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UNITED STATES


SECURITIES AND
EXCHANGE COMMISSIONWASHINGTON, D.C. 20549

_________________

FORM 10-Q

_________________

[X]     QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d)              
OF THE SECURITIES
EXCHANGE ACT OF 1934.
               
   For
the quarterly period ended September 30, 2004

# OR

[_]     TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d)
           
   OF THE SECURITIES
EXCHANGE ACT OF 1934.



               
   For the transition period from__________to_____________

Commission file number
0-26816

_________________

IDX SYSTEMS CORPORATION



(Exact Name of
Registrant as Specified in Its Charter)

_________________

Vermont

              
                 
                 
                 
                     
                
              
03-0222230         (State or Other Jurisdiction of
                    
                 
                 
                  
                  


                                                (I.R.S. Employer
         Incorporation or Organization)

              
                 
                 
                 
                 
    
                                                 Identification No.)

40 IDX DriveSouth Burlington, VT
05403(Address of Principal
Executive Offices)

Registrants
Telephone Number, Including Area Code: (802) 862-1022

_________________

Indicate
by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such reports) and (2)
has been subject to such filing requirements for the past 90 days.

Yes X    No ____

Indicate
by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of
the Exchange Act).

Yes X     No ____

The number of shares outstanding of
the registrants common stock as of October 28, 2004 was 30,474,727.

The following trademarks used herein
are owned by IDX: Flowcast, Groupcast, Carecast, Imagecast, IDX, LastWord, IDXtend and Web
Framework. All other trademarks referenced in this Quarterly Report on Form 10-Q are the
property of their respective owners.

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# IDX SYSTEMS CORPORATION


FORM 10-Q


For the Period Ended
September 30, 2004

# TABLE OF CONTENTS

|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         | Page                                           
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------------------------------------
|PART I.  FINANCIAL INFORMATION
     ITEM 1.     Financial Statements                                                                 
                    
   Condensed Consolidated Balance Sheets (unaudited)                                    
                    
   Condensed Consolidated Statements of Income (unaudited)                              
                    
   Condensed Consolidated Statements of Cash Flows (unaudited)                          
                    
   Notes to Condensed Consolidated Financial Statements (unaudited)                     
     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 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                                                                                     
EXHIBIT INDEX | 3
  3
 4
 5
 6
18
41
42
43
44
44
44
44
45
46
47

2

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# PART I. FINANCIAL
INFORMATION

# Item 1. Financial Statements

# IDX Systems Corporation
Condensed
Consolidated Balance Sheets
(in thousands)
(unaudited)

|                                                         | September 30,
2004 | December 31,
2003
|-------------------------------------------------------- | ------------------ | -----------------
|ASSETS                                                   |                    |                  
|Cash and cash equivalents                                |                    |                  
|Marketable securities                                    |                    |                  
|Accounts receivable, net                                 |                    |                  
|Unbilled receivables                                     |                    |                  
|Deferred contract costs                                  |                    |                  
|Refundable income taxes                                  |                    |                  
|Prepaid and other current assets                         |                    |                  
|Deferred tax asset                                       |                    |                  
|                                                         |                    |                  
|Total current assets                                     |                    |                  
|Property and equipment, net                              |                    |                  
|Capitalized software costs, net                          |                    |                  
|Goodwill, net                                            |                    |                  
|Deferred contract costs, less current portion            |                    |                  
|Other assets                                             |                    |                  
|Deferred tax asset                                       |                    |                  
|                                                         |                    |                  
|Total assets                                             |                    |                  
|                                                         |                    |                  
|LIABILITIES AND STOCKHOLDERS' EQUITY                     |                    |                  
|Accounts payable, accrued expenses and other liabilities |                    |                  
|Deferred revenue                                         |                    |                  
|Deferred tax liability                                   |                    |                  
|                                                         |                    |                  
|Total current liabilities                                |                    |                  
|Deferred revenue, less current portion                   |                    |                  
|                                                         |                    |                  
|Total liabilities                                        |                    |                  
|Commitments and contingencies                            |                    |                  
|Stockholders' equity                                     |                    |                  
|                                                         |                    |                  
|Total liabilities and stockholders' equity               |                    |                  
|                                                         |                    |                  

