**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C.20549**

**FORM 10-K**

**(Mark One)**

| x      | **ANNUAL REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE  SECURITIES EXHANGE ACT OF 1934**                                      |
|--------|------------------------------------------------------------------------------------------------------------------------------------------|
|   | **For the fiscal year ended December 30, 2006**                                                                                     |
| o      | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934**                                 |
|   | **For the transition period from           to         ** |

 

**Commissionfile number 001-16121**

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**VIASYS HEALTHCARE INC.**

(Exact Name of Registrantas Specified in Its Charter)

| **Delaware**                               |   | **04-3505871**      |
|--------------------------------------------|--------|---------------------|
| (State or Other Jurisdiction of            |   | (I.R.S. Employer    |
| Incorporation or Organization)             |   | Identification No.) |
| **227 Washington Street,  Suite 200** |   | ** **          |
| **Conshohocken, Pennsylvania**             |   | **19428**           |
| (Address of Principal Executive Offices)   |   | (Zip Code)          |

 

Registrant’s telephone number, including area code: **(610) 862-0800**

**Securitiesregistered pursuant to Section 12(b) of the Act:**

|                                                                      | **Title of Each Class** | ** ** | ** ** | **Name of Each Exchange on Which Registered** | ** ** |
|----------------------------------------------------------------------|-------------------------|------------|------------|-----------------------------------------------|------------|
| Common Stock, $.01  par value                                        | New York Stock Exchange |
| Series A  Junior Participating Preferred Stock  Purchase Rights | New York Stock Exchange |

 

**Securitiesregistered pursuant to Section 12(g) of the Act:**

None

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Indicate by check mark ifthe Registrant is a well-known seasoned issuer, as defined in Rule 405 ofthe Securities Act.

Yes x   No o

Indicate by check mark ifthe Registrant is not required to file reports pursuant to Section 13 or Section 15(d) ofthe Act.

Yes o   No x

Indicate by check mark whether the Registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or forsuch shorter period that the Registrant was required to file such reports), and(2) has been subject to the filing requirements for at least the past90 days.   Yes x   No o

Indicate by check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-K is not contained herein, andwill not be contained, to the best of the Registrant’s knowledge, in definitiveproxy or information statements incorporated by reference into Part III ofthis Form 10-K or any amendment to this Form 10-K.   o

Indicate by check mark whether the Registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer (asdefined in Exchange Act Rule 12b-2).

Large accelerated filer   o      Acceleratedfiler x      Non-acceleratedfiler   o

Indicate by check mark whether the Registrant is ashell company (as defined in Rule 12b-2 of the Act).   Yes o   No x

The aggregate market value of the voting stock held bynon-affiliates of the Registrant as of July 1, 2006 (the last business dayof the Registrant’s most recently completed second fiscal quarter), computed byreference to $25.60, the price at which the stock was last sold, wasapproximately $585,512,499. For purposes of making this calculation only, theRegistrant has defined “affiliates” as including all executive officers,directors beneficial owners of at least *five* percent ofthe Registrant’s outstanding Common Stock.

As of March *2*, 2007, theRegistrant had 33,068,053 shares of Common Stock outstanding. This numberexcludes 24,288 shares held by the Registrant as treasury shares.

**DOCUMENTS INCORPORATED BY REFERENCE**

Portions of theRegistrant’s definitive Proxy Statement to be filed no later than April 30,2007, in connection with the 2007 Annual Meeting of Stockholders to be held on May 10,2007, are incorporated by reference into Part III of this Annual Report onForm 10-K.

 

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**InformationConcerning Forward-Looking Statements**

The Private Securities Litigation Reform Act of 1995(the “Act”) provides a safe harbor for forward-looking statements made byus or on our behalf. We and our representatives may from time to time make writtenor oral statements that are “forward-looking,” including statementscontained in this report and other filings with the Securities and ExchangeCommission, reports to our shareholders and news releases. All statements thatexpress expectations, estimates, forecasts or projections are forward-lookingstatements within the meaning of the Act. In addition, other written or oralstatements which constitute forward-looking statements may be made by usor on our behalf. Words such as “expects,” “anticipates,” “intends,” “plans,” “believes,”“seeks,” “estimates,” “projects,” “forecasts,” “may,” “should,” variations ofsuch words and similar expressions are intended to identify such forward-lookingstatements. These statements are not guarantees of future performance andinvolve certain risks, uncertainties and assumptions which are difficult topredict. Therefore, actual outcomes and results may differ materially from whatis expressed or forecasted in or suggested by such forward-lookingstatements. The forward-looking statements contained in this reportinclude but are not limited to statements regarding our belief relating to the significance, growth and market positions of ourproducts, the growth opportunities and outlook for our business, our plan todevelop new products and services, our ability to obtain raw materials for oursignificant products, FDA regulations and process, our compliance withgovernment regulations, competition, our plan to expand our internationalpresence, our expectation to license additional products, our belief regardingour facilities, our expectation regarding restructuring, the significance ofour acquisitions, the impact of legal proceedings on our business, ourexpectation to receive indemnification with respect to certain litigationexposure, the potential litigation that we may face as a result of our entryinto new markets, our expectation to continue to be in compliance with thefinancial covenants in our credit facilities, our dividend policy, the impactof recent accounting pronouncements, our estimated capital expenditures for2007, our belief regarding the long-term benefit of the restructuring plan, andour belief that we have sufficient liquidity and capital resources to financeour operations and commitments for the foreseeable future.****We undertake no obligation to update publicly any forward-lookingstatements, whether as a result of new information, future events or otherwise.

A wide range offactors could materially affect our future performance and financial and competitiveposition, including the following:

·       ourprojected growth of the neurocare market and the demand for respiratory careequipment and disposables;

·       ourability to capitalize on our existing installed equipment base in therespiratory care, neurocare, medsystems and orthopedics markets and ourresearch, development and marketing expertise to expand our business;

·       ourability to increase our revenues and profits;

·       ourability to develop brand recognition of our products and services; and

·       factorsset forth herein under the caption “Item 1A. Risk Factors”.

This above list of factorsis not exhaustive but merely illustrative of the many factors that may affectour future performance, financial and competitive position and the accuracy ofour forward-looking statements. Accordingly, all forward-lookingstatements must be evaluated with the understanding of their inherentuncertainty.

**Item1.****                        *Business***

**Overview**

We are a healthcare technology company engaged indeveloping, manufacturing, marketing and servicing a variety of medicaldevices, instruments and medical and surgical products for use in therespiratory, neurological, vascular, audio, homecare, medical and surgicalproducts markets. We were 

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incorporated in Delawarein August 1995 as a wholly-owned subsidiary of Thermo ElectronCorporation (“Thermo Electron” or “former parent company”). Our business wasformed from the combination of a number of enterprises separately acquired ororiginated by Thermo Electron, including Bird Medical Technologies, Inc.,Bear Medical Systems, Inc., SensorMedics Corporation, Erich Jaeger GmbH,Nicolet Biomedical, Inc., and Tecomet, Inc. On November 15, 2001(“Spin-off Date”), as part of its reorganization plan, Thermo Electron spun-offits equity interest in our Company by distribution of a dividend to itsstockholders of record as of November 7, 2001.

Prior to 2005, our business was organized and operatedthrough the following four reportable segments: Respiratory Technologies, Critical Care, NeuroCare and Medical and SurgicalProducts. During the first quarter of 2005, we changed our reportable segmentsto reflect how we now manage our business. As a result, RespiratoryTechnologies and Critical Care operating segments were combined into oneoperating segment called Respiratory Care. We also split our Medical andSurgical Products operating segment into two separate segments:  MedSystems and Orthopedics.

Currently, ourbusiness is organized and operated through four segments:

Our *RespiratoryCare* group develops, manufactures, markets and services products forthe diagnosis and treatment of pulmonary and sleep-related disorders, aswell as provides products and services to support pharmaceutical companies andclinical research organizations. This group also develops, manufactures,markets and services life support products to treat respiratory insufficiencycaused by illness, injury or premature birth.

Our *NeuroCare*group develops, manufactures, markets and services a comprehensive line ofneurological, vascular and audiological diagnostic and monitoring products, aswell as provides a complete line of supplies, accessories and softwaredatabase, reporting and connectivity systems for those markets.

Our *MedSystems*groupdevelops, manufactures and markets disposable medical products.

Our *Orthopedics*group manufactures and markets specialty metal components for orthopedicproducts, medical-imaging equipment, cardio-vascular implants and highprecision metal components.

We market our products in over 100 countries and ourcustomers include hospitals, alternate care sites, sleep clinics, home careproviders, clinical laboratories, private physicians, original equipmentmanufacturers and government agencies. Our global revenues from continuingoperations in 2006 totaled $610.4 million. Revenue, operating income fromcontinuing operations and total assets by segment are set forth in Note 17 tothe Consolidated Financial Statements.

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Since the spin off in2001, we have made a number of acquisitions. These acquisitions consisted ofeither the purchase of the company or substantially all of the assets of thecompany. The businesses acquired include:
| Name of Business                  | ** ** | ** **                                                                                                  | ** ** | **Description**         | ** ** | ** **       | ** ** | **Date of  Acquisition** | ** ** | ** ** | ** ** | **Operating Segment** |
|-----------------------------------|------------|-------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|------------------|------------|--------------------------|------------|------------|------------|-----------------------|
| E.M.E. Limited                    |       | Infant ventilators and disposables                                                                          |       | October 16, 2002   |       | Respiratory Care |
| SciMed Limited                    |       | Doppler ultrasound equipment                                                                                |       | December 18, 2002  |       | NeuroCare        |
| Taugagreining hf                  |       | EEG technology                                                                                              |       | July 28, 2004      |       | NeuroCare        |
| Navion Biomedical  Corporation    |       | Device to facilitate the placement of peripherally  inserted central catheters and central venous catheters |       | January 18, 2005   |       | MedSystems       |
| Oxford Medical                    |       | EMG equipment, needles and related disposables                                                              |       | March 1, 2005      |       | NeuroCare        |
| Micro Medical Limited             |       | Respiratory diagnostic products                                                                             |       | March 16, 2005     |       | Respiratory Care |
| Pulmonetic  Systems, Inc.    |       | Portable mechanical ventilators                                                                             |       | June 20, 2005      |       | Respiratory Care |
| Intermed Precision  Limited       |       | Orthopedic instruments and implants                                                                         |       | November 3, 2005   |       | Orthopedics      |
| Tiara Medical  Systems, Inc. |       | Sleep therapeutics                                                                                          |       | July 11, 2006      |       | Respiratory Care |
| BioBeat Medical Limited           |       | Digital transcranial doppler technology                                                                     |       | August 31, 2006    |       | NeuroCare        |
| Hoffman Laboratories LLC          |       | Sleep therapeutic  products                                                                                 |       | November 13,  2006 |       | Respiratory Care |

 

**Our Strategy**

We focus ourdevelopment and marketing activities on growth segments of the healthcareindustry. We seek to capitalize on our research, development and marketingexpertise, as well as our relationships with physicians and other medicalcaregivers in these markets to expand our business into high-valueopportunities, including disposables, therapy and service-based products.We have augmented our internal research by acquiring companies with strongresearch capabilities and in-licensing technologies. In addition toacquisitions and new in-licensing opportunities, we are working to enhance andextend our existing product lines into next-generation products and to developnew products to broaden our existing respiratory diagnostics, sleep therapy,neurocare, home care, and medical and surgical product offerings. Products thatwe introduced or upgraded during 2006**included:

·       Enhancementsand major new features were launched for our VMAX® Encore (“VMAX”) pulmonaryfunction testing product line;

·       Newand improved LYRA® Nasal CPAP Interface, a proprietary nasal mask used as partof a continuous positive airway pressure (“CPAP”) system for treating sleepapnea;

·       Informationsystems interfaces and enhanced features were launched for the AVEA® intensivecare unit (“ICU”) mechanical ventilator, including the addition of fivelanguages to target emerging international markets;

·       Significanthardware and software enhancements to our VELA® product, including the additionof non-invasive ventilation and improvements to battery functions, and theaddition of five languages;

·       JLAB5 software enhancements, which contributed to the continued success of ourMasterScopeTM pulmonary function testing product line;

·       Thelaunch of a new version of our INFANT FLOW*®* product,called SiPAPTM, that uses bi-level nasal CPAP for the non-invasive treatment ofspontaneously breathing infants with hypoxemia;

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·       NicoletOneTM—enhancedsleep LTM modules, in addition to the new ambulatory EEG system and new V32digital amplifier. The NicoletOne product portfolio is a multi-modalityneurodiagnostic and monitoring system that combines clinicalElectroencephalography (“EEG”), Electromyography (“EMG”), Evoked Potential (“EP”),Long-Term Monitoring (“LTM”) and Sleep capabilities;

·       NicoletOneTMMonitor—enhanced for further simplification of the software. This productmonitors neurological functioning of patients in neonatal ICUs, neurologicalICUs or any general acute care setting where neurological deficit or impairmentcould occur;

·       VIASYSData Exchange Services—updated the NicVueTM database and V-LinkTM connectivitysolutions that provide the ability to seamlessly review, archive, sort andsearch clinical data from multiple locations. HL7, DICOM and other standardinterfaces allow the VIASYS NeuroCare systems (neuro and vascular) to send andreceive data from hospital information systems to improve caregiverproductivity;

·       VikingQuestTM,VikingSelectTM, and Synergy—software enhanced on all three products for betterworkflow and patient diagnostics such as the new Tremor Analysis for Parkinson’spatients. These systems are neurodiagnostic monitoring systems that bringtogether Nerve Conduction Studies, EMG, EP, Single Fiber Electromyography,Multiple Modality Programs and Autonomic Nervous System testing capabilities.

·       Inthe audio business, new global versions of the Audioscreener+ and Auderadiagnostic system were launched along with the Audbase data storage andreporting system.

·       TheTrans-Cranial Doppler system (TCD), which we believe is a leading product inthe market, received technology upgrades to address the higher-level powerrequirements in Asia. The acquisition of advanced digital Doppler technologywill increase the range of acceptable applications for this modality,especially in the emerging stroke monitoring and therapy markets.

·       CORTRAKTM- device to aid in the placement of enteral feeding tubes, which was furtherenhanced in 2006.

·       NAVIGATOR® BIONAVIGATION® (“NAVIGATOR”)system—device designed to facilitate the correct placement of peripherallyinserted central catheters (“PICCs”) and central venous catheters (“CVCs”),which was further enhanced in 2006.

**PrincipalBusinesses and Products**

***Respiratory Care***

Our Respiratory Care group develops, manufactures,markets and services products for the diagnosis and treatment of respiratory,pulmonary and sleep-related disorders as well as provides products andservices to support pharmaceutical companies and clinical researchorganizations. These products are used in a variety of settings, from intensivecare to homecare, but generally share a common diagnostic focus on breathingand the availability of oxygen throughout the body. We market our respiratorycare products throughout the world to a variety of customers includinghospitals, clinics, private physicians, and research centers under the brandnames Erich Jaeger, Micro Medical, SensorMedics, Pulmonetic Systems and Tiara.

Our Respiratory Care group also develops,manufactures, markets and services life support products to treat respiratoryinsufficiencies caused by illness, injury or premature birth. These productsare used in a variety of settings, from intensive care units to homecare. Wemarket these products throughout the world to a variety of customers includinghospitals, clinics, private physicians, research centers and original equipmentmanufacturers under the VIASYS, Bird Products, Bear Medical, EME, PulmoneticSystems and SensorMedics Critical Care brand names.

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Our RespiratoryCare business is comprised of the following product lines:

·       *Lung function testing*, equipment used to diagnose pulmonarydisorders;

·       *Sleep diagnostic and therapeutic,* systems for the diagnosisand treatment of sleep-related disorders;

·       *VIASYS Clinical Services*, products and services to supportpharmaceutical companies and clinical research organizations;

·       *Mechanical ventilators,*products for patients who needassistance with breathing; and

·       *SpecialtyProducts,*such as specialized ventilators, treatment devices,blenders and monitoring devices.

*Lung FunctionTesting Equipment*

Lung or pulmonary**function testingequipment measures and analyzes breathing in order to evaluate the condition ofthe heart, lungs and metabolism. These instruments assist in the diagnosis ofheart and lung disease and in the evaluation of a patient’s fitness andmetabolic condition. In pulmonary function testing, a patient typicallybreathes into a mouthpiece connected to a diagnostic instrument. Thisinstrument measures the gas concentration, air flow and air volume and collectsdata on the level of exchange of oxygen and carbon dioxide in the patient’slungs.

We market our lungfunction diagnostic equipment globally under the SensorMedics, Micro Medicaland Erich Jaeger brand names. We offer a broad line of pulmonary functiontesting equipment, from basic spirometry products, which measure the rate andvolume of breathing, to complete pulmonary function and metabolic systems,which measure a wide range of heart, lung and metabolic functions. Ourprincipal pulmonary function testing products are:

·       SensorMedicsVMAX Encore, a portable pulmonary function and metabolic diagnostic systemdesigned for use by healthcare providers. VMAX is a modular system that allowsend-users to configure a system to their specific needs and to add diagnosticfunctions as those needs change. VMAX may be configured in a variety of ways,ranging from a simple spirometry system to a full-featured pulmonary functionand metabolic diagnostic lab.

·       ErichJaeger MasterScreen, a full-function, pulmonary function and metabolicdiagnostic system for use primarily by healthcare providers. Our MasterScreenTMseries of products are similar to the VMAX system, but are constructed in asingle configuration with fully integrated features.

·       MicroMedical Micro Series, respiratory measurement devices used to diagnose and monitorChronic Obstructive Pulmonary Disease (“COPD”), asthma, bronchitis, emphysema,cystic fibrosis, lung cancer and other respiratory system diseases.

We believe that throughour combined SensorMedics, Micro Medical and Erich Jaeger businesses, we representone of the largest global manufacturers of lung function testing equipment.

*Sleep Diagnosticand Therapeutic Equipment*

Sleep diagnostic and therapeutic equipment measures avariety of respiratory and neurological functions to assist in the diagnosis, monitoringand treatment of sleep disorders, such as snoring and obstructive sleep apnea (“OSA”),a condition that causes a person to stop breathing intermittently during sleep.

We market our sleepdiagnostic and therapeutic testing systems under the SensorMedics,  Erich Jaeger, and Tiara brand names. Oursleep diagnostic products range from basic sleep diagnostic systems thatmonitor one patient to networked, modular, expandable sleep labs that canmonitor multiple patients simultaneously. Our sleep therapy product line forhomecare use includes CPAP systems, patient 

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interfaces,and masks that assist breathing to allow for uninterrupted sleep. Our principalsleep diagnostic and therapeutic devices**are:

·       *SOMNOTRAC®PRO, SOMNOSTAR®PRO and SLEEPSCREENTM*, sleep diagnosticsystems that monitor respiratory and neurological functions to assist in thediagnosis of sleep disorders;

·       *ORION®, PEGASUS®, Dorado*®*and DelphinusTM CPAPs,*sleep therapy products with various monitoring capabilities which use a gentlestream of air to encourage a patient’s airway to remain open while sleeping;and

·       *SNAPP-X*TM*Nasal Interface andAdvantage Series Full Face and Nasal Masks*, sleep therapyproducts that are worn  on or over thenose to allow delivery of mild positive pressure to treat sleep apnea.

We believe we hold amarket leadership position in sleep diagnostics.

*VIASYS ClinicalServices (“VCS”)*

Our clinical services business provides technology andservices including VIAPAD*TM*, ourproprietary electronic data capture device, to several major pharmaceutical,biotechnology and clinical research organizations. We assist these companiesand organizations in the monitoring of subjects in clinical research studieswhich investigate treatments for respiratory illnesses. VCS provides customerswith high quality data during their clinical studies, which can result in theneed for fewer patients and accelerated data capture. VCS’ competence is truepaperless data collection in global clinical trials and reliable data capturewith centralized data management and reporting for diagnostic and homemonitoring equipment (including electronic diaries).

We believe the clinicalservices market offers a significant opportunity for growth within RespiratoryCare, as well as in other segments of our Company, such as in our NeuroCaregroup.

*MechanicalVentilators*

Mechanical ventilators are used by patients who areunable to breathe adequately without assistance due to disease or injury. Thesedevices pump heated, humidified, oxygen-enriched air into the lungs atregulated pressures, volumes and times in order to approximate normal breathingor to modify breathing to treat disorders. They are typically configured eitherfor adult, pediatric or neonatal use and are marketed globally under the BIRD®,BEAR®, EME®, SENSORMEDICS®, PULMONETIC SYSTEMSTM and VIASYS Healthcare® brandnames.

Ourprincipal mechanical ventilators are:
|                                                                                                                                                                                       | ** ** | **Usage** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------|------------|
| **Product**                                                                                                                                                                           | ** ** | **Home**  | ** ** | **Institutional** | ** ** | **Adult** | ** ** | **Pediatric** | ** ** | **Neonatal** | ** ** | **Portable** | ** ** |
| **AVEA®,***a  high-end volume/pressure ventilator with extensive monitoring*                                                                                                     |       |      |       |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   |   |   |   |
| **VELA®,***a  portable volume/pressure ventilator that can be used for invasive and non  invasive ventilation*                                                                   |       |      |       |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   |   |   |   |   | X |   |   |
| **TBIRD®,***a  portable full-feature ventilator that can be used in both hospital and  alternative care sites*                                                                   |       |      | X          |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   |   |   |   |   | X |   |   |
| **Pulmonetic Systems LTV Ventilator,***an ultra small, lightweight, battery-powered ventilator that can be  used in homecare and for certain types of emergency medical applications* |       |      | X          |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   |   |   |   |   | X |   |   |
| **V.I.P.  BIRD® & BEAR CUB® 750,***ventilators for neonatal and pediatric intensive care units*                                                                    |       |      |       |   |   |   | X |   |   |   |   |   |   |   | X |   |   |   | X |   |   |   |   |   |   |

 

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*Specialty Products*

We also offerhigh-frequency oscillatory ventilators (“HFOV”), which are specialized devicesdesigned to provide superior pulmonary gas exchange, while protecting thepatient’s lungs from damage that may be caused by the cyclic expansion andcontraction characteristic of conventional ventilators. Our HFOV products arelisted by the U.S. Food and Drug Administration as Class III devices,which require a higher level of “evidence of safety and efficacy” throughsuccessful prospective randomized clinical trials, a standard not required ofconventional ventilators. Our primary HFOV products, which are marketed underthe SensorMedics brand name, are:

·       *3100A HFOV,*for use in children and premature infants whosuffer acute respiratory failure; and

·       *3100B HFOV,*for use in adults for the treatment of acuterespiratory distress syndrome (“ARDS”).

We also offer avariety of related products including:

·       INFANTFLOW and SiPAP, proprietary forms of nasal CPAP;

·       air/oxygenblenders, which regulate, in specific concentrations, the oxygen delivered by amechanical ventilator or oxygen delivery device;

·       ventilatoraccessories and consumable items; and

·       monitoringdevices that measure the volume of gas entering and exiting a patient’s lungsduring mechanical ventilation.

We believe our respiratory care business is a marketleader in both home care and hospital ventilation markets.

***NeuroCare***

Our NeuroCare groupdevelops, manufactures, markets and services a comprehensive line ofneurological, vascular and audiology systems and supplies that are used byphysicians, nurses and medical technologists to assist in the diagnosis andmonitoring of neurological, vascular, brain and auditory disorders. We marketour portfolio of products globally to a variety of customers under brand namessuch as Grason-Stadler, Nicolet, TECA, Medelec and Nicolet Vascular. OurNeuroCare business is comprised of the following product lines:

·       *Electromyography(“EMG”)and Evoked Potential (“EP”),*equipment that measures electrical activityin nerves and muscles, and the spinal cord;

·       *Electroencephalography (“EEG”),*equipment that monitors andvisually displays the electrical activity generated by nerve cells in the brainfor both diagnosis and monitoring of neurological disorders in the hospital,laboratory, office or patient’s home;**

·       *Intra-Operative Monitoring (“IOM”)*products thatassist surgeons in preserving the functional integrity of a patient’s nervoussystem during and after complex surgical procedures;

·       *Transcranial Doppler Monitoring (“TCD”)* products that assistcaregivers in diagnosing and monitoring cerebrovascular blood flow either in adiagnostic lab or in any acute care area of a hospital, especially in strokecenters;

·       *Long-Term Monitoring (“LTM”),* equipment that enables aphysician to assess the frequency and severity of epileptic and non-epilepticseizures over long time periods;

·       *Audiology,*equipment that screens and diagnoses hearing andbalance disorders using a variety of testing techniques and assists in the placementof digital hearing aids and cochlear implants;

·       *Physiologic peripheral vascular diagnostics and screening*,products that assist healthcare professionals to screen, diagnose, grade andmonitor treatment of peripheral vascular disease;

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·       *Patient Management Software Solutions*, systems thatcommunicate with the hospital information system to capture, communicate,archive and summarize patient results for remote viewing, billing and improvedproductivity; and

·       *Supplies and Accessories,* a full product line of suppliesthat addresses the unique needs for neurophysiologic, vascular and audiologicdiagnosis and monitoring. Includes the TECA® Elite needles for EMG studies anda large selection of “single use” disposable electrodes.

*Electromyographyand Evoked Potential*

EMG is the measurement of electrical activity in thenerves and muscles. EP is the monitoring of patient response to stimuli inorder to evaluate the condition of specific nerve pathways. Physicians andtechnicians in the fields of neurology, physical medicine and rehabilitationuse EMG and EP data to confirm the diagnosis of various diseases and disorders,including carpal tunnel syndrome, Lou Gehrig’s (ALS) disease, multiplesclerosis and spinal cord injury. Our principal EMG and EP diagnostic productsare the VikingSelectTM, VikingQuestTM and TECA®Synergy and Medelec®.

*Electroencephalography*

An EEG is a visual display of electrical activitygenerated by nerve cells in the brain. Placing electrodes on the scalp allowsthe brain’s activity to be amplified and displayed in rising and fallingpotentials called brain waves. Traditionally, physicians use EEGs primarily forthe diagnosis of epilepsy and the monitoring of surgical and pharmaceuticaltreatments. Our principal EEG diagnostic product line is the NicoletOneTMsystem, introduced in mid-2004, which allows screening of brain waveabnormalities. Increasingly, clinicians are monitoring at-risk acute carepatients (especially neonatal and neurological patients) to guide therapies andimprove outcomes. Our NicoletOneTM Monitor is specifically designed to work inan acute care team setting with its compact size and ease-of-use.

*Long-TermMonitoring*

Our epilepsy monitoring system combines EEG data withdigital video of a patient to enable a physician to assess the frequency andseverity of epileptic and non-epileptic seizures over a multiple day period,i.e., long-term monitoring. Our system helps the physician locate the site ofepileptic seizures in the brain for surgical intervention, to determine theproper dosage of drug therapies, or to determine other courses of treatment fora particular patient. Our principal LTM diagnostic product line is theNicoletOneTM system introduced in 2004 and enhanced in 2006.

*Audiology*

Audiology is the assessment of hearing, auditoryperformance and balance disorders using a variety of testing techniques,including the evaluation of the function of the ear and the measurement ofneural responses to sound. We offer a broad range of audiometric devices forthe screening and diagnosis of hearing loss and ear pathology that we marketunder the brand name Grason-Stadler (“GSI”). Our flagship audiometric productis the GSI AUDERATM device, which offers a full range of electrophysiologicaltesting including auditory brainstem response, auditory steady-state responseand Otoacoustic emission. These measures are critical for the identification ofhearing status of infants and young children who cannot participate inbehavioral hearing testing. In 2006, we introduced an improved Audioscreener+product as well as a new Audera version with improved testing capabilities,connectivity, usability and language support.

*Intra-OperativeMonitoring and Transcranial Doppler*

Our intra-operative monitoring product assistssurgeons in preserving the functional integrity of a patient’s circulatory andnervous systems during and after complex surgical procedures, such as vascularreconstruction and tumor removal. NeuroCare’s primary products in this area arethe ENDEAVORTM CR a sophisticated intra-operative monitoring system thatprovides simultaneous EEG, EP and EMG monitoring for use in the operating roomand intensive care units, and our Pioneer, Companion and 

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SONARATMTranscranialDoppler systems, which monitor blood flow to the brain in a non-invasivemanner.

*PhysiologicPeripheral Vascular Diagnostics*

Our physiologic testing systems include the VasoGuardTMand MicroLiteTM, non-invasive products that use a variety of technologies todetect, grade and follow various peripheral vascular diseases. Noninvasivetesting is more cost-effective and speeds identification and location ofdisease thus reducing time spent on other more expensive and invasive tests. Inaddition, these systems assist in optimizing other therapies, such asmedication, surgery or vascular stent placement.

We also offer avariety of products related to our neurodiagnostic instruments, including:

·       *Medical pocket Dopplers*, instruments that detect fetalheartbeats and blood flow in the peripheral vasculature; and

·       *Transcranial Doppler systems,* instruments that characterizeand monitor blood flow in the brain.

*Patient ManagementSoftware Solutions*

Our patient management software solutions are designedto improve clinical productivity by providing data management and connectivityto hospital information systems. Our customers are able to collect, archive,share and view patient information in local databases and networks. Inaddition, they may use the solutions to reduce errors and improve productivityby seamlessly sharing patient results across the hospital’s clinical network.

*Supplies andAccessories*

Along with the extensive portfolio of audio, vascularand neurodiagnostic instruments we now offer a more comprehensive andcomplementary line of supplies and accessories. In particular, we believe thatour current line of EMG/IOM needles and probes are best-in-class.

We believe we are market leaders in theneurodiagnostic, neuromonitoring, vascular diagnostic, TCD diagnostic andmonitoring and audio diagnostic markets.

***MedSystems***

Our MedSystemsgroup develops, manufactures and markets a variety of disposable medicalproducts for enteral feeding, access location, respiratory therapy and surgicalprocedure protection. We market our disposable products, such as our feedingtube systems, location devices, disposable airway management devices, medicalaccess systems and surgical barrier control systems, to hospitals and homecare,long-term care and, in some cases, to industrial customers. Our MedSystemsbusiness is comprised of the following products:

·       Specialtyfeeding tubes that supply nutrition to critically ill or compromised patients.These tubes run from the nose into either the stomach or small bowel and alloweasily-digested nutrients to be delivered into a patient’s digestivetract rather than into the blood stream. Our specially designed tubes can beplaced into the small bowel at the patient’s bedside resulting in reducedpatient transport costs and quicker caloric goal achievement. We market thisgroup of products under the CORFLO® brand name and, according to IMS, a globalprovider of business intelligence and strategic consulting services for thehealthcare and pharmaceutical industries, we believe we are the market leaderin specialty long-term naso-gastric feeding tubes.

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·       Accesslocation devices designed to aid in the placement and location of catheterswithin the body. CORTRAK is designed to aid in the placement of enteral feedingtubes, while NAVIGATOR is designed to facilitate the placement of peripherallyinserted central catheters (PICCs) and central venous catheters (CVC).

·        TheCORTRAK system consists of a computer monitor, a receiver unit and a speciallydesigned transmitter stylet. As the feeding tube is advanced, the monitorprovides a real time representation of the feeding tube’s relative positionwithin the alimentary canal. Feeding tube placements, gastric or small bowel,follow a distinct “track”. Any deviation from the expected track can beresolved by the clinician, thus preventing accidental lung placements orcoiling tubes in the stomach. Clinical studies indicate an extremely high rateof successful bedside placement of small bowel feeding tubes on the firstattempt.

·        PICCsallow clinicians to deliver intravenous fluids, medications, and nutritiondirectly into the blood stream providing faster dissemination throughout thebody, especially the heart. Since PICCs are currently placed without theassistance of a guiding device, their placement must be verified by x-ray. PICClines frequently need to be repositioned before proceeding with theadministration of the drug or nutrition therapy. Repositioning and theadditional confirmatory x-rays add significant cost to patient care andincrease the time the patient is without the therapy. The NAVIGATOR systempermits bedside determination of the position and direction of the catheter tipand eliminates the need for repositioning and additional confirmatory x-rays.

·       Neonatal/Pediatricdevices, such as:

·        Closedsuctioning systems that assist infants requiring mechanical ventilation bymaintaining an open airway and ensuring that the lungs remain inflated. Wemarket this product under the NeoLink*TM* brand name.

·        FarrellGastric Relief Systems that eliminate the gas and fluid buildup that is commonin infants suffering from digestive complications, thereby allowing thedelivery of nutrients into the stomach. We market this product under the CORFLObrand name.

·       Disposablerespiratory accessories that assist a patient’s breathing during surgery ortrauma, which we market under the PULMANEX*®* brand name.

·       Surgicalbarrier control systems that we market to hospitals globally under theStackhouse brand name. Our principal surgical barrier control systems are:

·        FREEDOMAIRE®Surgical Helmets and ACS Surgical Face Shields that protect surgeons fromcontamination introduced into the operating room;

·        VitalVac®Surgical Smoke Evacuation Systems, which are air filtration systems thatcollect the smoke plume created from vaporizing tissue during laser surgery orelectrosurgery; and

·        Gowns,masks and caps used in industrial environments.

***Orthopedics***

Our Orthopedics group designs, develops, andmanufactures orthopedic implants and related instruments for orthopedic devicemanufacturers in the United States, Europe and Japan. Additionally we engage inthe manufacture of cardio vascular components for artificial hearts; wemanufacture, using photo chemical etch technology, mammography grids; andmanufacture and assemble a variety of complex aerospace products for thecommunications, weapons and government space agencies. These products areproduced in our manufacturing facilities in the United States and Ireland. TheUnited States operations are ISO 13485 qualified as well as FDAregistered. Our customers market and distribute our products globally.

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Our new product development services provide ourcustomers with the ability to design for manufacturability low cost implantsthat are easily transferred to commercial production and meet product launchdates. The principal markets served for medical implants and related medicaldevice uses include orthopedic surgical implants, spinal implants,neuro-crania-maxillofacial mesh, surface textures for implants, leftventricular assist devices, and medical imaging.

The primaryproducts manufactured by our Orthopedics group are as follows:

·       Orthopedicsurgical implant components are used in reconstructive knee and hip surgery. Wealso provide trauma plates as well as spinal implants. Neuro-crania-maxillofacialmesh is also manufactured to customer’s specifications within a quick turncycle, and dock to stock services can also be provided;

·       Keycomponents for a left ventricular assist device, which are used to bridge thegap to heart in transplant patients in cardio-vascular surgery;

·       Medicalimaging components that reduce X-ray scatter, which allow for high-resolutionimages in mammography and early detection of tumors; and

·       Aerospaceand industrial products which are used by our customer’s vast products rangingfrom defense, nuclear, communications, other medical devices, and otherindustrial uses.

**VIASYS CustomerCare**

VIASYS Customer Care provides warranty, technicalsupport and long-term service contract options for our products. In addition,our customer care professionals provide the training, installation, contractadministration, parts and product upgrades to support both our direct customersand our worldwide distributor network. As of December 30, 2006, we providedthese services through approximately 330 experienced Customer Careprofessionals.

VIASYS Customer Care, in conjunction with our researchand development organization, launched remote monitoring capability forselected VIASYS devices. We plan to continue to improve our enhanced servicesin 2007.

**New Products,Research and Development**

We seek to combine research and development spendingwith our significant knowledge base and key industry relationships to develop apipeline of new products. We have a very active product development portfoliothat is now substantially more productive than in the past due to theintroduction of a disciplined process for managing research and developmentthroughout the Company. All projects are closely monitored through each step ofdevelopment and the basic assumptions about the market, costs and competitionare systematically reviewed to continually validate the viability of theproject.

Research and development expenses totaled $35.8 million(5.9% of revenues), $32.3 million (6.3% of revenues), and $23.5 million(6.0% of revenues) in 2006, 2005, and 2004, respectively. Such amounts wereused to develop new products, improve existing products and implement newtechnology to produce these products. Our principal products currently underdevelopment are described below.

Our Respiratory Care Group has broad initiatives tocontinue the growth of our clinical services business; improve our sleepdiagnostic and therapy franchise; and develop applications for nitric oxide, atherapeutic gas with broad clinical efficacy. Our clinical services businessleverages our competencies in respiratory medicine, pulmonary mechanics andtelemedicine to assist in the management of pharmaceutical trials. We are inthe process of developing both software and hardware engineering capabilitiesto the group in an attempt to improve our value to the pharmaceutical andbiotechnology industries and assist them in bringing better documented andbetter understood products to market faster than in the past. We continue toconduct research into potentially significant areas for utilization of nitricoxide. While we are in the early phases, clinical results on a relatively smallnumber of patients have been promising and we intend to increase our focus inthis area.

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Our Respiratory Care Group introduced new JLab 5software for the well-established Erich Jaeger MasterScreen product line aswell as adding the new MasterScopeTM Body and MasterScopeTM PFT to expand theproduct line and offer key functionality on a value-oriented configuration.

VMAX Encore builds on the established VMAX andSensorMedics brands in the United States. VMAX and MasterScreen are twocompetitive but highly complementary product lines that have given VIASYSmarket leadership in both the U.S. and Europe. Technical leadership is acritical success factor in this market. To maintain market leadership, VIASYSresearch and development efforts continue for this series of products.

Several SomnoStar software and firmware improvementshave been completed. Sleep diagnostics product enhancements will continue in2007 to add improved networking capability, sleep laboratory managementprograms, and comprehensive productivity tools. These research and developmentprojects will ensure the SomnoStar remains at the forefront of technicalleadership in respiratory sleep diagnostics. A new sleep amplifier platformdeveloped by our NeuroCare Group will become the next generation amplifier forthe SomnoStar in early 2007. In addition to the Lyra Mask, our Respiratory CareGroup offers a full range of Tiara CPAP masks, patient interface circuits,filters, and headgear. We are preparing to launch new and improved CPAPmasks  in late 2007 under the VIASYSbrandname.

Our Respiratory Care Group is working on a number ofinitiatives to enhance and expand the capabilities of our flagship mechanicalventilator platforms, AVEA and VELA. We will continue to develop these productplatforms as long term projects. We are also expanding the use of Helioxmedical gas on our AVEA ventilator. AVEA is the only comprehensive,full-featured ventilator approved for use with Heliox gas in the United States.Heliox is a mixture of medical grade air and helium and its lighter than airqualities make the work of breathing easier for patients with obstructivebreathing disorders such as asthma or COPD. In 2006, we continued theintroduction of SiPAP, the next generation of our patented INFANT FLOWnoninvasive ventilation product.

Our NeuroCare Group launched a number of products in2006 to complement its extensive product portfolio. An LTM (long term EEGmonitoring) package for the NicoletOne neurodiagnostic workstation wasintroduced bringing a common, simplified user interface across the long termmonitoring, sleep, clinical EEG and ICU monitoring environments.  The new LTM system also includes improvedsignal amplifiers, off-the-shelf inter-device cabling, and full NicVue patientinformation management compatible services along with a variety of othercustomer convenience and product extensibility improvements. The new ambulatoryEEG product line and digital EEG amplifier extended the product line into thephysician office and home-based diagnostic screening markets. The new Audera,Audioscreener+ and Audbase system all added significant capability to the audioscreening and diagnostic portfolio. Finally the improvements to the vascularproducts in terms of power and language capability were further enhanced withthe new digital Doppler technology, to be integrated in 2007.

Our MedSystems Group has recently launched products toestablish a new market based on technologies that determine the position ofcatheters placed into the body such as feeding tubes and central venouscatheters. Generally, these catheters are placed “blindly” at the bedside andposition is confirmed by x-ray. Significant healthcare costs are incurred toreposition these catheters to the optimal position within the body. These new “medicalaccess location” technologies will drastically reduce the time and dollarsspent on repositioning these catheters, reduce patient exposure to x-rays, andimprove patient safety and outcomes. Further development and product lineadditions are planned in this area.

