Total		sales
2008	$	71,266		79.5	%	$	14,121			59.2	%	$	22,628		-	$	108,015		96.0	%
2007		68,554		79.0	%		16,962			55.9	%		-		-		85,516		73.0	%
Change ($)	$	2,712				$	(2,841	)				$	22,628			$	22,499

The increase of approximately $22.5 million in revenue in 2006, an increase of $1.7 million or 4.9% from revenue of $34.8 million in 2005. This is attributable to a $4.7 million increase in Pharmakon revenue, partially offset by declines in revenue at both the TVG and VIM units.

~~The PPG segment did not have any revenue in 2006.~~

Cost of services (in thousands)

Change Change
2006 2005 ($) (%)
Sales services $ 163,735 $ 231,768 $ (68,033 ) (29.4 %)
Marketing services 19,663 21,035 (1,372 ) (6.5 %)
PPG - - - -
Total

$
183,398

$
252,803

$
(69,405
)

(27.5
%)

~~Cost~~costs of services was primarily attributed to the $22.6 million associated with our promotional program within the product commercialization segment for ~~2006 was $183.4~~the year ended December 31, 2008. Included within that amount is $10.3 million associated with an accrued contract loss, which ~~was $69.4 million or 27.5% less than cost of services of $252.8 million~~represents the future loss expected to be incurred by us to fulfill our contractual obligations under our existing product commercialization agreement until February 1, 2010, the early termination date for ~~2005.~~this contract. See Note 10 for more details. This segment had no activity in 2007. The sales services segment had ~~a reduction~~an increase of ~~$68.0~~$2.7 million in cost of services, which is primarily attributable to the ~~reduction~~increase in ~~the size of the sales force including the AstraZeneca termination mentioned above.~~revenue at Select Access. Cost of services within the marketing services segment decreased approximately ~~$1.4~~$2.8 million, or ~~6.5%. The PPG segment had no costs~~16.7% primarily due to the decrease in new projects and the curtailment or postponement of ~~services expense in either 2006 or 2005.~~certain existing projects at Pharmakon.

Gross profit (in thousands)

Year Ended	Sales		% of			Marketing			% of			Product			% of					% of
December 31,	services		sales			services			sales			commercialization			sales		Total			sales
2008	$	18,390		20.5	%	$	9,751			40.8	%	$	(23,628	)		-	$	4,513			4.0	%
2007		18,212		21.0	%		13,403			44.1	%		-			-		31,615			27.0	%
Change ($)	$	178				$	(3,652	)				$	(23,628	)			$	(27,102	)

Gross profit (in thousands)

% of % of Change Change
2006 revenue 2005 revenue ($) (%)
Sales services $ 39,013 19.2 % $ 38,652 14.3 % $ (361 ) 0.9 %
Marketing services 16,831 46.1 % 13,750 39.5 % (3,081 ) 22.4 %
PPG - - - - - -
Total

$
55,844

23.3
%
$
52,402

17.2
%
$
(3,442
)

6.6
%

~~During 2006 the gross profit percentage was 23.3% compared to 17.2% in the comparable prior year period. The primary reasons for the increase were as follows:~~

·	~~an increase in incentive revenue earned - $3.2 million greater in 2006 than 2005;~~

·	~~the higher margin businesses within marketing services were a greater portion of consolidated revenue than they were in the prior period (15.3% in 2006 vs. 11.4% in 2005)~~

The gross profit percentage from our two largest customers was higher in 2006 than in 2005. The primary reasons for this improvement were: 1) greater incentive revenue earned; 2) fewer net contractual penalties incurred for stated performance benchmarks; and 3) more stable service costs. In 2005, the sharp increase in fuel and travel costs was greater than the rates specified in our contracts which lowered our gross profit percentages; whereas in 2006 there was not a large disparity in fuel and travel costs when compared to our contractual reimbursements.

The sales services segment had gross profit of $39.0 million in 2006, with a gross profit percentage of 19.2%. During 2005 this segment had gross profit of $38.7 million and a gross profit percentage of 14.3%. The increase in gross profit percentage can be attributed to the reasons listed above.

PDI, Inc.

Annual Report on Form 10-K (continued)

Gross profit in the sales services segment increased slightly on higher revenue for the year ended 2008 as compared to year ended 2007. In 2007, we recognized $0.6 million in revenue associated with a contract with a former emerging pharmaceutical client for services performed in 2006. Because of the uncertainty surrounding collections, we recognized revenue from this client on a cash basis and all costs associated with this contract were recognized in 2006.

The ~~marketing services segment earned gross profit of $16.8 million and $13.8 million for 2006 and 2005, respectively. The increase~~decrease in gross profit attributable to the marketing services segment ~~is due to~~was commensurate with the ~~increase~~decrease in revenue discussed above as total gross profit ~~associated with Pharmakon which had greater revenue in 2006.~~decreased at all three business units. The gross profit percentage ~~increased~~decreased to ~~46.1%~~40.8% from ~~39.5%~~44.1% in the comparable prior year period primarily due ~~primarily~~ to ~~the increase~~a decrease in ~~gross profit at Pharmakon as well as an increase in gross profit~~margin percentage at ~~VIM.~~TVG attributed to a change in product mix.

The ~~PPG segment had no~~product commercialization segment’s negative gross profit ~~in 2006 or 2005.~~was attributable to our sales force, promotional costs and contract loss accrual associated with this program plus the $1 million non-refundable upfront payment we made to Novartis as per the terms of our promotion agreement.

~~(Note:~~ (Note: Compensation and other Selling, General and Administrative (other SG&A) expense amounts for each segment contain allocated corporate overhead.)

Compensation expense (in thousands)

% of % of Change Change
2006 revenue 2005 revenue ($) (%)
Sales services $ 19,410 9.6 % $ 18,397 6.8 % $ 1,013 5.5 %
Marketing services 8,665 23.7 % 7,499 21.6 % 1,166 15.5 %
PPG - - 1 - (1 ) (100.0 %)
Total

$
28,075

11.7
%
$
25,897

8.5
%
$
2,178

8.4
%

Compensation expense for 2006 was $28.1 million, an increase of $2.2 million or 8.4% compared to the $25.9 million for the comparable prior year period. This increase can be primarily attributed to an increase in incentive compensation accruals in 2006 due to the improved performance of the company as compared to the incentive compensation accrued in 2005. Increases in incentive accruals were partially offset by decreases in salaries of approximately $2.9 million and the absence of a national managers meeting which cost approximately $800,000 in 2005. As a percentage of total revenue, compensation expense increased to 11.7% for 2006 from 8.5% in 2005 primarily due to the decrease in revenue.

~~Compensation expense for the sales services segment was $19.4 million, an increase of approximately $1.0 million or 5.5%.~~

Compensation expense for the marketing services segment was $8.7 million in 2006, a 15.5% increase over $7.5 million in the comparable prior year period. This increase is primarily due to the increased amount of incentives accrued within the segment in 2006.

Compensation expense (in thousands)

Year Ended	Sales			% of			Marketing			% of			Product		% of					% of
December 31,	services			sales			services			sales			commercialization		sales		Total			sales
2008	$	13,176			14.7	%	$	8,361			35.0	%	$	1,301		-	$	22,838			20.3	%
2007		15,973			18.4	%		8,543			28.1	%		-		-		24,516			20.9	%
Change ($)	$	(2,797	)				$	(182	)				$	1,301			$	(1,678	)

The ~~PPG segment did not have any~~decrease in compensation expense was primarily a result of a reduction in ~~2006 or 2005.~~incentive compensation accrued for 2008 due to our financial performance relative to the financial targets established for 2008 under our incentive compensation plan. The decrease for both sales services and marketing services segments in 2008 can be attributed to the reason discussed above.

The product commercialization segment had compensation costs of $1.3 million. This was primarily attributable to employee and sales services support costs. There was no compensation expense attributable to this segment in 2007.

Other SG&A (in thousands)

% of % of Change Change
2006 revenue 2005 revenue ($) (%)
Sales services $ 18,109 8.9 % $ 23,607 8.7 % $ (5,498 ) (23.3 %)
Marketing services 4,501 12.3 % 5,775 16.6 % (1,274 ) (22.1 %)
PPG - - 10 - (10 ) (100.0 %)
Total

$
22,610

9.5
%
$
29,392

9.6
%
$
(6,782
)

(23.1
%)

Other selling, general and administrative expenses (in thousands)

Year Ended	Sales			% of			Marketing			% of			Product		% of					% of
December 31,	services			sales			services			sales			commercialization		sales		Total			sales
2008	$	11,549			12.9	%	$	3,857			16.2	%	$	1,126		-	$	16,532			14.7	%
2007		15,033			17.3	%		4,990			16.4	%		-		-		20,023			17.1	%
Change ($)	$	(3,484	)				$	(1,133	)				$	1,126			$	(3,491	)

Total other SG&A expenses ~~were $22.6 million in 2006, versus $29.4 million in 2005, a decrease of $6.8 million or 23.1%. This decrease is mainly attributable~~decreased primarily due to the following: 1) a decrease in ~~facility costs~~depreciation expense of approximately ~~$1.2 million;~~$0.7 million primarily due to the conversion to a new financial reporting system that was at a much lower capitalized cost than our previous system; 2) a decrease in net franchise taxes of approximately $1.0 million primarily due to the settlement of one state’s assessment for less than the $0.6 million that had been accrued in 2007; 3) a reduction in ~~bad debt expense~~executive consulting of ~~$1.8 million, $755,000 of which was recorded in 2005 that pertained to the TMX loan (see Note 6 to the consolidated financial statements for further information);~~approximately $1.0 million; and 4) a reduction in ~~miscellaneous office operations~~business insurance expense of ~~$1.9~~approximately $0.4 million. ~~Some of the main categories within office operations expense are business insurance, software licenses and maintenance, and telephone and internet charges.~~ As a percentage of total revenue, other SG&A expenses decreased to ~~9.5%~~14.7% in 2008 from ~~9.6%~~17.1% in ~~2005.~~2007.

Amortization expense related to continuing operations for the years ended December 31, 2008, 2007 and 2006 ~~and 2005~~was approximately $1.3 million for each of the three years,

respectively. Estimated amortization expense for the next five years is as follows:

As of December 31, 2006 As of December 31, 2005
Carrying Accumulated Carrying Accumulated
Amount Amortization Net Amount Amortization Net
Covenant not to compete $ 140 $ 65 $ 75 $ 1,634 $ 1,491 $ 143
Customer relationships 16,300 2,536 13,764 17,371 2,491 14,880
Corporate tradename 2,500 389 2,111 2,652 370 2,282
Total $ 18,940 $ 2,990 $ 15,950 $ 21,657 $ 4,352 $ 17,305

~~F-17~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

2009		2010		2011		2012		2013
$ 1,272		$ 1,253		$ 1,253		$ 1,253		$ 1,253

Loans and Investments in Privately-Held Entities

In October 2002, the Company acquired $1.0 million of preferred stock of Xylos Corporation (Xylos). In addition, the Company provided Xylos with short-term loans totaling $500,000 in the first half of 2004. The Company determined its $1.0 million investment and $500,000 short-term loan to Xylos were impaired as of December 31, 2004. The Company wrote its $1.0 million investment down to zero and established an allowance for credit losses against the $500,000 short-term loan. Xylos made loan payments totaling $150,000, $250,000, and $100,000 in 2007, 2006 and 2005, ~~respectively.~~respectively and the loan has been repaid in full. These payments were recorded as credits to bad debt expense in the periods in which they were received.

In May 2004, the Company entered into a loan agreement with TMX Interactive, Inc. (TMX), a provider of sales force effectiveness technology. Pursuant to the loan agreement, the Company provided TMX with a term loan facility of $500,000 and a convertible loan facility of $500,000, both of which were due ~~to be repaid~~ on November 26, 2005. In 2005, due to TMX’s continued losses and uncertainty regarding its future prospects, the Company established an allowance for credit losses against the TMX loans. ~~During 2006 and~~From 2005 to 2007, TMX provided services to ~~PDI~~the Company valued at ~~$246,000~~$500,000 and ~~$245,000 respectively. The receipt of these services was used as payment towards~~ the ~~loan and the balance of the loan receivable at December 31, 2006 is $509,000. The~~ receipt of services in lieu of cash payment was recorded as a credit to bad debt expense and a reduction of the receivable in ~~2006 and credit to~~the respective periods. At December 31, 2008, the loan receivable ~~in 2005.~~

~~In June 2005, the Company sold its approximately 12% ownership share in In2Focus Sales Development Services Limited, (In2Focus),~~has a ~~United Kingdom contract sales company. The Company’s original investment~~balance of ~~$1.9 million had been written down to zero in the fourth quarter of 2001. The Company received approximately $4.4 million, net of deal costs,~~$500,000, which ~~was included in gain on investments in 2005.~~is fully reserved.

Retirement Plans

The Company offers an employee 401(k) saving plan. Under the PDI, Inc. 401(k) Plan, employees may contribute up to 25% of their pre-tax compensation. Effective January 1, 2004, the Company makes a safe harbor non-elective contribution in an amount equal to 100% of the participant’s base salary contributed up to 3% plus 50% of the participant’s base salary contributed exceeding 3% but not more than 5%. Prior to January 1, 2004, the Company made cash contributions in an amount equal to 100% of the participant’s base salary contributed up to 2%. Participants are not allowed to invest any of their 401(k) funds in the Company’s common stock. The Company’s total contribution expense related to the Company’s 401(k) plans for ~~2006, 2005~~2008, 2007 and ~~2004~~2006 was approximately ~~$1.3~~$0.8 million, ~~$2.1~~$0.7 million, and ~~$1.6~~$1.3 million, respectively.

Deferred Compensation Arrangements

Beginning in 2000, the Company established a deferred compensation arrangement whereby a portion of certain employees’ salaries is withheld and placed in a ~~Rabbi Trust.~~rabbi trust. The plan permits the ~~employees~~participants to diversify these assets through a variety of investment options. Members of the Company’s Board of Directors (Board) also have the opportunity to defer their compensation through this arrangement. The Company ~~adopted the provisions of EITF No. 97-14 "~~~~Accounting for Deferred Compensation Arrangement Where Amounts are Earned and Held in a Rabbi Trust and Invested~~~~” which requires the Company to consolidate into its financial statements~~includes the net assets of the ~~trust.~~trust in its financial statements. The deferred compensation obligation has been classified as a current liability and the net assets in the trust are classified as available-for-sale securities and are included in short-term investments.

