**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

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**FORM 10-Q**

 

**(Mark One)**

 
| x | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)  OF THE SECURITIES EXCHANGE ACT OF 1934** |
|---|------------|----------------------------------------------------------------------------------------------|

 

**For the quarterly periodended September 30, 2006.**

 

**OR**

 
| o | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|---|------------|-----------------------------------------------------------------------------------------------|

 

**For the transition periodfrom                     to                    **

 

**Commissionfile number: 333-124080**

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**INTERDENT SERVICECORPORATION**

(Exact name of registrant as specified in its charter)

 

| **Washington**                                                   |   | **91-1577891**                        |
|------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                             |   |                                  |
| **222 No.  Sepulveda Blvd., Suite 740,  El Segundo, CA**         |   | **90245**                             |
| (Address of  principal executive offices)                        |   | (Zip Code)                            |

 

Registrant’s telephone number, including area code: **(310) 765-2400**

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of 1934during the preceding 12 months (or for such shorter period that the registrantwas required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes  x    No o

 

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer. Seedefinition of “accelerated filer and large accelerated filer” inRule 12b-2 of the Exchange Act. (Check one):

 

Large acceleratedfiler o        Acceleratedfiler o        Non-acceleratedfiler x

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act). Yes  o    No  x

 

Numberof shares of common stock outstanding as of November 9, 2006: 105,521

 

**TABLE OFADDITIONAL REGISTRANT**

 
| Exact Name of Registrant | ** ** | **State of Incorporation** | ** ** | **I.R.S. Employer  Identification Number** |
|--------------------------|------------|----------------------------|------------|--------------------------------------------|
| InterDent, Inc.          |       | Delaware                   |       | 95-4710504                                 |

 

 

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INTERDENT SERVICE CORPORATION

TABLE OF CONTENTS
| PART I   |   | FINANCIAL  INFORMATION                                                                                              |   |   |
|----------|--------|---------------------------------------------------------------------------------------------------------------------|--------|--------|
|     |   |                                                                                                                |   |   |
| Item 1.  |   | Financial  Statements                                                                                               |   |   |
|     |   | Consolidated  Balance Sheets at September 30, 2006 (unaudited) and December 31, 2005                                |   |   |
|     |   | Consolidated  Statements of Operations for the three and nine months ended September 30,  2006 and 2005 (unaudited) |   |   |
|     |   | Consolidated  Statements of Cash Flows for the nine months ended September 30, 2006 and 2005 (unaudited)  |   |   |
|     |   | Condensed  Notes to Consolidated Financial Statements (unaudited)                                                   |   |   |
|     |   |                                                                                                                |   |   |
| Item  2. |   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         |   |   |
| Item 3.  |   | Quantitative  and Qualitative Disclosure About Market Risk                                                          |   |   |
| Item  4. |   | Controls  and Procedures                                                                                            |   |   |
|     |   |                                                                                                                |   |   |
| PART II  |   | OTHER  INFORMATION                                                                                                  |   |   |
| Item 1.  |   | Legal  Proceedings                                                                                                  |   |   |
| Item 1A. |   | Risk Factors                                                                                                        |   |   |
| Item 6.  |   | Exhibits and  Reports on Form 8-K                                                                                   |   |   |
|     |   | Signatures                                                                                                          |   |   |

 

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PART I – FINANCIALINFORMATION

**Item 1. FinancialStatements.**

**INTERDENT, INC. AND SUBSIDIARIES**

Consolidated BalanceSheets

(dollars in thousands)
| ** **                                                                                                                   | ** ** | **September 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                   | ** ** | ** (unaudited) **  | ** ** | ** **                  | ** ** |
| **Assets**                                                                                                                   | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Current assets:                                                                                                              |       |                         |       |                        |       |
| Cash and cash  equivalents                                                                                                   |       | $                            | 2,040      |                        | $          | 1,519 |   |
| Marketable  securities                                                                                                       |       | 918                          |       | —                      |       |
| Accounts  receivable, net of allowances of $2,192 and $1,909 at September 30, 2006 and  December 31, 2005, respectively |       | 12,217                       |       | 12,645                      |       |
| Supplies  inventory                                                                                                          |       | 6,306                        |       | 6,454                       |       |
| Prepaid expenses  and other current assets                                                                                   |       | 3,266                        |       | 3,291                       |       |
| Total current  assets                                                                                                        |       | 24,747                       |       | 23,909                      |       |
|                                                                                                                         |       |                         |       |                        |       |
| Property and equipment,  net                                                                                                 |       | 24,460                       |       | 23,883                      |       |
| Goodwill                                                                                                                     |       | 74,637                       |       | 74,774                      |       |
| Intangible assets, net                                                                                                       |       | 14,801                       |       | 16,006                      |       |
| Other assets                                                                                                                 |       | 5,772                        |       | 6,247                       |       |
| Total assets                                                                                                                 |       | $                            | 144,417    |                        | $          | 144,819 |   |
|                                                                                                                         |       |                         |       |                        |       |
| **Liabilities**                                                                                                              | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Current liabilities:                                                                                                         |       |                         |       |                        |       |
| Accounts payable                                                                                                             |       | $                            | 5,992      |                        | $          | 8,060 |   |
| Accrued payroll  and related costs                                                                                           |       | 9,920                        |       | 9,461                       |       |
| Accrued interest                                                                                                             |       | 2,531                        |       | 393                         |       |
| Other current  liabilities                                                                                                   |       | 8,889                        |       | 10,336                      |       |
| Current portion  of capital lease obligations                                                                                |       | 93                           |       | 90                          |       |
| Total current  liabilities                                                                                                   |       | 27,425                       |       | 28,340                      |       |
|                                                                                                                         |       |                         |       |                        |       |
| Long-term liabilities:                                                                                                       |       |                         |       |                        |       |
| Capital lease  obligations, net of current portion                                                                           |       | 169                          |       | 239                         |       |
| Senior secured  revolving credit facility                                                                                    |       | —                       |       | 1,308                       |       |
| Senior secured  notes                                                                                                        |       | 80,000                       |       | 80,000                      |       |
| Mandatorily  redeemable preferred stock                                                                                      |       | 4,572                        |       | 4,088                       |       |
| Deferred  compensation liability                                                                                             |       | 1,106                        |       | —                      |       |
| Deferred rent  and other long-term liabilities                                                                               |       | 1,575                        |       | 1,052                       |       |
| Accumulated  dividends                                                                                                       |       | 1,337                        |       | 998                         |       |
| Total long-term  liabilities                                                                                                 |       | 88,759                       |       | 87,685                      |       |
| Total  liabilities                                                                                                           |       | 116,184                      |       | 116,025                     |       |
| ** **                                                                                                                   | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| **Shareholders’ equity**                                                                                                | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Convertible  preferred stock, $0.001 par value, 281,679 shares authorized:                                                   |       |                         |       |                        |       |
| Class A 229,007  shares authorized, 1,000 shares issued and outstanding at September 30,  2006 and December 31, 2005    |       | —                       |       | —                      |       |
| Class B 52,672  shares authorized, issued and outstanding at September 30, 2006 and December 31,  2005                  |       | 8,650                        |       | 8,650                       |       |
| Common stock,  $0.001 par value, 981,679 shares authorized:                                                                  |       |                         |       |                        |       |
| Class A 229,007  shares authorized, zero shares issued and outstanding at September 30, 2006  and December 31, 2005          |       | —                       |       | —                      |       |
| Class B 52,672  shares authorized, zero shares issued and outstanding at September 30, 2006  and December 31, 2005           |       | —                       |       | —                      |       |
| Class C 700,000  shares authorized; 105,521 shares issued and outstanding at September 30,  2006 and December 31, 2005       |       | —                       |       | —                      |       |
| Additional  paid-in capital                                                                                                  |       | 21,619                       |       | 21,592                      |       |
| Accumulated  deficit                                                                                                         |       | (2,062                       | )          | (1,448                      | )          |
| Accumulated  other comprehensive income                                                                                      |       | 26                           |       | —                      |       |
| Total  shareholders’ equity                                                                                             |       | 28,233                       |       | 28,794                      |       |
| Total liabilities and  shareholders’ equity                                                                             |       | $                            | 144,417    |                        | $          | 144,819 |   |

 

See accompanyingcondensed notes to consolidated financial statements.

1

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**INTERDENT, INC.AND SUBSIDIARIES**

Consolidated Statementsof Operations

(unaudited,dollars in thousands)
| ** **                                                 | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|------------------------------------------------------------|------------|------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                 | ** ** | **2006**                                             | ** ** | **2005**                                       | ** ** | **2006** | ** ** | **2005** | ** ** |
|                                                       |       |                                                 |       |                                           |       |   |   |   |   |
| **Revenues:**                                              | ** ** | ** **                                           | ** ** | ** **                                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Dental practice net patient service revenue                |       | $                                                    | 52,444     |                                           | $          | 51,885 |   | $ | 162,438 |   | $ | 159,276 |   |
| Other fees                                                 |       | 150                                                  |       | 284                                            |       | 713 |   | 865 |   |
| Total revenues                                             |       | 52,594                                               |       | 52,169                                         |       | 163,151 |   | 160,141 |   |
| **Costs  and expenses:**                                   | ** ** | ** **                                           | ** ** | ** **                                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Cost of revenues:**                                      | ** ** | ** **                                           | ** ** | ** **                                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Clinical salaries, benefits, and provider costs            |       | 25,945                                               |       | 25,569                                         |       | 79,775 |   | 77,697 |   |
| Practice non-clinical salaries and benefits                |       | 6,936                                                |       | 7,432                                          |       | 21,671 |   | 22,436 |   |
| Dental supplies and lab expenses                           |       | 5,766                                                |       | 5,605                                          |       | 16,859 |   | 16,504 |   |
| Practice occupancy expenses                                |       | 3,710                                                |       | 3,494                                          |       | 10,874 |   | 10,121 |   |
| Practice selling, general and administrative  expenses     |       | 4,002                                                |       | 4,229                                          |       | 12,088 |   | 13,049 |   |
| Provision for doubtful accounts                            |       | 393                                                  |       | 456                                            |       | 1,153 |   | 1,144 |   |
| Total cost of revenues                                     |       | 46,752                                               |       | 46,785                                         |       | 142,420 |   | 140,951 |   |
| Corporate selling, general and administrative  expenses    |       | 2,496                                                |       | 2,185                                          |       | 8,544 |   | 7,313 |   |
| Stock-based compensation expense                           |       | 7                                                    |       | 7                                              |       | 21 |   | 20 |   |
| Depreciation and amortization                              |       | 1,414                                                |       | 1,346                                          |       | 4,239 |   | 3,925 |   |
| Total operating expenses                                   |       | 50,669                                               |       | 50,323                                         |       | 155,224 |   | 152,209 |   |
| Operating income                                           |       | 1,925                                                |       | 1,846                                          |       | 7,927 |   | 7,932 |   |
| **Non-operating  (income) expense:**                       | ** ** | ** **                                           | ** ** | ** **                                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest income                                            |       | (31                                                  | )          | (19                                            | )          | (88 | ) | (30 | ) |
| Interest expense                                           |       | 2,606                                                |       | 2,605                                          |       | 7,774 |   | 7,660 |   |
| Other income                                               |       | —                                               |       | —                                         |       | (9 | ) | (164 | ) |
| Other expense                                              |       | 42                                                   |       | 30                                             |       | 372 |   | 61 |   |
| Non-operating expense, net                                 |       | 2,617                                                |       | 2,616                                          |       | 8,049 |   | 7,527 |   |
| (Loss) income before (benefit) provision for income  taxes |       | (692                                                 | )          | (770                                           | )          | (122 | ) | 405 |   |
| (Benefit) provision  for income taxes                      |       | (204                                                 | )          | (367                                           | )          | 153 |   | 193 |   |
| Net (loss) income                                          |       | (488                                                 | )          | (403                                           | )          | (275 | ) | 212 |   |
| Accumulated  dividends on preferred stock                  |       | (118                                                 | )          | (114                                           | )          | (339 | ) | (319 | ) |
| Net loss income  attributed to common stock                |       | $                                                    | (606       | )                                              | $          | (517 | ) | $ | (614 | ) | $ | (107 | ) |