**Raw Materials**

We believe we have a readily available supply of rawmaterials for all of our significant products from various sources and do notanticipate any difficulties in obtaining raw materials essential to ourbusiness. However, some components and raw materials are purchased fromsole-source suppliers. We believe that if necessary we have the ability tolocate, over time, alternative sources of supply at prices competitive with ourcurrent supplies or to develop the internal capability to produce suchcomponents. We have not had a significant production delay that was primarilyattributable to an outside supplier.

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**Regulation**

***United States***

*U.S. Food and DrugAdministration (“FDA”)*

In the United States, numerous regulations govern thedevelopment, testing, manufacturing and distribution of medical devices, including among others, the FederalFood, Drug and Cosmetic Act and regulations issued or promulgated thereunder. TheFDA regulates product safety and efficacy, laboratory, clinical andmanufacturing practices, labeling, promotion, and record keeping for medicaldevices and post market surveillance to identify potential problems withmarketed medical devices. A few of the devices we develop and market are in acategory for which the FDA has implemented stringent clinical investigation andpremarket approval requirements. If we do not comply with applicable requirements,we can be subject to, among other things: FDA warning letters; injunctions;fines; civil penalties; recall or seizure of products; total or partialsuspension of production; operating restrictions/limitations on marketing;refusal of the government to grant premarket clearance or premarket approvalfor devices; withdrawal of marketing clearances or approvals; and criminalprosecution.

Further, if our suppliers or companies to which wesupply products do not meet their regulatory obligations, our products and/oroperations may be subject to regulatory enforcement action, and our businesscould also be materially adversely affected.

A medical devicemay be marketed in the United States only if: (1) the FDA gives priorauthorization; (2) the device is subject to a specific exemption; or (3) thedevice was marketed prior to May 28, 1976, the effective date of theMedical Device Amendments to the Federal Food, Drug and Cosmetic Act. Dependingon the type of medical device, FDA authorization typically takes one of thefollowing two forms:

·       *Premarket clearance pursuant to section 510(k) of the FederalFood, Drug and Cosmetic Act.*Generally speaking, 510(k) premarketclearance requires that an applicant to submit information which establishesthat the proposed device is substantially equivalent to a legally marketeddevice. An applicant must also pay user fees to the FDA for each 501(k) submission.For any devices that are cleared through the 510(k) process, modificationsor enhancements that could significantly affect safety or effectiveness orconstitute a major change in the intended use of the device require new 510(k) clearances.We believe that it now usually takes from approximately three to six monthsfrom the date of submission to obtain 510(k) clearance, although it cantake substantially longer, depending on the device and its proposed use.

·       *Premarket approval (“PMA”).* For devices that are not exemptor eligible for 510(k) clearance, the PMA process may be utilized. A PMAapplication requires an applicant to prove the safety and effectiveness of thedevice to the FDA through clinical trials. The process of obtaining PMAapproval is expensive and uncertain. User fees for PMAs are also significantlygreater. We believe that FDA approval usually takes from one to three yearsafter filing, but it can take longer, depending on the device.

The FDA classifiesmedical devices in the following three categories, according to the level ofpatient risk associated with a device.

·       Class Idevices are non-critical products for which general regulatory controls aresufficient to provide reasonable assurance of safety and effectiveness. Most Class Idevices are exempt from the requirement of 510(k) premarket clearance. TheFDA must grant 510(k) premarket clearance prior to marketing a non-exempt Class Idevice in the United States.

·       Class IIdevices are products for which general regulatory controls are insufficient toprovide reasonable assurance of safety and effectiveness, and existing methodsare available to provide such assurances. Class II devices are thereforesubject to special regulatory controls, such as compliance 

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with FDA prescribedstandards. Unless exempt, the FDA must grant 510(k) premarket clearanceprior to marketing a Class II device in the United States.

·       Class IIIdevices are products classified by the FDA as posing the greatest risk, such aslife-sustaining, life-supporting or implantable devices, or devices that arenot substantially equivalent to a legally marketed Class I or Class IIdevice. The FDA generally must approve a PMA application prior to marketing a Class IIIdevice in the United States. Two of our principal products, the 3100A and 3100BHFOV, are Class III devices. The FDA has approved a PMA for use of the3100A HFOV product in children in acute respiratory failure with no upperweight limit. The 3100B HFOV has been approved by the FDA for use in adultswith ARDS.

For devices which have been approved or cleared, asponsor is required to file a PMA supplement or new 510(k) premarketnotification, as appropriate, for certain modifications to its device thataffect the safety or effectiveness of the device.

If  humanclinical trials of a device are required, whether to support a 510(k) or aPMA application, the sponsor of the trial, which is usually the manufacturer orthe distributor of the device, must have an investigational device exemption (“IDE”),before beginning human clinical trials. If a device presents a significant riskto the patient, the FDA must approve the sponsor’s IDE application before theclinical trial may start. An IDE application for a significant risk device mustbe supported by data, typically including the results of animal and laboratorytesting. If the IDE application is approved by the FDA and one or moreappropriate Institutional Review Boards (“IRB”), human clinical trials maybegin at a specific number of investigational sites with a specific number ofpatients, as approved by the FDA. If the device presents a non-significant riskto the patient, a sponsor may begin a clinical trial after obtaining approvalfor the study by the IRB at each clinical site without the need for FDAapproval of an IDE application.

The Federal Food,Drug and Cosmetic Act regulates our quality control and manufacturingprocedures by requiring us to demonstrate and maintain compliance with theQuality System Regulation**(**“QSR”). TheQSR sets forth the FDA’s current good manufacturing practices requirements formedical devices, which cover the methods used in, and the facilities andcontrols used for, the design, manufacture, packaging, labeling, storage,installation and servicing of all finished devices intended for human use. TheQSR covers quality management and organization, personnel qualifications andtraining, device design, buildings, equipment, purchase and handling ofcomponents, production and process controls, packaging and labeling control,device evaluation, distribution, installation, complaint handling, servicingand records. The QSR and related guidances require, among other things, that:

·       Weuse written procedures to control all aspects of our product development,manufacturing processes, labeling, packaging, handling, storage, distribution,installation and servicing of medical devices;

·       Wevalidate, by extensive and detailed testing, our manufacturing and productionprocesses to confirm our ability to produce devices which consistently meetproduct specifications;

·       Weinvestigate any deficiencies in the manufacturing process or in the productsproduced; and

·       Wemaintain detailed recordkeeping relating to all personnel, processes andaspects of the operation.

The FDA monitors compliance with the QSR and currentgood manufacturing practice requirements by conducting periodic inspections ofmanufacturing facilities. Violations of applicable regulations noted by the FDAduring inspections of our manufacturing facilities could materially adverselyaffect the continued marketing of our products.

The FDA enforces post-marketing controls that includethe requirement to file medical device reports (“MDRs”) when we become aware ofinformation suggesting that any of our marketed products may have caused orcontributed to a death, serious injury or serious illness. The FDA alsorequires the filing of an MDR when we become aware that any of our products hasmalfunctioned and that a recurrence of that 

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malfunction would likelycause or contribute to a death, serious injury or serious illness. The FDArelies on MDRs to identify product problems and utilizes MDRs as one mechanismto determine whether it should exercise its enforcement powers.

Other post-marketing requirements are applicable toour devices including, but not limited to, tracking for certain devices, aswell as complaint handling, reporting of corrections and removals/recalls, andrepair, replacement or refund.

Other FDA requirementsgovern product labeling and promotion and prohibit a manufacturer frommarketing an approved device for unapproved indications, among other things. Ifthe FDA believes that a manufacturer is not in compliance with the law, it caninstitute an enforcement action against the manufacturer, its officers andemployees.

*Other Regulations*

We are also subject tonumerous federal, state and local laws relating to safe working conditions,manufacturing practices, environmental protection, fire hazard control anddisposal of hazardous or potentially hazardous substances.

***International***

For the year ended December 30, 2006, we derived40% of our revenues from sales of products outside the United States. Thiscompares to 43% and 44% for the years ended December 31, 2005 and January 1,2005, respectively. Sales of medical devices outside the United States aresubject to foreign regulatory requirements that vary widely from country tocountry. These laws and regulations range from simple product registrationrequirements in some countries to complex clearance and production controls inothers. As a result, the processes and time periods required to obtain foreignmarketing approval may be longer or shorter than those necessary to obtain FDAapproval or marketing clearance. These differences may affect the efficiencyand timeliness of international market introduction of new products.

A medical device may only bemarketed in the European Union (“EU”) if it complies with the Medical DevicesDirective (“MDD”) and bears the CE mark as evidence of that compliance. Toachieve this, the medical devices in question must meet the “essentialrequirements” defined under the MDD relating to safety and performance and we,as manufacturer of the devices, must undergo a verification of our regulatorycompliance by a third-party standards certification provider, a so-called “NotifiedBody”. The nature of the assessment depends upon the regulatory class ofproducts concerned, which in turn determines the precise form of testingundertaken by the Notified Body. Similar to the system in the United States,medical devices in the EU are classified according to the risks posed by theiruse, with Class I being low risk devices, Class IIa being medium riskdevices, Class IIb being medium/high risk devices and Class III beinghigh risk devices. Our devices fall into the medium and high risk categoriesand as such require a higher level of regulatory assessment. As of December 30,2006, our key respiratory care and neurocare products bore the CE mark.

The requirements of the MDD mustbe complied with by the “manufacturer of the device” which is defined as theparty responsible for the design, manufacture, packaging and labeling of thedevice before it is placed in the EU market, regardless of whether theseoperations are carried out by this entity or on its behalf. Therefore, whereour specialty products and materials are incorporated by original equipmentmanufacturers into their products, compliance with the MDD is theirresponsibility.

Geographic information isdiscussed in Note 17 to the Consolidated Financial Statements.

***Third-Party Reimbursement***

In the United States, health care providers thatpurchase medical devices generally rely on third-party payors to reimburse allor a portion of the cost of the devices either directly or bundled as acomponent of a reimbursement for health care services. Examples of third-partypayors are Medicare, Medicaid, private 

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health insurance plans andhealth maintenance organizations. Medicare is a federally funded programmanaged by the Centers for Medicare and Medicaid Services (“CMS”) through localfiscal intermediaries and carriers that administer coverage and reimbursementfor certain health care items and services furnished to the elderly anddisabled. Medicaid is an insurance program for the poor that is both federallyand state funded and managed by each state. The federal government sets generalguidelines for Medicaid and each state creates specific regulations that governtheir individual program. Each payer has its own process and standards fordetermining whether it will cover and reimburse a procedure or particularproduct. Private payers often rely on the lead of the governmental payers inrendering coverage and reimbursement determinations. Therefore, achievingfavorable Medicare coverage and reimbursement is usually a significant gatingissue for successful introduction of a new product. The competitive position ofsome of our products will depend, in part, upon the extent of coverage andadequate reimbursement for such products and for the procedures in which suchproducts are used. Prices at which we or our customers seek reimbursement forour products can be subject to challenge, reduction or denial by the governmentand other payors.

The federal government and various state governmentsare currently considering proposals to reform the Medicare and Medicaidsystems. We are unable to evaluate what legislation may be drafted and whetheror when any such legislation will be enacted and implemented. Some of theseproposals, if adopted, could have a material adverse effect on our business,financial condition and results of operations.

During the past several years, the major third-partypayors have substantially revised their reimbursement methodologies in anattempt to contain their health care reimbursement costs. Medicarereimbursement for inpatient hospital services is based on a fixed amount peradmission based on the patient’s specific diagnosis. As a result, any illnessto be treated or procedure to be performed will be reimbursed only at aprescribed rate set by the government that is known in advance to the healthcare provider. If the treatment costs less, the provider keeps the overage; ifit costs more, the provider cannot bill the patient for the difference. Noseparate payment is made in most cases for products such as our medical deviceswhen they are furnished or used in connection with inpatient care. Many privatethird-party payors and some state Medicaid programs have also adopted similarprospective payment systems.

Third-party payors continue to increase their emphasison managed care, which has led to an increased emphasis on the use ofcost-effective medical devices by health care providers. In addition, throughtheir purchasing power, these payors often seek discounts, price reductions orother incentives from medical product suppliers.

Reimbursement and health care payment systems ininternational markets vary significantly by country and include both governmentsponsored healthcare and private insurance. We have received internationalreimbursement approvals for many of our products and plan to seek internationalreimbursement approvals for other products. In contrast to the United States,Europe is a highly fragmented market, with a large number of distinct anduniquely structured healthcare delivery and payment systems. European healthcare systems are beginning to confront the same fiscal pressures andlimitations that characterize the United States health care system and areincreasingly adopting many of the same cost and utilization control mechanisms.To the extent that any of our products are not entitled to reimbursement in anyinternational market, market acceptance of such products would be materiallyadversely affected.

In addition to the foregoing Medicare coverage andreimbursement limitations, other aspects of the Medicare and Medicaid programsmay negatively affect the Company. In 1977, Congress adopted the Medicare andMedicaid Anti-Fraud and Abuse Amendments of 1977, which have been strengthenedby subsequent amendments and the creation of the Office of Inspector General (“OIG”)to enforce compliance with the statute, as amended (the “Anti-Fraud and AbuseLaw”). The Anti-Fraud and Abuse Law prohibits the knowing and willful offer,payment, solicitation, or receipt of any remuneration in any form as aninducement or reward for either the referral of patients or the arranging forreimbursable 

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services. A violation ofthe statute is a felony, and even if no criminal prosecution is initiated,could result in civil penalties, including exclusion from the Medicare program.

The United States Department of Health and HumanServices has issued regulations from time to time setting forth so-called “safeharbors,” which would protect certain limited types of arrangements fromprosecution under the statute. Failure to comply with each element of aparticular safe harbor does not mean that an arrangement is per se in violationof the Anti-Fraud and Abuse Law. As the comments to the safe harbors indicate,the purpose of the safe harbors is not to limit what qualifies as all illegalconduct, but to set forth standards for certain non-violative arrangements.Nevertheless, if an arrangement implicates the Anti-Fraud and Abuse Law andfull compliance with a safe harbor cannot be achieved, the Company risksgreater scrutiny by the OIG and, potentially, civil and/or criminal sanctions.The Company believes its arrangements are in compliance with the Anti-Fraud andAbuse Law; however, no assurance can be given that regulatory authorities willnot take a contrary position.

Moreover, the Civil False Claims Act prohibitsknowingly presenting (including “causing” the presentation of) a false,fictitious or fraudulent claim for payment to the United States federalgovernment. Actions under the Civil False Claims Act may be brought by theAttorney General or as a qui tam action by a private individual in the name ofthe government. Violations of the False Claims Act can result in verysignificant monetary penalties and treble damages. The federal government isusing the Civil False Claims Act, and the threat of significant liability, inits investigations of health care providers, suppliers and manufacturers throughoutthe country for a wide variety of Medicare billing practices, and has obtainedmulti-million dollar settlements. Given the significant size of actual andpotential settlements, it is expected that the government will continue todevote substantial resources in investigating healthcare providers’, suppliers’and manufacturers’ compliance with health care billing, coverage andreimbursement rules and fraud and abuse laws.

In addition, federal law includes other provisionsthat specifically prohibit certain types of manipulative Medicare billingpractices. Federal law also provides for minimum periods of exclusion fromfederal and state health care programs for certain offenses and frauds. Manystates also have false claims and other health care fraud and abuse laws, whichalso may include civil and criminal penalties.

Numerous federal and statelaws and regulations, including the Health Insurance Portability andAccountability Act of 1996 (“HIPAA”), govern the collection, dissemination, useand confidentiality of patient-identifiable health information. Through many ofour operations, we encounter, collect, maintain, and transmitpatient-identifiable health information. New health information standards,whether implemented pursuant to HIPAA, congressional action or otherwise, couldhave a significant effect on the manner in which we handle health care relateddata and communicate with customers, payors, and others, and the cost ofcomplying with these standards could be significant. If we do not comply withexisting or new laws and regulations related to patient health information, wecould be subject to criminal or civil sanctions.

**Patents, Licensesand Trademarks**

We pursue patent protection of our technology,products and product improvements both in the United States and in selectedforeign countries. We also rely on trade secrets and technological innovationsto develop and maintain our competitive position. In an effort to protect ourtrade secrets, we generally require our employees, consultants and advisors toexecute confidentiality and invention assignment agreements upon commencementof employment or consulting relationships with us.

We have entered into a number of license and otherarrangements under which we have obtained rights to manufacture and market someproducts or potential products. For instance, a number of the therapeutic-basedproducts that we are developing incorporate proprietary technologies that wehave licensed from third parties. Under our existing licenses, we are subjectto commercialization, development, sublicensing, royalty, insurance and otherobligations. If we fail to comply with any of these requirements, or otherwisebreach a license agreement, the licensor may have the right to terminate thelicense in whole 

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or to terminate theexclusive nature of the license. In addition, upon the termination of thelicense, we may be required to license to the licensor any related intellectualproperty that we developed. As of March 2, 2007 we were in compliance inall material respects with our existing license requirements.

We do not consider anysingle patent or related group of patents to be material to our business.

**Competition**

The respiratory care, neurocare, medsystems, andorthopedics markets are highly competitive. We compete with many companiesranging from small start-up enterprises to companies that are larger and moreestablished than we are, with access to significant financial resources andgreater name recognition, research and development experience and regulatory, manufacturing,and marketing capabilities. We believe that we compete in each of our marketsprimarily on the basis of reputation, product reliability and performance,product features and benefits, price and post-sale service and support.

Our Respiratory Carebusiness competes with products from firms such as Maquet AG, Dräger MedicalAG, General Electric Company, Tyco Healthcare Group, Ferraris Group PLC,CompuMedics, Embla, ResMed, and Respironics, Inc. The principalcompetitors of our NeuroCare segment include Natus, Nihon Kohden Corporationand Cadwell. The principal competitors of our MedSystems segment include theRoss Products Division of Abbott Laboratories, Tyco Healthcare Group, VitalSigns, Inc., The Dow Chemical Company and J. P. Stevens Company.  The principal competitors of our Orthopedicssegment include Symmetry and Accelent.

**Employees**

As of December 30,2006, we had approximately 2,365 full-time employees, of which approximately1,624 were employed in the United States. None of our employees based in theUnited States are unionized or subject to collective bargaining agreements.Some of our international employees are represented by either a labor union ora statutory work council arrangement, and as a result, our ability to reducesuch workforce or their wage rates is subject to agreement or consultation withthe appropriate labor union or works council. We consider our relationship withour employees to be good.

**AvailableInformation**

Our website address iswww.viasyshealthcare.com. Through a link on the Investors Section of ourwebsite, we make available, free of charge, our annual reports on Form 10-K,quarterly reports on Form 10-Q, current reports on Form 8-Kand amendments to those reports, and our proxy statements as soon as reasonablypracticable after those reports are electronically filed with or furnished tothe Securities and Exchange Commission. Our Code of Business Conduct and Ethicsfor Directors, Code of Conduct, Corporate Governance Guidelines and thecharters of the Audit Committee, Compensation Committee and Nominating andGovernance Committee of our Board of Directors are also available on theInvestor Section of our website. Additionally, printed copies of thesedocuments may be obtained, without charge, by calling our Investor RelationsDepartment at (610) 862-0799 or by contacting: Investor Relations, VIASYSHealthcare Inc., 227 Washington Street, Suite 200, Conshohocken, PA 19428.The information on the website listed above is not and should not be consideredpart of this Annual Report on Form 10-K and is intended to be aninactive textual reference only.

**Item 1A.**                RiskFactors

**Demand for some of our products depends on the capitalspending policies of our customers and on government funding policies. Changesin these policies could negatively affect our business.**

A majority of ourcustomers are hospitals. We also sell to laboratories, universities, healthcareproviders and public and private research institutions. Many factors, includingpublic policy spending provisions, available resources and economic cycles havea significant effect on the capital spending policies of these entities. Thesefactors may significantly affect the demand for our products and adversely 

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affectour results of operations. For example, a reduction in funding to majorgovernment research supported agencies, such as the National Institutes ofHealth or the National Science Foundation, could materially adversely affectsales of our sleep diagnostic testing equipment.

**We depend on third-party reimbursement to ourcustomers for market acceptance of our products. Our profitability would sufferif third-party payors failed to provide appropriate levels of reimbursement forthe purchase or use of our products or if any governmental or third-party payorwere to issue an adverse determination or restrictive coverage policy.**

Sales of medical products largely depend on thereimbursement of patients’ medical expenses by government healthcare programsand private health insurers. The cost of some of our products is substantial.Without both favorable coverage determinations by, and the financial supportof, government and third-party insurers, the market for some of our productscould be limited.

Governments and private insurers in many countriesclosely examine medical products and devices incorporating new technologies todetermine whether to cover and reimburse for the purchase or use of suchproducts and devices and, if so, the appropriate level of reimbursement. Wecannot be sure that third-party payors will cover and reimburse customers forpurchases of future products or that any such reimbursement will enable us tosell these products at profitable prices. We also cannot be sure thatthird-party payors will maintain the current level of reimbursement to physiciansand medical centers for use of our existing products. Adverse coveragedeterminations or any reduction in the amount of this reimbursement could harmour business.

Third-party payors emphasize managed care, leading tothe use of cost-effective medical devices by healthcare providers. In addition,through their purchasing power, these payors often seek discounts, pricereductions or other incentives from medical products suppliers.

The federal government andprivate insurers continue to consider ways to change the manner in whichhealthcare services are provided and paid for in the United States. In thefuture, it is possible that the government may institute price controls andfurther limits on Medicare and Medicaid spending. These controls and limits couldmaterially adversely affect the payments we receive from sales of our products.Internationally, medical reimbursement systems vary significantly, with somemedical centers having fixed budgets, regardless of the level of patienttreatment and other countries requiring application for, and approval of,government or third-party reimbursement. Even if we succeed in bringing newproducts to market, uncertainties regarding future healthcare policy,legislation and regulations, as well as private market practices, couldmaterially adversely affect our ability to sell our products in commerciallyacceptable quantities at profitable prices.

**We may need additional capital to sustain and expandour business, including acquisitions and the development of new products.**

As of December 30, 2006, we had cash and cashequivalents of $13.5 million. In addition, we had borrowed $46.2 million andhad $5.3 million of standby letters of credit outstanding under our $150million revolving credit facility which would permit us to borrow up to anadditional $98.5 million. The revolving credit facility can be increased to$200.0 million at our request. The lenders, however, are not obligated toparticipate in the increased portion of the Facility. Both cash and the creditfacility may be used to fund the expansion of our business, either throughacquisitions or development of new products. Our ability to access the creditfacility is dependent on complying with the debt covenants that are part ofthat agreement. These covenants include a maximum leverage ratio of debt toearnings before interest, taxes and depreciation and amortization (“EBITDA”) of3.0, a minimum ratio of EBITDA to interest expense of 4.0, minimum stockholders’equity and maximum annual capital expenditures for fixed assets of $30 million or 5% of the Company’s consolidated net assets.While we were in compliance with the debt covenants in the Facility at December 30,2006 and expect to be able to meet these requirements in the future, failure tosatisfy any of the conditions would require us to renegotiate the facility onterms that may not be favorable to us or could require us to repay anyoutstanding balance. While we would attempt to 

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find alternative sourcesto fund our operations from other financial institutions, we cannot assure youthat we would be successful, or if we were successful that the new credit wouldbe on terms that would be attractive to us in financing our business plans. Thecredit facility is due to expire on May 3, 2010.

In addition, we may needto seek additional capital. Adequate funds for these purposes on termsfavorable to us, whether through additional equity financing, debt financing orother sources, may not be available when needed and, if *an*equityfinancing is consummated, may result in significant dilution to existingstockholders. If we are unable to secure additional funding when required, wemay be required to delay, scale back, and/or abandon some or all of our productdevelopment programs or proposed acquisitions.

**We face aggressive competition in many areas of ourbusiness and our business will be harmed if we fail to compete effectively.**

We encounter aggressivecompetition from numerous companies in many areas of our business. Although webelieve that our products currently compete favorably with respect to thesefactors, we cannot give assurance that we can maintain our competitive positionagainst our current and potential competitors. Many of our current andpotential competitors have longer operating histories, greater name recognitionand substantially greater financial, technical and marketing resources than wehave. We may not be able to compete effectively with these competitors. Toremain competitive, we must develop new products and periodically enhance ourexisting products. We anticipate that we may have to adjust the prices of manyof our products to stay competitive. In addition, new competitors may emergeand entire product lines may be threatened by new technologies or market trendsthat reduce the value of these product lines.

**A significant percentage of our total assets consistsof goodwill from acquired companies and we may be unable to realize the valueof this asset.**

VIASYS and its formerparent company have paid substantial premiums over the fair value of the netassets of some of the companies that comprise our business. We have acquiredsignificant intangible assets, including approximately $294.7**million of cost in excess of net assets of acquiredcompanies, or goodwill, recorded on our balance sheet as of December 30,2006. This represents approximately 40% of our total assets as of that date.Our ability to realize the value of this asset will depend on future cash flowsof the acquired businesses. Cash flow, in turn, depends on how well we haveidentified these acquired businesses as desirable acquisition candidates, howwell we can integrate these acquired businesses and how well the acquiredbusinesses ultimately perform.

**We may incur a variety of costs to engage in futureacquisitions of companies, products or technologies, and the anticipatedbenefits of those acquisitions may never be realized.**

As a part of ourstrategy to grow our business, we seek to make strategic acquisitions of, orsignificant investments in, complementary companies, products or technologies,although no significant acquisition or investments are currently pending. Wemay not be successful in the future in identifying companies that meet outacquisition criteria. The failure to identify such companies may limit the rateat which we are able to grow our business. Furthermore, any future acquisitionsthat we do undertake could be accompanied by risks such as:

·       Difficultiesin integrating the operations and personnel of acquired companies;

·       Diversionof our management’s attention from ongoing business concerns;

·       Ourpotential inability to maximize our financial and strategic position throughthe successful incorporation of acquired technology and rights into our products and services.

·       Additionalexpense associated with amortization of acquired assets;

·       Maintenanceof uniform standards, controls, procedures and policies; and

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·       Impairmentof existing relationships with employees, suppliers and customers as a resultof the integration of new management personnel.

We cannot guarantee thatwe will be able to successfully integrate any business, products, technologiesor personnel that we might acquire in the future, and our failure to do socould harm our business.

**The complexity presented by international operationscould have a material adverse effect on our business.**

Internationalrevenues account for a substantial portion of our revenues. Internationalrevenues from continuing operations, including export revenues from the UnitedStates, accounted for 40% of our total revenues in 2006 and 43% of our totalrevenues in 2005. While we plan to continue expanding our presence ininternational markets, our international operations present a number of risks,including the following:

·       Foreignlaws in a number of countries may limit our ability to properly maintain ourdistribution channels. For example, a number of foreign laws restrict ourability to terminate a distributor for taking actions that materially adverselyaffect our business, such as manufacturing and selling competing products.

·       Thesuccessful marketing of our products in some countries, including many Europeancountries, may require us to establish a local presence. The revenues generatedin these countries may not justify the expense of establishing and maintainingsuch a local presence.

·       Fluctuationsin currency exchange rates have occasionally forced us to lower our prices,thereby reducing our margins for some of our respiratory and neurodiagnosticproducts.

·       Aportion of our international business is through government tenders. As aresult, we often must compete on price and product features, which maynegatively impact selling prices and related gross margin.

·       Work forces ininternational locations tend to be highly unionized. Our international businessmay be negatively impacted by unanticipated strikes by these unionized laborforces.

**Our competitive position is partially dependent onprotecting our intellectual property, which can be difficult and expensive.**

We believe that the success of our business depends,in part, on obtaining patent protection for our products, defending our patentsonce obtained and preserving our trade secrets. Patent and trade secretprotection is important to us because developing and marketing new technologiesand products is time consuming and expensive. However, we do not consider anysingle patent or related group of patents to be material to our business. Weown many U.S. and foreign patents and intend to apply for additional patents tocover our products. We may not receive enforceable patents from any pending orfuture patent applications owned by or licensed to us. The claims allowed underany issued patents may not be broad enough to protect our technology.

Our competitive position is also dependent uponunpatented trade secrets. Trade secrets are difficult to protect. Ourcompetitors may independently develop proprietary information and techniquesthat are substantially equivalent to ours or otherwise gain access to our tradesecrets, such as through unauthorized or inadvertent disclosure of our tradesecrets. Litigation may be necessary to enforce our intellectual propertyrights, to protect our trade secrets and to determine the validity and scope ofour proprietary rights. Any litigation could result in substantial expense anddiversion of attention from our business and may not adequately protect ourintellectual property rights.

In addition, we maybe sued by third parties claiming that our products infringe on theintellectual property rights of others. This risk is exacerbated by the factthat the validity and breadth of claims covered in medical technology patentsinvolve complex legal and factual questions for which important legal 

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principlesare unresolved. Any litigation or claims against us, whether or not valid,could result in substantial costs, place a significant strain on our financialresources, divert management resources and harm our reputation. Such claimscould result in awards of substantial damages, which could have a materialadverse impact on our operating results. In addition, intellectual propertylitigation or claims could force us to:

·       ceaseselling, incorporating or using any of our products that incorporate thechallenged intellectual property, which would materially adversely affect ourrevenue;

·       obtaina license from the holder of the infringed intellectual property right, whichlicense may not be available on reasonable terms, if at all; or

·       redesign our products,which would be costly and time-consuming.

**We are involved on an ongoing basisin claims and lawsuits relating to our operations, including product liability,patent infringement, employment, business practices, commercial transactions,environmental and other matters.**

We are involved in the design,manufacture and sale of health care products, which face an inherent risk ofexposure to product liability claims if our products are alleged to have causedinjury or are found to be unsuitable for their intended use. Any such claimscould negatively impact the sales of products that are the subject of suchclaims or other products. Currently, we are a party to claims and lawsuitsalleging that our products have caused injury or death or are otherwiseunsuitable. Moreover, we are involved in litigation relating to patentinfringement, employment, business practices, commercial transactions,environmental and other matters.

In addition, when we enter into newmarkets or launch new products, we may face litigation related to our newproducts and/or instituted by our competitors in the new markets.

Theultimate outcome of these lawsuits cannot be predicted with certainty. Anylitigation or claims against us, whether or not valid, could result insubstantial costs, place a significant strain on our financial resources,divert management resources and harm our reputation. While we maintaininsurance to limit our exposure to such claims, awards of substantial damagesin connection with such claims could have a material adverse impact on ouroperating results and financial conditions.

**If we breach any of the agreements under which welicense commercialization rights to products or technology from others, we could lose license rights thatare important to our business.**

We license rights toproducts and technology that are important to our business and we expect to enterinto additional licenses in the future. Although the products and technologythat we currently license account for less than 5% of our total annualrevenues, we expect that this percentage will increase as we develop andintroduce additional licensed products to the market. For instance, a number ofthe therapy-based products that we are developing incorporate proprietarytechnologies that we have licensed from third parties. Under these licenses, weare subject to commercialization, development, sublicensing, royalty, insuranceand other obligations. If we fail to comply with any of these requirements, orotherwise breach a license agreement, the licensor may have the right toterminate the license in whole or to terminate the exclusive nature of the license.In addition, upon the termination of the license, we may be required to licenseto the licensor any related intellectual property that we developed.

**Our ability to market and sell our products dependsupon receipt of domestic and foreign regulatory approval of our products andmanufacturing operations. Our failure to obtain or maintain regulatoryapprovals and compliance could have a material adverse effect on our business.**

Our products andmanufacturing operations are subject to extensive regulation in the UnitedStates by the FDA and by similar regulatory agencies in many other countries inwhich we do business. The principal 

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risksthat we face in obtaining and maintaining the regulatory approvals necessary tomarket our products include:

·       Theapproval process for medical devices in the United States and abroad can belengthy, expensive and require extensive preclinical and clinical trials. As aresult, we may expend substantial resources in developing and testing a newproduct but fail to obtain the necessary approvals or clearances to market ormanufacture the product on a timely basis or at all.

·       Whenwe modify a medical device for which we have received marketing approval, wemust determine whether the modification requires us to seek new regulatoryapprovals. If the FDA or other regulatory agency does not agree with ourdetermination, we may be prohibited from marketing the modified device until wereceive the requisite regulatory approval or clearance. In addition, the FDAactively enforces regulations prohibiting marketing of devices for indicationsor uses that have not been cleared or approved by the FDA.

·       TheFDA and foreign regulatory agencies require us to comply with an array ofmanufacturing and design controls and testing, quality control, storage anddocumentation procedures. Because our business is geographically dispersed inthe United States and abroad, compliance with these procedures is difficult andcostly.

If we fail to comply withapplicable regulations, we could be subject to a number of enforcement actions,including warning letters, fines, product seizures, recalls, injunctions, totalor partial suspension of production, operating restrictions or limitations onmarketing, refusal of the government to grant new clearances or approvals,withdrawal of marketing clearances or approvals and civil and criminalpenalties. Companies may also voluntarily conduct a recall of a problemproduct. For a summary of government regulations applicable to our business,see “Business—Government Regulation.”

**We may be unable tosuccessfully develop and/or commercialize our new and existing products.**

We have undertaken asubstantial internal development strategy under which we anticipate developinga number of therapy and service-based products. We may not havesufficient expertise and experience necessary to successfully implement thisstrategy and develop these new and existing products. Furthermore, thesuccessful development and commercialization of these new and existing productswill depend upon our ability to obtain regulatory approvals, as discussedabove. If we are unable to obtain these regulatory approvals, we will be unableto market and sell our products, which will negatively affect our business.Even if we are able to obtain regulatory approval for our products we may havedifficulty in bringing these products to market. In addition, once our newproducts are brought to market, their shipment may be delayed or the productsmay have to be discontinued based on design, mechanical, software, regulatoryor other issues. Finally, we may face competition from other companies who mayhave a well-established presence in the new market or a strong intellectualproperty position. These matters may materially adversely affect our businessand reputation and may make us unable to develop and/or commercialize newproducts in a successful manner.

**Our dependence onsuppliers for materials could impair our ability to manufacture our products.**

Outside vendors, some ofwhich are sole-source suppliers, provide key components and raw materials thatwe use in the manufacture of our products. The decline in the availability ofor the increase in cost of raw materials could increase our costs of producingour products or limit our ability to meet sales demand. Although we believethat alternative sources for these components and raw materials are available,any supply interruption in a limited or sole-source component or raw materialcould harm our ability to manufacture the affected product until we identifyand qualify a new source of supply. In addition, an uncorrected defect orsupplier’s variation in a component or raw material, either unknown to us orincompatible with our manufacturing process, could harm our ability tomanufacture the affected product. We may not be able to find a qualifiedalternative supplier in a reasonable time period, or on commercially reasonableterms, if at all, which could impair our ability to produce and supply ourproducts. If we cannot 

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obtain anecessary component, we may need to find, test and obtain regulatory approvalfor a replacement component, which would cause significant delays that couldhave a material adverse effect on our business and operating results.

**We are dependent on our key executives and technicalstaff, and the loss of key personnel or the failure to attract additionalqualified personnel could harm our business.**

Our business is highlydependent on our key executives and technical staff. The loss of key personnelor the failure to recruit necessary additional or replacement personnel willlikely impede the achievement of our business objectives. There is intensecompetition for qualified personnel in our industry, and there can be noassurances that we will be able to attract and retain the qualified personnel necessaryfor the growth of our business.

**Anti-takeover provisions in our Amended and RestatedCertificate of Incorporation and Amended and Restated By-Laws, and certainprovisions of Delaware law could prevent or delay transactions that ourstockholders may favor.**

Provisions of ourAmended and Restated Certificate of Incorporation and Amended and RestatedBy-Laws may discourage, delay or prevent a merger or acquisition that ourstockholders may consider favorable, including transactions in which ourstockholders might otherwise receive a premium for their shares. For example,these provisions:

·       authorizethe issuance of “blank check” preferred stock without any need for action bystockholders;

·       requiresupermajority stockholder approval to effect various amendments to our charterand by-laws;

·       eliminatethe ability of stockholders to call special meetings of stockholders;

·       prohibitstockholder action by written consent; and

·       establishadvance notice requirements for nominations for election to the board ofdirectors or for proposing matters that can be acted on by stockholders atstockholder meetings.

In addition, our board of directors has adopted astockholder rights plan intended to protect stockholders in the event of anunfair or coercive offer to acquire our Company and to provide our board ofdirectors with adequate time to evaluate unsolicited offers. This rights planmay have anti-takeover effects. The rights plan would cause substantialdilution to a person or group that attempts to acquire us on terms that ourboard of directors does not believe are in the best interests of us and ourstockholders and may discourage, delay or prevent a merger or acquisition thatstockholders may consider favorable, including transactions in which ourstockholders might otherwise receive a premium for their shares.

As a Delaware corporation,we are also subject to certain Delaware anti-takeover provisions. UnderDelaware law, a corporation may not engage in a business combination with anyholder of 15% or more of its capital stock unless the holder has held the stockfor three years or, among other things, the board of directors has approved thetransaction. Our Board of Directors could rely on Delaware law to prevent ordelay an acquisition of us.

**Item 1B.**               UnresolvedStaff Comments.

None.

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**Item 2.**                        Properties

Thefollowing is a summary of the properties we owned or leased at December 30,2006:

| Location                          | ** ** | ** ** | ** ** | **Leased/  Owned**                                                              | ** ** | **Purpose**      | ** ** | **Business Segment** |
|-----------------------------------|------------|------------|------------|---------------------------------------------------------------------------------|------------|------------------|------------|----------------------|
| Palm Springs, CA                  |       | Owned      |       | Manufacturing and warehousing                                                   |       | Respiratory Care |
| Yorba Linda, CA                   |       | Leased     |       | Research and development, sales and administration                              |       | Respiratory Care |
| Coleton, CA                       |       | Leased     |       | Research and development                                                        |       | Respiratory Care |
| Minneapolis, MN                   |       | Leased     |       | Manufacturing, sales and administration                                         |       | Respiratory Care |
| Minneapolis, MN                   |       | Leased     |       | Warehousing                                                                     |       | Respiratory Care |
| Oak Forest, IL                    |       | Leased     |       | Manufacturing, sales and administration                                         |       | Respiratory Care |
| Lakewood, OH                      |       | Leased     |       | Research and development and administration                                     |       | Respiratory Care |
| Chatsworth, CA                    |       | Leased     |       | Manufacturing, research and development                                         |       | Respiratory Care |
| Hoechberg, Germany                |       | Leased     |       | Manufacturing, warehousing, research and  development, sales and administration |       | Respiratory Care |
| Bilthoven, the Netherlands        |       | Leased     |       | Sales office                                                                    |       | Respiratory Care |
| Paris, France                     |       | Leased     |       | Sales office                                                                    |       | Respiratory Care |
| Coventry, United Kingdom          |       | Leased     |       | Subleased to a third-party tenant                                               |       | Respiratory Care |
| Market Harborough, United Kingdom |       | Leased     |       | Unoccupied                                                                      |       | Respiratory Care |
| Chatham Kent, United Kingdom      |       | Owned      |       | Manufacturing, warehousing, distribution, sales and  administration             |       | Respiratory Care |
| Hamburg, Germany                  |       | Leased     |       | Warehousing, sales and administration                                           |       | Respiratory Care |
|                              |       |       |       |                                                                            |       |             |
| Madison, WI                       |       | Leased     |       | Manufacturing, research and development, sales and  administration              |       | NeuroCare        |
| Fitchburg, WI                     |       | Leased     |       | Manufacturing and warehousing                                                   |       | NeuroCare        |
| Golden, CO                        |       | Leased     |       | Sales and administration                                                        |       | NeuroCare        |
| Hawthorne, NY                     |       | Leased     |       | Subleased to a third-party tenant                                               |       | NeuroCare        |
| Reykjavik, Iceland                |       | Leased     |       | Research and development and administration                                     |       | NeuroCare        |
| Bristol, United Kingdom           |       | Leased     |       | Research and development                                                        |       | NeuroCare        |
| Old Woking, United Kingdom        |       | Owned      |       | Manufacturing facility                                                          |       | NeuroCare        |
| Old Woking, United Kingdom        |       | Leased     |       | Manufacturing, distribution, sales and administration                           |       | NeuroCare        |
| Warwick, United Kingdom           |       | Leased     |       | Sales, administration and warehousing                                           |       | NeuroCare        |
| Milan, Italy                      |       | Leased     |       | Sales office and warehousing                                                    |       | NeuroCare        |
| Madrid, Spain                     |       | Leased     |       | Sales office and warehousing                                                    |       | NeuroCare        |
| Gorichem, the Netherlands         |       | Leased     |       | Sales and administration                                                        |       | NeuroCare        |
| Osaka, Japan                      |       | Leased     |       | Sales and administration                                                        |       | NeuroCare        |
| Tokyo, Japan                      |       | Leased     |       | Sales and administration                                                        |       | NeuroCare        |
| Wheeling, IL                      |       | Leased     |       | Manufacturing, research and  development, sales and administration              |       | MedSystems       |
| Woburn, MA                        |       | Leased     |       | Manufacturing and sales                                                         |       | Orthopedics      |
| Woburn, MA                        |       | Leased     |       | Manufacturing                                                                   |       | Orthopedics      |
| Wilmington, MA                    |       | Owned      |       | Manufacturing, research and development, sales and administration               |       | Orthopedics      |
| Gort, Ireland                     |       | Owned      |       | Manufacturing  and administration                                               |       | Orthopedics      |
| Ornamore, Ireland                 |       | Leased     |       | Subleased  to a third-party tenant                                              |       | Orthopedics      |
| Hong Kong, China                  |       | Leased     |       | Sales  and administration                                                       |       | Corporate        |
| Dubai, United Arab Emirates       |       | Leased     |       | Sales  and administration                                                       |       | Corporate        |
| Conshohocken, PA                  |       | Leased     |       | Executive  offices                                                              |       | Corporate        |

 

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In connection with our acquisition of Oxford Medicalin 2005, we developed a plan to close several facilities. As part of this plan,our facility in Hawthorne, New York was closed. This facility is currentlybeing subleased to a third-party. The remaining lease expires in 2010.

