** **

**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

----

 

**FORM 10-Q**

**(Mark One)**

 

**x****              ****QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period endedJune 30, 2006**

 

**Or**

** **

**o****     TRANSITION REPORT PURSUANT TO SECTION 13 OR15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from                       to                     **

**Commission file number 0-19878**

**OPTION CARE, INC.**

(Exact name of registrant as specified in its charter)

 

| **Delaware**                                                    |   | **36-3791193**                     |
|-----------------------------------------------------------------|--------|------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |   | (IRS Employer  Identification No.) |
|                                                            |   |                               |
| **485  Half Day Road, Suite 300**                               |   | ** **                         |
| **Buffalo  Grove, Illinois**                                    |   | **60089**                          |
| (Address of  principal executive offices)                       |   | (zip code)                         |

 

**(847) 465-2100**

(Registrant’stelephone number, including area code)

 

**Notapplicable**

(Formername, former address and former fiscal year, if changed since last report)

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed bySection 13 or 15 (d) of the Securities Exchange Act of 1934 duringthe preceding 12 months (or for such shorter period that the registrantwas required to file such reports), and (2) has been subject to such filingrequirements for the past 90 days. Yes x  No o

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, or anon-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Largeaccelerated filer o Acceleratedfiler x Non-accelerated filer o

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act). Yes o  No x

Indicate the number ofshares outstanding of each of the issuer’s classes of common stock, as of thelatest practicable date.

|                                 |   | **Issued  and Outstanding** |
|---------------------------------|--------|-----------------------------|
| **Class**                       |   | **as of  August 1, 2006**   |
|                            |   |                        |
| Common Stock -  $0.01 par value |   | 34,201,896                  |

 

 

----

 

**INDEX**

**OPTIONCARE, INC. AND SUBSIDIARIES**

 
| DESCRIPTION      | ** **                                                                                               | ** ** |
|------------------|----------------------------------------------------------------------------------------------------------|------------|
| ** **       | ** **                                                                                               | ** ** |
| **PART I**  | **FINANCIAL  INFORMATION**                                                                               | ** ** |
| ** **       | ** **                                                                                               | ** ** |
| Item  1.         | Financial  Statements (Unaudited)                                                                        |       |
|             |                                                                                                     |       |
|             | Condensed consolidated balance sheets—June 30,  2006 and December 31, 2005                |       |
|             |                                                                                                     |       |
|             | Condensed consolidated statements of income—Three and  six months ended June 30, 2006 and 2005 |       |
|             |                                                                                                     |       |
|             | Condensed consolidated statements of cash flows—Six  months ended June 30, 2006 and 2005       |       |
|             |                                                                                                     |       |
|             | Notes to condensed consolidated financial  statements—June 30, 2006                            |       |
|             |                                                                                                     |       |
| Item 2.          | Management’s Discussion and Analysis of Financial Condition  and Results of Operations              |       |
|             |                                                                                                     |       |
| Item 3.          | Quantitative and Qualitative Disclosures about Market  Risk                                              |       |
|             |                                                                                                     |       |
| Item 4.          | Controls and Procedures                                                                                  |       |
| ** **       | ** **                                                                                               | ** ** |
| **PART II** | **OTHER  INFORMATION**                                                                                   | ** ** |
| ** **       | ** **                                                                                               | ** ** |
| Item  1.         | Legal  Proceedings                                                                                       |       |
|             |                                                                                                     |       |
| Item 1A.         | Risk Factors                                                                                             |       |
|             |                                                                                                     |       |
| Item 2.          | Unregistered Sales of Equity Securities and Use of  Proceeds                                             |       |
|             |                                                                                                     |       |
| Item 3.          | Defaults Upon Senior Securities                                                                          |       |
|             |                                                                                                     |       |
| Item 4.          | Submission of Matters to a Vote of Security Holders                                                      |       |
|             |                                                                                                     |       |
| Item  5.         | Other  Information                                                                                       |       |
|             |                                                                                                     |       |
| Item 6.          | Exhibits                                                                                                 |       |
|             |                                                                                                     |       |
| **SIGNATURES**   |                                                                                                     |

 

2

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**PART I.  FINANCIALINFORMATION**

**Item1.  Financial Statements**

**OptionCare, Inc. and Subsidiaries**

**Condensed Consolidated Balance Sheets**

(in thousands,except per share amounts)
| ** **                                                                                                                                                                               | ** ** | **June 30, 2006** | ** ** | **December 31, 2005** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| ** **                                                                                                                                                                               | ** ** | **(Unaudited)**             | ** ** | **(Restated-Note 1)**      | ** ** |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Assets                                                                                                                                                                                   |       |                        |       |                            |       |
| Current assets:                                                                                                                                                                          |       |                        |       |                            |       |
| Cash and cash  equivalents                                                                                                                                                               |       | $                           | 15,444     |                            | $          | 7,816 |   |
| Short-term  investments                                                                                                                                                                  |       | 4,000                       |       | 41,042                          |       |
| Accounts  receivable, net                                                                                                                                                                |       | 102,531                     |       | 95,297                          |       |
| Inventory                                                                                                                                                                                |       | 19,275                      |       | 15,490                          |       |
| Deferred income  tax benefit                                                                                                                                                             |       | 3,921                       |       | 2,856                           |       |
| Other current  assets                                                                                                                                                                    |       | 8,974                       |       | 9,942                           |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total current assets                                                                                                                                                                     |       | 154,145                     |       | 172,443                         |       |
| Equipment and other  fixed assets, net                                                                                                                                                   |       | 22,024                      |       | 18,905                          |       |
| Goodwill, net                                                                                                                                                                            |       | 164,836                     |       | 112,220                         |       |
| Other assets                                                                                                                                                                             |       | 12,593                      |       | 12,996                          |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total assets                                                                                                                                                                             |       | $                           | 353,598    |                            | $          | 316,564 |   |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Liabilities and stockholders’  equity                                                                                                                                               |       |                        |       |                            |       |
| Current liabilities:                                                                                                                                                                     |       |                        |       |                            |       |
| Trade accounts  payable                                                                                                                                                                  |       | $                           | 29,959     |                            | $          | 29,958 |   |
| Accrued wages  and benefits                                                                                                                                                              |       | 7,207                       |       | 5,666                           |       |
| Current portion  of long-term debt                                                                                                                                                       |       | 44                          |       | 48                              |       |
| Other current  liabilities                                                                                                                                                               |       | 12,899                      |       | 4,077                           |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total current liabilities                                                                                                                                                                |       | 50,109                      |       | 39,749                          |       |
| Long-term debt, less  current portion                                                                                                                                                    |       | 86,301                      |       | 86,306                          |       |
| Deferred income tax  liability                                                                                                                                                           |       | 10,638                      |       | 9,084                           |       |
| Other liabilities                                                                                                                                                                        |       | 1,079                       |       | 665                             |       |
| Minority interest                                                                                                                                                                        |       | 705                         |       | 593                             |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total liabilities                                                                                                                                                                        |       | 148,832                     |       | 136,397                         |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Stockholders’ equity:                                                                                                                                                               |       |                        |       |                            |       |
| Common stock,  $.01 par value per share, 60,000 shares authorized, 34,125 and  33,081 shares issued and outstanding at June 30, 2006 and  December 31, 2005, respectively |       | 341                         |       | 328                             |       |
| Common stock to  be issued, 145 and 134 shares at June 30, 2006 and December 31,  2005, respectively                                                                           |       | 1,747                       |       | 1,311                           |       |
| Additional  paid-in capital                                                                                                                                                              |       | 143,652                     |       | 128,158                         |       |
| Retained  earnings                                                                                                                                                                       |       | 59,026                      |       | 50,370                          |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total stockholders’  equity                                                                                                                                                         |       | 204,766                     |       | 180,167                         |       |
|                                                                                                                                                                                     |       |                        |       |                            |       |
| Total liabilities and stockholders’ equity                                                                                                                                          |       | $                           | 353,598    |                            | $          | 316,564 |   |

 

*See notes to condensed consolidatedfinancial statements*

3

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**OptionCare, Inc. and Subsidiaries**

**Condensed Consolidated Statements of Income**

(Unaudited)

(in thousands,except per share amounts)
| ** **                                            | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-------------------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                            | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                            | ** ** | ** **                                      | ** ** | **(Restated-Note 1)**                    | ** ** | ** ** | ** ** | **(Restated-Note 1)** | ** ** |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Revenue:                                              |       |                                            |       |                                          |       |   |   |   |   |
| Specialty pharmacy services                           |       | $                                               | 89,434     |                                          | $          | 67,600 |   | $ | 185,233 |   | $ | 142,497 |   |
| Infusion and related healthcare services              |       | 64,870                                          |       | 47,690                                        |       | 122,248 |   | 90,538 |   |
| Other                                                 |       | 3,356                                           |       | 4,201                                         |       | 5,432 |   | 7,211 |   |
| Total revenue                                         |       | 157,660                                         |       | 119,491                                       |       | 312,913 |   | 240,246 |   |
| Cost of revenue:                                      |       |                                            |       |                                          |       |   |   |   |   |
| Cost of goods sold                                    |       | 93,850                                          |       | 71,750                                        |       | 192,029 |   | 147,442 |   |
| Cost of services provided                             |       | 17,826                                          |       | 12,823                                        |       | 34,029 |   | 24,666 |   |
| Total cost of  revenue                                |       | 111,676                                         |       | 84,573                                        |       | 226,058 |   | 172,108 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Gross profit                                          |       | 45,984                                          |       | 34,918                                        |       | 86,855 |   | 68,138 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Selling, general  and administrative expenses         |       | 32,022                                          |       | 24,403                                        |       | 60,598 |   | 46,846 |   |
| Provision for  doubtful accounts                      |       | 3,463                                           |       | 2,153                                         |       | 6,931 |   | 4,479 |   |
| Depreciation and  amortization                        |       | 1,226                                           |       | 849                                           |       | 2,370 |   | 1,753 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Total operating  expenses                             |       | 36,711                                          |       | 27,405                                        |       | 69,899 |   | 53,078 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Operating income                                      |       | 9,273                                           |       | 7,513                                         |       | 16,956 |   | 15,060 |   |
| Interest income  (expense), net                       |       | (217                                            | )          | 194                                           |       | (209 | ) | 150 |   |
| Other income  (expense), net                          |       | (365                                            | )          | 100                                           |       | (427 | ) | 53 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Income before  income taxes                           |       | 8,691                                           |       | 7,807                                         |       | 16,320 |   | 15,263 |   |
| Income tax  provision                                 |       | 3,330                                           |       | 3,004                                         |       | 5,842 |   | 5,788 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Net income from  continuing operations                |       | $                                               | 5,361      |                                          | $          | 4,803 |   | $ | 10,478 |   | $ | 9,475 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Discontinued  operations:                             |       |                                            |       |                                          |       |   |   |   |   |
| Loss on  discontinued operations, net of income taxes |       | (160                                            | )          | —                                        |       | (487 | ) | — |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Net income                                            |       | $                                               | 5,201      |                                          | $          | 4,803 |   | $ | 9,991 |   | $ | 9,475 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Basic net income  (loss) per common share:            |       |                                            |       |                                          |       |   |   |   |   |
| Continuing operations                                 |       | $                                               | 0.16       |                                          | $          | 0.15 |   | $ | 0.31 |   | $ | 0.29 |   |
| Discontinued operations                               |       | $                                               | (0.01      | )                                             | $          | — |   | $ | (0.01 | ) | $ | — |   |
| Total                                                 |       | $                                               | 0.15       |                                          | $          | 0.15 |   | $ | 0.30 |   | $ | 0.29 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Diluted net  income (loss) per common share:          |       |                                            |       |                                          |       |   |   |   |   |
| Continuing operations                                 |       | $                                               | 0.15       |                                          | $          | 0.14 |   | $ | 0.30 |   | $ | 0.28 |   |
| Discontinued operations                               |       | $                                               | —     |                                          | $          | — |   | $ | (0.02 | ) | $ | — |   |
| Total                                                 |       | $                                               | 0.15       |                                          | $          | 0.14 |   | $ | 0.28 |   | $ | 0.28 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Shares used in  computing net income per share:       |       |                                            |       |                                          |       |   |   |   |   |
| Basic                                                 |       | 33,991                                          |       | 32,559                                        |       | 33,572 |   | 32,332 |   |
| Diluted                                               |       | 35,198                                          |       | 34,593                                        |       | 35,161 |   | 33,971 |   |
|                                                  |       |                                            |       |                                          |       |   |   |   |   |
| Cash dividends per  share                             |       | $                                               | 0.0200     |                                          | $          | 0.0200 |   | $ | 0.0400 |   | $ | 0.0333 |   |

 

*Seenotes to condensed consolidated financial statements*

4

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**OptionCare, Inc. and Subsidiaries**

**Condensed Consolidated Statements ofCash Flows**

(Unaudited)