 

See accompanyingcondensed notes to consolidated financial statements.

2

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**INTERDENT, INC.AND SUBSIDIARIES**

Consolidated Statementsof Cash Flows

(unaudited,dollars in thousands)
| ** **                                                                                    | ** ** | **Nine Months Ended September 30,** | ** ** |
|-----------------------------------------------------------------------------------------------|------------|----------------------------------------------------|------------|
| ** **                                                                                    | ** ** | **2006**                                           | ** ** | **2005** | ** ** |
| ** **                                                                                    | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| **Operating  activities**                                                                     | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| Net (loss)  income                                                                            |       | $                                                  | (275       | ) | $ | 212 |   |
| **Adjustments  to reconcile net (loss) income to net cash provided by operating activities:** | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| Depreciation and amortization                                                                 |       | 4,239                                              |       | 3,925 |   |
| Provision for revenue adjustments and doubtful  accounts                                      |       | 1,153                                              |       | 1,144 |   |
| Loss on dental location dispositions and disposal of  assets                                  |       | 393                                                |       | 60 |   |
| Change in deferred taxes                                                                      |       | 301                                                |       | 122 |   |
| Interest paid in kind                                                                         |       | 484                                                |       | 440 |   |
| Interest amortization on deferred financing costs  and discounted debt                        |       | 639                                                |       | 619 |   |
| Deferred compensation expense                                                                 |       | 1,106                                              |       | — |   |
| Stock-based compensation expense                                                              |       | 27                                                 |       | 20 |   |
| Recognition of deferred revenues                                                              |       | 305                                                |       | (248 | ) |
| Deferred rent and other long-term liabilities                                                 |       | 523                                                |       | 507 |   |
| Other                                                                                         |       | (6                                                 | )          | — |   |
| **Changes  in assets and liabilities:**                                                       | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| Accounts receivable                                                                           |       | (725                                               | )          | 809 |   |
| Supplies inventory                                                                            |       | 148                                                |       | (400 | ) |
| Prepaid expenses and other current assets                                                     |       | 25                                                 |       | 1,670 |   |
| Other assets                                                                                  |       | (322                                               | )          | (134 | ) |
| Accounts payable                                                                              |       | (2,068                                             | )          | (1,604 | ) |
| Accrued payroll and related costs                                                             |       | 459                                                |       | (358 | ) |
| Accrued interest                                                                              |       | 2,138                                              |       | 2,555 |   |
| Other current liabilities                                                                     |       | (1,682                                             | )          | (1,596 | ) |
| Net cash provided by operating activities                                                     |       | 6,862                                              |       | 7,743 |   |
| **Investing  activities**                                                                     | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| Marketable securities                                                                         |       | (892                                               | )          | — |   |
| Purchase of property and equipment                                                            |       | (4,004                                             | )          | (6,964 | ) |
| Cash received for trailing acquisition costs and  earn-outs                                   |       | —                                             |       | 67 |   |
| Net cash used in investing activities                                                         |       | (4,896                                             | )          | (6,897 | ) |
| **Financing  activities**                                                                     | ** ** | ** **                                         | ** ** | ** ** | ** ** |
| Net payments on revolving credit facility                                                     |       | (1,308                                             | )          | — |   |
| Payments on long-term debt and obligations under  capital leases                              |       | (66                                                | )          | (574 | ) |
| Changes in bank overdraft balances                                                            |       | (71                                                | )          | 1,295 |   |
| Net cash (used in) provided by financing activities                                           |       | (1,445                                             | )          | 721 |   |
| Increase in cash and cash equivalents                                                         |       | 521                                                |       | 1,567 |   |
| Cash and cash  equivalents, beginning of period                                               |       | 1,519                                              |       | — |   |
| Cash and cash  equivalents, end of period                                                     |       | $                                                  | 2,040      |   | $ | 1,567 |   |

 

See accompanyingcondensed notes to consolidated financial statements.

3

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**1.             Our Company**

InterDent Service Corporation, the principal operatingsubsidiary of InterDent, Inc. (collectively, We, InterDent or the Company)provides dental practice management services to multi specialty group dentalpractices in the United States. Our network of affiliated dental practicesseeks to provide comprehensive, convenient and high quality general dentistryas well as dental specialty services such as orthodontics, periodontics,endodontics, pediatric dentistry, prosthodontics and oral surgery.  We do not engage in the practice ofdentistry, but rather work with affiliated dental practices or professionalcorporations (PC) to enhance the business operations of their practices. Weenter into management service agreements with these affiliated dental practicespursuant to which we provide them, on an exclusive basis, with management andadministrative services.

As of September30, 2006, we provided management services to 128 affiliated dental practices inArizona, California, Hawaii, Kansas, Nevada, Oklahoma, Oregon and Washingtonand own and operate one dental laboratory in Oklahoma.

**2.             Basis of Presentation**

Following therules and regulations of the Securities and Exchange Commission, or SEC, wehave omitted footnote disclosures that would substantially duplicate thedisclosures in our annual audited financial statements. The accompanyingconsolidated financial statements should be read in conjunction with thefinancial statement disclosures from our 2005 Consolidated Financial Statementscontained in our 10-K filed April 11, 2006 with the SEC.  The sameaccounting policies are followed in preparing quarterly financial data as arefollowed in preparing annual data. In the opinion of management, alladjustments necessary for a fair presentation of quarterly operating resultsare reflected herein and are of a normal, recurring nature.

A reclassificationhas been made to the 2005 consolidated financial statements to conform to thecurrent period presentation.  Accruedinterest which was included in other current liabilities is statedseparately.  The consolidated statementof cash flows reflects a reclassification for the provision for revenueadjustments and doubtful accounts from accounts receivable as well as areclassification of interest paid in kind from other current liabilities.  As a result, the consolidated statement ofcash flows for the nine months ended September 30, 2005 reflects areclassification of $2,995,000 in adjustments to reconcile net (loss) income tonet cash provided by operating activities with the corresponding offset inchanges in assets and liabilities.  Therewas no change in the net cash provided by operating activities.

We operate in oneprincipal business segment as a provider of dental practice management servicesto multi specialty group dental practices in the United States.

**3.             Summary of Significant AccountingPolicies**

*Netrevenues*

Dental practice net patient service revenue (Net PatientRevenue) represents the consolidated revenue of the affiliated PCs and isrecorded when the related work is completed. Revenue related to prepayments,typically for multi-visit procedures, is deferred until the multi-visitprocedure is completed. Revenue is recorded at the estimated net realizableamount to be received from patients, third party payors and others, net of aprovision for fee schedule adjustments.

Net Patient Revenue includes amounts received under capitated managed care contracts.  A portion of these capitated revenue premiums are received at certain wholly-owned subsidiaries that are subject to regulatory review and oversight by various state agencies. The subsidiaries are required to, among other things, file statutory financial statements with the state agencies and maintain minimum tangible net equity balances and restricted deposits. The Company is in compliance with such requirements as of September 30, 2006. Total revenues subject to regulatory review and oversight by various state agencies were $10.8 million and $9.8 million and $32.7 million and $30.0 million for the three and nine months ended September 30, 2006 and 2005, respectively.

4

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*Stock-basedcompensation*

On January 1,2006, we adopted Statement of Financial Accounting Standard (SFAS) No. 123R, “Share-BasedPayment,” or SFAS 123R.  In accordancewith SFAS 123R, the Company measures the cost of employee services received inexchange for an award of equity instruments based on the grant-date fair valueof the award.  That cost is recognizedover the period during which an employee is required to provide service inexchange for the award — the requisite service period.  No compensation cost is recognized for equityinstruments for which employees do not render the requisite service.  The Company determines the grant-date fairvalue of employee share options granted after the adoption of SFAS 123R usingthe Black-Scholes option-pricing model adjusted for the unique characteristicsof these options.

Prior to adoptionof SFAS 123R, we accounted for grants under the stock option plan using eitherthe minimum value method as permitted for non-public entities in SFAS No. 123 “Accountingfor Stock-Based Compensation,” or SFAS 123, for grants at the market price atthe date of the grant or the intrinsic value method for grants issued below themarket price at the date of the grant in accordance with Accounting PrinciplesBoard Opinion No. 25, “Accounting for Stock Issued to Employees”, or APB 25adopting the disclosure only provisions of SFAS 123. Entities that used theminimum value method of measuring equity share options prior to adoption ofSFAS 123R are to apply SFAS 123R prospectively to awards issued, modified,repurchased, or canceled after adoption and continue to account for any portionof awards outstanding at the date of the initial application using the accountingprinciples originally applied to those awards. Accordingly, periods prior to the adoption of SFAS 123R will not berestated.  Options accounted for underthe intrinsic value method will continue to be expensed over the vestingperiod.