F-16

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

8.	Long-term Liabilities

Long-term liabilities consisted of the following as of December 31, 2008 and 2007:

	December 31,
	2008		2007
Deferred tax	$	1,443	$	1,113
Rent payable		2,736		2,959
Accrued income taxes		6,003		5,765
Other		387		340
	$	10,569	$	10,177

9.	Commitments and Contingencies

The Company leases facilities, automobiles and certain equipment under agreements classified as operating leases, which expire at various dates through 2016. Substantially all of the property leases provide for increases based upon use of utilities and landlord’s operating expenses. Lease and auto expense under these agreements for the years ended December 31, ~~2006, 2005~~2008, 2007 and ~~2004~~2006 was approximately ~~$15.0~~$4.9 million, ~~$22.9~~$5.0 million, and ~~$24.4~~$15.0 million, ~~and~~ respectively, of which $2.9 million in 2008, $2.9 million in 2007, and $12.7 million in 2006 ~~$19.3 million in 2005, and $21.2 million in 2004~~ related to automobiles leased for use by employees for a term of one year from the date of delivery with yearly annual renewal options.

As of December 31, ~~2006,~~2008, contractual obligations with terms exceeding one year and estimated minimum future rental payments required by non-cancelable operating leases with initial or remaining lease terms exceeding one year are as follows:

~~F-18~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

Less than 1 to 3 3 to 5 After
Total 1 Year Years Years 5 Years
Contractrual obligations ⁽¹⁾
$ 6,523 $ 4,496 $ 2,027 $ - $ -
Operating lease obligations
Minimum lease payments 30,641 3,100 6,516 6,462 14,563
Less minimum sublease rentals⁽²⁾
(1,452 ) (401 ) (801 ) (250 ) -
Net minimum lease payments 29,189 2,699 5,715 6,212 14,563
Total $ 35,712 $ 7,195 $ 7,742 $ 6,212 $ 14,563

				Less than			1 to 3			3 to 5			After
	Total			1 Year			Years			Years			5 Years
Contractual obligations (1)	$	1,476		$	859		$	617		$	-		$	-
Purchase obligations (2)		7,583			7,000			583			-			-
Operating lease obligations
Minimum lease payments		24,395			3,318			6,507			6,564			8,006
Less minimum sublease rentals (3)		(5,113	)		(1,069	)		(1,613	)		(1,239	)		(1,192	)
Net minimum lease payments		19,282			2,249			4,894			5,325			6,814
Total	$	28,341		$	10,108		$	6,094		$	5,325		$	6,814

^{(1) Amounts represent contractual obligations related to software license contracts, IT consulting contractsdata center hosting, and outsourcing contracts for employee benefits administration and software system support.}

⁽²⁾

OnRepresents minimum annualized purchase obligations associated with promotional spending as per the terms of the Company’s agreement with Novartis through February 2010, which is the early termination date for this contract provided that sales of the product remain below certain pre-determined thresholds.

(3)

In June ~~21,~~ 2005, ~~the Company~~we signed an agreement to sublease approximately 16,000 square feet of the first floor at ~~its~~our corporate headquarters facility in Saddle River, New Jersey. ~~(approximately 16,000 square feet)~~ The sublease is for a five-year term commencing on July 15, 2005, and provides for approximately $2 million in lease payments over the five-year period. In July 2007, we signed an agreement to sublease approximately 20,000 square feet of the second floor at our corporate headquarters. The sublease term is through the remainder of our lease, which is approximately eight and one-half years and will provide for approximately $4.4 million in lease payments over that period. Also in 2007, we signed two separate subleases at our facility in Dresher, Pennsylvania. These subleases are for five-year terms and will provide approximately $650,000 combined in lease payments over the five-year period.

Letters of Credit

As of December 31, 2008, the Company has $5.9 million in letters of credit outstanding as required by its existing insurance policies and its facility leases.

F-17

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

Litigation

Due to the nature of the ~~business~~businesses in which the Company is engaged, such as product detailing and in the past, the distribution of products, it could be exposed to certain risks. Such risks include, among others, risk of liability for personal injury or death to persons using products the Company promotes or distributes. There can be no assurance that substantial claims or liabilities will not arise in the future due to the nature of the Company’s business activities and recent increases in litigation related to healthcare products, including pharmaceuticals. The Company seeks to reduce its potential liability under its ~~product detailing~~service agreements through measures such as contractual indemnification provisions with ~~customers~~clients (the scope of which may vary from ~~customer~~client to ~~customer,~~client, and the performances of which are not secured) and insurance. The Company could, however, also be held liable for errors and omissions of its employees in connection with the services it performs that are outside the scope of any indemnity or insurance policy. The Company could be materially ~~and~~ adversely affected if it ~~was~~were required to pay damages or incur defense costs in connection with a claim that is outside the scope of an indemnification agreement; if the indemnity, although applicable, is not performed in accordance with its terms; or if the Company’s liability exceeds the amount of applicable insurance or indemnity.

~~Securities Litigation~~

In January and February 2002, the Company, its former chief executive officer and its former chief financial officer were served with three complaints that were filed in the U.S. District Court for the District of New Jersey (the Court) alleging violations of the Securities Exchange Act of 1934 (the Exchange Act). These complaints were brought as purported shareholder class actions under Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 established thereunder. On May 23, 2002, the Court consolidated all three lawsuits into a single action entitled In re PDI Securities Litigation, Master File No. 02-CV-0211, and appointed lead plaintiffs (Lead Plaintiffs) and Lead Plaintiffs’ counsel. On or about December 13, 2002, Lead Plaintiffs filed a second consolidated and amended complaint (Second Consolidated and Amended Complaint), which superseded their earlier complaints. In February 2003, the Company filed a motion to dismiss the Second Consolidated and Amended Complaint. On or about August 22, 2005, the Court dismissed the Second Consolidated and Amended Complaint without prejudice to plaintiffs.

On October 21, 2005, Lead Plaintiffs filed a third consolidated and amended complaint (Third Consolidated and Amended Complaint). Like its predecessor, the Third Consolidated and Amended Complaint named the Company, its former chief executive officer and its former chief financial officer as defendants; purported to state claims against the Company on behalf of all persons who purchased its common stock between May 22, 2001 and August 12, 2002; and sought money damages in unspecified amounts and litigation expenses including attorneys’ and experts’ fees. The essence of the allegations in the Third Consolidated and Amended Complaint was that the Company intentionally or recklessly made false or misleading public statements and omissions concerning its prospects with respect to its marketing of Ceftin in connection with the October 2000 distribution agreement with GlaxoSmithKline (GSK), its marketing of Lotensin in connection with the May 2001 distribution agreement with Novartis Pharmaceuticals Corporation, as well as its marketing of Evista in connection with the October 2001 distribution agreement with Eli Lilly and Company.

~~F-19~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

On December 21, 2005, the Company filed a motion to dismiss the Third Consolidated and Amended Complaint under the Private Securities Litigation Reform Act of 1995 and Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure. On November 2, 2006, the Court issued an Opinion and Order dismissing with prejudice all claims asserted in the Third Consolidated and Amended Complaint against all defendants and denied Lead Plaintiffs’ request to amend the complaint.

~~Cellegy Litigation~~

On April 11, 2005, the Company settled a lawsuit which was pending in the U.S. District Court for the Northern District of California against Cellegy Pharmaceuticals, Inc. (Cellegy), which was set to go to trial in May 2005 (PDI, Inc. v. Cellegy Pharmaceuticals, Inc., Case No. C 03-05602 (SC)). The Company had claimed (i) that it was fraudulently induced to enter into a December 31, 2002 license agreement with Cellegy (the License Agreement) to market the product Fortigel, and (ii) that Cellegy had otherwise breached the License Agreement by failing, inter alia, to provide it with full information about Fortigel or to take all necessary steps to obtain expeditious FDA approval of Fortigel. The Company sought return of its $15 million upfront payment, other damages and an order rescinding the License Agreement. Under the terms of the settlement, in exchange for executing a stipulation of dismissal with prejudice of the lawsuit, Cellegy agreed to and did deliver to the Company: (i) a cash payment in the amount of $2.0 million; (ii) a Secured Promissory Note in the principal amount of $3.0 million, with a maturity date of October 11, 2006; (iii) a Security Agreement, granting the Company a security interest in certain collateral; and (iv) a Nonnegotiable Convertible Senior Note, with a face value of $3.5 million, with a maturity date of April, 11, 2008.

In addition to the initial $2.0 million received on April 11, 2005, Cellegy had paid $200,000 in 2005 and $458,500 through June 30, 2006 towards the outstanding principal balance of the Secured Promissory Note. These payments were recorded as a credit to litigation expense in the periods in which they were received.

On December 1, 2005, the Company commenced a breach of contract action against Cellegy in the U.S. District Court for the Southern District of New York (PDI, Inc. v. Cellegy Pharmaceuticals, Inc., 05 Civ. 10137 (PKL)). The Company alleged that Cellegy breached the terms of the Security Agreement and Secured Promissory Note that it received in connection with the settlement. The Company further alleged that to secure its debt to the Company, Cellegy granted the Company a security interest in certain "Pledged Collateral," which is broadly defined in the Security Agreement to include, among other things, 50% of licensing fees, royalties or "other payments in the nature thereof" received by Cellegy in connection with then-existing or future agreements for Cellegy's drugs Rectogesic® and Tostrex® outside of the U.S., Mexico, and Canada. Upon receipt of such payments, Cellegy agreed to make prompt payment to the Company. The Company alleged that it was owed 50% of a $2.0 million payment received by Cellegy in connection with the renegotiation of its license and distribution agreement for Rectogesic® in Europe, and that Cellegy's failure to pay the Company constituted an event of default under the Security Agreement and the Secured Promissory Note. For Cellegy's breach of contract, the Company sought damages in the total amount of $6.4 million plus default interest from Cellegy.

On December 27, 2005, Cellegy filed an answer to the Company’s complaint, denying the allegations contained therein, and asserting affirmative defenses. Discovery subsequently commenced and pursuant to a scheduling order entered by the court, was to be completed by November 21, 2006. On June 22, 2006, the parties appeared before the court for a status conference and agreed to a dismissal of the lawsuit without prejudice because, among other reasons, discovery would not be complete before October 11, 2006, the maturity date of the Secured Promissory Note, at which time Cellegy would owe the Company the entire unpaid principal balance and interest on the Secured Promissory Note. On July 13, 2006, the court dismissed the December 1, 2005 breach of contract lawsuit without prejudice. This had no effect on the original settlement.

On September 27, 2006, Cellegy announced that it had entered into an asset purchase agreement to sell its intellectual property rights and other assets relating to certain of its products and product candidates to Strakan International Limited (the Sale). Pursuant to a letter agreement between Cellegy and the Company, Cellegy agreed to pay the Company $3.0 million (the Payoff Amount) in full satisfaction of Cellegy’s obligations to the Company under the Secured Promissory Note, which had an outstanding principal amount of approximately $2.34 million, and the $3.5 million Nonnegotiable Convertible Senior Note (collectively, the Notes). Pursuant to the letter agreement, $500,000 of the Payoff Amount was paid to the Company in September 2006, and the remaining $2.5 million was paid to the Company in December 2006 upon consummation of the Sale.

~~F-20~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

The Company had previously established an allowance for doubtful notes for the outstanding balance of the Notes; therefore, the Agreement did not result in the recognition of a loss. The $3.0 million received was recorded as a credit to litigation expense.

~~California Class Action Litigation~~

On September 26, 2005, the Company was served with a complaint in a purported class action lawsuit that was commenced against the Company in the Superior Court of the State of California for the County of San Francisco on behalf of certain of its current and former employees, alleging violations of certain sections of the California Labor Code. During the quarter ended September 30, 2005, the Company accrued approximately $3.3 million for potential penalties and other settlement costs relating to both asserted and unasserted claims relating to this matter. In October 2005, the Company filed an answer generally denying the allegations set forth in the complaint. In December 2005, the Company reached a tentative settlement of this action, subject to court approval. As a result, the Company reduced its accrual relating to asserted and unasserted claims relating to this matter to $600,000 during the quarter ended December 31, 2005. In October 2006, the Company received preliminary settlement approval from the court and the final approval hearing was held in January 2007. Pursuant to the settlement, the Company is currently in the process of distributing payments to the class members, their counsel and the California Labor and Workforce Development Agency in an aggregate amount of approximately $50,000.

Bayer-Baycol Litigation

The Company has been named as a defendant in numerous lawsuits, including two class action matters, alleging claims arising from the use of Baycol, a prescription cholesterol-lowering medication. Baycol was distributed, promoted and sold by Bayer AG (Bayer) in the U.S. through early August 2001, at which time Bayer voluntarily withdrew Baycol from the U.S. market. Bayer had retained certain companies, such as the Company, to provide detailing services on its behalf pursuant to contract sales force agreements. The Company may be named in additional similar lawsuits. To date, the Company has defended these actions vigorously and has asserted a contractual right of defense and indemnification against Bayer for all costs and expenses that it incurs relating to these proceedings. In February 2003, the Company entered into a joint defense and indemnification agreement with Bayer, pursuant to which Bayer has agreed to assume substantially all of the Company’s defense costs in pending and prospective proceedings and to indemnify the Company in these lawsuits, subject to certain limited exceptions. Further, Bayer agreed to reimburse the Company for all reasonable costs and expenses incurred through such date in defending these proceedings. As of December 31, ~~2006,~~2008, Bayer has reimbursed the Company for approximately $1.6 million in legal expenses, the majority of which was received in 2003 and was reflected as a credit within selling, general and administrative expense. The Company did not incur any costs or expenses relating to these matters during 2005, 2006, ~~2005,~~2007, or ~~2004.~~2008.

10.	Product Commercialization Contract

~~Letters~~On April 11, 2008, the Company announced the signing of ~~Credit~~a promotion agreement with Novartis Pharmaceuticals Corporation (Novartis). Pursuant to the agreement, the Company has the co-exclusive right to promote on behalf of Novartis the pharmaceutical product Elidel® (pimecrolimus) Cream 1% (the Product) to physicians in the United States. Under terms of the agreement, the Company is providing sales representatives to promote the Product to physicians. The Company must perform a minimum number of sales calls to designated physicians each year, and the failure to satisfy this requirement could result in penalties being imposed on the Company. In addition, the Company is obligated to spend at least $7.0 million per year during the term on promotional activities relating to the Product. Finally, as required under the agreement, the Company paid an up-front nonrefundable fee of $1.0 million. This fee was paid during the second quarter of 2008 and has been recognized as negative revenue pursuant to Emerging Issues Task Force Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Product."