(in thousands)
| ** **                                                                         | ** ** | **Six Months Ended  June 30,** | ** ** |
|------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                         | ** ** | **2006**                                      | ** ** | **2005** | ** ** |
| ** **                                                                         | ** ** | ** **                                    | ** ** | **(Restated-Note 1)** | ** ** |
| ** **                                                                         | ** ** | ** **                                    | ** ** | ** ** | ** ** |
| Cash flows from  operating activities:                                             |       |                                          |       |   |   |
| Net income                                                                         |       | $                                             | 9,991      |   | $ | 9,475 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       |                                          |       |   |   |
| Depreciation and amortization                                                      |       | 3,975                                         |       | 3,022 |   |
| Provision for doubtful accounts                                                    |       | 7,079                                         |       | 4,479 |   |
| Deferred income taxes                                                              |       | 209                                           |       | 1 |   |
| Income from equity investees                                                       |       | 243                                           |       | — |   |
| Non-cash stock compensation expense                                                |       | 452                                           |       | 1,881 |   |
| Changes in assets and liabilities:                                                 |       |                                          |       |   |   |
| Accounts and notes receivable                                                      |       | (125                                          | )          | (3,066 | ) |
| Inventory                                                                          |       | (1,248                                        | )          | 1,546 |   |
| Accounts payable                                                                   |       | (10,853                                       | )          | (5,693 | ) |
| Income taxes receivable/payable                                                    |       | (114                                          | )          | 1,639 |   |
| Change in other assets and liabilities                                             |       | 3,748                                         |       | (2,715 | ) |
|                                                                               |       |                                          |       |   |   |
| Net cash provided by operating activities                                          |       | 13,357                                        |       | 10,569 |   |
|                                                                               |       |                                          |       |   |   |
| Cash flows from  investing activities:                                             |       |                                          |       |   |   |
| Purchases of short-term investments                                                |       | (4,000                                        | )          | (135,288 | ) |
| Sales of short-term investments                                                    |       | 41,042                                        |       | 139,060 |   |
| Purchases of equipment and other, net                                              |       | (5,823                                        | )          | (4,158 | ) |
| Payments for acquisitions, net of cash acquired                                    |       | (38,778                                       | )          | (25,742 | ) |
|                                                                               |       |                                          |       |   |   |
| Net cash used in investing activities                                              |       | (7,559                                        | )          | (26,128 | ) |
|                                                                               |       |                                          |       |   |   |
| Cash flows from  financing activities:                                             |       |                                          |       |   |   |
| Increase in financing costs                                                        |       | (70                                           | )          | (161 | ) |
| Income tax benefit from exercise of stock options                                  |       | 618                                           |       | 1,388 |   |
| Payments on capital leases and other debt                                          |       | (10                                           | )          | (13 | ) |
| Proceeds from issuance of stock                                                    |       | 2,627                                         |       | 4,466 |   |
| Payments of cash dividends to common shareholders                                  |       | (1,335                                        | )          | (1,077 | ) |
|                                                                               |       |                                          |       |   |   |
| Net cash provided by financing activities                                          |       | 1,830                                         |       | 4,603 |   |
|                                                                               |       |                                          |       |   |   |
| Net increase  (decrease) in cash and cash equivalents                              |       | 7,628                                         |       | (10,956 | ) |
| Cash and cash  equivalents, beginning of period                                    |       | 7,816                                         |       | 19,816 |   |
| Cash and cash  equivalents, end of period                                          |       | $                                             | 15,444     |   | $ | 8,860 |   |

 

*See notes to condensed consolidatedfinancial statements*

5

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**OptionCare, Inc. and Subsidiaries**

**Notes to Condensed Consolidated Financial Statements**

**June 30,2006**

(Unaudited)

**1.****              Basis ofPresentation**

Theaccompanying unaudited condensed consolidated financial statements have beenprepared in accordance with accounting principles generally accepted in theUnited States for interim financial information and with the instructions toQuarterly Report on Form 10-Q and Article 10 of Regulation S-X.Accordingly, they do not include all of the information and footnotes requiredby accounting principles generally accepted in the United States for completefinancial statements. In the opinion of management, all adjustments (consistingof normal recurring accruals) considered necessary for a fair presentation havebeen included. Operating results for the three and six months ended June 30,2006 are not necessarily indicative of the results that may be expected for theyear ending December 31, 2006.

The balance sheet atDecember 31, 2005 has been derived from the audited financial statements atthat date but does not include all of the information and footnotes required byaccounting principles generally accepted in the United States for completefinancial statements.  For furtherinformation, refer to the consolidated financial statements and footnotesthereto included in Option Care’s Annual Report on Form 10-K for the year endedDecember 31, 2005.

In addition, the balancesheet at December 31, 2005 and statements of income and cash flows for thethree and six months ended June 30, 2005 have been restated to reflect theimpact of the adoption of Statement of Financial Accounting Standards (“SFAS”)No. 123(R), *Share-Based Payment*, as of January 1,2006 utilizing the modified retrospective method (see also Note 9, *Stock-based Compensation*) and to reflect the correction oferrors in previously reported pro-forma disclosures of stock-based compensationas then required by SFAS No. 123, *Accounting for Stock-BasedCompensation*. The errors in previously reported pro-formadisclosures of stock-based compensation were due to incorrect tax treatment ofcompensation expense from our employee stock purchase plan and incorrectlyaccelerated expensing of certain prior years’ grants.

The following table setsforth the impact of the adoption of SFAS No. 123(R) utilizing the modifiedretrospective method and the correction of errors in previously reportedpro-forma disclosures of stock-based compensation on the Condensed ConsolidatedBalance Sheet as of December 31, 2005 (in thousands):
|                                                        | ** ** | **As Reported** | ** ** | **Effect of FAS  123(R) Adoption** | ** ** | **As Restated** | ** ** |
|--------------------------------------------------------|------------|----------------------|------------|---------------------------------------------------|------------|----------------------|------------|
|                                                   |       |                 |       |                                              |       |                 |       |
| Total current  assets                                  |       | $                    | 172,443    |                                              | $          | —               |       | $ | 172,443 |   |
| Equipment and  other fixed assets, net                 |       | 18,905               |       | —                                            |       | 18,905               |       |
| Goodwill, net                                          |       | 112,220              |       | —                                            |       | 112,220              |       |
| Other intangible  assets, net(1)                       |       | 3,450                |       | —                                            |       | 3,450                |       |
| Investment in  affiliates(1)                           |       | 4,911                |       | —                                            |       | 4,911                |       |
| Non-current  portion of deferred income tax benefit(1) |       | 230                  |       | 2,886                                             |       | 3,116                |       |
| Other long-term  assets(1)                             |       | 1,519                |       | —                                            |       | 1,519                |       |
|                                                   |       |                 |       |                                              |       |                 |       |
| Total assets                                           |       | $                    | 313,678    |                                              | $          | 2,886                |       | $ | 316,564 |   |
|                                                   |       |                 |       |                                              |       |                 |       |
| Total liabilities                                      |       | 136,397              |       | —                                            |       | 136,397              |       |
|                                                   |       |                 |       |                                              |       |                 |       |
| Common stock and  common stock to be issued            |       | 1,639                |       | —                                            |       | 1,639                |       |
| Additional  paid-in capital                            |       | 113,686              |       | 14,472                                            |       | 128,158              |       |
| Retained  earnings                                     |       | 61,956               |       | (11,586                                           | )          | 50,370               |       |
|                                                   |       |                 |       |                                              |       |                 |       |
| Total stockholders’ equity                        |       | 177,281              |       | 2,886                                             |       | 180,167              |       |
|                                                   |       |                 |       |                                              |       |                 |       |
| Total liabilities and  stockholders’ equity       |       | $                    | 313,678    |                                              | $          | 2,886                |       | $ | 316,564 |   |

 

----

(1) Included in the accompanying restatedCondensed Consolidated Balance as of December 31, 2005 within “Other assets”.

The following table setsforth the impact of the adoption of SFAS No. 123(R) utilizing the modifiedretrospective method and the correction of errors in previously reportedpro-forma disclosures of stock-based compensation on the Condensed ConsolidatedStatement of Income for the three and six months ended June 30, 2005 (inthousands, except per share amounts):

6

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|                                                 | ** ** | **Three months ended June 30, 2005** | ** ** | **Six months ended June 30, 2005** | ** ** |
|-------------------------------------------------|------------|---------------------------------------------------------------|------------|-------------------------------------------------------------|------------|
| ** **                                      | ** ** | **As  Reported**                                              | ** ** | **Effect of  FAS 123(R)  Adoption**               | ** ** | **As  Restated** | ** ** | **As  Reported** | ** ** | **Effect of  FAS 123(R)  Adoption** | ** ** | **As  Restated** | ** ** |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Total revenue                                   |       | $                                                             | 119,491    |                                                        | $          | — |   | $ | 119,491 |   | $ | 240,246 |   | $ | — |   | $ | 240,246 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Cost of goods sold                              |       | 71,750                                                        |       | —                                                      |       | 71,750 |   | 147,442 |   | — |   | 147,442 |   |
| Cost of services provided                       |       | 12,781                                                        |       | 42                                                          |       | 12,823 |   | 24,581 |   | 85 |   | 24,666 |   |
| Total cost of  revenue                          |       | 84,531                                                        |       | 42                                                          |       | 84,573 |   | 172,023 |   | 85 |   | 172,108 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Gross profit                                    |       | 34,960                                                        |       | (42                                                         | )          | 34,918 |   | 68,223 |   | (85 | ) | 68,138 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Selling, general  and administrative expenses   |       | 23,509                                                        |       | 894                                                         |       | 24,403 |   | 45,050 |   | 1,796 |   | 46,846 |   |
| Other operating  expenses                       |       | 3,002                                                         |       | —                                                      |       | 3,002 |   | 6,232 |   | — |   | 6,232 |   |
| Total operating  expenses                       |       | 26,511                                                        |       | 894                                                         |       | 27,405 |   | 51,282 |   | 1,796 |   | 53,078 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Operating income                                |       | 8,449                                                         |       | (936                                                        | )          | 7,513 |   | 16,941 |   | (1,881 | ) | 15,060 |   |
| Interest income                                 |       | 194                                                           |       | —                                                      |       | 194 |   | 150 |   | — |   | 150 |   |
| Other expense,  net                             |       | 100                                                           |       | —                                                      |       | 100 |   | 53 |   | — |   | 53 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Income before  income taxes                     |       | 8,743                                                         |       | (936                                                        | )          | 7,807 |   | 17,144 |   | (1,881 | ) | 15,263 |   |
| Income tax  provision                           |       | 3,334                                                         |       | (330                                                        | )          | 3,004 |   | 6,450 |   | (662 | ) | 5,788 |   |
| Net income                                      |       | $                                                             | 5,409      |                                                        | $          | (606 | ) | $ | 4,803 |   | $ | 10,694 |   | $ | (1,219 | ) | $ | 9,475 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Net income per  common share:                   |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Basic                                           |       | $                                                             | 0.17       |                                                        | $          | (0.02 | ) | $ | 0.15 |   | $ | 0.33 |   | $ | (0.04 | ) | $ | 0.29 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Diluted                                         |       | $                                                             | 0.16       |                                                        | $          | (0.02 | ) | $ | 0.14 |   | $ | 0.32 |   | $ | (0.04 | ) | $ | 0.28 |   |
|                                            |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Shares used in  computing net income per share: |       |                                                          |       |                                                        |       |   |   |   |   |   |   |   |   |
| Basic                                           |       | 32,559                                                        |       | —                                                      |       | 32,559 |   | 32,332 |   | — |   | 32,332 |   |
| Diluted                                         |       | 34,519                                                        |       | 74                                                          |       | 34,593 |   | 33,930 |   | 41 |   | 33,971 |   |

 

The following table sets forth the impact of the adoption of SFAS No.123(R) utilizing the modified retrospective method and the correction of errorsin previously reported pro-forma disclosures of stock-based compensation on theCondensed Consolidated Statement of Cash Flows for the six months ended June30, 2005 (in thousands):

 
|                                                                                | ** ** | **As Reported** | ** ** | **Effect of FAS  123(R) Adoption** | ** ** | **As Restated** | ** ** |
|--------------------------------------------------------------------------------|------------|----------------------|------------|---------------------------------------------------|------------|----------------------|------------|
|                                                                           |       |                 |       |                                              |       |                 |       |
| Cash flows from  operating activities:                                         |       |                 |       |                                              |       |                 |       |
| Net income                                                                     |       | $                    | 10,694     |                                              | $          | (1,219               | )          | $ | 9,475 |   |
| Adjustments to reconcile net income to cash provided  by operating activities: |       |                 |       |                                              |       |                 |       |
| Non-cash stock compensation expense                                            |       | —               |       | 1,881                                             |       | 1,881                |       |
| Deferred income taxes                                                          |       | 663                  |       | (662                                              | )          | 1                    |       |
| Income tax benefit from exercise of stock options                              |       | 1,388                |       | (1,388                                            | )          | —               |       |
| Other adjustments                                                              |       | (788                 | )          | —                                            |       | (788                 | )          |
|                                                                           |       |                 |       |                                              |       |                 |       |
| Net cash provided by operating activities                                      |       | 11,957               |       | (1,388                                            | )          | 10,569               |       |
|                                                                           |       |                 |       |                                              |       |                 |       |
| Net cash used in investing activities                                          |       | (26,128              | )          | —                                            |       | (26,128              | )          |
|                                                                           |       |                 |       |                                              |       |                 |       |
| Cash flows from  financing activities:                                         |       |                 |       |                                              |       |                 |       |
| Income tax benefit from exercise of stock options                              |       | —               |       | 1,388                                             |       | 1,388                |       |
| Other cash flows from financing activities                                     |       | 3,215                |       | —                                            |       | 3,215                |       |
|                                                                           |       |                 |       |                                              |       |                 |       |
| Net cash provided by financing activities                                      |       | 3,215                |       | 1,388                                             |       | 4,603                |       |
|                                                                           |       |                 |       |                                              |       |                 |       |
| Net decrease in  cash and cash equivalents                                     |       | (10,956              | )          | —                                            |       | (10,956              | )          |
| Cash and cash  equivalents, beginning of period                                |       | 19,816               |       | —                                            |       | 19,816               |       |
| Cash and cash  equivalents, end of period                                      |       | $                    | 8,860      |                                              | $          | —               |       | $ | 8,860 |   |