In connection with our acquisition of EME in 2002, wedeveloped a plan to close our facilities located in Brighton, United Kingdom.The remaining lease expires in April 2007.

In addition, we have a facility in Coventry, UnitedKingdom that is currently being subleased. The remaining lease expires in December 2014.We also have a facility in Market Harborough, United Kingdom that is currentlyunoccupied with tenants expected to occupy the facility in early 2007 through September 2010,the end of the lease.

We believe our facilitiesare in good condition, are suitable and adequate to accommodate our needs forthe foreseeable future, and are, with minor exceptions as described above,fully utilized and operating at normal capacity.

**Item 3.**                     LegalProceedings

The Company believes that there are no materialpending legal proceedings to which the Company or any of its subsidiaries is aparty or to which any of our properties are subject. However, from time to timethe Company faces litigation exposure for existing and potential claims. Theseclaims primarily relate to intellectual property matters, the manufacture andsale of medical devices, disputes with our distributors and employment matters.

Tecomet Inc. (“Tecomet”), a subsidiary of the Company,has been advised by Smith & Nephew, Inc. (“S&N”) that S&Nmay file a lawsuit against Tecomet for indemnity and/or contribution inconnection with more than 920 claims settled by S&N with patients whoallegedly required revision surgeries resulting from S&N knee implants.S&N has also indicated that it is aware of approximately 75 additionalrevisions which have not yet been settled. Tecomet supplied to S&N kneecomponents and a surface texture that were allegedly used in the S&N kneeimplants. Tecomet learned in 2003 that S&N had advised the U.S. Food andDrug Administration that S&N was voluntarily withdrawing certain of itsknee systems from the market due to unspecified problems that required revisionsurgery in some patients. Tecomet is investigating the claims made by S&N,which include assertions that at least some of the Tecomet texturing on theimplants did not comply with the manufacturing specifications. The Company hasagreed to participate in a non-binding mediation with S&N scheduled tooccur in April  2007. At this stage, it is not possible to predict thelikelihood or amount of liability, if any, on the part of Tecomet, or theamount, if any, that would be covered under the Company’s product liabilityinsurance policies. If a lawsuit is filed against Tecomet, Tecomet intends todefend it vigorously.

In 2004 and 2005,Tecomet was named as a defendant in three lawsuits in Texas brought byplaintiffs alleging that they had to undergo revision surgeries when theirS&N implants failed. These three cases were later dismissed withoutprejudice, and the Company understands that they were later settled by S&N.In 2005 and 2006, Tecomet was named as a defendant in two lawsuits in Oklahoma,which were brought by plaintiffs alleging facts similar to those raised in thethree cases that were filed in Texas. The Company believes that the amount ofdamages sought in the pending cases in Oklahoma would not be material to the Company’sconsolidated financial position, results of operations or cash flows.

The Company is involved in variouslitigation related to its ventilation business, which is focused on providingcare to critically ill patients. As of December 30, 2006, PulmoneticSystems Inc. (“Pulmonetics”), a subsidiary of the Company, had four productliability cases outstanding related to its ventilator products. One of thesefour product liability cases has settled pending court approval. The Company’sremaining ventilation business had two product liability cases outstandingrelated to its ventilator products. The Company believes that its productliability insurance policies, subject to applicable deductibles and policylimitations, limit its exposure in connection with these product liabilitycases. The Company also believes that it will be indemnified for its remainingexposure in connection with the cases against Pulmonetics 

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underthe Company’s purchase agreement related to the acquisition of Pulmonetics,subject to limitations contained in such agreement. While there can be no assurances as to theultimate outcome of any litigation involving the Company, management does notbelieve that any pending legal proceedings affecting the ventilation businesswill result in a judgment or settlement that will have a material adverseeffect on the Company’s consolidated financial position, results of operationsor cash flows.

**Item 4.**                     Submissionof Matters to a Vote of Security Holders

No matter was submitted toa vote of security holders through the solicitation of proxies or otherwiseduring the fourth quarter of fiscal year 2006.

**Executive Officersof the Registrant**

The following is a list of our executive officers,their ages and positions as of March 6, 2007:
| Name               | ** ** | ** ** | ** ** | **Age**                                                                                                       | ** ** | **Positions and Offices Presently Held** |
|--------------------|------------|------------|------------|---------------------------------------------------------------------------------------------------------------|------------|------------------------------------------|
| Randy H. Thurman   |       | 57         |       | Chairman, President and Chief Executive Officer                                                               |
| Matthew M. Bennett |       | 35         |       | Executive Vice President, Legal, Business  Development and Regulatory and Quality Affairs, and Secretary      |
| Lori J. Cross      |       | 46         |       | Executive Vice President and Group President,  NeuroCare                                                      |
| Martin P. Galvan   |       | 54         |       | Executive Vice President, Chief Financial Officer,  Information Technology and Director of Investor Relations |
| Edward Pulwer      |       | 60         |       | Executive Vice President, Chief Operating Officer                                                             |
| John F. Imperato   |       | 49         |       | Senior Vice President, Business Operations                                                                    |
| Thomas I. Kuhn     |       | 53         |       | Senior Vice President and Group President,  MedSystems                                                        |
| Giulio A. Perillo  |       | 60         |       | Senior Vice President and Group President,  Orthopedics                                                       |
| Arie Cohen         |       | 59         |       | Group President, Respiratory Care                                                                             |
| Gregory G. Martin  |       | 51         |       | Group President, International Operations                                                                     |
| Scott Hurley       |       | 48         |       | Vice President and Corporate Controller                                                                       |
| Wesley N. Riemer   |       | 49         |       | Vice President  and Corporate Treasurer                                                                       |

 

Set forth below arebiographical summaries, including positions and offices held during the pastfive years, of our executive officers. There are no family relationships amongthe executive officers. The executive officers are elected or appointed by theBoard of Directors of the Company or by an appropriate subsidiary board ofdirectors to serve until the election or appointment and qualification of theirsuccessors or their earlier death, resignation or removal.

**Randy H. Thurman;Chairman, President and Chief Executive Officer**

Mr. Thurman hasserved as Chief Executive Officer since April 2001 and became Chairman ofthe Board upon our spin-off in November 2001. Since July 2004, Mr. Thurmanhas also served as President. From 1996 to April 2001, Mr. Thurmanserved as Chairman and Chief Executive Officer of Strategic Reserves LLC, aprivately held company providing funding and strategic direction to healthcaretechnology companies. From 1993 to 1996, Mr. Thurman was Chairman and CEOof Corning Life Sciences, Inc., which was a global provider in clinicallaboratory testing, pharmaceutical research and esoteric reference testing. Concurrentwith the aforementioned positions, Mr. Thurman served as Chairman of theBoard of Enzon Pharmaceuticals, Inc. from 1994 to 2001 (Nasdaq: ENZN). From1984 to 1993, Mr. Thurman held various positions at Rhone-Poulenc RorerPharmaceuticals, Inc., a global pharmaceutical company, ultimately as itsPresident.

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**Matthew M. Bennett;Executive Vice President, Legal, Business Development and Regulatory andQuality Affairs and Secretary**

Mr. Bennett hasserved as Executive Vice President, Legal, Business Development and Secretarysince January 2006. Mr. Bennett joined VIASYS Healthcare Inc. in October 2003as Corporate Vice President and General Counsel. In September 2004, he wasnamed Senior Vice President, General Counsel and Business Development; in January 2006he was named Executive Vice President, Legal, Business Development andSecretary; and in January 2007 he assumed the additional responsibility forworldwide quality and regulatory affairs. Mr. Bennett previouslyrepresented VIASYS Healthcare Inc. since its spin-off in 2001 as the company’soutside counsel at Morgan, Lewis & Bockius LLP. Before Morgan Lewis, Mr. Bennettwas a defense attorney at Stradley Ronon Stevens & Young LLP and aclerk for the Superior Court of New Jersey.

**Lori J. Cross;Executive Vice President and Group President, NeuroCare**

Ms. Cross has servedas Executive Vice President and Group President, NeuroCare since January 2006.From November 2004 to January 2006, Ms. Cross served as GroupPresident, NeuroCare. Ms. Cross joined the Company from GeneralElectric-Datex-Ohmeda, Inc. where, from 1998 to November 2003, shewas President of Datex-Ohmeda U.S., responsible for the Anesthesia and DrugDelivery and Ventilation business areas and the U.S. Anesthesia Care sellingorganization. From 1997 to 1998, Ms. Cross was General Manager, GlobalInformation Solutions Business of Datex-Engstrom in Karlsruhe, Germany. Priorto 1997, Ms. Cross held various positions with Smith & NephewDyonics, Inc. and Baxter Edwards, Inc.

**Martin P. Galvan;Executive Vice President, Chief Financial Officer, Information Technology andDirector of Investor Relations**

Mr. Galvan has servedas Executive Vice President, Chief Financial Officer and Director InvestorRelations since January 2006. Beginning in November 2006, Mr. Galvanalso took on the responsibilities of Information Technology. From June 2001to January 2006, Mr. Galvan served as Senior Vice President, ChiefFinancial Officer, Director of Investor Relations. From June 2001 to October 2003,Mr. Galvan was also Secretary. Prior to joining the Company, from 1999 to2001, Mr. Galvan was Chief Financial Officer of Rodel, Inc. From 1979to 1998, Mr. Galvan held several positions with Rhone-Poulenc RorerPharmaceuticals, Inc., including Vice President, Finance Worldwide;President & General Manager, RPR Mexico & Central America;Vice President, Finance, Europe/Asia Pacific and Chief Financial Officer,United Kingdom & Ireland.

**Edward Pulwer;Executive Vice President, Chief Operating Officer**

Mr. Pulwer has servedas Executive Vice President, Chief Operating Officer since November 2006. FromJuly 2004 to November 2006, Mr. Pulwer served as Executive VicePresident and Group President, Respiratory Care. Mr. Pulwer served asGroup President, Critical Care from November 2002 to July 2004, GroupPresident, Respiratory Technologies from July 2001 to November 2002,General Manager of SensorMedics from 1999 to July 2001 and Vice Presidentof Sales of SensorMedics from 1996 to 1999. Mr. Pulwer held various salesand marketing positions at SensorMedics from 1983 to 1996. Prior to joining theCompany, from 1977 to 1983, Mr. Pulwer was Group Product Manager forRespiratory Care Products of American Hospital Supply Corporation—ScientificProducts Division, which is currently a division of Cardinal Health, Inc.

**John Imperato;Senior Vice President, Business Operations**

Mr. Imperato hasserved as Senior Vice President, Business Operations since January 2006. FromOctober 2001 to January 2006, Mr. Imperato served as CorporateVice President, Finance. Prior to joining the Company, from 2000 to 2001, Mr. Imperatowas Chief Financial Officer of Auxilium A2, Inc., a start-

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uppharmaceutical company engaged in development and marketing of ethicalpharmaceutical products. From 1999 to 2000, Mr. Imperato was ChiefFinancial Officer of Omnicare Clinical Services, Inc., a contract researchorganization. From 1984 to 1998, Mr. Imperato held several positions withRhone-Poulenc Rorer Pharmaceuticals, Inc., including Vice President,Finance, Worldwide Industrial Operations.

**Thomas I. Kuhn;Senior Vice President and Group President, MedSystems**

Mr. Kuhn has servedas Vice President and Group President, MedSystems since January 2006.Mr. Kuhn served as Group President, MedSystems from 2002 to January 2006.Mr. Kuhn served as President of Corpak from 1992 to 2002. From 1983 to1992, Mr. Kuhn held the following positions at Corpak: Senior VicePresident from 1989 to 1992, Vice President, Operations from 1987 to 1989, VicePresident Finance and Administration from 1985 to 1987 and Controller from 1983to 1985.

**Giulio A. Perillo;Senior Vice President and Group President, Orthopedics**

Mr. Perillo hasserved as Senior Vice President and Group President, Orthopedics since January 2006.From September 2004 to January 2006 Mr. Perillo served as GroupPresident, VIASYS Orthopedics. Mr. Perillo served as Group President,Operations and Corporate Quality from October 2003 to September 2004and Corporate Vice President, Operations Management and Systems from March 2003to October 2003. Prior to joining the Company, Mr. Perillo worked forCardinal Health, Inc. as Vice President and General Manager of CardinalHealth’s contract pharmaceutical and development business. From 1998 to 2000, Mr. Perillowas President of Omnicare Pharmaceutics, Inc. From 1997 to 1998, Mr. Perillowas President and Chief Operating Officer of USA Detergents, Inc. From1994 to 1997, Mr. Perillo was Vice President and General Manager ofCenteon Bio-Services, Inc., a global plasma collection company. From 1990to 1994, Mr. Perillo was Vice President, Worldwide Manufacturing ofRhone-Poulenc Rorer Pharmaceuticals, Inc.

**Arie Cohen; GroupPresident, Respiratory Care**

Mr. Cohen has servedas Group President, Respiratory Care since November 2006. From August 2005to November 2006, Mr. Cohen served as Division President, PulmoneticSystems Inc. From January 2005 to August 2005, Mr. Cohen servedas Executive Vice President and General Manager, Respiratory Care. Mr. Cohenserved as Group President, Respiratory Technologies from July 2004 to January 2005and Vice President, Strategic Initiatives from November 2003 to July 2004.From 2001-2003, Mr. Cohen founded ARC Healthcare Consulting. Priorto joining VIASYS, Mr. Cohen worked in senior executive positions forseveral medical technology companies, including Bear Medical Systems, DatascopeCorporation and Respironics.

**Gregory G. Martin;Group President, International Operations**

Mr. Martin has servedas Group President, International Operations since November 2006. From January 2006to November 2006, Mr. Martin served as Group President, Customer Careand Information Technology. From November 2003 to January 2006, Mr. Martinserved as Division President, Customer Care. Prior to joining the Company, from1997 to November 2003, Mr. Martin held the following positions withDecisionOne: Senior Vice President, Field Operations from November 1999 toNovember 2003, Senior Vice President, Major Account Operations forDecisionOne’s top 200 Customers from January 1999 to November 1999,and Vice President and General Manager of DecisionOne Canada from 1997 to January 1999.

**Scott Hurley; VicePresident and Corporate Controller**

Mr. Hurley has servedas Vice President and Corporate Controller since April 2005. Prior tojoining the Company, from January 2004 to April 2005, Mr. Hurleywas Vice President, Corporate Controller and Treasurer of Incyte Corporation, aWilmington, Delaware based company involved in the discovery and 

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developmentof oral compounds for the treatment of HIV, inflammation, cancer and diabetes. From1998 to 2003, Mr. Hurley served as Corporate Controller and ExecutiveOfficer of Arrow International, Inc., a company that develops,manufacturers and markets catheters and related products for critical andcardiac care. From 1993 to 1998, Mr. Hurley served as Director of Finance,Worldwide Industrial Operations Division of Rhone-Poulenc Rorer Pharmaceuticals, Inc.

**Wesley N. Riemer;Vice President and Corporate Treasurer**

Mr. Riemer has served as Vice President andCorporate Treasurer since December 2001. Prior to joining the Company,from August 1998 to December 2001, Mr. Riemer was Assistant VicePresident, International Tax at CIGNA Corporation. From June 1991 to August 1998,Mr. Riemer held several positions within Rhone-Poulenc RorerPharmaceuticals, Inc.’s tax department, most recently as Director,International Tax Planning.

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**PART II**

**Item 5.**                        Marketfor Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchaseof Equity Securities

Ourcommon stock is listed and traded on the New York Stock Exchange (the “NYSE”)under the symbol “VAS”. The following table sets forth the high and low closingsale prices of our common stock as reported by the NYSE for each quarter periodduring the last two fiscal years.

| ** **                                    | ** ** | **High** | ** ** | **Low** | ** ** |
|-----------------------------------------------|------------|----------|------------|---------|------------|
| **Fiscal Year Ended  December 30, 2006** |       |     |       |    |       |
| Quarter ended April 1, 2006              |       | $        | 30.08      |    | $          | 25.15 |   |
| Quarter ended  July 1, 2006              |       | $        | 29.75      |    | $          | 23.86 |   |
| Quarter ended  September 30, 2006        |       | $        | 28.18      |    | $          | 24.68 |   |
| Quarter ended  December 30, 2006         |       | $        | 29.35      |    | $          | 26.31 |   |
| **Fiscal  Year Ended December 31, 2005** |       |     |       |    |       |
| Quarter ended April 2, 2005              |       | $        | 21.00      |    | $          | 17.00 |   |
| Quarter ended July 2,  2005              |       | $        | 23.35      |    | $          | 18.79 |   |
| Quarter ended  October 1, 2005           |       | $        | 26.93      |    | $          | 22.50 |   |
| Quarter ended  December 31, 2005         |       | $        | 28.56      |    | $          | 22.90 |   |

 

On March 2, 2007, there were approximately 6,169holders of record of our common stock. On March 2, 2007, the closing priceof our common stock on the NYSE was $30.54.

Since becoming a publicly traded company in November 2001,we have not paid any cash dividends on our common stock and do not anticipatepaying cash dividends on our common stock in the foreseeable future. Wecurrently intend to retain any current and future earnings to finance thegrowth and development of our business. Further,our senior revolving credit facility contains provisions that limit the amountof cash dividends that can be paid.

The following informationof Part II Item 5 is being furnished and shall not be deemed “filed” forpurposes of Section 18 of the Securities Exchange Act of 1934, as amended,or otherwise subject to the liabilities of that Section, nor shall they bedeemed incorporated by reference in any filing under the Securities Act of1933, as amended, except as shall be expressly set forth by specific referencein such a filing.

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**Performance Graph**

Set forth below is a linegraph comparing the yearly cumulative total stockholder return on Common Stockwith the yearly cumulative total return of the S&P Smallcap 600 Index andthe S&P 600 Healthcare Equipment Index for the period beginning on December 29,2001, and ending on December 29, 2006, the last trading day of our fiscalyear. The comparison assumes $100 was invested on December 29, 2001 inCommon Stock and each of the foregoing indices and also assumes reinvestment ofall dividends.

| ** **                         | ** ** | **December 29,  2001** | ** ** | **December 28,  2002** | ** ** | **January 2,  2004** | ** ** | **December 31,  2004** | ** ** | **December 30,  2005** | ** ** | **December 29,  2006** | ** ** |
|------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|---------------------------|------------|-----------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| VIASYS HEALTHCARE INC.             |       |                        | $          | 100.00                      |       |                      |       | $                           | 74.86      |                        |       |                        | $          | 102.23 |   |   |   | $ | 96.11 |   |   |   | $ | 129.99 |   |   |   | $ | 140.72 |   |   |
| S&P SMALLCAP 600 INDEX         |       |                        | $          | 100.00                      |       |                      |       | $                           | 84.54      |                        |       |                        | $          | 117.67 |   |   |   | $ | 144.09 |   |   |   | $ | 155.16 |   |   |   | $ | 178.62 |   |   |
| S&P 600 HEALTH  CARE EQUIPMENT |       |                        | $          | 100.00                      |       |                      |       | $                           | 88.93      |                        |       |                        | $          | 120.19 |   |   |   | $ | 142.77 |   |   |   | $ | 168.97 |   |   |   | $ | 182.47 |   |   |

 

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**Item 6.**                        SelectedFinancial Data

The followingselected consolidated financial data should be read in conjunction with ourConsolidated Financial Statements and the accompanying notes and “Management’sDiscussion and Analysis of Financial Condition and Results of Operations”included elsewhere in this Annual Report on Form 10-K. The consolidatedstatements of operations data for the years ended December 30, 2006, December 31,2005, and January 1, 2005, and the consolidated balance sheet data as of December 30,2006 and December 31, 2005, are derived from our audited consolidatedfinancial statements included in this Annual Report on Form 10-K.The consolidated statements of operations data for the years ended  January 3, 2004 and December 28,2002 and the consolidated balance sheet data as of January 1, 2005, January 3,2004, and December 28, 2002 are derived from our audited consolidatedfinancial statements not included in this Annual Report on Form 10-K.The historical results presented here are not necessarily indicative of futureresults.
|                                                                                                                            | ** ** | **Year Ended**         | ** ** |
|----------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                 | ** ** | **Dec. 30,   2006(1)** | ** ** | **Dec. 31,   2005(2)** | ** ** | **Jan. 1,   2005(3)(2)** | ** ** | **Jan. 3,   2004(4)(2)** | ** ** | **Dec. 28,   2002(2)** | ** ** |
| **Consolidated  Statements of Operations Data:**                                                                           |       |                        |       |   |   |   |   |   |   |   |   |
| Revenues                                                                                                                   |       | $                           | 610,416    |   | $ | 509,974 |   | $ | 393,202 |   | $ | 394,947 |   | $ | 342,452 |   |
| Cost of Revenues                                                                                                           |       | 319,324                     |       | 268,858 |   | 218,870 |   | 212,787 |   | 181,625 |   |
| Gross Margin                                                                                                               |       | 291,092                     |       | 241,116 |   | 174,332 |   | 182,160 |   | 160,827 |   |
| Operating  Expenses:                                                                                                       |       |                        |       |   |   |   |   |   |   |   |   |
| Selling, general and administrative expense                                                                                |       | 194,933                     |       | 164,592 |   | 124,847 |   | 112,856 |   | 95,384 |   |
| Research and development expense                                                                                           |       | 35,841                      |       | 32,283 |   | 23,452 |   | 26,455 |   | 26,459 |   |
| Restructuring charges                                                                                                      |       | 2,568                       |       | 4,573 |   | 9,044 |   | 1,797 |   | 5,731 |   |
| Purchased in-process research and development                                                                    |       | 5,999                       |       | 34,909 |   | 386 |   | — |   | 900 |   |
| Legal settlement                                                                                                           |       | —                      |       | — |   | (6,000 | ) | — |   | — |   |
| Total operating expenses                                                                                                   |       | 239,341                     |       | 236,357 |   | 151,729 |   | 141,108 |   | 128,474 |   |
| Operating Income                                                                                                           |       | 51,751                      |       | 4,759 |   | 22,603 |   | 41,052 |   | 32,353 |   |
| Other Income (Expense), net                                                                                                |       | (3,503                      | )          | (1,522 | ) | 908 |   | (1,908 | ) | (2,020 | ) |
| Income from Continuing Operations Before Income  Taxes                                                                     |       | 48,248                      |       | 3,237 |   | 23,511 |   | 39,144 |   | 30,333 |   |
| Provision for Income Taxes                                                                                                 |       | (19,258                     | )          | (13,542 | ) | (8,475 | ) | (13,306 | ) | (11,485 | ) |
| Income (Loss) from Continuing Operations                                                                                   |       | 28,990                      |       | (10,305 | ) | 15,036 |   | 25,838 |   | 18,848 |   |
| Income (Loss) from Discontinued Operations (net of  income tax expense (benefit) of $0, $296, ($128), ($665), and ($7,821) |       |                        |       | 536 |   | (205 | ) | (4,252 | ) | (13,524 | ) |
| Net Income (Loss)                                                                                                          |       | $                           | 28,990     |   | $ | (9,769 | ) | $ | 14,831 |   | $ | 21,586 |   | $ | 5,324 |   |
| Earnings (Loss)  per Share:                                                                                                |       |                        |       |   |   |   |   |   |   |   |   |
| Basic:                                                                                                                     |       |                        |       |   |   |   |   |   |   |   |   |
| Continuing Operations                                                                                                      |       | $                           | .89        |   | $ | (.33 | ) | $ | .49 |   | $ | .91 |   | $ | .72 |   |
| Discontinued Operations                                                                                                    |       | —                      |       | .02 |   | (.01 | ) | (.15 | ) | (.52 | ) |
|                                                                                                                       |       | $                           | .89        |   | $ | (.31 | ) | $ | .48 |   | $ | .76 |   | $ | .20 |   |
| Diluted:                                                                                                                   |       |                             |       |  |   |  |   |  |   |  |   |
| Continuing Operations                                                                                                      |       | $                           | .87        |   | $ | (.33 | ) | $ | .48 |   | $ | .89 |   | $ | .71 |   |
| Discontinued Operations                                                                                                    |       | —                      |       | .02 |   | (.01 | ) | (.14 | ) | (.51 | ) |
|                                                                                                                       |       | $                           | .87        |   | $ | (.31 | ) | $ | .47 |   | $ | .75 |   | $ | .20 |   |
| Weighted Average  Shares Outstanding:                                                                                      |       |                             |       |  |   |  |   |  |   |  |   |
| Basic                                                                                                                      |       | 32,420                      |       | 31,430 |   | 30,809 |   | 28,284 |   | 26,080 |   |
| Diluted                                                                                                                    |       | 33,298                      |       | 31,430 |   | 31,403 |   | 28,905 |   | 26,603 |   |

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| **Consolidated Balance Sheet Data:**      |   |    |    |    |   |    |   |    |    |    |   |
|-------------------------------------------|--------|---------|---------|---------|--------|---------|--------|---------|---------|---------|--------|
| Working Capital                           |   | $       | 138,460 |    | $      | 134,329 |   | $       | 230,355 |    | $      | 210,875 |   | $ | 97,959 |   |
| Total Assets                              |   | 727,910 |    | 648,587 |   | 547,836 |   | 504,325 |    | 441,500 |   |
| Long-Term Debt Obligations                |   | 16,225  |    | 37,100  |   | —  |   | —  |    | —  |   |
| Stockholders’ Equity                 |   | 523,106 |    | 450,116 |   | 465,499 |   | 431,657 |    | 317,625 |   |
| **Other Financial Data:**                 |   |    |    |    |   |    |   |    |    |    |   |
| Cash Dividends  Declared Per Common Share |   | —  |    | —  |   | —  |   | —  |    | —  |   |
|                                           |        |         |         |         |        |         |        |         |         |         |        |  |  |  |  |  |

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(1)             Effective January 1, 2006, we adopted Statement ofFinancial Accounting Standards (“SFAS”) No. 123R, “Stock-BasedCompensation” (“SFAS No. 123R). In connection with adopting SFAS No. 123R,we began recording stock-based compensation expense. Stock-based compensationexpense for the year ended December 31, 2006 was $8.6 million.

(2)             The results of operation data for the years ended December 31,2005, January 1, 2005, January 3, 2004, December 28, 2002 and December 29,2001 have been adjusted to reflect certain businesses as discontinuedoperations (See Note 14 of our Consolidated Financial Statements).

(3)             In the second quarter of fiscal 2004, the Companysettled its litigation with INO Therapeutics, LLC (“INO Therapeutics”) andreceived a payment of $6,000,000 in connection with the dismissal of thelitigation (See Note 15 of our Consolidated Financial Statements).

(4)             In June 2003, we issued 3,450,000shares of common stock in a follow-on public offering. The net proceedsgenerated by the offering were $62,689,000.

**Item7.**                        Management’sDiscussion and Analysis of Financial Condition and Results of Operations

**Results of Operations**

***Comparison ofResults for the Year Ended December 30, 2006 to the Year Ended December 31,2005***

Inorder to more fully understand the comparison of the results of operations forthe year ended December 30, 2006 as compared to the  year ended December 31, 2005, it isimportant to note the following significant changes in our operations thatoccurred in 2006 and 2005:

·       EffectiveNovember 13, 2006, we acquired substantially all of the assets of HoffmanLaboratories LLC.

·       EffectiveAugust 31, 2006, we acquired substantially all of the assets of BioBeatMedical Limited.

·       EffectiveJuly 11, 2006, we acquired all of the outstanding capital stock of TiaraMedical Systems, Inc.

·       EffectiveNovember 2, 2005, we acquired all of the outstanding capital stock ofIntermed Precision Limited.

·       EffectiveJune 20, 2005, we acquired all of the outstanding stock of PulmoneticSystems, Inc.

·       EffectiveMarch 16, 2005, we acquired all of the outstanding capital stock of MicroMedical Limited.

·       EffectiveMarch 1, 2005, we acquired the medical division of Oxford Instruments plc.

·       EffectiveJanuary 18, 2005, we acquired substantially all of the assets of NavionBiomedical Corporation.

The results of operationsfor each of these acquisitions have been included in the consolidatedstatements of operations since the date of acquisition.

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On June 30, 2005, we completed the sale of theobstetrics and cardiovascular (“OB and CV”) businesses that we acquired in theOxford Medical transaction in March 2005. The consolidated financialresults have been restated to present OB and CV as a discontinued operation.

*Overview*

We are a healthcaretechnology company engaged in developing, manufacturing, marketing andservicing a variety of medical devices, instruments and medical and surgicalproducts for use in the respiratory, neurological, vascular, audio, homecare,medical and surgical products markets. We operate under the followingsegments:  Respiratory Care, NeuroCare,MedSystems and Orthopedics.

During 2006 we achieved20% revenue growth, of which 11% was from our core business and 9% fromacquisitions. This revenue growth was largely due to the performance of ourrespiratory segment, including the clinical services business, the continuedsuccess of Neurocare and MedSystems as well as our successful acquisition andintegration strategy.

During 2006 we made thestrategic decision to further expand into select international markets,including the Asia Pacific and Middle Eastern regions, which we believe offersignificant growth potential for our products. We have also introduced recentlyacquired products into our international channels. We made several strategicacquisitions in 2006, which enabled us to increase our presence in the sleeptherapy and diagnostics markets and to deliver advanced digital transcranialdoppler (TCD) technology to our customers.

In 2006, we achievedearnings from continuing operations of $0.87 per diluted share, compared to aloss from continuing operations of $(0.33) per diluted share in 2005. Ourimproved earnings were primarily due to the 20% revenue growth described above,a decrease in acquisition related expenses over the prior year and thesignificant increase in profitability of Neurocare. Offsetting these favorableitems was the inclusion of stock-based compensation expense of $5.7 million,after tax, pursuant to our adoption of FAS 123R, “Stock-BasedCompensation,” (“FAS 123R”.)

Our adoption of FAS 123R,on January 1, 2006, resulted in the recognition of stock compensationexpense in the consolidated statement of operations during the fiscal yearended December 30, 2006. We adopted FAS 123R using the modifiedprospective method; prior period financial statements have not been restated. Stock-basedcompensation expense for the year ended December 30, 2006 totaled$8.6 million pre-tax ($5.7 million after-tax or $0.18 per basic and$0.17 per diluted share).

Operating cash flow from operations was $58.1 millionfor 2006 compared to $22.3 million for 2005. The increase in operatingcash flow was driven by increased net income, as well as changes in accountsreceivable and accounts payable that more favorably impacted operating cashflow in 2006 as compared to 2005.

*Revenues*

Revenues increased $100.4 million, or 19.7%, to $610.4million in 2006 from $510.0 million in 2005. This increase was due toincreases in revenue of $93.3 million in Respiratory Care, $4.4 million inNeuroCare, $2.1 million in MedSystems, and $0.6 million in Orthopedics. Coreproducts accounted for 11.4% of the growth, while the additional sales frombusinesses acquired in 2006 and 2005 accounted for 8.3%. Contributing to therevenue growth were strong sales of our entire ventilation line, including ourLTV 1200 portable mechanical ventilators. The LTV 1200 performance includessales to government agencies as part of Homeland Security initiatives. Inaddition, revenues were favorably impacted by higher sales in our clinicalservices and customer care operations, as well as in our vascular and enteraldelivery products.

*Gross Margin*

Gross margin increased$50.0 million, or 20.7%, to $291.1 million in 2006 from $241.1 million in 2005. Gross margin as a percentage ofrevenues increased 40 basis points to 47.7% in 2006 from 47.3% in 2005. Theincrease in gross margin was primarily a result of the higher sales volume aswell as the absence of an acquisition related charge in 2005 taken to step upinventory.

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Gross margin as a percentage of revenues increased dueto favorable product mix, including increased sales of our portable mechanicalventilators, manufacturing efficiencies, as well as the absence of acquisitionrelated charges taken to step-up acquired inventory in 2005. Offsetting thesefavorable increases were pricing pressure on our orthopedics products, lowermargin from clinical services as we enter into cardiac studies and reducedmargin from INO therapeutics milestone payments. In addition, 2006 margins wereadversely affected by increases in raw material costs across all ourbusinesses, with a disproportionate impact on MedSystems and Orthopedics.

*Selling, Generaland Administrative Expense*

Selling, general and administrative expense increased$30.3 million, or 18.4%, to $194.9 million in 2006 from $164.6 millionin 2005. This increase was primarily due to expenses incurred by businessesacquired in 2006 and 2005 and pre-tax stock compensation expense of $8.6 millionin 2006, as a result of the adoption of FAS 123R on January 1, 2006. Asa percentage of revenues, selling, general and administrative expense decreased40 basis points, despite a 140 basis point increase due to stockcompensation expense. The 40 basis point decrease was largely as a resultof our cost reduction initiatives in NeuroCare and leverage gained on theadditional sales throughout our businesses.

*Purchasedin-process research and development*

During 2006 we recorded $6.0 million of purchasedin-process research and development (“IPR&D”) expense in connection withthree separate business combinations, all of which were accounted for pursuantto SFAS No. 141 *Business Combinations.*Thiscompares to $34.9 million of IPR&D expenses recorded in 2005.

During 2006, we recorded $3.1 million ofIPR&D expense in connection with the acquisition of Hoffman. We alsorecorded $1.1 million of IPR&D expense in connection with theacquisition of Tiara and $1.8 million of IPR&D expense in connectionwith the acquisition of BioBeat. The portion of the purchase price for each ofthese acquisitions allocated to IPR&D was determined by us based on inputfrom an independent third party appraisal and represents the estimated fairvalue of the research and development projects in-process at the time of each acquisition.These projects had not yet reached technological feasibility, were deemed tohave no alternative use and, accordingly, were immediately charged to operatingexpense at the acquisition date in accordance with FASB Interpretation No. 4,*Applicability of FASB Statement No. 2 toBusiness Combinations Accounted for by the Purchase Method* (“FIN 4”).These charges are included in our Consolidated Statements of Operations for theperiod ended December 30, 2006 as a separate component of operating expense.

During 2005, we recorded $3.4 million of IPR&Dexpense in connection with the acquisition of Micro Medical and $31.5 million of IPR&D expense in connection with the acquisition ofPulmonetics. The portion of the purchase price for each of these acquisitionsallocated to IPR&D was determined by us based on input from an independentthird party appraisal and represents the estimated fair value of the researchand development projects in-process at the time of each acquisition. Theseprojects had not yet reached technological feasibility, were deemed to have noalternative use and, accordingly, were immediately charged to operating expenseat the acquisition date in accordance with FIN 4. These charges areincluded in our Consolidated Statements of Operations for the year ended December 31,2005 as a separate component of operating expense.

*Research andDevelopment Expense*

Research and development expense increased $3.5 million,or 11.0%, to $35.8 million in 2006 from $32.3 million in 2005. Thisincrease was largely attributable to research and development activities of thebusinesses acquired in 2006 and 2005 as well as increasing our research anddevelopment initiatives in our Respiratory Care segment as projects enter thefinal phases of development, partially offset by a decrease in research anddevelopment in our NeuroCare segment.

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*RestructuringCharges*

Restructuring charges were $2.6 million in 2006,compared to $4.6 million in 2005, a decrease of 43.5% over 2005.

In the second half of 2006, we initiated a plan torestructure certain manufacturing operations in Old Woking, United Kingdom andin Ireland. As a result of this plan, 42 positions were eliminated. Expensesincurred relate to one-time termination costs paid to employees as well ascharges taken to dispose of certain assets that will not be used in therestructured business. As of December 30, 2006, $2.1 million ofrestructuring expense has been incurred in connection with this plan. We do notexpect to incur any additional costs associated with this plan. We expect torealize annual cost savings of approximately $1.0 million associated withthis plan beginning in 2007.

In the third quarter of 2005, we initiated a plan torestructure our international operations, which included closing our manufacturingfacility in Bristol, United Kingdom and terminating certain agreements withdistributors. As a result of the plan, 12 positions were eliminated in Bristoland the manufacturing operations were combined into our existing facility inOld Woking, United Kingdom. As of December 30, 2006, a total of $1.0 millionof restructuring expenses had been incurred in connection with this plan, ofwhich $0.4 million was incurred in 2006. Costs incurred include employeeseverance and related expenses as well as costs incurred related to thetermination of distribution agreements. We do not expect to incur anyadditional costs associated with this plan.

In the third quarter of 2004, we initiated acompany-wide restructuring plan to lower our cost structure. The principalcomponents of the plan include reducing worldwide headcount by approximately220 employees, transitioning the Respiratory Care’s U.S. manufacturingoperations from Yorba Linda, California to our Respiratory Care facility inPalm Springs, California, combining Respiratory Care’s U.S. commercialoperations in Palm Springs, California and Yorba Linda, California to a newlyleased facility in Yorba Linda, California, and the closure of a facility inBilthoven, the Netherlands. The plan involves the termination of employees inGermany, the Netherlands, the United Kingdom and the United States. As of December 31,2005, all of the targeted positions had been eliminated. The total amount ofrestructuring expense incurred in connection with this plan was approximately$12.0 million, of which $3.5 million was recognized in 2005. Therewere no costs incurred associated with this plan in 2006.

In the fourth quarter of 2003, we initiated a plan toclose a machine shop and reduce the number of customer service positions at aRespiratory Care facility in Germany. Due to German labor regulations, certainpositions cannot be eliminated immediately. As a result of this plan, 24positions are being eliminated over a period of five years. As of December 30,2006, 23 of these positions had been eliminated. Severance expense for theremaining employees will continue to be recorded ratably over their remainingemployment term. The total amount of restructuring expense expected to beincurred in connection with this plan is approximately $1.7 million.During 2006, we recorded net expense associated with this plan of $(0.1) million.This amount consisted of a $0.3 million reduction in the reserve in thefirst quarter of 2006 based on a reduction in the estimated amounts to beincurred under this plan and expense of $0.2 million recorded during 2006.As of December 30, 2006, a total of $1.5 million of expense had beenincurred related to this plan. Restructuring charges incurred in connectionwith this plan were $(0.1) million during 2006 compared to $0.4 millionduring 2005. Once this plan is complete, the annual savings from this plan areexpected to total approximately $1.3 million, which will be realized overthe next three years as the positions are eliminated.