In exchange for its promotional and sales force activities, the Company will be compensated each quarter based on a specified formula set forth in the agreement relating to Product sales for the quarter. Under the terms of the contract, any shortfall between actual sales and the pre-determined threshold from the previous quarter is added to the current quarter’s threshold amount that the Company must achieve in order to generate revenue. It is possible that the Company may not receive any compensation if Product sales are below certain thresholds set forth in the agreement.

The term of the agreement is approximately four years, extending through March 31, 2012, and it may be extended for an additional year upon the mutual consent of the parties. In addition, if the agreement is not terminated prior to its scheduled expiration on March 31, 2012, if due under the terms of the agreement, Novartis will provide the Company with two residual payments in accordance with specified formulas set forth in the agreement, which are payable 12 and 24 months after the expiration of the term of the agreement.

F-18

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The agreement provides that if one or more major market events occur during the term that significantly affects the Product, in certain cases either party will have the right to terminate the agreement. Either party may terminate the agreement if the other party materially breaches or fails to perform its obligations under the agreement. In addition, either party may terminate the agreement, effective no earlier than February 2010, upon three months prior notice to the other party if the number of prescriptions for the Product generated in a specified period is less than a predetermined level for that period. Novartis may terminate the agreement, effective no earlier than February 1, 2010, without cause upon three months prior notice to the Company subject to the payment of an early termination fee based in part on a fixed amount and in part on a specified formula set forth in the agreement.

As of December 31, ~~2006,~~2008, the Company made expenditures of approximately $12.3 million in connection with our sales force activities and promotion of the product. To date, the Company has ~~$9.7~~not achieved the required sales levels necessary to receive revenue under its promotion agreement with Novartis. The Company does not anticipate that it will achieve the required sales levels necessary to generate sufficient revenue to recover the costs it incurred or will incur in connection with this promotional program during the term of the contract. The Company intends to terminate this contract at the early termination date for the contract, which is no sooner than February 1, 2010 provided that sales of the product remain below certain pre-determined thresholds.

At December 31, 2008, the Company accrued a contract loss of approximately $10.3 million, representing the anticipated future loss expected to be incurred by the Company to fulfill its contractual obligations under this product commercialization agreement until February 2010, the early termination date for this contract. The loss contract provision for this product commercialization agreement includes cost of the sales force needed to deliver the minimum number of sales calls and promotional program costs, including the cost of samples and other promotional costs net of anticipated revenue. In determining the amount of the loss contract provision, projections regarding estimated future cash flows are made to estimate the expected loss. The use of alternative estimates and assumptions could increase or decrease the estimated loss and potentially result in ~~letters~~a different impact to the Company’s results of ~~credit outstanding as required by its existing insurance policies and its facility leases.~~

operations. Further, changes in business strategy and/or market conditions may significantly impact these judgments. Actual results could materially differ from this estimate.

~~10.~~11.

Fair Value Measurements

As discussed in Note 2, the Company adopted FAS 157 for all financial assets and liabilities and for nonfinancial assets and liabilities recognized or disclosed at fair value in the Company’s consolidated financial statements on a recurring basis (at least annually). Broadly, the FAS 157 framework requires fair value to be determined based on 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. FAS 157 establishes market or observable inputs as the preferred source of values, followed by assumptions based on hypothetical transactions in the absence of market inputs. The valuation techniques required by FAS 157 are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs create the following three-tier fair value hierarchy: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore, requiring the Company to develop its own assumptions.

The Company’s adoption of FAS 157 was limited to its investment in marketable securities. See Note 2, Investments in Marketable Securities, for additional information. The fair values for these securities are based on quoted market prices.

F-19

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The following table presents financial assets and liabilities measured at fair value at December 31, 2008:

					Fair Market
	Carrying		Fair		Measurements at December 31, 2008
	Amount		Value		Level 1		Level 2		Level 3
Available-for-sale securities	$	159	$	159	$	159	$	-	$	-
Held-to-maturity securities		5,847		5,970		5,970		-		-
Total	$	6,006	$	6,129	$	6,129	$	-	$	-

12.	Preferred Stock

The Company's Board is authorized to issue, from time to time, up to 5,000,000 shares of preferred stock in one or more series. The Board is authorized to fix the rights and designation of each series, including dividend rights and rates, conversion rights, voting rights, redemption terms and prices, liquidation preferences and the number of shares of each series. As of December 31, ~~2006~~2008 and ~~2005,~~2007, there were no issued and outstanding shares of preferred stock.

~~11.~~

13.

Stock-Based Compensation

On January 1, 2006, the Company adopted FAS 123R. See Note 1, Nature of Business and Significant Accounting Policies, for a description of the adoption of FAS 123R. The Company’s stock-incentive program is a long term retention program that is intended to attract, retain and provide incentives for talented employees, officers and directors, and to align stockholder and employee interests. The Company considers its stock-incentive program critical to its operations and productivity. Currently, the Company grants options, SARs and restricted shares from the PDI, Inc. 2004 Stock Award and Incentive Plan (the 2004 Plan), which is described below. The Company recognizes compensation cost arising from the issuance of stock options, SARs, and restricted shares on a straight-line basis over the vesting period of the grant. Total share-based compensation expense recognized for the years ended December 31, 2006, 2005, and 2004 was $1.7 million, $1.5 million, and $1.2 million, respectively.

~~F-21~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

~~On January 1, 2006, the Company adopted FAS 123R. See Note 1, Nature of Business and Significant Accounting Policies, for a description of the adoption of FAS 123R.~~ The Company ~~currently~~primarily uses the Black-Scholes option pricing model to determine the fair value of stock options and SARs. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of complex and subjective variables. These variables include the Company’s expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends.

Expected volatility was based on historical volatility. As there is no trading volume for the Company’s options, implied volatility was not representative of the Company’s current volatility so the historical volatility was determined to be more indicative of the Company’s expected future stock performance. The expected life was determined using the safe-harbor method permitted by Securities Exchange Commission’s Staff Accounting Bulletin (SAB) No. 107 (SAB 107). The Company expects to use this simplified method for valuing employee SARs grants as permitted by the provisions of SAB 107 until more detailed information about exercise behavior becomes available over time. ~~When stock options are issued, the Company will use an expected life commensurate with their historical exercise patterns.~~ The Company bases the risk-free interest rate on U.S. Treasury zero-coupon issues with remaining terms similar to the expected term on the options or SARs. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option valuation model. The Company is required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. The Company uses historical data to estimate pre-vesting option forfeitures and records stock-based compensation expense only for those awards that are expected to vest. The Company recognizes compensation cost, net of estimated forfeitures, arising from the issuance of stock options and SARs on a straight-line basis over the vesting period of the grant.

~~Prior to the adoption of FAS 123R, the Company recognized the~~The estimated compensation cost associated with the granting of restricted ~~shares over the vesting term. The estimated compensation cost~~stock and restricted stock units is based on the fair value of the Company’s common stock on the date of grant. The Company ~~continues to recognize~~recognizes the compensation cost, net of estimated forfeitures, arising from the issuance of restricted stock and restricted stock units on a straight-line basis over the vesting ~~term.~~period of the grant.

In accordance with FAS 123R, the Company will recognize the estimated compensation cost of performance contingent shares, net of estimated forfeitures, based on the probability that the performance condition will be achieved. These awards are earned upon attainment of identified performance goals. The fair value of the awards is based on the measurement date. The awards will be amortized over the performance period. Compensation cost for performance contingent shares is estimated based on the number of awards that are expected to vest and is adjusted for those awards that do ultimately vest.

F-20

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The following table provides the weighted average assumptions used in determining the fair value of the non-performance based stock-based awards granted during the years ended December 31, ~~2006, 2005,~~2008, 2007, and ~~2004~~2006 respectively:

	2008	2007	2006
Risk-free interest rate	2.25%	4.54%	4.81%
Expected life	3.5 years	3.5 years	3.5 years
Expected volatility	41.31%	50.87%	66.12%

2006 2005 2004
Risk-free interest rate 4.81% 3.79% 3.63%
Expected life 3.5 5 years 5 years
Expected volatility 66.12% 100% 100%

Stock Incentive Plan

In June 2004, the Board and stockholders approved the 2004 Plan. The 2004 Plan replaced the 1998 Stock Option Plan (the 1998 Plan) and the 2000 Omnibus Incentive Compensation Plan (the 2000 Plan). The 2004 Plan reserved an additional 893,916 shares for new awards as well as combined the remaining shares available under the 1998 Plan and 2000 Plan. The maximum number of shares that can be granted under the 2004 Plan is approximately 2.9 million shares. Eligible participants under the 2004 Plan include officers and other employees of the Company, members of the Board and outside consultants, as specified under the 2004 Plan and designated by the Compensation and Management Development Committee of the Board. Unless earlier terminated by action of the Board, the 2004 Plan will remain in effect until such time as no stock remains available for delivery under the 2004 Plan and the Company has no further rights or obligations under the 2004 Plan with respect to outstanding awards under the 2004 plan. No participant may be granted more than the annual limit of 400,000 shares plus the amount of the participant's unused annual limit relating to share-based awards as of the close of the previous year, subject to adjustment for splits and other extraordinary corporate events.

~~F-22~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

~~Stock~~Historically, stock options ~~are~~were generally granted with an exercise price equal to the market value of the common stock on the date of grant, ~~expire~~expired 10 years from the date they are granted, and generally ~~vest~~vested over a two-year period for members of the Board of Directors and three-year period for employees. Upon exercise, new shares are issued by the Company. The Company has not issued stock options since 2005. SARs are generally granted with a grant price equal to the market value of the common stock on the date of grant, vest one-third each year on the anniversary of the date of grant and expire five years from the date of grant. The restricted shares and restricted stock units generally have vesting periods that range from eighteen months to three years and are subject to accelerated vesting and forfeiture under certain circumstances.

~~On February 9, 2005,~~In November 2008, the ~~Company accelerated~~Company’s chief executive officer was granted 140,000 restricted stock units and 280,000 performance contingent SARs. The restricted stock units will vest into shares of the Company’s common stock, equally in five installments, with the initial 20% of the units vesting immediately on the grant date and an additional 20% of ~~all outstanding unvested underwater stock options. Accelerated stock options totaled 473,334~~the units vesting on each anniversary of the grant date over a four year period. The performance contingent SARs have an exercise price of $4.28, a seven year term to expiration, and ~~impacted 43 employees and seven board members. There~~a weighted average fair value of $0.86. The fair value estimate of the performance contingent SARs was ~~no compensation expense recognized as~~calculated by an accredited independent valuation consultant using a ~~result of this acceleration. On December 30, 2005, prior~~Monte Carlo Simulation model. The performance contingent SARs are subject to the ~~adoption of FAS 123R,~~same vesting schedule as the ~~Company accelerated~~restricted stock units but are only exercisable if the ~~vesting of 97,706~~following stock performance-based conditions are satisfied: (1) with respect to the initial 94,000 performance contingent SARs, ~~and placed a restriction on~~ the ~~transfer or sale~~closing price of the Company’s common stock ~~received upon~~is at least $10.00 per share for 60 consecutive trading days anytime within five years from the ~~exercise of these~~grant date; (2) with respect to the next 93,000 performance contingent SARs, ~~that matched~~ the ~~original vesting schedule~~closing price of the ~~SARs. This impacted 38 employees~~Company’s common stock is at least $15.00 per share for 60 consecutive trading days anytime within five years from the grant date; and ~~resulted in $86,000 in compensation expense. The Company accelerated~~(3) with respect to the ~~vesting of all outstanding unvested underwater stock options and SARs in 2005 to avoid recognizing compensation expense in future periods.~~

~~At January 1, 2006, the Company had a total of 43,104~~final 93,000 performance contingent ~~shares~~SARs, the closing price of ~~its~~the Company’s common stock ~~to be issued upon~~is at least $20.00 per share for 60 consecutive trading days anytime within five years from the attainment of all established performance goals by March 2008. There are three levels of performance for each business unit and at a corporate level that dictate the number of shares to be issued. Throughout 2005, the Company had recognized compensation expense related to this award on its expectation of the probability that the performance conditions would be satisfied. Based on the 2006 annual budget and future income projections prepared in the first quarter of 2006, the probability that the performance conditions, even at the marginal level, would be satisfied, was deemed remote and at March 31, 2006, the Company reversed approximately $60,000 of previously recognized compensation expense and discontinued recognizing any future expense associated with this award until such time as it is considered probable that the performance condition will be met. The Company has and will continue to reassess the probability of vesting of this award at each reporting period.grant date.

The weighted average fair value of ~~options and~~non-performance based SARs granted during the years ended December 31, ~~2006, 2005~~2008, 2007 and ~~2004~~2006 was estimated to be ~~$6.31, $9.10~~$2.54, $3.97 and ~~$19.26,~~$6.31 respectively. For the ~~years~~year ended December 31, 2006 ~~2005 and 2004,~~ the aggregate intrinsic values of options and SARs exercised under the Company’s stock option plans ~~were~~was approximately $130,000 ~~$243,000, and $1.5 million respectively,~~ determined as of the date of exercise. There were no exercises in 2007 or 2008. As of December 31, ~~2006,~~2008, there was ~~$1.6~~$2.0 million of total unrecognized compensation cost, net of estimated forfeitures, related to unvested ~~options,~~ SARs and restricted stock that are expected to be recognized over a weighted-average period of approximately ~~1.9~~2.5 years. Cash received from options exercised under the Company’s stock option plans for the years ended December 31, 2006 ~~2005~~was $87,000. Historically, shares issued upon the exercise of options have been new shares and ~~2004~~have not come from treasury shares.