 

7

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**2.****              Long-Term Debt**

In November 2004, wecompleted an offering of $86.3 million of 2.25% convertible senior notes due2024 in a private placement to qualified institutional buyers.  We filed a Registration Statement on Form S-3on January 24, 2005, as subsequently amended, to register the notes under theSecurities Act of 1933.  The notes areconvertible into cash and, if applicable, shares of our common stock based onan initial conversion rate, subject to adjustment, of 55.5278 shares per $1,000principal amount of notes (which represents an initial conversion price of$18.01 per share), in certain circumstances. The conversion rate and conversion price were subsequently adjusted to83.5052 and $11.98 per share, respectively, pursuant to the terms of the notesas a result of our 3-for-2 common stock split on March 31, 2005 and $0.02per share dividends paid on June 10, September 2, and December 2, 2005,March 24, 2006 and June 5, 2006.  Holdersmay convert their notes into cash and, if applicable, shares of our commonstock prior to the stated maturity only under the following circumstances: (1)during any calendar quarter after the calendar quarter ended December 31, 2004,if the closing sale price of our common stock for each of 20 or moreconsecutive trading days in a period of 30 consecutive trading days ending onthe last trading day of the immediately preceding calendar quarter exceeds 120%of the conversion price in effect on the last trading day of the immediatelypreceding calendar quarter; (2) during the five business day period after anyfive consecutive trading day period (the “note measurement period”) in whichthe average trading price per $1,000 principal amount of notes was equal to orless than 97% of the average conversion value of the notes during the notemeasurement period; (3) upon the occurrence of specified corporatetransactions; or (4) if we have called the notes for redemption.  In general, upon conversion, the holder of eachnote will receive the conversion value of the note payable in cash, up to theprincipal amount of the note, and common stock for the note’s conversion valuein excess of such principal amount (plus an additional cash payout in lieu offractional shares).  If the notes aresurrendered for conversion in connection with certain fundamental changes thatoccur before November 1, 2009, holders will in certain circumstances alsoreceive a make-whole premium in addition to the cash and shares to whichholders are otherwise entitled to receive upon conversion.  The convertible senior notes will mature onNovember 1, 2024 and will not be redeemable by us prior to November 1,2009.  Holders of the convertible notesmay require us to repurchase all or a portion of the convertible notes for cashon November 1, 2009, November 1, 2014 and November 1, 2019.  Interest will be paid at 2.25% per annum,payable semi-annually in arrears on May 1 and November 1 of each year to theholders of record at the close of business on the preceding April 15 andOctober 15, respectively.  The notes aresenior unsecured obligations and rank equally with all of our existing andfuture senior unsecured indebtedness. None of the required conditions for potential conversion of the notes bythe holders occurred during the six months ended June 30, 2006.  The holders of the notes possess nostockholder rights, such as dividend or voting rights, unless and until theyconvert their notes into cash and shares of our common stock.

On May 5, 2006, weentered into a five-year revolving Credit Agreement with LaSalle Bank NationalAssociation (the “Agreement”).  Theinitial revolving loan commitment under the Agreement is $35 million.  Provided there is no event of default, wehave the option to increase the revolving loan commitment to a maximum of $100million during the first two years of the Agreement.  We will pay interest on borrowings at ratesranging from prime plus zero or LIBOR plus 1.00% to a maximum of prime plus0.25% or LIBOR plus 1.75% based on our debt to EBITDA ratio for the applicableperiod.  We will also pay a non-use feeranging from 0.15% to 0.225% of the unused portion of the revolving loancommitment.  We must maintain compliancewith various financial and other covenants during the life of theAgreement.  We incurred fees ofapproximately $100,000 related to negotiating this Agreement. We had noborrowings under the Agreement during the quarter ended June 30, 2006.

8

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**3.****              Earnings Per ShareData**

The following table sets forth the computation of basic and dilutedearnings per share for the periods indicated. (in thousands, except per share amounts):

 
|                                                                                 | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|---------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                      | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Basic:                                                                          |       |                                            |       |                                          |       |   |   |   |   |
| Net income from  continuing operations                                          |       | $                                               | 5,361      |                                          | $          | 4,803 |   | $ | 10,478 |   | $ | 9,475 |   |
| Net loss from  discontinued operations                                          |       | (160                                            | )          | —                                        |       | (487 | ) | — |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Net income                                                                      |       | $                                               | 5,201      |                                          | $          | 4,803 |   | $ | 9,991 |   | $ | 9,475 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Average shares  outstanding                                                     |       | 33,991                                          |       | 32,559                                        |       | 33,572 |   | 31,782 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Basic earnings  from continuing operations per share                            |       | $                                               | 0.16       |                                          | $          | 0.15 |   | $ | 0.31 |   | $ | 0.29 |   |
| Basic loss from  discontinued operations per share                              |       | (0.01                                           | )          | —                                        |       | (0.01 | ) | — |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Basic earnings  per share                                                       |       | $                                               | 0.15       |                                          | $          | 0.15 |   | $ | 0.30 |   | $ | 0.29 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Diluted:                                                                        |       |                                            |       |                                          |       |   |   |   |   |
| Net income from  continuing operations                                          |       | $                                               | 5,361      |                                          | $          | 4,803 |   | $ | 10,478 |   | $ | 9,475 |   |
| Net loss from  discontinued operations                                          |       | (160                                            | )          | —                                        |       | (487 | ) | — |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Net income                                                                      |       | $                                               | 5,201      |                                          | $          | 4,803 |   | $ | 9,991 |   | $ | 9,475 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Average shares  outstanding                                                     |       | 33,991                                          |       | 32,559                                        |       | 33,572 |   | 32,332 |   |
| Net effect of  dilutive stock options – Based on the treasury stock method |       | 906                                             |       | 1,099                                         |       | 979 |   | 1,064 |   |
| Net effect of  dilutive contingently convertible debt (1)                       |       | 301                                             |       | 935                                           |       | 610 |   | 575 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Total diluted  shares                                                           |       | 35,198                                          |       | 34,593                                        |       | 35,161 |   | 33,971 |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Diluted earnings  from continuing operations per share                          |       | $                                               | 0.15       |                                          | $          | 0.14 |   | $ | 0.30 |   | $ | 0.28 |   |
| Diluted loss  from discontinued operations per share                            |       | $                                               | —     |                                          | $          | — |   | $ | (0.02 | ) | $ | — |   |
|                                                                            |       |                                            |       |                                          |       |   |   |   |   |
| Diluted earnings per  share                                                     |       | $                                               | 0.15       |                                          | $          | 0.14 |   | $ | 0.28 |   | $ | 0.28 |   |

 

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(1)  Weighted average shares issuableupon conversion of all $86.3 million of our 2.25% convertible senior notes due2024.

**4.  Operating Segments**

We report our results ofoperations from one identifiable segment, with three service lines: specialtypharmacy services, infusion and related healthcare services, and other.

***Specialtypharmacy services*** involve the distribution of injectableand infused pharmaceuticals to treat a wide range of chronic healthconditions.  We purchase specialtypharmaceuticals from manufacturers and wholesale distributors, fillprescriptions provided by physicians, and label, package and deliver thepharmaceuticals to patients’ homes or physicians’ offices, either ourselves orthrough contract couriers. These pharmaceuticals may require refrigeration duringshipping as well as special handling to prevent potencydegradation. Depending on therapy, we may also administer the specialtypharmaceuticals to the patient at one of our ambulatory infusion centers.Patients receiving treatment are often provided special counseling andeducation regarding their condition and treatment program.

***Infusion and related healthcareservices*** typically involve the intravenous administrationof medications at the patient’s home or other non-hospital sites such as one ofour ambulatory infusion suites.  Infusion pharmacy services treat a widerange of acute and chronic health conditions, including infections,dehydration, cancer, pain and nutritional deficiencies.  All of ourcompany-owned pharmacies provide infusion pharmacy services.  Several ofour company-owned pharmacies also provide home health nursing services,respiratory therapy services and home medical equipment sales and rentals.  Wealso have one location that provides home hospice services.

9

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***Other revenue***consists of royalties and other fees generated from our franchised pharmacynetwork and, for the three and six months ended June 30, 2005, softwarelicensing and support revenue generated by our subsidiary, Management byInformation, Inc. (“MBI”).  The MBIbusiness was sold during the fourth quarter of 2005 and therefore generated norevenue during the three and six months ended June 30, 2006.

**5.  Significant Customers and Concentration of Credit Risk**

We generate the majorityof our revenue from managed care contracts and other agreements with commercialthird party payors by providing health care services to their members. Our principal managed care contract is with Blue Cross and Blue Shield ofFlorida, to whose members we provide infusion pharmacy services and specialtypharmacy services.  The contract may be terminated by either party on 90days’ notice and, unless terminated, renews annually each September for anadditional one-year term.  We also generate revenue from governmenthealthcare programs such as Medicare and Medicaid.

The following table setsforth information regarding revenue and accounts receivable related to our mostsignificant payors as of the dates and for the periods presented:
|                                        | ** ** | **Revenue**                      | ** ** | ** **                     | ** ** | ** **                   | ** ** |
|----------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|------------------------------|------------|
| ** **                             | ** ** | **Three months ended** | ** ** | **Six months ended** | ** ** | **Accounts Receivable** | ** ** |
| ** **                             | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** | **June 30,**            | ** ** | **December 31,** | ** ** |
| ** **                             | ** ** | **2006**                         | ** ** | **2005**                       | ** ** | **2006**                     | ** ** | **2005** | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                             | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** **                   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Blue Cross and  Blue Shield of Florida |       | 13                               | %          | 14                             | %          | 13                           | %          | 14 | % | 10 | % | 9 | % |
| Medicare &  Medicaid          |       | 21                               | %          | 17                             | %          | 20                           | %          | 17 | % | 18 | % | 22 | % |
| All other payors  (1)                  |       | 66                               | %          | 69                             | %          | 67                           | %          | 69 | % | 72 | % | 69 | % |
|                                   |       |                             |       |                           |       |                         |       |   |   |   |   |   |   |
| Total                                  |       | 100                              | %          | 100                            | %          | 100                          | %          | 100 | % | 100 | % | 100 | % |

 

----

(1)  No other payor represented 10%or more of revenue or accounts receivable as of the dates and for the periodspresented.

**6.****    Seasonal Revenue Trends**

Synagis®, one of thespecialty pharmaceuticals that we provide to patients, is seasonal.  Synagis® is a drug used for the prevention ofrespiratory syncytial virus (RSV) in high-risk pediatric patients. RSVinfection is a seasonal condition, with the season generally lasting fromOctober through April.

OptionCare’s quarterly Synagis® revenue for the year 2005 and the first two quartersof 2006 was as follows (in thousands):

|                                   | ** ** | **Synagis®  revenue** | ** ** | **% of Total  Revenue (1)** | ** ** |
|-----------------------------------|------------|----------------------------|------------|--------------------------------------------|------------|
| Quarter ended  March 31, 2005     |       | $                          | 15,536     |                                       | 12.9       | % |
| Quarter ended  June 30, 2005      |       | 4,492                      |       | 3.8                                        | %          |
| Quarter ended  September 30, 2005 |       | 862                        |       | 0.7                                        | %          |
| Quarter ended  December 31, 2005  |       | 15,905                     |       | 11.2                                       | %          |
| Fiscal year 2005                  |       | $                          | 36,795     |                                       | 7.3        | % |
|                              |       |                       |       |                                       |       |
| Quarter ended  March 31, 2006     |       | $                          | 27,102     |                                       | 17.5       | % |
| Quarter ended June 30,  2006      |       | $                          | 8,327      |                                       | 5.3        | % |

 

----

(1)Percent of total revenue is calculated based on total revenue from continuingoperations.

**7.****              Acquisitions**

We completed two acquisitionsand entered into a binding agreement for a third acquisition during the sixmonths ended June 30, 2006.  The resultsof operations for each business were consolidated as of the effective date oftheir acquisition.  The purpose of eachacquisition was to increase our revenue and net income by accomplishing one orboth of the following goals:  (1)expanding our geographic coverage, and (2) consolidating our position in themarkets we serve.

10

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Effective May 15, 2006,we acquired all of the outstanding stock of our Eatontown, New Jerseyfranchise.   The initial purchase price was $18.2 million,paid $14.0 million in cash and $4.2 million in shares of our common stock.  We may owe additional consideration up to$7.4 million, payable in 2007, 2008 and/or 2009 based on achievement of certainfinancial performance targets. Concurrent with the acquisition of this franchise, we recorded a gain of$1.2 million related to settlement of their pre-existing franchiserelationship.  This gain is includedwithin Other Revenue on our Condensed Consolidated Statements of Income for thethree and six months ended June 30, 2006. Related to this acquisition, we have recorded goodwill of $16.4 million,all of which is expected to be deductible for income tax purposes.

