Patheon announces second quarter results



    Website: www.patheon.com

    TORONTO, June 8 /CNW/ - Patheon (TSX:PTI), a global provider of drug
development and manufacturing services to the international pharmaceutical
industry, today announced its results for the second quarter ended April 30,
2007. (All amounts are in U.S. dollars unless otherwise indicated.)

    
    Financial Results

    Second Quarter Ended April 30, 2007
    Compared With Second Quarter Ended April 30, 2006

    -   Revenues were $181.0 million, a decrease of 5%;
    -   EBITDA before repositioning expenses was $24.0 million (13.3% of
        revenues) compared with $24.2 million (12.8% of revenues);
    -   Repositioning expenses, relating to further workforce reductions, the
        Company's ongoing manufacturing efficiency review process, and costs
        associated with the Company's strategic review process were
        $4.0 million ($3.8 million after tax);
    -   Refinancing activities resulted in a one-time expense of
        $13.5 million ($12.6 million after tax) during the second quarter;
    -   Excluding repositioning costs and one-time refinancing expenses, the
        loss was $5.6 million (6.0 cents per share);
    -   The net loss for the quarter was $22.0 million (23.6 cents per
        share), compared with net earnings of $3.0 million (3.2 cents per
        share) a year ago.

    Six Months Ended April 30, 2007
    Compared With Six Months Ended April 30, 2006

    -   Revenues increased 1% to $352.7 million;
    -   EBITDA before repositioning expenses was $47.2 million (13.4% of
        revenues) compared with $38.2 million (11.0% of revenues);
    -   Repositioning expenses, relating to workforce reductions, the
        Company's ongoing manufacturing efficiency review process, and costs
        associated with the Company's strategic review process were
        $7.7 million ($6.6 million after tax);
    -   Excluding repositioning expenses in the first half and one-time
        refinancing expenses in the second quarter, the loss was $4.8 million
        (5.2 cents per share);
    -   The net loss was $24.0 million (25.8 cents per share), compared with
        a net loss of $8.5 million (9.2 cents per share) a year ago.

    "Our European, Canadian and Cincinnati operations continued to perform
well in the second quarter, achieving on a consolidated basis an EBITDA margin
before repositioning costs of 17%," said Riccardo Trecroce, Chief Executive
Officer, Patheon Inc.
     "This performance was moderated by the impact of significant year-over-
year volume declines for two major products manufactured at our Caguas, Puerto
Rico facility," said Mr. Trecroce. "Returning our Puerto Rico operations to
profitability is a top priority for the Company. As a first step, we are
implementing a plan to reduce costs in line with reduced revenues."

    Capital restructuring completed

    During the second quarter, as previously announced, Patheon completed its
financial restructuring process, with the purchase of US$150 million of
convertible preferred shares of the Company by JLL Partners, and the
refinancing of its existing North American and U.K. debt through new credit
facilities with J.P. Morgan Securities and GE Commercial Finance.
    "The successful completion of our capital restructuring process was a
major achievement, providing a stable, long-term financial foundation to grow
and operate our business effectively," said Mr. Trecroce.
    The Company's net income in the second quarter was impacted by one-time
expenses of $13.5 million in connection with these refinancing activities. The
expenses comprise transaction costs for the new credit facilities, transaction
costs allocated to the debt portion of the convertible preferred shares, and
prepayment charges in connection with the cancellation of certain of the
Company's U.K. debt facilities. Net income was also impacted by repositioning
expenses of $4.0 million, comprising $0.6 million in severance costs for
further reductions in the size of the workforce (primarily in Puerto Rico),
$0.9 million in professional fees relating to a manufacturing efficiency
review process currently underway at several sites, and $2.4 million in costs
relating to work on the Company's strategic review process. Interest expense
for the second quarter was $7.2 million compared with $4.8 million in the same
period a year ago, reflecting higher debt levels and borrowing costs under the
Company's previous North American loan facilities that were replaced by new
financing arrangements on April 27, 2007.

    Update on strategic initiatives

    During the second quarter, Patheon announced that as part of its strategy
to focus on developing and manufacturing Rx pharmaceutical products and to
improve the Company's profitability, it plans to restructure its current
network of six pharmaceutical manufacturing facilities in Canada. It plans to
divest its Niagara Region and Burlington Gateway facilities, which are focused
on the commercial manufacture of over-the-counter ("OTC") products, and
transfer substantially all production from its York Mills facility to Whitby
Operations, following which it will close the York Mills facility and sell the
land and buildings.
    "We are making good progress on our Canadian site restructuring
initiative," Mr. Trecroce reported. "For the Niagara-Burlington divestiture,
we have prepared and issued a confidential information memorandum to
interested parties and expect to complete the process of identifying potential
buyers by the end of June. On the York Mills-Whitby consolidation, we are
working closely with our clients and our employees to develop detailed
transfer plans, and have entered into a listing agreement with a realtor for
the sale of the land and facility after the transfers have been completed."

    Second quarter operating results

    Second-quarter revenues decreased by $8.9 million, or 5%, over the same
period a year ago. Revenues from Rx manufacturing services declined by
$6.3 million, or 4%, primarily attributable to significant year-over-year
volume declines for two major products manufactured at Caguas, Puerto Rico:
Zocor(R), which lost patent protection in June 2006, and Levothyroxine sodium,
where the Company's client has experienced a significant loss of market share.
Rx revenues were also lower in Canada, due to lower volumes of a product for
which the Company's client was building inventory levels last year following
its commercial launch during fiscal 2006. These declines were partially offset
by strong year-over-year gains in commercial Rx volumes at the Company's
operations in Italy and France, which continue to benefit from the transfer of
multiple products from two clients into Patheon's facilities.
    Revenues from over-the-counter (OTC) manufacturing services declined by
$8.8 million, or 32%, primarily attributable to lower volumes at Whitby and
Cincinnati due to decisions taken by certain clients last year to repatriate
products back to their own manufacturing networks.
    Revenues from pharmaceutical development services (PDS) revenues
increased by $6.2 million, or 28%, due to strong growth at the Toronto Region,
Cincinnati and Swindon PDS operations. During the second quarter, two newly
approved products that Patheon had developed on behalf of clients were
launched and are being manufactured at Company's Cincinnati and Toronto Region
facilities, respectively. This brings the total number of new product launches
since 2001 to 19.
    Consolidated EBITDA before repositioning expenses was $24.0 million in
the second quarter, comparable to $23.2 million in the first quarter and down
slightly from $24.2 million a year ago. The EBITDA margin before repositioning
expense was 13.3% in the second quarter, compared with 12.8% in the second
quarter of 2006.
    In Canada, EBITDA before repositioning expenses from commercial
manufacturing operations was $8.2 million, or $1.5 million lower than the same
period a year ago. The decline principally reflects lower OTC volumes, as well
as lower volumes of an Rx product for which the Company's client was building
inventory levels last year following its commercial launch. The impact of the
revenue declines on earnings was partially offset by savings from the
Company's performance enhancement program, particularly at Whitby Operations.
    EBITDA before repositioning expenses from U.S. operations was a loss of
$3.2 million, compared with a profit of $6.8 million in the same period a year
ago. The decline reflects a significant decrease in volumes for two products
manufactured at the Caguas, Puerto Rico facility. The Company has taken
several steps to reduce operating costs in Puerto Rico, including reducing
employment levels at all three sites by a total of 110 positions during the
quarter, improving operating efficiencies at the Carolina site through the
manufacturing excellence program, and closing underutilized production areas
at the Caguas facility - a process that will be fully completed by the third
quarter.
    In Europe, EBITDA before repositioning expenses from the commercial
manufacturing operations was $13.0 million, or $5.6 million higher than the
same period a year ago, reflecting volume gains in Italy and France. The
strengthening European currencies relative to the U.S. dollar also had the
impact of increasing EBITDA before repositioning expenses by approximately
$1.2 million.
    EBITDA before repositioning expenses from global pharmaceutical
development services was $7.6 million, or $4.2 million higher than the same
period a year ago. The increase reflects improved revenue growth across all
operations.

    Outlook

    Revenues for the third quarter of 2007 are expected to be approximately
the same as the second quarter of 2007. Revenues are expected to be slightly
higher across the network with the exception of the U.S. operations, where the
Company expects to experience lower client demand for the products currently
being manufactured at those operations. The Company continues to expect that
revenues from current operations for 2007 will be comparable to 2006.

    FORWARD-LOOKING STATEMENTS

    Cautionary Note

    This news release contains forward-looking statements which reflect
management's expectations regarding the Company's future growth of operations,
performance (both operational and financial) and business prospects and
opportunities.

    PLEASE REFER TO THE CAUTIONARY NOTE AT THE END OF THE MANAGEMENT
    DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
    ("MD&A") ATTACHED TO AND FORMING PART OF THIS NEWS RELEASE.

    WEBCAST CONFERENCE CALL WITH ANALYSTS

    Patheon Inc. will host a webcast conference call with financial analysts
on its second quarter results on Friday, June 8, 2007 at 10:00 a.m. (Eastern
Daylight Time). Representing Patheon on the call will be: Riccardo Trecroce,
Chief Executive Officer; Nick DiPietro, President and Chief Operating Officer;
John Bell, Chief Financial Officer; and Shelley Jourard, Director, Corporate
Communications. The call will begin with a brief presentation, followed by a
question-and-answer period with investment analysts. Interested parties are
invited to access the live call, via telephone, in listen-only mode, at (416)
644-3414 (Toronto and International) or toll free at (800) 733-7560 (U.S.,
including Puerto Rico). Listeners are encouraged to dial in five to 15 minutes
in advance to avoid delays. A live audio webcast, with a slide presentation,
will also be available via the web at www.patheon.com. An archived version of
the Q2 webcast will be available on www.patheon.com for three months.

    ABOUT PATHEON

    Patheon (TSX:PTI; www.patheon.com) is a leading global provider of drug
development and manufacturing services to the international pharmaceutical
industry. Patheon operates a network of 14 facilities in the United States,
Canada and Europe, employing more than 5,200 people and serving a client base
of 250 pharmaceutical and biotechnology companies.


    Consolidated Statements of Earnings (Loss)
    (unaudited)

                               Three months ended           Six months ended
                                         April 30,                  April 30,
                           2007     2006        %     2007     2006        %
                                           change                     change
    -------------------------------------------------------------------------
    (in thousands
     of U.S. dollars,
     except per share
     amounts)                 $        $                 $        $
    -------------------------------------------------------------------------

    Revenues            181,009  189,902    -4.7%  352,704  347,846     1.4%
    Operating
     expenses           157,002  165,689    -5.2%  305,463  309,621    -1.3%
                        -------------------------  --------------------------
    Earnings before
     the following:      24,007   24,213    -0.9%   47,241   38,225    23.6%
                        -------------------------  --------------------------
    (as a % of
     revenues)            13.3%    12.8%             13.4%    11.0%

    Repositioning
     expenses (note 5)    3,952        -             7,653        -
    Depreciation and
     amortization        10,779    9,920     8.7%   21,249   19,731     7.7%
    Amortization of
     intangible assets    2,182    3,472   -37.2%    4,363    6,895   -36.7%
    Foreign exchange
     loss (note 6)          858        -               858        -
    Interest              7,224    4,795    50.7%   14,335    9,898    44.8%
    Refinancing
     expenses (note 9)   13,471        -            13,471    1,643   719.9%
    Amortization of
     deferred financing
     costs                    -      137                 -      462
    Write-off of
     deferred financing
     costs (note 9)           -        -                 -    6,332
                        -------------------------  --------------------------
    Earnings (loss)
     before
     income taxes       (14,459)   5,889  -345.5%  (14,688)  (6,736) -118.1%
    Provision for
     income taxes         7,527    2,900   159.6%    9,322    1,785   422.2%
                        -------------------------  --------------------------
    Net earnings (loss)
     for the period     (21,986)   2,989  -835.6%  (24,010)  (8,521) -181.8%
                        -------------------------  --------------------------
                        -------------------------  --------------------------
    (as a % of
     revenues)           -12.1%     1.6%             -6.8%    -2.4%