F-21

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The impact of stock options, SARs, performance shares and restricted stock on net (loss) income and cash flow for 2008, 2007 and 2006 was ~~$87,000, $591,000, and $2.4 million, respectively.~~as follows:

	2008			2007			2006
Stock options and SARs	$	259		$	455		$	361
Conditional grant		-			-			104
Common stock awards		300			-			-
Performance awards		9			11			(60	)
Restricted stock		1,052			1,163			1,198
		1,620			1,629			1,603
Acceleration of vesting - restricted stock		8			54			233
Forfeitures		(141	)		(207	)		(176	)
Total stock-based compensation expense		1,487			1,476			1,660
Tax impact		(583	)		(565	)		(408	)
Reduction to net income	$	904		$	911		$	1,252

Increase (reduction) in cash flow
from operating activies	$	-		$	242		$	(23	)
(Reduction) increase in cash flow
from financing activies	$	-		$	(242	)	$	23

A summary of option and SARs activity for the year ended December 31, ~~2006~~2008 and changes during the year then ended is presented below:

				Weighted-
				Average		Contractual		Intrinsic
	Shares			Grant Price		Period (in years)		Value
Outstanding at January 1, 2008		646,825		$	18.18		4.18	$	19
Granted		474,538			5.69		6.21		-
Forfeited or expired		(323,986	)		12.54
Outstanding at December 31, 2008		797,377			13.04		4.77		-

Exercisable at December 31, 2008		370,378		$	21.40		3.58	$	-

A summary of the status of the Company’s nonvested SARs for the year ended December 31, 2008 and changes during the year ended December 31, 2008 is presented below:

	Shares			Weighted- Average Grant Date Fair Value

Nonvested at January 1, 2008		198,990		$	4.71
Granted		474,538			1.55
Vested		(130,055	)		3.19
Forfeited		(172,925	)		3.37
Nonvested at December 31, 2008		370,548		$	1.82

A summary of the Company’s outstanding shares of restricted stock and restricted stock units for the year ended December 31, 2008 and changes during the year then ended is presented below:

F-22

Grant Contractual Intrinsic
Shares Price Period (in years) Value
Outstanding at January 1, 2006 1,381,096 $ 26.20 6.58 $ 494
Granted 146,047 12.40 3.71 -
Exercised (20,167 ) 6.30
Forfeited or expired (490,358 ) 28.64
Outstanding at December 31, 2006 1,016,618 23.44 5.23 36

Exercisable at December 31, 2006 863,160 $ 25.38 5.31 $ 36

~~A summary of the status of the Company’s nonvested options and SARs for the year ended December 31, 2006 and changes during the year ended December 31, 2006 is presented below:~~

~~F-23~~

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

	Shares			Weighted- Average Grant Date Fair Value					Weighted-		Average		Aggregate
									Average		Remaining		Intrinsic
Nonvested at January 1, 2006		53,501		$	8.26
									Grant Date		Vesting		Value
						Shares			Fair Value		Period (in years)		(in thousands)
Outstanding at January 1, 2008							213,964		$	10.71		2.07	$	2,005
Granted		146,047			6.31		298,388			6.33		2.90		1,197
Vested		(29,999	)		7.59		(79,668	)		11.15
Forfeited		(19,258	)		6.18		(108,259	)		8.83
Nonvested at December 31, 2006		150,291		$	6.76
Outstanding at December 31, 2008							324,425		$	7.20		2.56	$	1,301

~~A summary of the Company’s outstanding shares of restricted stock for the year ended December 31, 2006 and changes during the year then ended is presented below:~~

Weighted- Average
Average Remaining Aggregate
Grant Vesting Intrinsic
Shares Price Period (in years) Value
Outstanding at January 1, 2006 112,723 $ 17.49 1.08 $ 1,522
Granted 155,418 12.31 1.73 1,806
Vested (48,583 ) 14.23
Forfeited (22,820 ) 14.38
Outstanding at December 31, 2006 196,738 $ 14.57 1.31 $ 2,286

~~12.~~

14.

~~Related Party Transactions~~

The Company purchased certain print advertising for initial recruitment of representatives through a company that is wholly-owned by family members of the Company's largest stockholder. The amounts charged to the Company for these purchases totaled approximately $180,000 for the year ended December 31, 2004. The Company no longer used this vendor after December 31, 2004.

~~13.~~

~~Treasury Stock~~

On April 27, 2005, the Company terminated its original 2001 stock repurchase plan. On May 2, 2005, the Company announced that its Board had authorized a plan to repurchase up to a million of its outstanding shares of common stock. The Company repurchased 996,900 shares in 2005 under that plan. The plan was terminated in 2006.

On November 7, 2006 the Company announced that its Board had authorized the Company to repurchase up to one million shares of its common stock. The Company may repurchase shares on the open market or in privately negotiated transactions, or both. Some or all of the repurchases, if any, may be made pursuant to a Company 10(b)5-1 Plan that the Company intends to adopt. Purchases, if any, will be made from the Company's available cash.

~~The number of shares repurchased as of December 31, 2006 is as follows:~~

Average. Price Shares
Period Per Share Purchased
September 2001 $ 22.00 5,000
May 2005 $ 12.36 226,900
June 2005 $ 11.92 353,330
July 2005 $ 13.77 315,570
August 2005 $ 14.39 101,100
Total $ 12.90 1,001,900

~~An additional 16,106 shares were delivered back to the Company and included in treasury stock for the payment of taxes resulting from the vesting of restricted stock.~~

~~F-24~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

Significant Customers

~~14.~~

~~Significant Customers~~

During ~~2006, 2005~~2008, 2007 and ~~2004~~2006 the Company had several significant customers for which it provided services under specific contractual arrangements. The following sets forth the net ~~service~~ revenue generated by customers who accounted for more than 10% of the Company's ~~service~~ revenue during each of the periods presented.

		Years Ended December 31,
Customer		2008		2007		2006
	A	$	31,697	$	15,155	$	-
	B		15,304		-		-
	C		12,072		13,259		-
	D				15,992
	E		-		-		68,240
	F		-		-		43,603

Years Ended December 31,
Customer 2006 2005 2004
A $ 68,240 $ 69,452 $ 76,744
B 43,603 107,260 153,801
C - 48,051 -
For all the customers listed above, excluding customer A, the Company recorded revenue in both segments. For customer A, all the revenue was in the sales services segment.

For the years ended December 31, ~~2006,~~2008, and ~~2004,~~2007, the ~~Company had two large~~Company’s three largest customers, who each individually represented 10% or more of its ~~service revenue; these customers~~revenue, accounted for in the aggregate, approximately ~~46.8%~~52.5% and ~~66.4%~~37.9% respectively, of its ~~service~~ revenue. For the year ended December 31, ~~2005~~2006 the Company’s ~~three~~two largest customers, each of whom represented 10% or more of its ~~service~~ revenue, accounted for, in the aggregate, approximately ~~73.6%~~46.8% of its ~~service~~ revenue.

At December 31, ~~2006~~2008 and ~~2005,~~2007, the Company’s ~~two and~~ three largest customers represented ~~11.7%~~71.7% and ~~56.6%~~21.4%, respectively, of the aggregate of outstanding ~~service~~ accounts receivable and unbilled services.

On March 21, 2007, the Company announced that a large pharmaceutical company customer had notified them of its intention not to renew its contract sales engagement with the Company upon its scheduled expiration on May 12, 2007. This contract, which had a one-year term, represented approximately $37 million in annual revenue.

On February 28, 2006, the Company announced that it has been notified by AstraZeneca that its fee-for-service agreements with the Company would be terminated effective April 30, 2006, reducing revenue by approximately $63.8 million in 2006.

On September 26, 2006, the Company announced that it had received verbal notification from GSK of its intention not to renew its contract sales engagement with the Company for 2007. The contract, which represented approximately $65 million to $70 million in revenue on an annual basis, expired as scheduled on December 31, 2006.

On October 25, 2006, the Company also announced that it had received notification from sanofi-aventis of its intention to terminate its contract sales engagement with the Company effective December 1, 2006. The contract, which represented approximately $18 million to $20 million in revenue on an annual basis, was previously scheduled to expire on December 31, 2006.

15.

~~Performance Based Contracts~~

~~In October 2000, the Company entered into an agreement (the Ceftin Agreement) with GSK for the exclusive U.S. sales, marketing and distribution rights for Ceftin~~^® ~~Tablets and Ceftin~~^® for Oral Suspension, two dosage forms of a cephalosporin antibiotic, which agreement was terminated in February 2002 by mutual agreement of the parties. From October 2000 through February 2002, the Company marketed Ceftin to physicians and sold the products primarily to wholesale drug distributors, retail chains and managed care providers. Pursuant to the termination agreement, the Company agreed to perform marketing and distribution services through February 28, 2002. Customers who purchased the Company’s Ceftin product were permitted to return unused product, after approval from the Company, up to six months before and one year after the expiration date for the product, but no later than December 31, 2004. On March 31, 2004, the Company signed an agreement and waiver with a large wholesaler by which the Company agreed to pay that wholesaler $10.0 million, and purchase $2.5 million worth of services from that wholesaler by March 31, 2006, in exchange for that wholesaler waiving, to the fullest extent permitted by law, all rights with respect to any additional returns of Ceftin to the Company. In lieu of purchasing $2.5 million worth of services from the wholesaler, the Company entered into an agreement to provide services to affiliates of the wholesaler. The Company’s accrual for returns of $231,000 at December 31, 2006 consists almost entirely of amounts owed to that wholesaler. The accrual as recorded by the Company is its best estimate based on its understanding of its obligations.

~~16.~~

Executive Severance

On ~~October 21, 2005,~~June 20, 2008, the Company announced the ~~resignation~~retirement of ~~Charles T. Saldarini~~Michael J. Marquard as ~~vice chairman of the Board and~~ chief executive ~~officer. Mr. Saldarini also resigned~~officer and as a member of the ~~Company’s Board. As per~~board of directors. In connection with his retirement, the ~~terms of his employment agreement, Mr. Saldarini was entitled to~~Company recorded approximately ~~$2.8~~$0.9 million in ~~cash and stock~~ compensation expense in 2008. During 2008, the Company also announced the departure of one other executive vice president for which ~~was recognized in the fourth quarter of 2005.~~it incurred

F-23

~~F-25~~

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

On August 10, 2005, the Company announced that Bernard C. Boyle, the Company’s Chief Financial Officer would resign from his position with the Company effective December 31, 2005. The Company recognized approximately ~~$1.6~~$0.3 million in additional compensation expense in the third quarter of 2005 as per the terms of his employment agreement. Effective December 31, 2005, the Company entered into an amended memorandum of understanding with the Company, pursuant to which Mr. Boyle deferred his resignation until March 31, 2006.expense.

~~The Company also announced the resignation of three other executive vice presidents during 2005 and one other executive vice president during 2006.~~ The Company recognized charges of approximately ~~$5.7~~$0.6 million ~~and $573,000~~ related to executive resignations/settlements in ~~2005 and 2006, respectively. These amounts are shown separately within operating expenses on the consolidated statement of operations~~2006. There were no executive severance charges for the ~~years~~year ended December 31, ~~2005 and 2006.~~2007.

~~17.~~

16.

Facilities Realignment

The Company recorded facility realignment charges totaling approximately $75,000, $1.0 million and $2.0 million during 2008, 2007 and ~~$2.4 million during~~ 2006, ~~and 2005,~~ respectively. These charges were for costs related to excess leased office space the Company has at its Saddle River, New Jersey and Dresher, Pennsylvania facilities. In 2007, the Company sub-leased the excess office space at its Saddle River, New Jersey location and also secured sub-leases for two of the three vacant spaces at its Dresher location. The Company is currently seeking to sublease the remaining excess ~~spaces~~space at ~~both locations.~~its Dresher location. A summary of the significant components of the facility realignment charges for the ~~two~~ years ended December 31, 2006, 2007 and 2008 by segment is as follows:

	Sales			Marketing
2006:	Services			Services			Total
Facility lease obligations	$	803		$	(146	)	$	657
Asset impairments (1)		474			821			1,295
Total facility realignment charge	$	1,277		$	675		$	1,952
2007:
Facility lease obligations	$	(198	)	$	(82	)	$	(280	)
Asset impairments (1)		1,020			56			1,076
Related charges		225			-			225
Total facility realignment charge	$	1,047		$	(26	)	$	1,021
2008:
Facility lease obligations	$	-		$	75		$	75
Total facility realignment charge	$	-		$	75		$	75

(1) The asset impairments resulted in charges to the accumulated depreciation balance

Sales Marketing
Services Services Total
2005:
Facility lease obligations $ 1,057 $ 1,297 $ 2,354
Total facility realignment charge $ 1,057 $ 1,297 $ 2,354
2006:
Facility lease obligations $ 803 $ (146 ) $ 657
Asset impairments (1) 474 821 1,295
Total facility realignment charge $ 1,277 $ 675 $ 1,952

~~(1) The asset impairments resulted in changes to the accumulated depreciation balance.~~

The following table presents a reconciliation of the restructuring charges in ~~2005~~2007 and ~~2006~~2008 to the balance at December 31, ~~2006~~2008 and ~~2005,~~2007, which is included in other accrued ~~liabilities~~expenses ($~~1.0~~0.2 million and ~~$1.2~~$0.3 million, respectively) and in ~~other~~ long-term liabilities ($~~1.3~~0.4 million and ~~$1.1~~$0.4 million, respectively):

Balance as of December 31, 2004	$	-
Facility realignment charge		2,354
				Sales			Marketing
				Services			Services			Total

Balance as of December 31, 2006				$	1,549		$	763		$	2,312
Accretion					11			10			21
Adjustments					(198	)		(82	)		(280	)
Payments		(19	)		(1,089	)		(289	)		(1,378	)
Balance as of December 31, 2005	$	2,335

Balance as of December 31, 2007				$	273		$	402		$	675
Accretion		51			6			7			13
Adjustments					-			75			75
Payments		(680	)		(87	)		(117	)		(204	)
Adjustments		606
Balance as of December 31, 2006	$	2,312
Balance as of December 31, 2008				$	192		$	367		$	559

Charges for facility lease obligations relate to real estate lease contracts where the Company has exited certain space and is required to make payments over the remaining lease term (January 2016 and November 2016 for the Saddle River, New Jersey facility and for the Dresher, Pennsylvania facility, respectively). All lease termination amounts are shown net of projected sublease income. The ~~charge~~charges in 2008 pertained to a change in the estimated time it will take to sublet the remaining Dresher space. The charges in 2007 were primarily related to the exiting of the computer data center space at its Saddle River location as the Company is now outsourcing that capability. The charges in 2006 ~~reflect~~reflected additional space exited as well as additional charges to reflect the softness of the real estate market in both areas as neither sublet despite actively marketing the spaces. Additionally, in 2006, the Company recorded an impairment charge related to leasehold improvements in both spaces as ~~the Company determined~~ it was unlikely that itthe Company will be able to recover the carrying value of these assets.

F-24

~~F-26~~

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

18.

17.

Income Taxes

Deferred tax assets and liabilities are determined based on the estimated future tax effects of temporary differences between the financial statements and tax bases of assets and liabilities, as measured by the current enacted tax rates. Deferred tax expense (benefit) is the result of changes in the deferred tax asset and liability.