During 2007 we expect to incur a strategicrestructuring charge largely associated with the consolidation of certainlocations resulting from the eight acquisitions we have completed in the lasttwo years. It is anticipated that this pre-tax charge will be$13.0 million to $16.0 million. We expect the cash outflow in 2007,including the benefit of related asset divestitures, associated with thischarge to be from $4.0 million to $7.0 million, excluding thepotential favorable tax benefits. It is anticipated that some benefits of thisrestructuring will start to be realized later in 2007 and the cost will besubstantially recovered by the early part of 2009.

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*Provision forIncome Taxes*

Our effective tax rate was 39.9% in 2006 compared to418.4% in 2005. The effective rate in 2006 exceeded the statutory federalincome tax rate of 35.0% primarily due to purchased in-process research anddevelopment expense (IPR&D) of $6.0 million, which is not deductiblefor tax purposes. Excluding the impact of IPR&D, our effective tax rate was35.5%. The effective tax rate (excluding IPR&D) was higher than the federalstatutory tax rate of 35.0% because of non-deductible expenses, a higher taxrate on foreign net earnings because of different tax rates, and losses onwhich lower tax benefits were provided and the impact of state taxes. Theseincreases in our effective tax rate were partially offset by productionactivity and export sales benefits and research and development credits. Theeffective tax rate in 2005 exceeded the statutory federal income tax rate of35.0% primarily due to IPR&D, which is not deductible for tax purposes. Excludingthe impact of IPR&D, our effective tax rate was 35.5%. The effective taxrate (excluding IPR&D) was higher than the federal statutory tax rate of35.0% because of non-deductible expenses, a higher tax rate on foreign netearnings because of different tax rates, and losses on which lower tax benefitswere provided and the impact of state taxes. These increases in our effectiverate were partially offset by production activity and benefits from exportsales and research and development credits. Changes in US tax law effective asof January 1, 2007 will negatively impact the effective tax rate in 2007and future years. The restructuring and other planned actions also impact oureffective tax in 2007 and future years.

*DiscontinuedOperations*

There was no net income from discontinued operationsin 2006. In 2005 there was $0.5 million of net income from discontinuedoperations, as a result of the June 30, 2005 sale of OB and CV that we acquiredfor approximately $6.4 million in cash in the Oxford Medical acquisitionin March 2005.

**Segment Information**

*Respiratory Care*

Revenues increased $93.3 million, or 29.9%, to$405.6 million in 2006 from $312.3 million in 2005. This revenue increasewas primarily due to sales from acquired businesses, including sales of sleeptherapy products. The strong sales of our entire ventilation line, includingour LTV 1200 portable mechanical ventilators, also contributed to the revenueincrease. The LTV 1200 performance includes sales to government agencies aspart of Homeland Security initiatives. In addition, revenues were favorablyimpacted by higher revenues from our clinical services business and domesticpulmonary function testing systems.

Operating income increased $49.3 million to $55.1 millionin 2006 from $5.8 million in 2005. Included in operating income was a$4.2 million charge for acquired IPR&D in 2006 compared to a$34.9 million charge in 2005, as a result of business acquisitions in therespective periods. The remaining 46% increase in operating income was due tothe higher overall sales, higher operating margins in VIASYS Clinical Servicesand Customer Care, and a reduction of restructuring expenses. Partiallyoffsetting these positive impacts were higher commissions and incentivecompensation, higher international sales in countries with lower averageselling prices and expenses from our research and development initiatives.

*NeuroCare*

Revenues increased $4.4 million, or 3.6%, to $127.5 millionin 2006 from $123.1 million in 2005. Revenue growth resulted from salesfrom businesses acquired in 2005 and increased sales of vascular diagnostic andmonitoring products. Partially offsetting these increases were lower consumablerevenues due to changes from direct to distributor sales in select countriessubsequent to the Oxford Medical acquisition in 2005. Distributors receivediscounted pricing to fund local marketing and sales efforts.

Operating income increased$6.9 million to $5.3 million in 2006 from a loss of $1.6 millionin 2005. Included in the operating income for 2006 was $1.8 millionof in-process research and development expense related to the acquisition ofBioBeat and an increased restructuring charges of $1.1 million. Includedin the operating loss for 2005 was $2.1 million of inventory step-upamortization related to the acquisition of Oxford Medical and $0.6 millionof acquisition and integration related costs. Excluding these 

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items we experienced a$7.2 million, or 465%, improvement in operating performance from 2005 to2006. The improvement was primarily due to cost reduction initiatives from therestructuring that was implemented during the third quarter of 2006 and highergross margin from the increased sales.

*MedSystems*

Revenues increased $2.1 million, or 6.5%, to$35.0 million in 2006 from $32.9 million in 2005. This increase wasprimarily due to higher sales of our enteral delivery products, in particularour CORTRAK® access system, as well as NAVIGATOR®, our peripherally insertedcatheter access system. Partially offsetting these increases were declines incertain other product lines, largely related to the timing of orders.

Operating income increased $0.6 million, or10.4%, to $6.8 million in 2006 from $6.2 million in 2005. Theincrease was primarily due to the impact of higher sales, as well as the impactof planned operating expense reductions.

*Orthopedics*

Revenues increased $0.6 million, or 1.4%, to$42.4 million in 2006 from $41.8 million in 2005. This increase wasdue to higher sales of aerospace and industrial products and sales oforthopedic instruments resulting from the November 2005 acquisition ofIntermed. This increase was offset by an overall decline in sales of orthopedicimplants primarily due to weaker demand and pricing pressure from OEMcustomers. This weakened demand is the result of an overall industry slowdownas well as pricing pressures in the orthopedic market.

Operating income decreased $2.4 million, or27.9%, to $6.2 million in 2006 as compared to $8.6 million in 2005.Contributing to the decline in operating income was the negative impact ongross margin from the pricing pressures described above and costs related tothe Intermed acquisition, partially offset by reduced operating expenses. Thesetrends are expected to continue into 2007.

***Comparison of Results for the Year EndedDecember 31, 2005 to the Year Ended January 1, 2005***

In order to morefully understand the comparison of the results of operations for the year endedDecember 31, 2005 as compared to the year ended January 1, 2005, it is important to note the followingsignificant changes in our operations that occurred in 2005 and 2004:

·       EffectiveNovember 2, 2005, we acquired all of the outstanding capital stock ofIntermed Precision Limited.

·       EffectiveJune 20, 2005, we acquired all of the outstanding capital stock ofPulmonetic Systems, Inc.

·       EffectiveMarch 16, 2005, we acquired all of the outstanding capital stock of MicroMedical Limited.

·       EffectiveMarch 1, 2005, we acquired the medical division of Oxford Instruments plc.

·       EffectiveJanuary 18, 2005, we acquired substantially all of the assets of NavionBiomedical Corporation

In the year ended January 1, 2005, our businesswas organized and operated through the following four reportable segments:  Respiratory Technologies, Critical Care,NeuroCare and Medical and Surgical Products. During the first quarter of 2005,we changed our reportable segments to reflect how we now manage our business.As a result, Respiratory Technologies and Critical Care operating segments werecombined into one operating segment called Respiratory Care. We also dividedour Medical and Surgical Products operating segment into two separatesegments:  MedSystems and Orthopedics.Segment information in this section has been restated for the fiscal year endedJanuary 1, 2005 to reflect our current segment presentation.

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*Revenues*

Revenues increased $116.8 million, or 29.7%, to$510.0 million in 2005 from $393.2 million in 2004. This increase wasdue to increases in revenue of $64.0 million in Respiratory Care,$38.0 million in NeuroCare, $2.3 million in MedSystems, and$12.5 million in Orthopedics. The increase was driven primarily by highersales of EMG systems, including sales resulting from the acquisition of OxfordMedical, orthopedic implants, Customer Care, the AVEA venitilator, clinicalservices, and pulmonary function testing equipment. The increase was alsodriven by the sales of portable mechanical ventilators and spirometry systems,which were a result of businesses acquired in 2005.

*Gross Margin*

Gross margin increased $66.8 million, or 38.3%,to $241.1 million in 2005 from $174.3 millionin 2004 due primarily to businesses acquired. Gross margin as a percentageof revenues increased 300 basis points to 47.3% in 2005 from 44.3% in 2004due to increased sales of higher margin products and manufacturing efficienciesresulting from productivity programs, increased throughput, and therestructuring plan initiated in the third quarter of 2004. Gross margin as apercentage of revenues in 2005 was negatively impacted by approximately134 basis points due to costs associated with the step-up of inventoryacquired in the transactions described above.

*Selling, Generaland Administrative Expense*

Selling, general and administrative expense increased$39.8 million, or 31.8%, to $164.6 million in 2005 from $124.8 millionin 2004. This increase was primarily due to acquisitions completed during 2005,higher incentive compensation costs, and higher expenses related to the expansionof our field sales, service and marketing organizations. These increases werepartially offset by cost savings from the restructuring plan initiated in thethird quarter of 2004 and a reduction in legal fees totaling $1.6 millionincurred in 2004 in connection with our now resolved suit against INOTherapeutics.

*Purchasedin-process research and development*

During 2005, we recorded $34.9 million ofpurchased in-process research and development (“IPR&D”) expense inconnection with two separate business combinations, both of which wereaccounted for pursuant to SFAS No. 141 *BusinessCombinations*. This compares to $0.4 million of IPR&Dexpense recorded during 2004 in connection with the acquisition ofsubstantially all of the assets of Taugagreining.

During 2005, we recorded $3.4 million ofIPR&D expense in connection with the acquisition of Micro Medical and$31.5 million of IPR&D expense in connection with the acquisition ofPulmonetics. The portion of the purchase price allocated to IPR&D wasdetermined by us based on input from an independent third party appraisal andrepresents the estimated fair value of the research and development projectsin-process at the time of each acquisition. These projects had not yet reachedtechnological feasibility, were deemed to have no alternative use and,accordingly, were immediately charged to operating expense at the acquisitiondate in accordance with FIN 4. These charges are included in ourConsolidated Statements of Operations for the year ended December 31, 2005as a separate component of operating expense.

*Research andDevelopment Expense*

Research and development expense increased $8.8 million,or 37.7%, to $32.3 million in 2005 from $23.5 million in 2004. Thisincrease is largely attributable to research and development activities of thecompanies we acquired in 2004 and 2005.

*RestructuringCharges*

Restructuring charges were $4.6 million in 2005,compared to $9.0 million in 2004, a decrease of 49.4% over 2004.

In the third quarter of 2005, we initiated a plan torestructure our international operations, which included closing ourmanufacturing facility in Bristol, United Kingdom and terminating certainagreements 

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with distributors. As aresult of the plan, 10 positions were eliminated in Bristol and the manufacturingoperations were combined into our existing facility in Old Woking, UnitedKingdom. As of December 31, 2005, a total of $0.6 million ofrestructuring expenses had been incurred in connection with this plan, whichincludes employee severance and related expenses as well as costs incurredrelated to the termination of distribution agreements. Total expenses underthis plan are not expected to exceed $1.0 million.

In the third quarter of 2004, we initiated acompany-wide restructuring plan to lower our cost structure. The principalcomponents of the plan include reducing worldwide headcount by approximately220 employees, transitioning the Respiratory Care’s U.S. manufacturingoperations from Yorba Linda, California to our Respiratory Care facility in PalmSprings, California, combining Respiratory Care’s U.S. commercial operations inPalm Springs, California and Yorba Linda, California to a newly leased facilityin Yorba Linda, California, and the closure of a facility in Bilthoven, theNetherlands. The plan involves the termination of employees in Germany, theNetherlands, the United Kingdom and the United States. As of December 31,2005, all of the targeted positions had been eliminated. The total amount ofrestructuring expense incurred in connection with this plan was approximately$12.0 million, of which $3.5 million was recognized in 2005. Whilethe costs of this restructuring plan exceeded some of our more recentestimates, they are within our previously disclosed original estimates. During2005, we realized cost savings of approximately $12.0 million related tothis plan.

In the fourth quarter of 2003, we initiated a plan toclose a machine shop and reduce the number of customer service positions at aRespiratory Care facility in Germany. Due to German labor regulations, certainpositions cannot be eliminated immediately. As a result of this plan, 24positions are being eliminated over a period of five years. As ofDecember 31, 2005, 15 of these positions had been eliminated. Severanceexpense for the remaining employees will continue to be recorded ratably overtheir remaining employment term. The total amount of restructuring expenseexpected to be incurred in connection with this plan is approximately$2.0 million. As of December 31, 2005, a total of $1.5 millionof expense had been incurred related to this plan. Restructuring chargesincurred in connection with this plan were $0.4 million during 2005compared to $0.9 million during 2004. Once this plan is complete, theannual savings from this plan are expected to total approximately $1.3 million,which will be realized over the next three years as the positions areeliminated.

In the third quarter of 2003, we commenced a plan torestructure our NeuroCare segment. The restructuring plan included thetermination of 55 general and administrative, service and manufacturingpositions. The plan was carried out in the third and fourth quarters of 2003.The total amount of restructuring expense incurred in connection with this planwas approximately $0.6 million, all of which was expensed and paid in2003. Beginning in 2004, this plan resulted in annual cost savings ofapproximately $3.5 million, much of which was reinvested into other areasin NeuroCare, such as sales and research and development.

Also in 2003, as a result of the acquisition of EME,we initiated a restructuring plan related to our Critical Care segment, whichresulted in the elimination of 48 positions in the areas of sales, finance,service and research and development. The total amount of restructuring expenseincurred in connection with this plan was approximately $0.9 million, mostof which was expensed and paid in 2003. Beginning in 2004, this plan resultedin annual cost savings of approximately $2.0 million.

*Legal Settlement*

In the second quarter of 2004, we settled thelitigation with INO Therapeutics, AGA AB, and The General Hospital Corporationregarding the use and sale of nitric oxide gas and devices and received apayment of $6.0 million in connection with the dismissal of the litigation.We had no similar settlements in 2005.

*Provision forIncome Taxes*

Our effective tax rate was 418.4% in 2005 compared to36.0% in 2004. The effective rate in 2005 exceeded the statutory federal incometax rate of 35.0% primarily due to purchased IPR&D expense of $34.9 millionwhich is not deductible for tax purposes. Excluding the impact of IPR&D,our effective tax 

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rate was 35.5% in 2005.The effective tax rate (excluding IPR&D) was higher than the federalstatutory tax rate of 35.0% because of non-deductible expenses, a higher taxrate on foreign net earnings because of different tax rates, and losses onwhich lower tax benefits were provided and the impact of state taxes. Theseincreases in our effective rate were partially offset by production activityand export sales benefits and research and development credits. The effectivetax rate in 2004 was higher than the statutory tax rate of 35.0% primarilybecause of the impact of state income taxes, lower rates on net foreign lossesand IPR&D that is not deductible for tax purposes. These increases werepartially offset by export sales benefits.

*DiscontinuedOperations*

The net income from discontinued operations was$0.5 million in 2005, compared to a net loss of $0.2 million in 2004.On June 30, 2005, we completed the sale of OB and CV businesses that weacquired in the Oxford Medical transaction in March 2005 for approximately$6.4 million in cash.

**Segment Information**

*Respiratory Care*

Revenues increased $64.1 million, or 25.8%, to$312.3 million in 2005 from $248.2 million in 2004. Revenues from allmajor product lines increased, with approximately half of the increaseresulting from sales of portable mechanical ventilators and spirometry systemsin the operations acquired from Pulmonetics and Micro Medical, respectively.The remaining increase was primarily attributable to higher sales of AVEA® ventilators and pulmonary function testingequipment and higher revenues in our Clinical Services and Customer Carebusinesses. These increases were partially offset by lower sales of previousgeneration ventilators. During the fourth quarter 2005, the company amended anagreement with INO Therapeutics for the development of an indication for NitricOxide. Pursuant to the agreement and in consideration for achieving milestonesunder the agreement, we received $4.5 million and have included thisamount in service revenue for the Respiratory Care segment.

Operating income decreased $18.3 million, or75.7%, to $5.8 million in 2005 from $24.1 million in 2004. This decreaseis primarily the result of a $34.9 million charge to write-off acquiredIPR&D and a $6.0 million payment received from settling litigationwith INO Therapeutics in the second quarter of 2004. This decrease in 2005 waspartially offset by higher gross margin primarily due to the increased sales,operational efficiencies in part due to the restructuring plan initiated in thethird quarter of 2004, product mix and the amounts received in consideration ofthe INO Therapeutics milestone. Also benefiting operating income was areduction in legal expense primarily as a result of a $1.6 million chargeincurred in 2004 in connection with the litigation with INO Therapeutics and areduction in restructuring expense.

*NeuroCare*

Revenuesincreased $38.0 million, or 44.7%, to $123.1 million in 2005 from$85.1 million in 2004. Revenue growth was primarily due to higher sales ofEMG products as well as new products introduced in 2004, including NicoletOneTMand Synergy, which was acquired from Oxford Medical.

We incurred an operating loss of $1.6 million in2005 compared to operating loss of $0.2 million in 2004. Operations werenegatively impacted by expenses resulting from the acquisition and integrationof Oxford Medical, which was acquired in the first quarter of 2005. Alsocontributing to the decrease were costs incurred to move our vascularmanufacturing operations, amortization expense related to the AUDIOSCREENER®hearing screening device acquired in the second quarter of 2004 and higherselling and other expenses incurred to support a number of new productlaunches. Partially offsetting these items were improvements in gross margindue to increased sales, new higher margin products and operationalefficiencies.

*MedSystems*

Revenues increased $2.3 million, or 7.4%, to$32.9 million in 2005 from $30.6 million in 2004. This increase wasprimarily due to higher sales of our enteral feeding tube product line.

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Operating income increased$0.3 million, or 4.9%, to $6.2 million in 2005 from $5.9 millionin 2004. This increase was primarily due to higher gross margin resulting fromincreased sales, partially offset by additional expenses associated with thelaunch in the first quarter of 2005 of our new CORTRAK® and NAVIGATOR® systems.

*Orthopedics*

Revenues increased $12.5 million, or 42.5%, to $41.8 millionin 2005 from $29.3 million in 2004. This increase was primarily due tohigher sales of hip and knee implants as well as cranial and maxiofacial meshproducts, resulting from strong overall demand for our products. This increasewas partially offset by lower sales of specialty products and materials.

Operating income increased$4.4 million, an increase of over 100%, to $8.6 million for in 2005as compared to $4.2 million in 2004. This increase was primarily due toincreased gross margin resulting from higher sales volume and operationalefficiencies resulting from manufacturing process improvements.

**Liquidity and CapitalResources**

As of December 30, 2006 and December 31,2005, we had cash and cash equivalents of $13.5 million and $19.5 million,respectively. At December 30, 2006, approximately $13.1 million ofour cash and cash equivalents was held internationally and could be subject toU.S. income tax if repatriated to the U.S. Our working capital wasapproximately $138.5 million and $134.3 million at December 30,2006 and December 31, 2005, respectively. This increase was due primarilyto increases in accounts receivable and inventories due in part to sales ofportable mechanical ventilators to the State of California Department of Healthin connection with Homeland Security emergency preparedness initiatives in2006  and additional  sales to becompleted in the first quarter of 2007. Such initiatives, sponsored by theFederal government through the Health Resources and Services Administration,have included purchases by various state governments of the portable mechanicalventilator sold by Pulmonetic Systems. We expect sales of portable mechanicalventilators to continue to be strong due primarily to continued HomelandSecurity initiatives and to what we believe are the standard of carecharacteristics of the product.

Our cash flow from operations increased by $35.8 millionto $58.1 million in 2006 from $22.3 million in 2005. This increasewas primarily due to the increase in net income, including the impact of stockbased compensation as well as changes in accounts receivable and accountspayable that more favorably impacted cash flow from operations in 2006 ascompared to 2005. Net income adjusted to exclude certain non-cash items, suchas depreciation and amortization, purchased in-process research and developmentand stock-based compensation, was approximately $66.6 million,$49.7 million and $34.1 million for the fiscal years ended 2006, 2005and 2004, respectively. The overall impact of changes in certain operatingassets and liabilities on total operating cash flows resulted in net cash(outflows) inflows of $(8.5) million, $(27.4) million, and $4.6 millionin 2006, 2005, and 2004, respectively. Discontinued operations provided (used)cash of $0.5 million and $(0.2) million in 2005 and 2004,respectively. There were no discontinued operations for 2006.

We used cash for investing activities of $59.7 millionin 2006, compared to $204.3 million and $24.0 million in 2005 and2004, respectively. This decrease is due to a reduction in the amount paid toacquire businesses in 2006 compared to 2005. In July 2006, we paid $20.2 million,net of cash received, to acquire Tiara. In August 2006, we paid $4.5 millionto acquire substantially all the assets of BioBeat Medical. In November 2006,we paid $10.4 million to acquire substantially all of the assets ofHoffman. In addition, we paid $0.3 millionto former shareholders of Taugagreining based on the achievementof the milestone outlined in the purchase agreement, which was recorded asadditional purchase price. In January 2005, we paid $3.4 million, netof cash acquired, to acquire substantially all of the assets of NavionBiomedical Corporation. In March 2005, we paid $45.1 million, net ofcash acquired, to acquire Oxford Medical. In March 2005, we paid$37.3 million, net of cash acquired, to acquire all of the outstanding stockof Micro Medical. In June 2005, we paid $89.7 million, net of cashacquired, to acquire all the outstanding 

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stock of Pulmonetics. In November 2005,we paid $10.6 million, net of cash acquired, to acquire all of the stockof Intermed Precision. Our expenditures for property, plant and equipment were$16.8 million during 2006, compared to $19.9 million and $10.6 millionduring 2005 and 2004, respectively. Our expenditures for intangible assets were$7.9 million, compared to $6.1 million and 10.1 million in 2005and 2004, respectively.

We used net cash from financing activities of$7.0 million in 2006, compared to cash provided of $80.4 million and$9.4 million in 2005 and 2004, respectively. In 2006 we repaid $21.8 millionof long-term debt under the revolving credit facility, versus borrowing$67.3 million, net of repayments, to fund acquisitions and working capitalduring 2005. In 2006, we received $12.0 million in proceeds from theexercise of stock options, compared to $11.5 million and $8.5 millionin 2005 and 2004, respectively. Also in 2006, we received $2.0 million inproceeds from the issuance of common stock pursuant to our employee stock purchaseplan, compared to $1.5 million in both 2005 and 2004.

On May 3, 2005, we entered into a five-year $150.0 millionSenior Unsecured Revolving Credit Facility (the “Facility”). The Facilityincludes a $20.0 million letter of credit sub-facility and a $20.0 millionswing line loan sub-facility. At the request of the Company, the aggregatemaximum principal amount available under the Facility may be increased to$200.0 million. The lenders, however, are not obligated to participate inthe increased portion of the Facility. The Facility can be used for workingcapital and other general corporate purposes, including capital expendituresand acquisitions. At December 30, 2006, $46.2 million was outstandingunder the Facility, $5.3 million of standby letters of credit had beenissued under the Facility, and $98.5 million was available for borrowingsunder the Facility.

At the Company’s option, loans borrowed under theFacility (other than swing line loans) bear interest at either (1) LIBORplus an applicable margin that will vary based on the Company’s leverage ratioas defined in the agreement, or (2) the alternative base rate, defined asthe higher of the lender’s prime rate or the Federal Funds Rate plus .50%. Swingline loans bear interest at a rate determined by the swing line lender. TheCompany is required to pay a facility fee based on the total revolving commitment.The average interest rate incurred during the year ended December 30, 2006was 5.74%. The interest rate on borrowings outstanding at December 30,2006 was 6.03%.

Our ability to access the Facility will depend oncomplying with certain customary affirmative and negative covenants, includingbut not limited to our ability to maintain a leverage ratio of debt to EBITDAof not greater than 3.00 to 1.00, an interest coverage ratio of EBITDA tointerest expense of not less than 4.00 to 1.00, minimum stockholders’ equityand limits on the amount of capital expenditures for fixed assets in any oneyear to the greater of $30 million or 5% of the Company’s consolidated netassets. While we are currently in compliance with the debt covenants of theFacility and expect to be able to meet the requirements of the Facility throughthe expiration date, failure to satisfy any of the conditions would require usto renegotiate the Facility on terms that may not be as favorable or couldrequire us to repay any outstanding balance. While we would attempt to findalternative sources to fund our operations from other financial institutions,we cannot assure you that we would be successful, or if we were successful,that the new credit arrangement would be on terms that would be attractive tous in financing our business plans.

During 2007, we expect to spend between$35.0 million to $40.0 million on capital expenditures, primarilyrelated to product development activities, capacity and efficiency improvementprojects, and the continuation of the implementation of a new company-wideinformation systems platform. Our capital requirements will depend on manyfactors, including the rate of our sales growth, market acceptance of our newproducts, research and development spending and the success of our productdevelopment efforts, capital spending policies of our customers, governmentspending policies and general economic conditions.

In addition, we expect to incur restructuring chargesin 2007 largely associated with the consolidation of certain locationsresulting form the eight acquisitions we have completed in the last two years. Itis anticipated that this pre-tax charge will be between $13.0 million and$16.0 million. We expect the cash outflow in 2007, including the benefitof related asset divestitures, associated with this charge to be from 

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$4.0 million to$7.0 million, excluding the potential favorable tax benefits. It isanticipated that some benefits of this restructuring will start to be realizedlater in 2007 and the cost will be substantially recovered by the early part of2009.

We may receive payments if future milestones areachieved for the development of an indication of nitric oxide related to ourco-development agreement with INO Therapeutics.

We believe that our availablecash and cash equivalents, cash from operations and cash available under theFacility will be sufficient to finance our operations and commitments for theforeseeable future. However, it is possible that we may need to raiseadditional funds to finance unforeseen requirements or to acquire otherbusinesses, products or technologies. These funds may be obtained through thesale of equity or debt securities to the public or to selected investors, or byborrowing money from financial institutions. In addition, even though wemay not need additional funds, we may still elect to sell additional equity ordebt securities or obtain credit facilities for other reasons. There areno assurances that we will be able to obtain additional funds on terms that wouldbe favorable to us, or at all. If funds are raised by issuing additionalequity securities or convertible debt securities, the ownership percentage ofexisting shareholders would be reduced. In addition, equity or debtsecurities issued by us may have rights, preferences or privileges senior tothose of our common stock.

**Obligations andCommitments**

Thefollowing table summarizes our contractual obligations at December 30,2006, and the effect such obligations are expected to have on our liquidity andcash flows in future periods (in millions):

| ** **                       | ** ** | **Payments Due by Period** | ** ** |
|----------------------------------|------------|-------------------------------------------|------------|
| **Contractual Obligations** | ** ** | ** **                                | ** ** | **Total** | ** ** | **Less than  1 year** | ** ** | **1–3 years** | ** ** | **3–5 years** | ** ** | **More than  5 years** | ** ** |
| Long-term debt  obligations(1)   |       | $                                         | 46.6       |   |   | $ | 30.3 |   |   |   | $ | 16.3 |   |   |   | $ | — |   |   |   | $ | — |   |   |
| Operating lease  obligations(2)  |       | 58.2                                      |       |   | 9.3 |   |   |   | 15.5 |   |   |   | 12.8 |   |   |   | 20.6 |   |   |
| Purchase  obligations(3)         |       | 28.6                                      |       |   | 27.9 |   |   |   | 0.3 |   |   |   | 0.3 |   |   |   | 0.1 |   |   |
| Total contractual  obligations   |       | $                                         | 133.4      |   |   | $ | 67.5 |   |   |   | $ | 32.1 |   |   |   | $ | 13.1 |   |   |   | $ | 20.7 |   |   |
|                                  |            |                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

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(1)          Amounts included inlong-term debt are current and non-current portions of the Company’s long-termobligations, including obligations under the credit facility.

(2)          Amounts included inoperating lease obligations are minimum lease payments under lease agreements.

(3)          Amounts included inpurchase obligations are agreements to purchase goods or services that areenforceable and legally binding on the Company that specify all significantterms, including: fixed or minimum quantities to be purchased; fixed, minimumor variable price provisions; and the approximate timing of the transaction.The Company has excluded future purchase commitments for contracts that do notmeet these criteria. Purchase orders have not been included in the table, as apurchase order is an authorization to purchase and is not considered anenforceable and legally binding contract.

Thefollowing table summarizes our commercial commitments at December 30, 2006(in millions):

| ** **                      | ** ** | **Amount of Commitment Expiration Per Period** | ** ** |
|---------------------------------|------------|-------------------------------------------------------------------------|------------|
| **Commercial Commitments** | ** ** | ** **                                                              | ** ** | **Total  Amounts  Committed** | ** ** | **Less than  1 year** | ** ** | **1–3 years** | ** ** | **3–5 years** | ** ** | **More than  5 years** | ** ** |
| Standby letters  of credit      |       |                                                                    | $          | 5.3 |   |   |   | $ | 5.1 |   |   |   | $ | 0.2 |   |   |   | $ | — |   |   |   | $ | — |   |   |
| Total commercial  commitments   |       |                                                                    | $          | 5.3 |   |   |   | $ | 5.1 |   |   |   | $ | 0.2 |   |   |   | $ | — |   |   |   | $ | — |   |   |
|                                 |            |                                                                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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**Off-Balance SheetArrangements**

We do not have anyoff-balance sheet arrangements or relationships with unconsolidated entities orfinancial partnerships, such as entities often referred to as structuredfinance or special purpose entities, which are typically established for thepurpose of facilitating off-balance sheet arrangements or other contractuallynarrow or limited purposes.

**Critical AccountingPolicies and Estimates**

Our financial statements have been prepared inaccordance with accounting principles generally accepted in the United Statesof America. The preparation of these financial statements requires us to makeestimates and judgments that affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenues and expenses foreach period. These estimates and judgments are based on historical experienceand on various other factors that we believe are reasonable under thecircumstances. Some of those judgments can be subjective and complex and,consequently, actual results may differ from these estimates under differentassumptions or conditions. We regularly evaluate our estimates and judgmentsand make adjustments when facts and circumstances dictate.

We believe that thefollowing critical accounting estimates affect the more significant judgmentsand estimates used in the preparation of our financial statements.

*Revenue Recognition*

We derive revenues primarily from the sale of productsand to a lesser extent the provision of services and rental of equipment. Ourprimary customers include hospitals, alternate care sites, sleep clinics, homecare providers, clinical laboratories, product distributors, privatephysicians, original equipment manufacturers, and government agencies. Ingeneral, our arrangements with our customers, including distributors, providefor the following terms: (i) pricing is based on a price list providedfrom time to time by us, with discounts given on a customer by-customer andsale-by-sale basis, (ii) risk of loss passes and title transfers to thecustomer upon delivery of the product by us to a common carrier, (iii) paymentof invoices is due within 30 days after the date of the invoice, and (iv) weprovide the customer with a limited warranty against material defects inmaterials and workmanship. We may vary these terms on a case-by-case basis. Wegenerally recognize revenue when realized, realizable or earned. Revenue isrecognized when persuasive evidence of an arrangement exists and the price tothe buyer is fixed or determinable, as evidenced by a contract or purchaseorder, when collectibility is reasonably assured, and when title and risk ofloss is transferred to the customer and delivery has occurred or when serviceshave been rendered, or when a fixed schedule of delivery exists. Pricingincentives are generally offered to customers in the form of discounts, rebatesand, occasionally, free products. We record revenue, net of sales discounts andrebates, if applicable, in our income statement. We record a liability forthese rebates at the time of the original sale, based on historical experience.With regard to free goods offered to customers, we classify our costs of salesincentives as cost of sales in our income statement. No rights of return aregranted other than the provisions for return of defective goods under the termsof our warranty provisions, and we generally have no additional post-shipmentobligations with respect to these customers.

Revenues for products that require installation forwhich the installation either is essential to functionality or is not deemedinconsequential or perfunctory are recognized upon completion of installation.Revenues for products sold where installation is not essential to functionalityand is deemed inconsequential or perfunctory are recognized upon transfer oftitle with estimated installation costs accrued.

Arrangements with multiple elements are evaluated todetermine if each element qualifies as a separate unit of accounting forpurposes of recognizing revenue. Each unit of accounting is measured at itsfair value and recorded in the income statement when realized or realizable andearned.

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Service revenues are derived from parts sales, servicecontracts, training, repairs not under warranty and research and developmentcontracts for third parties. We sell service contracts on products when thewarranty period expires. We recognize revenues from these service contractsratably over the terms of the contracts, while the cost is recognized whenincurred. Revenues from the sale of spare parts are recognized upon transfer oftitle. Revenues from training and repairs are recognized at the time theservice is performed and the customer has accepted the work. We also recordpayments received for milestones achieved for the development of an indicationof nitric oxide related to our co-development agreement with INO Therapeutics,LLC as service revenues. Revenues for each element are recognized in the periodduring which each element became realized or realizable and earned.

We rent products, primarilyin the Respiratory Care segment, to hospitals and other customers for periodsranging from two weeks to over a year. We recognize rental revenues ratablyover the terms of the rental contract.

*Allowance forDoubtful Accounts*

We maintain an allowancefor doubtful accounts for estimated losses resulting from the inability of someof our customers to make required payments. The allowance for doubtful accountsis based on our historical collections experience, historical write-offs of ourreceivables, current trends, credit policy and a percentage of our accountsreceivable by aging category. Account balances are written off against theallowance after all means of collection have been exhausted and the potentialfor recovery is considered remote.

*Inventory*

Inventories are stated at the lower of cost or market.Cost is determined using the “first-in first out” method. Costs include directmaterials, direct labor and applicable manufacturing overhead, and other directcosts.

At each balance sheetdate, we review our quantities of inventories on hand and compare these amountsto the expected usage of each particular product or product line. We record acharge to cost of revenues for the amount required to reduce the carrying valueof the inventories to their estimated net realizable value.

*Valuation ofGoodwill and Intangible Assets*

We use assumptions in establishing the carrying value,fair value and estimated lives of our goodwill and intangible assets. Thecriteria used for these evaluations include management’s estimate of the asset’scontinuing ability to generate positive income from operations and positivecash flow in future periods compared to the carrying value of the asset, aswell as the strategic significance of any identifiable intangible asset in ourbusiness objectives. If assets are considered impaired, the impairmentrecognized is the amount by which the carrying value of the assets exceeds thefair value of the assets. Useful lives and related amortization expense arebased on our estimate of the period that the assets will generate revenues orotherwise be used by us. Factors that would influence the likelihood of amaterial change in our reported results include significant changes in theasset’s ability to generate positive cash flow, a significant decline in theeconomic and competitive environment on which the asset depends and significantchanges in our strategic business objectives.

Goodwill represents the excess of the purchase priceover the fair value of identifiable net assets of acquired businesses. Weaccount for goodwill that results from acquired businesses according to theprovisions of Statement of Financial Accounting Standards (“SFAS”) No. 142,“Goodwill and Other Intangible Assets” (“SFAS No. 142”). SFAS No. 142requires that goodwill and intangible assets having indefinite lives are notamortized but are instead assigned to reporting units and tested for impairmentannually or more frequently if changes in circumstances or the occurrence ofevents indicate possible impairment.

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Pursuant to SFAS No. 142, we perform an annualimpairment test for goodwill. The impairment test for goodwill is a two-stepprocess. Step one consists of a comparison of the fair value of a reportingunit with its carrying amount, including the goodwill allocated to eachreporting unit. If the carrying amount is in excess of the fair value, step tworequires the comparison of the implied fair value of the reporting unit withthe carrying amount of the reporting unit’s goodwill. Any excess of thecarrying value of the reporting unit’s goodwill over the implied fair value ofthe reporting unit’s goodwill will be recorded as an impairment loss.

We performed our annualSFAS No. 142 goodwill impairment assessment for our reporting units as of November 25,2006 and determined that there was no impairment.

*Stock-BasedCompensation*

Stock options are granted to key employees andnon-employee directors. Upon vesting, an option becomes exercisable, meaning,an employee or director can purchase a share of the Company’s common stock at aprice that is equal to the closing share price on the day of grant. Restrictedstock units (“RSU”) are also granted to key employees. The restrictions on thestock underlying the RSU’s lapse over the vesting period.

Effective January 1, 2006, we adopted FASBStatement No. 123R, *Share-Based Payment*,or “SFAS 123R.” SFAS 123R requires that the cost of all forms ofequity-based compensation be recognized in a company’s income statement andthat such cost be measured at the fair value of the equity award. We recognizethe stock compensation expense over the requisite service period of theindividual grants, which generally equals the vesting period. We use thestraight-line method to account for compensation cost for awards with gradedvesting. Prior to January 1, 2006, we accounted for this plan under APBOpinion No. 25, *Accounting for StockIssued to Employees*, “APB 25”, and related interpretations inaccounting for stock compensation.

We elected the modified prospective method in adoptingSFAS 123R. Under this method, the provisions of SFAS 123R apply toall awards granted or modified after the date of adoption. In addition, theunrecognized expense of awards not yet vested at the date of adoption isrecognized in net income in the periods after the date of adoption using thesame valuation method (Black-Scholes) and assumptions determined under theoriginal provisions of SFAS 123, *Accounting for Stock-BasedCompensation*, as disclosed in our previous filings.

Theoption valuation model requires a number of assumptions, including future stockprice volatility and expected option life (the amount of time until the optionsare exercised or expire). Expected option life is based on actual exerciseactivity from previous option grants. Volatility is calculated based upon stockprice movements over a period of time. Additionally, our share price on the dayof grant influences the option value. Changes in the option value after the dayof grant are not reflected in expense. We used the following weighted averageassumptions for estimating the fair value of options granted during the yearended December 30, 2006:

| Dividend Yield                   |   | —  |   |
|----------------------------------|--------|---------|--------|
| Expected  Volatility             |   | 35.5    | %      |
| Average Risk Free  Interest Rate |   | 4.7     | %      |
| Expected Life (in years)         |   | 5 years |   |

 

Any change in theseassumptions could significantly impact the values calculated by the optionvaluation model and, consequently, the compensation cost recognized over therequisite service period.

**Recent AccountingPronouncements**

In July 2006, theFinancial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48,“Accounting for Uncertainty in Income Taxes, an interpretation of FASBStatement No. 109, 

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Accountingfor Income Taxes” (“FIN 48”). FIN 48 provides guidance on how acompany should recognize, measure, and disclose in its financial statementsuncertain income tax positions. Under the new provisions, a company should notrecognize a tax benefit for an uncertain income tax position unless it is “morelikely than not” that the position is sustainable. FIN 48 is effective forfiscal years beginning after December 15, 2006, requiring implementationin the first quarter of 2007. We are still evaluating the impact of FIN 48on our consolidated financial statements.

**Item 7A.**                Quantitativeand Qualitative Disclosures About Market Risk

We are exposed to marketrisk from changes in interest rates and foreign currency exchange rates, whichcould affect our future results of operations and financial condition.

***ForeignCurrency Risk***

We derive approximately40% of our revenues from customers outside the United States. This business istransacted through a network of international subsidiaries and third-partydistributors. Revenues generated through business transacted by internationalsubsidiaries are generally in the local currency that is considered thefunctional currency of that foreign subsidiary. Expenses are also incurred inthe foreign currencies to match revenues earned and minimize our exchange rateexposure to operating margins. The Company generally views its investment inmost of its foreign subsidiaries as long-term. The effects of a change inforeign currency exchange rates on the Company’s net investment in foreignsubsidiaries are reflected in accumulated other comprehensive income. A 10%depreciation in functional currencies relative to the U.S. dollar would haveresulted in a decrease in the Company’s net investment in foreign subsidiariesof approximately $16.9 million at December 30, 2006.

***InterestRate Risk***

Our cash and cash equivalents are sensitive to changesin interest rates. Interest rate changes would result in a change in interestincome due to the difference between the current interest rates on cash andcash equivalents and the rate that these financial instruments may adjust to inthe future.