    Earnings (loss)
     per share
      Basic and
       diluted            (23.6)     3.2  -837.5%    (25.8)    (9.2) -180.4%
                          cents    cents             cents    cents
                        -------------------------  --------------------------
    Average number
     of shares
     outstanding
     during period:
      Basic
       (in thousands)    92,959   92,846     0.1%   92,959   92,846     0.1%
                        -------------------------  --------------------------
      Diluted
       (in thousands)    92,959   93,110    -0.2%   92,959   92,846     0.1%
                        -------------------------  --------------------------

    see accompanying notes



    Consolidated Balance Sheets
    (unaudited)
                                                         As at         As at
                                                      April 30,   October 31,
                                                          2007          2006
    -------------------------------------------------------------------------
    (in thousands of U.S. dollars)                           $             $
    -------------------------------------------------------------------------

    Assets
    Current
      Cash and cash equivalents                         46,538        50,723
      Accounts receivable                              122,282       121,956
      Inventories                                       83,432        75,962
      Prepaid expenses and other                         5,541         6,800
                                                     ------------------------
    Total current assets                               257,793       255,441
                                                     ------------------------

    Capital assets                                     501,446       494,088
    Intangible assets                                   37,085        41,447
    Deferred costs                                       7,612         9,717
    Future tax assets                                   26,079        21,827
    Goodwill                                             3,113         3,077
    Investments                                            664           586
                                                     ------------------------
                                                       833,792       826,183
                                                     ------------------------
                                                     ------------------------

    Liabilities and Shareholders' equity
    Current
      Bank indebtedness                                  2,729         3,829
      Accounts payable and accrued liabilities         136,614       142,781
      Income taxes payable                               8,179           879
      Current portion of long-term debt                 10,477       283,717
                                                     ------------------------
    Total current liabilities                          157,999       431,206
                                                     ------------------------

    Long-term debt (note 8)                            204,183        62,071
    Deferred revenues                                   23,723        23,366
    Future tax liabilities                              35,774        33,128
    Convertible preferred shares -
     debt component (note 8)                           132,862             -
    Other long-term liabilities                         27,556        25,681
                                                     ------------------------
    Total liabilities                                  582,097       575,452
                                                     ------------------------

    Shareholders' equity
      Convertible preferred shares -
       equity component (note 8)                        15,925             -
      Restricted voting shares                         400,745       400,721
      Contributed surplus                                3,923         3,829
      Deficit                                         (215,659)     (189,900)
      Accumulated other comprehensive income            46,761        36,081
                                                     ------------------------
    Total shareholders' equity                         251,695       250,731
                                                     ------------------------
                                                       833,792       826,183
                                                     ------------------------
                                                     ------------------------
    see accompanying notes



    Consolidated Statements of Changes in Shareholders' Equity
    (unaudited)

                                                   Six months ended April 30,
                                                          2007          2006
    -------------------------------------------------------------------------
    (in thousands of U.S. dollars)                           $             $
    -------------------------------------------------------------------------

    Convertible preferred shares - equity component
      Balance at beginning of period                         -             -
      Shares issued, net of issue costs                 15,925             -
                                                     ------------------------
      Balance at end of period                          15,925             -
                                                     ------------------------
    Restricted voting shares
      Balance at beginning of period                   400,721       400,594
      Issued during the period, net of issue costs          24             -
                                                     ------------------------
      Balance at end of period                         400,745       400,594
                                                     ------------------------
    Contributed surplus
      Balance at beginning of period                     3,829         2,901
      Stock options                                         94           492
                                                     ------------------------
      Balance at end of period                           3,923         3,393
                                                     ------------------------
    Retained earnings (deficit)
      Balance at beginning of period                  (189,900)       98,250
      Adjustment related to change in
       accounting policy (note 1)                       (1,749)            -
      Net loss for the period                          (24,010)       (8,521)
                                                     ------------------------
      Balance at end of period                        (215,659)       89,729
                                                     ------------------------
    Accumulated other comprehensive income
      Balance at beginning of period                    36,081        38,106
      Transition adjustment (note 1)                      (762)
      Other comprehensive income for the period         11,442        29,962
                                                     ------------------------
      Balance at end of period                          46,761        68,068
                                                     ------------------------
    Total shareholders' equity at end of period        251,695       561,784
                                                     ------------------------

    see accompanying notes



    Consolidated Statement of Comprehensive Loss
    (unaudited)
                                                   Three months   Six months
                                                          ended        ended
                                                       April 30,    April 30,
                                                           2007         2007
    -------------------------------------------------------------------------
    (in thousands of U.S. dollars)                            $            $
    -------------------------------------------------------------------------

    Net loss for the period                             (21,986)     (24,010)
    Other comprehensive income, net of
     income taxes (note 10)
      Change in foreign currency gains on investments
       in subsidiaries, net of hedging activities        11,602        7,097
      Foreign currency losses on investments in
       subsidiaries, net of hedging
       activities reclassified to consolidated
       statement of earnings (loss)                       2,793        2,793
      Change in value of derivatives designated as
       foreign currency cash flow hedges                  3,340          831
      Losses on foreign currency cash flow hedges
       reclassified to consolidated statement
       of earnings (loss)                                 1,067        1,377
      Gains on interest rate hedges reclassified
       to consolidated statement of earnings (loss)        (619)        (656)
                                                     ------------------------
      Other comprehensive income for the period          18,183       11,442
                                                     ------------------------

                                                     ------------------------
    Comprehensive loss for the period                    (3,803)     (12,568)
                                                     ------------------------

    see accompanying notes



    Consolidated Statements of Cash Flows
    (unaudited)

                                  Three months ended        Six months ended
                                            April 30,               April 30,
                                    2007        2006        2007        2006
    -------------------------------------------------------------------------
    (in thousands of U.S. dollars)     $           $           $           $
    -------------------------------------------------------------------------

    Operating activities
      Net earnings (loss) for
       the period                (21,986)      2,989     (24,010)     (8,521)
      Add (deduct) charges to
       operations not requiring
       a current cash payment
        Depreciation and
         amortization             12,961      13,392      25,612      26,626
        Foreign exchange loss
         (note 6)                    858           -         858           -
        Write-off of deferred
         financing costs (note 9)      -           -           -       6,332
        Amortization of deferred
         financing costs           1,311         137       1,380         462
        Employee future benefits     164         860         635          74
        Future income taxes          292         459          68       2,774
        Amortization of deferred
         revenues                   (483)       (498)       (969)       (995)
        Other                       (925)        373        (649)        871
                                ---------------------------------------------
                                  (7,808)     17,712       2,925      27,623
      Net change in non-cash
       working capital balances
       related to operations       2,069     (15,387)     (4,183)    (17,534)
      Increase in deferred
       revenues                        -           -           -       9,614
                                ---------------------------------------------
    Cash provided by (used in)
     operating activities         (5,739)      2,325      (1,258)     19,703
                                ---------------------------------------------

    Investing activities
      Additions to capital
       assets
        - sustaining              (2,535)     (3,597)     (5,652)     (6,337)
        - project - related       (2,268)    (10,028)     (7,215)    (21,208)
      Decrease in investments          -           -         116           -
      Increase in deferred
       pre-operating costs          (646)         61      (1,711)       (457)
                                ---------------------------------------------
    Cash used in investing
     activities                   (5,449)    (13,564)    (14,462)    (28,002)
                                ---------------------------------------------

    Financing activities
      Increase (decrease) in
       bank indebtedness          (8,258)        905      (1,316)    (12,691)
      Increase in long-term
       debt                      166,470      27,563     175,840     311,143
      Repayment of long-term
       debt                     (288,483)    (23,993)   (312,953)   (311,345)
      Issue of convertible
       preferred shares          150,000           -     150,000           -
      Convertible preferred
       share issue costs
       - equity component         (1,213)          -      (1,213)          -
      Issue of restricted
       voting shares                  24           -          24           -
      Decrease in restricted
       cash                            -           -           -       7,805
      Increase in deferred
       financing costs                 -         (25)          -      (2,790)
                                ---------------------------------------------
    Cash provided by (used in)
     financing activities         18,540       4,450      10,382      (7,878)
                                ---------------------------------------------

    Effect of exchange rate
     changes on cash and cash
     equivalents                   2,360        (225)      1,153        (103)
                                ---------------------------------------------

    Net increase (decrease) in
     cash and cash equivalents
     during the period             9,712      (7,014)     (4,185)    (16,280)
    Cash and cash equivalents,
     beginning of period          36,826      13,241      50,723      22,507
                                ---------------------------------------------
    Cash and cash equivalents,
     end of period                46,538       6,227      46,538       6,227
                                ---------------------------------------------
                                ---------------------------------------------

    see accompanying notes



        Notes to Unaudited Consolidated Financial Statements for the
                       Six Months Ended April 30, 2007

              (Dollar information in tabular form is expressed
                        in thousands of U.S. dollars)

    1.  Accounting policies

    Basis of presentation

    The accompanying unaudited consolidated financial statements have been
    prepared by the Company in accordance with Canadian generally accepted
    accounting principles ("GAAP") on a basis consistent with those followed
    in the most recent audited consolidated financial statements except as
    noted below. These consolidated financial statements do not include all
    the information and footnotes required by generally accepted accounting
    principles for annual financial statements and therefore should be read
    in conjunction with the audited consolidated financial statements and
    notes for the year ended October 31, 2006.

    The preparation of the consolidated financial statements in conformity
    with Canadian generally accepted accounting principles requires
    management to make estimates and assumptions that affect: the reported
    amounts of assets and liabilities; the disclosure of contingent assets
    and liabilities at the date of the consolidated financial statements; and
    the reported amounts of revenue and expenses in the reporting period.
    Management believes that the estimates and assumptions used in preparing
    its consolidated financial statements are reasonable and prudent,
    however, actual results could differ from those estimates.

    Changes in accounting policy

    Effective November 1, 2006 the Company adopted the CICA Handbook
    Section 3855 "Financial Instruments - Recognition and Measurement",
    Section 3861 "Financial Instruments - Disclosure and Presentation",
    Section 3865 "Hedges" and Section 1530 "Comprehensive Income". The
    adoption of the new standards resulted in changes in accounting for
    financial instruments and hedges as well as the recognition of certain
    transition adjustments that have been recorded in accumulated other
    comprehensive income. The comparative interim consolidated financial
    statements have not been restated except as noted below. The principal
    changes in the accounting for financial instruments and hedges due to the
    adoption of these accounting standards are described below:

    Financial Assets and Financial Liabilities
    ------------------------------------------
    An investment in shares of a publicly traded company have been designated
    as held for trading and are accounted for at fair value, with changes in
    the fair value being recorded in the consolidated statement of earnings
    (loss). Prior to the adoption of the new standards, this investment was
    accounted for on a cost basis, as adjusted for an other than temporary
    decline in value. All other financial assets are accounted for on an
    amortized cost basis and financial liabilities are accounted for on an
    accruals basis, consistent with prior accounting policies.

    Costs of obtaining bank and other debt financing that were previously
    reported in deferred costs are now netted against the carrying value of
    the related debt and amortized into interest expense using the effective
    interest rate method. Prior to the adoption of the new standards, the
    amortization of deferred financing costs was reported as a separate line
    in the consolidated statement of earnings (loss).

    In the second quarter of 2007 the Company also changed its accounting
    policy relating to costs of obtaining bank and other debt financing.
    Under the new policy all transaction costs, including fees paid to
    advisors and other related costs, are expensed as incurred. Financing
    costs, including underwriting and arrangement fees paid to lenders are
    deferred and netted against the carrying value of the related debt and
    amortized into interest expense using the effective interest rate method.
    The Company previously deferred all transaction and financing costs
    associated with obtaining bank and other debt financing. The Company
    believes that the new policy is reliable and more relevant as it results
    in a more transparent treatment of transaction costs that the Company has
    incurred in its recent refinancing activities and in the carrying value
    of debt.

    The change in policy has been made retrospectively effective November 1,
    2006 and had the effect of increasing the retained deficit at November 1,
    2006 by $1,749,000 and reducing the interest expense and net loss for the
    three months ended January 31, 2007 by $612,000. Refinancing expenses for
    the three months ended April 30, 2007 include transaction costs incurred
    in connection with the completion of the Company's senior secured credit
    facilities and the debt component of the convertible preferred shares of
    $11,889,000 (see note 9).