The provision (benefit) for income taxes from continuing operations for the years ended December 31, 2008, 2007 and 2006 ~~2005~~is comprised of the following:

	2008		2007		2006
Current:
Federal	$	278	$	465	$	(1,520	)
State		266		189		(1,914	)
Total current		544		654		(3,434	)

Deferred:
Federal		314		1,058		2,592
State		17		55		118
Total deferred		331		1,113		2,710
Provision for income taxes	$	875	$	1,767	$	(724	)

Total income tax expense in 2008, 2007 and ~~2004 are summarized as follows:~~2006, including taxes associated with discontinued operations was $0.9 million, $1.8 million, and ($0.5) million, respectively.

2006

2005

2004

Current:
Federal $ (1,520 ) $ (5,867 ) $ 3,320
State (1,914 ) (379 ) 1,904
Total current (3,434 ) (6,246 ) 5,224

Federal 2,592 3,662 8,039
State 118 2,785 1,160
Total deferred 2,710 6,447 9,199
Provision for income taxes $ (724 ) $ 201 $ 14,423

~~The deferred income taxes reflect the net tax effects of temporary differences between the bases of assets and liabilities for financial reporting purposes and their bases for income tax purposes.~~ The tax effects of significant items comprising the Company’s deferred tax assets and (liabilities) as of December 31, ~~2006~~2008 and ~~2005~~2007 are as follows:

	2008			2007
Current deferred tax assets (liabilities)
included in other current assets:
Allowances and reserves	$	4,931		$	1,402
Compensation		3,022			905
Valuation allowance on deferred tax assets		(7,953	)		(2,307	)
		-			-
Noncurrent deferred tax assets (liabilities)
included in other long-term assets:
State net operating loss carryforwards		3,171			2,221
Federal net operating loss carryforwards		10,218			3,148
State taxes		1,052			1,066
Compensation		(474	)		-
Equity investment		135			128
Self insurance and other reserves		1,736			1,940
Property, plant and equipment		978			178
Intangible assets		(681	)		(291	)
Other reserves - restructuring		25			(64	)
Valuation allowance on deferred tax assets		(17,603	)		(9,439	)
		(1,443	)		(1,113	)
Net deferred tax liability	$	(1,443	)	$	(1,113	)

2006

2005

Current deferred tax assets (liabilities)
included in other current assets:
Allowances and reserves $ 1,580 $ 2,001
Contract costs 31 2,394
Compensation 835 717
Valuation allowance on deferred tax assets (2,446 ) (2,402 )
- 2,710
Noncurrent deferred tax assets (liabilities)
included in other long-term assets:
Property, plant and equipment (1,133 ) (1,631 )
State net operating loss carryforwards 2,048 1,955
State taxes 1,016 1,731
Intangible assets (172 ) 3,088
Equity investment 505 509
Self insurance and other reserves 2,703 1,766
Other accruals (629 ) -
Valuation allowance on deferred tax assets (4,338 ) (7,418 )
- -
Net deferred tax asset $ - $ 2,710

At December 31, 2006 and 2005, the Company had a valuation allowance of approximately $6.8 million and $9.8 million, respectively, related to the Company's net deferred tax assets that cannot be carried back.

The Company performs an analysis each year to determine whether the expected future income will more likely than not be sufficient to realize the deferred tax assets. The Company's recent operating results and projections of future income weighed heavily in the Company's overall assessment. As a result, the Company established a full federal and state valuation allowance for the net deferred tax assets at December 31, ~~2006~~2008 and 2007 because the Company determined that it was more likely than not that these assets would not be realized. ~~Similarly, at~~At December 31, ~~2005,~~2008 and 2007, the Company ~~established~~had a ~~federal and state~~ valuation allowance ~~for its~~of approximately $25.6 million and $11.7 million, respectively, related to the Company's net deferred tax assets in excess of the benefit that could be realized from a net operating loss carryback. At December 31, 2006, the Company has approximately $40.8 million of state net operating loss carryforwards, which has a full valuation allowance at December 31, 2006. These state operating losses will begin to expire in 2010.assets.

F-25

~~F-27~~

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The noncurrent net deferred tax liability relates to tax amortization of the tax basis in goodwill associated with the Pharmakon acquisition. Prior to 2007, the Company included in net deferred tax assets, the deferred tax liability related to the Pharmakon acquisition. In the first quarter of 2007 the Company determined that this deferred tax liability would not be realizable for an indeterminate time in the future and consequently should not be included in net deferred tax assets for purposes of calculating the valuation allowance in any period. As a result, the Company increased the valuation allowance by $882,000 in the first quarter of 2007. The Company did not believe this increase was material to the results of operations or its financial position in 2007. The Company also believes that the additional valuation allowance that would have resulted as of December 31, 2006 was not material to the results of operations or the financial position of the Company in those years.

Federal tax attribute carryforwards at December 31, 2008, consist primarily of approximately $29.2 million of net operating losses and $339,000 of capital losses. In addition, the Company has approximately $63.5 million of state net operating losses carryforwards. The utilization of the federal carryforwards as an available offset to future taxable income is subject to limitations under federal income tax laws. If the federal net operating losses are not utilized, they begin to expire in 2027, and if the current state net operating losses are not utilized they begin to expire in 2009. The capital losses can only be utilized against capital gains and $339,000 will expire in 2009.

A reconciliation of the difference between the federal statutory tax rates and the Company's effective tax rate is as follows:

	2006			2005			2004			2008	2007	2006
Federal statutory rate		35.0	%		(35.0	%)		35.0	%	(35.0%)	(35.0%)	35.0%
State income tax rate, net
of Federal tax benefit		(11.0	%)		17.9	%		5.7	%	1.8%	1.0%	(11.0%)
Meals and entertainment		0.3	%		0.7	%		0.2	%	0.1%	0.4%	0.3%
Valuation allowance		(26.9	%)		18.4	%		0.9	%	34.1%	46.8%	(26.9%)
Other non-deductible										0.9%	0.2%	(2.0%)
Tax exempt income		(6.0	%)		(2.9	%)		(0.4	%)	0.0%	(2.7%)	(6.0%)
Other		1.8	%		2.7	%		-
Net change in Federal and state reserves										0.7%	10.8%	3.8%
Effective tax rate		(6.8	%)		1.80	%		41.40	%	2.6%	21.5%	(6.8%)

The Company adopted the provisions of FIN48 on January 1, 2007. As a result of the implementation of FIN 48, the Company recognized no material adjustment in the liability for unrecognized income tax benefits. At the adoption date of January 1, 2007, the Company had $4.0 million of unrecognized tax benefits, all of which would affect its effective tax rate if recognized. At December 31, 2007, the Company had $4.1 million of unrecognized tax benefits, all of which would affect its effective tax rate if recognized.

Upon adoption of FIN 48, the Company’s income tax liabilities as of January 1, 2007 included a total of $4.0 million for unrecognized tax benefits, excluding approximately $925,000 of related accrued interest, and approximately $300,000 of related penalties. A reconciliation of the beginning and ending amount of unrecognized tax benefits, excluding accrued interest and penalties, is as follows:

	Unrecognized
	Tax Benefits
Balance of unrecognized benefits as of January 1, 2007	$	4,027
Additions for tax positions related to the current year		11
Additions for tax positions of prior years		209
Reductions for tax positions of prior years		(137	)
Balance as of December 31, 2007	$	4,110
Reductions for tax positions of prior years		(157	)
Balance as of December 31, 2008	$	3,953

F-26

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

The Company recognizes interest and penalties, if any, related to unrecognized tax benefits in income tax expense. As of December 31, 2008, the Company recognized approximately $504,000, respectively, of such interest expense as a component of its “Provision (benefit) for income taxes." The liability for unrecognized tax benefits included accrued interest of $1.8 million and $1.4 million at December 31, 2008 and January 1, 2008, respectively. The Company has approximately $265,000 and $300,000 of accrued liabilities or expense for penalties related to unrecognized tax benefits for the years ended December 31, 2008 and 2007, respectively.

The Company and its subsidiaries file a U.S. Federal consolidated income tax return and consolidated and separate income tax returns in numerous state and local tax jurisdictions. The following tax years remain subject to examination as of December 31, 2008:

Jurisdiction	Tax Years
Federal	2003-2007
State and Local	2002-2007

The Company reached an agreement with the Internal Revenue Service (IRS) examiner in regards to the audit of the 2003, 2004 and 2005 tax years. The adjustments are not material to the Company's financial position, results of operations or cash flows. The Company does not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months.

The Company is currently in the examination phase of a state and local income tax audit for the years 2003 through 2006, and expects this audit to be completed within the next 12 months with no material adjustments.

~~19.~~

18.	Historical Basic and Diluted Net (Loss)/Income per Share

Historical basic and diluted net (loss)/income per share is calculated based on the requirements of SFAS No. 128, “Earnings Per Share.” A reconciliation of the number of shares used in the calculation of basic and diluted earnings per share for the years ended December 31, ~~2006, 2005~~2008, 2007 and ~~2004~~2006 is as follows:

	Years Ended December 31,
	2008		2007		2006

Basic weighted average number of common shares		14,012		13,940		13,859
Dilutive effect of stock options, SARs, and
restricted stock		-		-		135
Diluted weighted average number
of common shares		14,012		13,940		13,994

Years Ended December 31,
2006 2005 2004
(in thousands) (in thousands) (in thousands)
Basic weighted average number of common shares 13,859 14,232 14,564
Dilutive effect of stock options, SARs, and
restricted stock 135 - 329
Diluted weighted average number
of common shares 13,994 14,232 14,893
Outstanding options at December 31, 2008 to purchase 304,531 of common stock with exercise prices of $7.70 to $83.69 were not included in the computation of historical and pro forma diluted net income per share because to do so would have been antidilutive, as a result of the Company’s net loss in 2008. In addition, there were 492,846 SARs outstanding with exercise prices $4.28 to $20.15 that were not included in the computation of earnings per share as a result of the Company’s net loss.

Outstanding options at December 31, 2007 to purchase 372,441 shares of common stock with exercise prices of $7.70 to $83.69 were not included in the computation of historical and pro forma diluted net income per share because to do so would have been antidilutive, as a result of the Company’s net loss in 2007. In addition, there were 274,384 outstanding SARs with exercise prices $9.52 to $20.15 that were not included in the computation of earnings per share as a result of the Company’s net loss.

Outstanding options at December 31, 2006 to purchase 734,404 shares of common stock with exercise prices of $14.16 to $93.75 were not included in the 2006 computation of historical and pro forma diluted net income per share because the exercise prices of the options were greater than the average market price per share of the common stock and therefore, the effect would have been antidilutive. In addition, there were 81,856 outstanding SARs with exercise prices $12.52 to $20.15 that were not included in the 2006 computation of historical and pro forma diluted net income per share because the exercise prices of the options were greater than the average market price per share of the common stock and therefore, the effect would have been antidilutive.

Outstanding options at December 31, 2005 to purchase 1,271,890 shares of common stock with exercise prices of $5.21 to $93.75 per share were not included in the 2005 computation of historical and pro forma diluted net income per share because to do so would have been antidilutive, as a result of the Company’s net loss in 2005. Additionally, 109,206 SARs were outstanding at December 31, 2005, and were not included in the computation of earnings per share as a result of the Company’s net loss.

F-27

Outstanding options at December 31, 2004 to purchase 409,182 shares of common stock with exercise prices of $27.00 to $93.75 were not included in the 2004 computation of historical and pro forma diluted net income per share because the exercise prices of the options were greater than the average market price per share of the common stock and therefore, the effect would have been antidilutive.

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

~~20.~~

19.

Discontinued Operations

~~As announced in December 2005, the~~The Company discontinued its MD&D business in the second quarter of 2006. The MD&D business included the Company’s MD&D contract sales and clinical sales teams and was previously reported in the sales services reporting segment. ~~The MD&D business~~There was ~~abandoned through the run off of~~no activity within discontinued operations ~~(i.e., to cease accepting new business but to continue to provide service under remaining contracts until they expire~~in 2007 or terminate). In accordance with FAS No. 144, operations must be abandoned prior to reporting them as discontinued operations. The last active contract within MD&D ended in the second quarter of 2006. All prior periods have been restated to reflect the treatment of this unit as a discontinued operation.2008. Summarized selected financial information for the discontinued operations is as follows:

	For the Year Ended December 31, 2006
Revenue, net	$	1,876

Income from discontinued
operations before income tax	$	693
Income tax expense		259
Net income from
discontinued operations	$	434

~~F-28~~

~~PDI, Inc.~~

~~Notes to the Consolidated Financial Statements (Continued)~~

~~(tabular information in thousands, except share and per share data~~)

For the Year Ended December 31,

2006

2005

2004

Revenue, net $ 1,876 $ 14,210 $ 18,647

Income (loss) from discontinued
operations before income tax $ 693 $ (8,047 ) $ 1,112
Income tax expense 259 - 415
Net income (loss) from
discontinued operations $ 434 $ (8,047 ) $ 697

~~21.~~

20.

Segment Information

~~The Company reports under the following three segments, which excludes the MD&D reporting unit which is now reported as a discontinued operation:~~

Sales services segment - includes the Company’s Performance and Select Access teams. This segment uses teams to deliver services to a wide base; they have similar long-term average gross margins, contract terms, types of customers and regulatory environments. One segment manager oversees the operations of all of these units and regularly discusses the results of operations, forecasts and activities of this segment with the chief operating decision maker;

Marketing services segment - includes the Company’s marketing research and medical education and communication services. This segment is project driven; the units comprising it have a large number of smaller contracts, share similar gross margins, have similar customers, and have low barriers to entry for competition. There are many discrete offerings within this segment, including: accredited continuing medical education (CME), content development for CME, promotional medical education, marketing research and communications. One segment manager oversees the operations of all of these units and regularly discusses the results of operations, forecasts and activities of this segment with the chief operating decision maker; and

PDI products group (PPG) - includes revenues that were earned through the Company’s licensing and copromotion of pharmaceutical and MD&D products. There are currently no ongoing operations in this segment. Any business opportunities are reviewed by the chief executive officer and other members of senior management.

The accounting policies followed by the segments are described in Note 1, Nature of Business and Significant Accounting Policies. Corporate charges are allocated to each of the operating segments on the basis of total salary costs. Corporate charges include corporate headquarter costs and certain depreciation expenses. Certain corporate capital expenditures have not been allocated from the sales services segment to the other operating segments since it is impracticable to do so.