The pro-formacompensation costs for outstanding awards granted prior to adoption of SFAS123R are presented below:
| ** **                                                                                                                                      | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| **(in thousands)**                                                                                                                         | ** ** | **2006**                                             | ** ** | **2005**                                            | ** ** | **2006** | ** ** | **2005** | ** ** |
|                                                                                                                                            |       |                                                 |       |                                                |       |   |   |   |   |
| Net (loss)  income, as reported                                                                                                                 |       | $                                                    | (488       | )                                                   | $          | (403 | ) | $ | (275 | ) | $ | 212 |   |
|                                                                                                                                            |       |                                                 |       |                                                |       |   |   |   |   |
| Add: Stock-based  employee compensation expense included in reported net income, net of related  tax effect                                     |       | 4                                                    |       | 4                                                   |       | 12 |   | 12 |   |
| Deduct: Total  stock-based employee compensation expense determined under minimum value  based method for all awards, net of related tax effect |       | (15                                                  | )          | (31                                                 | )          | (52 | ) | (72 | ) |
|                                                                                                                                            |       |                                                 |       |                                                |       |   |   |   |   |
| Net (loss) income, pro  forma                                                                                                                   |       | $                                                    | (499       | )                                                   | $          | (430 | ) | $ | (315 | ) | $ | 152 |   |

 

See note 5 for further discussion on stock-basedcompensation.

*Marketable securities*

The Company considers itsmarketable securities as available-for-sale as defined in the SFAS No. 115, “Accountingfor Certain Investments in Debt and Equity Securities,” or SFAS 115. Theseinvestments are recorded at fair value and are classified as marketablesecurities in the accompanying consolidated balance sheets as of September 30,2006. The changes in fair values, net of applicable taxes, are recorded asunrealized gains (losses) as a component of accumulated other comprehensiveincome in shareholders’ equity. Increases in the fair values for the ninemonths ended September 30, 2006 were $26,000.

5

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*Goodwill*

The change in goodwill in the nine months ended September 30, 2006 isrelated to the utilization of pre-emergence deferred tax assets.

## *Deferred compensation*

On January 1,2006, we adopted an elective non-qualified Deferred Incentive CompensationRetirement Plan (the 2006 Plan) to provide certain employees and affiliatedprofessionals an opportunity to voluntarily defer compensation on a pre-tax basis.Additionally, the Company will make bonus contributions to the 2006 Plan onbehalf of our affiliated dentists based on predetermined performance goals.These bonus contributions vest and will be recorded as compensation expense bythe Company starting with the period earned through the end of the serviceperiod, typically 3 to 4 years. The Company intends to make its first bonuscontribution in December 2007.

A rabbi trust isthe funding vehicle that is used to hold the deferred compensation amounts thatare invested in mutual funds within the trust. Accounting for the 2006 Plan isin accordance with Emerging Issues Task Force (EITF) 97-14 “Accounting forDeferred Compensation Arrangements Where Amounts Earned are Held in a RabbiTrust and Invested”.  The rabbi trustassets held in mutual fund securities are deemed to be “available for sale”with unrealized gains and losses excluded from earnings and reported in aseparate component of shareholders’ equity according to SFAS 115 and SFAS 158 “Employers’Accounting for Defined Benefit Pension and Other Postretirement Plans, anamendment of FASB Statements No. 87, 88 106 and 132R”.

## *Self-insurance*

The Company utilizes highdeductible insurance programs for workers’ compensation, professionalliability, and substantially all of the employee medical benefit plans.  The Company has utilized the medical benefitplan since 2003 and the workers’ compensation and professional liability beganin January 2005 and November 2005, respectively. Under these plans, the Companyassumed first dollar coverage responsibility and limits its exposure throughthe use of individual and aggregate stop-loss agreements.

The Company records an estimatedliability for self-insured deductibles and claims incurred but not paid basedon management’s estimates of the aggregate liability for uninsured claims usingactuarial assumptions and historical loss patterns.  The reserve for the workers’ compensation andprofessional liability is recorded in other current liabilities on the balancesheet. The reserve for the employee medical plans is recorded in accruedpayroll and related costs.  The amountsreserved for claims incurred but not paid are as follows (dollars inthousands):
|                               | ** ** | **September 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|-------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                    | ** ** | **(unaudited)**              | ** ** | ** **                  | ** ** |
| Workers’  compensation   |       | $                            | 785        |                        | $          | 441 |   |
| Professional  liability       |       | 185                          |       | —                      |       |
| Employee medical              |       | 675                          |       | 575                         |       |
| Total  self-insurance reserve |       | $                            | 1,645      |                        | $          | 1,016 |   |

 

Although management believes it has the ability toadequately estimate losses related to claims, it is possible that actualresults could differ from recorded self-insurance liabilities.

*Use ofestimates*

The preparation offinancial statements in conformity with generally accepted accountingprinciples requires management to make estimates and assumptions that affectreported amounts of assets and liabilities, revenues and expenses and relateddisclosures of contingent assets and liabilities in the consolidated financialstatements and accompanying notes. There is a possibility that actual resultsmay vary significantly from those estimates.

6

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*Accountingpronouncements*

In May 2005, the Financial Accounting Standards Board,or FASB, issued SFAS No. 154, “Accounting Changes and Error Corrections—AReplacement of APB Opinion No. 20 and FASB Statement No. 3” or SFAS 154. SFAS154 requires that a voluntary change in accounting principle be appliedretrospectively with all prior period financial statements presented on the newaccounting principle, unless it is impracticable to do so. SFAS 154 also providesthat (1) a change in method of depreciating or amortizing a long-livednonfinancial asset be accounted for as a change in estimate (prospectively)that was affected by a change in accounting principle, and (2) correction oferrors in previously issued financial statements shall be termed a “restatement.”SFAS 154 is effective for accounting changes and corrections of errors made infiscal years beginning after December 15, 2005. The implementation of SFAS 154,effective January 1, 2006 did not have a material impact on the Company’sconsolidated financial statements.

On November 10,2005, FASB issued FASB Staff Position (FSP) No. FAS 123R-3, “TransitionElection Related to Accounting for the Tax Effects of Share-Based PaymentAwards”.  This FSP allows companies usingeither the modified retrospective or modified prospective application to make aone-time election to adopt the transition method described in the FSP and alsoallowed companies to take up to one year from the later of its initial adoptionof Statement 123R or the effective date of this FSP to evaluate its availabletransition alternatives and make its one-time election.  We are currently evaluating the availabletransition alternatives and have not yet made a determination of which method wewill be using.

In March 2006, theFASB issued EITF No. 06-03, “How Taxes Collected from Customers and Remitted toGovernmental Authorities Should Be Presented in the Income Statement (that is,Gross versus Net Presentation)” which requires a reevaluation of existingpolicies as to gross versus net reporting of taxes and the subsequentdisclosure of taxes reported on a gross basis, of significant taxes. Thedisclosure requirements are effective for interim and annual reporting periodsbeginning after December 15, 2006. We are in the process of reevaluatingexisting policies and have not made a decision regarding presentation anddisclosure of these taxes in the financial statements in accordance with SFAS154.

In June 2006, theFASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertaintyin Income Taxes—an interpretation of FASB Statement No. 109,” to clarify theaccounting for uncertainty in income taxes recognized in the financialstatements in accordance with FASB Statement No. 109, “Accounting for IncomeTaxes”. This Interpretation prescribes a recognition threshold and measurementcriteria for the recognition and measurement of a tax position taken orexpected to be taken in a tax return. FIN 48 also provides guidance onderecognition, classification, interest and penalties, accounting in interimperiods, disclosure and transition. FIN 48 is effective for years beginningafter December 15, 2006. We are currently evaluating the effect that theadoption of FIN 48 will have on our consolidated results of operations andfinancial condition but do not expect this Interpretation to have a materialimpact.

In September 2006,the FASB issued SFAS No. 157, “Fair Value Measurements” which clarified thedefinition of fair value and the methods used to measure fair value, andexpanded disclosures about fair value measurements.   SFAS is effective for financial statementsissued for fiscal years beginning after November 15, 2007, and interim periodswithin those fiscal years.  We do notanticipate any adjustments to the fair value recorded in the financialstatements; we forsee that implementation of this SFAS will only expand theexisting disclosure of fair value measurements.

In September 2006,the FASB issued SFAS No. 158 requiring employers without publicly traded equitysecurities to initially apply the requirement to recognize the funded status ofthe benefit plan and the disclosure requirements as of the end of the fiscalyear ending after June 15, 2007.  We haveelected to early adopt this Statement and the financial statements anddisclosures currently reflect the requirements of this statement.

On September 13, 2006,the SEC issued Staff Accounting Bulletin “SAB” No. 108 on “Consideration of theEffects of Prior Year Misstatements in Quantifying Current Year Misstatementsfor the Purpose of a Materiality Assessment”. This SAB requires registrants to quantify the impact of correcting allmisstatements, including both the carryover and reversing effects of prior yearmisstatements, on the current year financial statements using both the rolloverand the iron curtain approach.  This SABis effective for financial statements for fiscal years ending on or afterNovember 15, 2006. We have elected to early adopt this SAB.  We have evaluated the impact of the prioryear errors under both approaches and no adjustment to the prior year financialstatements was deemed necessary as the adjustments under both approaches wereconsidered to be immaterial. Accordingly, this 10-Q does not reflect any amendment of the prior yearfinancial statements and no one-time transitional cumulative effect adjustmenthas been made to the financial statements.

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In October 2006, the SECissued its final rule on “Executive Compensation and Related Person Disclosure”,requiring disclosure of compensation earned by a company’s principal executiveofficer, principal financial officer and highest paid executive officers andmembers of its board of directors.  Thisruling is effective for triggering events that occur on or after November 7,2006 for Forms 8-K and for fiscal years ending on or after December 15, 2006for Forms 10-K. We are currently evaluating the disclosure requirements of thisruling.

#### **4.             Related PartyTransactions**

In April 2005, ourboard of directors authorized the payment of an annual management fee in theamount of $0.25 million to our majority shareholder for certain services to beprovided to us for the year and $0.25 million in annual director fees.  This agreement is in effect until eitherparty terminates the agreement.