We are also exposed tofluctuations in interest rates on our five-year $150.0 million SeniorUnsecured Revolving Credit Facility (the “Facility”) which bears interest atvariable rates. Changes in interest rates will affect the amount of ourinterest payments over the term of the loan. A 100 basis point increase ininterest rates under the Facility would have an estimated negative impact onpre-tax earnings of approximately $0.5 million based on the amountoutstanding on the Facility as of December 30, 2006.

**Item 8.**                        FinancialStatements and Supplementary Data

Our Consolidated FinancialStatements, management’s report on internal control over financial reportingand our independent registered public accounting firm’s reports on management’sassessment and the effectiveness of our internal control over financialreporting and on our financial statements and schedule are included in thisAnnual Report on Form 10-K beginning on page F-1.

**Item 9.**                        ChangesIn and Disagreements with Accountants on Accounting and Financial Disclosure.

Not applicable.

**Item 9A.***               *Controlsand Procedures

*(a)**         Evaluationof Disclosure Controls and Procedures*

Our management, with the participation of our ChiefExecutive Officer and Chief Financial Officer, evaluated the effectiveness ofour disclosure controls and procedures as of the end of the period covered bythis report. Based on that evaluation, the Chief Executive Officer and ChiefFinancial Officer concluded that our disclosure controls and procedures as ofthe end of the period covered by this report are 

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functioning effectively toprovide reasonable assurance that the information required to be disclosed byus in reports filed under the Securities Exchange Act of 1934 is (i) recorded,processed, summarized and reported within the time periods specified in theSecurities and Exchange Commission’s rules and forms and (ii) accumulatedand communicated to our management, including the Chief Executive Officer andChief Financial Officer, as appropriate to allow timely decisions regarding disclosure.A controls system cannot provide absolute assurance, however, that theobjectives of the controls system are met, and no evaluation of controls canprovide absolute assurance that all control issues and instances of fraud, ifany, within a company have been detected.

*(b)**         Management’sReport on Internal Control Over Financial Reporting*

Our management’s report on internal control overfinancial reporting and our independent registered public accounting firm’sreport on management’s assessment and the effectiveness of our internal controlover financial reporting are set forth in Item 8 of this Annual Report on Form 10-Kand is incorporated by reference herein.

*(c)**          Changein Internal Control Over Financial Reporting*

No change in our internalcontrol over financial reporting occurred during our most recent fiscal quarterthat has materially affected, or is reasonably likely to materially affect, ourinternal control over financial reporting.

**Item 9B.***              *OtherInformation

Not applicable.

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**PART III**

**Item10.**                 Directors andExecutive Officers and Corporate Governance

The information required by this item with respect toour directors, our Nominating and Governance Committee*,*our Audit Committee and audit committee financial expert is incorporated byreference to the information set forth under the captions “Proposal No. 1.Election of Directors,”  “Board ofDirectors  and Corporate GovernanceMatters- Nominating and Governance Committee,” “Procedures for Nominating andRecommending for Nominating Candidates for Director,” and  “Board of Directors and Corporate GovernanceMatters—Audit Committee” in our definitive proxy statement for the 2007 AnnualMeeting of Stockholders to be filed with the Securities and Exchange Commissionpursuant to Regulation 14A of the Securities Exchange Act of 1934.

The information required by this item with respect toour executive officers is set forth under the caption “Executive Officers ofthe Registrant” in Part 1of this Annual Report on Form 10-K.

The information required by this item with respect toour compliance with Section 16(a) of the Securities Exchange Act of1934 is incorporated by reference to the information set forth under thecaption entitled “Section 16(a) Beneficial Ownership ReportingCompliance” in our definitive proxy statement for the 2007 Annual Meeting ofStockholders to be filed with the Securities and Exchange Commission pursuantto Regulation 14A.

We have adopted a “Code of Business Conduct and Ethicsfor Directors” and a “Code of Conduct” applicable to all employees, includingall executive officers of the Company. The “Code of Business Conduct and Ethicsfor Directors” and the “Code of Conduct” are posted on our website. TheInternet address for out website is www.viasyshealthcare.com. The “Code ofBusiness Conduct and Ethics for Directors” and the “Code of Conduct” may befound at the “Investors” page on our website. The information on ourwebsite is not and should not be considered part of this Annual Report on Form 10-Kand is intended to be an inactive textual reference only.

The Board of Directorswill not permit any wavier of any ethics and conduct policy for any director orexecutive officer.

**Item 11.**                 ExecutiveCompensation

The information requiredby this item is incorporated by reference to the information set forth underthe captions entitled “Board of Directors and Corporate Governance Matters—Compensationof Directors” and “Executive Compensation” in our definitive proxy statementfor the 2007 Annual Meeting of Stockholders to be filed with the Securities andExchange Commission pursuant to Regulation 14A of the Securities ExchangeAct of 1934.

**Item 12.**                 Security Ownership of Certain Beneficial Ownersand Management and Related Stockholder Matters

The information requiredby this item with respect to the security ownership of certain beneficialowners and management is incorporated by reference to the information set forthunder the captions “Security Ownership of Certain Beneficial Owners andManagement” and “Executive Compensation—Equity Compensation Plan Information”in our definitive proxy statement for the 2007 Annual Meeting of Stockholdersto be filed with the Securities and Exchange Commission pursuant toRegulation 14A of the Securities Exchange Act of 1934.

**Item 13.***                *CertainRelationships and Related Transactions, and Director Independence

The information requiredby this item is incorporated by reference to the information set forth underthe caption*s* entitled “Related Transactions” and “Board of Directors—Director Independence,” in our definitive proxy statementfor the 2007 Annual Meeting of Stockholders to be filed with the Securities andExchange Commission pursuant to Regulation 14A of the Securities ExchangeAct of 1934.

**Item 14.**                 PrincipalAccounting Fees and Services

The information requiredby this item is incorporated by reference to the information set forth underthe caption entitled “Independent Public Accountants and Related Fees” in ourdefinitive proxy statement for the 2007 Annual Meeting of Stockholders to be filedwith the Securities and Exchange Commission pursuant to Regulation 14A ofthe Securities Act of 1934.

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**PART IV**

**Item 15.**                 Exhibitsand Financial Statement Schedules

(a)          The following documentsare filed as part of this Annual Report on Form 10-K: .

1.                ConsolidatedFinancial Statements:

| Management’s Report on  Internal Control Over Financial Reporting                                                               | F-1 |
|--------------------------------------------------------------------------------------------------------------------------------------|-----|
| Report of Independent Registered Public Accounting  Firm on Internal Control Over Financial Reporting                                | F-2 |
| Report of Independent Registered Public Accounting  Firm on Financial Statements and Schedule                                        | F-3 |
| Consolidated  Balance Sheets as of December 30, 2006 and December 31, 2005                                                 | F-4 |
| Consolidated Statements of Operations for the years  ended December 30, 2006, December 31, 2005, and January 1,  2005 | F-5 |
| Consolidated Statements of Cash Flows for the years  ended December 30, 2006, December 31, 2005, and January 1,  2005 | F-6 |
| Consolidated Statements of Changes in Stockholders’  Equity for the period from January 3, 2004 to December 30, 2006  | F-7 |

 

2.                FinancialStatement Schedule:

| Schedule II—Valuation and  Qualifying Accounts for the years ended December 30, 2006,  December 31, 2005, and January 1, 2005 | F-46 |
|---------------------------------------------------------------------------------------------------------------------------------------------------|------|

 

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All other scheduleshave been omitted because they are not applicable or not required, or becausethe required information is included in the Consolidated Financial Statementsor Notes thereto.

3.                Exhibits:
| Exhibit No. | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          | ** ** | ** ** |
|------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------|
| 3.1              |       | Amended and Restated  Certificate of Incorporation of the Company, is incorporated by reference to  Exhibit 3.2 to the Company’s Registration Statement on Form 10/A,  filed with the Commission on September 20, 2001.                                                                                                                                                                                                                                                                                                                                              |
| 3.2              |       | Certificate of  Amendment of Amended and Restated Certificate of Incorporation of the  Company, is incorporated by reference to Exhibit 3.3 to the Company’s  Registration Statement on Form 10/A, filed with the Commission on  October 24, 2001.                                                                                                                                                                                                                                                                                                                   |
| 3.3              |       | Certificate of  Amendment of Amended and Restated Certificate of Incorporation of the  Company, is incorporated by reference to Exhibit 3.1 to the Company’s  Current Report on Form 8-K filed with the Commission on  May 15, 2006.                                                                                                                                                                                                                                                                                                                                 |
| *3.4             |       | Amended and  Restated By-Laws of the Company, dated as of November 10, 2006.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| †10.1       |       | Amended and  Restated Employment Agreement, effective as of November 15, 2006, by and  between the Company and Randy H. Thurman, is incorporated by reference  to Exhibit 99.1 to the Company’s Current Report on Form 8-K,  filed with the Commission on November 15, 2006.                                                                                                                                                                                                                                                                               |
| †10.2       |       | Amended and  Restated Employment Agreement, dated as of May 26, 2006, by and between  the Company and Martin P. Galvan, is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                              |
| †10.3       |       | Amended and  Restated Employment Agreement, dated as of September 26, 2006, by and  between the Company and Edward Pulwer, is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K,  filed with the Commission on September 26, 2006, as amended by Letter  Agreement, effective as of November 15, 2006, by and between the Company  and Edward Pulwer, is incorporated by reference to Exhibit 99.2 to the  Company’s Current Report on Form 8-K, filed with the Commission on  November 15, 2006. |
| †10.4       |       | Amended and  Restated Employment Agreement, dated as of May 26, 2006, by and between  the Company and Lori J. Cross, is incorporated by reference to  Exhibit 10.3 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                     |
| 10.5             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Matthew M. Bennett, is incorporated by reference to  Exhibit 10.2 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                      |
| 10.6             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and John F. Imperato, is incorporated by reference to  Exhibit 10.6 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                        |
| 10.7             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Thomas I. Kuhn, is incorporated by reference to  Exhibit 10.7 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                          |
| 10.8             |       | Employment  Agreement, dated as of May 26, 2006, by and between the Company and  Gregory G. Martin, is incorporated by reference to Exhibit 10.8  to the Company’s Current Report on Form 8-K, filed with the  Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                      |

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| 10.9        |   | Employment Agreement, dated as  of May 26, 2006, by and between the Company and Giulio A. Perillo,  is incorporated by reference to Exhibit 10.5 to the Company’s Current  Report on Form 8-K, filed with the Commission on June 2,  2006.                                                                                                                                                                                                                                         |
|-------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.10       |   | Change of Control Agreement, dated as of May 26, 2006, by and  between the Company and Scott Hurley, is incorporated by reference to  Exhibit 10.9 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                        |
| 10.11       |   | Change of Control Agreement, dated as of May 26, 2006, by and  between the Company and Wesley N. Riemer, is incorporated by reference  to Exhibit 10.10 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                   |
| 10.12       |   | Plan and  Agreement of Distribution between the Company and Thermo Electron  Corporation, is incorporated by reference to Exhibit 10.1 to the  Company’s Registration Statement on Form 10/A, filed with the Commission  on October 24, 2001.                                                                                                                                                                                                                                           |
| 10.13       |   | Tax Matters  Agreement between the Company and Thermo Electron Corporation, is  incorporated by reference to Exhibit 10.2 to the Company’s Registration  Statement on Form 10/A, filed with the Commission on July 18, 2001.                                                                                                                                                                                                                                                            |
| 10.14       |   | Rights Agreement  between the Company and the Rights Agent, is incorporated by reference to  Exhibit 10.4 to the Company’s Registration Statement on Form 10/A,  filed with the Commission on July 18, 2001.                                                                                                                                                                                                                                                                            |
| †10.15 |   | VIASYS Healthcare  Inc. Indemnification Agreement between the Company and its directors and  officers, is incorporated by reference to Exhibit 10.5 to the Company’s  Registration Statement on Form 10/A, filed with the Commission on  July 18, 2001.                                                                                                                                                                                                                                 |
| †10.16 |   | VIASYS Healthcare Inc. Equity Incentive Plan (as Amended and  Restated on January 25, 2006), is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K  filed with the Commission on May 15, 2006.                                                                                                                                                                                                                                                 |
| †10.17 |   | VIASYS Healthcare  Inc. Deferred Compensation Plan for Directors, is incorporated by reference  to Exhibit 10.7 to the Company’s Registration Statement on  Form 10/A, filed with the Commission on October 24, 2001.                                                                                                                                                                                                                                                                   |
| 10.18       |   | Lease for  Millennium III of the Millennium Corporate Center, dated October 3,  2001, by and between the Company and Washington Street Associates II, L.P, is  incorporated by reference to Exhibit 10.15 to the Company’s Registration  Statement on Form 10/A, filed with the Commission on October 24,  2001.                                                                                                                                                                   |
| 10.19       |   | Credit Agreement,  dated as of May 3, 2005, among the Company, KeyBank National  Association, as co-lead arranger, sole book runner, swing line lender and  administrative agent, JP Morgan Chase Bank, N.A., as co-lead arranger and  syndication agent, Fifth Third Bank, as documentation agent, and certain  other bank parties therein, is incorporated by reference to Exhibit 99.1  to the Company’s Current Report on Form 8-K, filed with the  Commission on May 6, 2005. |
| *21.1       |   | List of  Subsidiaries of the Company.                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| *23.1       |   | Consent of  Independent Registered Public Accounting Firm.                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| *31.1       |   | Chief Executive Officer’s Rule 13a-14(a)/15d-14(a) Certification.                                                                                                                                                                                                                                                                                                                                                                                                                            |
| *31.2       |   | Chief Financial Officer’s Rule 13a-14(a)/15d-14(a) Certification.                                                                                                                                                                                                                                                                                                                                                                                                                            |
| *32.1       |   | 1350  Certifications                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |

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*                    Filedherewith.

†                    Indicates amanagement contract or compensatory plan or arrangement required to be filed asan exhibit to this Annual Report on Form 10-K.

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**SIGNATURES**

Pursuantto the requirements of Section 13 or 15(d) of the Securities ExchangeAct of 1934, the Registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized.

|        | VIASYS Healthcare Inc.  (Registrant) |
|--------|--------------------------------------|
|   | By:                                  |   | /s/ RANDY H. THURMAN |
|   |                                 |   | Randy H. Thurman*Chairman, President and Chief Executive Officer* |

 

**Date: March 6,2007**

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the Registrant and inthe capacities indicated, as of March 6, 2007.
|        | ** ** | ** **                          | **Signature** | ** **                                                                                         | ** ** | ** ** | **Title** | ** ** |
|--------|------------|-------------------------------------|---------------|----------------------------------------------------------------------------------------------------|------------|------------|-----------|------------|
| By:    |       | /s/ RANDY H. THURMAN                |          | Chairman, President and Chief Executive                                                            |
|   |       | Randy H. Thurman                    |          | Officer (Principal Executive Officer)                                                              |
| By:    |       | /s/ MARTIN P. GALVAN                |          | Executive Vice President, Chief Financial                                                          |
|   |       | Martin P. Galvan                    |          | Officer,  Information Technology and Director of Investor Relations (Principal  Financial Officer) |
| By:    |       | /s/ SCOTT HURLEY                    |          | Vice President and Corporate Controller                                                            |
|   |       | Scott Hurley                        |          | (Principal Accounting Officer)                                                                     |
| By:    |       | /s/ RONALD A. AHRENS                |          | Director                                                                                           |
|   |       | Ronald A. Ahrens                    |          |                                                                                               |
| By:    |       | /s/ SANDER  A. FLAUM                |          | Director                                                                                           |
|   |       | Sander A. Flaum                     |          |                                                                                               |
| By:    |       | /s/ KIRK E. GORMAN                  |          | Director                                                                                           |
|   |       | Kirk E. Gorman                      |          |                                                                                               |
| By:    |       | /s/ THOMAS W. HOFMANN               |          | Director                                                                                           |
|   |       | Thomas W. Hofmann                   |          |                                                                                               |
| By:    |       | /s/ FRED B. PARKS, PH.D.            |          | Director                                                                                           |
|   |       | Fred B. Parks, Ph.D.                |          |                                                                                               |
| By:    |       | /s/ REBECCA RIMEL                   |          | Director                                                                                           |
|   |       | Rebecca Rimel                       |          |                                                                                               |
| By:    |       | /s/ ELLIOT J. SUSSMAN, M.D., M.B.A. |          | Director                                                                                           |
|   |       | Elliot Sussman                      |          |                                                                                               |

 

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**MANAGEMENT’S REPORTON INTERNAL CONTROL OVER FINANCIAL REPORTING**

Management of VIASYS Healthcare Inc. (the “Company”)is responsible for establishing and maintaining adequate internal control overfinancial reporting. Internal control over financial reporting is a processdesigned to provide reasonable assurance regarding the reliability of financialreporting and the preparation of financial statements for external purposes inaccordance with generally accepted accounting principles. A company’s internalcontrol over financial reporting includes those policies and procedures that (1) pertainto the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2) providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles, and that receipts and expenditures of the company arebeing made only in accordance with authorizations of management and directorsof the company; and  (3) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof the company’s assets that could have a material effect on the financialstatements.

Because of its inherent limitations, internal controlover financial reporting may not prevent or detect misstatements. Also,projections of any evaluation of effectiveness to future periods are subject tothe risk that controls may become inadequate because of changes in conditions,or that the degree of compliance with the policies or procedures maydeteriorate.

Management evaluated the Company’s internal controlover financial reporting as of December 30, 2006. In making this assessment,management used the framework established in *InternalControl-Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission (“COSO”). As a result of thisassessment and based on the criteria in the COSO framework, management hasconcluded that, as of December 30, 2006, the Company’s internal controlover financial reporting was effective.

TheCompany’s independent registered public accounting firm, Ernst & YoungLLP, have audited management’s assessment of the Company’s internal controlover financial reporting. Their report on management’s assessment and theirreport on the effectiveness of the Company’s internal control over financialreporting appear on  page F-2in this Annual Report on Form 10-K.
| /s/ RANDY H. THURMAN                                                       |   |
|----------------------------------------------------------------------------|--------|
| Randy H. Thurman                                                           |
| Chairman of the  Board, President and Chief Executive Officer              |
| /s/ MARTIN P. GALVAN                                                       |   |
| Martin P. Galvan                                                           |
| Executive Vice  President, Chief Financial Officer, Information Technology |
| and Director of  Investor Relations                                        |

 

F-1

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**REPORT OFINDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMON INTERNAL CONTROL OVER FINANCIAL REPORTING**

To the Board of Directors and Stockholders of VIASYSHealthcare Inc.:

We have audited management’s assessment, included inthe accompanying Management’s Report on Internal Control Over FinancialReporting, that VIASYS Healthcare Inc. maintained effective internal controlover financial reporting as of December 30, 2006, based on criteriaestablished in *Internal Control-Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(the COSO criteria). VIASYS Healthcare Inc.’s management is responsible formaintaining effective internal control over financial reporting and for itsassessment of the effectiveness of internal control over financial reporting.Our responsibility is to express an opinion on management’s assessment and anopinion on the effectiveness of the company’s internal control over financialreporting based on our audit.

We conducted our audit in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether effective internal control over financial reporting wasmaintained in all material respects. Our audit included obtaining anunderstanding of internal control over financial reporting, evaluatingmanagement’s assessment, testing and evaluating the design and operatingeffectiveness of internal control, and performing such other procedures as weconsidered necessary in the circumstances. We believe that our audit provides areasonable basis for our opinion.

A company’s internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliabilityof financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles. A company’sinternal control over financial reporting includes those policies and proceduresthat (1) pertain to the maintenance of records that, in reasonable detail,accurately and fairly reflect the transactions and dispositions of the assetsof the company; (2) provide reasonable assurance that transactions arerecorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that receipts andexpenditures of the company are being made only in accordance withauthorizations of management and directors of the company; and (3) providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use, or disposition of the company’s assets that could have amaterial effect on the financial statements.

Because of its inherent limitations, internal controlover financial reporting may not prevent or detect misstatements. Also,projections of any evaluation of effectiveness to future periods are subject tothe risk that controls may become inadequate because of changes in conditions,or that the degree of compliance with the policies or procedures maydeteriorate.

In our opinion, management’s assessment that VIASYSHealthcare Inc. maintained effective internal control over financial reportingas of December 30, 2006, is fairly stated, in all material respects, basedon the COSO criteria. Also, in our opinion, VIASYS Healthcare Inc. maintained,in all material respects, effective internal control over financial reportingas of December 30, 2006, based on the COSO criteria.

Wealso have audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the consolidated financialstatements of VIASYS Healthcare Inc. and our report dated March 2, 2007expressed an unqualified opinion thereon.
|                             | /s/  Ernst & Young LLP |   |
|-----------------------------|---------------------------------|--------|
| Philadelphia,  Pennsylvania |
| March 2,  2007         |

 

F-2

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**REPORT OFINDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMON FINANCIAL STATEMENTS AND SCHEDULE**

To the Board of Directors and Stockholders of VIASYSHealthcare Inc.:

We have audited the accompanying consolidated balancesheets of VIASYS Healthcare Inc. as of December 30, 2006 and December 31,2005, and the related consolidated statements of operations, cash flows andchanges in stockholders’ equity for each of the three years in the period endedDecember 30, 2006. Our audits also included the financial statementschedule listed in Item 15(a). These financial statements and schedule are theresponsibility of the Company’s management. Our responsibility is to express anopinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of material misstatement.An audit includes examining, on a test basis, evidence supporting the amountsand disclosures in the financial statements. An audit also includes assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. We believethat our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred toabove present fairly, in all material respects, the consolidated financial positionof VIASYS Healthcare Inc. at December 30, 2006 and December 31, 2005,and the consolidated results of its operations and its cash flows for each ofthe three years in the period ended December 30, 2006, in conformity withU.S. generally accepted accounting principles. Also, in our opinion, therelated financial statement schedule, when considered in relation to the basicfinancial statements taken as a whole, presents fairly in all material respectsthe information set forth therein.

As discussed in Note 2 to the consolidated financialstatements, the Company changed its method of accounting for stock-basedcompensation effective January 1, 2006.

Wealso have audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the effectiveness of VIASYSHealthcare Inc.’s internal control over financial reporting as of December 30,2006, based on criteria established in *InternalControl-Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission and our report dated March 2,2007 expressed an unqualified opinion thereon.
|                             | /s/  Ernst & Young LLP |   |
|-----------------------------|---------------------------------|--------|
| Philadelphia,  Pennsylvania |
| March 2,  2007         |

 

F-3

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**VIASYS HEALTHCAREINC.CONSOLIDATED BALANCE SHEETS**
|                                                                                                                                                                                                                         | ** ** | **December 30,  2006**                                                           | ** ** | **December 31,  2005** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                                                                              | ** ** | **(In thousands, except share  and per share amounts)** | ** ** |
| **ASSETS**                                                                                                                                                                                                              |       |                                                                                  |       |                        |       |   |   |   |   |
| Current Assets:                                                                                                                                                                                                         |       |                                                                                  |       |                        |       |   |   |   |   |
| Cash and cash equivalents                                                                                                                                                                                               |       |                                                                                  | $          | 13,504                      |       |   |   | $ | 19,531 |   |   |
| Accounts receivable, less allowance for doubtful  accounts of $6,431 and $6,024 at December 30, 2006 and December 31,  2005, respectively                                                                     |       |                                                                                  | 166,061    |                        |       |   | 144,041 |   |   |
| Inventories                                                                                                                                                                                                             |       |                                                                                  | 99,753     |                        |       |   | 89,444 |   |   |
| Deferred income taxes, net                                                                                                                                                                                              |       |                                                                                  | 11,379     |                        |       |   | 13,054 |   |   |
| Prepaid expenses and other current assets                                                                                                                                                                               |       |                                                                                  | 6,894      |                        |       |   | 5,258 |   |   |
| Total Current Assets                                                                                                                                                                                                    |       |                                                                                  | 297,591    |                        |       |   | 271,328 |   |   |
| Property, Plant  and Equipment, net                                                                                                                                                                                     |       |                                                                                  | 58,868     |                        |       |   | 51,564 |   |   |
| Goodwill                                                                                                                                                                                                                |       |                                                                                  | 294,696    |                        |       |   | 261,856 |   |   |
| Intangible  Assets, net                                                                                                                                                                                                 |       |                                                                                  | 73,456     |                        |       |   | 61,237 |   |   |
| Other Assets                                                                                                                                                                                                            |       |                                                                                  | 3,299      |                        |       |   | 2,602 |   |   |
| Total Assets                                                                                                                                                                                                            |       |                                                                                  | $          | 727,910                     |       |   |   | $ | 648,587 |   |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                                           |       |                                                                                  |       |                        |       |   |   |   |   |
| Current Liabilities:                                                                                                                                                                                                    |       |                                                                                  |       |                        |       |   |   |   |   |
| Current portion of long-term obligations                                                                                                                                                                                |       |                                                                                  | $          | 30,337                      |       |   |   | $ | 30,956 |   |   |
| Accounts payable                                                                                                                                                                                                        |       |                                                                                  | 38,569     |                        |       |   | 33,014 |   |   |
| Accrued payroll and related benefits                                                                                                                                                                                    |       |                                                                                  | 23,545     |                        |       |   | 18,626 |   |   |
| Deferred revenue                                                                                                                                                                                                        |       |                                                                                  | 22,188     |                        |       |   | 13,292 |   |   |
| Accrued installation and warranty costs                                                                                                                                                                                 |       |                                                                                  | 10,385     |                        |       |   | 8,978 |   |   |
| Accrued commissions                                                                                                                                                                                                     |       |                                                                                  | 6,661      |                        |       |   | 4,684 |   |   |
| Income taxes payable                                                                                                                                                                                                    |       |                                                                                  | 11,794     |                        |       |   | 5,160 |   |   |
| Accrued restructuring costs                                                                                                                                                                                             |       |                                                                                  | 1,530      |                        |       |   | 1,227 |   |   |
| Other accrued expenses                                                                                                                                                                                                  |       |                                                                                  | 14,122     |                        |       |   | 21,062 |   |   |
| Total Current Liabilities                                                                                                                                                                                               |       |                                                                                  | 159,131    |                        |       |   | 136,999 |   |   |
| Revolving credit  facility—non-current portion                                                                                                                                                                     |       |                                                                                  | 16,225     |                        |       |   | 37,100 |   |   |
| Deferred income  taxes, net                                                                                                                                                                                             |       |                                                                                  | 17,692     |                        |       |   | 16,446 |   |   |
| Other long-term  liabilities                                                                                                                                                                                            |       |                                                                                  | 11,756     |                        |       |   | 7,926 |   |   |
| Total Liabilities                                                                                                                                                                                                       |       |                                                                                  | 204,804    |                        |       |   | 198,471 |   |   |
| Stockholders’  Equity:                                                                                                                                                                                             |       |                                                                                  |       |                        |       |   |   |   |   |
| Preferred stock, $.01 par value; 5,000,000 shares  authorized; none issued and outstanding                                                                                                               |       |                                                                                  | —     |                        |       |   | — |   |   |
| Common stock, $.01 par value; 100,000,000  shares authorized 32,898,271 and 31,958,137 shares issued; 32,873,983 and  31,952,540 shares outstanding at December 30, 2006 and December 31,  2005, respectively |       |                                                                                  | 329        |                        |       |   | 319 |   |   |
| Additional paid-in capital                                                                                                                                                                                              |       |                                                                                  | 393,295    |                        |       |   | 367,579 |   |   |
| Treasury stock, at cost; 24,288 and 5,597 shares at  December 30, 2006 and December 31, 2005                                                                                                                  |       |                                                                                  | (662       | )                           |       |   | (111 | ) |   |
| Retained earnings                                                                                                                                                                                                       |       |                                                                                  | 100,136    |                        |       |   | 71,231 |   |   |
| Accumulated other comprehensive income                                                                                                                                                                                  |       |                                                                                  | 30,008     |                        |       |   | 11,098 |   |   |
| Total Stockholders’ Equity                                                                                                                                                                                         |       |                                                                                  | 523,106    |                        |       |   | 450,116 |   |   |
| Total Liabilities  and Stockholders’ Equity                                                                                                                                                                        |       |                                                                                  | $          | 727,910                     |       |   |   | $ | 648,587 |   |   |

 

See accompanying notes to the consolidated financial statements.

F-4

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**VIASYS HEALTHCAREINC.CONSOLIDATED STATEMENTS OF OPERATIONS**
|                                                                                                           | ** ** | **Year Ended**                                                   | ** ** |
|-----------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                                                                | ** ** | **December 30,  2006**                                           | ** ** | **December 31,  2005** | ** ** | **January 1,  2005** | ** ** |
| ** **                                                                                                | ** ** | **(In thousands, except per share amounts)** | ** ** |
| Revenues:                                                                                                 |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Product                                                                                                   |       |                                                                  | $          | 542,504 |   |   |   | $ | 453,281 |   |   | $ | 345,762 |   |
| Service                                                                                                   |       |                                                                  | 67,912     |   |   |   | 56,693 |   |   | 47,440 |   |
| Total revenues                                                                                            |       |                                                                  | 610,416    |   |   |   | 509,974 |   |   | 393,202 |   |
| Cost of Revenues:                                                                                         |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Product                                                                                                   |       |                                                                  | 277,959    |   |   |   | 237,502 |   |   | 189,903 |   |
| Service                                                                                                   |       |                                                                  | 41,365     |   |   |   | 31,356 |   |   | 28,967 |   |
| Total cost of revenues                                                                                    |       |                                                                  | 319,324    |   |   |   | 268,858 |   |   | 218,870 |   |
| Gross Margin                                                                                              |       |                                                                  | 291,092    |   |   |   | 241,116 |   |   | 174,332 |   |
| Operating Expenses:                                                                                       |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Selling, general and administrative                                                                       |       |                                                                  | 194,933    |   |   |   | 164,592 |   |   | 124,847 |   |
| Research and development                                                                                  |       |                                                                  | 35,841     |   |   |   | 32,283 |   |   | 23,452 |   |
| Restructuring charges                                                                                     |       |                                                                  | 2,568      |   |   |   | 4,573 |   |   | 9,044 |   |
| Purchased in-process research and development                                                             |       |                                                                  | 5,999      |   |   |   | 34,909 |   |   | 386 |   |
| Legal settlement                                                                                          |       |                                                                  | —     |   |   |   | — |   |   | (6,000 | ) |
| Total operating expenses                                                                                  |       |                                                                  | 239,341    |   |   |   | 236,357 |   |   | 151,729 |   |
| Operating Income                                                                                          |       |                                                                  | 51,751     |   |   |   | 4,759 |   |   | 22,603 |   |
| Other Income (Expense):                                                                                   |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Interest income                                                                                           |       |                                                                  | 707        |   |   |   | 1,134 |   |   | 1,606 |   |
| Interest expense                                                                                          |       |                                                                  | (3,480     | ) |   |   | (2,584 | ) |   | (629 | ) |
| Other, net                                                                                                |       |                                                                  | (730       | ) |   |   | (72 | ) |   | (69 | ) |
| Total other (expense) income                                                                              |       |                                                                  | (3,503     | ) |   |   | (1,522 | ) |   | 908 |   |
| Income from  Continuing Operations Before Income Taxes                                                    |       |                                                                  | 48,248     |   |   |   | 3,237 |   |   | 23,511 |   |
| Provision for  Income Taxes                                                                               |       |                                                                  | (19,258    | ) |   |   | (13,542 | ) |   | (8,475 | ) |
| Income (loss)  from Continuing Operations                                                                 |       |                                                                  | 28,990     |   |   |   | (10,305 | ) |   | 15,036 |   |
| Income (loss)  from Discontinued Operations (net of income tax benefit (expense) of $0, $(296),  and $128 |       |                                                                  | —     |   |   |   | 536 |   |   | (205 | ) |
| Net Income (loss)                                                                                         |       |                                                                  | $          | 28,990 |   |   |   | $ | (9,769 | ) |   | $ | 14,831 |   |
| Earnings (Loss)  per Share:                                                                               |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Basic:                                                                                                    |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Continuing Operations                                                                                     |       |                                                                  | $          | .89 |   |   |   | $ | (.33 | ) |   | $ | .49 |   |
| Discontinued Operations                                                                                   |       |                                                                  | —     |   |   |   | .02 |   |   | (.01 | ) |
|                                                                                                      |       |                                                                  | $          | .89 |   |   |   | $ | (.31 | ) |   | $ | .48 |   |
| Diluted:                                                                                                  |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Continuing Operations                                                                                     |       |                                                                  | $          | .87 |   |   |   | $ | (.33 | ) |   | $ | .48 |   |
| Discontinued Operations                                                                                   |       |                                                                  | —     |   |   |   | .02 |   |   | (.01 | ) |
|                                                                                                      |       |                                                                  | $          | .87 |   |   |   | $ | (.31 | ) |   | $ | .47 |   |
| Weighted Average  Shares Outstanding:                                                                     |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Basic                                                                                                     |       |                                                                  | 32,420     |   |   |   | 31,430 |   |   | 30,809 |   |
| Diluted                                                                                                   |       |                                                                  | 33,298     |   |   |   | 31,430 |   |   | 31,403 |   |

 

See accompanying notes to the consolidated financial statements.

F-5

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**VIASYS HEALTHCAREINC.CONSOLIDATED STATEMENTS OF CASH FLOWS**
|                                                                                                | ** ** | **For the Year Ended** | ** ** |
|------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                     | ** ** | **December 30,  2006**           | ** ** | **December 31,  2005** | ** ** | **January 1,  2005** | ** ** |
| ** **                                                                                     | ** ** | **(In thousands)**               | ** ** |
| Cash Flows from Operating Activities:                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Net income (loss)                                                                              |       |                                  | $          | 28,990 |   |   |   | $ | (9,769 | ) |   | $ | 14,831 |   |
| Adjustments to reconcile net income (loss) to net  cash provided by operating activities:      |       |                                  |       |   |   |   |   |   |   |   |   |
| Depreciation and  amortization                                                                 |       |                                  | 26,058     |   |   |   | 22,453 |   |   | 15,575 |   |
| Gain on sale of fixed  assets and intangible assets                                            |       |                                  | (43        | ) |   |   | (7 | ) |   | (583 | ) |
| Tax benefit related to  stock option exercises                                                 |       |                                  | —     |   |   |   | 1,971 |   |   | 1,373 |   |
| Excess tax benefits  related to stock option exercises                                         |       |                                  | (1,319     | ) |   |   | — |   |   | — |   |
| Purchased in-process  research and development                                                 |       |                                  | 5,999      |   |   |   | 34,909 |   |   | 386 |   |
| Deferred income taxes                                                                          |       |                                  | (1,662     | ) |   |   | (636 | ) |   | 2,261 |   |
| Non-cash stock-based  compensation                                                             |       |                                  | 8,581      |   |   |   | 827 |   |   | 208 |   |
| Changes in operating assets and liabilities, net of  effect of acquisitions:                   |       |                                  |       |   |   |   |   |   |   |   |   |
| Accounts receivable                                                                            |       |                                  | (16,760    | ) |   |   | (27,120 | ) |   | 5,590 |   |
| Inventories                                                                                    |       |                                  | (9,259     | ) |   |   | (9,317 | ) |   | (8,170 | ) |
| Prepaid expenses and  other current assets                                                     |       |                                  | (1,189     | ) |   |   | (896 | ) |   | 1,245 |   |
| Accounts payable                                                                               |       |                                  | 3,312      |   |   |   | (2,871 | ) |   | 1,683 |   |
| Income taxes payable                                                                           |       |                                  | 6,535      |   |   |   | 6,476 |   |   | — |   |
| Other current  liabilities                                                                     |       |                                  | 10,566     |   |   |   | 7,234 |   |   | 5,127 |   |
| Other, net                                                                                     |       |                                  | (1,738     | ) |   |   | (937 | ) |   | (872 | ) |
| Net cash provided by  operating activities                                                     |       |                                  | 58,071     |   |   |   | 22,317 |   |   | 38,654 |   |
| Cash Flows from Investing Activities:                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Purchases of businesses,  net of cash acquired                                                 |       |                                  | (35,451    | ) |   |   | (186,045 | ) |   | (5,601 | ) |
| Expenditures for property,  plant and equipment                                                |       |                                  | (16,753    | ) |   |   | (19,948 | ) |   | (10,601 | ) |
| Proceeds from sale of  property, plant and equipment                                           |       |                                  | 447        |   |   |   | 1,423 |   |   | 53 |   |
| Proceeds from sale of  discontinued operation                                                  |       |                                  | —     |   |   |   | 6,421 |   |   | — |   |
| Expenditures for  intangible assets                                                            |       |                                  | (7,912     | ) |   |   | (6,128 | ) |   | (10,056 | ) |
| Proceeds from sale of  intangible assets                                                       |       |                                  | —     |   |   |   | — |   |   | 2,200 |   |
| Net cash used in  investing activities                                                         |       |                                  | (59,669    | ) |   |   | (204,277 | ) |   | (24,005 | ) |
| Cash Flows from Financing Activities:                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| (Decrease) increase in  current portion of long-term obligations                               |       |                                  | (973       | ) |   |   | 30,242 |   |   | — |   |
| (Decrease) increase in  non-current portion of revolving credit facility                       |       |                                  | (20,875    | ) |   |   | 37,100 |   |   | (739 | ) |
| Proceeds from stock  option exercises                                                          |       |                                  | 12,034     |   |   |   | 11,542 |   |   | 8,535 |   |
| Proceeds from issuance  of common stock under the employee stock purchase plan       |       |                                  | 2,039      |   |   |   | 1,491 |   |   | 1,497 |   |
| Repurchase of treasury  shares                                                                 |       |                                  | (551       | ) |   |   | — |   |   | — |   |
| Excess tax benefit from  exercise of stock options                                             |       |                                  | 1,319      |   |   |   | — |   |   | — |   |
| Other                                                                                          |       |                                  | —     |   |   |   | — |   |   | 128 |   |
| Net cash (used in)  provided by financing activities                                           |       |                                  | (7,007     | ) |   |   | 80,375 |   |   | 9,421 |   |
| Effect of Currency  Exchange Rate Changes on Cash and Cash Equivalents     |       |                                  | 2,578      |   |   |   | (1,165 | ) |   | 309 |   |
| Net (Decrease) increase  in Cash and Cash Equivalents                                          |       |                                  | (6,027     | ) |   |   | (102,750 | ) |   | 24,379 |   |
| Cash and Cash  Equivalents at Beginning of Year                                                |       |                                  | 19,531     |   |   |   | 122,281 |   |   | 97,902 |   |
| Cash and Cash  Equivalents at End of Year                                                      |       |                                  | $          | 13,504 |   |   |   | $ | 19,531 |   |   | $ | 122,281 |   |
| Supplemental Disclosures of Cash Flow Information:                                             |       |                                  |       |   |   |   |   |   |   |   |   |
| Cash paid during the year for:                                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Interest                                                                                       |       |                                  | $          | 3,021 |   |   |   | $ | 1,382 |   |   | $ | 261 |   |
| Income taxes                                                                                   |       |                                  | $          | 9,953 |   |   |   | $ | 5,482 |   |   | $ | 5,366 |   |

 

See accompanying notes to the consolidated financial statements.