Effective March 13, 2006 (the “Effective Date”), weentered into a binding purchase agreement to acquire a home infusion businesswith operations in New York City.  Thepurchase price was $25.0 million, of which $16.5 million was paid in cash onthe Effective Date, $7.5 million was paid in shares of our common stock and$1.0 million is payable pursuant to the terms of a note.  Under the terms of the purchase agreement, wewill receive the acquired interest in the business at the closing date, whichis the earlier of two days following the receipt of approval from the New YorkDepartment of Health or six months subsequent to the Effective Date.  The total cost of the acquisition is subjectto working capital and earn-out adjustments. The total purchase price was allocated $21.9 million to goodwill and theremainder to accounts receivable and other working capital items.  We anticipate that all of the goodwill willbe deductible for tax purposes. Financial Accounting Standards Board Interpretation No. 46 (RevisedDecember 2003), *Consolidation of Variable Interest Entities*,addresses the consolidation of business enterprises to which customaryconditions of consolidation, such as a majority voting interest, do notapply.  As a result of the purchaseagreement and related joint coordination agreement, the acquired business isdeemed to be a variable interest entity (“VIE”) and we are the primarybeneficiary of this VIE as of the Effective Date. Accordingly, we have includedthe business in our consolidated financial reporting as of the EffectiveDate.  Prior to the closing date, andsubsequent to the Effective Date, creditors of the VIE will not have recourseto the assets of our company.  Subsequentto the closing date, the acquired business will cease to be a VIE and will becomea wholly-owned subsidiary of our company. As of June 30, 2006, the closing date had not yet been reached for thisacquisition.

EffectiveMarch 1, 2006, we acquired a home infusion and RT/DME business with operationsin Connecticut, Illinois, New Jersey and Ohio. Through this acquisition we acquired full equity ownership of one “C”corporation and one limited liability company for $5.0 million in cash, subjectto certain adjustments.  In connectionwith this acquisition, we recorded goodwill of $5.5 million, subject toadjustment related to contingencies involving the value of acquiredassets.  We anticipate that substantiallyall of the goodwill will be deductiblefor income tax purposes.

During the six months ended June 30, 2006, werecorded additional goodwill of $8.8 million related to additionalconsideration paid and payable to the former owners of businesses we acquiredin 2005.  We also recorded $200,000 inadditional consideration payable to the formers owners of a business weacquired during 2004.

For our current year acquisitions, the allocation ofpurchase price is tentative and subject to adjustment.  The following table sets forth the allocationof purchase price for the three and six months ended June 30, 2006 for ourcurrent year acquisition and adjustments and additional consideration for ourprior year acquisitions (in thousands):
|                                                     | ** ** | **Three months ended  June 30, 2006** | ** ** | **Six months ended  June 30, 2006** | ** ** |
|-----------------------------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------------------------------|------------|
| **Purchase  Price:**                                | ** ** | ** **                                                | ** ** | ** **                                              | ** ** |
| Paid in cash                                        |       | $                                                         | 17,533     |                                                    | $          | 38,778 |   |
| Paid/payable in  shares of Option Care common stock |       | 5,136                                                     |       | 12,636                                                  |       |
| Liabilities  assumed                                |       | 6,344                                                     |       | 19,286                                                  |       |
|                                                |       | $                                                         | 29,013     |                                                    | $          | 70,700 |   |
|                                                |       |                                                      |       |                                                    |       |
| **Allocation  of Purchase Price:**                  | ** ** | ** **                                                | ** ** | ** **                                              | ** ** |
| Goodwill                                            |       | $                                                         | 23,787     |                                                    | $          | 52,712 |   |
| Accounts  receivable, net                           |       | 3,520                                                     |       | 13,924                                                  |       |
| Other tangible  assets                              |       | 1,273                                                     |       | 3,589                                                   |       |
| Other intangible  assets                            |       | 433                                                       |       | 475                                                     |       |
|                                                |       | $                                                         | 29,013     |                                                    | $          | 70,700 |   |

 

Thefollowing table sets forth information regarding the changes in our gross andnet goodwill during the six months ended June 30, 2006 (in thousands):

11

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|                                 | ** ** | **Goodwill** | ** ** | **Accumulated  Amortization** | ** ** | **Goodwill, net** | ** ** |
|---------------------------------|------------|--------------|------------|-------------------------------|------------|------------------------|------------|
|                            |       |         |       |                          |       |                   |       |
| December 31,  2005              |       | $            | 116,160    |                          | $          | (3,940                 | )          | $ | 112,220 |   |
| Current year  acquisitions      |       | 44,246       |       | —                        |       | 44,246                 |       |
| Prior year  acquisitions        |       | 8,466        |       | —                        |       | 8,466                  |       |
| Held for sale  reclassification |       | (96          | )          | —                        |       | (96                    | )          |
|                            |       |         |       |                          |       |                   |       |
| June 30, 2006                   |       | $            | 168,776    |                          | $          | (3,940                 | )          | $ | 164,836 |   |

 

**8.****              DiscontinuedOperations**

In January 2006, we beganexploring strategic alternatives for our home health agency in Portland, Oregon(“Portland HHA”), including the possible sale or disposition of certainoperating assets of the Portland HHA. The Portland HHA was acquired on October 1, 2005 and is not viewed as astrategic asset of the company.  At theend of the first quarter of 2006, we decided to sell or cease operations of thePortland HHA.  The net book value of theoperating assets expected to be sold or disposed was $300,000 as of June 30,2006.  These assets are classified asheld for sale in our Condensed Consolidated Balance Sheet as of June 30, 2006,in accordance with SFAS No. 144.  ThePortland HHA incurred losses, net of tax of $160,000 for the quarter and$487,000 for the six months ended June 30, 2006.  These net losses are included in a separatecaption in our Condensed Consolidated Statement of Income for the three and sixmonths ended June 30, 2006.  We completedthe sale of this business on August 1, 2006. The sale price was $500,000 paid in cash at closing, plus the assumptionof certain liabilities by the purchaser.

The following table setsforth operating results from discontinued operations for the three and six monthsended June 31, 2006 (in thousands):
|                                                        | ** ** | **Three months ended  June 30, 2006** | ** ** | **Six months ended  June 30, 2006** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------------------------------|------------|
|                                                   |       |                                                      |       |                                                    |       |
| Total revenue                                          |       | $                                                         | 1,483      |                                                    | $          | 3,325 |   |
|                                                   |       |                                                      |       |                                                    |       |
| Loss from  discontinued operations before income taxes |       | (259                                                      | )          | (746                                                    | )          |
| Income tax  provision                                  |       | (99                                                       | )          | (259                                                    | )          |
| Net loss from  discontinued operations                 |       | $                                                         | (160       | )                                                       | $          | (487 | ) |

 

**9.****              Franchise-relatedRevenue**

We maintain a nationalfranchise network through which we generate a portion of our revenue.  Ourfranchise-related revenues include: (1) royalties; (2) vendor rebatesand administration fees; and (3) franchise settlement and relatedfees.  Each of these types of revenue can fluctuate over time, with thelargest potential fluctuations relating to franchise settlements.  Franchise-related revenue is included withinour “Other revenue” service line.  Thefollowing table sets forth our franchise-related revenue for the periodsindicated (in thousands):
|                                         | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-----------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                              | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Franchise-related  revenue:             |       |                                            |       |                                          |       |   |   |   |   |
| Royalties                               |       | $                                               | 1,344      |                                          | $          | 2,105 |   | $ | 2,794 |   | $ | 3,915 |   |
| Vendor rebates  and administration fees |       | 179                                             |       | 95                                            |       | 429 |   | 189 |   |
| Franchise  settlements and related fees |       | 1,427                                           |       | 1,700                                         |       | 1,427 |   | 2,491 |   |
|                                    |       |                                            |       |                                          |       |   |   |   |   |
| Total franchise-related  revenue        |       | $                                               | 2,950      |                                          | $          | 3,900 |   | $ | 4,650 |   | $ | 6,595 |   |

 

During the six monthsended June 30, 2006, we recorded franchise settlement revenue of $1.4million.  Of this total, $1.2 million wasrelated to settlement of our pre-existing franchise relationship with abusiness we acquired and $200,000 was related to the negotiated earlytermination of one of our franchises.

During the six monthsended June 30, 2005, we recorded franchise settlement revenue of $2.5million.  Of this total, $1.7 million was

12

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related to early releaseof a franchise from our network and $800,000 was related to our acquisition ofa franchise.  We also recorded $300,000in additional royalty revenue related to settlement of under-reported priorperiod royalties by the franchise that was early released from our network.

**10.****          Stock-based Compensation**

Effective January 1, 2006, we adopted SFAS No.123(R), *Share-Based Payment*,utilizing the modified retrospective method*.*  Prior to January 1, 2006, we accounted forstock-based compensation under the recognition and measurement provisions ofAccounting Principles Board (APB) Opinion No. 25, *Accounting for Stock Issued to Employees*, as permitted bySFAS No. 123,*Accounting for Stock-BasedCompensation*.  SFAS No. 123(R)supersedes Accounting Principles Board (APB) Opinion No. 25, *Accounting for Stock Issued to Employees*,and amends SFAS No. 95, *Statement of CashFlows*. SFAS 123(R) requires all share-based payments to employees,including grants of employee stock options and shares purchased under ouremployee stock purchase plan, to be recognized in the income statement based ontheir fair values.  We have restated theresults for all prior periods to include compensation cost for all share-basedpayments based on the grant date fair value estimated in accordance with theoriginal provisions of SFAS No. 123.

The following table sets forth the impact to our incomebefore taxes, net income and basic and diluted earnings per common share forthe three and six months ended June 30, 2006 and 2005 of the adoption of SFASNo. 123(R) utilizing the modified retrospective method (in thousands, exceptper share amounts):
|                                                          | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|----------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                               | ** ** | **2006**                                            | ** ** | **2005**                                          | ** ** | **2006** | ** ** | **2005** | ** ** |
| Impact on net  income for all stock-based compensation:  |       |                                                |       |                                              |       |   |   |   |   |
| Stock option grants                                      |       | $                                                   | (255       | )                                                 | $          | (404 | ) | $ | (719 | ) | $ | (760 | ) |
| Employee stock purchase plan withholdings                |       | (108                                                | )          | (117                                              | )          | (216 | ) | (209 | ) |
| Cumulative effect of a change in estimate(1)             |       | —                                              |       | —                                            |       | 483 |   | — |   |
| Correction of pro-forma disclosure compensation  expense |       | —                                              |       | (415                                              | )          | — |   | (912 | ) |
|                                                     |       |                                                |       |                                              |       |   |   |   |   |
| Total impact on income before income taxes               |       | (363                                                | )          | (936                                              | )          | (452 | ) | (1,881 | ) |
|                                                     |       |                                                |       |                                              |       |   |   |   |   |
| Provision for income taxes                               |       | (98                                                 | )          | (205                                              | )          | (91 | ) | (381 | ) |
| Correction of pro-forma disclosure income tax benefit    |       | —                                              |       | (125                                              | )          | — |   | (281 | ) |
|                                                     |       |                                                |       |                                              |       |   |   |   |   |
| Total impact on  net income                              |       | $                                                   | (265       | )                                                 | $          | (606 | ) | $ | (361 | ) | $ | (1,219 | ) |
|                                                     |       |                                                |       |                                              |       |   |   |   |   |
| Impact on net  income per common share:                  |       |                                                |       |                                              |       |   |   |   |   |
| Basic                                                    |       | $                                                   | (0.01      | )                                                 | $          | (0.02 | ) | $ | (0.01 | ) | $ | (0.04 | ) |
| Diluted                                                  |       | $                                                   | (0.01      | )                                                 | $          | (0.02 | ) | $ | (0.01 | ) | $ | (0.04 | ) |

----

(1)    Thecumulative effect of a change in estimate in the six months ended June 30,2006 was related to a change in the estimated pre-vesting forfeiture rate forstock options.

Priorto the adoption of SFAS No. 123(R), we presented all tax benefits of deductionsresulting from the exercise of stock options as operating cash flows in theStatement of Cash Flows.  SFAS No. 123(R)requires the cash flows resulting from the tax benefits resulting from taxdeductions in excess of the compensation cost recognized for those options(excess tax benefits) to be classified as financing cash flows.  Accordingly, we have reclassified the $1.4million excess tax benefit as a financing cash inflow on the CondensedConsolidated Statement of Cash Flows for the six months ended June 30, 2005.

Weamortize the calculated fair value of our outstanding stock optionsstraight-line over the vesting period of the options.  The fair value of options granted under ourstock option plan during the three and six months ended June 30, 2006 and 2005was estimated on the date of grant using the Black-Scholes option pricing modelwith the following assumptions:
|                                                           | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-----------------------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Annual dividend  yield per share                          |       | $                                               | 0.08       |                                          | $          | 0.08 |   | $ | 0.08 |   | $ | 0.08 |   |
| Expected  volatility                                      |       | 28                                              | %          | 30                                            | %          | 28 | % | 33 | % |
| Weighted average  risk-free interest rate                 |       | 5.22                                            | %          | 3.72                                          | %          | 5.14 | % | 3.66 | % |
| Expected grant  life (years)                              |       | 4.6                                             |       | 4.0                                           |       | 4.6 |   | 4.0 |   |
| Weighted average per  share fair value of options granted |       | $                                               | 3.51       |                                          | $          | 3.92 |   | $ | 3.58 |   | $ | 3.99 |   |

 

During the quarter andsix months ended June 30, 2006, we issued 165,000 and 278,000 shares of ourcommon stock, respectively, related to the exercise of options granted from ourstock incentive plan.  During the quarterended March 31, 2006, we issued 133,000

13

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shares of common stock to participants in our employee stock purchaseplan.  No shares were issued from ouremployee stock purchase plan in the quarter ended June 30, 2006.