    In 2006, the Company cancelled its interest rate swaps that were used as
    a hedge against changes in interest payments on floating rate debt.
    Deferred gains from the cancellation of these interest rate swaps that
    had previously been recorded in accounts payable and accrued liabilities
    were recorded in accumulated other comprehensive income. In the second
    quarter of 2007, all remaining deferred gains on the interest rate swap
    were reclassified to the consolidated statement of earnings (loss).

    Derivatives and Hedge Accounting
    --------------------------------
    The Company enters into foreign exchange forward contracts to hedge its
    exposure in foreign currency denominated cash flows and holds foreign
    currency denominated debt as a hedge against the carrying value of its
    equity investment in certain foreign currency denominated operations.

    Prior to the adoption of the new standards, the Company accounted for
    derivatives that met the requirements of hedge accounting on an accrual
    basis. Under the new standards all derivatives, other than those
    contracts that are entered into for the Company's own expected
    requirements, are recorded at their fair value.

    The effective portion of changes in the fair value of cash flow hedges
    and hedges of net investments in foreign operations are recognized in
    other comprehensive income. Amounts accumulated in other comprehensive
    income are reclassified to the consolidated statement of earnings (loss)
    in the period in which the hedged item affects the earnings (loss). Any
    gain or loss in the fair value relating to the ineffective portion of a
    hedge is recognized immediately in the consolidated statement of earnings
    (loss).

    Comprehensive Income (Loss) and Accumulated Other Comprehensive Income
    ----------------------------------------------------------------------
    Comprehensive income (loss) is comprised of the Company's net loss and
    other comprehensive income. Other comprehensive income includes foreign
    currency translation gains and losses on net investments in self-
    sustaining operations net of hedging activities, changes in the fair
    value of derivative instruments designated as cash flow hedges and the
    reclassification to net loss of deferred gains on interest rate swaps,
    all net of income taxes.

    On transition to the new accounting standards, deferred after tax gains
    from interest rate swaps of $656,000 and after tax losses on the fair
    value of cash flow hedges of $1,418,000 were recorded in accumulated
    other comprehensive income. Accumulated other comprehensive income also
    includes gains on net investments in self sustaining foreign operations,
    net of hedging activities previously recorded in cumulative translation
    adjustment. As a result, the previously recorded cumulative translation
    adjustment account has been eliminated and the balances have been
    included in accumulated other comprehensive income. On transition to the
    new standards, the comparative amounts of other comprehensive income for
    the period only reflect the amounts previously recorded in the cumulative
    translation adjustment account.

    Convertible preferred shares

    On April 27, 2007 the Company issued $150 million of convertible
    preferred shares. The shares are considered to be a compound financial
    instrument that contains both a debt component and an equity component.

    On issuance of the convertible preferred shares, the fair value of the
    debt component is determined by discounting the expected future cash
    flows over the expected life using a market interest rate for a non-
    convertible debt instrument with similar terms. The value is carried as
    debt on an amortized cost basis until extinguished on conversion or
    redemption. The remainder of the proceeds is allocated as a separate
    component of shareholders' equity, net of transaction costs. Transaction
    costs are apportioned between the debt and equity components based on
    their respective carrying amounts when the instrument was issued.

    On conversion, the carrying amount of the debt component and the equity
    component are transferred to share capital and no gain or loss is
    recognized.

    The interest cost recognized in respect of the debt component represents
    the accretion of the liability, over its expected life using the
    effective interest method, to the amount that would be payable if
    redeemed.

    2.  Convertible preferred shares and restricted voting shares

    The following table summarizes information on convertible preferred
    shares, and restricted voting shares and related matters at
    April 30, 2007:

                                               Outstanding       Exercisable
    Convertible preferred shares
      Class I preferred shares series C and D      150,000

    Restricted voting shares
     (previously common shares)                 92,958,688
    Restricted voting share stock options        3,912,849         3,753,682


    The Company's articles were amended on April 26, 2007 to re-designate the
    common shares as restricted voting shares. This occurred in connection
    with the issuance of the convertible preferred shares. The holders of the
    convertible preferred shares have the right to appoint three of nine
    members of the Board of Directors. The holders of Patheon's common shares
    have the right to elect the remaining members of the Board of Directors.
    Under the rules of the Toronto Stock Exchange, voting equity securities
    are not to be designated, or called, common shares unless they have a
    right to vote in all circumstances that is not less, on a per share
    basis, than the voting rights of each other class of voting securities.
    Accordingly, the Company has amended its articles to re-designate the
    common shares as restricted voting shares. This re-designation involves
    only a change in the name of the securities; the number of shares
    outstanding and the terms and conditions of the outstanding shares are
    not affected by the change.

    3. Segmented information

    The Company is organized and managed as a single business segment, being
    the provider of commercial manufacturing and pharmaceutical development
    services.

    Canadian and foreign operations consist of:

                                             Manufacturing location
                                        Three months ended Apr 30, 2007
                                ---------------------------------------------
                                  Canada         USA      Europe       Total
                                       $           $           $           $
    -------------------------------------------------------------------------
    Revenues
    Canada                         7,535         111         487       8,133
    USA                           39,897      51,029       2,936      93,862
    Europe                        10,920         523      64,384      75,827
    Other geographic areas           891          83       2,213       3,187
    -------------------------------------------------------------------------
    Total revenues                59,243      51,746      70,020     181,009
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------
    Capital assets               127,551     139,280     234,615     501,446
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------
    Goodwill                       3,113           -           -       3,113
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


                                             Manufacturing location
                                        Three months ended Apr 30, 2006
                                ---------------------------------------------
                                  Canada         USA      Europe       Total
                                       $           $           $           $
    -------------------------------------------------------------------------
    Revenues
    Canada                        11,020          35         119      11,174
    USA                           40,218      64,970       1,902     107,090
    Europe                        15,290          74      53,324      68,688
    Other geographic areas         1,289          90       1,571       2,950
    -------------------------------------------------------------------------
    Total revenues                67,817      65,169      56,916     189,902
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------
    Capital assets               129,453     170,819     199,582     499,854
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------
    Goodwill                       3,091     187,787           -     190,878
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


                                             Manufacturing location
                                         Six months ended Apr 30, 2007
                                ---------------------------------------------
                                  Canada         USA      Europe       Total
                                       $           $           $           $
    -------------------------------------------------------------------------
    Revenues
    Canada                        14,976         349         859      16,184
    USA                           78,875     110,236       6,759     195,870
    Europe                        19,063         955     115,380     135,398
    Other geographic areas         1,570         139       3,543       5,252
    -------------------------------------------------------------------------
    Total revenues               114,484     111,679     126,541     352,704
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


                                             Manufacturing location
                                         Six months ended Apr 30, 2006
                                ---------------------------------------------
                                  Canada         USA      Europe       Total
                                       $           $           $           $
    -------------------------------------------------------------------------
    Revenues
    Canada                        21,056         288         408      21,752
    USA                           73,595     120,283       3,928     197,806
    Europe                        25,295         335      97,640     123,270
    Other geographic areas         2,503         171       2,344       5,018
    -------------------------------------------------------------------------
    Total revenues               122,449     121,077     104,320     347,846
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


    Revenues are attributed to countries based on the location of the
    client's billing address, capital assets are attributed to the country in
    which they are located, and goodwill is attributed to the country in
    which the entity to which the goodwill pertains is located.

    Revenue information by service activity is as follows:

                                       Three months ended Apr 30,
                                ---------------------------------------------
                                    2007                    2006
                                       $                       $
    -------------------------------------------------------------------------

    Commercial manufacturing -
     prescription                133,909         74%     140,160         74%
    Commercial manufacturing -
     over-the-counter             18,594         10%      27,395         14%
    Development services          28,506         16%      22,347         12%
    -------------------------------------------------------------------------
                                 181,009        100%     189,902        100%
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


                                         Six months ended Apr 30,
                                ---------------------------------------------
                                    2007                    2006
                                       $                       $
    -------------------------------------------------------------------------

    Commercial manufacturing -
     prescription                260,136         74%     252,199         72%
    Commercial manufacturing -
     over-the-counter             37,071         10%      51,290         15%
    Development services          55,497         16%      44,357         13%
    -------------------------------------------------------------------------
                                 352,704        100%     347,846        100%
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------


    4.  Stock-based compensation

    The Company has an incentive stock option plan. Persons eligible to
    participate in the plan are directors, officers, and key employees of the
    Company and its subsidiaries or any other person engaged to provide
    ongoing management or consulting services to Patheon. The plan provides
    that the maximum number of shares that may be issued under the plan is
    7.5% of the issued and outstanding restricted voting shares of the
    Company at any point in time. As of April 30, 2007, the total number of
    restricted voting shares listed and reserved at the TSX for issuance
    under the plan was 6,850,427, of which there are stock options
    outstanding to purchase 3,912,849 shares under the plan. The exercise
    price of restricted voting shares subject to an option is determined at
    the time of grant and the price cannot be less than the weighted average
    market price of the restricted voting shares of Patheon on the Toronto
    Stock Exchange during the two trading days immediately preceding the
    grant date. Options generally expire 10 years after the grant date and
    are also subject to early expiry in the event of death, resignation,
    dismissal or retirement of an optionee. Options vest over one to three
    years, with one-third on each of the first, second and third anniversary
    of the grant date for those vesting over three years.

    For the purposes of calculating the stock-based compensation expense, the
    fair value of stock options is estimated at the date of the grant using
    the Black-Scholes option pricing model. The weighted average fair value
    of 100,000 options granted for the three months and six months ended
    April 30, 2007 was $1.92. The weighted average fair value for the stock
    options granted for the three months and six months ended April 30, 2006
    was $2.77 and $2.30, respectively. The following assumptions were used in
    arriving at the fair value of options issued during the six months ended
    April 30, 2007:

        Risk free interest rate                                         4.2%
        Expected volatility                                              42%
        Expected weighted average life of options                    6 years
        Expected dividend yield                                           0%

    Stock-based compensation expense recorded in the three months ended
    April 30, 2007 was $49,000 (2006 - $152,000) for options granted on or
    after November 1, 2003. Stock-based compensation expense recorded in the
    six months ended April 30, 2007 was $94,000 (2006 - $492,000) for options
    granted on or after November 1, 2003.

    5.  Repositioning expenses

    During the first half of 2007 the Company incurred a number of expenses
    associated with its performance enhancement program, which is intended to
    identify operational improvements and cost reduction initiatives. The
    related expenses include costs associated with a reduction in the work
    force and consulting fees from external specialists who are assisting in
    identifying operational improvements.

    During the first half of 2007 the Company also incurred professional fees
    and other costs, in connection with its review of strategic and financial
    alternatives.

    The following is a summary of expenses associated with these initiatives
    (collectively "repositioning expenses") for the three months and six
    months ended April 30, 2007:

                                                  Three months    Six months
                                                         ended         ended
                                                      April 30,     April 30,
                                                          2007          2007
                                                             $             $
    -------------------------------------------------------------------------
    Performance enhancement program:
      - Employee-related expenses                          635         1,779
      - Consulting and professional fees                   882         2,486
    Strategic alternatives review                        2,435         3,388
    -------------------------------------------------------------------------
                                                         3,952         7,653
    -------------------------------------------------------------------------
    -------------------------------------------------------------------------

    As at April 30, 2007, $5,883,000 of the repositioning expenses are unpaid
    and are recorded in accounts payable and accrued liabilities. This
    includes amounts accrued during the 2006 fiscal year. Repositioning
    expenses paid during the three months and six months ended April 30, 2007
    amounted to $3,242,000 and $11,614,000, respectively.

    6.  Other information

    Foreign exchange

    During the three months ended April 30, 2007, the foreign exchange loss
    on operating exposures, net of cash flow hedges, (including the
    revaluation of all foreign currency denominated assets and liabilities,
    other than those liabilities designated as a hedge against foreign
    currency denominated net investments) recorded in operating expenses was
    $943,000 (2006 gain - $441,000). During the six months ended
    April 30, 2007, the foreign exchange gain on operating exposures, net of
    cash flow hedges, was $811,000 (2006 gain - $189,000).

    During the three months ended April 30, 2007 the Company recorded a
    foreign exchange loss of $858,000 in connection with a change in the
    Company's internal capital structure, which resulted in the recognition
    of foreign exchange translation losses previously recorded in accumulated
    other comprehensive income.