F-6

----

**VIASYSHEALTHCARE INC.CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY**
|                                                                                             | ** ** | ** **              | ** ** | **Additional** | ** ** | ** **   | ** ** | ** **   | ** ** | **Accumulated  Other** | ** ** | **Total**              | ** ** |
|---------------------------------------------------------------------------------------------|------------|-------------------------|------------|----------------|------------|--------------|------------|--------------|------------|------------------------|------------|------------------------|------------|
| ** **                                                                                  | ** ** | **Common Stock**   | ** ** | **Paid-in**    | ** ** | **Treasury** | ** ** | **Retained** | ** ** | **Comprehensive**      | ** ** | **Stockholders’** | ** ** |
| ** **                                                                                  | ** ** | **Shares**              | ** ** | **Amount**     | ** ** | **Capital**  | ** ** | **Stock**    | ** ** | **Earnings**           | ** ** | **Income (Loss)** | ** ** | **Equity** | ** ** |
| ** **                                                                                  | ** ** | **(in thousands)** | ** ** |
| Balance at January 3, 2004                                                             |       |                    | 30,421     |           |       |         | $          | 303          |       |                   |       | $                      | 340,040    |   |   |   | $ | (111 | ) |   |   | $ | 66,169 |   |   |   | $ | 25,256 |   |   |   | $ | 431,657 |   |   |
| Comprehensive  income:                                                                      |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                                  |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   | 14,831 |   |   |   |   |   |   |   | 14,831 |   |   |
| Foreign currency translation adjustment                                                     |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   | 7,287 |   |   |   | 7,287 |   |   |
| Total comprehensive  income                                                                 |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 22,118 |   |   |
| Issuance of common stock in connection with follow-on  offering                             |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of common stock under theemployee stock  purchase plan and equity incentive plan   |       |                    | 680        |           |       |         | 8          |         |       |                   | 10,024     |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 10,032 |   |   |
| Tax benefit related to stock option exercises                                               |       |                    |       |           |       |         |       |         |       |                   | 1,373      |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 1,373 |   |   |
| Non-cash stock-based compensation                                            |       |                    |       |           |       |         |       |         |       |                   | 208        |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 208 |   |   |
| Other                                                                                       |       |                    |       |           |       |         |       |         |       |                   | 111        |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 111 |   |   |
| Balance at January 1, 2005                                                             |       |                    | 31,101     |           |       |         | $          | 311          |       |                   |       | $                      | 351,756    |   |   |   | $ | (111 | ) |   |   | $ | 81,000 |   |   |   | $ | 32,543 |   |   |   | $ | 465,499 |   |   |
| Comprehensive  loss:                                                                        |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss                                                                                    |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   | (9,769 | ) |   |   |   |   |   |   | (9,769 | ) |   |
| Foreign currency translation adjustment                                                     |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   | (21,445 | ) |   |   | (21,445 | ) |   |
| Total comprehensive loss                                                                    |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | (31,214 | ) |   |
| Issuance of common stock under the employee stock  purchase plan and  equity incentive plan |       |                    | 851        |           |       |         | 8          |         |       |                   | 13,025     |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 13,033 |   |   |
| Tax benefit related to stock option exercises                                               |       |                    |       |           |       |         |       |         |       |                   | 1,971      |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 1,971 |   |   |
| Non-cash stock-based compensation                                            |       |                    | 6          |           |       |         |       |         |       |                   | 827        |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 827 |   |   |
| Balance at December 31, 2005                                                           |       |                    | 31,958     |           |       |         | $          | 319          |       |                   |       | $                      | 367,579    |   |   |   | $ | (111 | ) |   |   | $ | 71,231 |   |   |   | $ | 11,098 |   |   |   | $ | 450,116 |   |   |
| Comprehensive  income:                                                                      |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                                  |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   | 28,990 |   |   |   |   |   |   |   | 28,990 |   |   |
| Foreign currency translation adjustment                                                     |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   | 18,910 |   |   |   | 18,910 |   |   |
| Total comprehensive income                                                                  |       |                    |       |           |       |         |       |         |       |                   |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 47,900 |   |   |
| Issuance of common stock under the employee stock  purchase plan and equity incentive plan  |       |                    | 885        |           |       |         | 10         |         |       |                   | 14,063     |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 14,073 |   |   |
| Tax benefit related to stock option exercises                                               |       |                    |       |           |       |         |       |         |       |                   | 3,129      |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | 3,129 |   |   |
| Non-cash stock-based compensation                                            |       |                    | 55         |           |       |         |       |         |       |                   | 8,511      |                   |       |   | (551 | ) |   |   |   |   |   |   |   |   |   |   | 7,960 |   |   |
| Other                                                                                       |       |                    |       |           |       |         |       |         |       |                   | 13         |                   |       |   |   |   |   |   | (85 | ) |   |   |   |   |   |   | (72 | ) |   |
| Balance at  December 30, 2006                                                          |       |                    | 32,898     |           |       |         | $          | 329          |       |                   |       | $                      | 393,295    |   |   |   | $ | (662 | ) |   |   | $ | 100,136 |   |   |   | $ | 30,008 |   |   |   | $ | 523,106 |   |   |

 

See accompanying notes to the consolidated financial statements.

F-7

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

**1.**   Descriptionof Business

VIASYS Healthcare Inc. (the “Company”) develops,manufactures, markets and services medical devices and products, includingrespiratory care equipment, neurodiagnostic systems, disposable products andother specialty products and materials.

The Company operated as adivision of Thermo Electron Corporation (“Thermo Electron”) until itsincorporation as a Delaware corporation in August 1995 under the nameThermo Biomedical Inc., as a wholly-owned subsidiary of ThermoElectron. In early 2000, Thermo Electron announced that, as a part of a majorreorganization, it planned to spin-off its equity interest in the Company as adividend to Thermo Electron stockholders. In January 2001, ThermoBiomedical Inc. changed its name to VIASYS Healthcare Inc.Subsequently, Thermo Electron received a favorable ruling from the InternalRevenue Service regarding the planned spin-off. On October 10, 2001,Thermo Electron’s board of directors declared a dividend of all of its equityinterest in the Company. The dividend was distributed on November 15, 2001to Thermo Electron Stockholders of record on November 7, 2001. Thedistribution was on the basis of 0.1461 shares of Company common stock for eachshare of Thermo Electron common stock outstanding.

**2.**   Summaryof Significant Accounting Policies

A summary of thesignificant accounting policies used by the Company in the preparation of itsconsolidated financial statements follows:

*Principles ofConsolidation*

The consolidated financialstatements include the accounts of the Company and its subsidiaries, all ofwhich are wholly-owned. All significant intercompany balances and transactionshave been eliminated in consolidation.

*Fiscal Year*

The Company’s fiscal yearis a 52 or 53 week period ending on the Saturday nearest to December 31.Accordingly, fiscal years  2006, 2005,and 2004 ended on December 30, 2006, December 31, 2005, and January 1,2005, respectively, and are identified herein as 2006, 2005 and 2004. Fiscalyears 2006, 2005 and 2004 each consisted of 52 weeks.

*Cash and CashEquivalents*

Cash and cash equivalentsconsist principally of demand deposits with financial institutions and taxable,short-term money market securities. The Company considers all highly liquidinvestments with maturities of three months or less at the date of purchase tobe cash equivalents. Cash and cash equivalents are stated at cost, whichapproximates market value.

*Accounts Receivableand Allowance for Doubtful Accounts*

Trade accounts receivable are recorded at the invoicedamount and do not bear interest. The Company maintains an allowance fordoubtful accounts for estimated losses resulting from the inability of some ofits customers to make required payments. The allowance for doubtful accounts isbased on the Company’s historical collections experience, historical write-offsof its receivables, current trends, credit policy and a percentage of theCompany’s accounts receivable by aging category. Account balances are writtenoff against the allowance after all means of collection have been exhausted andthe potential for 

F-8

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of SignificantAccounting Policies (Continued)

recoveryis considered remote. Charges for doubtful accounts are included in selling,general and administrative expense in the accompanying Consolidated Statementsof Operations.

*Inventories*

Inventories are stated atthe lower of cost or market. Cost is determined using the “first-in first out”method. Costs include direct materials, direct labor and applicablemanufacturing overhead, and other direct costs.

At each balance sheetdate, the Company reviews its quantities of inventories on hand and comparesthese amounts to the expected usage of each particular product or product line.The Company records a charge to cost of revenues for the amount required toreduce the carrying value of the inventories to their estimated net realizablevalue.

*Property, Plant andEquipment*

Property, plant andequipment are stated at cost less accumulated depreciation. The costs of majoradditions and improvements that extend the lives of the assets are capitalized,while maintenance and repair costs are charged to expense as incurred.Depreciation expense is computed using the straight-line method over theestimated useful lives of the respective assets, which are 30 years forbuildings, 2 to 10 years for machinery and equipment, 3 to 5 years forinformation technology and 3 to 10 years for furniture and equipment. Leaseholdimprovements are amortized over the shorter of the term of the lease or theestimated useful life of the asset. When assets are retired or otherwisedisposed of, the assets and related accumulated depreciation are removed fromthe accounts and any gain or loss is included in other, net, in theaccompanying Consolidated Statements of Operations.

*Goodwill*

The Company uses assumptions in establishing thecarrying value and fair value of its goodwill.  Goodwill represents the excess of the purchaseprice over the fair value of identifiable net assets of acquired businesses.The Company accounts for goodwill that results from acquired businesses inaccordance with Statement of Financial Accounting Standards (“SFAS”) No. 142,“Goodwill and Other Intangible Assets” (“SFAS No. 142”). Under SFAS No. 142,goodwill and intangible assets having indefinite lives are not amortized butare instead assigned to reporting units and tested for impairment annually ormore frequently if changes in circumstances or the occurrence of eventsindicate possible impairment.

Pursuant to SFAS No. 142, the Company performs anannual impairment test for goodwill. The impairment test for goodwill is atwo-step process. Step one consists of a comparison of the fair value of areporting unit with its carrying amount, including the goodwill allocated toeach reporting unit. If the carrying amount is in excess of the fair value,step two requires the comparison of the implied fair value of the reportingunit with the carrying amount of the reporting unit’s goodwill. Any excess ofthe carrying value of the reporting unit’s goodwill over the implied fair valueof the reporting unit’s goodwill will be recorded as an impairment loss.

The Company performed itsannual SFAS No. 142 goodwill impairment assessment for its reporting unitsas of November 25, 2006 and determined that there was no impairment.

F-9

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of Significant Accounting Policies (Continued)

*Intangible Assets*

The Company usesassumptions in establishing the carrying value, fair value and estimated livesof its intangible assets. The criteria used for these assumptions include management’sestimate of the asset’s continuing ability to generate positive income fromoperations and positive cash flow in future periods compared to the carryingvalue of the asset, as well as the strategic significance of any identifiableintangible asset in our business objectives. If assets are considered impaired,the impairment recognized is the amount by which the carrying value of theassets exceeds the fair value of the assets. Useful lives and relatedamortization expense are based on our estimate of the period that the assetswill generate revenues or otherwise be used by the Company. Factors that wouldinfluence the likelihood of a material change in the Company’s reported resultsinclude significant changes in the asset’s ability to generate positive cashflow, a significant decline in the economic and competitive environment onwhich the asset depends and significant changes in the Company’s strategicbusiness objectives.

Intangible assets consistof patents, capitalized software development costs, purchased technology andother intangibles and are stated at cost less accumulated amortization.Intangible assets with an indefinite life, namely certain trademarks, are notamortized. Intangible assets with a definite life are amortized using the straight-linemethod over their estimated useful lives, which range from 2 to 17 years.

*CapitalizedSoftware Development Costs*

Some of the Company’sproducts include embedded software which is essential to the products’functionality. In accordance with SFAS No. 86, “Accounting for the Costsof Computer Software to be Sold, Leased, or Otherwise Marketed,” costs incurredin the research and development of new software products and enhancements toexisting software products are expensed as incurred until technologicalfeasibility has been established. The Company capitalizes software developmentcosts when the project reaches technological feasibility and ceasescapitalization when the project is ready for release. Software developmentcosts are amortized on a straight-line basis over the estimated useful life ofthe product. Amortization begins when the product is available for generalrelease to the customer. Unamortized capitalized software development costs at December 30,2006 and December 31, 2005 were $9,098,000 and $4,031,000 respectively,and are included in intangible assets, net, in the accompanying ConsolidatedBalance Sheets.

*Impairment ofLong-Lived Assets*

In accordance with SFAS No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets,” long-livedassets, such as property, plant and equipment and intangible assets arereviewed for impairment whenever events or changes in circumstances indicatethat the carrying amount of an asset may not be recovered. Recoverability ofassets to be held and used is measured by a comparison of the carrying amountof an asset to estimated undiscounted future cash flows expected to begenerated by the asset. If the carrying amount of an asset exceeds itsestimated future cash flows, an impairment charge is recognized by the amountby which the carrying amount of the asset exceeds the fair value of the asset.Assets to be disposed of would be separately presented in the balance sheet andreported at the lower of the carrying amount or fair value less costs to sell,and are no longer depreciated.

F-10

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of Significant Accounting Policies (Continued)

*AccruedInstallation and Warranty Costs*

The Company offerswarranties on certain products for various periods of time. The Company accruesfor the estimated cost of product warranties and installation costs at the timerevenue is recognized. The Company’s product warranty liability reflectsmanagement’s best estimate of probable liability under its product warranties.Management estimates the liability based on the Company’s stated warrantypolicies and practices, the historical frequency of claims, and the cost toreplace or repair its products under warranty. Factors that affect the Company’swarranty liability include the number of units sold, the length of thewarranty, historical and anticipated rates of warranty claims and cost perclaim. The Company periodically assesses the adequacy of its recorded warrantyliabilities and adjusts the amounts as necessary.

*ComprehensiveIncome/Loss*

Comprehensive incomerepresents all changes in stockholders’ equity except those arising fromtransactions with stockholders. Total comprehensive income is presented in theaccompanying Consolidated Statements of Changes in Stockholders’ Equity. Totalaccumulated other comprehensive income is displayed as a separate component ofstockholders’ equity in the accompanying Consolidated Balance Sheets.Accumulated other comprehensive income as of December 30, 2006 and December 31,2005 consists solely of accumulated foreign currency translation adjustments.Foreign currency translation adjustments are not generally adjusted for incometaxes as they relate to indefinite investments in foreign subsidiaries.

*Revenue Recognition*

The Company derives revenues primarily from the saleof products and to a lesser extent the provision of services and rental ofequipment. The Company’s primary customers include hospitals, alternate caresites, sleep clinics, home care providers, clinical laboratories, productdistributors, private physicians, original equipment manufacturers, andgovernment agencies. In general, the Company’s arrangements with its customers,including distributors provide for the following terms:  (i) pricing is based on a price listprovided from time to time by the Company, with discounts given on a customerby-customer and sale-by-sale basis, (ii) risk of loss passes and titletransfers to the customer upon delivery of the product by the Company to acommon carrier, (iii) payment of invoices is due within 30 days after thedate of the invoice, and (iv) the Company provides the customer with alimited warranty against material defects in materials and workmanship. TheCompany may vary these terms on a case-by-case basis. The Company also hasarrangements with customers on a sale-by-sale basis pursuant to purchaseorders, order acknowledgements, and invoices. The material terms may vary fromcustomer-to-customer. Additionally, VIASYS generally recognizes revenue whenrealized, realizable or earned. Revenue is recognized when persuasive evidenceof arrangement exists and the price to the buyer is fixed or determinable, asevidenced by a contract or purchase order, when collectibility is reasonablyassured, and when title and risk of loss have transferred to the customer anddelivery has occurred or services have been rendered, or a fixed schedule ofdelivery exists. Pricing incentives are generally offered to customers in theform of discounts, rebates and, occasionally, free products. The Companyrecords revenue, net of sales discounts and rebates, if applicable, in itsincome statement. The Company records a liability for these rebates at the timeof the original sale, based on its historical experience. With regard to freegoods offered to customers, the Company classifies its costs of salesincentives as cost of sales in its income statement. No rights of return aregranted other than the provisions for return of defective goods  under the terms of the Company’s warrantyprovisions, and the Company generally has no additional post-shipmentobligations with respect to these customers.

F-11

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of Significant Accounting Policies (Continued)

Revenues for products that require installation whichis essential to functionality or is not deemed inconsequential or perfunctoryare recognized upon completion of installation. Revenues for products soldwhere installation is not essential to functionality and is deemedinconsequential or perfunctory are recognized upon transfer of title withestimated installation costs accrued.

Arrangements with multiple elements are evaluated todetermine if each element qualifies as a separate unit of accounting forpurposes of recognizing revenue. If so, each unit of accounting is measured atits fair value and recorded in the income statement when realized or realizableand earned.

Service revenues arederived from parts, service contracts, training, repairs not under warranty andresearch and development for third parties. The Company sells service contractson products when the warranty period expires. The Company recognizes revenuesfrom these service contracts ratably over the terms of the contracts, while thecost is recognized when incurred. Revenues from the sale of spare parts arerecognized upon transfer of title. Revenues from training and repairs arerecognized at the time the service is performed and the customer has acceptedthe work. The Company also records payments received for milestones achievedfor the development of an indication of nitric oxide related to aco-development agreement with INO Therapeutics, LLC as service revenues.

The Company rentsproducts, primarily in the Respiratory Care segment, to hospitals and othercustomers for periods ranging from two weeks to over a year. The Companyrecognizes rental revenues ratably over the terms of the rental contract.Rental revenue was not material in any of the periods presented and is includedin product revenue in the accompanying Consolidated Statements of Operations.

*Cost of Revenues*

Cost of revenues includescosts related to the sale of products and the cost of providing services andrenting equipment. Cost of revenues from the sale of products consistsprimarily of the cost of materials, direct labor and manufacturing overhead.Cost of revenues from service includes the cost of parts, direct labor andother costs directly related to servicing the equipment covered under a servicecontract. Cost of revenues from rentals primarily includes the depreciation ofthe rental equipment.

*Selling, Generaland Administrative Expenses*

Selling, general andadministrative expense consists primarily of salaries, commissions, incentivecompensation, benefits, stock- based compensation expense, amortization ofintangible assets and other expenses in support of these activities.

*Shipping andHandling Cost*

The Company classifiesshipping and handling costs as a component of cost of revenues.

*Research andDevelopment Expense*

Research and developmentcosts are expensed as incurred. Research and development costs consist ofdirect and indirect internal costs related to specific projects as well as feespaid to other entities which conduct certain research activities on behalf ofthe Company.

F-12

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of SignificantAccounting Policies (Continued)

*RestructuringCharges*

Costs associated withrestructuring activities initiated on or after December 29, 2002, otherthan those activities related to purchase business combinations, are accountedfor in accordance with SFAS No. 146, “Accounting for Costs Associated withExit or Disposal Activities” and SFAS No. 112, “Employers’ Accounting forPostemployment Benefits” (“SFAS No. 112”), where applicable.

*PurchasedIn-Process Research and Development (IPR&D)*

When the Company acquiresanother entity, the purchase price is allocated, as applicable, amongIPR&D, other identifiable intangible assets, net tangible assets, andgoodwill. The amount allocated to IPR&D represents an estimate of the fairvalue of purchased in-process technology that, as of the date of acquisition,has not reached technological feasibility and has no alternative future use.The amount of the purchase price allocated to IPR&D is determined byestimating the future cash flows of each project and discounting the net cashflows back to their present values. The discount rate used is determined at thetime of acquisition, in accordance with accepted valuation methods, andincludes consideration of the assessed risk of the project not being developedto a stage of commercial feasibility.

*Foreign Currency*

The financial statementsof the Company’s international subsidiaries are maintained in their localcurrency and are translated into United States (“U.S.”) dollars in accordancewith SFAS No. 52, “Foreign Currency Translation.” All assets andliabilities of the Company’s international subsidiaries are translated at theexchange rate in effect on the balance sheet date. The resulting translationadjustments are recorded in stockholders’ equity as a separate component ofaccumulated other comprehensive income until such time as the subsidiary issold or substantially or completely liquidated. Revenue and expense items aretranslated at weighted average exchange rates for the year. Transaction gains(losses) resulting from transactions denominated in foreign currencies and thetranslation of intercompany balances, other than intercompany debt deemed to beof a long-term nature, are included in other, net, in the accompanyingConsolidated Statements of Operations and totaled $(801,000), ($80,000), and($697,000),  in 2006, 2005 and 2004,respectively.

*Income Taxes*

The Company utilizes theasset and liability method of accounting for income taxes as prescribed by SFASNo. 109, “Accounting for IncomeTaxes.” Under this method, deferred tax assets and liabilities arerecognized for the expected future tax consequences attributable to differencesbetween the financial statement carrying amounts of existing assets andliabilities and their respective tax bases. Deferred tax assets and liabilitiesare measured using enacted tax rates expected to apply to taxable income in theyears in which those temporary differences are expected to be recovered orsettled. The effect on deferred tax assets and liabilities of a change in taxrates is recognized in income in the period that includes the enactment date.The Company provides a reserve against its deferred tax assets when, in theopinion of management, it is more likely than not that such assets will not berealized.

*Earnings (Loss) perShare*

Basicand diluted earnings (loss) per share have been calculated in accordance with SFASNo. 128, “Earnings Per Share.” Basic earnings (loss) per share (“Basic EPS”) is computed based upon theweighted average number of common shares outstanding for the period. Dilutedearnings (loss) per share (“Diluted 

F-13

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of Significant Accounting Policies (Continued)

EPS”) is computed basedupon the weighted average number of common shares outstanding adjusted toinclude the potentially dilutive effect of outstanding stock options andawards.

The following table sets forth the reconciliation ofthe weighted average number of common shares used to compute Basic EPS to thoseused to compute Diluted EPS for 2006, 2005 and 2004:

| ** **                                                       | ** ** | **2006**                | ** ** | **2005** | ** ** | **2004** | ** ** |
|------------------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                                       | ** ** | **(in thousands)** | ** ** |
| Weighted average  number of common shares outstanding—Basic |       | 32,420                  |       | 31,430   |       | 30,809   |       |
| Dilutive effect  of outstanding stock options and awards         |       | 878                     |       | —   |       | 594      |       |
| Weighted average number  of common shares outstanding - Diluted  |       | 33,298                  |       | 31,430   |       | 31,403   |       |

 

Options to purchase357,400 and 799,000 shares of the Company’s common stock were excluded from thecomputation of diluted weighted average shares outstanding for 2006 and 2004,respectively because their exercise price exceeded the average market price ofthe Company’s common stock during the period and their effect would have beenanti-dilutive. These options could potentially dilute earnings per share in thefuture. Since the Company incurred a loss for the year ended December 31,2005, all of the outstanding stock options were excluded from the calculationof diluted weighted average shares outstanding as their effect would have beenanti-dilutive.

*Stock-BasedCompensation*

Stock options aregranted to key employees and non-employee directors. Upon vesting, an optionbecomes exercisable, meaning, an employee or director can purchase a share ofthe Company’s common stock at a price that is equal to the closing share priceon the day of grant. Restricted stock units (“RSU”) are also granted to keyemployees. The restrictions on the stock underlying the RSU’s lapse over thevesting period.

Effective January 1, 2006, the Company adoptedFASB Statement No. 123R, *Share-Based Payment*,or “SFAS 123R.”  SFAS 123R requires thecost of all forms of equity-based compensation be recognized in a company’sincome statement and that such cost be measured at the fair value of the equityaward. The Company recognizes stock compensation expense over the requisiteservice period of the individual grants, which generally equals the vestingperiod. The Company uses the straight-line method to account for compensationcost for awards with graded vesting. Prior to January 1, 2006, the Companyaccounted for stock options under APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, “APB 25”, and related interpretationsin accounting for stock compensation.

The Company electedthe modified prospective method in adopting SFAS 123R. Under this method, theprovisions of SFAS 123R apply to all awards granted or modified after the dateof adoption. In addition, the unrecognized expense of awards not yet vested atthe date of adoption is recognized in net income in the periods after the dateof adoption using the same valuation method (Black-Scholes) and assumptionsdetermined under the original provisions of SFAS 123, *Accountingfor Stock-Based Compensation*, as disclosed in our previous filings.

The option valuation model requires a number ofassumptions, including future stock price volatility and expected option life(the amount of time until the options are exercised or expire). Expected optionlife is based on actual exercise activity from previous option grants.Volatility is calculated based upon stock price movements over a period oftime. Additionally, our share price on the day of grant influences the optionvalue. Changes in the option value after the day of grant are not reflected inexpense.

F-14

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summaryof Significant Accounting Policies (Continued)

Thefair value of each option grant was estimated on the date of grant using theBlack- Scholes option-pricing model with the following weighted averageassumptions:

| ** **                       | ** ** | **For the Year  Ended  December 30, 2006** | ** ** |
|----------------------------------|------------|----------------------------------------------------------------|------------|
| Dividend Yield                   |       |                                                           | —     |   |   |
| Expected  Volatility             |       |                                                           | 35.5       | % |   |
| Average Risk Free  Interest Rate |       |                                                           | 4.7        | % |   |
| Expected Life (in years)         |       |                                                           | 5 years    |   |   |

 

*Fair Value ofFinancial Instruments*

The Company’s financialinstruments consist mainly of cash and cash equivalents, accounts receivable,other current assets, accounts payable, deferred revenue and other currentliabilities. The carrying value of these financial instruments approximatestheir fair value because of their short-term nature. The fair value of financialinstruments is defined as the amount at which the instrument could be exchangedin a current transaction between willing parties.

*Concentrations ofCredit Risk*

Financial instruments thatpotentially expose the Company to concentrations of credit risk consistprincipally of cash and cash equivalents, which are held at major financialinstitutions, and accounts receivable. Cash and cash equivalents held withfinancial institutions may exceed the amount of insurance provided by theFederal Deposit Insurance Corporation on such deposits. The Company’s policy isto place its cash and cash equivalents with high quality financial institutionsin order to limit its credit exposure. The Company has not experienced anylosses on its deposits of cash and cash equivalents. Concentrations of creditrisk with respect to accounts receivable are limited due to the large number ofcustomers comprising the Company’s customer base. The Company performs ongoingcredit evaluations of its customers and generally does not require collateralor other deposits of security from its customers. The Company maintains anallowance for doubtful accounts based upon the expected collectibility of allaccounts receivable. No single customer represented more than 10% of theCompany’s revenues or accounts receivable balance for any periods presented.

*Use of Estimates*

The preparation of theconsolidated financial statements in conformity with U.S. generally acceptedaccounting principles requires management to make estimates and assumptions thataffect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the consolidated financialstatements and the reported amounts of revenues and expenses during thereporting period. Actual results could differ from those estimates.

*Reclassifications*

Certain reclassificationshave been made to the prior year financial statements to conform to the currentyear presentation.

F-15

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**2.**   Summary of Significant Accounting Policies (Continued)

*Recent AccountingPronouncements*

In July 2006, theFinancial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48,“Accounting for Uncertainty in Income Taxes, an interpretation of FASBStatement No. 109, Accounting for Income Taxes” (“FIN 48”). FIN 48provides guidance on how a company should recognize, measure and disclose inits financial statements uncertain income tax positions. Under the newprovisions, a company should not recognize a tax benefit for an uncertainincome tax position unless it is “more likely than not” that the position issustainable. FIN 48 is effective for fiscal years beginning after December 15,2006, requiring implementation in the first quarter of 2007. The Company isstill evaluating the impact of FIN 48 on its consolidated financial statements.

**3.   Acquisitions**

*Tiara MedicalSystems, Inc.*

Effective July 11, 2006, the Company acquired allof the outstanding capital stock of Tiara Medical Systems Inc. (“Tiara”) for acash purchase price of $20,942,000, including all expenditures associated withthe acquisition and subject to certain working capital adjustments. Tiara isfocused on the sleep therapeutic market and designs, manufactures, markets, andsells Continuous Positive Airway Pressure (“CPAP”) masks, headgear, circuits,and filters. Tiara also offers customers a comprehensive product line ofspecialty filters and accessories for oxygen concentrators and mechanicalventilators. Tiara has been assigned to the Company’s Respiratory Care segment.

The acquisition has been included within ourconsolidated financial statements from July 11, 2006. The Company believesthe acquisition will result in an expanded presence in the patient interfacedevice segment of the sleep therapy market, resulting in a purchase priceexceeding the fair value of identifiable net assets. The excess purchase priceof $19,038,000 has been recorded as goodwill. The cost of the acquisition wasallocated to the assets and liabilities assumed based on estimates of theirrespective fair values at the date of the acquisition. Management is responsible for the valuation of net assets acquired,including in-process research and development and considered a number offactors, including valuations and appraisals, when estimating the fair marketvalues and estimated useful lives of the acquired assets and liabilities.The purchase price allocation is not finalized as we have not yet determinedfair market values for certain net assets acquired which may affect the closingbalance sheet. We do not believe that any adjustments to the fair values willmaterially modify the preliminary purchase price allocation.

F-16

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

The Company haspreliminarily allocated the purchase price for the acquisition as follows (inthousands:)

| Cash and cash equivalents           |   | $      | 752    |   |
|-------------------------------------|--------|--------|--------|--------|
| Accounts receivable                 |   | 1,403  |   |
| Inventory                           |   | 1,132  |   |
| Property, plant and equipment       |   | 281    |   |
| Other current assets                |   | 44     |   |
| Goodwill                            |   | 19,038 |   |
| Intangible assets                   |   |   |   |
| Patents                             |   | 92     |   |
| Non- compete agreements             |   | 600    |   |
| In-Process research and development |   | 1,100  |   |
| Customer relationships              |   | 1,900  |   |
| Developed technology                |   | 3,500  |   |
| Non-current deferred tax liability  |   | (2,280 | )      |
| Other Liabilities assumed           |   | (6,620 | )      |
| Net Assets  Acquired                |   | $      | 20,942 |   |

 

The intangible assets arebeing amortized on a straight-line basis over lives ranging from 5-8years. The amount allocated to purchased in-process research and developmentwas expensed on the date of acquisition because the products under developmenthad not reached technological feasibility and had no future alternative use. SeeNote 19 for further discussion of purchased in-process research anddevelopment.

*BioBeat Medical*

On August 31, 2006, the Company acquiredsubstantially all of the assets of BioBeat Medical Ltd. (“BioBeat”), a companythat develops, manufactures, markets, and sells digital transcranial dopplerproducts designed for human medical applications, for a cash purchase price of$4,523,000, including expenditures associated with the acquisition and subjectto certain working capital adjustments. BioBeat has been assigned to theCompany’s NeuroCare segment. In addition, the Company may be required to payadditional consideration of $335,000 upon the achievement of certain criteria.Any such payment will be accounted for as additional purchase price.

The acquisition has been included within ourconsolidated financial statements from August 31, 2006. The Companybelieves the acquisition will provide a new platform for its TranscranialDoppler based product line, resulting in a purchase price exceeding the fairvalue of identifiable net assets. The excess purchase price of $2,013,000 hasbeen recorded as goodwill. The cost of the acquisition was allocated to theassets and liabilities assumed based on estimates of their respective fairvalues at the date of the acquisition. Managementis responsible for the valuation of net assets acquired, including in-processresearch and development and considered a number of factors, includingvaluations and appraisals, when estimating the fair market values and estimateduseful lives of the acquired assets and liabilities. The purchase priceallocation is not finalized, as we have not yet determined fair market valuesfor certain net assets acquired, which may affect the closing balance sheet. Wedo not believe that any adjustments to the fair values will materially modifythe preliminary purchase price allocation.

F-17

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

The Company haspreliminarily allocated the purchase price for the acquisition as follows (inthousands):

| Accounts receivable                 |   | 24     |   |
|-------------------------------------|--------|--------|--------|
| Inventory                           |   | 49     |   |
| Goodwill                            |   | 2,013  |   |
| Intangible assets                   |   |   |   |
| Developed technology                |   | 670    |   |
| Non- compete agreements             |   | 10     |   |
| In-Process research and development |   | 1,849  |   |
| Liabilities assumed                 |   | (92    | )      |
| Net Assets  Acquired                |   | $      | 4,523  |   |
|                                     |        |        |        |  |

 

The intangible assets arebeing amortized on a straight-line basis over lives ranging from 4-5years. The amount allocated to purchased in-process research and developmentwas expensed on the date of acquisition because the products under developmenthad not reached technological feasibility and had no future alternative use. SeeNote 19 for further discussion of purchased in-process research anddevelopment.

*HoffmanLaboratories*

On November 13, 2006, the Company acquired substantiallyall of the assets of Hoffman Laboratories LLC (“Hoffman”), a company focused inthe sleep therapeutic market that manufactures and distributes ContinuousPositive Airway Pressure devices, for a cash purchase price of $10,363,000including expenditures associated with the acquisition and subject to certainworking capital adjustments. In addition, the Company may also be required topay up to $15,000,000 in additional future payments based on  the achievement of various performancemilestones. Any such payment will be recorded as additional purchase price.Hoffman has been assigned to the Company’s Respiratory Care segment.

The acquisition has been included within ourconsolidated financial statements from November 13, 2006. The Companybelieves the acquisition will broaden its position in the sleep therapeuticmarket with the introduction of an innovative miniature CPAP device. The costof the acquisition was allocated to the assets and liabilities assumed based onestimates of their respective fair values at the date of the acquisition. Management is responsible for the valuation of netassets acquired, including in-process research and development and considered anumber of factors, including valuations and appraisals, when estimating thefair market values and estimated useful lives of the acquired assets andliabilities. The purchase price allocation is not finalized, as we havenot yet determined fair market values for certain net assets acquired, whichmay affect the closing balance sheet. We do not believe that any adjustments tothe fair values will materially modify the preliminary purchase priceallocation.

F-18

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

The Company haspreliminarily allocated the purchase price for the acquisition as follows (inthousands):

| Inventory                           |   | 260    |   |
|-------------------------------------|--------|--------|--------|
| Property, plant and equipment       |   | 376    |   |
| Intangible assets                   |   |   |   |
| Patents and Know-How                |   | 7,100  |   |
| In-Process research and development |   | 3,050  |   |
| Liabilities assumed                 |   | (423   | )      |
| Net Assets  Acquired                |   | $      | 10,363 |   |
|                                     |        |        |        |  |

 

The patents are beingamortized on a straight-line basis over a ten year life. The amount allocatedto purchased in-process research and development was expensed on the date ofacquisition because the products under development had not reachedtechnological feasibility and had no future alternative use. See Note 19 forfurther discussion of purchased in-process research and development.

*Navion BiomedicalCorporation*

Effective January 18,2005, the Company acquired substantially all of the assets of Navion BiomedicalCorporation, a business that develops, manufactures and markets a device usedto facilitate the placement of peripherally inserted central catheters andcentral venous catheters, for a cash purchase price of $3,571,000 (includingexpenditures associated with the acquisition), of which $178,000, has been paidout of escrow in the first quarter of 2006. In connection with thisacquisition, the Company recorded $601,000 of goodwill, which was assigned tothe Company’s MedSystems segment, and $2,900,000 of intangible assets,consisting of purchased technology. The Company believed the acquisition wouldexpand its strategic positioning in the access devices market  and result in commercial synergies with itscurrent product lines, resulting in a purchase price exceeding the fair valueof identifiable net assets, which was recorded as goodwill. Management is responsible for the valuation of netassets acquired and considered a number of factors, including valuations andappraisals, when estimating the fair market values and estimated useful livesof the acquired assets and liabilities. Other tangible net assets of$70,000 were also acquired.

*Oxford Medical*

Effective March 1,2005, the Company acquired the medical division of Oxford Instruments plc (“OxfordMedical”) for a cash purchase price of approximately $46,019,000, includingexpenditures associated with the acquisition and subject to certain workingcapital adjustments. The Company believed the acquisition secured itsleadership position in the needles’ market and provided access into new marketsegments that would establish it as the leader in electromyography (“EMG’),resulting in a purchase price exceeding the fair value of identifiable netassets. The excess purchase price of $14,063,000 has been recorded as goodwill.The cost of the acquisition was allocated to the assets and liabilities assumedbased on estimates of their respective fair values at the date of theacquisition. Management is responsible forthe valuation of net assets acquired, and considered a number of factors,including valuations and appraisals, when estimating the fair market values andestimated useful lives of the acquired assets and liabilities. OxfordMedical is based in the United Kingdom and develops, designs, manufactures andmarkets medical diagnostic and monitoring products as well as relateddisposables and accessories. Neurophysiology comprises the largest of OxfordMedical’s several business components. Neurophysiology’s principal 

F-19

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

product lines include EMGequipment, EMG needles and neurological disposables. The business alsocontained obstetrics, antenatal and fetal monitors and ambulatory cardiologyproducts, which were sold in the second quarter of 2005 for $6,421,000 asdescribed in Note 15. Oxford Medical has been assigned to the Company’sNeuroCare segment.

TheCompany has allocated the purchase price for the acquisition as follows (inthousands):

| Cash and cash equivalents         |   | $       | 876    |   |
|-----------------------------------|--------|---------|--------|--------|
| Accounts receivable               |   | 16,462  |   |
| Inventory                         |   | 9,435   |   |
| Property, plant and equipment     |   | 3,983   |   |
| Other current assets              |   | 2,169   |   |
| Net assets available for sale     |   | 6,421   |   |
| Goodwill                          |   | 14,063  |   |
| Intangible assets                 |   | 10,200  |   |
| Non-current deferred income taxes |   | (2,478  | )      |
| Liabilities assumed               |   | (15,112 | )      |
| Net Assets  Acquired              |   | $       | 46,019 |   |

 

The intangible assets, consisting of trademarks,customer relationships, patents and software technology, are being amortized ona straight-line basis over lives ranging from 5 to 7 years, except thetrademarks, which were deemed to have an indefinite life and are, therefore,not subject to amortization.

In connection with the acquisition of the OxfordMedical businesses, the Company has initiated exit plans for acquiredactivities that are redundant with the Company’s existing operations. The planincludes the closure of five facilities and the elimination of 28 positions inthe areas of sales, finance, service and management. In connection with theplan, the Company established reserves of $2,259,000 as part of the purchaseprice allocation. As of December 30, 2006, *27*positions had been eliminated and four facilities have been closed. Theremaining reserves of $520,000 are included in other accrued expenses in theaccompanying Consolidated Balance Sheets.

A summary of the reserveactivity related to the Oxford Medical acquisition-related restructuring planas of December 30, 2006 is as follows (in thousands):

| ** **                            | ** ** | **Initial Reserves  Recorded in  Purchase  Accounting** | ** ** | **Payments  Made Through  December 30,  2006** | ** ** | **Balance as of  December 30,  2006** | ** ** |
|---------------------------------------|------------|-------------------------------------------------------------------|------------|----------------------------------------------------------|------------|------------------------------------------------------|------------|
| Severance and  employee related costs |       | $                                                                 | 1,580      |                                                     | $          | (1,461                                               | )          | $ | 119 |   |
| Lease  cancellation fees              |       | 679                                                               |       | (278                                                     | )          | 401                                                  |       |
|                                  |       | $                                                                 | 2,259      |                                                     | $          | (1,739                                               | )          | $ | 520 |   |

 

*Micro MedicalLimited*

On March 16,2005, the Company acquired all of the outstanding capital stock of MicroMedical Limited (“Micro Medical”), a company based in the United Kingdom thatdevelops, manufactures and markets a range of respiratory diagnostic products,for an aggregate purchase price of approximately $39,916,000, includingexpenditures associated with the acquisition and subject to certain workingcapital 

F-20

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

adjustments. In addition,the Company may also be required to pay additional consideration upon theachievement of certain criteria. The Company believed the acquisition broadenedits respiratory diagnostic product offerings with a physicians’ office basedproduct line, resulting in a purchase price exceeding the fair value ofidentifiable net assets. The excess purchase price of $23,379,000 has beenrecorded as goodwill. The cost of the acquisition was allocated to the assetsand liabilities assumed based on estimates of their respective fair values atthe date of the acquisition. Management is responsible for the valuation of netassets acquired, including in-process research and development and considered anumber of factors, including valuations and appraisals, when estimating thefair market values and estimated useful lives of the acquired assets andliabilities. Micro Medical has been assigned to the Company’s Respiratory Caresegment.