The Company reports under the following three segments:

Sales services segment – includes the Company’s Performance and Select Access teams. This segment uses teams to deliver services to a wide base; they have similar long-term average gross margins, contract terms, types of customers and regulatory environments. One segment manager oversees the operations of all of these units and regularly discusses the results of operations, forecasts and activities of this segment with the chief operating decision maker;

Marketing services segment – includes the Company’s marketing research and medical education and communication services. This segment is project driven; the units comprising it have a large number of smaller contracts, share similar gross margins, have similar customers, and have low barriers to entry for competition. There are many discrete offerings within this segment, including: accredited continuing medical education (CME), content development for CME, promotional medical education, marketing research and communications. The CME portion of this segment will be discontinued in 2009. Two unit managers oversee the operations of these units and regularly discuss the results of operations, forecasts and activities of this segment with the chief operating decision maker; and

Product commercialization segment – includes revenues and expenses associated with the Company’s licensing and co-promotion of pharmaceutical products. In 2008, this segment consisted of our current promotional agreement with Novartis. Any business opportunities are reviewed by the chief executive officer and other members of senior management.

F-28

~~F-29~~

PDI, Inc.

Notes to the Consolidated Financial Statements (Continued)

(tabular information in thousands, except share and per share data)

	Sales			Marketing			Product
	Services			Services			Commercialization			Consolidated
For the year ended December 31, 2008:
Revenue	$	89,656		$	23,872		$	(1,000	)	$	112,528
Operating loss		(7,196	)		(3,070	)		(26,161	)		(36,427	)
Capital expenditures		339			60			-			399
Depreciation expense		2,570			652			97			3,319
Total assets		112,469			36,567			-			149,036

For the year ended December 31, 2007:
Revenue	$	86,766		$	30,365		$	-		$	117,131
Operating loss		(13,918	)		(362	)		-			(14,280	)
Capital expenditures		870			139			-			1,009
Depreciation expense		3,477			828			-			4,305
Total assets		140,161			39,393			-			179,554

For the year ended December 31, 2006:
Revenue	$	202,748		$	36,494		$	-		$	239,242
Operating income		33			2,798			3,082			5,913
Capital expenditures		1,508			262			-			1,770
Depreciation expense		3,671			679			-			4,350
Total assets		157,750			43,886			-			201,636

For the Year Ended December 31,

2006

2005

2004

Revenue:
Sales services $ 202,748 $ 270,420 $ 313,784
Marketing services 36,494 34,785 29,057
PPG - - 2,956
Total $ 239,242 $ 305,205 $ 345,797
Operating income (loss):
Sales services $ 33 $ (17,386 ) $ 32,906
Marketing services 2,798 (1,186 ) 1,535
PPG 3,082 (268 ) (362 )
Total $ 5,913 $ (18,840 ) $ 34,079
Reconciliation of income (loss) from operations to
income (loss) before income taxes:
Total income (loss) from operations
for operating groups $ 5,913 $ (18,840 ) $ 34,079
Gain (loss) on investments - 4,444 (1,000 )
Interest income, net 4,738 3,190 1,779
Income (loss) before income taxes $ 10,651 $ (11,206 ) $ 34,858
Capital expenditures: (1)
Sales services $ 1,508 $ 2,901 $ 7,645
Marketing services 262 2,881 433
PPG - - -
Total $ 1,770 $ 5,782 $ 8,078
Depreciation expense: (1)
Sales services $ 3,671 $ 3,260 $ 4,132
Marketing services 679 550 627
PPG - - 27
Total $ 4,350 $ 3,810 $ 4,786
Total assets
Sales services $ 157,750 $ 148,642 $ 179,754
Marketing services 43,886 51,517 44,516
PPG - - 435
Total $ 201,636 $ 200,159 $ 224,705

(1) Capital expenditures and depreciation expense do not include amounts for discontinued operations.

F-29

~~F-30~~

PDI, INC.
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 2006, 2007 AND 2008

	Balance at		Additions			(1)		Balance at
	Beginning		Charged to		Deductions			end
Description	of Period		Operations		Other			of Period
2006
Allowance for doubtful accounts	$	778,407	$	35,713	$	(778,407	)	$	35,713
Allowance for doubtful notes		1,242,378		38,051		(495,837	)		784,592
Tax valuation allowance		9,820,101		-		(3,035,884	)		6,784,217
Accrued product rebates, sales
discounts and returns		230,859		-		-			230,859

2007
Allowance for doubtful accounts	$	35,713	$	-	$	(35,713	)	$	-
Allowance for doubtful notes		784,592		30,416		(159,163	)		655,845
Tax valuation allowance		6,784,217		-		4,960,586			11,744,803
Accrued product rebates, sales
discounts and returns		230,859		-		-			230,859

2008
Allowance for doubtful accounts	$	-	$	-	$	-		$	-
Allowance for doubtful notes		655,845		30,500		-			686,345
Tax valuation allowance		11,744,803		-		13,811,001			25,555,804
Accrued product rebates, sales
discounts and returns		230,859		-		-			230,859


(1) Includes payments and actual write offs, as well as changes in estimates in the reserves and
the impact of acquisitions.

F-30

Schedule II

PDI, INC.

VALUATION AND QUALIFYING ACCOUNTS

YEARS ENDED DECEMBER 31, 2004, 2005 AND 2006

Balance at Additions (1) Balance at
Beginning Charged to Deductions end
Description of Period Operations Other of Period
2004

Allowance for doubtful accounts $ 749,341 $ 654,903 $ (1,330,660 ) $ 73,584
Allowance for doubtful notes - 500,000 - 500,000
Tax valuation allowance 1,881,851 322,436 - 2,204,287
Inventory valuation allowance 817,865 - (817,865 ) -
Accrued product rebates, sales
discounts and returns 22,810,826 1,676,000 (20,171,058 ) 4,315,768

2005

Allowance for doubtful accounts $ 73,584 $ 713,669 $ (8,847 ) $ 778,407
Allowance for doubtful notes 500,000 842,378 (100,000 ) 1,242,378
Tax valuation allowance 2,204,287 9,318,890 (1,703,076 ) 9,820,101
Accrued product rebates, sales
discounts and returns 4,315,768 31,551 (4,116,460 ) 230,859

2006

Allowance for doubtful accounts $ 778,407 $ 35,713 $ (778,407 ) $ 35,713
Allowance for doubtful notes 1,242,378 38,051 (495,837 ) 784,592
Tax valuation allowance 9,820,101 - (3,035,884 ) 6,784,217
Accrued product rebates, sales
discounts and returns 230,859 - - 230,859

(1) Includes payments and actual write offs, as well as changes in estimates in the reserves and
the impact of acquisitions.

(Mark One)
ý	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, ~~2006~~ 2008
OR
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________to_________________

PDI, Inc.
(Exact name of registrant as specified in its charter)

Delaware		22-2919486
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

Saddle River Executive Centre 1 State Route 17 South, Saddle River, NJ 07458
(Address of principal executive offices and zip code)

(201) 258-8450
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Common Stock, par value $0.01 per share	~~The Nasdaq Stock Market LLC~~
~~(Title of each class)~~	( Name of each exchange on which ~~registered)~~registered The Nasdaq Stock Market LLC

Securities registered pursuant to Section 12(g) of the Act: None


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

			Page
PART I
	Item 1.	Business	5
	Item 1A.	Risk Factors	910
	Item 1B.	Unresolved Staff Comments	1417
	Item 2.	Properties	1417
	Item 3.	Legal Proceedings	1417
	Item 4.	Submission of Matters to a Vote of Security Holders	1618

PART II
	Item 5.	Market for our Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	1718
	Item 6.	Selected Financial Data	1820
	Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	2021
	Item 7A.	Quantitative and Qualitative Disclosures about Market Risk	3837
	Item 8.	Financial Statements and Supplementary Data	3937
	Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosures	3937
	Item 9A.	Controls and Procedures	3937
	Item 9B.	Other Information	4039

PART III
	Item 10.	Directors, Executive Officers and Corporate Governance	4139
	Item 11.	Executive Compensation	4139
	Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	4139
	Item 13.	Certain Relationships and Related Transactions, and Director Independence	4139
	Item 14.	Principal Accounting Fees and Services	4139

PART IV
	Item 15.	Exhibits, ~~and~~ Financial Statement Schedules	4240

Signatures			4442

	2008				2007
	HIGH		LOW		HIGH		LOW
First quarter	$	9.40	$	7.01	$	10.98	$	9.21
Second quarter	$	9.15	$	7.61	$	11.28	$	9.00
Third quarter	$	9.23	$	7.22	$	12.40	$	9.09
Fourth quarter	$	7.80	$	3.10	$	10.68	$	8.56

ITEM 5.	MARKET FOR OUR COMMON EQUITY, RELATED STOCKHOLDER MATTERS
	AND ISSUER PURCHASES OF EQUITY SECURITIES

					Number of securities
					remaining available for
	Number of securities to		Weighted-average		future issuance
	be issued upon exercise		exercise price of		(excluding securities
Plan Category	of outstanding options (a)⁽¹⁾		outstanding options (b)		reflected in column (a)) ⁽¹⁾
Equity compensation plans
approved by security holders
(2004 Stock Award and
Incentive Plan, 2000 Omnibus
Incentive Compensation Plan,
and 1998 Stock Option Plan)		807,238	$	26.03		1,028,453

Equity compensation plans not
approved by security holders		-		-		-
Total		807,238	$	26.03		1,028,453

(1) Excludes restricted stock and stock-settled stock appreciation rights.

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights		Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
	(a)		(b)		(c)
Equity compensation plans approved by security holders (2004 Stock Award and Incentive Plan, 2000 Omnibus Incentive Compensation Plan, and 1998 Stock Option Plan)		304,531	$	23.48		1,208,697

Equity compensation plans not approved by security holders (1)		-		-		-
Total		304,531	$	23.48		1,208,697

(1) Excludes restricted stock, restricted stock units and stock-settled stock appreciation rights.

(in thousands, except per share data)	2006				2005					2004				2003				2002						2008			2007			2006			2005			2004
Continuing operations data:
Total revenues, net	$	239,242			$	305,205				$	345,797	⁽⁴	⁾	$	330,547	⁽⁵	⁾	$	295,199		⁽⁵	⁾		$	112,528		$	117,131		$	239,242		$	305,205		$	345,797	(7)
Gross profit		55,844				52,402					92,633				84,960				25,070						4,513	(1)		31,615			55,844			52,402			92,633

Operating expenses		49,931	⁽¹	⁾		65,064		⁽²	⁾		58,554				65,897				73,251		⁽⁶	⁾			40,917	(2)		45,853	(3)		49,931	(4)		65,064	(5)		58,554
Asset impairment		-				6,178		⁽³	⁾		-				-				-						23			42			-			6,178	(6)		-
Total operating expenses		49,931				71,242					58,554				65,897				73,251						40,940			45,895			49,931			71,242			58,554

Income (loss) from
(Loss) income from
continuing operations	$	11,375			$	(11,407	)			$	20,435			$	11,931			$	(29,540	)				$	(34,461)		$	(9,974)		$	11,375		$	(11,407)		$	20,435

Per share data from continuing operations:																							Per share data from continuing operations:
Income (loss) per share of common stock
(Loss) income per share of common stock																							(Loss) income per share of common stock
Basic	$	0.82			$	(0.80	)			$	1.40			$	0.84			$	(2.11	)				$	(2.46)		$	(0.72)		$	0.82		$	(0.80)		$	1.40
Diluted	$	0.81			$	(0.80	)			$	1.37			$	0.83			$	(2.11	)				$	(2.46)		$	(0.72)		$	0.81		$	(0.80)		$	1.37

Weighted average number of shares outstanding:																							Weighted average number of shares outstanding:
Basic		13,859				14,232					14,564				14,231				14,033						14,012			13,940			13,859			14,232			14,564
Diluted		13,994				14,232					14,893				14,431				14,033						14,012			13,940			13,994			14,232			14,893

Balance sheet data:
Cash and short-term investments	$	114,684			$	97,634				$	109,498			$	114,632			$	72,661					$	90,233		$	106,985		$	114,684		$	97,634		$	109,498
Working capital		112,186				92,264					96,156				100,009				81,854						81,639			110,739			112,186			92,264			96,156
Total assets		201,636				200,159					224,705				219,623				190,939						149,036			179,554			201,636			200,159			224,705
Total long-term debt		-				-					-				-				-						-			-			-			-			-
Stockholders' equity		149,197				135,610					165,425				138,488				123,211						107,107			140,189			149,197			135,610			165,425

	Years Ended December 31,
Continuing operations data	2006			2005			2004			2003			2002
Revenues:
Service, net		100.0	%		100.0	%		100.4	%		103.5	%		97.8	%
Product, net		-			-			(0.4	%)		(3.5	%)		2.2	%
Total revenues, net		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%
Cost of goods and services:
Cost of services		76.7	%		82.8	%		73.1	%		73.9	%		91.5	%
Cost of goods sold		-			-			0.1	%		0.4	%		-
Total cost of goods and services		76.7	%		82.8	%		73.2	%		74.3	%		91.5	%

Gross profit		23.3	%		17.2	%		26.8	%		25.7	%		8.5	%

Operating expenses:
Compensation expense		11.7	%		8.5	%		8.9	%		10.6	%		10.4	%
Other selling, general and administrative		9.5	%		9.6	%		7.2	%		8.6	%		13.3	%
Asset impairment		-			2.0	%		-			-			-
Executive severance		0.2	%		1.9	%		0.1	%		-			-
Legal and related costs, net		(1.4	%)		0.6	%		0.7	%		0.7	%		1.1	%
Facilities realignment		0.8	%		0.8	%		-			-			-
Total operating expenses		20.9	%		23.3	%		16.9	%		19.9	%		24.8	%

Operating income (loss)		2.5	%		(6.2	%)		9.9	%		5.8	%		(16.3	%)
Gain (loss) on investments		-			1.5	%		(0.3	%)		-			-
Interest income, net		2.0	%		1.0	%		0.5	%		0.3	%		0.7	%
Income (loss) from continuing operations
before income taxes		4.5	%		(3.7	%)		10.1	%		6.1	%		(15.7	%)
Income tax (benefit) expense		(0.3	%)		0.1	%		4.2	%		2.5	%		(5.6	%)
Income (loss) from continuing operations		4.8	%		(3.7	%)		5.9	%		3.6	%		(10.0	%)

Revenue (in thousands)

					Change			Change
	2006		2005		($)			(%)
Sales services	$	202,748	$	270,420	$	(67,672	)		(25.0	%)
Marketing services		36,494		34,785		1,709			4.9	%
PPG		-		-		-			-
Total	$	239,242	$	305,205	$	(65,963	)		(21.6	%)


Cost of services (in thousands)