    Employee future benefits

    The employee future benefit expense in connection with defined benefit
    pension plans and other post retirement benefit plans for the three
    months ended April 30, 2007 was $1,549,000 (2006 - $1,811,000). For the
    six months ended April 30, 2007 the employee future benefit expense was
    $3,228,000 (2006 - $2,220,000).

    7.  Financial instruments

    The Company utilizes financial instruments to manage the risk associated
    with fluctuations in foreign exchange rates. The Company formally
    documents all relationships between hedging instruments and hedged items,
    as well as its risk management objective and strategy for undertaking
    various hedge transactions.

    The Company's Canadian operations have entered into foreign exchange
    forward contracts to sell an aggregate amount of US$54,000,000 as at
    April 30, 2007. These contracts hedge the Company's expected exposure to
    U.S. dollar denominated cash flows and mature at the latest on
    October 29, 2007 at exchange rates varying between $1.0847 and $1.17031
    Canadian. The mark-to-market value on these financial instruments as at
    April 30, 2007 was an unrealized gain of $790,000 which has been recorded
    in accumulated other comprehensive income in shareholders' equity.

    As at April 30, 2007 the Company has designated $133 million of U.S.
    dollar denominated debt as a hedge against its net investment in its
    operations in the U.S.A. and Puerto Rico. The exchange gains and losses
    arising from this debt are recorded in accumulated other comprehensive
    income in shareholders' equity.

    8.  Refinancing

    Convertible Preferred Shares
    ----------------------------
    On April 27, 2007 JLL Partners, through its investment vehicle,
    JLL Holdings, LLC, purchased 150,000 convertible preferred shares of
    Patheon for $150 million. Until October 27, 2009, no cash dividends will
    be paid on the preferred shares, but the liquidation preference and
    conversion rate will increase on a quarterly basis by 2.125%. After
    October 27, 2009, these increases in the liquidation preference and
    conversion rate will continue until the maturity or prior conversion,
    unless the Company elects to pay a cash dividend for any applicable
    quarter, in which case the Company will pay a cash dividend for such
    quarter based on an annual dividend rate of 8.5% on the aggregate
    liquidation preference of the convertible preferred shares.

    Each convertible preferred share is convertible into 209.7081 restricted
    voting shares, as adjusted for any non-cash dividends noted above, at any
    time at the holder's option. The Company is entitled to require the
    holder to convert into restricted voting shares if, at any time after
    October 27, 2009, the market price of the restricted voting shares on the
    Toronto Stock Exchange exceeds a price equivalent to US$7.87 for a period
    of at least 60 days.

    If not previously converted, the Company is required to redeem the
    convertible preferred shares for cash on April 27, 2017 at a price equal
    to the aggregate liquidation preference of the convertible preferred
    shares, plus accrued and unpaid dividends thereon. The Company is also
    required to redeem the convertible preferred shares upon the occurrence
    of a change of control of Patheon at a price equal to the greater of the
    aggregate liquidation preference of the convertible preferred shares,
    plus accrued and unpaid dividends thereon, or the price per share paid to
    holders of restricted voting shares in the change of control transaction,
    multiplied by the number of restricted voting shares into which the
    convertible preferred shares are then convertible.

    On issuance, the fair value of the debt component of the preferred shares
    was $132,862,000. The remainder of the proceeds, attributable to
    shareholders' equity was $15,925,000, net of apportioned transaction
    costs of $1,213,000.

    Senior Secured Credit Facilities
    --------------------------------
    On April 27, 2007 the Company completed new credit facilities in the
    aggregate amount of $225 million, comprising a seven-year $150 million
    senior secured term loan and a five-year $75 million asset based
    revolving credit facility. The Company is required to make quarterly
    installment payments of $375,000 on the term loan facility, along with
    additional mandatory repayments based on certain excess cash flow
    measures. Interest on the facilities is at floating rates based on LIBOR,
    US prime, or the federal funds effective rate, plus applicable margins.
    The facilities are secured by substantially all of the assets of the
    Company's operations in Canada, U.S.A., Puerto Rico and the U.K. and the
    Company's investments in the shares of all other operating subsidiaries.

    Net proceeds from the issue of the convertible preferred shares and the
    senior secured term loan facility were used to repay the Company's
    obligations under its existing North American and U.K. credit facilities.
    No amounts are currently drawn on the revolving facility.

    9.  Refinancing expenses and write-off of deferred financing costs

    During the three months ended April 30, 2007 the Company incurred
    expenses of $13,471,000 in connection with its refinancing activities.
    The expenses are made up of transaction costs for the new credit
    facilities, costs allocated to the debt portion of the convertible
    preferred shares and prepayment charges in connection with cancellation
    of certain of the Company's U.K. debt facilities.

    During the first quarter of 2006, the Company incurred charges of
    $1,643,000 in connection with the cancellation and prepayment of certain
    of its North American credit facilities. The Company also wrote off
    $6,332,000 in related deferred financing costs.

    10. Other comprehensive income

    The amounts disclosed in other comprehensive income are net of income
    taxes. Foreign currency losses on investments in subsidiaries, net of
    hedging activities reclassified to the consolidated statement of earnings
    (loss), are net of an income tax benefit of $1,935,000 for the three
    months and six months ended April 30, 2007. The gains on interest rate
    hedges reclassified to the consolidated statement of earnings (loss) are
    net of an income tax benefit of $323,000 and $343,000 for the three
    months and six months ended April 30, 2007, respectively.

    After taking into account the Company's valuation reserve for future
    income taxes, the change in foreign currency losses on investments in
    subsidiaries, net of hedging activities, is net of an income tax expense
    of $1,692,000 and $nil for the three months and six months ended
    April 30, 2007, respectively. There is no income tax associated with the
    change in value of derivatives designated as foreign currency cash flow
    hedges and losses on foreign currency cash flow hedges reclassified to
    the consolidated statement of earnings (loss).

    11. Related party transactions

    Revenues from companies controlled by a director and significant
    shareholder of the Company were in the amount of $624,000 and $683,000
    for the three and six months ended April 30, 2007, respectively. These
    transactions were conducted in the normal course of business and are
    recorded at the exchanged amount which management believes to be at fair
    value. Accounts receivables at April 30, 2007 include a balance of
    $165,000 resulting from these transactions.

    At April 30, 2007 the Company has an investment of $389,000 representing
    an 18% interest in two Italian companies whose largest investor is an
    Officer of the Company. These newly formed companies will specialize in
    the manufacturing of cytotoxic pharmaceutical products.

    12. Divestiture of Niagara-Burlington Operations

    On April 17, 2007 the Company announced that it plans to divest its
    Niagara-Burlington Operations business which is focused on the commercial
    manufacturing of over-the-counter products. The Niagara-Burlington
    Operations consist of facilities in Fort Erie and Burlington Gateway and
    the commercial operations at Burlington Century. The Company plans to
    retain the Burlington Century facility where its central quality control
    laboratory is also based. Commercial manufacturing revenues for the three
    months and six months ended April 30, 2007 were $8.9 million and
    $17.4 million, respectively. Earnings before repositioning expenses,
    depreciation and amortization, interest, refinancing charges, write-off
    of deferred financing costs and income taxes for the three months and six
    months ended April 30, 2007 were $0.8 million and $1.1 million,
    respectively.

    The results of operations of the Niagara-Burlington Operations business
    have not been reported as discontinued operations, as progress made under
    the divestiture plan at April 30, 2007 does not meet all of the criteria
    required for such disclosure.

    13. Comparative amounts

    Certain other comparative amounts have been reclassified to conform to
    the current period presentation.


                                Patheon Inc.
         Management's Discussion and Analysis of Financial Condition
                          and Results of Operations

    The following management discussion and analysis of financial condition
and results of operations ("MD&A) of Patheon Inc. ("Patheon" or "the Company")
for the three-month and six-month periods ended April 30, 2007 and 2006 should
be read in conjunction with the Company's consolidated financial statements
and related notes contained in this interim report. This MD&A is dated as of
June 8, 2007.
    The purpose of this 2007 second quarter report is to provide an update to
the information contained in the Company's Management's Discussion and
Analysis section of the Company's 2006 Annual Report, which contains a more
comprehensive discussion of the Company's strategy, capabilities to deliver
results, risks and key performance indicators. Management assumes that the
reader of this document has access to the MD&A section of the Company's 2006
Annual Report. This document and other information can be downloaded in
portable document format (PDF) from the Company's web site at www.patheon.com
or from the SEDAR web site for Canadian regulatory filings at www.sedar.com.
To request a printed copy, the reader may also contact Patheon's transfer
agent, Computershare Investor Services Inc., at 1-800-564-6253 or via email at
service@computershare.com, or Patheon at www.patheon.com.

    Use of Non-GAAP Financial Measures

    Except as otherwise indicated, references in this MD&A to "EBITDA before
repositioning expenses" are to earnings before repositioning expenses,
depreciation and amortization, foreign exchange losses, interest, refinancing
expenses, write-off of deferred financing costs, and income taxes. "EBITDA
margin before repositioning expenses" is EBITDA before repositioning expenses
divided by revenues. EBITDA before repositioning expenses and EBITDA margin
before repositioning expenses are measures of earnings or earnings margin not
recognized by generally accepted accounting principles in Canada ("Canadian
GAAP"). Since each of these measures is a non-GAAP measure that does not have
a standardized meaning, it may not be comparable to similar measures presented
by other issuers. Prospective investors are cautioned that these, and other
non-GAAP measures should not be construed as alternatives to net earnings
determined in accordance with Canadian GAAP as indicators of performance. The
Company has included these measures because it believes that this information
is used by certain investors to assess the financial performance of the
Company, in particular the operating earnings before non cash charges and
large and non-recurring costs.

    Overview of Patheon

    Patheon is focused exclusively on providing commercial manufacturing and
pharmaceutical development services to pharmaceutical, biotechnology and
specialty pharmaceutical companies located primarily in North America, Europe
and Japan. Patheon serves its international clientele from its operating
facilities in North America (including Puerto Rico) and Europe.
    Patheon commercially manufactures prescription ("Rx") and over-the-
counter ("OTC") products in solid, semi-solid and liquid dosage forms.
Conventional dosage forms include compressed tablets, hard-shell capsules,
powders, ointments, creams, gels, syrups, suspensions, solutions and
suppositories. Sterile dosage forms include liquids and powders filled in
ampoules, vials, bottles or pre-filled syringes. Sterile lyophilized products
are also manufactured in both vials and ampoules.
    Patheon provides manufacturing services for a broad range of products in
many dosage forms and packaging formats in accordance with client
specifications. Depending on the particular client, Patheon may be responsible
for most or all aspects of the manufacturing and packaging process, from
sourcing excipient raw materials and packaging components to delivering the
finished product in consumer-ready form to the client. Typically, Patheon's
clients supply the active pharmaceutical ingredients ("API") used in the
production process.
    The pharmaceutical development services provided by Patheon include most
of the pharmaceutical development services typically required by companies
conducting clinical trials and preparing for full-scale commercial production
of a new drug.
    At April 30, 2007, there were a total of 177 client products in the
Patheon's pharmaceutical development services ("PDS") pipeline, including
10 drug candidates at the New Drug Application ("NDA") stage. This compares
with a total of 158 client products a year ago. During the second quarter of
2007, two products developed on behalf of clients were launched from the
Company's facilities.