**5.             Stock-Based Compensation**

On April 28,2005, the Company adopted the InterDent, Inc. Amended and Restated 2003Stock Option Plan (2003 Stock Option Plan) under which the Company’s Board ofDirectors (Board) may issue incentive and non-qualified stock options topurchase up to 33,726 shares of the Company’s Class C Common Stock. Stockoptions issued under the 2003 Stock Option Plan are generally granted with anexercise price equal to the market price of our stock at the date of grant andshall be exercisable up to ten years from the grant date as determined by theBoard. Options granted under the 2003 Stock Option Plan typically vest over a 4year period. The following table summarizes stock option activity as ofDecember 31, 2005 and changes during the nine months ended September 30, 2006.

 
|                                        | ** ** | **Number of  Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted  Average  Remaining  Contractual  Term (in years)** | ** ** | **Aggregate  Intrinsic  Value (in  thousands)** | ** ** |
|----------------------------------------|------------|----------------------------|------------|----------------------------------------|------------|--------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| Outstanding at  December 31, 2005 |       | 33,387                     |       | $                                      | 157.76     |                                                                     | —     |                                                 | —     |   |
| Granted                                |       | 811                        |       | 175.52                                 |       | —                                                                   |       | —                                               |       |
| Exercised                              |       | —                     |       | —                                 |       | —                                                                   |       | —                                               |       |
| Forfeited                              |       | (472                       | )          | 153.69                                 |       | —                                                                   |       | —                                               |       |
| Cancelled                              |       | —                     |       | —                                 |       | —                                                                   |       | —                                               |       |
| Outstanding at  September 30, 2006     |       | 33,726                     |       | $                                      | 157.63     |                                                                     | 3.4        |                                                 | $          | 589 |   |
| Exercisable at  September 30, 2006     |       | 22,952                     |       | $                                      | 155.56     |                                                                     | 2.9        |                                                 | $          | 458 |   |

 

Under the modifiedprospective transition method prescribed by SFAS 123R, the Company is requiredto record compensation expense for all awards granted after the date ofadoption. The Company measured stock based compensation using the Black-Scholesoption pricing model. The following ranges of assumptions were used to computeemployee stock based compensation under SFAS 123R:

 
| Risk free interest rate                       |   | 4.9  | %      |
|-----------------------------------------------|--------|------|--------|
| Expected  volatility                          |   | 49.0 | %      |
| Expected  dividend yield                      |   | 0    | %      |
| Expected life  (in years)                     |   | 3    |   |
| Forfeiture rate                               |   | 10   | %      |
| Weighted average  fair value at date of grant |   | $    | 66.39  |   |
|                                               |        |      |        |  |

 

Expectedvolatility is based upon an appropriate peer group within the Company’sindustry sector. The expected life of the awards represents the period of timethat management estimates that options granted will be outstanding.

The Company usedhistorical information to estimate forfeitures within the valuation model. Therisk-free interest rate for periods within the expected life of the option is basedon implied yields on U.S. Government Issues in effect at the time of grant.Compensation cost is recognized over the vesting period using a graded vestingschedule and net of estimated forfeitures.

The Companyrecognized in the statement of operations $6,000 of stock based compensationunder the fair value method in the three and nine months ended September 30,2006.  Stock based compensation under theintrinsic method was $7,000 for the three months ended September 30, 2005 and2006, and $21,000 for the nine months ended September 30, 2005 and 2006. As ofSeptember 30, 2006, there was approximately $36,000 of total employeeunrecognized compensation costs related to non-vested stock-based compensationawards granted under the Plan. That cost is expected to be recognized over aweighted average period of approximately 4 years.

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##### **6.             Contingencies**

*Senior secured revolving creditfacility*

As of September30, 2006, our borrowing base was $10.0 million; the amount available has beenreduced by $1.6 million for a letter of credit issued to satisfy therequirements of our workers compensation policy. At September 30, 2006, therewere no borrowings outstanding and $8.4 million remained available under theSenior Secured Revolving Credit Facility. This facility expires December 2009 and is secured by substantially allof our assets.  The negative covenantsinclude, among other items, limits on additional indebtedness, liens,distributions, certain investments and transactions and certain financialcovenants to limit capital expenditures and require minimum earnings beforeinterest, taxes, depreciation, and amortization (EBITDA).  We were in compliance with these covenants asof September 30, 2006.

*Legal*

We have been namedas a defendant in various lawsuits in the normal course of business, primarilyfor malpractice claims. We, our affiliated dental practices and associateddentists are insured with respect to dentistry malpractice risks on aclaims-made basis. Management believes all of these pending lawsuits, claims,and proceedings against us are without merit or will not have a materialadverse effect on our consolidated operating results, liquidity or financialposition, or cash flows.

In March 2006 the California Attorney General’s Bureau of MedicalFraud and Elderly Abuse initiated an investigation following our self reportingto Denti-Cal of billing errors we had discovered at one of our affiliateddental practices.  We continue tocooperate in the investigation; no material developments occurred during thepast quarter.

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

**FORWARD LOOKING STATEMENTS**

*This document includes forward looking statements.Forward looking statements are those that do not relate solely to historicalfact. They include, but are not limited to, any statements that may predict,forecast, indicate or imply future results, performance, achievements orevents. They may contain words such as “believe,” “anticipate,” “expect,” “estimate,”“intend,” “project,” “plan,” “will,” or words or phrases of similar meaning.They may relate to, among other things, our strengths, strategy, growth plans,operations, revenue, earnings, expenses, financing, sources of liquidity andcapital requirements.*

*Forward looking statements involve risks anduncertainties, including, but not limited to, economic, competitive andgovernmental factors outside of our control, that may cause actual results todiffer materially from trends, plans or expectations set forth in the forwardlooking statements.  Certain factors thatmight cause such a difference include, among other things, dependence upon ouraffiliated dental practices and the dental professionals who generate ourrevenue; access to and cost of capital due to our high leverage ratio; costcontainment efforts by third party payors and capitation arrangements; ourgrowth strategy and the terms of our service agreements with affiliated dentalpractices may reduce the cash we have available for operations and fundsavailable to meet our obligations; the geographic concentration of ouroperations increases the risk that our operating results will suffer fromadverse developments in our principal markets; government regulation of thedental industry and regulatory challenges to our business model; professionalliability and other claims that may be made against our affiliated dentalpractices; our operations and growth plans may be adversely affected by ahighly competitive environment; and the interest of the entities affiliatedwith our majority shareholder may conflict or differ from your interests. Forfurther information about risks which may effect our future operating results,please see the Risk Factors set forth in Item 1A of Part II below.  New risks and uncertainties may emerge in thefuture. It is not possible for us to predict all of these risks oruncertainties, nor can we assess the extent to which any factor, or combinationof factors, may cause actual results to differ from those contained in forwardlooking statements. Given these risks and uncertainties, we urge you to readthis document completely with the understanding that actual future results maybe materially different from what is expressly stated or implicit in anyforward looking statement.*

**OVERVIEW**

We provide practice management services to 128 affiliated multi-specialtygroup dental practices in the United States. Our network of affiliated dentalpractices is comprised of approximately 1,250 operatories throughout eight states.

We believe long term growth of the dental careindustry in the United States is fueled by, among other things, increasedavailability of dental insurance, a growing population of older patients whohave retained their teeth, and increased interest in cosmetic dentistry.However, certain dental procedures are considered elective or can be deferredand our revenue growth in the short term is subject to fluctuation based ontrends in consumer confidence and the effects that will have on patients’disposable income.

Our strategy to grow our business consists of twoinitiatives. We seek to drive revenue in our existing affiliated officesthrough the delivery of consistently good patient service, marketing to attractnew patients, improving the physical appearance and infrastructure of offices,and moving our affiliated practices to higher reimbursement plans whereappropriate. Additionally, our new office growth strategy seeks to enhancemarket penetration in existing markets as a primary driver of overall revenuegrowth.

Ourresults from 2006 reflect improvement in our revenue and cost of revenueattributed to the stability and productivity of our affiliated dentists, theimpact of our growth initiatives and significant efforts to reduce the costs ofoperations.  This improvement is offsetby increases in corporate selling, general and administrative expenses relatedto initiatives in information technology and depreciation expense generatedfrom our increase in capital expenditures in recent years.

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**RESULTS OFOPERATIONS FOR THE QUARTERSENDED SEPTEMBER 30, 2006 AND 2005**

The followingtable sets forth the consolidated Statement of Operations for the three andnine months ended September 30, 2006 and 2005 and should be used in connectionwith the narrative of our operations that follows the tables (in thousands):
| ** **                                              | ** ** | **Three Months ended  September 30, 2006** | ** ** | **Three Months ended  September 30, 2005** | ** ** | **Favorable  (Unfavorable)** | ** ** |
|---------------------------------------------------------|------------|----------------------------------------------------------------|------------|-----------------------------------------------------------|------------|------------------------------|------------|
| ** **                                              | ** ** | **Amount**                                                     | ** ** | **% of Total  Revenue**                         | ** ** | **Amount**                   | ** ** | **% of Total  Revenue** | ** ** | **%  Change** | ** ** |
| Total revenues                                          |       | $                                                              | 52,594     |                                                      | 100.0      | %                            | $          | 52,169 |   | 100.0 | % | 0.8 | % |
|                                                    |       |                                                           |       |                                                      |       |                         |       |   |   |   |   |
| Cost of revenues                                        |       | 46,752                                                         |       | 88.9                                                      |       | 46,785                       |       | 89.7 |   | 0.1 |   |
| Corporate  selling, general and administrative expenses |       | 2,503                                                          |       | 4.8                                                       |       | 2,192                        |       | 4.2 |   | (14.2 | ) |
| Depreciation and  amortization                          |       | 1,414                                                          |       | 2.7                                                       |       | 1,346                        |       | 2.6 |   | (5.1 | ) |
| Total operating expenses                                |       | 50,669                                                         |       | 96.3                                                      |       | 50,323                       |       | 96.5 |   | (0.7 | ) |
| Operating income                                        |       | 1,925                                                          |       | 3.7                                                       |       | 1,846                        |       | 3.5 |   | 4.3 |   |
| Other  non-operating expense, net                       |       | 42                                                             |       | 0.1                                                       |       | 30                           |       | 0.1 |   | (40.0 | ) |
| Interest  expense, net                                  |       | 2,575                                                          |       | 4.9                                                       |       | 2,586                        |       | 5.0 |   | 0.4 |   |
| Net loss before income tax benefit                      |       | (692                                                           | )          | (1.3                                                      | )          | (770                         | )          | (1.5 | ) | 10.1 |   |
| Income tax  benefit                                     |       | (204                                                           | )          | (0.4                                                      | )          | (367                         | )          | (0.7 | ) | (44.4 | ) |
| Net loss                                                |       | $                                                              | (488       | )                                                         | (0.9       | )%                           | $          | (403 | ) | (0.8 | )% | (21.1 | )% |