The company has allocatedthe purchase price for the acquisition as follows (in thousands):

| Cash and cash  equivalents                      |   | $      | 2,589  |   |
|-------------------------------------------------|--------|--------|--------|--------|
| Accounts  receivable                            |   | 4,590  |   |
| Inventory                                       |   | 1,272  |   |
| Property, plant  and equipment                  |   | 9,130  |   |
| Other assets                                    |   | 272    |   |
| Goodwill                                        |   | 23,379 |   |
| Intangible  assets:                             |   |   |   |
| In-process research and development             |   | 3,409  |   |
| Developed technology                            |   | 4,800  |   |
| Trade name                                      |   | 1,900  |   |
| Other                                           |   | 400    |   |
| Accounts payable  and other current liabilities |   | (5,770 | )      |
| Non-current  deferred income taxes              |   | (2,288 | )      |
| Long-term  liabilities                          |   | (3,767 | )      |
| Net Assets  Acquired                            |   | $      | 39,916 |   |

 

The developed technologyis being amortized on a straight-line basis over 10 years; other intangibleassets are being amortized on a straight-line basis over 3 years. The tradename was deemed to have an indefinite life and is therefore not subject toamortization. The amount allocated to purchased in-process research anddevelopment was expensed in the second quarter of 2005 because the productsunder development had not reached technological feasibility and had no futurealternative use. See Note 19 for furtherdiscussion of purchased in-process research and development.

*Pulmonetic Systems, Inc.*

On June 20,2005, the Company acquired all of the outstanding capital stock of PulmoneticSystems, Inc. (“Pulmonetics”), a company based in Minneapolis, Minnesota,that develops, designs, manufactures and markets portable mechanicalventilators for home health care, for a cash purchase price of approximately$99,807,000, including expenditures associated with the acquisition and subjectto certain working capital adjustments. Approximately $20,000,000 of thepurchase price is being held in escrow pending the outcome of certain mattersoutlined in the purchase agreement, for which the Company is indemnified. TheCompany believed the acquisition provided access to the homecare market, withthe introduction of a portable ventilator, resulting in a purchase priceexceeding the fair value of identifiable net assets. The excess purchase priceof $36,556,000 has been recorded as goodwill. The cost of the 

F-21

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

acquisition was allocated tothe assets and liabilities assumed based on estimates of their respective fairvalues at the date of the acquisition. Management is responsible for thevaluation of net assets acquired, including in-process research and developmentand considered a number of factors, including valuations and appraisals, whenestimating the fair market values and estimated useful lives of the acquiredassets and liabilities. The purchase price was financed with existing cash andborrowings under the Company’s revolving credit facility and was subject topotential post-closing adjustments based upon, among other things, the netasset value of Pulmonetics as of the closing date. Pulmonetics has beenassigned to the Company’s Respiratory Care segment.

TheCompany has allocated the purchase price for the acquisition as follows (inthousands):

| Cash and cash  equivalents           |   | $      | 10,123 |   |
|--------------------------------------|--------|--------|--------|--------|
| Accounts  receivable                 |   | 7,148  |   |
| Inventory                            |   | 4,148  |   |
| Property, plant  and equipment       |   | 1,673  |   |
| Other assets                         |   | 2,613  |   |
| Goodwill                             |   | 36,556 |   |
| Intangible  assets:                  |   |   |   |
| In-process  research and development |   | 31,500 |   |
| Developed  technology                |   | 13,100 |   |
| Distribution  Network                |   | 6,200  |   |
| Trade name                           |   | 1,800  |   |
| Other                                |   | 1,744  |   |
| Non-current  deferred income taxes   |   | (8,063 | )      |
| Liabilities  assumed                 |   | (8,735 | )      |
| Net Assets Acquired                  |   | $      | 99,807 |   |

 

Theintangible assets are being amortized on a straight-line basis over livesranging from 5-10 years. The amount allocated to purchased in-processresearch and development was expensed on the date of acquisition because theproducts under development had not reached technological feasibility and had nofuture alternative use. See Note 19 for further discussion of purchasedin-process research and development.

F-22

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions(Continued)

*Intermed PrecisionLimited*

OnNovember 3, 2005, the Company acquired all of the outstanding capitalstock of Intermed Precision Limited (“Intermed”) for a cash purchase price of$10,717,000, including expenditures associated with the acquisition. Intermedis based in Ireland and develops and supplies orthopedic instruments, implants,and micro-machined components used in minimally invasive surgicaldevices. The business also provides a comprehensive range of servicesincluding design, prototyping, regulatory assistance, precision machining ofmetals and plastics, surface treatments, and assembly. The Company believed theacquisition provided access to new markets by expanding its Original EquipmentManufacturing (“OEM”) product line into overseas markets, resulting in apurchase price exceeding the fair value of identifiable net assets. The excesspurchase price of $8,154,000 has been recorded as goodwill. The cost of theacquisition was allocated to the assets and liabilities assumed based onestimates of their respective fair values at the date of the acquisition.Management is responsible for the valuation of net assets acquired, includingin-process research and development and considered a number of factors,including valuations and appraisals, when estimating the fair market values andestimated useful lives of the acquired assets and liabilities. Intermed hasbeen assigned to the Company’s Orthopedics segment.

The Company has allocatedthe purchase price for the acquisition as follows (in thousands):

| Cash and cash  equivalents                      |   | $      | 103    |   |
|-------------------------------------------------|--------|--------|--------|--------|
| Accounts  receivable                            |   | 945    |   |
| Inventory                                       |   | 225    |   |
| Property, plant  and equipment                  |   | 1,497  |   |
| Prepaid expenses                                |   | 28     |   |
| Other current  assets                           |   | 272    |   |
| Goodwill                                        |   | 8,154  |   |
| Customer  relationships                         |   | 1,300  |   |
| Accounts payable  and other current liabilities |   | (1,074 | )      |
| Non-current  deferred income taxes              |   | (157   | )      |
| Long term  liabilities                          |   | (576   | )      |
| Net Assets  Acquired                            |   | $      | 10,717 |   |

 

The intangible asset,which consists of customer relationships, is being amortized on a straight-linebasis over 7 years.

*Taugagreining*

On July 28, 2004, theCompany acquired substantially all of the assets of Taugagreining, hf. (“Taugagreining”),an Icelandic company that develops and markets electroencephalography (“EEG”)technology for the diagnosis and monitoring of neurological function, for acash purchase price of $5,601,000, including expenditures associated with theacquisition. In addition, in 2006, the Company made a contingent payment toformer shareholders of Taugagreining for $325,000 based on the achievement ofthe milestone outlined in the purchase agreement, bringing the total purchaseprice to $5,926,000.

*Pro forma financialinformation*

The results of these acquisitions are included in theaccompanying Consolidated Financial Statements since their respective dates ofacquisition.

F-23

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**3.**   Acquisitions (Continued)

The following unauditedpro forma financial information represents the Company’s consolidated resultsfrom continuing operations for the periods indicated as if the acquisitions ofTiara Medical, Biobeat, Hoffman Laboratories, Oxford Medical, Micro Medical,Pulmonetics, and Intermed had occurred on January 2, 2005. Unaudited proforma information is presented for illustrative purposes only and is notnecessarily indicative of the results of operations that would have actuallybeen reported had the acquisitions occurred at the beginning of the periodspresented, nor is it necessarily indicative of future results of operations.These pro forma results are based upon the respective historical financialstatements of the respective companies, and do not incorporate, nor do theyassume, any benefits from cost savings or synergies of operations of thecombined Company. Unaudited pro forma results of operations are presented aftergiving effect to certain adjustments, including adjustments to reflectincreased intangible asset amortization, decreased interest income on the cashused to finance the acquisitions, increased interest expense on the debtincurred to finance certain acquisitions and increased income taxes at a rateconsistent with the Company’s effective tax rate in each year. The pro formaresults exclude the write-off of purchased in-process research and developmentexpenses related to the Tiara Medical, Biobeat and Hoffman Laboratoriesacquisitions in 2006 and the Micro Medical and Pulmonetics acquisitions in2005.

| ** **         | ** ** | **For the Year Ended** | ** ** |
|--------------------|------------|---------------------------------------|------------|
| ** **         | ** ** | **December 30,  2006**           | ** ** | **December  31,  2005** | ** ** |
| ** **         | ** ** | **(In thousands)**               | ** ** |
| Revenues           |       |                                  | $          | 616,793 |   |   |   | $ | 556,016 |   |   |
| Net income         |       |                                  | $          | 33,760 |   |   |   | $ | 26,573 |   |   |
| Earnings per share |       |                                  |       |   |   |   |   |   |   |
| Basic              |       |                                  | $          | 1.04 |   |   |   | $ | 0.85 |   |   |
| Diluted            |       |                                  | $          | 1.01 |   |   |   | $ | 0.82 |   |   |

 

**4.   Inventories**

The components of inventories are as follows:

| ** **      | ** ** | **December 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|-----------------|------------|-----------------------------|------------|-----------------------------|------------|
| ** **      | ** ** | **(In thousands)**     | ** ** |
| Raw materials   |       |                        | $          | 49,932                      |       |   |   | $ | 51,811 |   |   |
| Work-in-process |       |                        | 11,023     |                        |       |   | 10,743 |   |   |
| Finished goods  |       |                        | 38,798     |                        |       |   | 26,890 |   |   |
|            |       |                        | $          | 99,753                      |       |   |   | $ | 89,444 |   |   |

 

F-24

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**5.**   Property, Plantand Equipment

**Property,plant and equipment consists of the following:**

| ** **                | ** ** | **December 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|---------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| ** **                | ** ** | **(In thousands)**     | ** ** |
| Land                      |       |                        | $          | 1,840                       |       |   |   | $ | 1,743 |   |   |
| Buildings                 |       |                        | 20,449     |                        |       |   | 13,758 |   |   |
| Machinery and  equipment  |       |                        | 79,907     |                        |       |   | 65,291 |   |   |
| Information  technology   |       |                        | 6,045      |                        |       |   | 4,367 |   |   |
| Furniture and  fixtures   |       |                        | 8,529      |                        |       |   | 12,464 |   |   |
| Leasehold  improvements   |       |                        | 15,051     |                        |       |   | 23,146 |   |   |
| Construction-in-progress  |       |                        | 8,065      |                        |       |   | 3,277 |   |   |
|                      |       |                        | 139,886    |                        |       |   | 124,046 |   |   |
| Accumulated  depreciation |       |                        | (81,018    | )                           |       |   | (72,482 | ) |   |
|                      |       |                        | $          | 58,868                      |       |   |   | $ | 51,564 |   |   |

 

Depreciation expenseassociated with property, plant and equipment was $14,962,000, $9,062,000, and$6,871,00 in 2006, 2005 and 2004, respectively.

**6.**   Goodwill

Thecarrying amount of goodwill, by business segment, for the years ended December 30,2006 and December 31, 2005 and the changes in those balances are asfollows:
|                                       | ** ** | **Respiratory  Care Segment** | ** ** | **NeuroCare  Segment** | ** ** | **MedSystems  Segment** | ** ** | **Orthopedics  Segment** | ** ** | **Total** | ** ** |
|---------------------------------------|------------|------------------------------------|------------|------------------------|------------|-------------------------|------------|--------------------------|------------|-----------|------------|
| ** **                            | ** ** | **(in thousands)**            | ** ** |
| Balance at  January 1, 2005      |       |                               | $          | 126,877                |       |                    |       | $                        | 58,208     |      |       |   | $ | 5,149 |   |   |   | $ | — |   |   | $ | 190,234 |   |
| Goodwill as a result of acquisitions  |       |                               | 61,591     |                   |       |                    | 12,975     |                     |       |      | 601        |   |   |   | 7,919 |   |   | 83,086 |   |
| Foreign currency translation          |       |                               | (9,770     | )                      |       |                    | (1,588     | )                        |       |      | —     |   |   |   | (106 | ) |   | (11,464 | ) |
| Balance at December 31, 2005     |       |                               | $          | 178,698                |       |                    |       | $                        | 69,595     |      |       |   | $ | 5,750 |   |   |   | $ | 7,813 |   |   | $ | 261,856 |   |
| Goodwill as a  result of acquisitions |       |                               | 19,038     |                   |       |                    | 2,013      |                     |       |      | —     |   |   |   | — |   |   | 21,051 |   |
| Purchase accounting  adjustments      |       |                               | (1,779     | )                      |       |                    | 1,149      |                     |       |      | —     |   |   |   | 243 |   |   | (387 | ) |
| Foreign currency translation          |       |                               | 9,384      |                   |       |                    | 1,936      |                     |       |      | —     |   |   |   | 856 |   |   | 12,176 |   |
| Balance at December 30, 2006     |       |                               | $          | 205,341                |       |                    |       | $                        | 74,693     |      |       |   | $ | 5,750 |   |   |   | $ | 8,912 |   |   | $ | 294,696 |   |

 

F-25

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**7.**   IntangibleAssets

Thegross carrying amount and accumulated amortization of the Company’s intangibleassets as of December 30, 2006 and December 31, 2005 are as follows:
|                         | ** ** | **December 30, 2006** | ** ** | **December 31, 2005** | ** ** |
|-------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **              | ** ** | **Gross Carrying  Amount** | ** ** | **Accumulated  Amortization**   | ** ** | **Net Book  Value** | ** ** | **Gross Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Net Book  Value** | ** ** |
| ** **              | ** ** | **(in thousands)**         | ** ** |
| Software                |       |                            | $          | 28,950                          |       |   |   | $ | (19,852 | ) |   | $ | 9,098 |   |   | $ | 14,579 |   |   |   | $ | (10,548 | ) |   | $ | 4,031 |   |
| Patents                 |       |                            | 22,694     |                            |       |   | (6,467 | ) |   | 16,227 |   |   | 16,919 |   |   |   | (3,967 | ) |   | 12,952 |   |
| Technology              |       |                            | 35,866     |                            |       |   | (10,077 | ) |   | 25,789 |   |   | 34,583 |   |   |   | (11,460 | ) |   | 23,123 |   |
| Trademarks              |       |                            | 7,365      |                            |       |   | (811 | ) |   | 6,554 |   |   | 7,001 |   |   |   | (635 | ) |   | 6,366 |   |
| Customer  Relationships |       |                            | 8,320      |                            |       |   | (1,620 | ) |   | 6,700 |   |   | 5,706 |   |   |   | (1,098 | ) |   | 4,608 |   |
| Other intangibles       |       |                            | 12,420     |                            |       |   | (3,332 | ) |   | 9,088 |   |   | 11,286 |   |   |   | (1,129 | ) |   | 10,157 |   |
|                    |       |                            | $          | 115,615                         |       |   |   | $ | (42,159 | ) |   | $ | 73,456 |   |   | $ | 90,074 |   |   |   | $ | (28,837 | ) |   | $ | 61,237 |   |

 

The gross carrying amount of the Company’s intangibleassets that have indefinite lives and are not subject to amortization as of December 30,2006 and December 31, 2005 is $4,834,000. These assets are comprised ofacquired trademarks.

Amortization expense of intangible assets was$11,097,000, $9,605,000, and $5,690,000, in 2006, 2005 and 2004, respectively.

The estimated futureannual amortization expense for each of the next five succeeding fiscal yearsis as follows (in thousands):

| **Fiscal Year** | ** ** | ** ** | ** ** | **Estimated  Amortization  Expense** | ** ** |
|----------------------|------------|------------|------------|--------------------------------------|------------|
| 2007                 |       |       | $          | 12,851                               |       |   |
| 2008                 |       |       | $          | 12,329                               |       |   |
| 2009                 |       |       | $          | 10,469                               |       |   |
| 2010                 |       |       | $          | 7,160                                |       |   |
| 2011                 |       |       | $          | 6,459                                |       |   |

 

In the year ended December 30,2006, the Company determined that certain intangible assets associated with itssleep therapy business, including patents and capitalized software, wereimpaired as a result of the acquisitions of Tiara and Hoffman. The Companyrecorded approximately $1,220,000 as an impairment loss and reported it inselling, general, and administrative expenses on its Statement of Operations.

**8.**   RevolvingCredit Facility

On May 3, 2005, the Company entered into afive-year $150,000,000 Senior Unsecured Revolving Credit Facility (the “Facility”),replacing the $60,000,000 Senior Revolving Credit Facility which would haveexpired on May 31, 2005. The Facility includes a $20,000,000 letter ofcredit sub-facility and a $20,000,000 swing line loan sub-facility. At therequest of the Company, the aggregate maximum principal amount available underthe Facility may be increased to $200,000,000. The lenders, however, are notobligated to participate in the increased portion of the Facility. The Facilitycan be used for working capital and other general corporate purposes, includingcapital expenditures and acquisitions. At December 30, 2006, $46,225,000was outstanding under the Facility, with $0 outstanding under the swing lineloan sub-

F-26

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**8.**   Revolving Credit Facility (Continued)

facility. In addition,$5,282,000 of standby letters of credit were outstanding under the Facility. AtDecember 30, 2006, $98,493,000 was available for borrowings under theFacility.

At the Company’s option, loans borrowed under theFacility (other than swing line loans) will bear interest at either (1) theLondon Interbank Borrowing Rate (“LIBOR”) plus an applicable margin that will varybased on the Company’s leverage ratio as defined in the agreement, or (2) thealternative base rate, defined as the higher of the lender’s prime rate or theFederal Funds Rate plus .50%. Swing line loans bear interest at a ratedetermined by the swing line lender. The Company is required to pay a facilityfee based on the total revolving commitment. The average interest rate incurredduring the year ended December 30, 2006 was 5.74%. The average interestrate on borrowings outstanding at December 30, 2006 was 6.03%.

The Facility containscustomary affirmative and negative covenants, including but not limited torequirements to maintain a leverage ratio of debt to earnings before interest,taxes, depreciation and amortization (“EBITDA”) no greater than 3.00 to 1.00,an interest coverage ratio of EBITDA to interest expense of not less than 4.00to 1.00, minimum stockholders’ equity and limits on the amount of capitalexpenditures in any one year to the greater of $30,000,000 or 5% of the Company’sconsolidated net assets.

**9.**   CapitalStock

In August 2001, the Company’s Board of Directorsand sole stockholder approved an amendment to the Company’s Certificate ofIncorporation to, among other items, authorize 5,000,000 shares of preferredstock, $.01 par value per share, for issuance by the Company’s Board ofDirectors without future stockholder approval. The amendment also increased thenumber of authorized shares of common stock, $.01 par value per share, forissuance from 3,000 shares to 100,000,000 shares. There was no preferred stockissued or outstanding at December 30, 2006.

The Company has distributed rights under a Stockholderrights plan adopted by the Company’s Board of Directors to holders ofoutstanding shares of the Company’s common stock. Each right entitles the holderto purchase one ten-thousandth of a share (a Unit) of Series B JuniorParticipating Preferred Stock, $100 par value, at a purchase price of $75 perUnit, subject to adjustment. The rights will not be exercisable until theearlier of (i) 10 days following a public announcement that a personor group of affiliated or associated persons (an Acquiring Person) hasacquired, or obtained the right to acquire, beneficial ownership of 15% or moreof the outstanding shares of common stock (the Stock Acquisition Date), or (ii) 10business days following the commencement of a tender offer or exchange offerfor 15% or more of the outstanding shares of common stock.

In the event that a person becomes the beneficialowner of 15% or more of the outstanding shares of common stock, except pursuantto an offer for all outstanding shares of common stock approved by at least amajority of the members of the Board of Directors, each holder of a right(except for the Acquiring Person) will thereafter have the right to receive, uponexercise, that number of shares of common stock that equals the exercise priceof the right divided by one-half of the current market price of the commonstock. In the event that, at any time after any person has become an AcquiringPerson, (i) the Company is acquired in a merger or other businesscombination transaction in which the Company is not the surviving corporationor its common stock is changed or exchanged (other than a merger that followsan offer approved by the Board of Directors), or (ii) 50% or more of theCompany’s assets or earning power is sold or transferred, each holder of aright (except for the Acquiring Person) shall thereafter have the right toreceive, upon exercise, the number of shares of common stock of the acquiringcompany that equals the exercise price of the right divided by one half of thecurrent market price of such common stock.

F-27

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**9.**   Capital Stock (Continued)

At any time until10 days following the Stock Acquisition Date, the Company may redeem therights in whole, but not in part, at a price of $.001 per right (payable incash or stock). The rights expire on November 12, 2011, unless earlierredeemed or exchanged.

**10.**   StockBased Compensation

In September 2001, the Company adopted the EquityIncentive Plan (the “Plan”). The Plan permits the Company’s Board of Directorsto grant incentive stock options to employees of the Company and non-qualifiedstock options, restricted stock, performance stock and other stock-basedincentive awards to officers, directors, employees and consultants of theCompany. In January 2006, the Board of Directors amended the Plan, and thestockholders approved certain of the amendments at the Annual Meeting on May 11,2006, to increase the total number of shares available for issuance under thePlan from 6,680,000 to 8,680,000. The exercise price for incentive stockoptions granted under the Plan may not be less than 100% of the fair marketvalue of the Company’s common stock at the date of grant. Options issued underthe Plan are generally exercisable in three equal annual installmentscommencing on the first anniversary of the date of grant and expire if not exercisedwithin ten years from the date of grant. The restrictions on restricted stockunits issued under the plan lapse as follows: one third on the date of grant,one third on the first anniversary of the date of grant, and one third on thesecond anniversary of the date of grant. The restrictions on certain otherrestricted stock units issued under the plan lapse in full on the thirdanniversary of the date of grant. Options granted to certain officers of theCompany in combination with restricted stock units, described above, under thePlan vest in three equal annual installments beginning on the third anniversaryfrom the date of grant.

In October 2001, the Company adopted an employeestock purchase plan in which substantially all of the Company’s full-timeemployees became eligible to participate effective July 1, 2002. Underthis plan, employees may contribute up to 10% of their compensation toward thepurchase of the Company’s common stock at the lower of 85% of the fair marketprice on the first or last day of each offering period. Proceeds received fromthe issuance of shares are credited to stockholders’ equity in the fiscal yearthat the shares are issued. Under the terms of the plan, a total of 650,000shares of common stock have been reserved for issuance to employees. At December 30,2006, approximately 231,872 shares remain available for purchase under theplan.

Effective January 1, 2006, the Company adoptedFASB Statement No. 123R, Share-Based Payment, or “SFAS 123R.”  SFAS 123R requires the recognition of thefair value of stock compensation in net income. The Company recognizes stockcompensation expense over the requisite service period of the individualgrants, which generally equals the vesting period. The Company uses thestraight-line method to account for compensation cost for awards with gradedvesting. Prior to January 1, 2006, the Company accounted for this Planunder APB Opinion No. 25, Accounting for Stock Issued to Employees, “APB25”, and related interpretations in accounting for stock compensation. Becauseoptions are generally granted at the closing stock price on the date of grant,the options have no intrinsic value.

The Company elected the modified prospective method inadopting SFAS 123R. Under this method, the provisions of SFAS 123R apply to allawards granted or modified after the date of adoption. In addition, theunrecognized expense of awards not yet vested at the date of adoption isrecognized in net income in the periods after the date of adoption using thesame valuation method (Black-Scholes) and assumptions determined under theoriginal provisions of SFAS 123, Accounting for Stock-Based Compensation, asdisclosed in the Company’s previous filings.

F-28

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**10.**   Stock Based Compensation (Continued)

The Company’s income before income taxes for the yearended December 30, 2006 was $8,581,000 lower, and the Company’s after-taxnet income for year ended December 30, 2006 was $5,681,000 lower, as aresult of stock-based compensation expense incurred, which included chargesresulting from the adoption of SFAS 123R on January 1, 2006. The impact ofstock-based compensation expense was $ $0.18 per basic and $0.17 per dilutedshare in the year ended December 30, 2006.

The Companyutilized the Black-Scholes valuation model for estimating the fair value of thestock options granted after the adoption of SFAS 123R with the followingweighted average assumptions.

| ** **                       | ** ** | **For the Year  Ended  December 30, 2006** | ** ** |
|----------------------------------|------------|----------------------------------------------------------------|------------|
| Dividend Yield                   |       |                                                           | —     |   |   |
| Expected  Volatility             |       |                                                           | 35.5       | % |   |
| Average Risk Free  Interest Rate |       |                                                           | 4.7        | % |   |
| Expected Life (in years)         |       |                                                           | 5 years    |   |   |

 

The dividend yield of zero is based on the fact thatthe Company has never paid cash dividends and has no present intention to paycash dividends. Expected volatility is based on the historical volatility ofthe Company’s common stock over the period commensurate with the expected lifeof the options. The risk-free interest rate is derived from the U.S. FederalReserve rate in effect at the time of grant. The expected life calculation isbased on the observed and expected time to the exercise of options by ouremployees based on historical exercise patterns for similar options.

Based on the above assumptions, the per share weightedaverage fair value of the options granted under the stock option plan for theyear ended December 30, 2006 was $9.18.

Based on the Company’s historical experience ofoptions that cancel before becoming fully vested, the Company has assumed anannualized forfeiture rate of 8.0% for all options. Under the true-up provisionof SFAS 123R, the Company will record additional expense if the actualforfeiture rate is lower than estimated, and will record a recovery of priorexpense if the actual forfeiture rate is higher than estimated.

Prior to the adoption of SFAS 123R, the Companypresented all tax benefits of deductions resulting from the exercise of stockoptions as operating cash flows in the Statement of Cash Flows. SFAS 123Rrequires the cash flow resulting from the tax benefits resulting from taxdeductions in excess of the compensation cost recognized for those options(excess tax benefits) to be classified as financing cash flows. The $1,319,000excess tax benefit classified as a financing cash inflow would have beenclassified as an operating cash inflow if the Company had not adopted SFAS123R.

SFAS 123R requires theCompany to present pro forma information for the comparative period prior tothe adoption as if the Company had accounted for all stock based compensationunder the fair value method of the original SFAS 123. The following tableillustrates the effect on net income and earnings per share if the Company hadapplied the fair value recognition provisions of SFAS 123 to stock-basedcompensation granted under the Company’s stock-based compensation plans in theprior year period presented. For purposes of this pro forma disclosure, thevalue of the stock options is estimated using a Black-Scholes option pricingformula and is amortized to expense over the options’ vesting periods.

F-29

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**VIASYSHEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**10.**   Stock Based Compensation (Continued)
|                                                                                                                                                   | ** ** | **For the Year Ended  December 31,  2005** | ** ** | **For the Year Ended  January 1,  2005**  | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                                                                                                        | ** ** | **(In thousands,  except per share  amounts)**  | ** ** | **(In thousands,  except per share  amounts)** | ** ** |
| Net income (loss),  as reported                                                                                                                   |       |                                                           | $          | (9,769                                                        | )          |   |   | $ | 14,831 |   |   |
| Add: Stock-based  compensation expense included in net income, net of related tax effects                                                         |       |                                                           | 538        |                                                          |       |   | 135 |   |   |
| Deduct: Total  stock-based employee compensation expense determined under the fair value  based method for all awards, net of related tax effects |       |                                                           | (4,119     | )                                                             |       |   | (4,540 | ) |   |
| Pro forma net  income (loss)                                                                                                                      |       |                                                           | $          | (13,350                                                       | )          |   |   | $ | 10,426 |   |   |
| Basic EPS:                                                                                                                                        |       |                                                           |       |                                                          |       |   |   |   |   |
| As reported                                                                                                                                       |       |                                                           | $          | (.31                                                          | )          |   |   | $ | .48 |   |   |
| Pro forma                                                                                                                                         |       |                                                           | $          | (.42                                                          | )          |   |   | $ | .34 |   |   |
| Diluted EPS:                                                                                                                                      |       |                                                           |       |                                                          |       |   |   |   |   |
| As reported                                                                                                                                       |       |                                                           | $          | (.31                                                          | )          |   |   | $ | .47 |   |   |
| Pro forma                                                                                                                                         |       |                                                           | $          | (.42                                                          | )          |   |   | $ | .33 |   |   |

 

During the years ended December 31,2005, and January 1, 2005 the per share weighted-average fair value of theoptions granted under the stock option plan were $8.68 and $6.77, respectively.The Company utilized the Black-Scholes valuation model for estimating thesefair values, with the following weighted-average assumptions:
|                                  | ** ** | **For the Year  Ended  December 31,  2005** | ** ** | **For the Year  Ended  January 1  2005** | ** ** |
|----------------------------------|------------|------------------------------------------------------------|------------|---------------------------------------------------------|------------|
| Dividend Yield                   |       |                                                       | —     |                                                    |       |   | — |   |   |
| Expected  Volatility             |       |                                                       | 35         | %                                                       |       |   | 35 | % |   |
| Average Risk Free  Interest Rate |       |                                                       | 4.0        | %                                                       |       |   | 3.4 | % |   |
| Expected Life (in years)         |       |                                                       | 5 years    |                                                    |       |   | 5 years |   |   |

 

The amortization of stock compensation under SFAS 123Rfor the period after its adoption, and under APB 25 or SFAS 123 (pro formadisclosure) for the period prior to its adoption, was done in accordance withFinancial Accounting Standard Board (“FASB”) Interpretation (“FIN”) No. 28.Total compensation cost of options granted but not yet vested, as of December 30,2006, was $5,681,000, which is expected to be recognized over the weightedaverage period of 2.1 years. At December 30, 2006 and December 31,2005, approximately 2,070,000 and 438,000 shares, respectively, remainedavailable for future grant under the Plan.

F-30

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**10.**   StockBased Compensation (Continued)

Asummary of the Company’s stock option activity is as follows:

| ** **                                    | ** ** | **Number of  Shares  (in thousands)** | ** ** | **Weighted Average  Exercise Price** | ** ** |
|-----------------------------------------------|------------|-------------------------------------------------|------------|------------------------------------------------|------------|
| Options  outstanding at January 3, 2004  |       |                                            | 4,785      |                                           |       |   | $ | 15.44 |   |   |
| Granted                                       |       |                                            | 1,034      |                                           |       |   | 18.46 |   |   |
| Exercised                                     |       |                                            | (599       | )                                              |       |   | 14.27 |   |   |
| Cancelled or  expired                         |       |                                            | (675       | )                                              |       |   | 17.10 |   |   |
| Options outstanding at January 1, 2005   |       |                                            | 4,545      |                                           |       |   | $ | 15.95 |   |   |
| Granted                                       |       |                                            | 543        |                                           |       |   | 23.04 |   |   |
| Exercised                                     |       |                                            | (764       | )                                              |       |   | 15.07 |   |   |
| Cancelled or  expired                         |       |                                            | (92        | )                                              |       |   | 17.84 |   |   |
| Options outstanding at December 31, 2005 |       |                                            | 4,232      |                                           |       |   | $ | 16.97 |   |   |
| Granted                                       |       |                                            | 280        |                                           |       |   | 26.57 |   |   |
| Exercised                                     |       |                                            | (782       | )                                              |       |   | 15.37 |   |   |
| Cancelled or  expired                         |       |                                            | (60        | )                                              |       |   | 14.51 |   |   |
| Options outstanding at December 30, 2006 |       |                                            | 3,670      |                                           |       |   | $ | 17.95 |   |   |
| **Options  exercisable at year end:**         | ** ** |                                            |       |                                           |       |   |   |   |   |
| January 1,  2005                         |       |                                            | 2,680      |                                           |       |   | $ | 15.04 |   |   |
| December 31,  2005                       |       |                                            | 2,774      |                                           |       |   | $ | 15.70 |   |   |
| December 30, 2006                        |       |                                            | 2,771      |                                           |       |   | $ | 16.51 |   |   |

 

| ** **                                  | ** ** | **Number of  Restricted Stock  Units  (in thousands)** | ** ** |
|---------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| Balance at  December 31, 2005          |       |                                                                  | —     |   |   |
| Granted                                     |       |                                                                  | 192        |   |   |
| Vested                                      |       |                                                                  | (55        | ) |   |
| Unvested balance  at December 30, 2006 |       |                                                                  | 137        |   |   |

The per share weighted average fair value of therestricted stock units granted under the stock compensation plan for the yearended December 30, 2006 was $29.18, which was based on the closing stockprice of the Company on the date of grant.

Thefollowing table summarizes information about stock options outstanding andexercisable at December 30, 2006 (shares in thousands):

| ** **                                  | ** ** | **Options Outstanding** | ** ** | **Options Exercisable**            | ** ** |
|---------------------------------------------|------------|------------------------------|------------|-----------------------------------------|------------|
| **Range of Exercise Prices** | ** ** | ** **                   | ** ** | **Number of  Shares  Outstanding** | ** ** | **Weighted  Average  Remaining  Contractual Life  (in years)** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Number of  Shares  Exercisable** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| $12.46-$17.81                               |       |                         | 2,278      |                                    |       |   | 5.9 |   |   |   | $ | 15.21 |   |   |   | 2,042 |   |   |   | $ | 14.99 |   |   |
| $18.79-$28.14                               |       |                         | 1,392      |                                    |       |   | 7.2 |   |   |   | $ | 22.49 |   |   |   | 729 |   |   |   | $ | 20.77 |   |   |
| $12.46-$28.14                               |       |                         | 3,670      |                                    |       |   | 6.4 |   |   |   | $ | 17.95 |   |   |   | 2,771 |   |   |   | $ | 16.51 |   |   |
|                                             |            |                              |            |                                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

F-31

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**11.   Employee BenefitPlans**

The Company has a 401(k) savingsplan that covers substantially all of its U.S. employees. Participants in thesavings plan may elect to contribute, on a pretax basis, a certain percent oftheir salary to the plan. The Company matches a certain percentage of eachparticipant’s contributions as per the provisions of the plan. The expenseunder the plan related to the Company’s matching contribution was $3,250,000,$2,776,000, and $2,512,000, in 2006, 2005 and 2004, respectively.

**12.**   Restructuring

In recent years, theCompany has initiated a series of restructuring activities to reduce costs,achieve synergies and streamline operations.

*2006 RestructuringPlan*

In the second half of2006, the Company initiated a plan to restructure certain manufacturingoperation in Old Woking, United Kingdom and Ireland. As a result of this plan,42 positions were eliminated. Expenses incurred related to one-time terminationcosts paid to employees as well as charges taken to dispose of certain assets thatwill not be used in the restructured business. As of December 30, 2006,$2,123,000 of restructuring expense has been incurred in connection with thisplan. The balance of this reserve was $573,000 as of December 30, 2006. The Company does not expect toincur any additional costs associated with this plan.

*2005 RestructuringPlan*

In the third quarter of2005, the Company initiated a plan to restructure its international operations,which included closing its manufacturing facility in Bristol, United Kingdomand terminating certain agreements with distributors. As a result of the plan,12 positions were eliminated, the Bristol facility was closed, and theremaining operations were combined into the Company’s existing facility in OldWoking, United Kingdom. As of December 30, 2006, a total of $991,000 ofrestructuring expenses had been incurred in connection with this plan, of which$391,000 were incurred during 2006. Expenses incurred include employeeseverance and related expenses as well as costs incurred related to thetermination of certain distribution agreements. The Company does not expect toincur any additional costs under this plan.

*2003 GermanRestructuring Plans*

In the fourth quarter of 2003, the Company commencedplans to close a machine shop and reduce the number of customer servicepositions at a Respiratory Care facility in Germany. Due to German laborregulations, certain positions cannot be eliminated immediately. As a result ofthis plan, 24 positions are being eliminated over a period of five years. As ofDecember 30, 2006, 23 of these positions had been eliminated andapproximately $774,000 of employee severance and related expenses have been paid. In the first quarter of2006, the Company recorded an adjustment to reduce the restructuring accrual by$267,000 based on a change in estimated amounts to be incurred under this plan.Through the remainder of 2006, the Company incurred $182,000 of chargesassociated with this plan, resulting in net expense for the year of ($85,000).Severance expense for the remaining employees will continue to be recordedratably over their remaining employment term. The total amount of restructuringexpense expected to be incurred in connection with this plan is approximately$1,725,000. As of December 30, 2006, a total of approximately $1,451,000of restructuring expense had been incurred in connection with this plan sinceinception.

F-32

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**12.**   Restructuring (Continued)

Asummary of the restructuring activity associated with the 2003 RestructuringPlans is as follows (in thousands):

| ** **                         | ** ** | **German  Restructuring  Plan**                         | ** ** |
|------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                         | ** ** | **Employee  Severance and  Related Expenses** | ** ** |
| Balance at  January 3, 2004   |       |                                                    | $          | 180 |   |   |
| Costs accrued                      |       |                                                    | 865        |   |   |
| Payments                           |       |                                                    | (147       | ) |   |
| Foreign currency translation       |       |                                                    | 98         |   |   |
| Balance at January 1, 2005    |       |                                                    | $          | 996 |   |   |
| Costs accrued                      |       |                                                    | 367        |   |   |
| Payments                           |       |                                                    | (257       | ) |   |
| Foreign currency translation       |       |                                                    | (137       | ) |   |
| Balance at December 31, 2005  |       |                                                    | $          | 969 |   |   |
| Costs accrued                      |       |                                                    | (85        | ) |   |
| Payments                           |       |                                                    | (241       | ) |   |
| Foreign currency translation       |       |                                                    | 70         |   |   |
| Balance at  December 30, 2006 |       |                                                    | $          | 713 |   |   |

 

*2002and 2001 Restructuring Plans*

Throughout 2002 and 2001,the Company initiated various restructuring programs. As a result of theseefforts, the Company incurred costs to close and consolidate facilities, retaincertain employees and terminate approximately 250 employees. The facilitiesaffected by these actions included the Company’s New Hampshire and Coloradofacilities, which were consolidated with the Company’s NeuroCare operations inWisconsin. In addition, the Company vacated several sales and service offices,mainly in Germany and Austria, and consolidated those operations into onefacility in Germany. The balance of this reserve at December 30, 2006 was$244,000 and was comprised primarily of lease obligations associated with theabandoned facilities less estimated sublease income. These amounts will be paidover their respective lease terms, the longest of which extends to 2014.

**13.**   AccruedInstallation and Warranty Costs

The Company offers warranties on certain products forvarious periods of time. The Company accrues for the estimated cost of productwarranties and installation costs at the time revenue is recognized. TheCompany’s product warranty liability reflects management’s best estimate ofprobable liability under its product warranties. Management estimates theliability based on the Company’s stated warranty policies and practices, thehistorical frequency of claims, and the cost to replace or repair its productsunder warranty. Factors that affect the Company’s warranty liability includethe number of units sold, the length of the warranty, historical andanticipated rates of warranty claims and cost per claim. The Company periodicallyassesses the adequacy of its recorded warranty liabilities and adjusts theamounts as necessary.