    Vision and Strategy

    Patheon's vision is to be the leader in pharmaceutical manufacturing.
Patheon strives to be the preferred manufacturing and pharmaceutical
development services partner to the global pharmaceutical industry. Patheon's
strategy is focused on providing "best-in-class" manufacturing and development
services effectively balancing high product quality and reliability of supply
with cost.
    Patheon expects that stronger manufacturing and development relationships
will continue to emerge between pharmaceutical companies and service companies
as the pharmaceutical industry continues to re-evaluate its internal
manufacturing capabilities and streamlines its external service-provider
network. The Company is using its position as a comprehensive provider of
commercial manufacturing and development services to establish and maintain
long-term and strategic relationships with clients on a global basis.
    Prior to 2006, a key aspect of Patheon's strategy was a plan to expand
capacity, expertise and capabilities through acquisitions, positioning the
Company to be the preferred manufacturing services partner to the
pharmaceutical industry. This led to the acquisition of several pharmaceutical
manufacturing facilities and the entry into long-term manufacturing
relationships in conjunction with certain of these acquisitions. More recently
Patheon has focused on growing the business internally by expanding the level
of business from existing clients, attracting new clients, and entering into
commercial manufacturing agreements for newly approved products for which the
Company has provided development services.
    In implementing its strategy, the Company will continue to maximize
capacity utilization and improve efficiency, broaden its services to include
other specialized manufacturing capabilities and seek to increase the
percentage of more profitable products manufactured at its facilities. In
addition, the Company will seek to expand its PDS capabilities in North
America and Europe to better serve the needs of the global pharmaceutical
industry. Pharmaceutical development services are an important source of new
business for commercial manufacturing of prescription pharmaceuticals.

    Key Performance Drivers

    In Patheon's 2006 Annual Report, several key performance drivers were
identified for the Company: (i) generating higher quality revenues by
increasing the percentage of higher margin Rx manufacturing and pharmaceutical
development services; (ii) improving capacity utilization at the Company's
sites which have a large fixed-cost base in the short term; (iii) improving
operating efficiencies through a performance enhancement program with
initiatives focused on a global procurement program, a workforce reduction
program and a manufacturing efficiency review process; and (iv) mitigating the
impact of changes in the foreign exchange trading relationship between the
Canadian and U.S. dollar, since the Company's contracts in North America are
primarily denominated in U.S. dollars, but the operating expenses of its six
Canadian sites are primarily denominated in Canadian dollars. An update on our
interim performance relating to these key issues is provided in the section
below entitled "Results of Operations".

    Recent Developments

    Financing Arrangements and Strategic Alternatives

    On September 11, 2006 the Company announced that its Board of Directors
had established a special committee to evaluate a range of strategic and
financial alternatives for the Company. As a result of this review, on
April 27, 2007 JLL Partners, through its investment vehicle, JLL Patheon
Holdings, LLC ("JLL Partners") purchased $150 million of convertible preferred
shares of the Company through a private placement. On April 27, 2007 the
Company also completed new credit facilities in the aggregate amount of
$225 million, comprising a seven-year $150 million term loan and a five-year
$75 million revolving facility.
    The net proceeds from the JLL Partners investment and the seven-year term
loan were used to repay the Company's obligations under its existing North
American and U.K. credit facilities. No amounts have been drawn on the
revolving facility.

    Restructuring the Canadian Site Network

    On April 17, 2007 the Company announced that as part of its strategy to
focus on developing and manufacturing Rx pharmaceutical products and to
improve the Company's profitability, it plans to restructure its current
network of six pharmaceutical manufacturing facilities in Canada.
    The Company plans to divest its Niagara-Burlington Operations business
that is focused on the commercial manufacturing of OTC products. The Niagara-
Burlington Operations to be divested consist of facilities in Fort Erie and
Burlington Gateway and the commercial operations at Burlington Century. The
Company plans to retain the Burlington Century facility where its central
quality control laboratory is also based.
    The Company also plans to close its York Mills, Toronto facility and
transfer substantially all commercial production and development services to
its site in Whitby and some production to its Mississauga and Cincinnati
sites. The Company will also sell the land and buildings. The process of
transferring production to other facilities is expected to take up to two
years.

    Results of Operations

    Three Months Ended April 30, 2007 Compared with Three Months Ended
    April 30, 2006

    Revenues by Geographic Region and Service Activity

    U.S.$ '000                 Three months ended           Six months ended
                                         April 30,                  April 30,
                           2007     2006        %     2007     2006        %
                                           change                     change
                       --------------------------- --------------------------

    North America
    -------------
      Commercial
       Manufacturing
        Prescription     72,335   88,231     -18%  149,511  157,534      -5%
        Over-the-
         counter         17,857   26,900     -34%   35,061   50,419     -30%
                       --------------------------  --------------------------
                         90,192  115,131     -22%  184,572  207,953     -11%
      Development
       Services          20,797   17,855      16%   41,591   35,573      17%
                       --------------------------  --------------------------
                        110,989  132,986     -17%  226,163  243,526      -7%
                       --------------------------  --------------------------
    Europe
    ------
      Commercial
       Manufacturing
        Prescription     61,574   51,929      19%  110,624   94,665      17%
        Over-the-
         counter            737      495      49%    2,011      871     131%
                       --------------------------  --------------------------
                         62,311   52,424      19%  112,635   95,536      18%
      Development
       Services           7,709    4,492      72%   13,906    8,784      58%
                       --------------------------  --------------------------
                         70,020   56,916      23%  126,541  104,320      21%
                       --------------------------  --------------------------
    TOTAL
    -----
      Commercial
       Manufacturing
        Prescription    133,909  140,160      -4%  260,136  252,199       3%
        Over-the-
         counter         18,594   27,395     -32%   37,071   51,290     -28%
                       --------------------------  --------------------------
                        152,503  167,555      -9%  297,207  303,489      -2%
      Development
       Services          28,506   22,347      28%   55,497   44,357      25%
                       --------------------------  --------------------------

    CONSOLIDATED
     REVENUES           181,009  189,902      -5%  352,704  347,846       1%
                       --------------------------  --------------------------
                       --------------------------  --------------------------


    Revenues

    Consolidated revenues for the three-month period ended April 30, 2007
decreased 5%, or $8.9 million, to $181.0 million from $189.9 million in the
same period in 2006. In the second quarter, revenue decreased in both Rx and
OTC manufacturing, but increased in PDS. On a consolidated basis, compared
with the second quarter of 2006, Rx and OTC revenues declined by 4% and 32%,
respectively, and PDS revenues increased by 28%.
    Prescription manufacturing and development services represented 90% of
revenues, compared with 86% for the comparable period in 2006.
    Geographically, in North America, revenues declined in the second quarter
by $22.0 million or 17% over the same period a year ago. The decrease reflects
a significant decline in Rx revenues in Caguas, Puerto Rico as a result of
volume declines for Zocor(R) and Levothyroxine sodium. Zocor(R) lost its
patent protection in June 2006 and the Company's client for Levothyroxine
sodium has suffered a significant decline in market share. Rx revenues were
also lower in Canada principally as a result of lower volumes for a product
where in the prior year the Company's client was building trade inventory
levels after its commercial launch. OTC revenues were also lower in both
Canada and Cincinnati as certain clients have repatriated products back to
their own manufacturing networks. The declines in commercial manufacturing
were partially offset by a significant increase in PDS business in both Canada
and Cincinnati.
    In Europe, revenues for the second quarter of 2007 were $70.0 million or
23% higher than the same period of 2006. The year-over-year increase in
revenues reflects higher Rx manufacturing revenues from operations in Italy
and France. These gains reflect the continuing benefits from two carve out
initiatives where the Company is manufacturing a range of products for two
clients that have closed down facilities within their own manufacturing
network. PDS operations in Swindon also continued to show further increases in
volumes. The Euro strengthened approximately 10% and U.K. sterling
strengthened approximately 12% against the U.S. dollar, increasing reported
revenues by approximately $6.7 million. Had European currencies remained
constant to the rates of the prior year, European revenues would have been 11%
higher than the same period in 2006.

    Operating Expenses

    Operating expenses comprise processing costs (principally materials,
employee and other site-related costs), marketing, sales, service, corporate
support, administrative expenses and foreign exchange gains and losses. In the
second quarter of 2007, operating expenses were $157.0 million, being
$8.7 million lower than the same period a year ago. Operating expenses were
principally impacted by lower commercial manufacturing volumes and savings
from the performance enhancement program, offset in part by the strengthening
European currencies relative to the U.S. dollar. Operating expenses as a
percentage of revenues were 86.7%, compared with 87.2% in the same period a
year ago.

    EBITDA before repositioning expenses and EBITDA margin before
    repositioning expenses

    On a consolidated basis in the second quarter of 2007, EBITDA before
repositioning expenses, representing earnings before repositioning expenses,
depreciation and amortization, foreign exchange losses, interest, refinancing
expenses, write-off of deferred financing costs, and income taxes was
$24.0 million, compared with $24.2 million in the same period a year ago.
EBITDA margin before repositioning expenses was 13.3% in the three-month
period, compared with 12.8% in the same period a year ago.
    In Canada, EBITDA before repositioning expenses from the commercial
operations was $8.2 million, being $1.5 million lower than the same period
last year. The decline principally reflects lower Rx and OTC volumes, offset
in part by savings from the performance enhancement program, in particular at
the Whitby operations. EBITDA before repositioning expenses was not
significantly impacted by foreign exchange in the second quarter of 2007, as
the Canadian dollar was only approximately 1% weaker than the U.S. dollar,
compared with the same period in 2006.
    In the U.S.A. (including Puerto Rico) EBITDA before repositioning
expenses for the commercial operations was a loss of $3.2 million, compared
with a profit of $6.8 million in the same period last year. The significant
decline reflects the reduction in Rx manufacturing volumes in the Caguas,
Puerto Rico facility.
    In Europe, EBITDA before repositioning expenses from the commercial
operations was $13.0 million, being $5.6 million higher than same period a
year ago. The improvement reflects the volume gains in Italy and France. The
strengthening European currencies relative to the US dollar compared with the
same period last year also had the impact of increasing EBITDA before
repositioning expense by approximately $1.2 million.
    EBITDA before repositioning expenses from the global PDS operations was
$7.6 million, being $4.2 million higher than the same period in 2006. The
increase reflects revenue growth across all of the operations.
    Corporate costs in the second quarter of 2007 were $1.5 million lower
than the same period last year.

    Repositioning Expenses

    During the second quarter of 2007 the Company incurred $4.0 million of
expenses in connection with its performance enhancement program and its review
of strategic and financial alternatives. The expenses include consulting fees
associated with the manufacturing efficiency review, further reductions in the
work force, in particular in Puerto Rico, and professional and other costs in
connection with the strategic alternatives review.

    Depreciation and Amortization Expense

    Depreciation and amortization expense was $10.8 million in the second
quarter of 2007, compared with $9.9 million in the second quarter of 2006, an
increase of $0.9 million, or 9%. The increase principally reflects the effect
of the strengthening European currencies relative to the U.S. dollar.

    Amortization of Intangible Assets

    Amortization of intangible assets was $2.2 million in the second quarter
of 2007, compared with $3.5 million for the second quarter of 2006. The
amortization of intangible assets relates to the Puerto Rico operations. The
charge is lower than for the same period last year due to the impact of the
impairment charge of $51.9 million that was made during the third quarter of
2006.

    Foreign Exchange Loss

    During the three months ended April 30, 2007 the Company recorded a net
foreign exchange loss of $0.9 million. This reflects the recognition of net
foreign exchange translation losses previously recorded in accumulated other
comprehensive income, arising from a change in the Company's internal capital
structure.

    Interest Expense and Amortization of Deferred Financing Costs

    Interest expense for the second quarter of 2007 was $7.2 million, up from
the $4.8 million charge in the second quarter of 2006. The increase in
interest costs principally reflects higher debt levels, along with increased
borrowing costs as a result of the amendments to the Company's North American
loan facilities that were replaced by the new financing arrangements on
April 27, 2007.
    Effective November 1, 2006, the Company adopted CICA Accounting Standard
Section 3855 for the accounting of financial instruments, including its policy
on deferring costs of obtaining bank and other debt financing (see "Critical
Accounting Policies and Estimates"). As a result, amounts that in prior
periods were recorded as amortization of deferred financing costs are now
recorded in interest expense.

    Refinancing Expenses

    During the three months ended April 30, 2007 the Company incurred
expenses of $13.5 million in connection with its refinancing activities. The
expenses are made up of transaction costs for the new credit facilities,
transaction costs allocated to the debt portion of the convertible preferred
shares and prepayment charges in connection with cancellation of certain of
the Company's U.K. debt facilities.

    Loss Before Income Taxes

    The Company reported a loss before income taxes of $14.5 million,
compared with earnings of $5.9 million in the same period a year ago.