** **

**11.****          Recently Issued AccountingPronouncement**

In June 2006, theFinancial Accounting Standards Board published Interpretation 48, *Accounting for Uncertainty in Income Taxes*(“FIN 48”), whichis an interpretation of Statement 109, *Accounting for IncomeTaxes.*  FIN 48 providesguidance on how entities should evaluate and report on uncertain taxpositions.  In accordance with FIN 48,the evaluation of a tax position is a two-step process.  The first step is recognition:  the enterprise determines whether it is morelikely than not that a tax position will be sustained upon examination,including resolution of any related appeals or litigation processes, based onthe technical merits of the position. The second step is measurement:  atax position that meets the more-likely-than-not recognition threshold ismeasured to determine the amount of benefit recognized in the financialstatements.  The tax position is measuredat the largest amount of benefit that is greater than 50 percent likely ofbeing realized upon ultimate settlement. Differences between tax positions taken in a tax return and amountsrecognized in the financial statements will generally result in:

(a) an increase in aliability for income taxes payable or a reduction of an income tax refund,

(b) a reduction in adeferred tax asset or an increase in a deferred tax liability, or

(c) both (a) and(b).

Unrecognized tax benefitsshould be classified on an enterprise’s balance sheet as current to the extentthat enterprise anticipates making a payment within one year.  An income tax liability should not beclassified as a deferred tax liability unless it results from a taxabletemporary difference (that is, a difference between the tax basis of an assetor a liability as calculated using FIN 48 and its reported amount in the balancesheet).

Tax positions thatpreviously failed to meet the more-likely-than-not recognition threshold shouldbe recognized in the first subsequent financial reporting period in which thatthreshold is met.  Previously recognizedtax positions that no longer meet the more-likely-than-not recognitionthreshold should be derecognized in the first subsequent financial reportingperiod in which that threshold is no longer met.  Use of a valuation allowance as described inStatement 109 is not an appropriate substitute for de-recognition of a taxposition.  The requirement to assess theneed for a valuation allowance for deferred tax assets based on the sufficiencyof future taxable income is unchanged by FIN 48.

FIN 48 is effective forfiscal years beginning after December 15, 2006. Earlier application of the provisions of FIN 48 was encouraged if theenterprise had not yet issued financial statements, including interim financialstatements, in the period FIN 48 is adopted. We will adopt the guidance contained in FIN 48 at the beginning of ourfiscal year ending December 31, 2007.  Wedo not believe that adoption of the guidance contained in FIN 48 will have amaterial affect on our results of operations or financial condition.

**12.****          Quarterly Dividends**

Each quarter, our Boardof Directors determines the dividend amount per share, if any, to bedistributed in cash to our common stockholders.  During each of the fiscal quarters endingMarch 31 and June 30, 2006, our board declared and we paid a $0.02 per sharecash dividend.  During the correspondingperiods in 2005, our board declared and we paid cash dividends of $0.133 pershare and $0.02 per share during the quarters ended March 31, 2005 and June 30,2005, respectively.

**13.****          Comprehensive Income**

Net income was our onlycomponent of comprehensive income for the three and six months endedJune 30, 2006 and 2005.

14

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**Item 2.**   **Management’s Discussion and Analysis of FinancialCondition and Results of Operations**

 

**FORWARDLOOKING STATEMENTS**

The following discussionshould be read in conjunction with our Annual Report on Form 10-K for theyear ended December 31, 2005. The Private Securities Litigation Reform Actof 1995 provides a “safe harbor” for forward-looking statements. Certaininformation included in this Quarterly Report on Form 10-Q and othermaterials filed or to be filed by us with the Securities and ExchangeCommission (as well as information included in oral statements or other writtenstatements made or to be made by us) contain statements that are or will be forward-looking,such as statements relating to acquisitions and other business developmentactivities, future capital expenditures and the anticipated or potentialeffects of future regulation and competition. Such forward-looking informationinvolves important risks and uncertainties that could significantly affectanticipated results in the future and, accordingly, such results may differfrom those expressed in any forward-looking statements made by us, or on ourbehalf. These risks and uncertainties include, but are not limited to,uncertainties affecting our businesses and our franchisees relating toacquisitions and divestitures (including continuing obligations with respect tocompleted transactions), sales and renewals of franchises, government and regulatorypolicies (including federal, state and local efforts to reform the delivery ofand payment for healthcare services), general economic conditions (includingeconomic conditions affecting the healthcare industry in particular), thepricing and availability of equipment and services, technological developmentsand changes in the competitive environment in which we operate.  For a more comprehensive description of risksapplicable to our business, see Risk Factors in our Annual Report on Form 10-Kfor the year ended December 31, 2005.  Wedo not undertake any obligation to release publicly any revisions to suchforward-looking statements to reflect events or circumstances occurring afterthe date of this Annual Report or to reflect the occurrence of unanticipatedevents.

**OVERVIEW**

We provide specialtypharmacy services and infusion pharmacy and other related healthcare servicesto patients at home or at alternate sites such as infusion suites and physician’soffices.  We contract with managed careorganizations and other third party payors who reimburse us for the services weprovide to their subscriber members.  Ourservices are provided through our national network of 58 company-owned andmanaged locations, our 59 franchise-owned pharmacies and our two company-owned,high-volume distribution facilities.

We have three servicelines: specialty pharmacy services, infusion and related healthcare services,and other. Specialty pharmacy services involve the distribution of injectableand infused pharmaceuticals to treat a wide range of chronic healthconditions.  We purchase specialtypharmaceuticals from manufacturers and wholesale distributors, fillprescriptions provided by physicians, and label, package and deliver thepharmaceuticals to patients’ homes or physicians’ offices, either ourselves orthrough contract couriers. These pharmaceuticals may require refrigerationduring shipping as well as special handling to prevent potencydegradation. Depending on therapy, we may also administer the specialty pharmaceuticalsto the patient at one of our ambulatory infusion centers. Patients receivingtreatment are often provided special counseling and education regarding theircondition and treatment program. Infusion and related healthcare services typically involve theintravenous administration of medications at the patient’s home or othernon-hospital sites such as one of our ambulatory infusion suites. Infusion pharmacy services treat a wide range of acute and chronic healthconditions, including infections, dehydration, cancer, pain and nutritionaldeficiencies.  All of our company-owned pharmacies provide infusionpharmacy services.  Several of our company-owned pharmacies also providehome health nursing services, respiratory therapy services and home medicalequipment sales and rentals.  We also have one location thatprovides home hospice services.  Otherrevenue consists of royalties, franchise settlements and other fees generatedfrom our franchised pharmacy network and, for the quarter and six months endedJune 30, 2005, software licensing and support revenue generated by oursubsidiary, MBI.  The MBI business wassold during the fourth quarter of 2005 and no software license and supportrevenue was recorded during the three and six months ended June 30, 2006.

Summarized informationabout revenue and gross profit for each of our service lines is provided in thefollowing table (amounts in thousands):
| ** **                                | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|-------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                | ** ** | **2006**                                            | ** ** | **2005**                                          | ** ** | **2006** | ** ** | **2005** | ** ** |
| **REVENUE**                               | ** ** | **Revenue**                                         | ** ** | **% of  total**                              | ** ** | **Revenue** | ** ** | **% of  total** | ** ** | **Revenue** | ** ** | **% of  total** | ** ** | **Revenue** | ** ** | **% of  total** | ** ** |
|                                      |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Specialty pharmacy  services              |       | $                                                   | 89,434     |                                              | 56.7       | % | $ | 67,600 |   | 56.6 | % | $ | 185,233 |   | 59.2 | % | $ | 142,497 |   | 59.3 | % |
| Infusion and related  healthcare services |       | 64,870                                              |       | 41.2                                              | %          | 47,690 |   | 39.9 | % | 122,248 |   | 39.1 | % | 90,538 |   | 37.7 | % |
| Other                                     |       | 3,356                                               |       | 2.1                                               | %          | 4,201 |   | 3.5 | % | 5,432 |   | 1.7 | % | 7,211 |   | 3.0 | % |
| Total revenue                             |       | $                                                   | 157,660    |                                              | 100.0      | % | $ | 119,491 |   | 100.0 | % | $ | 312,913 |   | 100.0 | % | $ | 240,246 |   | 100.0 | % |

 

15

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| ** **                                   | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|----------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                   | ** ** | **2006**                                            | ** ** | **2005**                                          | ** ** | **2006** | ** ** | **2005** | ** ** |
| **GROSS PROFIT**                        | ** ** | **Gross  Profit**                                   | ** ** | **Gross  profit  margin**                         | ** ** | **Gross  Profit** | ** ** | **Gross  profit  margin** | ** ** | **Gross  Profit** | ** ** | **Gross  profit  margin** | ** ** | **Gross  Profit** | ** ** | **Gross  profit  margin** | ** ** |
|                                         |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Specialty pharmacy  services                 |       | $                                                   | 14,135     |                                              | 15.8       | % | $ | 10,307 |   | 15.2 | % | $ | 27,315 |   | 14.7 | % | $ | 21,860 |   | 15.3 | % |
| Infusion and related  healthcare services    |       | 28,494                                              |       | 43.9                                              | %          | 20,513 |   | 43.0 | % | 54,108 |   | 44.3 | % | 39,268 |   | 43.4 | % |
| Total gross profit,  excluding other revenue |       | $                                                   | 42,629     |                                              | 27.6       | % | $ | 30,820 |   | 26.7 | % | $ | 81,423 |   | 26.5 | % | $ | 61,128 |   | 26.2 | % |
|                                         |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Other                                        |       | 3,355                                               |       | 100.0                                             | %          | 4,098 |   | 97.6 | % | 5,432 |   | 100.0 | % | 7,010 |   | 97.2 | % |
| Total gross profit                           |       | $                                                   | 45,984     |                                              | 29.2       | % | $ | 34,918 |   | 29.2 | % | $ | 86,855 |   | 27.8 | % | $ | 68,138 |   | 28.4 | % |

 

We derive most of ourrevenue from contracts with third party payors, such as managed careorganizations, insurance companies, self-insured employers and Medicare andMedicaid programs.  Our principal managedcare contract is with Blue Cross and Blue Shield of Florida for the provisionof specialty pharmacy services and infusion pharmacy services to their members.For the three and six months ended June 30, 2006, approximately 13% of ourrevenue was generated from this contract compared to 14% for the correspondingperiods in the prior year.  As of June 30, 2006 and December 31,2005, respectively, 10% and 9% of our accounts receivable was due from BlueCross and Blue Shield of Florida. The contract may be terminated by eitherparty on 90 days’ notice and, unless terminated, renews annually eachSeptember for an additional one-year term. Currently, no other single managed care payor represents more than 10%of our revenue.

On June 15, 2006, wesigned a Specialty Pharmacy Agreement (the “Agreement”) with Blue Cross andBlue Shield of Michigan (“BCBSM”) and Blue Care Network of Michigan (“BCN”) tobe their exclusive provider of specialty pharmacy mail order services.  We expect this contract to materiallyincrease our revenue in future periods. Under the Agreement, we will provide specialty pharmacy medications,ancillary products and focused therapy management to BCBSM and BCN members.  The Agreement shall remain in force for aninitial term ending September 30, 2009, with an automatic one year renewalbeyond that date unless written notice of termination is given by BCBSM, BCN,or us.  The Agreement may be terminatedby BCBSM or BCN, without cause, on ninety (90) days written notice.  We are currently making operational changes thatwill enable us to fully deliver services under this contract and anticipateimplementing this program in our fiscal fourth quarter ending December 31,2006.  We expect to incur certain incrementalimplementation expenses during our third and fourth fiscal quarters related tothese efforts.

We also provide servicesthat are reimbursable through government healthcare programs such as Medicareand state Medicaid programs.  For thethree and six months ended June 30, 2006, approximately 21% and 20% of ourrevenue was generated from government healthcare programs compared to 17% forthe corresponding three and six month periods in the prior year.  As ofJune 30, 2006 and December 31, 2005, respectively, 18% and 22% of ourtotal accounts receivable was due from government healthcare programs.