 
| ** **                                              | ** ** | **Nine Months ended  September 30, 2006** | ** ** | **Nine Months ended  September 30, 2005** | ** ** | **Favorable** | ** ** |
|---------------------------------------------------------|------------|---------------------------------------------------------------|------------|----------------------------------------------------------|------------|---------------|------------|
| ** **                                              | ** ** | **Amount**                                                    | ** ** | **% of Total  Revenue**                             | ** ** | **Amount**    | ** ** | **% of Total  Revenue** | ** ** | **(Unfavorable)  %  Change** | ** ** |
| Total revenues                                          |       | $                                                             | 163,151    |                                                     | 100.0      | %             | $          | 160,141 |   | 100.0 | % | 1.9 | % |
|                                                    |       |                                                          |       |                                                     |       |          |       |   |   |   |   |
| Cost of revenues                                        |       | 142,420                                                       |       | 87.3                                                     |       | 140,951       |       | 88.0 |   | (1.0 | ) |
| Corporate  selling, general and administrative expenses |       | 8,565                                                         |       | 5.3                                                      |       | 7,333         |       | 4.6 |   | (16.8 | ) |
| Depreciation and  amortization                          |       | 4,239                                                         |       | 2.6                                                      |       | 3,925         |       | 2.5 |   | (8.0 | ) |
| Total operating expenses                                |       | 155,224                                                       |       | 95.1                                                     |       | 152,209       |       | 95.0 |   | (2.0 | ) |
| Operating income                                        |       | 7,927                                                         |       | 4.9                                                      |       | 7,932         |       | 5.0 |   | (0.1 | ) |
| Other  non-operating expense (income), net              |       | 363                                                           |       | 0.2                                                      |       | (103          | )          | (0.1 | ) | (452.4 | ) |
| Interest  expense, net                                  |       | 7,686                                                         |       | 4.7                                                      |       | 7,630         |       | 4.8 |   | (0.7 | ) |
| Net (loss) income before provision for income taxes     |       | (122                                                          | )          | (0.1                                                     | )          | 405           |       | 0.3 |   | (130.1 | ) |
| Provision for  income taxes                             |       | 153                                                           |       | 0.1                                                      |       | 193           |       | 0.1 |   | 20.7 |   |
| Net (loss)  income                                      |       | $                                                             | (275       | )                                                        | (0.2       | )%            | $          | 212 |   | 0.1 | % | (229.7 | )% |

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**Revenues**

Forthe three and nine month periods ended September 30, 2006, we posted netrevenue gains of $0.4 million and $3.0 million, respectively from the sameperiods last year.  The increase in ouroverall revenue is driven primarily by improved productivity and stability ofour affiliated providers and new office growth. We opened 4 new offices, closed2 existing offices, and relocated two offices in the twelve months endingSeptember 30, 2006.

Ournet revenue from offices open for at least one year, or same-office revenue,increased by 1.5% to $155.3 million over the same year to date period lastyear.  The increase in same officerevenue is the result of improved productivity and stability of our affiliatedproviders.  

**Costs and expenses**

*Cost of revenues. *Cost of revenues consists of costs directlyassociated with activities of operating and managing the practice facilitylocations, including regional support departments. The components of cost ofrevenues are largely variable or semi-variable costs and include clinical andnon-clinical salaries and benefits, dental supplies and lab expenses,occupancy, practice selling, general and administrative expenses, and provisionfor doubtful accounts.

Although our overall cost of revenues increased on ayear to date basis, cost of revenues decreased as a percentage of net revenuesfor the same three and nine month periods last year. The overall cost increasesare attributed to net gains in offices open for the same period last year whilethe primary drivers of the percentage decreases for the three and nine monthsare as follows:

·                  Decrease as a percentage of revenue in nonclinical salaries and related benefits of 1.0% and 0.7% for the three and ninemonths, respectively, as we focused on properly staffing offices for the levelof business.  This decrease was primarilydue to a reduction in back office head count. Additional gains were noted through the process of rotating officemanagers and front office staff between offices to ensure optimum effectivenessof existing personnel.

·                  Practice selling, general and administrativeexpenses as a percentage of revenue decreased 0.6% and 0.8% for the three andnine months, respectively resulting from lower marketing expenditures in 2006as compared to a planned incremental increase in 2005 designed to build brandequity in our newly rebranded practices and to generate new patient growth.  We expect to continue this incrementallylower expenditure for marketing for the remainder of 2006.

·                  The decreases are offset by a 0.3% and 0.4%increase as a percentage of revenue in clinical salaries and benefits and anincrease of 0.4% and 0.4% as a percentage of revenue in occupancy costs for thethree and nine months, respectively.  Theincrease in clinical salaries and benefits as a percentage of revenue is due tothe guaranteed minimum compensation to new affiliated doctors during theirinitial ramp up period, combined with the typically lower productivity of thesenew doctors. The PCs customarily provide new dentists with guaranteed minimumcompensation for a period of three to six months while they establish theirpractice. At the end of this period, the affiliated dentists shift to avariable commission model. The guarantees are a residual effect of the increasein doctor turnover that we experienced in late 2005.  Our affiliated PCs are also incurringadditional clinical costs when they use contract doctors in areas where theyare encountering difficulty in recruiting permanent doctors. 

The increases in occupancycosts are related to opening new offices and the overall increases in rent,common area maintenance costs, and utilities for existing offices.

*Corporate selling, general and administrative expenses. *Corporate selling, general and administrative expenses include:corporate salaries, general office costs, investor relations expense, legal andaudit fees, general insurance, director and officer liability insurance andother miscellaneous costs at our corporate facilities.

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For the three and nine months ended September 30, 2006our corporate selling, general and administrative costs increased $0.3 millionand $1.2 million, respectively from the same periods last year. This increaseis attributed to:

·                  Additional compensation costs related to anincrease in our bonus liability.  We alsoshifted certain support related activities and related headcount fromoperations to corporate.  Suchresponsibilities primarily include information technology (IT) and chiefclinical roles.

·                  Higher professional services related tocontinuing IT initiatives and audit costs resulting from a stub period audit inthe prior year and a full year audit incurred in 2006. 

*Depreciation and amortization.* Depreciation expense is attributed to depreciation of dental equipment,furniture, fixtures and computer equipment and amortization of leaseholdimprovements and identifiable intangibles. Depreciation and amortizationexpense was slightly up for the three and nine months ended September 30, 2006compared to the same periods last year due to the incremental depreciation andamortization for new equipment and new office expansion. 

We expect to continue to incur capital expenditures,primarily as part of our new office expansion program and the on-going remodelor relocation of offices. Because of this, depreciation and amortizationexpense may increase as a percentage of revenue in future periods depending onthe timing and amount of the capital expenditure. 

**Non-operatingexpenses**

*Interestexpense.* Net interestexpense in both periods is a result of $80.0 million in principal of our SeniorSecured Notes due 2011, or the Notes, and amortization of deferred financingcosts associated with the Notes.  Ourobligations under the Notes will result in substantial interest expense infuture periods.  The Notes bear interestat 10 3⁄4% per year, payable semiannually on June 15 and December 15 of eachyear.  Interest expense also consists ofinterest on our revolving credit facility, the letter of credit and unusedcredit line facility.

*Othernon-operating (income) expense. *The increase in othernon-operating (income) expense is due to the following transactions:  In 2006, we incurred charges for disposal ofcertain assets relating to prior year office relocation and in 2005 werecovered monies from our insurance carrier relating to a prior year loss.

**Income taxes**

*Provision for income taxes.* Our effective tax rate was approximately (29.5%)and 47.7% for the three months ended September 30, 2006 and 2005, respectivelyand (125.4%) and 47.7% for the nine months ended September 30, 2006 and 2005,respectively. The 2006 income tax provision consists of state minimum taxes andbenefits realized from utilizing pre-reorganization deferred taxes.  The change in the effective tax rate is dueto the payment of certain non-deductible expenses and accrued interest on themandatorily redeemable preferred stock, which result in permanent differences.

**LIQUIDITY AND CAPITAL RESOURCES**

Historically, we have financed our operating andcapital needs through cash generated by operations and borrowings. Our primarysources of liquidity for the near future will be cash flow from our operationsand availability under our $10 million senior secured revolving credit facility.Advances under this facility are limited to the lesser of (i) $10 million or(ii) a borrowing base formula calculated at 0.75 times our trailing 12 month earningsbefore interest, taxes, depreciation and amortization, or EBITDA, as defined in the agreement. In addition, we are required tomaintain a monthly minimum EBITDA, as measured on a trailing 12 month basis, ofat least $12 million. We had trailing 12 month EBITDA of $15.0 million as ofSeptember 30, 2006 and December 31, 2005, respectively.

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As ofSeptember 30, 2006, our borrowing base was $10.0 million and the amountavailable under our revolving credit facility was $8.4 million. The $1.6million reduction on the amount available under our revolving credit facilityresulted from the issuance on our behalf of a letter of credit in conjunctionwith our self insured workers’ compensation programs.

Our primary cash requirements include general operating expenses, debtservice requirements and capital expenditures. Our Senior Secured Notes are interestonly, payable semi-annually in the amount of approximately $4.3 million,or approximately $8.6 million over a 12 month period. We currently anticipatefunding interest payments from cash generated by our operations, supplementedas necessary with borrowings under our revolving credit facility.  Dividends on the mandatorily redeemablepreferred stock accrue annually, and are payable monthly. We are permitted topay required dividends either in cash (if permitted by other applicable debtcovenants) or “in kind” through the issuance of additional shares of thepreferred stock. We currently intend to settle the dividends on the preferredstock through additional shares of Class C Preferred Stock. 

Under our new office**growthstrategy we currently plan to open approximately 10 - 15 new dental offices inleased facilities each year, depending upon our liquidity and our ability toidentify opportunities that meet our expectations. We expect to fund most ofthese offices using our cash flow from operations. We may also from time totime consider acquisitions of dental practices, although we have no currentplans for any acquisitions.

We believe that our current sources of liquiditywill be sufficient to meet our requirements in 2006. However, an unexpecteddecline in cash flow from operations or in our EBITDA could materially impairour liquidity. In such event, we may not be able to access our revolving creditfacility and we may be unable to generate sufficient free cash flow to meet allof our operating requirements. Moreover, the indenture governing our notes andthe terms of our senior secured revolving credit facility limit our ability toincur additional indebtedness. As a result, in the event of a material declinein our operating performance, we may encounter substantial difficulty insecuring additional sources of liquidity.

Ourcash flow sources and uses by operating, investing and financing activities areshown below (in thousands):
|                                                      | ** ** | **Nine Months Ended September 30,** | ** ** |
|------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                           | ** ** | **2006**                                                | ** ** | **2005** | ** ** |
| Net cash  provided by operations                     |       | $                                                       | 6,862      |   | $ | 7,743 |   |
| Net cash used in  investing activities               |       | $                                                       | (4,896     | ) | $ | (6,897 | ) |
| Net cash (used in)  provided by financing activities |       | $                                                       | (1,445     | ) | $ | 721 |   |

 

*Cash flow from operations*.  The decrease in cash flow fromoperations from the same period last year is due to a decrease in net incomecoupled with a decrease in accounts payable.