    Income Taxes

    The Company recorded an income tax charge of $7.5 million in the second
quarter of 2007 compared with a charge of $2.9 million in the same period last
year. The income tax charge in 2007 principally reflects high tax rates in
Italy where the Company reported significant profits, compounded by tax losses
in certain entities in Puerto Rico and Canada, where the tax benefit after
valuation reserves has not been recognized. The 2007 expense includes a charge
of $2.1 million in connection with an inter-company dividend payment and a
charge of $1.9 million in connection with the transfer of net foreign exchange
losses from accumulated other comprehensive income as noted above.

    Net Loss and Loss Per Share

    The Company recorded a net loss in the second quarter of 2007 of
$22.0 million, compared with a profit of $3.0 million in the same period last
year. The loss per share was 23.6 cents, compared with a profit of 3.2 cents
per share a year earlier. The net loss in 2007 included after tax
repositioning expenses of $3.8 million, or 4.1 cents per share and after tax
refinancing expenses of $12.6 million, or 13.5 cents per share. Excluding
these items the net loss in the second quarter of 2007 was $5.6 million, or
6.0 cents per share.
    Because the Company reported a loss in the second quarter of 2007, there
is no impact of dilution.

    Six Months Ended April 30, 2007 Compared with Six Months Ended April 30,
    2006

    Revenues

    Consolidated revenues for the six-month period ended April 30, 2007
increased 1% or $4.9 million to $352.7 million from $347.8 million in the same
period in 2006. Rx manufacturing and PDS revenues grew by 3% and 25%,
respectively, while OTC manufacturing revenues declined by 28%.
    Prescription manufacturing and development services represented 89% of
revenues, compared with 85% for the comparable period in 2006.
    Geographically, in North America, revenues for the six months ended
April 30, 2007 declined by $17.4 million or 7% over the same period a year
ago. The decline reflects a significant reduction in OTC volumes in the
Canadian and Cincinnati operations as certain clients have repatriated
products back to their own manufacturing network. Rx volumes in Puerto Rico
were lower as declines in production of Zocor(R) and Levothyroxine sodium in
Caguas were offset in part by increased volumes in Carolina during the first
quarter of 2007, where in the prior year the facility had been impacted by a
temporary shut down in production to resolve issues with regard to a warning
letter issued by the U.S. Food and Drug Administration ("FDA"). Rx revenues
were also lower in Canada principally as a result of lower volumes for a
product where in 2006 the Company was helping its client build trade inventory
levels for a newly launched product. The declines in commercial manufacturing
revenues were offset in part by a significant increase in PDS revenues in
Canada and Cincinnati.
    In Europe, revenues for the six months ended April 30, 2007 were
$22.2 million or 21% higher than the same period of 2006. The year-over-year
increase in revenues reflects higher Rx manufacturing revenues from operations
in Italy and France arising from the continuing benefits from two carve out
initiatives where the Company is manufacturing a range of products for two
clients that have closed down facilities within their own manufacturing
network. PDS operations in Swindon, U.K. also continued to show further
increases in volumes. These gains were offset in part by lower pre-launch
commercial revenues for the cephalosporin lyophilization services in Swindon.
The Euro strengthened approximately 10% and U.K. sterling strengthened
approximately 12% against the U.S. dollar, increasing reported revenues by
approximately $11.7 million. Had European currencies remained constant to the
rates of the prior year, European revenues would have been 10% higher than the
same period in 2006.

    Operating Expenses

    Operating expenses comprise processing costs (principally materials,
employee and other site-related costs), marketing, sales, service, corporate
support, administrative expenses and foreign exchange gains and losses. In the
six-month period ended April 30, 2007 operating expenses were $305.5 million,
compared with $309.6 million in the same period a year ago, a decline of 1%.
The decline reflects savings from the performance enhancement program, offset
in part by the strengthening European currencies relative to the U.S. dollar.
    Operating expenses as a percentage of revenues were 86.6%, compared with
89.0% in the prior year.

    EBITDA before repositioning expenses and EBITDA margin before
    repositioning expenses

    On a consolidated basis for the six-month period ended April 30, 2007,
EBITDA before repositioning expenses, representing earnings before
repositioning expenses, depreciation and amortization, foreign exchange
losses, interest, refinancing expenses, write-off of deferred financing costs,
and income taxes was $47.2 million, an increase of $9.0 million, or 24%, from
the comparable period in 2006. EBITDA margin before repositioning expenses was
13.4% in the six-month period ended April 30, 2007, compared with 11.0% in the
same period a year ago.
    The Canadian commercial operations reported EBITDA before repositioning
expenses of $16.7 million, or $4.5 million higher than the same period last
year. The improvement reflects savings from the performance enhancement
program, in particular at the Whitby operations, offset in part by lower Rx
and OTC volumes. EBITDA before repositioning expenses was not significantly
impacted by foreign exchange, as the average Canadian dollar exchange rate
relative to the U.S. dollar was virtually unchanged, compared with the same
period in 2006.
    EBITDA before repositioning expenses from the U.S.A. commercial
operations (including Puerto Rico) was $1.6 million, being $7.9 million lower
than the same period last year. The decline principally reflects a reduction
in Rx manufacturing volumes in the Caguas facility, offset in part by higher
profitability in Carolina, which in the first quarter of 2006 was impacted by
a temporary shut down in production.
    In Europe, EBITDA before repositioning expenses from commercial
operations was $18.4 million being $4.1 million higher than the same period
last year. The improvement reflects increased volumes in the operations in
Italy and France, offset in part by the impact of lower pre-launch revenues
for the cephalosporin lyophilization services in Swindon. The strengthening
European currencies against the US dollar compared with the same period last
year also had the impact of increasing EBITDA before repositioning expense by
approximately $1.6 million.
    EBITDA before repositioning expenses from the global PDS operations was
$15.0 million, being $7.0 million higher than the same period in 2006. This
reflects improved profitability across all regions.
    Corporate costs for the six-month period ended April 30, 2007 were
$1.3 million lower than the same period last year.

    Repositioning Expenses

    During the six-month period ended April 30, 2007 the Company incurred
$7.7 million of expenses in connection with its performance enhancement
program and its review of strategic and financial alternatives. The expenses
include consulting fees associated with the manufacturing efficiency review,
further reductions in the work force, in particular in Puerto Rico, and
professional and other costs in connection with the strategic alternatives
review.

    Depreciation and Amortization Expense

    Depreciation and amortization expense was $21.2 million for the six
months ended April 30, 2007, compared with $19.7 million in the same period of
2006, an increase of $1.5 million, or 8%. The increase principally reflects
the effect of the strengthening European currencies relative to the U.S.
dollar.

    Amortization of Intangible Assets

    The amortization of intangible assets was $4.4 million in the six months
ended April 30, 2007, compared with $6.9 million in the same period of 2006.
The amortization of intangible assets relates to the Puerto Rico operations.
The charge is lower than for the same period last year due to the impact of
the impairment charge of $51.9 million that was made during the third quarter
of 2006.

    Interest Expense and Amortization of Deferred Financing Costs

    Interest expense for the six months ended April 30, 2007 was
$14.3 million, compared with $9.9 million in the same period a year ago. The
increase in interest costs reflects higher debt levels, along with increased
borrowing costs as a result of the amendments to the Company's North American
loan facilities that were replaced by the new financing arrangements on
April 27, 2007.
    In 2007 the Company has adopted CICA Accounting Standard Section 3855 for
the accounting of financial instruments, including its policy on deferring
costs of obtaining bank and other debt financing (see "Critical Accounting
Policies and Estimates"). As a result, amounts that in prior periods were
recorded as amortization of deferred financing costs are now recorded in
interest expense.

    Refinancing Expenses and Write-off of Deferred Financing Costs

    All refinancing expenses of $13.5 million for the six months ended
April 30, 2007 were incurred in the second quarter. During the first quarter
of 2006, the Company incurred charges of $1.6 million in connection with the
cancellation and prepayment of certain of its North American credit
facilities. The Company also wrote off $6.3 million in related deferred
financing costs.

    Loss Before Income Taxes

    The Company reported a loss before income taxes of $14.7 million in the
six months ended April 30, 2007, compared with a loss of $6.7 million in the
same period a year ago.

    Income Taxes

    The income tax expense for the six months ended April 30, 2007 was
$9.3 million, compared with an expense of $1.8 million for the same period
last year. The income tax charge in 2007 principally reflects high tax rates
in Italy where the Company reported significant profits, compounded by tax
losses in certain entities in Puerto Rico and Canada, where the tax benefit
after valuation reserves has not been recognized. The 2007 expense includes a
charge of $2.1 million in connection with an inter-company dividend payment
and a charge of $1.9 million in connection with the transfer of net foreign
exchange losses from accumulated other comprehensive income.

    Net Loss and Loss Per Share

    The Company recorded a net loss for the six months ended April 30, 2007
of $24.0 million, compared with a loss of $8.5 million in the same period a
year ago. The loss per share was 25.8 cents compared with 9.2 cents a year
earlier. The net loss for the six months ended April 30, 2007 included after-
tax repositioning expenses of $6.6 million, or 7.1 cents per share and after-
tax refinancing expenses of $12.6 million, or 13.5 cents per share. The net
loss for the six months ended April 30, 2006 included after-tax costs for debt
prepayment charges and the write-off of deferred financing costs of
$6.2 million, or 6.6 cents per share. Excluding these items the net loss for
the six months ended April 30, 2007 was $4.8 million, or 5.2 cents per share,
compared with a loss of $2.3 million, or 2.6 cents per share for the
comparable period last year.
    Because the Company reported a loss in the six months ended April 30,
2007 and 2006 there is no impact of dilution.

    Seasonal Variability of Results

    Historically, the Company's manufacturing and PDS revenues are lower in
the first fiscal quarter. The Company attributes this to several factors,
including: (i) many clients reassess their need for additional product in the
last quarter of the calendar year in order to use existing inventories of
products; (ii) the lower production of seasonal cough and cold remedies; (iii)
many small pharmaceutical and small biotechnology clients involved in PDS
projects limit their project activity toward the end of the calendar year in
order to reassess progress on their projects and manage cash resources; and
(iv) the Patheon-wide plant shut-down during a portion of the traditional
holiday period in December and January.

    Liquidity and Capital Resources

    Summary of Cash Flows

    The following table summarizes the Company's cash flows for the periods
indicated:

                                  Three months ended        Six months ended
                                            April 30,               April 30,
                                    2007        2006        2007        2006
                                 --------------------    --------------------
                                       $           $           $           $
                                 --------------------    --------------------

    Net earnings (loss)          (21,986)      2,989     (24,010)     (8,521)
    Depreciation and
     amortization                 12,961      13,392      25,612      26,626
    Write-off of deferred
     financing costs                   -           -           -       6,332
    Foreign exchange loss            858           -         858           -
    Amortization of deferred
     financing costs               1,311         137       1,380         462
    Employee future benefits         164         860         635          74
    Future income taxes              292         459          68       2,774
    Amortization of deferred
     revenues                       (483)       (498)       (969)       (995)
    Other                           (925)        373        (649)        871
    Working capital                2,069     (15,387)     (4,183)    (17,534)
    Increase in deferred
     revenues                          -           -           -       9,614
                                ---------   ---------   ---------   ---------
    Cash provided by (used in)
     operating activities         (5,739)      2,325      (1,258)     19,703
    Cash used in investing
     activities                   (5,449)    (13,564)    (14,462)    (28,002)
    Cash provided by (used in)
     financing activities         18,540       4,450      10,382      (7,878)
    Other                          2,360        (225)      1,153        (103)
                                ---------   ---------   ---------   ---------
    Net increase (decrease)
     in cash and cash
     equivalents                   9,712      (7,014)     (4,185)    (16,280)
                                ---------   ---------   ---------   ---------
                                ---------   ---------   ---------   ---------


    Cash Provided by (Used in) Operating Activities

    Cash used in operating activities was $5.7 million in the second quarter
of 2007 compared with a cash inflow of $2.3 million for the comparable period
in 2006. On a year-to-date basis, cash used in operating activities was
$1.3 million, compared with a cash inflow of $19.7 million in the same period
last year. The year to date decline principally reflects an increase in net
losses offset in part by a reduction in cash invested in working capital. In
addition, in 2006, $9.6 million of cash was received from a client for the
reimbursement of costs the Company incurred in connection with the sterile
cephalosporin lyophilization capacity that has been installed in Swindon, U.K.
This amount was recorded as an increase in deferred revenues and will be
recognized as income over the life of the commercial manufacturing contract.