					Change			Change
	2006		2005		($)			(%)
Sales services	$	163,735	$	231,768	$	(68,033	)		(29.4	%)
Marketing services		19,663		21,035		(1,372	)		(6.5	%)
PPG		-		-		-			-
Total	$	183,398	$	252,803	$	(69,405	)		(27.5	%)

Gross profit (in thousands)

			% of					% of			Change			Change
	2006		revenue			2005		revenue			($)			(%)
Sales services	$	39,013		19.2	%	$	38,652		14.3	%	$	(361	)		0.9	%
Marketing services		16,831		46.1	%		13,750		39.5	%		(3,081	)		22.4	%
PPG		-		-			-		-			-			-
Total	$	55,844		23.3	%	$	52,402		17.2	%	$	(3,442	)		6.6	%

Compensation expense (in thousands)

			% of					% of			Change			Change
	2006		revenue			2005		revenue			($)			(%)
Sales services	$	19,410		9.6	%	$	18,397		6.8	%	$	1,013			5.5	%
Marketing services		8,665		23.7	%		7,499		21.6	%		1,166			15.5	%
PPG		-		-			1		-			(1	)		(100.0	%)
Total	$	28,075		11.7	%	$	25,897		8.5	%	$	2,178			8.4	%

Other SG&A (in thousands)

			% of					% of			Change			Change
	2006		revenue			2005		revenue			($)			(%)
Sales services	$	18,109		8.9	%	$	23,607		8.7	%	$	(5,498	)		(23.3	%)
Marketing services		4,501		12.3	%		5,775		16.6	%		(1,274	)		(22.1	%)
PPG		-		-			10		-			(10	)		(100.0	%)
Total	$	22,610		9.5	%	$	29,392		9.6	%	$	(6,782	)		(23.1	%)

Operating income (loss) (in thousands)

			% of						% of			Change		Change
	2006		revenue			2005			revenue			($)		(%)
Sales services	$	33		0.0	%	$	(17,386	)		(6.4	%)	$	17,419		100.2	%
Marketing services		2,798		7.7	%		(1,186	)		(3.4	%)		3,984		335.9	%
PPG		3,082		0.0	%		(268	)		0.0	%		3,350		1,250.0	%
Total	$	5,913		2.5	%	$	(18,840	)		(6.2	%)	$	24,753		131.4	%

Cost of goods and services (in thousands)

					Change			Change
	2005		2004		($)			(%)
Sales services	$	231,768	$	236,681	$	(4,913	)		(2.1	%)
Marketing services		21,035		16,352		4,683			28.6	%
PPG		-		131		(131	)		(100.0	%)
Total	$	252,803	$	253,164	$	(361	)		(0.1	%)

	For the Quarters ended
	March 31			June 30			September 30			December 31
2006 Quarters:
Total revenues, net	$	77,144		$	54,951		$	51,317		$	55,830
Gross profit		18,704			11,958			12,403			12,779
Operating income (loss) ⁽¹⁾		7,504			37			(611	)		(1,017	)
Income from
continuing operations		5,422			707			409			4,837
Income (loss) from discontinued
operations, net of tax		199			188			54			(7	)
Net income		5,621			895			463			4,830

Income (loss) per share:
Basic
Continuing operations	$	0.39		$	0.05		$	0.03		$	0.35
Discontinued operations		0.01			0.01			0.00			(0.00	)
	$	0.41		$	0.06		$	0.03		$	0.35
Diluted
Continuing operations	$	0.39		$	0.05		$	0.03		$	0.35
Discontinued operations		0.01			0.01			0.00			(0.00	)
	$	0.40		$	0.06		$	0.03		$	0.35

Weighted average number of shares:
Basic		13,824			13,857			13,871			13,883
Diluted		13,914			13,953			13,987			13,995

2005 Quarters:
Total revenues, net	$	77,955		$	76,058		$	72,854		$	78,338
Gross profit		16,231			13,670			10,041			12,460
Operating loss ⁽¹⁾		(925	)		(179	)		(8,333	)		(9,403	)
(Loss) income from
continuing operations		(147	)		4,441			(4,278	)		(11,423	)
Income (loss) from discontinued
operations, net of tax		85			72			94			(8,298	)
Net (loss) income		(62	)		4,513			(4,184	)		(19,721	)

(Loss) income per share:
Basic
Continuing operations	$	(0.01	)	$	0.30		$	(0.31	)	$	(0.83	)
Discontinued operations		0.01			0.00			0.01			(0.60	)
	$	(0.00	)	$	0.31		$	(0.30	)	$	(1.43	)
Diluted
Continuing operations	$	(0.01	)	$	0.30		$	(0.31	)	$	(0.83	)
Discontinued operations		0.01			0.00			0.01			(0.60	)
	$	(0.00	)	$	0.31		$	(0.30	)	$	(1.43	)

	/s/Ernst &Young LLP

MetroPark, New ~~York, NY~~Jersey
March ~~15, 2007~~11, 2009

Exhibit No.		Description

3.1		Certificate of Incorporation of PDI, Inc. (1)⁽¹⁾

3.2		By-Laws of PDI, ~~Inc .~~ Inc. (1)⁽¹⁾

3.3		Certificate of Amendment of Certificate of Incorporation of PDI, Inc. (3)⁽³⁾

4.1		Specimen Certificate Representing the Common Stock (1)⁽¹⁾

10.1*		~~Form of~~ 1998 Stock Option Plan (1)⁽¹⁾

10.2*		~~Form of~~ 2000 Omnibus Incentive Compensation Plan (2)⁽²⁾
10.3*		2004 Stock Award and Incentive Plan (4)
10.310.4		Form of Restricted Stock Unit Agreement for Employees, filed herewith.
10.5*		Form of Stock Appreciation Rights Agreement for Employees, filed herewith.
10.6*		Form of Restricted Stock Unit Agreement for Directors, filed herewith.
10.7*		Agreement between the Company and John P. Dugan (1)⁽¹⁾
10.8*
10.4*		~~Form of~~ Employment Separation Agreement between the Company and ~~Steven K. Budd, filed herewith~~Nancy Lurker (9)

10.510.9		~~Form of~~ Amended and Restated Employment Agreement between the Company and ~~Stephen Cotugno~~ Jeffrey Smith (10)⁽³⁾

~~10.6~~		~~Saddle River Executive Centre Lease~~ ⁽⁵⁾

10.7*		~~2004 Stock Award and Incentive Plan~~ ⁽⁴⁾

10.8*		~~Form of Agreement between the Company and Larry Ellberger~~ ⁽⁵⁾

10.9*		~~Form of Agreement between the Company and Bernard C. Boyle~~ ⁽⁵⁾

10.10*		~~Memorandum of Understanding~~Employment Separation Agreement between the Company and ~~Bernard C. Boyle~~ Michael Marquard (6)⁽⁵⁾

10.11*		~~Amendment to Memorandum of Understanding~~Employment Separation Agreement between the Company and ~~Bernard C. Boyle~~ Kevin Connolly (7)⁽⁵⁾

10.12		Saddle River Executive Centre Lease (5)
10.13		Saddle River Executive Centre 2005 Sublease ~~Agreement~~ (5)
10.14		⁽⁵⁾Saddle River Executive Centre 2007 Sublease (8)

10.13*Exhibit No.		~~Form of Agreement between the Company and Michael J. Marquard~~ ⁽⁶⁾

10.14*		~~Form of Agreement between the Company and Jeffrey E. Smith~~ ⁽⁶⁾

10.15*		~~Form of Agreement between the Company and Kevin Connolly, filed herewith~~Description

21.1		Subsidiaries of the Registrant, ⁽³⁾filed herewith.

23.1		Consent of Ernst & Young LLP, filed herewith.

~~Exhibit No.~~		~~Description~~
~~23.2~~		~~Consent of PricewaterhouseCoopers LLP filed herewith.~~

31.1		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.

31.2		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.

32.1		Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.

32.2		Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.


*		Denotes compensatory plan, compensation arrangement or management contract.

⁽¹⁾		Filed as an exhibit to our Registration Statement on Form S-1 (File No 333-46321), and incorporated herein by reference.

⁽²⁾		Filed as an ~~Exhibit~~exhibit to our definitive proxy statement dated May 10, 2000, and incorporated herein by reference.

⁽³⁾		Filed as an exhibit to our Annual Report on Form 10-K for the year ended December 31, 2001, and incorporated herein by reference.

⁽⁴⁾		Filed as an ~~Exhibit~~exhibit to our definitive proxy statement dated April 28, 2004, and incorporated herein by reference.

⁽⁵⁾		Filed as an exhibit to our Form 10-K for the year ended December 31, 2005, and incorporated herein by reference.

⁽⁶⁾		Filed as an exhibit to our Form 10-Q for the quarter ended June 30, 2006, and incorporated herein by reference.

(7)		Filed as an exhibit to our Annual Report on Form 10-K for the year ended December 31, 2006, and incorporated herein by reference.

(8)		Filed as an exhibit to our Annual Report on Form 10-K for the year ended December 31, 2007, and incorporated herein by reference.

(9)		Filed as an exhibit to our Current Report on Form 8-K filed on November 18, 2008, and incorporated herein by reference.

(10)		Filed as an exhibit to our Current Report on Form 8-K filed on January 7, 2009, and incorporated herein by reference.

	PDI, INC.

	/ss/ ~~Michael J. Marquard~~Nancy Lurker
	~~Michael J. Marquard~~Nancy Lurker
	Chief Executive Officer

Signature		Title

/s/ John P. Dugan		Chairman of the Board of Directors
John P. Dugan

/ss/ ~~Michael J. Marquard~~Nancy Lurker		Chief Executive Officer and Director
~~Michael J. Marquard~~Nancy Lurker		(principal executive officer)

/s/ Jeffrey E. Smith		Chief Financial Officer and Treasurer
Jeffrey E. Smith		(principal accounting and financial officer)

/s/ John M. Pietruski		Director
John M. Pietruski

/s/ Jan Martens Vecsi		Director
Jan Martens Vecsi

/s/ Frank Ryan		Director
Frank Ryan

/s/ John Federspiel		Director
John Federspiel

/s/ Dr. Joseph T. Curti		Director
Dr. Joseph T. Curti

/s/ Stephen J. Sullivan		Director
Stephen J. Sullivan

/s/ Jack E. Stover		Director
Jack E. Stover

/s/ Gerald Belle		Director
Gerald Belle

/s/ Veronica Lubatkin		Director
Veronica Lubatkin

		Page

Report of Independent Registered Public Accounting Firm		F-2

~~Report of Independent Registered Public Accounting Firm~~		~~F-3~~

Financial Statements
	Consolidated Balance Sheets at December 31, ~~2006~~2008 and ~~2005~~2007	~~F-4~~F-3

	Consolidated Statements of Operations for each of the three years
	in the period ended December 31, ~~2006~~2008	~~F-5~~F-4

	Consolidated Statements of Stockholders’ Equity for each of the three years
	in the period ended December 31, ~~2006~~2008	~~F-6~~F-5

	Consolidated Statements of Cash Flows for each of the three years
	in the period ended December 31, ~~2006~~2008	~~F-7~~F-6

	Notes to Consolidated Financial Statements	~~F-8~~F-7

Schedule II. Valuation and Qualifying Accounts		~~F-31~~F-30

PDI, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)

	December 31,			December 31,
	2008			2007
ASSETS
Current assets:
Cash and cash equivalents	$	90,074		$	99,185
Short-term investments		159			7,800
Accounts receivable, net		15,786			22,751
Unbilled costs and accrued profits on contracts in progress		2,469			3,481
Other current assets		4,511			6,710
Total current assets		112,999			139,927
Property and equipment, net		5,423			8,348
Goodwill		13,612			13,612
Other intangible assets, net		13,388			14,669
Other long-term assets		3,614			2,998
Total assets	$	149,036		$	179,554

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable	$	2,298		$	2,792
Unearned contract revenue		3,678			8,459
Accrued salary and bonus		5,640			7,136
Accrued contract loss		10,021			-
Other accrued expenses		9,723			10,801
Total current liabilities		31,360			29,188
Long-term liabilities		10,569			10,177
Total liabilities		41,929			39,365

Commitments and contingencies (Note 9)

Stockholders’ equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized, no
shares issued and outstanding		-			-
Common stock, $.01 par value; 100,000,000 shares authorized;
15,272,704 and 15,222,715 shares issued, respectively;
14,223,669 and 14,183,236 shares outstanding, respectively		153			152
Additional paid-in capital		121,908			120,422
(Accumulated deficit)/retained earnings		(1,443	)		33,018
Accumulated other comprehensive (loss) income		(16	)		30
Treasury stock, at cost (1,049,035 and 1,039,479 shares, respectively)		(13,495	)		(13,433	)
Total stockholders' equity		107,107			140,189
Total liabilities and stockholders' equity	$	149,036		$	179,554







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

PDI, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)

	December 31,			December 31,
	2006			2005
ASSETS
Current assets:
Cash and cash equivalents	$	45,221		$	90,827
Short-term investments		69,463			6,807
Accounts receivable, net of allowance for doubtful accounts of
$36 and $778, respectively		25,416			27,148
Unbilled costs and accrued profits on contracts in progress		4,224			5,974
Income tax receivable		1,888			6,145
Other current assets		10,528			14,078
Total current assets		156,740			150,979
Property and equipment, net		12,809			16,053
Goodwill		13,612			13,112
Other intangible assets, net		15,950			17,305
Other long-term assets		2,525			2,710
Total assets	$	201,636		$	200,159

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable	$	3,915		$	5,693
Accrued income taxes		1,761			4,047
Unearned contract revenue		14,252			12,598
Accrued incentives		9,009			12,179
Accrued payroll and related benefits		1,475			3,709
Other accrued expenses		14,142			20,489
Total current liabilities		44,554			58,715
Long-term liabilities		7,885			5,834
Total liabilities		52,439			64,549

Commitments and contingencies (Note 9)

Stockholders’ equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized, no
shares issued and outstanding		-			-
Common stock, $.01 par value; 100,000,000 shares authorized;
15,096,976 and 14,947,771 shares issued, respectively;
14,078,970 and 13,929,765 shares outstanding, respectively		151			149
Additional paid-in capital		119,189			118,325
Retained earnings		42,992			31,183
Accumulated other comprehensive income		79			71
Unamortized compensation costs		-			(904	)
Treasury stock, at cost (1,018,006 shares)		(13,214	)		(13,214	)
Total stockholders' equity		149,197			135,610
Total liabilities and stockholders' equity	$	201,636		$	200,159





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

PDI, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except for per share data)