*Cash flow used in investing activities*.  Ourspending on property and equipment during the first nine months of 2006decreased $3.0 million from the same period in the prior year. We opened onenew office in the nine months ended September 30, 2006 versus opening 4 newoffices in the same period prior year. We expect to continue to incursignificant capital expenditures, primarily as part of our new office growthstrategy and the on-going remodel or relocation of offices.  We also invested $0.9 million in marketablesecurities in conjunction with our deferred compensation program which began inJanuary 2006.

*Cash flow from financing activities*.  Thesignificant decrease in financing activities is due to paying down theoutstanding balance on our revolving line of credit and capital leases.  Our subordinated seller debt was paid off in2005.  We will pay the remaining balanceon the capital lease obligation of $0.3 million as scheduled through March2009.

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**CRITICALACCOUNTING POLICIES AND ESTIMATES**

Our discussion and analysis of our financialcondition and results of operations are based upon our consolidated financialstatements, which have been prepared in accordance with accounting principlesgenerally accepted in the United States. The preparation of these financialstatements requires us to make estimates and judgments that affect the reportedamounts of assets, liabilities, revenues and expenses, and related disclosureof contingent assets and liabilities.

We believe that the estimates, assumptions andjudgments involved in the accounting policies described in the “Management’sDiscussion and Analysis of Financial Condition and Results of Operations”section of our most recent Annual Report on Form 10-K have the greatestpotential impact on our financial statements, so we consider these to be ourcritical accounting policies. Because of the uncertainty inherent in thesematters, actual results could differ from the estimates we use in applying thecritical accounting policies. Certain of these critical accounting policiesaffect working capital account balances, including the policies for revenuerecognition, the reserve for uncollectible accounts receivable and inventorybalances. These policies require that we make estimates in the preparation ofour financial statements as of a given date.

Within the context of these critical accountingpolicies, we are not currently aware of any reasonably likely events orcircumstances that would result in materially different amounts being reported.

**RecentlyAdopted Accounting Pronouncements**

In May 2005, theFASB issued SFAS No. 154, “Accounting Changes and Error Corrections—AReplacement of APB Opinion No. 20 and FASB Statement No. 3” or SFAS 154. SFAS154 requires that a voluntary change in accounting principle be appliedretrospectively with all prior period financial statements presented on the newaccounting principle, unless it is impracticable to do so. SFAS 154 alsoprovides that (1) a change in method of depreciating or amortizing a long-livednonfinancial asset be accounted for as a change in estimate (prospectively)that was affected by a change in accounting principle, and (2) correction oferrors in previously issued financial statements shall be termed a “restatement.”SFAS 154 is effective for accounting changes and corrections of errors made infiscal years beginning after December 15, 2005. The implementation of SFAS 154,effective January 1, 2006 did not have a material impact on the Company’sconsolidated financial statements.

In September 2006,the FASB issued SFAS No. 158 requiring employers without publicly traded equitysecurities to initially apply the requirement to recognize the funded status ofthe benefit plan and the disclosure requirements as of the end of the fiscalyear ending after June 15, 2007.  We haveelected to early adopt this Statement and the financial statements anddisclosures currently reflect the requirements of this statement.

On September 13, 2006,the SEC issued Staff Accounting Bulletin “SAB” No. 108 on “Consideration of theEffects of Prior Year Misstatements in Quantifying Current Year Misstatementsfor the Purpose of a Materiality Assessment”. This SAB requires registrants to quantify the impact of correcting allmisstatements, including both the carryover and reversing effects of prior yearmisstatements, on the current year financial statements using both the rolloverand the iron curtain approach.  This SABis effective for financial statements for fiscal years ending on or afterNovember 15, 2006. We have elected to early adopt this SAB.  We have evaluated the impact of the prioryear errors under both approaches and no adjustment to the prior year financialstatements was deemed necessary ad he adjustments under both approaches wereconsidered to be immaterial.  Accordinglythis 10-Q does not reflect any amendment of the prior year financial statementsand no one-time transitional cumulative effect adjustment has been made to thefinancial statements.

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**AccountingStandards Not Yet Adopted by the Company**

On November 10, 2005, FASB issued FASB Staff Position(FSP) No. FAS 123R-3, “Transition Election Related to Accounting for the TaxEffects of Share-Based Payment Awards”. This FSP allows companies using either the modified retrospective ormodified prospective application to make a one-time election to adopt thetransition method described in the FSP and also allowed companies to take up toone year from the later of its initial adoption of Statement 123R or theeffective date of this FSP to evaluate its available transition alternativesand make its one-time election.  We are currentlyevaluating the available transition alternatives and have not yet made adetermination of which method we will be using.

In March 2006, the FASB issued EITF No. 06-03, “HowTaxes Collected from Customers and Remitted to Governmental Authorities ShouldBe Presented in the Income Statement (that is, Gross versus Net Presentation)”which requires a reevaluation of existing policies as to gross versus netreporting of taxes and the subsequent disclosure of taxes reported on a grossbasis, of significant taxes.  Thedisclosure requirements are effective for interim and annual reporting periodsbeginning after December 15, 2006. We are in the process of reevaluatingexisting policies and have not made a decision regarding presentation anddisclosure of these taxes in the financial statements in accordance with SFAS154.

In June 2006, theFASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertaintyin Income Taxes—an interpretation of FASB Statement No. 109,” to clarify theaccounting for uncertainty in income taxes recognized in the financialstatements in accordance with FASB Statement No. 109, “Accounting for IncomeTaxes”. This Interpretation prescribes a recognition threshold and measurementcriteria for the recognition and measurement of a tax position taken orexpected to be taken in a tax return. FIN 48 also provides guidance onderecognition, classification, interest and penalties, accounting in interimperiods, disclosure and transition. FIN 48 is effective for years beginning afterDecember 15, 2006. We are currently evaluating the effect that the adoption ofFIN 48 will have on our consolidated results of operations and financialcondition but do not expect this Interpretation to have a material impact.

In September 2006,the FASB issued SFAS No. 157, “Fair Value Measurements” which clarified thedefinition of fair value and the methods used to measure fair value, andexpanded disclosures about fair value measurements.  SFAS is effective for financial statementsissued for fiscal years beginning after November 15, 2007, and interim periodswithin those fiscal years.  We do notanticipate any adjustments to the fair value recorded in the financialstatements; we forsee that implementation of this SFAS will only expand theexisting disclosure of fair value measurements.

In October 2006,the SEC issued its final rule on “Executive Compensation and Related PersonDisclosure”, requiring disclosure of compensation earned by a company’sprincipal executive officer, principal financial officer and highest paidexecutive officers and members of its board of directors.  This ruling is effective for triggeringevents that occur on or after November 7, 2006 for Forms 8-K and for fiscalyears ending on or after December 15, 2006 for Forms 10-K. We are currentlyevaluating the disclosure requirements of this ruling.

**Item 3.Quantitative and Qualitative Disclosures About Market Risk.**

In theordinary course of business, we are exposed to interest rate risk. For fixedrate debt, interest rate changes affect the fair value but do not impactearnings or cash flow. Conversely, for floating rate debt, interest ratechanges generally do not affect the fair market value but do impact futureearnings and cash flow. We do not believe a one percentage point change ininterest rates would have a material impact on the fair market value of ourfixed rate debt.

Ourinterest expense is sensitive to changes in the general level of interest ratesas our senior secured revolving credit facility has interest rates based uponLIBOR or the prime rate plus the banks’ applicable margins of 1.0% to 3.25%,respectively.  At September 30, 2006,there were no outstanding borrowings under this facility. The annual pre-taxearnings and cash flow impact for a one percentage point change in interestrates would not be significant to our operations.  The hypothetical change used in this analysismay be different from what actually occurs in the future.  We do not presently undertake any specificactions to cover our exposure to interest rate risk and we are not party to anyinterest rate risk management transactions.

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**Item 4. Controlsand Procedures**

Our management,with the participation of our Chief Executive Officer and Chief FinancialOfficer, evaluated the effectiveness of our disclosure controls and procedures(as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as ofthe end of the period covered by this report. Our management, with theparticipation of our Chief Executive Officer and Chief Financial Officer, alsoconducted an evaluation of our internal control over financial reporting todetermine whether any changes occurred during the first nine months of fiscal2006 that have materially affected, or are reasonably likely to materiallyaffect, our internal control over financial reporting. Based upon theseevaluations, and solely because of the material weakness in internal controlover financial reporting discussed below, the Chief Executive Officer and ChiefFinancial Officer have concluded that our disclosure controls and procedureswere not effective in providing reasonable assurance that information requiredto be disclosed in the reports we file or submit under the Exchange Act isrecorded, processed, summarized and reported as and when required and that suchinformation is accumulated and communicated to management, including the ChiefExecutive Officer and Chief Financial Officer, in a manner that allows timelydecisions regarding required disclosure. However, we believe that theaccompanying consolidated financial statements fairly present in all materialrespects our financial position and results of operations presented in thisForm 10-Q.

A material weakness is a control deficiency, orcombination of control deficiencies, that results in more than a remotelikelihood that a material misstatement of the annual or interim financialstatements will not be prevented or detected. While no material misstatement oradjustment was noted, management concluded that we did not maintain effectivecontrols to mitigate the likelihood to less than remote that a materialmisstatement in our patient service revenue and related accounts receivableprocess would be prevented or detected, including the estimation andestablishment of allowances for bad debts and fee rate change adjustments.Management’s conclusion was based on the effect of limitations of our industrystandard dental practice management software on the estimation of ourallowances and our need to strengthen the preventative controls surrounding ourbilling process.

In order to proactively address the material weaknessnoted above, in mid 2005, we began preparations to implement a new dentalpractice management system and are in the process of implementing this systemand designing new controls and processes in conjunction with our preparationsto be compliant with Section 404 of the Sarbanes Oxley Act by December 31,2007.

There were no changes in the internal control overfinancial reporting that occurred during the period covered by this report thatmaterially affected, or that are reasonably likely to materially affect,internal control over financial reporting.

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PART II – OTHERINFORMATION

**Item 1.Legal Proceedings**

Wehave been named as a defendant in various lawsuits in the normal course ofbusiness, primarily for malpractice claims. We, our affiliated dental practicesand associated dentists’ are insured with respect to dentistry malpracticerisks on a claims-made basis. Management believes all of these pendinglawsuits, claims, and proceedings against us are without merit or will not havea material adverse effect on our consolidated operating results, liquidity orfinancial position, or cash flows.

As previously reported, the California Attorney General’s Bureau ofMedical Fraud and Elderly Abuse initiated an investigation following our selfreporting to Denti-Cal of billing errors we had discovered at one of ouraffiliated dental practices.  We continueto cooperate in the investigation; no material developments occurred during thepast quarter.