    Cash Used in Investing Activities

    Cash used in investing activities in the second quarter of 2007 was
$5.4 million, compared with $13.6 million in the same period a year ago. On a
year-to-date basis, cash used in investing activities was $14.5 million,
compared with $28.0 million in the same period last year. The decrease for the
second quarter and year-to-date principally reflects lower project related
capital expenditures on the cephalosporin lyophilization capacity in the
Swindon, U.K. facility. The major expenditures for this expansion were
incurred in 2006.

    A summary of cash used in investing activities is as follows:

                                  Three months ended        Six months ended
                                            April 30,               April 30,
                                    2007        2006        2007        2006
                                 --------------------    --------------------
                                       $           $           $           $
                                 --------------------    --------------------
    Additions to capital assets
     - sustaining                 (2,535)     (3,597)     (5,652)     (6,337)
     - project-related            (2,268)    (10,028)     (7,215)    (21,208)
    Decrease in investments            -           -         116           -
    Increase in deferred
     pre-operating  costs           (646)         61      (1,711)       (457)
                                ---------   ---------   ---------   ---------
    Cash used in investing
     activities                   (5,449)    (13,564)    (14,462)    (28,002)
                                ---------   ---------   ---------   ---------
                                ---------   ---------   ---------   ---------


    Cash Provided by (Used in) Financing Activities

    The principal financing activity for the six months ended April 30, 2007
was the issue, through a private placement, of $150 million of convertible
preferred shares of the Company to JLL Partners and the completion of new
credit facilities in the aggregate amount of $225 million, comprising a seven-
year $150 million term loan and a five-year $75 million revolving facility.
The net proceeds from the JLL Partners investment and the seven-year term loan
were used to repay the Company's obligations under its existing North American
and U.K. credit facilities. No amounts were drawn on the revolving facility.
    The principal financing activity during the six months ended April 30,
2006 was the completion of new credit facilities in North America in the
aggregate amount of $290.0 million to refinance existing debt of the Company
and its U.S. subsidiaries. The Company was able to release $7.8 million of
restricted cash that had previously been held as security for certain of the
cancelled facilities. During the first quarter of 2006 the Company's Italian
subsidiary also entered into a new long-term debt facility in the amount of
28.5 million euros ($33.9 million) to replace existing loans.
    A summary of cash provided by (used in) financing activities is as
follows:

                                  Three months ended        Six months ended
                                            April 30,               April 30,
                                    2007        2006        2007        2006
                                ---------------------   ---------------------
                                       $           $           $           $
                                ---------------------   ---------------------

    Increase (decrease) in
     bank indebtedness            (8,258)        905      (1,316)    (12,691)
    Increase in long-term debt   166,470      27,563     175,840     311,143
    Repayment of long-term
     debt                       (288,483)    (23,993)   (312,953)   (311,345)
    Issue of convertible
     preferred shares            150,000           -     150,000           -
    Convertible preferred
     share issue costs -
     equity component             (1,213)          -      (1,213)          -
    Issue of restricted
     voting shares                    24           -          24           -
    Decrease in restricted cash        -           -           -       7,805
    Increase in deferred
     financing costs                   -         (25)          -      (2,790)

                                ---------   ---------   ---------   ---------
    Cash provided by (used in)
     financing activities         18,540       4,450      10,382      (7,878)
                                ---------   ---------   ---------   ---------
                                ---------   ---------   ---------   ---------


    Financing Arrangements and Ratios

    Convertible Preferred Shares
    ----------------------------
    The $150 million 8.5% convertible preferred shares purchased by JLL
Partners on April 27, 2007 represent 150,000 units, each consisting of one
Class I Preferred Share, Series C and one Class I Preferred Share, Series D at
a purchase price of $1,000 per unit.
    Until October 27, 2009, no cash dividends will be paid, but the
liquidation preference and conversion rate will increase on a quarterly basis
by 2.125%. After October 27, 2009, these increases in the liquidation
preference and conversion rate will continue until the maturity or prior
conversion of the convertible preferred shares, unless the Company elects to
pay a cash dividend for any applicable quarter, in which case the Company will
pay a cash dividend for such quarter based on an annual dividend rate of 8.5%
on the aggregate liquidation preference of the convertible preferred shares.
    Each convertible preferred share is convertible into 209.7081 Patheon
restricted voting shares, as adjusted for any non-cash dividends noted above,
at any time at the holder's option. The Company will be entitled to require
the holder to convert into restricted voting shares if, at any time after
October 27, 2009, the market price of the restricted voting shares on the
Toronto Stock Exchange exceeds a price equivalent to US$7.87 for a period of
at least 60 days.
    If not previously converted, the Company is required to redeem the
convertible preferred shares for cash on April 27, 2017 at a price equal to
the aggregate liquidation preference of the convertible preferred shares, plus
accrued and unpaid dividends thereon. The Company is also required to redeem
the convertible preferred shares upon the occurrence of a change of control of
Patheon at a price equal to the greater of the aggregate liquidation
preference of the convertible preferred shares, plus accrued and unpaid
dividends thereon, or the price per share paid to holders of restricted voting
shares in the change of control transaction, multiplied by the number of
restricted voting shares into which the convertible preferred shares are then
convertible.
    The convertible preferred shares have the right to vote, together with
the holders of the restricted voting shares, on an as-if converted basis, in
respect of all matters other than the election of directors. These voting
rights represent approximately 25% of the voting rights of Patheon. The
special voting preferred shares have the right to appoint up to three
directors.
    The convertible preferred shares are considered to be a compound
financial instrument with both a debt and equity component. On issuance, the
fair value of the debt component was $132.9 million. The remainder of the
proceeds, attributable to shareholders' equity was $15.9 million, net of
apportioned transaction costs of $1.2 million. See Convertible Preferred
Shares in "Critical Accounting Policies and Estimates" below with regard to
how the Convertible Preferred Shares have been accounted for.

    $225 Million Credit Facilities
    ------------------------------
    On April 27, 2007 the Company completed new credit facilities in the
aggregate amount of $225 million, comprising a seven-year $150 million senior
secured term loan and a five-year $75 million asset based revolving credit
facility. The Company is required to make quarterly installment payments of
$375,000 on the term loan facility, along with additional mandatory repayments
based on certain excess cash flow measures. Interest on the facilities is at
floating rates based on LIBOR, US prime, or the federal funds effective rate,
plus applicable margins. The facilities are secured by substantially all of
the assets of the Company's operations in Canada, U.S.A., Puerto Rico and the
U.K and the Company's investments in the shares of all other operating
subsidiaries.

    Financial Ratios
    ----------------
    Total interest bearing debt, including the debt component of the
convertible preferred shares, at April 30, 2007 was $350.3 million, being
$0.7 million higher than at October 31, 2006. At April 30, 2007, the Company's
consolidated ratio of interest-bearing debt to shareholders' equity was
139.2%, compared with 139.4% at October 31, 2006.

    Adequacy of Financial Resources

    With the completion of the new financing arrangements on April 27, 2007,
the Company believes that its financial resources are sufficient to fund
projected capital expenditures, debt service requirements and employee future
benefit obligations in the normal course of business. The risks associated
with going concern uncertainty reported in the Company's 2006 Annual Report
and MD&A for the period ended January 31, 2007 have now been eliminated.

    Critical Accounting Policies and Estimates

    Changes in and Significant New Accounting Policies

    Effective November 1, 2006 the Company adopted the Canadian Institute of
Chartered Accountants Handbook Section 3855 "Financial Instruments -
Recognition and Measurement", Section 3865 "Hedges", Section 1530
"Comprehensive Income" and Section 3861 "Financial Instruments - Disclosure
and Presentation". The adoption of the new standards resulted in changes in
accounting for financial instruments and hedges as well as the recognition of
certain transition adjustments that have been recorded in accumulated other
comprehensive income. The comparative interim consolidated financial
statements have not been restated, except for the reclassification of amounts
previously recorded as cumulative translation adjustment, which are now
included in accumulated other comprehensive income. For a description of the
principal changes in accounting policy see Note 1 to the consolidated
financial statements.
    In the second quarter of 2007 the Company changed its accounting policy
relating to costs of obtaining bank and other debt financing. Under the new
policy all transaction costs, including fees paid to advisors and other
related costs, are expensed as incurred. Financing costs, including
underwriting and arrangement fees paid to lenders are deferred and netted
against the carrying value of the related debt and amortized into interest
expense using the effective interest rate method. The Company previously
deferred all transaction and financing costs associated with obtaining bank
and other debt financing. Under the new requirements of CICA Handbook Section
3855, all deferred costs are netted off against the fair value of the debt.
The Company believes that the new policy is reliable and more relevant as it
results in a more transparent treatment of transaction costs that the Company
has incurred in its recent refinancing activities and in the carrying value of
debt. The change in policy has been made retrospectively effective November 1,
2006 and had the effect of increasing the retained deficit at November 1, 2006
by $1.7 million and reducing the interest expense and net loss for the three
months ended January 31, 2007 by $0.6 million.
    As a result of the issuance of the convertible preferred shares on
April, 27 2007, the Company has also added a new accounting policy for
convertible preferred shares as detailed below.

    General

    Patheon's significant accounting policies are described in Note 1 to the
2006 audited consolidated financial statements. The most critical of these
policies are those related to revenue recognition, deferred revenues,
intangible assets, impairment of long lived depreciable assets, goodwill,
employee future benefits, and income taxes, (Notes 1, 7, 9, 13 and 17 of the
2006 audited consolidated financial statements).
    The preparation of the consolidated financial statements in conformity
with Canadian generally accepted accounting principles requires management to
make estimates and assumptions that affect: the reported amounts of assets and
liabilities; the disclosure of contingent assets and liabilities at the date
of the consolidated financial statements; and the reported amounts of revenue
and expenses in the reporting period. Management believes that the estimates
and assumptions used in preparing its consolidated financial statements are
reasonable and prudent; however, actual results could differ from those
estimates.
    The Company's Accounting Policies have been reviewed and discussed with
the Company's Audit Committee.

    Revenue Recognition

    The Company recognizes revenue for its commercial manufacturing and
pharmaceutical development services when services are completed in accordance
with specific agreements with its clients and when all costs connected with
providing these services have been incurred, the price is fixed or
determinable and collectibility is reasonably assured. Client deposits on
pharmaceutical development services in progress are included in accounts
payable and accrued liabilities.
    The Company does not receive any fees on signing of contracts. In the
case of pharmaceutical development services, revenue is recognized on the
achievement of specific milestones in accordance with the respective
development service contracts. In the case of commercial manufacturing
services, revenue is recognized when services are complete and the product has
met rigorous quality assurance testing.

    Deferred Revenues

    The costs of certain capital assets are reimbursed to the Company by the
pharmaceutical companies that are to benefit from the improvements in
connection with the manufacturing and packaging agreements in force. These
reimbursements are recorded as deferred revenues and are recognized as income
over the remaining minimum term of the agreements. During the second quarter
of 2007, $0.5 million was recognized as earnings. During the six months ended
April 30, 2007, $1.0 million was recognized as earnings.

    Intangible Assets

    Intangible assets represent the values assigned to acquired client
contracts and relationships. They are amortized on a straight-line basis over
their estimated economic life. During the second quarter of 2007, $2.2 million
was charged to earnings. During the six months ended April 30, 2007,
$4.4 million was charged to earnings.

    Impairment of Long Lived Depreciable Assets

    On an ongoing basis, the Company reviews whether there are any indicators
of impairment of its capital assets and identifiable intangible assets ("long
lived depreciable assets"). If such indicators are present, the Company
assesses the recoverability of the assets or group of assets by determining
whether the carrying value of such assets can be recovered through
undiscounted future cash flows. If the sum of undiscounted future cash flows
is less than the carrying amount, the excess of the carrying amount over the
estimated fair value, based on discounted future cash flows, is recorded as a
charge to net earnings. No amounts in connection with impairment were charged
to the net loss in the three months and six months ended April 30, 2007.