F-33

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**13.**   Accrued Installation and Warranty Costs (Continued)

Asummary of the accrued installation and warranty costs is as follows (inthousands):

| ** **                         | ** ** | **Accrued Installation  and Warranty Costs** | ** ** |
|------------------------------------|------------|-------------------------------------------------------------|------------|
| Balance at  January 3, 2004   |       |                                                        | $          | 4,911 |   |   |
| Costs accrued                      |       |                                                        | 8,045      |   |   |
| Payments                           |       |                                                        | (6,737     | ) |   |
| Foreign currency translation       |       |                                                        | 55         |   |   |
| Balance at January 1, 2005    |       |                                                        | $          | 6,274 |   |   |
| Costs accrued                      |       |                                                        | 12,662     |   |   |
| Payments                           |       |                                                        | (9,835     | ) |   |
| Foreign currency translation       |       |                                                        | (123       | ) |   |
| Balance at December 31, 2005  |       |                                                        | $          | 8,978 |   |   |
| Costs accrued                      |       |                                                        | 9,696      |   |   |
| Payments                           |       |                                                        | (8,488     | ) |   |
| Foreign currency translation       |       |                                                        | 199        |   |   |
| Balance at  December 30, 2006 |       |                                                        | $          | 10,385 |   |   |

 

**14.**   IncomeTaxes

Thecomponents of income from continuing operations before income taxes are asfollows (in thousands):

| ** ** | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|------------|------------|----------|------------|----------|------------|----------|------------|
| Domestic   |       | $        | 41,046     |     | $          | 4,952    |       | $ | 34,718 |   |
| Foreign    |       | 7,202    |       | (1,715   | )          | (11,207  | )          |
|       |       | $        | 48,248     |     | $          | 3,237    |       | $ | 23,511 |   |

 

Thecomponents of the provision for income taxes on continuing operations are asfollows (in thousands):

| ** **                        | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Current:                          |       |     |       |     |       |     |       |
| Federal                           |       | $        | 16,216     |     | $          | 10,973   |       | $ | 4,053 |   |
| State                             |       | 2,353    |       | 1,191    |       | 1,659    |       |
| Foreign                           |       | 2,351    |       | 2,014    |       | 502      |       |
| Total current                     |       | 20,920   |       | 14,178   |       | 6,214    |       |
| Deferred:                         |       |     |       |     |       |     |       |
| Federal                           |       | (2,401   | )          | (183     | )          | 5,059    |       |
| State                             |       | (635     | )          | 2        |       | 410      |       |
| Foreign                           |       | 1,374    |       | (455     | )          | (3,208   | )          |
| Total deferred                    |       | (1,662   | )          | (636     | )          | 2,261    |       |
| Total provision  for income taxes |       | $        | 19,258     |     | $          | 13,542   |       | $ | 8,475 |   |

 

F-34

----

**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**14.**   Income Taxes (Continued)

The provision for incometaxes differs from the provision calculated by applying the statutory federalincome tax rate of 35% to income from continuing operations before income taxesdue to the following (in thousands):

| ** **                                    | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Federal Statutory  Rate                       |       | $        | 16,886     |     | $          | 1,133    |       | $ | 8,229 |   |
| Increases  (Decreases) Resulting From:        |       |     |       |     |       |     |       |
| State income taxes, net of federal tax        |       | 1,117    |       | 775      |       | 1,345    |       |
| Production activity and export sales benefits |       | (1,512   | )          | (2,060   | )          | (1,983   | )          |
| Effect of foreign operations                  |       | 548      |       | 1,001    |       | 621      |       |
| In-process research and development           |       | 2,100    |       | 12,215   |       | 128      |       |
| Research and development credit               |       | (220     | )          | (324     | )          | (150     | )          |
| Nondeductible expenses                        |       | 608      |       | 1,011    |       | 301      |       |
| Other                                         |       | (269     | )          | (209     | )          | (16      | )          |
|                                          |       | $        | 19,258     |     | $          | 13,542   |       | $ | 8,475 |   |

 

Deferred tax assets andliabilities in the accompanying Consolidated Balance Sheets consist of thefollowing (in thousands):

| ** **                                  | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------|------------|----------|------------|----------|------------|
| Deferred Tax Assets  (Liabilities):         |       |     |       |     |       |
| Reserves and accruals                       |       | $        | 3,149      |     | $          | 5,760 |   |
| Inventory basis difference                  |       | 3,577    |       | 4,376    |       |
| Net operating loss and credit carryforwards |       | 1,937    |       | 4,939    |       |
| Accrued compensation                        |       | 4,716    |       | 2,017    |       |
| Depreciation and amortization               |       | (17,792  | )          | (15,939  | )          |
| Deferred credits and amortization           |       | 2,955    |       | 1,267    |       |
| Prepaid expenses                            |       | (768     | )          | (683     | )          |
| Other, net                                  |       | (1,013   | )          | 884      |       |
|                                        |       | (3,239   | )          | 2,621    |       |
| Less: Valuation allowance                   |       | (3,074   | )          | (6,013   | )          |
|                                        |       | $        | (6,313     | )        | $          | (3,392 | ) |

 

The valuation allowancerelates to uncertainty surrounding the realization of tax net operating losscarryforwards, the utilization of foreign tax credits, and other acquisitionrelated items. The portion of the valuation allowance that relates to netoperating loss and credit carryforwards represents 62% of the total, and theportion related to acquisition related items represents 38% of the total. Tothe extent tax benefits are realized and the valuation allowance is no longerrequired, approximately 48% will be adjusted through goodwill and 52% wouldreverse through tax expense.

At December 30, 2006, the Company had foreign netoperating losses of approximately $6,300,000. Approximately $4,500,000 of thenet foreign operating loss carryforwards do not expire. The remainder expire atvarious times over the next 5 years. Deferred taxes have not been providedon approximately $18,000,000 of cumulative undistributed earnings of foreignsubsidiaries that could be subject to taxation if remitted to the U.S. sincethe Company plans to keep such amounts permanently invested overseas.

F-35

----

**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**15.**   DiscontinuedOperations

In September 2002,the Company announced its plan to exit the patient monitoring business bydivesting MDE and in September 2003, the Company announced its plan tosell certain assets of Thermedics. Thermedics manufactured polyurethanes formedical and industrial applications. These decisions were made as a result ofthe determination that MDE and Thermedics did not fit into the Company’slong-term strategy of focusing and investing resources in the Respiratory Care,NeuroCare, Med Systems and Orthopedics segments. The consolidated financialstatements have been restated to account for MDE and Thermedics as discontinuedoperations. MDE and Thermedics were previously part of the Med Systems segment.

On April 3, 2003, theCompany sold MDE to Invivo Corporation (“Invivo”) for $9,257,000. The Companyrecorded in 2003 and 2002 respectively, an after-tax charge of $958,000($1,511,000 pre-tax) and $14,285,000 ($22,513,000 pre-tax), to write-down theassets of MDE to their estimated net realizable value less the costs to sell. Thetotal goodwill included in determining the loss was $27,000,000.

On October 3, 2003,the Company sold Thermedics to Noveon, Inc. for $14,632,000 in cash. Inconnection with the sale, the Company provided for an after-tax loss ondisposal, including expenses, totaling $2,600,000. Included in this loss was$2,459,000 of goodwill.

On June 30, 2005, theCompany completed the sale of the obstetrics and cardiovascular (“OB and CV”)businesses that were acquired from Oxford Medical in March 2005 forapproximately $6,421,000. The assets were recorded at fair value as of the dateof acquisition and no gain or loss was recognized on the sale. The results ofthe OB and CV businesses have been reported as discontinued operations in theConsolidated Statements of Operations. The Company earned a selling commissionof approximately $140,000 as compensation for continuing to run operationsrelated to portions of the OB and CV business until the completion of thetransition in the fourth quarter of 2005.

Theoperating results of the OBCV, MDE and Thermedics discontinued operations areas follows:
|                                  | ** ** | **2005**                | ** ** | **2004** | ** ** |
|----------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                       | ** ** | **(In thousands)** | ** ** |
| Revenues                         |       | $                       | 5,089      |     | $          | — |   |
| Gain/(Loss)  before income taxes |       | $                       | 832        |     | $          | (333 | ) |
| Net Gain/(Loss)                  |       | $                       | 536        |     | $          | (205 | ) |

 

The Company had nodiscontinued operations in 2006.

F-36

----

**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**16.**   Commitments andContingencies

*Commitments*

TheCompany leases certain office, warehouse and manufacturing space and equipmentunder various operating lease arrangements. Future annual minimum rent paymentsunder operating leases having initial or remaining noncancelable lease terms inexcess of one year at December 30, 2006 are as follows (in thousands):

| Fiscal Year | ** ** | ** ** | ** ** | ** ** | ** ** |
|------------------|------------|------------|------------|------------|------------|
| 2007             |       | 9,260      |       |
| 2008             |       | 7,956      |       |
| 2009             |       | 7,499      |       |
| 2010             |       | 6,644      |       |
| 2011             |       | 6,156      |       |
| Thereafter       |       | 20,656     |       |

 

Total rent expense underoperating leases was $9,652,000, $8,405,000, and $7,104,000 in 2006, 2005, and2004, respectively.

*Contingencies*

Tecomet Inc. (“Tecomet”), a subsidiary of the Company,has been advised by Smith & Nephew, Inc. (“S&N”) that S&Nmay file a lawsuit against Tecomet for indemnity and/or contribution inconnection with more than 920 claims settled by S&N with patients whoallegedly required revision surgeries resulting from S&N knee implants. S&Nhas also indicated that it is aware of approximately 75 additional revisionswhich have not yet been settled. Tecomet supplied to S&N knee componentsand a surface texture that were allegedly used in the S&N knee implants. Tecometlearned in 2003 that S&N had advised the U.S. Food and Drug Administrationthat S&N was voluntarily withdrawing certain of its knee systems from themarket due to unspecified problems that required revision surgery in somepatients. Tecomet is investigating the claims made by S&N, which includeassertions that at least some of the Tecomet texturing on the implants did notcomply with the manufacturing specifications. The Company has agreed toparticipate in a non-binding mediation with S&N scheduled to occur in April 2007. At this stage, it is not possible to predict the likelihood or amount ofliability, if any, on the part of Tecomet, or the amount, if any, that would becovered under the Company’s product liability insurance policies. If a lawsuitis filed against Tecomet, Tecomet intends to defend it vigorously.

In 2004 and 2005, Tecometwas named as a defendant in three lawsuits in Texas brought by plaintiffsalleging that they had to undergo revision surgeries when their S&Nimplants failed. These three cases were later dismissed without prejudice, andthe Company understands that they were later settled by S&N. In 2005 and2006, Tecomet was named as a defendant in two lawsuits in Oklahoma, which werebrought by plaintiffs alleging facts similar to those raised in the three casesthat were filed in Texas. The Company believes that the amount of damagessought in the pending cases in Oklahoma would not be material to the Company’sconsolidated financial position, results of operations or cash flows.

**The Company is involved in various litigation related toits ventilation business, which is focused on providing care to critically illpatients. As of December 30, 2006, Pulmonetic Systems Inc. (“Pulmonetics”),a subsidiary of the Company, had four product liability cases outstandingrelated to its ventilator products. One of these four product liability caseshas settled pending court approval. The Company’s remaining ventilationbusiness had two product liability cases outstanding related to its ventilatorproducts. The Company believes that its product liability insurance policies,subject to applicable deductibles and policy**

F-37

----

**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**16.**   Commitments and Contingencies (Continued)

**limitations, limit its exposure in connection with theseproduct liability cases. The Company also believes that it will be indemnifiedfor its remaining exposure in connection with the cases against Pulmoneticsunder the Company’s purchase agreement related to the acquisition ofPulmonetics, subject to limitations contained in such agreement.*****  ***While there can be no assurances as to theultimate outcome of any litigation involving the Company, management does notbelieve that any pending legal proceedings affecting the ventilation businesswill result in a judgment or settlement that will have a material adverseeffect on the Company’s consolidated financial position, results of operationsor cash flows.

On May 13,2004, the Company settled litigation with INO Therapeutics, LLC (“INOTherapeutics”), AGA AB and The General Hospital Corporation regarding the useand sale of nitric oxide gas and devices and entered into a settlement andco-development agreement with INO Therapeutics. Following dismissal of thelitigation, the Company received $7,500,000 in the second quarter of 2004. Thisincluded $6,000,000 inconnection with the dismissal of the litigation, which is included in Legal Settlement in the accompanying 2004Consolidated Statement of Income. In addition, the Company received $1,500,000related to the Company’s submission to INO Therapeutics of a research anddevelopment plan for a nitric oxide indication in connection with theco-development agreement, which is included in service revenue in theaccompanying 2004 Consolidated Statement of Income.

Inthe fourth quarter of 2005, the Company achieved another milestone under theco-development agreement by submitting an application for an investigationalnew drug (“IND”) and received $1,500,000.

Inaddition, during 2005, the Company and INO Therapeutics amended certainportions of the co-development agreement. Pursuant to the amendments, theCompany received $1,250,000 in the second quarter of 2005 related to the buyoutby INO Therapeutics of a purchase obligation. In addition, the Companyrecognized $3,000,000 in the fourth quarter of 2005 upon the achievement of amilestone under the amended co-development agreement. Additional paymentstotaling $4.5 million were earned by the Company upon achievement of certaindevelopment milestones during 2006. All amounts received in 2006 and 2005 areincluded in service revenue in the accompanying Consolidated Statement ofIncome.

Themilestone payments earned to date are non-refundable and are not contingent onfuture performance under the co-development agreement.

In addition to the mattersdiscussed above, from time to time the Company faces litigation and liabilityexposure for existing and potential claims. These claims are primarily relatedto patent and intellectual property matters, the manufacturing and sale ofmedical devices, distributor terminations, employment matters and the Company’songoing restructuring efforts. The Company’s international operations, whichgenerated 40% of the Company’s total revenues in 2006 and 43% and 44% of theCompany’s total revenues in 2005 and 2004, respectively also expose the Companyto the risks of being sued in a foreign jurisdiction.

Any claims, with orwithout merit, could result in costly litigation, reduced sales, significantliabilities and diversion of management’s time, attention and resources. TheCompany believes that it maintains adequate insurance coverage, includingproduct liability and employment practices liability insurance, to covercertain employment and product liability litigation. However, there can be noassurance that its insurance coverage is adequate or that it will continue tobe available to the Company on acceptable terms, if at all. A successful claimor series of claims brought against the Company could require it to paysubstantial amounts that could materially adversely affect the results of theCompany’s operations and financial conditions. While there can be no assurancesas to the ultimate outcome of any litigation involving the Company, managementdoes not believe any pending legal proceeding will result in a 

F-38

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**16.**   Commitments and Contingencies (Continued)

judgmentor settlement that will have a material adverse effect on the Company’sconsolidated financial position, results of operations or cash flows.

**17.**   Segment andGeographic Information

*Segment Information*

The Company has aggregatedits business units into four reportable segments: Respiratory Care, NeuroCare,MedSystems, and Orthopedics. The Respiratory Care segment develops,manufactures, markets and services products for the diagnosis and treatment ofrespiratory insufficiency caused by illness, injury or premature birth,pulmonary and sleep-related disorders. The NeuroCare segment principallydevelops, manufactures, markets, and services a comprehensive line ofneurodiagnostic, vascular and audiology systems. The MedSystems segmentdevelops, manufactures and markets medical imaging quipment and cardio-vascularimplants. The Orthopedics segment manufactures and markets disposable medicalproducts and specialty metal components for orthopedics. In classifying operationsinto a particular segment, the Company aggregates businesses with similareconomic characteristics, products and services, production processes,customers and methods of distribution.

In 2004 and prior, theCompany organized and operated its business through the following fourreportable segments:  RespiratoryTechnologies, Critical Care, NeuroCare and Medical and Surgical Products. Duringthe first quarter of 2005, the Company changed its reportable segments toreflect how it now manages its business. As a result, Respiratory Technologiesand Critical Care operating segments were combined into one operating segmentcalled Respiratory Care. The Company also split its Medical and SurgicalProducts operating segment into two separate segments:  MedSystems and Orthopedics.

F-39

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**17.**   Segment and Geographic Information (Continued)

Summarized financialinformation concerning the Company’s reportable segments is shown in thefollowing table.
|                                                         | ** ** | **2006**                | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                              | ** ** | **(In thousands)** | ** ** |
| Revenues:                                               |       |                    |       |     |       |     |       |
| Respiratory Care                                        |       | $                       | 405,569    |     | $          | 312,268  |       | $ | 248,229 |   |
| NeuroCare                                               |       | 127,463                 |       | 123,057  |       | 85,056   |       |
| Med Systems                                             |       | 35,017                  |       | 32,882   |       | 30,609   |       |
| Orthopedics                                             |       | 42,367                  |       | 41,767   |       | 29,308   |       |
|                                                    |       | $                       | 610,416    |     | $          | 509,974  |       | $ | 393,202 |   |
| Income from Continuing Operations Before Income  Taxes: |       |                    |       |     |       |     |       |
| Operating Income:                                       |       |                    |       |     |       |     |       |
| Respiratory Care                                        |       | $                       | 55,106     |     | $          | 5,841    |       | $ | 24,055 |   |
| NeuroCare                                               |       | 5,274                   |       | (1,639   | )          | (229     | )          |
| Med Systems                                             |       | 6,820                   |       | 6,174    |       | 5,884    |       |
| Orthopedics                                             |       | 6,201                   |       | 8,570    |       | 4,156    |       |
| Corporate(a)                                            |       | (21,650                 | )          | (14,187  | )          | (11,263  | )          |
| Operating Income                                        |       | 51,751                  |       | 4,759    |       | 22,603   |       |
| Other Income (Expense),  net                            |       | (3,503                  | )          | (1,522   | )          | 908      |       |
| Income from Continuing  Operations Before Income Taxes  |       | $                       | 48,248     |     | $          | 3,237    |       | $ | 23,511 |   |
| Total Assets:                                           |       |                    |       |     |       |     |       |
| Respiratory Care                                        |       | $                       | 498,776    |     | $          | 422,457  |       | $ | 279,914 |   |
| NeuroCare                                               |       | 158,615                 |       | 149,424  |       | 119,608  |       |
| Med Systems                                             |       | 25,889                  |       | 28,049   |       | 18,286   |       |
| Orthopedics                                             |       | 33,220                  |       | 36,560   |       | 25,024   |       |
| Corporate(b)                                            |       | 11,410                  |       | 12,097   |       | 105,004  |       |
|                                                    |       | $                       | 727,910    |     | $          | 648,587  |       | $ | 547,836 |   |
| Depreciation and Amortization:                          |       |                    |       |     |       |     |       |
| Respiratory Care                                        |       | $                       | 14,515     |     | $          | 12,632   |       | $ | 8,914 |   |
| NeuroCare                                               |       | 6,493                   |       | 6,499    |       | 3,825    |       |
| Med Systems                                             |       | 1,539                   |       | 1,292    |       | 1,018    |       |
| Orthopedics                                             |       | 2,196                   |       | 1,418    |       | 1,311    |       |
| Corporate                                               |       | 1,315                   |       | 612      |       | 507      |       |
|                                                    |       | $                       | 26,058     |     | $          | 22,453   |       | $ | 15,575 |   |
| Capital Expenditues(c):                                 |       |                    |       |     |       |     |       |
| Respiratory Care                                        |       | $                       | 12,836     |     | $          | 17,007   |       | $ | 7,813 |   |
| NeuroCare                                               |       | 5,819                   |       | 3,653    |       | 7,471    |       |
| Med Systems                                             |       | 1,199                   |       | 1,680    |       | 1,778    |       |
| Orthopedics                                             |       | 1,765                   |       | 3,278    |       | 2,683    |       |
| Corporate                                               |       | 3,046                   |       | 458      |       | 912      |       |
|                                                    |       | $                       | 24,665     |     | $          | 26,076   |       | $ | 20,657 |   |

----

(a)           Primarily general andadministrative expenses.

(b)          Primarily cash and cashequivalents and deferred tax assets.

(c)           Includespurchases of property, plant, and equipment and intangible assets, excludingacquisitions

F-40

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**17.**   Segment and Geographic Information (Continued)

*GeographicInformation*

Thefollowing table summarizes revenues and long-lived assets by geographic area.Revenues are based on the location in which the sale is settled. Long-livedasset data (which consists of property, plant and equipment, and other assets)is based on physical location.
|                          | ** ** | **2006**                | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **               | ** ** | **(In thousands)** | ** ** |
| Revenues:                |       |                    |       |     |       |     |       |
| United States            |       | $                       | 363,602    |     | $          | 292,450  |       | $ | 220,238 |   |
| International            |       | 246,814                 |       | 217,524  |       | 172,964  |       |
| Total Revenues           |       | $                       | 610,416    |     | $          | 509,974  |       | $ | 393,202 |   |
| Long-Lived Assets:       |       |                    |       |     |       |     |       |
| United States            |       | $                       | 41,522     |     | $          | 37,018   |       | $ | 26,014 |   |
| International:           |       |                    |       |     |       |     |       |
| Germany                  |       | 4,545                   |       | 3,067    |       | 3,383    |       |
| United Kingdom           |       | 12,654                  |       | 12,185   |       | 1,055    |       |
| Other                    |       | 3,446                   |       | 1,896    |       | 314      |       |
| Total Long-Lived  Assets |       | $                       | 62,167     |     | $          | 54,166   |       | $ | 30,766 |   |

 

There was no countryoutside of the U.S. in which revenues exceeded 10% of the Company’s totalrevenues in 2006, 2005 or 2004.

**18.**   SummarizedQuarterly Financial Data (Unaudited)

The Company’s quarterly reporting periods are thirteenweek periods ending on the Saturday nearest to the calendar- basis quarter end,and are consistently determined from year to year.

Summarizedquarterly financial results for the year ended December 30, 2006 are asfollows:
|                                   | ** ** | **For the Quarter Ended**                              | ** ** |
|-----------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                        | ** ** | **April 1,  2006**                                               | ** ** | **July 1,  2006** | ** ** | **September 30,  2006(a)** | ** ** | **December 30,  2006(a)** | ** ** |
| ** **                        | ** ** | **(In thousands, except per share amounts)** | ** ** |
| Revenues                          |       | $                                                                     | 135,519    |   | $ | 146,175 |   |   | $ | 144,653 |   |   |   | $ | 184,069 |   |   |
| Gross Margin                      |       | $                                                                     | 65,926     |   | $ | 67,937 |   |   | $ | 68,619 |   |   |   | $ | 88,610 |   |   |
| Income from Continuing Operations |       | $                                                                     | 5,501      |   | $ | 7,156 |   |   | $ | 4,566 |   |   |   | $ | 11,767 |   |   |
| Net Income                        |       | $                                                                     | 5,501      |   | $ | 7,156 |   |   | $ | 4,566 |   |   |   | $ | 11,767 |   |   |
| Earnings per Share:               |       |                                                                  |       |   |   |   |   |   |   |   |   |   |   |
| Basic:                            |       |                                                                  |       |   |   |   |   |   |   |   |   |   |   |
| Continuing Operations             |       | $                                                                     | 0.17       |   | $ | 0.22 |   |   | $ | 0.14 |   |   |   | $ | 0.36 |   |   |
| Diluted:                          |       |                                                                  |       |   |   |   |   |   |   |   |   |   |   |
| Continuing  Operations            |       | $                                                                     | 0.17       |   | $ | 0.22 |   |   | $ | 0.14 |   |   |   | $ | 0.35 |   |   |

 

----

(a)           During the quartersended September 30, 2006 and December 30, 2006, the Companyrespectively recorded $2,949,000 and $3,050,000 of purchased in-processresearch and development expenses in connection with three separate businesscombinations which are discussed in further detail in Note 19.

F-41

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**18.**   SummarizedQuarterly Financial Data (Unaudited) (Continued)

Summarized quarterly financial results for the yearended December 31, 2005 are as follows:
|                                          | ** ** | **For the Quarter Ended**                              | ** ** |
|------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                               | ** ** | **April 2,  2005 (1)**                                      | ** ** | **July 2,  2005** | ** ** | **October 1,  2005** | ** ** | **December 31,  2005** | ** ** |
| ** **                               | ** ** | **(In thousands, except per share amounts)** | ** ** |
| Revenues                                 |       | $                                                                     | 102,445    |   | $ | 125,431 |   | $ | 126,899 |   |   | $ | 155,197 |   |   |
| Gross Margin                             |       | $                                                                     | 47,873     |   | $ | 56,820 |   | $ | 60,850 |   |   | $ | 75,571 |   |   |
| Income (loss) from Continuing Operations |       | $                                                                     | 4,547      |   | $ | (30,876 | ) | $ | 4,316 |   |   | $ | 11,706 |   |   |
| Discontinued  Operations                 |       | 313                                                                   |       | 134 |   | 90 |   |   | 0 |   |   |
| Net Income (loss)                        |       | $                                                                     | 4,860      |   | $ | (30,742 | ) | $ | 4,406 |   |   | $ | 11,706 |   |   |
| Earnings (Loss)  per Share (2):          |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Basic:                                   |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Continuing Operations                    |       | $                                                                     | .15        |   | $ | (.99 | ) | $ | .14 |   |   | $ | .37 |   |   |
| Discontinued Operations                  |       | .01                                                                   |       | .01 |   | .00 |   |   | .00 |   |   |
|                                     |       | $                                                                     | .16        |   | $ | (.98 | ) | $ | .14 |   |   | $ | .37 |   |   |
| Diluted:                                 |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Continuing Operations                    |       | $                                                                     | .14        |   | $ | (.99 | ) | $ | .13 |   |   | $ | .36 |   |   |
| Discontinued Operations                  |       | .01                                                                   |       | (.01 | ) | .00 |   |   | .00 |   |   |
|                                     |       | $                                                                     | .15        |   | $ | (.98 | ) | $ | .13 |   |   | $ | .36 |   |   |

 

----

(1)          On June 30, 2005,the Company completed the sale of the OB and CV businesses that were acquiredfrom Oxford Medical in March 2005. Amounts have been restated for thequarter ended April 2, 2005 to reflect this business as a discontinuedoperation.

(2)          Duringthe quarter ended July 2, 2005, the Company recorded $34,909,000 ofpurchased in-process research and development expenses in connection with twoseparate business combinations which are discussed in further detail in Note19.

**19.   PurchasedIn-Process Research and Development Expenses**

During 2006 the Company recorded $5,999,000 million ofpurchased in-process research and development (“IPR&D”) expense inconnection with three separate business combinations, all of which wereaccounted for pursuant to SFAS No. 141 *Business Combinations.*

The Company recorded $1,100,000 of purchasedin-process research and development expense in connection with the acquisitionof Tiara. The portion of the Tiara purchase price allocated to in-processresearch and development was determined by the Company based on an independentthird party appraisal and represents the estimated fair value of the researchand development project in-process at the time of acquisition. The project hadnot yet reached technological feasibility, was deemed to have no alternativeuse and, accordingly, was immediately charged to operating expense at theacquisition date in accordance with FASB Interpretation No. 4, *applicability of FASB Statement No. 2 to Business CombinationsAccounted for by the Purchase Method*(“FIN 4”).

The technology acquired represents enhancements tosleep therapy mask designs. The Company believes that at the date ofacquisition the product enhancements were in pre-prototype phase. Developmentactivities include prototype design and regulatory approval. The Companyexpects to incur up to $900,000 to complete development of the technology. Theestimated fair value of the project was 

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**19.**   Purchased In-Process Research and Development Expenses(Continued)

determined by usingestimated future discounted cash flows at a discount rate of approximately 19%.The discount rate takes into account the stage of completion and the riskssurrounding successful development and commercialization. Risks to successfulcommercialization include attainment of patent protection and acceptance of thetechnology in the marketplace.

The Company recorded $1,849,000 of purchasedin-process research and development expense in connection with the acquisitionof BioBeat. The portion of the BioBeat purchase price allocated to in-processresearch and development was determined by the Company based on an independentthird party appraisal and represents the estimated fair value of the researchand development project in-process at the time of acquisition. The project hadnot yet reached technological feasibility, was deemed to have no alternativeuse and, accordingly, was immediately charged to operating expense at the acquisitiondate in accordance with FIN 4.

The technology acquired is related to DigitalTranscranial Doppler applications which will be integrated into the Company’scurrent Transcranial Doppler portfolio. The Company believes that at the dateof acquisition the technology was in the final stage of development.Development activities include obtaining FDA approval and additional softwaredevelopment related to additional functionality for U.S. market acceptance. TheCompany expects to incur up to $500,000 to complete development of thetechnology. The estimated fair value of the project was determined by usingestimated future discounted cash flows at a discount rate of approximately 44%.The discount rate takes into account the stage of completion and the riskssurrounding successful development and commercialization. Risks to successfulcommercialization include obtaining necessary regulatory approvals andacceptance of the technology in the marketplace.

The Company recorded $3,050,000 of purchasedin-process research and development expense in connection with the acquisitionof Hoffman Laboratories. The portion of the Hoffman purchase price allocated toin-process research and development was determined by the Company based on anindependent third party appraisal and represents the estimated fair value ofthe research and development project in-process at the time of acquisition. Theproject had not yet reached technological feasibility, was deemed to have noalternative use and, accordingly, was immediately charged to operating expenseat the acquisition date in accordance with FIN 4.

The technology acquired is related to the developmentof a first and second generation continuous positive airway pressure device forthe treatment of sleep disordered breathing. The Company believes that at thedate of acquisition the technology was in the prototype and pre-prototypestages of development. Development activities include final productdevelopment, prototype development and regulatory approval. The Company expectsto incur up to $1,000,000 to complete development of the first generationtechnology and $2,000,000 to complete the development of the second generationtechnology. The estimated fair value of the project was determined by usingestimated future discounted cash flows at a discount rate of approximately 30%.The discount rate takes into account the stage of completion and the riskssurrounding successful development and commercialization. Risks to successfulcommercialization include obtaining necessary regulatory approvals andacceptance of the technology in the market place.

During 2005, the Company recorded $34,909,000 ofpurchased in-process research and development expenses in connection with twoseparate business combinations, both of which were accounted for pursuant toSFAS No. 141, Business Combinations.

The Company recorded $3,409,000 of purchasedin-process research and development expenses in connection with the acquisitionof Micro Medical. The portion of the Micro Medical purchase price 

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**19.**   Purchased In-ProcessResearch and Development Expenses (Continued)

allocated to in-processresearch and development represents the estimated fair value of the researchand development project in-process at the time of acquisition. The project hadnot yet reached technological feasibility, was deemed to have no alternativeuse and, accordingly, was immediately charged to operating expense at theacquisition date in accordance with FASB Interpretation No. 4, *Applicability of FASB Statement No. 2 to Business CombinationsAccounted for by the Purchase Method* (“FIN 4”). This charge isincluded in the Company’s Consolidated Statements of Operations for the yearended December 31, 2005 as a separate component of operating expense.

The technology acquired was a versatile, portablespirometer which uses Micro Medical’s precision Gold Standard Digital VolumeTransducer especially suited to measuring very low flow rates in patients withchronic obstructive pulmonary disease. At the date of acquisition the projectwas in late-stage development, but further design and development was requiredat the date of acquisition. Development activities were substantially completedin 2005. The estimated fair value of the project was determined by usingestimated future discounted cash flows at a discount rate of 24%. The discountrate used takes into account the stage of completion and the risks surroundingsuccessful development and commercialization of the technology. Risks tocompletion of development within a reasonable period of time are relatively lowand risk to successful commercialization include acceptance of the technologyin the marketplace and competition. These products were commercialized in 2006.

The Company recorded $31,500,000 of purchasedin-process research and development expenses in connection with the acquisitionof Pulmonetics. The portion of the Pulmonetics purchase price allocated toin-process research and development was determined based on an independentthird party appraisal and represents the estimated fair value of the researchand development project in-process at the time of acquisition. The project hadnot yet reached technological feasibility, was deemed to have no alternativeuse and, accordingly, was immediately charged to operating expense at the acquisitiondate in accordance with FIN 4. This charge is included in the Company’sConsolidated Statements of Operations for the year ended December 31, 2005as a separate component of operating expense.

The technology acquired represents a portableventilator. The Company believes that at the date of acquisition the device wasin mid-stage development. Development activities include pilot testing andapproval from the United States Food and Drug Administration (“FDA”). In 2006,the Company incurred approximately $3,350,000 to further develop the technology.The Company expects to incur an additional amount up to $2,000,000 through 2007to complete the development of the technology. The estimated fair value of theproject was determined by using estimated future discounted cash flows at adiscount rate of approximately 16%. The discount rate used takes into accountthe stage of completion and the risks surrounding successful development andcommercialization of the technology. Risks to commercialization include approvalfrom the FDA and acceptance of the technology in the marketplace.

During 2004,****the Company recorded $386,000 of purchased in-processresearch and development expenses in connection with the acquisition ofTaugagreining**.**The portion of the Taugagreiningpurchase price allocated to in-process research and development expense wasdetermined by an independent third party appraisal and represents the estimatedfair value of the research and development project in-process at the time ofacquisition. The project had not yet reached technological feasibility, wasdeemed to have no alternative use and, accordingly, was immediately charged tooperating expense at the acquisition date in accordance with FIN 4. This chargeis included in the Company’s Consolidated Statements of Operations for the yearended January 1, 2005.

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**VIASYS HEALTHCARE INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**20.   SubsequentEvents**

In February 2007, the Company approved arestructuring plan to terminate employees and consolidate or co-locate certainfacilities. Under the plan, the Company expects to terminate employees and toconsolidate or co-locate facilities to lower its cost structure, to bringexpenses in line with its core businesses and enhance the near and long-termprofitability of the Company. In connection with the plan, the Company expectsto incur pre-tax charges from $13,000,000 to $16,000,000 and expects the planto be substantially complete by early 2008.

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**VIASYSHEALTHCARE INC.SCHEDULE II—VALUATION AND QUALIFYING ACCOUNTS**
| Description                         | ** ** | ** **              | ** ** | **Balance at  Beginning  of Year** | ** ** | **Acquisition  Adjustments** | ** ** | **Additions  Charged to  Costs and  Expenses** | ** ** | **Accounts  Written Off** | ** ** | **Other (a)** | ** ** | **Balance at  End of Year** | ** ** |
|-------------------------------------|------------|-------------------------|------------|----------------------------------------------|------------|------------------------------|------------|----------------------------------------------------------|------------|--------------------------------|------------|--------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **(in thousands)** | ** ** |
| **Allowance for Doubtful Accounts** |       |                    |       |                                         |       |                         |       |                                                     |       |                           |       |               |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Year Ended  December 30, 2006  |       |                    | $          | 6,024                                        |       |                         |       | $                                                        | 148        |                           |       |               | $          | 2,343                                      |       |   |   | $ | (2,494 | ) |   |   | $ | 410 |   |   |   | $ | 6,431 |   |   |
| Year Ended  December 31, 2005  |       |                    | $          | 5,113                                        |       |                         |       | $                                                        | 1,475      |                           |       |               | $          | 2,367                                      |       |   |   | $ | (2,544 | ) |   |   | $ | (387 | ) |   |   | $ | 6,024 |   |   |
| Year Ended  January 1, 2005    |       |                    | $          | 5,955                                        |       |                         |       | —                                                   |       |                           |       | $                  | 528        |                                       |       |   | $ | (1,491 | ) |   |   | $ | 121 |   |   |   | $ | 5,113 |   |   |

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(a)           Reflects primarily theeffects of foreign currency translation.

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**VIASYS HEALTHCAREINC.**

**EXHIBIT INDEX**
| Exhibit No. | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          | ** ** | ** ** |
|------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------|
| 3.1              |       | Amended and  Restated Certificate of Incorporation of the Company, is incorporated by  reference to Exhibit 3.2 to the Company’s Registration Statement on  Form 10/A, filed with the Commission on September 20, 2001.                                                                                                                                                                                                                                                                                                                                              |
| 3.2              |       | Certificate of  Amendment of Amended and Restated Certificate of Incorporation of the  Company, is incorporated by reference to Exhibit 3.3 to the Company’s  Registration Statement on Form 10/A, filed with the Commission on  October 24, 2001.                                                                                                                                                                                                                                                                                                                   |
| 3.3              |       | Certificate of  Amendment of Amended and Restated Certificate of Incorporation of the  Company, is incorporated by reference to Exhibit 3.1 to the Company’s  Current Report on Form 8-K filed with the Commission on  May 15, 2006.                                                                                                                                                                                                                                                                                                                                 |
| *3.4             |       | Amended and  Restated By-Laws of the Company, dated as of November 10, 2006.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| †10.1       |       | Amended and  Restated Employment Agreement, effective as of November 15, 2006, by and  between the Company and Randy H. Thurman, is incorporated by reference  to Exhibit 99.1 to the Company’s Current Report on Form 8-K,  filed with the Commission on November 15, 2006.                                                                                                                                                                                                                                                                               |
| †10.2       |       | Amended and  Restated Employment Agreement, dated as of May 26, 2006, by and between  the Company and Martin P. Galvan, is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                              |
| †10.3       |       | Amended and  Restated Employment Agreement, dated as of September 26, 2006, by and  between the Company and Edward Pulwer, is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K,  filed with the Commission on September 26, 2006, as amended by Letter  Agreement, effective as of November 15, 2006, by and between the Company  and Edward Pulwer, is incorporated by reference to Exhibit 99.2 to the  Company’s Current Report on Form 8-K, filed with the Commission on  November 15, 2006. |
| †10.4       |       | Amended and  Restated Employment Agreement, dated as of May 26, 2006, by and between  the Company and Lori J. Cross, is incorporated by reference to  Exhibit 10.3 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                     |
| 10.5             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Matthew M. Bennett, is incorporated by reference  to Exhibit 10.2 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                 |
| 10.6             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and John F. Imperato, is incorporated by  reference to Exhibit 10.6 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                              |
| 10.7             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Thomas I. Kuhn, is incorporated by reference to  Exhibit 10.7 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                     |
| 10.8             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Gregory G. Martin, is incorporated by reference  to Exhibit 10.8 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                  |
| 10.9             |       | Employment Agreement, dated as of May 26, 2006, by and between  the Company and Giulio A. Perillo, is incorporated by reference  to Exhibit 10.5 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                                                                                                  |

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| 10.10       |       | Change of Control Agreement, dated as of May 26, 2006, by and  between the Company and Scott Hurley, is incorporated by reference to  Exhibit 10.9 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                        |
|-------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.11       |       | Change of Control Agreement, dated as of May 26, 2006, by and  between the Company and Wesley N. Riemer, is incorporated by reference  to Exhibit 10.10 to the Company’s Current Report on Form 8-K,  filed with the Commission on June 2, 2006.                                                                                                                                                                                                                                   |
| **10.12**   | ** ** | **Plan and Agreement of  Distribution between the Company and Thermo Electron Corporation, is  incorporated by reference to Exhibit 10.1 to the Company’s Registration  Statement on Form 10/A, filed with the Commission on October 24,  2001.**                                                                                                                                                                                                                                       |
| 10.13       |       | Tax Matters  Agreement between the Company and Thermo Electron Corporation, is  incorporated by reference to Exhibit 10.2 to the Company’s Registration  Statement on Form 10/A, filed with the Commission on July 18, 2001.                                                                                                                                                                                                                                                            |
| 10.14       |       | Rights Agreement  between the Company and the Rights Agent, is incorporated by reference to  Exhibit 10.4 to the Company’s Registration Statement on Form 10/A,  filed with the Commission on July 18, 2001.                                                                                                                                                                                                                                                                            |
| †10.15 |       | VIASYS Healthcare  Inc. Indemnification Agreement between the Company and its directors and  officers, is incorporated by reference to Exhibit 10.5 to the Company’s  Registration Statement on Form 10/A, filed with the Commission on  July 18, 2001.                                                                                                                                                                                                                                 |
| †10.16 |       | VIASYS Healthcare Inc. Equity Incentive Plan (as Amended and  Restated on January 25, 2006), is incorporated by reference to  Exhibit 10.1 to the Company’s Current Report on Form 8-K  filed with the Commission on May 15, 2006.                                                                                                                                                                                                                                                 |
| †10.17 |       | VIASYS Healthcare  Inc. Deferred Compensation Plan for Directors, is incorporated by reference  to Exhibit 10.7 to the Company’s Registration Statement on  Form 10/A, filed with the Commission on October 24, 2001.                                                                                                                                                                                                                                                                   |
| 10.18       |       | Lease for  Millennium III of the Millennium Corporate Center, dated October 3,  2001, by and between the Company and Washington Street Associates II, L.P, is  incorporated by reference to Exhibit 10.15 to the Company’s Registration  Statement on Form 10/A, filed with the Commission on October 24,  2001.                                                                                                                                                                   |
| 10.19       |       | Credit Agreement,  dated as of May 3, 2005, among the Company, KeyBank National  Association, as co-lead arranger, sole book runner, swing line lender and  administrative agent, JP Morgan Chase Bank, N.A., as co-lead arranger and  syndication agent, Fifth Third Bank, as documentation agent, and certain  other bank parties therein, is incorporated by reference to Exhibit 99.1  to the Company’s Current Report on Form 8-K, filed with the  Commission on May 6, 2005. |
| *21.1       |       | List of  Subsidiaries of the Company.                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| *23.1       |       | Consent of  Independent Registered Public Accounting Firm.                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| *31.1       |       | Chief Executive Officer’s Rule 13a-14(a)/15d-14(a) Certification.                                                                                                                                                                                                                                                                                                                                                                                                                            |
| *31.2       |       | Chief Financial Officer’s Rule 13a-14(a)/15d-14(a) Certification.                                                                                                                                                                                                                                                                                                                                                                                                                            |
| *32.1       |       | 1350  Certifications                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |

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*                    Filedherewith.

†                    Indicates amanagement contract or compensatory plan or arrangement required to be filed asan exhibit to this Annual Report on Form 10-K.

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