**Item 1A.Risk Factors**

**Our ability to manage ourbusiness is limited by our lack of control over the dental professionals whogenerate our revenues.**

We provide anumber of services designed to enhance the productivity of affiliated dentalpractices. Our revenues depend upon the success of those dental practices. Thesuccess of any dental practice will, to a large extent, depend upon the effortsof the dentists and their professional skills and reputation. We do not employthe dentists nor do we control their clinical practices. While we seek toaffiliate with dedicated, well-qualified dentists, we cannot control their deliveryof patient care. Our lack of control over all clinical aspects of the deliveryof dental services by our affiliated dental practices makes it more difficultfor us to improve our performance. As a result, a key determinant of oursuccess is beyond our control to effectively manage.

**Our revenue may be adverselyaffected by third party payor cost containment efforts and capitationarrangements.**

A portion of thepayments for dental care that is received by our affiliated dental practices ispaid or reimbursed under insurance programs, or by third party payors. We areresponsible for negotiating the terms of these third party payor arrangements.Third party payors are continually negotiating the fees charged for dentalcare, with a goal of containing reimbursement and utilization rates. In recentyears, we have been able to increase some reimbursement rates. However, webelieve that pressure by third party payors to reduce fees and reimbursementrates will continue and will increasingly affect the provision of dentalservices. This may result in a reduction in per-patient and per-procedurerevenue from current levels. Loss of revenue by our affiliated dental practicescaused by third party payor cost containment efforts could have a materialadverse effect on our business, financial condition and results of operations.

Additionally, somethird-party payor contracts are capitated arrangements. Approximately 23% ofour revenue was derived from capitated arrangements for the nine months endedSeptember 30, 2006. Under those contracts, the affiliated dental practicereceives a capitated payment, calculated on a monthly per-member basis, toprovide care to the covered enrollees and generally receives a co-payment fromthe patient at the time care is provided. These payment methods shift a portionof the risk of providing care from the third party payors to the affiliateddental practices. To the extent that patients covered by these contractsrequire more frequent or extensive care than is anticipated, there may be a shortfallbetween the capitated payments received by the affiliated dental practices andthe costs to provide the contracted services. These shortfalls may result inour affiliated dental practices being unable to reimburse us for expenses andcontribute to our service fees.

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**The terms of our serviceagreements with affiliated dental practices may result in losses which cannotbe recovered, thereby reducing our cash flow from operations and the funds wehave available to meet our obligations.**

Substantially allof our operating revenue is derived from our service agreements with affiliateddental practices. Under these agreements, we assume responsibility foroperating expenses of the dental practice, such as salaries and benefits fornon-dentist personnel, dental supplies, lab fees, office occupancy costs andmarketing expenses. The dental practice is contractually obligated to reimburseus for such expenses and pay us a fee equal to a percentage of their revenueplus a bonus. However, a newly opened dental practice or an under-performingpractice may not generate sufficient revenues to fully reimburse us forexpenses advanced on behalf of the practice and may not have net revenues tocontribute to our service fees. Therefore, we may incur expenses that will notbe reimbursed equivalent to the amount of losses incurred by these practices.

The losses weincur as a result of an affiliated practice’s failure to pay our service feesand fully reimburse expenses advanced on its behalf may never be recovered. Wehave no effective recourse to obtain reimbursement for these losses. We also donot have any guaranties from our affiliated dental practices or affiliateddentists to cover such losses. To the extent that we are unable to collect theamounts due us under our service agreements, our revenues and cash flow maysuffer, thereby reducing the funds we have available to pay interest andprincipal on the notes.

**Our operating results may beadversely affected by professional liability or other claims against us or ouraffiliated dental practices.**

Our affiliateddental practices could be exposed to the risk of professional liability andother claims. These claims, if successful, could result in substantial damagesthat could exceed the limits of any applicable insurance coverage. Our standardprofessional liability insurance coverage is $1 million per occurrence and $15million in annual aggregate. Per the terms of the management agreement, wearrange for and pay the cost of the professional liability insurance for our affiliatedpractices. We also arrange for and pay the cost of the professional liabilityinsurance for the dentists employed by our affiliated dental practices. It ispossible that professional liability claims could be asserted against us aswell as the affiliated dental practices. If such a claim is brought against anaffiliated dental practice or dentist, the professional liability insurancepremiums of that affiliated dental practice could materially increase. Also,fees payable to us from an affiliated dental practice could be adverselyaffected if damages payable by that practice exceed insurance coverage limits.While we attempt to cover both the affiliated practices as well as ourselvesfrom all types of risks and liabilities, we may still be subject to claims thateither exceed our coverage limitations or are not covered at all by insurance.In the future, insurance coverage may not be available upon terms satisfactoryto us or the coverage may not be adequate to cover losses. In addition, we maybe subject to other claims such as claims in which it is alleged that we havebeen negligent in performing our duties under management services agreements. Asuccessful professional liability claim or any other claim against us or anaffiliated dental practice could have a material adverse effect on ouravailable cash.

**Our growth strategy may reducethe cash we have available for operations.**

Our growthstrategy includes expansion through opening new affiliated dental offices aswell as the expansion of existing affiliated dental practices.  While the cost per new office will vary basedon size and region, we estimate that the average office buildout will costbetween $0.4 million and $0.6 million. The strategy is to fund these officeswith cash flow from operations. Typically each buildout takes between 6 to 9months. While we will seek to support theses new offices with staffing fromexisting offices, we still expect to incur losses of approximately $0.1 millionduring the first year of operations. We believe that the addition of these newoffices will provide synergies such as giving us greater purchasing power aswell as allowing us to spread fixed overhead across a larger revenue base. Theemphasis on growing through opening new offices, however, is a new strategy;previously, our growth strategy emphasized the acquisition of existingpractices. We do not have sufficient experience with our new growth strategy toevaluate its effectiveness.

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Opening newaffiliated dental offices involves numerous risks, including potentially higherthan expected buildout and construction costs, delays in completing thebuildouts related to office site selection, permitting and constructiondifficulties, and the failure to recruit affiliated providers and other keypersonnel on a timely basis to staff these new offices. Identifying locationsin suitable geographic markets and negotiating leases can be a lengthy andcostly process. Furthermore, we will need to provide each new office withappropriate non-clinical staff, equipment, furnishings, materials and supplies.Additionally, new offices must be staffed with one or more dentists. Because anew office may be staffed with a dentist with no established patient base,significant advertising and marketing expenditures may be required to attractpatients. Revenue for new offices may be less than expected or take longer thanexpected to reach acceptable levels, and operating costs may be higher thanexpected, resulting in our inability to operate these new offices profitablywithin expected timeframes.

The expensesinvolved in opening new offices and in supporting such offices until theybecome profitable will consume a significant portion of our cash flow. Webelieve that most new offices should become profitable within 9 to 15 months ofopening. However, as this is a new competency we lack the experience tovalidate this.

**We are highly leveraged, whichmay impair our ability to obtain additional financing to pursue growthopportunities.**

We are highlyleveraged which may constrain our ability to obtain additional financing topursue growth opportunities. Prospective lenders and other providers of capitalwill consider the extent of our leverage in determining whether to make anyfunds available to us. Our current leverage ratios effectively limit ourability to obtain additional funding from third parties. We are thereforeunlikely to be able to pursue in the near future business opportunities that wecannot finance out of our cash flow. Our current financial leverage effectivelyprecludes us from pursuing significant acquisition opportunities or otheropportunities that require a substantial cash payment. Our near term growth maysuffer as a result, particularly in comparison with certain competitors who maybe better positioned to obtain additional financing.

**The geographic concentration ofour operations increases the risk that our operating results will suffer fromadverse developments in our principal markets.**

Weprovide management services to 128 affiliated dental practices, and own andoperate one dental laboratory. The following table illustrates the number ofthese dental offices we serve in each state on September 30, 2006.

|            | ** ** | **Dental**  | ** ** |
|------------|------------|-------------|------------|
| **State**  | ** ** | **Offices** | ** ** |
| California |       | 56          |       |
| Oregon     |       | 27          |       |
| Washington |       | 13          |       |
| Nevada     |       | 10          |       |
| Arizona    |       | 10          |       |
| Hawaii     |       | 6           |       |
| Oklahoma   |       | 5           |       |
| Kansas     |       | 1           |       |
|       |       | 128         |       |

 

The current geographic concentration of our operationsin the western United States, and especially in California and Oregon,increases the risk to us of adverse economic or regulatory developments withinthese markets.

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In addition, ourgrowth strategy includes focusing our growth within our existing markets. Ourcurrent concentration in these markets, as well as our strategy of focusedexpansion within our existing markets, increases the risk to us that adverseeconomic or regulatory developments in one or more of these markets may have amaterial adverse effect on our business, financial condition and operatingresults.

**Our management arrangement withaffiliated dental practices could be challenged by a state or dentist underlaws regulating the practice of dentistry.**

The laws of eachstate in which we operate contain restrictions on the practice of dentistry andcontrol over the provision of dental services. In the states in which weoperate, the statutes regarding the practice of dentistry include broad andvaguely stated restrictions on owning, managing, maintaining and/or operatingan office where dental services are performed.

Our managementagreements with each affiliated dental practice provide that the affiliateddental practice, and not us, retains responsibility for all activities that arewithin the scope of a dentist’s license and cannot be performed by a person whois not licensed to practice dentistry in that state. We do not have anownership interest in any entity that provides dental services. The affiliateddental practices each retain full authority and control with respect to alldental, professional and ethical determinations over the practice.

We do not, and donot intend to, control the practice of dentistry by our affiliated dentalpractices or their compliance with the regulatory requirements directlyapplicable to dentists or the practice of dentistry. However, any challenge toour contractual relationships with our affiliated dental practices by dentistsor regulatory authorities could result in a finding that could have a materialadverse effect on our operations, such as voiding one or more long-termmanagement agreements. Moreover, the laws and regulatory environment may changeto restrict or limit the enforceability of our management service agreements.We could be prevented from affiliating with dental practices or providingcomprehensive business services to dental practices in one or more states.

**We are subject to health care andinsurance regulations. Keeping abreast of and in compliance with these laws iscostly; failure to comply could result in fines, penalties or exclusion fromthe Medicare or Medicaid Programs.**

Our dentalpractice affiliates are subject to the Health Insurance Portability andAccountability Act of 1996, or HIPAA. HIPAA regulations include variousrequirements on privacy and security of patient records. Federal and stateregulations, such as Medicare and Medicaid, also contain anti-kickback provisionsand restrictions on referrals. Our dental practice affiliates also must complywith federal Occupation Safety and Health Administration Bloodborne PathogensStandard, which requires them to institute training programs and proceduresdesigned to eliminate or minimize occupational exposure to Hepatitis B Virus(HBV), Human Immunodeficiency Virus (HIV) and other bloodborne pathogens. Oursubsidiary, Dedicated Dental, is also subject to the Knox-Keene HealthcareService Plan Act of the State of California in connection with its manageddental care plan, which requires our subsidiary, among other things, to fileperiodic financial data and other information with the California Department ofManaged Health Care, maintain substantial net equity on its balance sheet andmaintain adequate medical, financial and operating personnel. These regulationsrequire consistent monitoring to maintain compliance. Failure to comply withthese regulations could result in penalties and fines being imposed.