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**RESULTS OF OPERATIONS**

The following table showsthe results of our operations for the three and six months ended June 30,2006 and 2005, expressed in amounts and percentages of revenue (amounts inthousands):
| ** **                                             | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                             | ** ** | **2006**                                            | ** ** | **2005**                                          | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                             | ** ** | **Amount**                                          | ** ** | **% of  Revenue**                            | ** ** | **Amount** | ** ** | **% of  Revenue** | ** ** | **Amount** | ** ** | **% of  Revenue** | ** ** | **Amount** | ** ** | **% of  Revenue** | ** ** |
| Revenue:                                               |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Specialty pharmacy  services                           |       | $                                                   | 89,434     |                                              | 56.7       | % | $ | 67,600 |   | 56.6 | % | $ | 185,233 |   | 59.2 | % | $ | 142,497 |   | 59.3 | % |
| Infusion and related  healthcare services              |       | 64,870                                              |       | 41.2                                              | %          | 47,690 |   | 39.9 | % | 122,248 |   | 39.1 | % | 90,538 |   | 37.7 | % |
| Other                                                  |       | 3,356                                               |       | 2.1                                               | %          | 4,201 |   | 3.5 | % | 5,432 |   | 1.7 | % | 7,211 |   | 3.0 | % |
| Total revenue                                          |       | 157,660                                             |       | 100.0                                             | %          | 119,491 |   | 100.0 | % | 312,913 |   | 100.0 | % | 240,246 |   | 100.0 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of revenue:                                       |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Cost of goods sold                                     |       | 93,850                                              |       | 59.5                                              | %          | 71,750 |   | 60.0 | % | 192,029 |   | 61.3 | % | 147,442 |   | 61.4 | % |
| Cost of services  provided                             |       | 17,826                                              |       | 11.3                                              | %          | 12,823 |   | 10.8 | % | 34,029 |   | 10.9 | % | 24,666 |   | 10.2 | % |
| Total cost of revenue                                  |       | 111,676                                             |       | 70.8                                              | %          | 84,573 |   | 70.8 | % | 226,058 |   | 72.2 | % | 172,108 |   | 71.6 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Gross profit                                           |       | 45,984                                              |       | 29.2                                              | %          | 34,918 |   | 29.2 | % | 86,855 |   | 27.8 | % | 68,138 |   | 28.4 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Selling, general and  administrative expenses          |       | 32,022                                              |       | 20.3                                              | %          | 24,403 |   | 20.4 | % | 60,598 |   | 19.4 | % | 46,846 |   | 19.5 | % |
| Provision for doubtful  accounts                       |       | 3,463                                               |       | 2.2                                               | %          | 2,153 |   | 1.8 | % | 6,931 |   | 2.2 | % | 4,479 |   | 1.9 | % |
| Depreciation and  amortization                         |       | 1,226                                               |       | 0.8                                               | %          | 849 |   | 0.7 | % | 2,370 |   | 0.8 | % | 1,753 |   | 0.7 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total operating  expenses                              |       | 36,711                                              |       | 23.3                                              | %          | 27,405 |   | 22.9 | % | 69,899 |   | 22.4 | % | 53,078 |   | 22.1 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Operating income                                       |       | 9,273                                               |       | 5.9                                               | %          | 7,513 |   | 6.3 | % | 16,956 |   | 5.4 | % | 15,060 |   | 6.3 | % |
| Interest income  (expense), net                        |       | (217                                                | )          | (0.2                                              | )%         | 194 |   | 0.1 | % | (209 | ) | (0.1 | )% | 150 |   | — | % |
| Other expense, net                                     |       | (365                                                | )          | (0.2                                              | )%         | 100 |   | 0.1 | % | (427 | ) | (0.1 | )% | 53 |   | — | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Income from continuing  operations before income taxes |       | 8,691                                               |       | 5.5                                               | %          | 7,807 |   | 6.5 | % | 16,320 |   | 5.2 | % | 15,263 |   | 6.3 | % |
| Income tax provision                                   |       | 3,330                                               |       | 2.1                                               | %          | 3,004 |   | 2.5 | % | 5,842 |   | 1.9 | % | 5,788 |   | 2.4 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income from  continuing operations                 |       | $                                                   | 5,361      |                                              | 3.4        | % | $ | 4,803 |   | 4.0 | % | $ | 10,478 |   | 3.3 | % | $ | 9,475 |   | 3.9 | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Discontinued  operations:                              |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Loss on discontinued  operations, net of income taxes  |       | (160                                                | )          | (0.1                                              | )%         | — |   | — | % | (487 | ) | (0.1 | )% | — |   | — | % |
|                                                   |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                             |       | $                                                   | 5,201      |                                              | 3.3        | % | $ | 4,803 |   | 4.8 | % | $ | 9,991 |   | 3.2 | % | $ | 9,475 |   | 3.9 | % |

 

**Threeand Six Months Ended June 30, 2006 and 2005**

During the quarter endedJune 30, 2006, we generated revenue from continuing operations of $157.7million, an increase of 31.9% over the corresponding prior year quarter. Our revenue from continuing operations for the six months ended June 30, 2006was $312.9 million, representing an increase of 30.3% over the prior year.  This revenue growth was the result ofacquisitions, as well as increases in same store sales.  Our total grossprofit margin was 29.2% for the quarter and 27.8% for the six months ended June30, 2006, compared to 29.2% and 28.4% for the corresponding prior year periods.  Within our services lines, the gross profitmargins from our specialty pharmacy services and infusion and relatedhealthcare services improved slightly in the current year quarter compared tothe corresponding prior year quarter due to favorable product and therapy mixand cost-containment efforts.  Net income from continuing operationsincreased to $5.4 million in the quarter ended June 30, 2006, an increase of11.6% over the corresponding prior year period. Our net income from continuingoperations for the six months ended June 30, 2006 was $10.5 million, anincrease of 10.6% over the prior year period. These increases were primarily the result of the revenue growthgenerated by acquisitions we completed in 2005 and 2006 as well as same storesales growth.  Net income per diluted share from continuing operations was$0.15 for the quarter and $0.30 for the six

17

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months ended June 30,2006 compared to $0.14 and $0.28 for the corresponding prior year periods.

Our operating cash flowwas positive for both the quarter and six months ended June 30, 2006.  Wegenerated $13.4 million in cash from operations during the six months endedJune 30, 2006.  We used $38.8 million in cash to complete threebusiness acquisitions during the six months ended June 30, 2006, of which $17.5million was used in the quarter ended June 30, 2006 to acquire one of ourfranchises and pay additional consideration toward prior yearacquisitions.  We ended the quarter withcash and cash equivalents of $15.4 million and short-term investments of $4.0million.  Our debt primarily consisted of$86.3 million of 2.25% convertible senior notes due 2024.  As of May 5, 2006, we became party to a $35million revolving Credit Agreement with LaSalle Bank but have not borrowedagainst this Credit Agreement to date.

**Revenue:**

We report our operatingresults in one segment, consisting of three service lines: specialty pharmacyservices; infusion and related healthcare services; and other.  For thethree and six months ended June 30, 2006, our revenue from continuingoperations was $157.7 million and $312.9 million, respectively, representingincreases of 31.9% and 30.3% over the corresponding prior year periods. Our increases in revenue were primarily due to acquisitions as well as samestore sales growth in Synagis and other products.

**Specialtypharmacy services revenue:**

Our specialty pharmacyservices revenue from continuing operations for the quarter ended June 30, 2006was $89.4 million, an increase of $21.8 million, or 32.3%, over thecorresponding prior year quarter.  For the six months ended June 30,2006, specialty revenue from continuing operations was $185.2 million, anincrease of $42.7 million, or 30.0%, over the corresponding prior yearperiod.  Acquisitions we completed in 2005 and the first six months of2006 were the primary reason for the growth as well as increased sales ofSynagis and various other products. Synagis revenue in the six months ended June 30, 2006 exceeded the prioryear revenue by $15.4 million, with $11.6 million of increase relating to thequarter ended March 31, 2006 and $3.8 million relating to the quarter endedJune 30, 2006.  Synagis sales growth hada smaller effect on the quarter ended June 30, 2006 due to the wind-down of theSynagis season, which runs generally from October through April.  On a sequential quarterly basis, ourspecialty pharmacy services revenue from continuing operations declined by $6.4million as a result of the $18.8 million seasonal decline in Synagis revenue, offsetby growth from acquisitions and same store sales increases for other products.

**Infusionand related healthcare services revenue:**

Our infusion and relatedhealthcare services revenue from continuing operations for the quarter endedJune 30, 2006 was $64.9 million, an increase of $17.2 million, or 36.0%, overthe corresponding prior year quarter. For the six months ended June 30, 2006, infusion and relatedhealthcare services revenue from continuing operations was $122.2 million, anincrease of $31.7 million, or 35.0%, over the corresponding prior yearperiod.  The primary drivers of these increases were the acquisitions wecompleted in 2005 and the first six months of 2006 as well as same store salesincreases throughout our network of local, company-owned infusion pharmacies.

**Otherrevenue:**

Other revenue was $3.4million for the quarter and $5.4 million for the six months ended June 30,2006 compared to $4.2 million and $7.2 million in the corresponding prior yearperiods.  The decreases were primarilydue to a decline in franchise settlement revenue as well as the absence ofsoftware-related revenue in 2006 resulting from our sale of MBI in November2005.  Franchise-related revenue maycontinue to fluctuate significantly in future periods due to our potentialacquisition, audit or termination of various franchises.

**Cost ofrevenue:**

Cost of revenue consistsof the cost of goods sold and the cost of service provided. Our cost of revenuefrom continuing operations was $111.7 million for the quarter and $226.1million for the six months ended June 30, 2006, representing increases of 32.1%and 31.3% over the corresponding prior year periods as a result of the revenueincreases of 31.9% and 30.3% during these periods.

Cost of goods sold fromcontinuing operations was $93.9 million, or 59.5% of revenue, for the quarterended June 30, 2006 and $192.0 million, or 61.3% of revenue, for the six monthsended June 30, 2006.  In the prior yearperiods, cost of goods sold was $71.8 million, or 60.0% of revenue for thequarter ended June 30, 2005 and $147.4 million, or 61.4% of revenue, for thesix months ended June 30, 2005.  Thedeclines in cost of goods sold as a percentage of revenue in the current yearperiods was primarily due to acquisitions and favorable shifts in product andtherapy mix within our specialty pharmacy and infusion and related healthcareservice lines.

Cost of service consistsof salaries and related costs for employees directly involved in patient care,including pharmacists, nurses, therapists and delivery drivers.  Cost of service also includes the cost ofshipping or delivering products and services to the patient.  Our cost of service from continuingoperations was $17.8 million, or 11.3% of revenue, for the quarter ended June30, 2006 and $34.0 million, or 10.9% of revenue, for the six months ended June30, 2006.  In the prior year periods, ourcost of service was $12.8 million, or 10.8% of revenue, for the quarter endedJune 30, 2005 and $24.7 million, or 10.2% of revenue, for the six months endedJune 30, 2005.  The increases in costs ofservice as a percentage of revenue in the current year periods was due to avariety of factors, including acquisitions completed in 2005 and 2006 whichincreased our RT/DME and home health nursing and therapy services in thecurrent year.  These health care serviceshave larger cost of service components than our home infusion and specialtypharmacy services, which are out core services.

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**Grossprofit margin:**

The following table setsforth the gross profit margin for each of our three service lines: specialtypharmacy services; infusion and related healthcare services; and other:
|                                               | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-----------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                    | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Gross profit  margin:                         |       |                                            |       |                                          |       |   |   |   |   |
| Specialty pharmacy services                   |       | 15.8                                            | %          | 15.2                                          | %          | 14.7 | % | 15.3 | % |
| Infusion and related healthcare services      |       | 43.9                                            | %          | 43.0                                          | %          | 44.3 | % | 43.4 | % |
| Gross profit  margin, excluding other revenue |       | 27.6                                            | %          | 26.7                                          | %          | 26.5 | % | 26.2 | % |
| Other                                         |       | 100.0                                           | %          | 97.6                                          | %          | 100.0 | % | 97.2 | % |
| Total gross profit  margin                    |       | 29.2                                            | %          | 29.2                                          | %          | 27.8 | % | 28.4 | % |

 

Our total gross profitmargins from continuing operations remained consistent in the quarter endedJune 30, 2006 compared to the corresponding prior year period, while our totalgross profit margins from continuing operations for the six months ended June30, 2006 declined by 60 basis points from the corresponding prior yearperiod.  Excluding the impact of other revenue, which is variable innature and has little or no associated direct costs, our gross profit marginwas 27.6% for the three months and 26.5% for the six months ended June 30,2006, representing increases of 90 and 30 basis points over the respectiveprior year periods.  Within our serviceslines, the gross profit margin on our specialty pharmacy services was 15.8% in thequarter ended June 30, 2006 compared to 15.2% in the prior year quarter.  This increase is attributable to a largerincrease in locally-distributed specialty products compared to the lower marginproducts distributed from our central, high-volume specialty pharmacies.  Our specialty pharmacy services gross profitmargin for the six months ended June 30, 2006 was 14.7%, a decline of 70 basispoints from the prior year period, due to changes in product mix driven by thecurrent year increase in Synagis revenue, a lower margin product, and marginpressure from immune globulin (IVIG) products due to cost increases thatoccurred in 2005.  Our infusion andrelated healthcare services gross profit margins increased by 90 basis pointsin the quarter and 30 basis points in the six months ended June 30, 2006compared to the prior year periods. These increases are due to shifts in mix of therapies and costcontainment efforts.

**Selling,general and administrative expenses:**

For the quarter endedJune 30, 2006, selling, general and administrative expenses were $32.0million, an increase of $7.6 million, or 31.2%, over the prior yearquarter.  For the six months ended June 30, 2006, selling, generaland administrative expenses were $60.6 million, an increase of $13.8 million,or 29.4%, over the prior year period.  The period-over-period increasesare primarily due to incremental selling, general and administrative expensescontributed by acquisitions.  As apercentage of revenue, selling, general and administrative expenses declined 10basis points in the quarter and six months ended June 30, 2006 compared to thecorresponding prior year periods.  Thecurrent year expense includes an accrual of $700,000 in the quarter ended June30, 2006 related to our abandonment of three leased facilities no longer neededfor our operations as the result of current year acquisitions and our prioryear disposal of MBI.  In the currentyear, we also recorded higher professional fees expense related to franchisesettlement negotiations and other matters.

**Provisionfor doubtful accounts:**

Our provision fordoubtful accounts for the quarter ended June 30, 2006 was $3.5 million, or2.2% of revenue, compared to $2.2 million, or 1.8% of revenue, in the prioryear quarter.  For the six months ended June 30, 2006, our provisionfor doubtful accounts was $6.9 million, or 2.2% of revenue, compared to $4.5million, or 1.9% of revenue, in the corresponding prior year period.  Theincrease in our provision for doubtful accounts was primarily due to a largerpercentage of our revenue in the current year periods being billed locally asmajor medical benefits rather than centrally as pharmacy benefits.  Billing under major medical benefit is morelabor intensive and subject to higher risk of bad debts than billing under thepharmacy benefit.

**Depreciationand amortization:**

For the quarter endedJune 30, 2006, depreciation and amortization expense was $1.2 million, anincrease of $400,000, or 44.4%, over the corresponding prior yearquarter.  For the six months ended June 30, 2006, our depreciationand amortization expense was $2.4 million, an increase of $600,000, or 35.2%,over the corresponding prior year period.  These increases are due toacquisitions and additional investments in computer hardware and softwaretechnology.  The depreciation expense contained within this caption on ourstatements of income relates to non-revenue producing assets only. Depreciation for revenue-producing equipment such as rental medical equipmentand delivery vehicles is included in cost of revenue.