    Valuation of Goodwill

    The Company evaluates goodwill for impairment at least annually and
reviews if there are any indicators of impairment on an ongoing basis. If the
carrying value of the reporting unit exceeds its fair value, the fair value of
the reporting units goodwill, determined in the same manner as in a business
combination, is compared with its carrying amount to measure the amount of any
impairment loss, if any.
    The goodwill shown on the financial statements for the period ended
April 30, 2007 was $3.1 million and relates to the acquisition in 2000 of the
remaining shares of Global Pharm Inc., which now operates as Toronto York
Mills Operations.

    Income Taxes

    In accordance with Canadian GAAP, the Company uses the liability method
of accounting for future income taxes and provides for future income taxes for
significant temporary timing differences.
    Preparation of the consolidated financial statements requires an estimate
of income taxes in each of the jurisdictions in which the Company operates.
The process involves an estimate of the Company's current tax exposure and an
assessment of temporary differences resulting from differing treatment of
items such as depreciation and amortization for tax and accounting purposes.
These differences result in future tax assets and liabilities and are
reflected in the consolidated balance sheet.
    Future tax assets of $26.1 million have been recorded at April 30, 2007.
The future tax assets are primarily composed of accounting provisions related
to pension and post-retirement benefits not currently deductible for tax
purposes, the tax benefit of net operating loss carry forwards related to the
U.K., unclaimed R&D expenditures and deferred financing and share issue costs.
The Company evaluates quarterly the ability to realize its future tax assets.
The factors used to assess the likelihood of realization are the Company's
forecast of future taxable income and available tax planning strategies that
could be implemented to realize the future tax assets.
    Future tax liabilities of $35.8 million have been recorded at April 30,
2007. This liability has arisen primarily on tax depreciation in excess of
book depreciation.
    The Company's tax filings are subject to audit by taxation authorities.
Although management believes that it has adequately provided for income taxes
based on the information available, the outcome of audits cannot be known with
certainty and the potential impact on the financial statements is not
determinable.

    Convertible Preferred Shares

    On April 27, 2007 the Company issued $150 million of convertible
preferred shares. The shares are considered to be a compound financial
instrument that contains both a debt component and an equity component.
    On issuance of the convertible preferred shares, the fair value of the
debt component is determined by discounting the expected future cash flows
using a market interest rate for a non-convertible debt instrument with
similar terms. The resulting value is carried as debt on an amortized cost
basis until extinguished on conversion or redemption. The remainder of the
proceeds is allocated as a separate component of shareholders' equity, net of
transaction costs. Transaction costs are apportioned between the debt and
equity components based on their respective carrying amounts when the
instrument was issued.
    On conversion, the carrying amount of the debt component and the equity
component are transferred to share capital and no gain or loss is recognized.

    Employee Future Benefits

    The Company provides to certain retired employees pensions and post-
employment benefits, including medical benefits and dental care. The
determination of the obligation and expense for defined benefit pensions and
post-employment benefits is dependent on the selection of certain assumptions
used by actuaries in calculating such amounts. Those assumptions are disclosed
in Note 13 to the Company's 2006 audited consolidated financial statements.

    Risk Management

    The following are updates to certain of the risks and uncertainties
described in the Company's Management's Discussion and Analysis for the Year
Ended October 31, 2006, available on SEDAR (www.sedar.com) or on Patheon's
website (www.patheon.com).

    Foreign Currency

    The Company's business activities are conducted in several currencies -
Canadian dollars and U.S. dollars for the Canadian operations, U.S. dollars
for the U.S. operations and euros and U.K. sterling for the European
operations.
    Since the European and U.S. operations conduct business principally in
their respective local currencies, the exposure to foreign currency gains and
losses is not significant. However, the Company's Canadian operations
negotiate sales contracts for payment in both U.S. and Canadian dollars, and
materials and equipment are purchased in both U.S. and Canadian dollars. The
majority of its non-material costs (including payroll, facilities' costs and
costs of locally sourced supplies and inventory) are denominated in Canadian
dollars. Approximately 60% to 70% of revenues of the Canadian operations and
approximately 10% to 20% of its operating expenses are transacted in U.S.
dollars. As a result, the Company may experience trading and translation gains
or losses because of volatility in the exchange rate between the Canadian
dollar and the U.S. dollar. Based on the Company's current U.S. denominated
net inflows, for each one-cent change in the Canadian-U.S. rate, the impact on
annual pretax earnings, excluding any hedging activities, is approximately
$1.1 million.
    The Company mitigates its foreign exchange risk by engaging in foreign
currency hedging activities using derivative financial instruments. At
April 30, 2007 the Company had outstanding foreign exchange forward contracts
to sell US$54.0 million. The contracts mature at the latest on October 29,
2007 and cover approximately 90% of the Company's expected foreign exchange
exposure for the balance of the 2007 fiscal year. The mark-to-market value at
April 30, 2007 that is recorded in accumulated other comprehensive income is a
gain of $0.8 million. The Company does not purchase any derivative instruments
for speculative purposes.
    Translation gains and losses related to the carrying value of the
Company's foreign operations and certain foreign currency denominated debt
held by the Company designated as a hedge against the carrying value of
certain foreign operations, are included in accumulated other comprehensive
income in shareholders' equity. At April 30, 2007, the Company had designated
$133 million of US dollar denominated debt as a hedge against its investment
in its U.S.A. and Puerto Rico subsidiaries.

    Interest Rate Exposure

    The Company has exposure to movements in interest rates. On May 25, 2007
the Company entered into an interest rate swap to convert the interest expense
on the $150 million senior secured term loan from a floating interest rate to
a fixed interest rate. Taking this interest rate swap into account, at
April 30, 2007, 18% of the Company's total debt portfolio, including the debt
component of the convertible preferred shares, was subject to movements in
floating interest rates. Assuming no change to the structure of the debt
portfolio, a 1% change in floating interest rates has an impact on annual pre-
tax earnings of approximately $0.6 million.

    Effectiveness of Disclosure Controls and Internal Controls

    Disclosure controls and procedures are designed to provide reasonable
assurance that all relevant information is gathered and reported to senior
management, including the Chief Executive Officer ("CEO") and the Chief
Financial Officer ("CFO"), on a timely basis so that appropriate decisions can
be made regarding public disclosure. An evaluation of the effectiveness of the
design and operation of the Company's disclosure controls and procedures was
conducted as of October 31, 2006 by and under the supervision of the Company's
management, including the CEO and the CFO. Based on this evaluation, the CEO
and the CFO have concluded that the Company's disclosure controls and
procedures (as defined in Multilateral Instrument 52-109 - Certification of
Disclosure in Issuers' Annual and Interim Filings of the Canadian Securities
Administrators) are effective to ensure that the information required to be
disclosed in reports that the Company files or submits under Canadian
securities legislation is recorded, processed, summarized and reported within
the time periods specified in such legislation. There have been no changes,
since this last formal assessment, that have materially affected, or are
reasonably likely to materially affect the Company's disclosure controls and
procedures.
    Under the supervision of the CEO and CFO, the Company has designed
internal controls over financial reporting to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with GAAP. This
design evaluation included documentation activities, management inquiries and
other reviews as deemed appropriate by management in consideration of the size
and nature of the Company's business. There were no changes in the Company's
internal controls over financial reporting during the most recent interim
period that have materially affected, or are reasonably likely to materially
affect, its internal control over financial reporting.

    Selected Quarterly Financial Information

    The following is selected financial information for the eight most recent
quarters:

                                  EBITDA
                                  BEFORE                     EARNINGS (LOSS)
                                  REPOSI-        NET            PER SHARE
    QUARTER                      TIONING    EARNINGS     ---------------------
    ENDED           REVENUES    EXPENSES       (LOSS)      Basic      Diluted
    (In thousands
    of U.S. dollars,
    except per
    share amounts)         $           $           $           $           $
    -------------------------------------------------------------------------
    2007
    April 30         181,009      24,007     (21,986)     ($0.24)     ($0.24)
    January 31       171,695      23,234      (2,024)     ($0.02)     ($0.02)

    2006
    October 31       175,115      19,565     (22,416)     ($0.24)     ($0.24)
    July 31          189,191      15,999    (257,213)     ($2.77)     ($2.77)
    April 30         189,902      24,213       2,989       $0.03       $0.03
    January 31       157,944      14,012     (11,510)     ($0.12)     ($0.12)

    2005
    October 31       181,893      26,203       8,379       $0.09       $0.09
    July 31          178,390      25,826       3,455       $0.04       $0.04


    Additional Information

    Share Capital

    As of April 30, 2007, the Company had 92,958,688 restricted voting shares
(previously common shares) outstanding and 150,000 each of Class I Preferred
Shares, Series C and Series D.
    The Company's articles were amended on April 26, 2007 to redesignate the
common shares as restricted voting shares. This occurred in connection with
the issuance of the convertible preferred shares. The holders of the
convertible preferred shares have the right to elect up to three of nine
members of the Board of Directors. The holders of Patheon's common shares have
the right to elect the remaining members of the Board of Directors. Under the
rules of the Toronto Stock Exchange, voting equity securities are not to be
designated, or called, common shares unless they have a right to vote in all
circumstances that is not less, on a per share basis, than the voting rights
of each other class of voting securities. Accordingly, the Company has amended
its articles to redesignate the common shares as restricted voting shares.
This redesignation involves only a change in the name of the securities; the
number of shares outstanding and the terms and conditions of the outstanding
shares are not affected by the change.

    Public Securities Filings

    Other information about the Company, including the annual information
form and other disclosure documents, reports, statements or other information
that is filed with Canadian securities regulatory authorities can be accessed
through SEDAR at www.sedar.com.

    Outlook

    Revenues for the third quarter of 2007 are expected to be approximately
the same as the second quarter of 2007. Revenues are expected to be slightly
higher across the network with the exception of the U.S. operations, where the
Company expects to experience lower client demand for products currently being
manufactured at those operations. The Company continues to expect that
revenues from current operations for 2007 will be comparable to 2007.

    FORWARD-LOOKING STATEMENTS

    This news release and MD&A contains forward-looking statements which
reflect management's expectations regarding the Company's future growth,
results of operations, performance (both operational and financial) and
business prospects and opportunities. Wherever possible, words such as
"plans", "expects" or "does not expect", "forecasts", "anticipates" or "does
not anticipate", "believes", "intends" and similar expressions or statements
that certain actions, events or results "may", "could", "would", "might" or
"will" be taken, occur or be achieved have been used to identify these forward-
looking statements. Although the forward-looking statements contained in this
news release and MD&A reflect management's current assumptions based upon
information currently available to management and based upon what management
believes to be reasonable assumptions, the Company cannot be certain that
actual results will be consistent with these forward-looking statements.
Forward-looking statements necessarily involve significant known and unknown
risks, assumptions and uncertainties that may cause the Company's actual
results, performance, prospects and opportunities in future periods to differ
materially from those expressed or implied by such forward-looking statements.
These risks and uncertainties include, among other things: the market demand
for client products; credit and client concentration; the ability to identify
and secure new contracts; regulatory matters, including compliance with
pharmaceutical regulations; management of expanded operations; international
operations risks; currency; competition; product liability claims;
intellectual property; environmental; interest rates; and conditions of MOVA's
tax exemptions. Although the Company has attempted to identify important risks
and factors that could cause actual actions, events or results to differ
materially from those described in forward-looking statements, there may be
other factors and risks that cause actions, events or results not to be as
anticipated, estimated or intended. There can be no assurance that forward-
looking statements will prove to be accurate, as actual results and future
events could differ materially from those anticipated in such statements.
Accordingly, readers should not place undue reliance on forward-looking
statements. These forward-looking statements are made as of the date of this
news release and MD&A and, except as required by law, the Company assumes no
obligation to update or revise them to reflect new events or circumstances.
    

    %SEDAR: 00001700E




For further information:

For further information: Mr. Riccardo Trecroce, Chief Executive Officer,
Tel: (905) 812-6877, Fax: (905) 812-6613, Email: rtrecroce@patheon.com; Mr.
John Bell, Chief Financial Officer, Tel: (905) 812-6812, Fax: (905) 812-6613,
Email: john.h.bell@patheon.com; Ms. Shelley Jourard, Director, Corporate
Communications, Tel: (905) 812-6614, Fax: (905) 812-6613; Email:
sjourard@patheon.com

Organization Profile

Patheon Inc

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