**Entities affiliated with LevineLeichtman Capital Partners, or LLCP hold substantially all of the outstandingvoting power of the capital stock of our parent, InterDent, Inc., and theirinterests may conflict with or be different from your interests.**

Entitiesaffiliated with LLCP hold substantially all of the voting power of InterDent,Inc. As a result, these entities affiliated with LLCP hold, and will for theforeseeable future continue to hold, sufficient voting power to direct ouractions and affairs, including the election of all of our directors and, exceptas otherwise provided by law, approving or disapproving all other matterssubmitted to a vote of stockholders of InterDent, Inc., including a merger,consolidation or sale of assets. These stockholders are permitted to act intheir own interests, which may conflict with or be different from yourinterests. 

Furthermore, ifthese stockholders were to sell their shares to a single or limited group ofinvestors, thereby resulting in those investors’ beneficial ownership of 50% ormore of InterDent, Inc.’s voting stock, a change of control could be deemed tohave occurred under the terms of the indenture governing the notes, whichcould, among other things, give rise to an option in favor of each holder of thenotes to require us to repurchase all or any part of that holder’s notes.

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**Item 6.Exhibits**

Set forth below is a listof the exhibits included as part of this quarterly report.
| Exhibit  Number | ** ** | **Description**                                                                                                                                                                                                                                                                                                              |
|-----------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **3.1**         | ** ** | **Restated  Articles of Incorporation of InterDent Service Corporation†**                                                                                                                                                                                                                                               |
| ** **      | ** ** | ** **                                                                                                                                                                                                                                                                                                                   |
| 3.2             |       | By-Laws of InterDent Service Corporation†                                                                                                                                                                                                                                                                               |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 3.3             |       | Second Amended and Restated Certificate of  Incorporation of InterDent, Inc.†                                                                                                                                                                                                                                      |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 3.4             |       | Amended and Restated By-Laws of  InterDent, Inc.†                                                                                                                                                                                                                                                                  |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 4.1             |       | Indenture, dated as of December 15, 2004, by  and among IDI Acquisition Corp., InterDent Service Corporation,  InterDent, Inc., and Wells Fargo Bank as trustee and collateral agent†                                                                                                                         |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 4.2             |       | Registration Rights Agreement by and among IDI  Acquisition Corp., InterDent Service Corporation, InterDent, Inc. and  Jeffries & Company, Inc. dated December 15, 2004†                                                                                                                        |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 4.3             |       | Amended and Restated Loan and Security Agreement by  and among InterDent, Inc. as Parent, InterDent Service Corporation as  Borrower, the Lenders that are Signatories thereto as the Lenders, and Wells  Fargo Foothill, Inc. as the Arranger and Administrative Agent dated as  of December 15, 2004.† |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 4.4             |       | InterDent, Inc. Class D Common Stock  Purchase Warrant, dated October 8, 2003, issued by InterDent, Inc.  to Levine Leichtman Capital Partners II, L.P.††                                                                                                                                      |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 4.5             |       | InterDent, Inc. Class G Common Stock  Purchase Warrant, dated December 15, 2004, issued by  InterDent, Inc. to Levine Leichtman Capital Partners II, L.P.††                                                                                                                                    |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.1            |       | InterDent, Inc. 2003 Stock Option Plan†                                                                                                                                                                                                                                                                            |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.2            |       | Employment Agreement, effective January 1,  2004, by and between the Company and Ivar S. Chhina†                                                                                                                                                                                                              |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.3            |       | Amendment 1 to Employment Agreement, effective  December 15, 2004, by and between the Company and Ivar S. Chhina†                                                                                                                                                                                        |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.4            |       | Employment Agreement, effective August 3, 2004,  by and between the Company and Robert W. Hill†                                                                                                                                                                                                               |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.5            |       | Purchase Agreement, dated December 10, 2004, by  and among IDI Acquisition Corp., InterDent Service Corporation,  InterDent, Inc. and Jefferies & Company, Inc.†                                                                                                                                |
|            |       |                                                                                                                                                                                                                                                                                                                         |
| 10.6            |       | Amended and Restated Shareholders Agreement, dated  as of December 15, 2004, by and among InterDent, Inc., a Delaware  Corporation, Levine Leichtman Capital Partners II, L.P., Pleasant Street  Investors, LLC, and each other holder of an equity security of the Company†                             |

 

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| 10.7   |   | Intercreditor Agreement, dated as of  December 15, 2004 among InterDent Service Corporation, the Guarantors  from time to time party hereto, Wells Fargo Foothill, Inc. as Credit  Agreement Agent under the Credit Agreement and Priority Lien Collateral Agent  hereunder, and Wells Fargo Bank, National Association, as Trustee under the  Indenture and as Collateral Agent hereunder†               |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.8   |   | Security Agreement, dated as of December 15,  2004, by and between InterDent, Inc. and Wells Fargo Bank, National  Association†                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.9   |   | Security Agreement, dated as of December 15,  2004, by and between InterDent Service Corporation (as survivor from IDI  Acquisition Corp) and Wells Fargo Bank, National Association†                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.10  |   | Stock Pledge agreement, dated as of  December 15, 2004, by and between InterDent, Inc. and Wells Fargo  Bank, National Association†                                                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.11  |   | Stock Pledge agreement, dated as of  December 15, 2004, by and between InterDent Service Corporation and  Wells Fargo Bank, National Association†                                                                                                                                                                                                                                                              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.12  |   | Deed of Trust, Assignment of Rents and Leases and  Security Agreement, dated as of June 23, 2004, by and from InterDent Service  Corporation, “Grantor” to First American Title Insurance Company, “Trustee or  “Grantee” for the benefit of Wells Fargo Foothill, Inc., in its capacity  as administrative agent, “Beneficiary” or “Grantee”††              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.13  |   | Mortgage, Assignment of Rents and Leases, and  Security Agreement, dated as of June 23, 2004, by and from InterDent Service  Corporation, “Mortgagor” to Wells Fargo Foothill, Inc., in its capacity  as administrative agent, “Mortgagee”††                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.14  |   | Deed of Trust, Assignment of Rents and Leases and  Security Agreement, dated as of December 15, 2004, by and from InterDent  Service Corporation, “Grantor” to First American Title Insurance Company,  “Trustee or “Grantee” for the benefit of Wells Fargo Bank, National  Association, in its capacity as collateral agent, “Beneficiary” or  “Grantee”†† |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.15  |   | Mortgage, Assignment of Rents and Leases, and  Security Agreement, dated as of December 15, 2004, by and from InterDent  Service Corporation, “Mortgagor” to Wells Fargo Bank, National Association,  in its capacity as collateral agent, “Mortgagee”††                                                                                                                              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.16  |   | Management Services Agreement, dated as of  April 1, 2005, by and between InterDent Service Corporation and Levine  Leichtman Capital Partners Inc.†††                                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.17  |   | InterDent Deferred Incentive Compensation Retirement  Plan. ††††                                                                                                                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 16     |   | Letter, dated June 13, 2005, from Ernst & Young  LLP to the SEC††                                                                                                                                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 21.1   |   | List of subsidiaries†                                                                                                                                                                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 31.1   |   | Certification of Chief Executive Officer under  Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                            |

 

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| 31.2   |   | Certification of Chief Financial Officer under  Section 302 of the Sarbanes-Oxley Act of 2002 |
|--------|--------|-----------------------------------------------------------------------------------------------|
|   |   |                                                                                          |
| 32.1   |   | Certification of Chief Executive Officer under  Section 906 of the Sarbanes-Oxley Act of 2002 |
|   |   |                                                                                          |
| 32.2   |   | Certification of Chief Financial Officer under  Section 906 of the Sarbanes-Oxley Act of 2002 |

 

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| †                   |   | Previously filed on April 14, 2005 with the SEC  on the Registration Statement on Form S-4                           |
|--------------------------|--------|--------------------------------------------------------------------------------------------------------------------------------|
|                     |   |                                                                                                                           |
| ††             |   | Previously filed on June 13, 2005 with the SEC on  Amendment No. 1 to the Registration Statement on Form S-4              |
|                     |   |                                                                                                                           |
| †††       |   | Previously filed on August 19, 2005 with the  SEC on Amendment No. 2 to the Registration Statement on Form S-4. |
|                     |   |                                                                                                                           |
| †††† |   | Previously filed on May 12, 2006 with the SEC on  Form 10-Q.                                                              |

 

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**SIGNATURES**

In accordance with therequirements of the Exchange Act, the registrant caused this report to besigned on its behalf by the undersigned, thereunto duly authorized.
|        |             | ** ** | **INTERDENT  SERVICE CORPORATION** |
|--------|------------------|------------|------------------------------------|
|   |             | ** ** | (Registrant)                       |
|   |             |       |                               |   |
| Date:  | November 9, 2006 |       | By:                                | /s/ IVAR S.  CHHINA |   |
|   |             |       |                               | Ivar S. Chhina |
|   |             |       |                               | President, Chief Executive Officer and  Chairman |
|   |             |       |                               |   |
|   |             |       |                               |   |
|   |             | By:        | /s/ ROBERT W.  HILL                |   |
|   |             |       |                               | Robert W. Hill |
|   |             |       |                               | Chief Financial Officer, Treasurer  and Secretary |
|        |                  |            |                                    |  |  |  |  |  |

 

25

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**SIGNATURES**

In accordance with therequirements of the Exchange Act, the registrant caused this report to besigned on its behalf by the undersigned, thereunto duly authorized.
|        |             | ** ** | **INTERDENT, INC.** |
|--------|------------------|------------|---------------------|
|   |             | ** ** | (Registrant)        |
|   |             |       |                |   |
| Date:  | November 9, 2006 |       | By:                 | /s/ IVAR S.  CHHINA |   |
|   |             |       |                | Ivar S. Chhina |
|   |             |       |                | President, Chief Executive Officer and  Chairman |
|   |             |       |                |   |
|   |             |       |                |   |
|   |             | By:        | /s/ ROBERT W.  HILL |   |
|   |             |       |                | Robert W. Hill |
|   |             |       |                | Chief Financial Officer, Treasurer  and Secretary |
|        |                  |            |                     |  |  |  |  |  |

 

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