**Operatingincome:**

Our operating income was$9.3 million for the quarter ended June 30, 2006, an increase of $1.8million, or 23.4%, over the corresponding prior year quarter.  For the sixmonths ended June 30, 2006, our operating income was $17.0 million, whichrepresents an increase of $1.9 million, or 12.6%, over the prior yearperiod.  These increases in operating income were primarily the result ofacquisitions, as well as same store sales growth during the period.  As apercentage of revenue, our operating income was 5.9% for the quarter endedJune 30, 2006 compared to 6.3% for the corresponding prior yearquarter.  For the six months ended June30, 2006, our operating income was equal to 5.4% of revenue compared to6.3% in the prior year periods. These declines were primarily due to

 

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higher franchisesettlement revenue in the prior year periods than in the current year periods,as well as margin compression for IVIG products.

**Interestincome/(expense):**

For the quarter and sixmonths ended June 30, 2006, we incurred net interest expense of $200,000compared to interest income of $200,000 in the corresponding prior yearperiods.  Our interest expense duringthese periods primarily consisted of $500,000 per quarter payable to holders ofour $86.3 million of 2.25% convertible senior notes.  In the quarter andsix months ended June 30, 2005, the cash proceeds from this offering generatedinterest income in excess of the interest payable on the notes.  However, during 2005 and the first six monthsof 2006 we have used most of the proceeds from this offering to completebusiness acquisitions.  This has reducedour interest-generating cash reserves resulting in net interest expense in thecurrent year periods.

**Other income/(expense), net**

For the quarter and sixmonths ended June 30, 2006, we recorded other expense of $400,000 compared toother income of $100,000 in the corresponding periods of the prior year.  The current year expense primarily consistedof loss from equity investments and minority interest expense.  In the prior year periods, the income wasprimarily due to a gain from disposal of a small subsidiary, partially offsetby minority interest expense.

**Incometaxes:**

Our income tax provisionon continuing operations was $3.3 million for the quarter and $5.8 million forthe six months ended June 30, 2006.  In the prior year, our incometax provision was $3.0 million for the quarter and $5.8 million for the sixmonths ended June 30, 2005.  As a percentage of pre-tax income, ourprovision for income taxes was 38.3% for the quarter and 35.8% for the sixmonths ended June 30, 2006 compared to 38.5% for the quarter and 37.9% forthe six months ended June 30, 2005.  Thedecline in income tax provision as a percentage of pre-tax income in currentyear periods is primarily due to reduction of an excess provision for prioryear income taxes and ongoing tax planning initiatives.

**Netincome from continuing operations:**

Our net income fromcontinuing operations was $5.4 million for the quarter and $10.5 million forthe six months ended June 30, 2006 compared to $4.8 million for thequarter and $9.5 million for the six months ended June 30, 2005.  Thecurrent year increases in net income from continuing operations were primarilythe result of our growth in revenue from acquisitions, as well as increases insame store sales.  As a percentage of revenue, our net income was 3.4% forthe quarter and 3.3% for six months ended June 30, 2006 compared to 4.0%for the quarter and 3.9% for the six months ended June 30, 2005.  These declines are primarily due to the reductionin franchise-related revenue in the current year, as well as the losses fromequity investments.

**Dilutedshares & earnings per share:**

For the quarter endedJune 30, 2006, our diluted shares were 35,198,000 compared to 34,593,000 forthe corresponding prior year quarter. This increase was primarily due to shares issued in connection withbusiness acquisitions completed this year. For the six months ended June 30, 2006, diluted shares were 35,161,000compared to 33,971,000 for the corresponding prior year period.  Shares issued and issuable related tobusiness acquisitions, stock options exercises and purchase under our employeestock purchase plan were all contributing factors in this increase.  Ourearnings per diluted share from continuing operations were $0.15 for thequarter and $0.30 for the six months ended June 30, 2006, compared to$0.14 and $0.28 per diluted share for the corresponding periods in the prioryear.  These increases were due to our increasesin net income from continuing operations.

**Loss on discontinued operations,net of income taxes:**

At the end of the quarterended March 31, 2006, we determined that our home health agency in Portland,Oregon (“Portland HHA”) was not a strategic asset of the company and we adopteda plan to either sell or otherwise terminate the business.  Our loss from this business, net of incometaxes, was $200,000 for the quarter and $500,000 for the six months ended June30, 2006.  On August 1, 2006, wecompleted the sale of Portland HHA for $500,000 in cash, plus the assumption ofcertain liabilities by the purchaser.

**LIQUIDITYAND CAPITAL RESOURCES**

During the six monthsended June 30, 2006, we financed our operations and business acquisitionsthrough operating cash flows, the use of cash reserves and our sales ofshort-term investments.  During the six months ended June 30, 2006,we generated $13.4 million in positive cash flow from operations.  We used$38.8 million in cash during this period for business acquisitions.  As ofJune 30, 2006, we had cash and short-term investments totaling $19.4million and total long-term debt of $86.3 million.  In order to gain access to additionalcapital, we signed a $35 million revolving Credit Agreement with LaSalle BankNational Association on May 5, 2006. This agreement grants us the option to increase the credit commitmentfrom $35 million to a maximum of $100 million during the first two years of theagreement.  We had no borrowings underthe Credit Agreement during the quarter ended June 30, 2006.

**OperatingCash Flows:**

We generated $13.4million in positive cash flow from operations in the six months endedJune 30, 2006.  This positive cash flow was primarily the result ofour net income of $10.0 million in the current year period, plus non-cashexpenses of $12.0 million, partially offset by our payment of accounts payableassumed through business acquisitions.

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For the six-month periodended June 30, 2005, we generated $10.6 million of positive operating cashflow.  The positive cash flow was primarily due to our net income duringthe period and our accounts receivable collection performance. Additionally, timing of income tax payments resulted in an increase of $1.6million.

**InvestingCash Flows:**

Overall, we used $7.6million in investing activities during the six months ended June 30, 2006.  We used $38.8 million in cash to completebusiness combinations and pay additional consideration due on prior yearacquisitions.  We generated $37.0 millionin cash from the net sale of short-term investments to provide the cash tocomplete these acquisitions.  We alsoused $5.8 million in the six months ended June 30, 2006 to acquire depreciableassets, of which $4.1 million was used for infrastructure items such asfurniture and fixtures and computer hardware and software, while $1.7 millionwas used to acquire revenue-generating medical equipment such as infusion pumpsand durable medical equipment.

We used $26.1 million incash in investing activities during the six months ended June 30,2005.  Of this total, $25.7 million was used to complete five businessacquisitions during the period.  We also used $4.2 million to acquireequipment and other fixed assets, of which $1.2 million was used to purchase anew software system for our specialty drug distribution business, $1.5 millionwas used for infrastructure items such as furniture, fixtures and computerhardware, $1.1 million was used to acquire revenue-generating medical equipmentsuch as infusion pumps and other durable medical equipment, and $400,000 wasused for internally-developed software projects.  During the six monthsended June 30, 2005, we generated a net $3.8 million in cash from theliquidation of short-term investments to help fund our acquisition payments.

**FinancingCash Flows:**

We generated $1.8 millionfrom financing activities in the six months ended June 30, 2006.  We generated $2.6 million from issuance ofstock related to employee stock option exercises and purchases under ouremployee stock purchase plan, and recognized $600,000 in income tax benefitfrom employee stock option exercises. These positive cash flow items were offset by our payment of $1.3million in dividends to our shareholders and payment of $100,000 in feesrelated to completing our $35 million credit agreement with LaSalle BankNational Association.

Financing activitiesgenerated a net $4.6 million in positive cash flow during the six months endedJune 30, 2005.  We generated $4.5 million in cash from issuance ofshares of common stock to employees who exercised stock options or participatedin our employee stock purchase plan, and we used $1.1 million to pay cashdividends to our shareholders.  We also used $200,000 to pay trailing debtissuance costs related to our convertible debt offering fromNovember 2004.

**ConvertibleSenior Notes:**

In November 1, 2004,we completed an $86.3 million offering of 2.25% convertible senior notes, due2024.  The cash generated by this offering was primarily used to financebusiness acquisitions, as well as a limited amount of stock repurchases. The initial offering was completed on November 2, 2004 for $75.0million.  An option for purchase of anadditional $11.3 million of notes was exercised in full on November 9,2004.  We pay interest at a rate of 2.25% per annum, semi-annually inarrears on May 1 and November 1 of each year on the principal amount of thenotes.  The holders may convert the notes into cash and, if applicable,shares of our common stock if certain conversion criteria are met, such as ourstock reaching a threshold market price or various other criteria.  Thenotes cannot be redeemed by us prior to November 1, 2009.  On each ofNovember 1, 2009, November 1, 2014 and November 1, 2019, theholders can require us to purchase all or a portion of the outstanding notesfor their principal amount plus accrued interest.  At any time on or afterNovember 1, 2009, we may redeem the notes, in whole or in part, at aredemption price equal to 100% of the principal amount, plus any accrued andunpaid interest.  We have incurred deferred financing costs of $3.2million related to this offering, consisting of underwriting, legal and otherrelated costs.  These costs are being amortized straight-line over afive-year period.

**Credit Agreement with LaSalleBank N.A.:**

On May 5, 2006, we signeda five-year, $35 million revolving Credit Agreement with LaSalle Bank NationalAssociation (the “Agreement”).  Theinitial revolving loan commitment under the Agreement is $35 million.  Provided there is no event of default, wehave the option to increase the revolving loan commitment to a maximum of $100million during the first two years of the Agreement.  We will pay interest on borrowings at ratesranging from prime plus zero or LIBOR plus 1.00% to a maximum of prime plus0.25% or LIBOR plus 1.75% based on our debt to EBITDA ratio for the applicableperiod.  We will also pay a non-use feeranging from 0.15% to 0.225% of the unused portion of the revolving loancommitment.  The interest rates and non-usefee rates payable are based on our Total Debt to EBITDA Ratio, as defined inthe agreement, for the applicable period. We must maintain compliance with various financial and other covenantsthroughout the life of the Agreement.  Wemay use up to $2.5 million of our available credit to secure Letters of Credit,as needed, payable applicable fees while the Letters of Credit are inplace.  We incurred fees of approximately$100,000 related to negotiating this Agreement. We had no borrowings under theAgreement during the quarter ended June 30, 2006 and were in compliance with allcovenants.  In the six months ended June30, 2006, we recorded a negligible amount of non-use fees and letter of creditfees.

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**AccountsReceivable:**

The following table setsforth information regarding our accounts receivable as of the dates indicated(dollar amounts in thousands):
|                                                              | ** ** | **June 30,  2006** | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|--------------------------------------------------------------|------------|-------------------------|------------|--------------------------|------------|-----------------------------|------------|
|                                                         |       |                    |       |                     |       |                        |       |
| Accounts  receivable                                         |       | $                       | 111,097    |                     | $          | 120,983                     |       | $ | 101,294 |   |
| Less allowance  for doubtful accounts                        |       | (8,566                  | )          | (7,435                   | )          | (5,997                      | )          |
| Accounts  receivable, net of allowance for doubtful accounts |       | $                       | 102,531    |                     | $          | 113,548                     |       | $ | 95,297 |   |
|                                                         |       |                    |       |                     |       |                        |       |
| Days sales outstanding  (DSO)(1)                             |       | 58 days                 |       | 59 days                  |       | 59 days                     |       |

 

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(1)   DSO is based on tradeaccounts receivable, net of allowance for doubtful accounts, and is calculatedusing the exhaustion method whereby the net accounts receivable balance isexhausted against each preceding month’s or partial month’s net revenue. The DSO calculated above includes only our specialty pharmacy service line andinfusion and related healthcare service line.

Our accounts receivable,net of bad debt reserves, was $102.5 million as of June 30, 2006 comparedto $113.5 million at March 31, 2006 and $95.3 million as ofDecember 31, 2005.  The decline in accounts receivable since March31, 2006 was primarily due to a seasonal decline in Synagis sales which morethan offset the increases related to business acquisitions and same store salesgrowth.

Our days salesoutstanding (DSO) declined by one day to 58 days as of June 30, 2006 from59 days as of March 31, 2006 and December 31, 2005.  This decreasewas primarily due to improved cash collections in the quarter ended June 30,2006.

The following table setsforth the percentage breakdown of our trade accounts receivable by agingcategory and by major payor as of the dates indicated:
|                                | ** ** | **June 30,  2006** | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|--------------------------------|------------|-------------------------|------------|--------------------------|------------|-----------------------------|------------|
| By Aging  Category (1):        |       |                    |       |                     |       |                        |       |
| Aged 0-90 days                 |       | 70                      | %          | 76                       | %          | 78                          | %          |
| Aged 91-180 days               |       | 18                      | %          | 14                       | %          | 12                          | %          |
| Aged 181-365  days             |       | 9                       | %          | 7                        | %          | 7                           | %          |
| Aged over 365  days            |       | 3                       | %          | 3                        | %          | 3                           | %          |
| Total                          |       | 100                     | %          | 100                      | %          | 100                         | %          |
|                           |       |                    |       |                     |       |                        |       |
| By Major Payor:                |       |                    |       |                     |       |                        |       |
| Managed care and  other payors |       | 82                      | %          | 77                       | %          | 78                          | %          |
| Medicare and  Medicaid         |       | 18                      | %          | 23                       | %          | 22                          | %          |
| Total                          |       | 100                     | %          | 100                      | %          | 100                         | %          |

 

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(1)   Accounts receivable byaging category considers only accounts of our specialty pharmacy service lineand infusion and related healthcare service line.