	For The Years Ended December 31,
	2008			2007			2006

Revenue, net	$	112,528		$	117,131		$	239,242
Cost of services		108,015			85,516			183,398
Gross profit		4,513			31,615			55,844

Operating expenses:
Compensation expense		22,838			24,516			28,075
Other selling, general and administrative expenses		16,532			20,023			22,610
Executive severance		1,237			-			573
Legal and related costs, net		258			335			(3,279	)
Facilities realignment		75			1,021			1,952
Total operating expenses		40,940			45,895			49,931

Operating (loss) income		(36,427	)		(14,280	)		5,913
Interest income, net		2,841			6,073			4,738

(Loss) income before income tax		(33,586	)		(8,207	)		10,651
Provision (benefit) for income tax		875			1,767			(724	)

(Loss) income from continuing operations		(34,461	)		(9,974	)		11,375

Income from discontinued operations,
net of tax		-			-			434

Net (loss) income	$	(34,461	)	$	(9,974	)	$	11,809

(Loss) income per share of common stock:
Basic:
Continuing operations	$	(2.46	)	$	(0.72	)	$	0.82
Discontinued operations		-			-			0.03
	$	(2.46	)	$	(0.72	)	$	0.85
Assuming dilution:
Continuing operations	$	(2.46	)	$	(0.72	)	$	0.81
Discontinued operations		-			-			0.03
	$	(2.46	)	$	(0.72	)	$	0.84

Weighted average number of common shares and
common share equivalents outstanding:
Basic		14,012			13,940			13,859
Assuming dilution		14,012			13,940			13,994






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

PDI, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)

	For The Years Ended December 31,
	2008						2007						2006
	Shares			Amount			Shares			Amount			Shares			Amount
Common stock:
Balance at January 1		15,223		$	152			15,097		$	151			14,948		$	149
Common stock issued		64			1			-			-			-			-
Restricted stock issued		122			1			167			1			155			2
Restricted stock forfeited		(136	)		(1	)		(41	)		-			(23	)		-
SARs exercised		-			-			-			-			1			-
Stock options exercised		-			-			-			-			16			-
Balance at December 31		15,273			153			15,223			152			15,097			151
Treasury stock:
Balance at January 1		1,039			(13,433	)		1,018			(13,214	)		1,018			(13,214	)
Treasury stock purchased		10			(62	)		21			(219	)		-			-
Balance at December 31		1,049			(13,495	)		1,039			(13,433	)		1,018			(13,214	)
Additional paid-in capital:
Balance at January 1					120,422						119,189						118,325
Common stock issued					299						-						-
Restricted stock issued					(1	)					(1	)					(2	)
Restricted stock forfeited					(7	)					(164	)					(95	)
Stock-based compensation expense					1,195						1,640						1,755
Stock grants exercised					-						-						87
Excess tax (expense) benefit
on stock-based compensation					-						(242	)					23
Reclassification of unamortized compensation					-						-						(904	)
Balance at December 31					121,908						120,422						119,189
(Accumulated deficit)retained earnings:
Balance at January 1					33,018						42,992						31,183
Net (loss) income					(34,461	)					(9,974	)					11,809
Balance at December 31					(1,443	)					33,018						42,992
Accumulated other
comprehensive (loss) income:
Balance at January 1					30						79						71
Reclassification of realized gain, net of tax					(17	)					(76	)					(33	)
Unrealized holding (loss)/gain, net of tax					(29	)					27						41
Balance at December 31					(16	)					30						79
Unamortized compensation costs:
Balance at January 1					-						-						(904	)
Reclassification to additional paid-in capital					-						-						904
Balance at December 31					-						-						-
Total stockholders' equity					107,107						140,189						149,197
Comprehensive (loss) income:
Net (loss) income				$	(34,461	)				$	(9,974	)				$	11,809
Reclassification of realized gain, net of tax					(17	)					(76	)					(33	)
Unrealized holding gain, net of tax					(29	)					27						41
Total comprehensive (loss) income				$	(34,507	)				$	(10,023	)				$	11,817


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

PDI, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except for per share data)

	For The Years Ended December 31,
	2006			2005			2004
Revenues:
Service, net	$	239,242		$	305,205		$	347,318
Product, net		-			-			(1,521	)
Total revenues, net		239,242			305,205			345,797
Cost of goods and services:
Cost of services (including related party expense
of $180 for the period ended December 31, 2004)		183,398			252,803			252,910
Cost of goods sold		-			-			254
Total cost of goods and services		183,398			252,803			253,164
Gross profit		55,844			52,402			92,633
Operating expenses:
Compensation expense		28,075			25,897			30,634
Other selling, general and administrative expenses		22,610			29,392			25,027
Asset impairment		-			6,178			-
Executive severance		573			5,730			495
Legal and related costs, net		(3,279	)		1,691			2,398
Facilities realignment		1,952			2,354			-
Total operating expenses		49,931			71,242			58,554

Operating income (loss)		5,913			(18,840	)		34,079
Gain (loss) on investments		-			4,444			(1,000	)
Interest income, net		4,738			3,190			1,779

Income (loss) before income tax		10,651			(11,206	)		34,858
(Benefit) provision for income tax		(724	)		201			14,423

Income (loss) from continuing operations		11,375			(11,407	)		20,435

Income (loss) from discontinued operations,
net of tax		434			(8,047	)		697

Net income (loss)	$	11,809		$	(19,454	)	$	21,132

Income (loss) per share of common stock:
Basic:
Continuing operations	$	0.82		$	(0.80	)	$	1.40
Discontinued operations		0.03			(0.57	)		0.05
	$	0.85		$	(1.37	)	$	1.45
Assuming dilution:
Continuing operations	$	0.81		$	(0.80	)	$	1.37
Discontinued operations		0.03			(0.57	)		0.05
	$	0.84		$	(1.37	)	$	1.42

Weighted average number of common shares and
common share equivalents outstanding:
Basic		13,859			14,232			14,564
Assuming dilution		13,994			14,232			14,893

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

PDI, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

	For The Years Ended December 31,
	2008			2007			2006
Cash Flows From Operating Activities
Net (loss) income from operations	$	(34,461	)	$	(9,974	)	$	11,809
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation, amortization and accretion		4,613			5,607			5,764
Deferred income taxes, net		331			1,113			2,710
(Recovery of) provision for bad debt, net		31			(15	)		(728	)
(Recovery of) provision for doubtful notes, net		-			(150	)		(250	)
Stock-based compensation		1,487			1,476			1,660
Excess tax expense (benefit) from stock-based compensation		-			242			(23	)
Other (gains), losses and expenses, net		(15	)		90			-
Non-cash facilities realignment		75			796			1,295
Other changes in assets and liabilities:
Decrease in accounts receivable		6,965			2,680			2,460
Decrease in unbilled costs		1,012			743			1,750
Decrease in other current assets		554			4,858			4,593
Decrease in other long-term assets		1,023			375			185
Decrease in accounts payable		(494	)		(1,123	)		(1,778	)
(Decrease) increase in unearned contract revenue		(4,781	)		(5,793	)		1,654
Decrease in accrued salaries and bonus		(1,496	)		(3,056	)		(3,170	)
Increase in accrued contract loss		10,021			-			-
(Decrease) increase in accrued liabilities		(829	)		(5,224	)		(8,489	)
(Decrease) increase in long-term liabilities		(27	)		1,179			243
Net cash (used in) provided by operating activities		(15,991	)		(6,176	)		19,685
Cash Flows From Investing Activities
Purchase of available-for-sale investments		-			(11,700	)		(32,585	)
Proceeds from sales of available-for-sale investments		-			44,285			-
Purchase of held-to-maturity investments		(15,050	)		(24,290	)		(61,216	)
Proceeds from maturities of held-to-maturity investments		22,391			53,165			29,920
Repayments from Xylos		-			150			250
Purchase of property and equipment		(399	)		(1,009	)		(1,770	)
Net cash provided by (used in) investing activities		6,942			60,601			(65,401	)
Cash Flows From Financing Activities
Excess tax (expense) benefit from stock-based compensation					(242	)		23
Proceeds from exercise of stock options		-			-			87
Cash paid for repurchase of restricted shares		(62	)		(219	)		-
Net cash (used in) provided by financing activities		(62	)		(461	)		110

Net (decrease) increase in cash and cash equivalents		(9,111	)		53,964			(45,606	)
Cash and cash equivalents – beginning		99,185			45,221			90,827
Cash and cash equivalents – ending	$	90,074		$	99,185		$	45,221

Cash paid for interest	$	-		$	1		$	2
Cash paid for taxes	$	211		$	123		$	640



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

PDI, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)

	For The Years Ended December 31,
	2006						2005						2004
	Shares			Amount			Shares			Amount			Shares			Amount
Common stock:
Balance at January 1		14,948		$	149			14,820		$	148			14,523		$	145
Common stock issued		-			-			68			1			68			1
Restricted stock issued		155			2			43			-			98			1
Restricted stock forfeited		(23	)		-			(24	)		-			(14	)		-
SARs exercised		1			-			-			-			-			-
Stock options exercised		16			-			41			-			145			1
Balance at December 31		15,097			151			14,948			149			14,820			148
Treasury stock:
Balance at January 1		1,018			(13,214	)		5			(110	)		5			(110	)
Treasury stock purchased		-			-			1,013			(13,104	)		-			-
Balance at December 31		1,018			(13,214	)		1,018			(13,214	)		5			(110	)
Additional paid-in capital:
Balance at January 1					118,325						116,737						109,531
Common stock issued					-						699						1,511
Restricted stock issued					(2	)					533						2,626
Restricted stock forfeited					(95	)					(494	)					(174	)
Stock-based compensation expense					1,755						259						-
Stock grants exercised					87						591						2,369
Tax benefit on stock-based compensation					23						-						641
Acceleration of stock option vesting					-						-						233
Reclassification of unamortized compensation					(904	)					-						-
Balance at December 31					119,189						118,325						116,737
Retained earnings:
Balance at January 1					31,183						50,637						29,505
Net income (loss)					11,809						(19,454	)					21,132
Balance at December 31					42,992						31,183						50,637
Accumulated other
comprehensive income (loss):
Balance at January 1					71						76						25
Reclassification of realized (gain) loss, net of tax					(33	)					(49	)					21
Unrealized holding gain, net of tax					41						44						30
Balance at December 31					79						71						76
Unamortized compensation costs:
Balance at January 1					(904	)					(2,063	)					(608	)
Restricted stock issued					-						(533	)					(2,627	)
Restricted stock forfeited					-						494						137
Restricted stock vested					-						1,198						1,035
Reclassification to additional paid-in capital					904						-						-
Balance at December 31					-						(904	)					(2,063	)
Total stockholders' equity					149,197						135,610						165,425
Comprehensive income (loss):
Net income (loss)				$	11,809					$	(19,454	)				$	21,132
Reclassification of realized (gain) loss, net of tax					(33	)					(49	)					21
Unrealized holding gain, net of tax					41						44						30
Total comprehensive income (loss)				$	11,817					$	(19,459	)				$	21,183

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

PDI, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

	For The Years Ended December 31,
	2006			2005			2004
Cash Flows From Operating Activities
Net income (loss) from operations	$	11,809		$	(19,454	)	$	21,132
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation, amortization and accretion		5,764			5,820			5,916
Deferred income taxes, net		2,710			6,447			9,199
(Recovery of) provision for bad debt, net		(728	)		730			683
(Recovery of) provision for doubtful notes, net		(250	)		655			-
Stock-based compensation		1,660			1,457			1,232
Tax benefit from stock-based compensation		(23	)		-			-
Loss on disposal of assets		-			269			622
Asset impairment		-			14,351			-
Non-cash facilities realignment		1,295			-			-
(Gain) loss on investment		-			(4,444	)		1,000
Other changes in assets and liabilities:
Decrease (increase) in accounts receivable		2,460			(1,229	)		15,807
Decrease (increase) in unbilled costs		1,750			(2,581	)		648
Decrease (increase) in income tax receivable		4,257			(6,145	)		-
Decrease in inventory		-			-			43
Decrease (increase) in other current assets		336			448			(33	)
Decrease (increase) in other long-term assets		185			218			(28	)
Decrease in accounts payable		(1,778	)		(41	)		(3,439	)
Decrease in accrued income taxes		(2,286	)		(1,216	)		(3,529	)
Increase in unearned contract revenue		1,654			5,674			507
Decrease in accrued incentives		(3,170	)		(4,254	)		(4,204	)
Decrease in accrued payroll and related benefits		(2,234	)		(858	)		(617	)
(Decrease) increase in accrued liabilities		(3,969	)		2,727			(17,250	)
Increase in long-term liabilities		243			4,541			1,293
Net cash provided by operating activities		19,685			3,115			28,982
Cash Flows From Investing Activities
(Purchases) sales of short-term investments, net		(63,881	)		21,686			(27,103	)
Repayments from (investments in) Xylos		250			100			(1,500	)
Purchase of property and equipment		(1,770	)		(5,832	)		(8,104	)
Cash paid for acquisition, including acquisition costs		-			(1,936	)		(28,443	)
Proceeds from sale of assets and investments		-			4,507			-
Net cash (used in) provided by investing activities		(65,401	)		18,525			(65,150	)
Cash Flows From Financing Activities
Net proceeds from exercise of stock options		110			1,291			3,880
Cash paid for repurchase of shares		-			(13,104	)		-
Net cash provided by (used in) financing activities		110			(11,813	)		3,880

Net (decrease) increase in cash and cash equivalents		(45,606	)		9,827			(32,288	)
Cash and cash equivalents - beginning		90,827			81,000			113,288
Cash and cash equivalents - ending	$	45,221		$	90,827		$	81,000

Cash paid for interest	$	2		$	2		$	3
Cash paid for taxes	$	640		$	1,513		$	7,389

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

	For the Year Ended December 31,
	2005			2004
Net (loss) income, as reported	$	(19,454	)	$	21,132
Add: Stock-based employee
compensation expense included
in reported net (loss) income,
net of related tax effects		974			721
Deduct: Total stock-based
employee compensation expense
determined under fair value based
methods for all awards, net of
related tax effects		(6,670	)		(3,946	)
Pro forma net (loss) income	$	(25,150	)	$	17,907
(Loss) earnings per share
Basic—as reported	$	(1.37	)	$	1.45
Basic—pro forma	$	(1.77	)	$	1.23

Diluted—as reported	$	(1.37	)	$	1.42
Diluted—pro forma	$	(1.77	)	$	1.20

	Year ended December 31,
	2004
Revenue	$	358,930
Income from continuing operations		22,145
Earnings per share	$	1.48