As of June 30, 2006we had cash and cash equivalents of $15.4 million and short-term investments of$4.0 million for a combined total of $19.4 million, compared to cash and cashequivalents of $7.8 million and short-term investments of $41.0 million for acombined total of $48.8 million as of December 31, 2005.  This $29.4 million decline in cash, cashequivalents and short-term investments was primarily due to our use of $38.8million in cash for business acquisitions.  We believe that cash flow fromoperations, plus our current cash and short-term investments and availablecredit under our new $35 million revolving Credit Agreement with LaSalle BankNational Association will be sufficient to meet our operating cash needs forthe immediate future, including any interest due on our $86.3 million of 2.25%convertible senior notes.  In the event that additional capital isrequired, there can be no assurance that such capital can be obtained fromother sources on terms acceptable to us, if at all.

Our business strategyincludes the selective acquisition of additional local pharmacy facilities andspecialty pharmacy operations.  Accordingly, we may require additionalcapital in order to complete these acquisitions.  It is impossible topredict the amount of capital that may be required for acquisitions, and thereis no assurance that sufficient financing for these activities will beavailable on terms acceptable to us, if at all.

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**Goodwilland Other Intangible Assets**

The following table setsforth the net value of our goodwill and other intangible assets as of June 30,2006 and December 31, 2005 (in thousands):
|                                                           | ** ** | **June 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|-----------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
|                                                      |       |                    |       |                        |       |
| Goodwill, net of  accumulated amortization                |       | $                       | 164,836    |                        | $          | 112,220 |   |
| Other intangible  assets, net of accumulated amortization |       | $                       | 1,290      |                        | $          | 1,003 |   |
| Total intangible  assets, net of accumulated amortization |       | $                       | 166,126    |                        | $          | 113,223 |   |

 

Other intangible assetsconsist of non-compete agreements, contracts and patient records acquiredthrough business acquisitions.

During the six monthsended June 30, 2006, goodwill increased by $52.6 million as a result ofthe three business acquisitions completed during that period and additionalconsideration paid and payable related to prior year acquisitions.  Otherintangible assets increased by $500,000 as a result of these acquisitions,offset by amortization of $200,000 during the period.

As required by Statementsof Financial Accounting Standards No. 142,*Goodwill and Other Intangible Assets (SFAS No. 142)*, we do notamortize goodwill, but test our goodwill for impairment annually eachOctober 1, or whenever we identify events or conditions that couldpotentially result in impairment of our goodwill.  During the quarterended June 30, 2006, no impairment of goodwill was identified.

**Regulatoryand Other Developments**

***Health Insurance Portability and Accountability Act of 1996 (HIPAA)****.*  To improve theefficiency and effectiveness of the health care system, the Health InsurancePortability and Accountability Act (HIPAA) of 1996, Public Law 104-191,included “Administrative Simplification” provisions that required theDepartment of Health and Human Services (HHS) to adopt national standards forelectronic health care transactions. At the same time, Congress recognized thatadvances in electronic technology could erode the privacy of healthinformation. Consequently, Congress incorporated provisions into HIPAA thatmandated the adoption of Federal privacy protections for individuallyidentifiable health information. In response to the HIPAA mandate, in December 2000, HHS published a finalregulation in the form of the Privacy Rule, which became effective onApril 14, 2001. This Privacy Rule set national standards for theprotection of health information, as applied to the three types of coveredentities: health plans, health care clearinghouses, and health care providerswho conduct certain health care transactions electronically. Pursuant to thePrivacy Rule, covered entities are required to have standards in place toprotect and guard against the misuse of individually identifiable healthinformation.The Privacy Rule established a foundation of Federal protections for theprivacy of protected health information. The Privacy Rule does not replacefederal, state, or other laws that grant individuals even greater privacyprotections, and covered entities are free to retain or adopt more protectivepolicies or practices. We have implemented the standards set forth in thePrivacy Rule, and believe that we and all of our franchisees are in compliancewith the Privacy Rule or any more stringent federal or state laws relating toprivacy. Additionally, the Administrative Simplification provisions address electronichealth care transactions and the security of electronic health informationsystems.  Providers are required tocomply with the standards by specific compliance dates established by HHS.  For standards relating to electronic healthcare transactions, all providers were required to comply by October 16,2003.  The security standards applicableto individually identifiable health information maintained electronically wererequired to be implemented by April 21, 2005. We were materially compliant with these standards by the applicablecompliance date.  The standards for aunique national health identifier for providers used in connection with theelectronic healthcare transactions must be implemented by May 23, 2007.  We expect to be able to materially complywith this requirement by the applicable compliance date. Penalties for non-compliance with the Privacy Rule and other HIPAAAdministrative Simplification provisions range from a civil penalty of $100 foreach violation (which can total up to $25,000 per person per year), to criminalpenalties, including up to $50,000 and/or one year imprisonment, up to $100,000and/or five years imprisonment if the offense is committed under falsepretenses and up to $250,000 and/or ten years imprisonment for violating astandard with the intent to sell, transfer or use individually identifiablehealth information for commercial advantage, personal gain or malicious harm.In addition to regulating privacy of individual health information and otherprovisions relating to Administrative Simplification, HIPAA includes severalanti-fraud and abuse laws, extends criminal penalties to private health carebenefit programs and, in addition to Medicare and Medicaid, to other federalhealth care programs, and expands the Office of Inspector General’s authorityto exclude persons and entities from participating in the Medicare and Medicaidprograms.

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**ITEM 3.  Quantitative andQualitative Disclosures About Market Risk**

We are subject to marketrisk primarily in relation to our cash and cash equivalents and short-terminvestments.  As of June 30, 2006, we had no variable-ratedebt.  In November 2004, we completed an $86.3 million offering of2.25% convertible senior notes due 2024.  The interest rate on this debtis fixed.  Should we need to borrow against our $35 million revolvingCredit Agreement with LaSalle Bank National Association, the interest rate onsuch borrowings would be variable and we would subject to interest rate risk.

Within our short-terminvestments, we have utilized a mix of investment maturities based on ouranticipated cash needs and evaluation of existing interest rates and marketconditions.  The following table setsforth our cash and cash equivalents and short-term investments as of the datesindicated (in thousands):
|                                | ** ** | **June 30,  2006** | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|--------------------------------|------------|-------------------------|------------|--------------------------|------------|-----------------------------|------------|
| Cash and cash  equivalents (1) |       | $                       | 15,444     |                     | $          | 12,611                      |       | $ | 7,816 |   |
| Short-term  investments (2)    |       | 4,000                   |       | 14,250                   |       | 41,042                      |       |
| Total                          |       | $                       | 19,444     |                     | $          | 26,861                      |       | $ | 48,858 |   |

 

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(1)  Cash equivalents includes highly-liquid investments having a maturity of threemonths or less at time of purchase,

(2)   Short-term investmentsconsist of commercial paper with maturities of three months or more at time ofacquisition, and variable-rate municipal demand notes, preferred stocks andsimilar instruments that are perpetual or mature in greater than three months.

While we attempt tominimize market risk and maximize return, changes in market conditions maysignificantly affect the income we earn on our cash and cash equivalents andshort-term investments.  Based on our actual cash and cash equivalents andshort-term investment balances at June 30, 2006, a 100 basis point declinein interest rates would reduce our interest income by $194,000 on an annualizedbasis.

**ITEM4.  Controls and Procedures**

We carried out anevaluation, under the supervision and with the participation of our management,including our chief executive officer and chief financial officer, of theeffectiveness of the design and operation of our disclosure controls andprocedures (as defined in Rules 13a-15(e) under the SecuritiesExchange Act of 1934 (the Exchange Act)) as of June 30, 2006. Based uponthat evaluation, the chief executive officer and chief financial officer concludedthat our disclosure controls and procedures are effective as of June 30,2006. Disclosure controls and procedures are controls and procedures that aredesigned to ensure that information required to be disclosed in our reportsfiled or submitted under the Exchange Act is (i) recorded, processed,summarized and reported within the time periods specified in the Securities andExchange Commission’s rules and forms and (ii) accumulated andcommunicated to management, including our chief executive officer and chieffinancial officer, to allow timely decisions regarding required disclosures.

In addition, no change inour internal control over financial reporting (as defined inRule 13a-15(f) under the Exchange Act) occurred during our fiscalquarter ended June 30, 2006 that has materially affected, or is reasonablylikely to materially affect, our internal control over financial reporting.

**PART II. OTHER INFORMATION**

**ITEM1.  Legal Proceedings**

We are subject to claimsand legal actions that may arise in the ordinary course of business. However,we maintain insurance to protect against such claims or legal actions. We arenot aware of any litigation, either pending or filed, that we believe is likelyto have a material adverse effect on our results of operation or financialcondition.

Wecurrently maintain insurance for general and professional liability claims inthe amount of $1 million per claim and $3 million in aggregate perpolicy year, plus $5 million in umbrella coverage. Accordingly, themaximum coverage for a first claim in any policy year is $6 million, andthe maximum aggregate coverage for all claims in a policy year is$8 million. We also require each franchisee to maintain general liabilityand professional liability insurance covering both the franchise and us, atcoverage levels that we believe to be sufficient. These policies providecoverage on a claims-made or occurrence basis and have certain exclusions fromcoverage. These insurance policies generally must be renewed annually. Therecan be no assurance that our insurance coverage will be adequate to coverliability claims that may be asserted against us.

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**ITEM 1A.  Risk Factors**

Therehave been no material changes to the risk factors previously disclosed inOption Care’s Annual Report on Form 10-K for the year endedDecember 31, 2005.

**ITEM2.  Unregistered Sales of Equity Securities and Use of Proceeds**

None.

**ITEM3.  Defaults Upon Senior Securities**

None.

**ITEM4.  Submission of Matters to a Vote of Securities Holders**

We held our annual meetingof stockholders on May 16, 2006.  At that meeting, our stockholderswere asked to consider and vote upon the following matters.

1.     Electionof three members to the Board of Directors to hold office for a three-year termor until a successor is duly elected and qualified.  The nominees, whowere listed in our proxy statement, were elected for a three-year term, withthe results of voting as follows:
|                        | ** ** | **VOTES FOR** | ** ** | **VOTES WITHHELD** | ** ** |
|------------------------|------------|--------------------|------------|-------------------------|------------|
| Kenneth  Abramowitz    |       | 29,449,084         |       | 63,188                  |       |
| John N. Kapoor,  Ph.D. |       | 28,914,311         |       | 647,961                 |       |
| Rajat Rai              |       | 29,507,822         |       | 54,450                  |       |

 

There were no brokernon-votes.

2.     Approvalof an amendment to our Employee Stock Purchase Plan to increase the number ofshares available for grant.  The proxyvoting results were as follows:
| VOTES FOR | ** ** | **VOTES AGAINST** | ** ** | **ABSTAIN** | ** ** | **BROKER  NON-VOTES** | ** ** |
|----------------|------------|------------------------|------------|-------------|------------|-----------------------|------------|
| 24,530,596     |       | 187,131                |       | 333,830     |       | 4,510,715             |       |

 

3.     Ratificationof the appointment of Ernst & Young LLP as our independent auditorsfor the fiscal year 2006.  The proxy voting results were as follows:
| VOTES FOR | ** ** | **VOTES AGAINST** | ** ** | **ABSTAIN** | ** ** |
|----------------|------------|------------------------|------------|-------------|------------|
| 29,514,819     |       | 46,326                 |       | 1,127       |       |

 

**ITEM5.  Other Information**

None.

**ITEM6.  Exhibits**

See Exhibit Index.

 

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**SIGNATURE**

Pursuant to therequirements of the Securities Exchange Act of 1934, the Company has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.
|                           |     | OPTION CARE, INC. |
|---------------------------|----------|------------------------|
| Date: August 9, 2006 |     | By:                    | /s/ Paul Mastrapa |   |
| * *                  | * * | * *               | *Senior Vice President and Chief Financial Officer* |
| * *                  | * * | * *               | *(Principal Accounting Officer and Principal  Financial Officer)* |

 

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**EXHIBIT INDEX**
| **Exhibit  Number** |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|---------------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 10.43               |   | Credit Agreement, dated May 5, 2006, by and among  Option Care, Inc. and certain subsidiaries of Option Care, Inc. party  thereto, as Borrowers, the Lending Institutions party thereto, as Lenders,  LaSalle Bank National Association, as Administrative and Collateral Agent and  Arranger. Filed as Exhibit 10.43 to Option Care’s Quarterly Report on Form  10-Q for the quarter ended March 31, 2006 and incorporated by reference  herein. |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 10.44               |   | Guaranty and Collateral Agreement, dated May 5,  2006, by and among Option Care, Inc. and certain subsidiaries of Option Care,  Inc. party thereto, as Grantors, and LaSalle Bank National Association, as  Administrative Agent. Filed as Exhibit 10.44 to Option Care’s Quarterly  Report on Form 10-Q for the quarter ended March 31, 2006 and incorporated by  reference herein.                                                              |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 10.45               |   | Specialty Pharmacy Agreement, dated June 15, 2006,  by and among Option Care, Inc., Blue Cross and Blue Shield of Michigan and  Blue Care Network of Michigan. Filed as Exhibit 10.45 to this Quarterly  Report on Form 10-Q.                                                                                                                                                                                                                          |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 31.1                |   | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                   |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 31.2                |   | Certification of Senior Vice President and Chief Financial  Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                         |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
| 32                  |   | Certification of Chief Executive Officer and Senior  Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section  1350, and Rule 13a-14(b) of the Exchange Act.                                                                                                                                                                                                                                                                           |

 

 

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