# See Notes to the
Condensed Consolidated Financial Statements (unaudited)

3

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# IDX Systems Corporation
Condensed
Consolidated Statements of Income

(in thousands, except
for per share data)


(unaudited)

|                                                             | Three Months Ended
September 30, | Nine Months Ended
September 30,
|------------------------------------------------------------ | -------------------------------- | -------------------------------
|
|Revenues                                                     |                                  |                                
|System sales                                                 |                                  |                                
|Maintenance and service fees                                 |                                  |                                
|                                                             |                                  |                                
|Total revenues                                               |                                  |                                
|Operating expenses                                           |                                  |                                
|Cost of system sales                                         |                                  |                                
|Cost of maintenance and services                             |                                  |                                
|Selling, general and administrative                          |                                  |                                
|Software development costs                                   |                                  |                                
|Restructuring costs                                          |                                  |                                
|                                                             |                                  |                                
|Total operating expenses                                     |                                  |                                
|                                                             |                                  |                                
|Operating income                                             |                                  |                                
|Other income (expense)                                       |                                  |                                
|Interest income                                              |                                  |                                
|Interest expense                                             |                                  |                                
|Gain on sale of equity investment                            |                                  |                                
|Foreign currency transaction gains (losses), net             |                                  |                                
|                                                             |                                  |                                
|Total other income                                           |                                  |                                
|                                                             |                                  |                                
|Income before income taxes                                   |                                  |                                
|Income tax (provision) benefit                               |                                  |                                
|                                                             |                                  |                                
|Income from continuing operations                            |                                  |                                
|Discontinued operations                                      |                                  |                                
|Loss from discontinued operations, net of income taxes       |                                  |                                
|Gain on sale of discontinued operations, net of income taxes |                                  |                                
|                                                             |                                  |                                
|Income from discontinued operations                          |                                  |                                
|                                                             |                                  |                                
|Net income                                                   |                                  |                                
|                                                             |                                  |                                
|Basic earnings per share                                     |                                  |                                
|Income from continuing operations                            |                                  |                                
|Income from discontinued operations                          |                                  |                                
|                                                             |                                  |                                
|Basic earnings per share                                     |                                  |                                
|                                                             |                                  |                                
|Basic weighted average shares outstanding                    |                                  |                                
|                                                             |                                  |                                
|Diluted earnings per share                                   |                                  |                                
|Income from continuing operations                            |                                  |                                
|                                                             |                                  |                                
|Income from discontinued operations                          |                                  |                                
|                                                             |                                  |                                
|Diluted earnings per share                                   |                                  |                                
|                                                             |                                  |                                
|Diluted weighted average shares outstanding                  |                                  |                                
|                                                             |                                  |                                

# See Notes to the
Condensed Consolidated Financial Statements (unaudited)

4

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# IDX Systems Corporation
Condensed
Consolidated Statements of Cash Flows

(in thousands)


(unaudited)

|                                                                       | Nine Months Ended
September 30,
|---------------------------------------------------------------------- | -------------------------------
|
|Operating Activities:                                                  |                                
|Net income                                                             |                                
|Add:  Loss from discontinued operations, net of income taxes           |                                
|Less: Gain on disposal of discontinued operations, net of income taxes |                                
|                                                                       |                                
|Net income from continuing operations                                  |                                
|Adjustments to reconcile net income to net cash                        |                                
|provided by operating activities:                                      |                                
|Depreciation                                                           |                                
|Amortization                                                           |                                
|Deferred taxes                                                         |                                
|Increase in allowance for doubtful accounts                            |                                
|Tax benefit related to exercise of non-qualified stock options         |                                
|Foreign currency transaction (gains) losses, net                       |                                
|Gain on sale of investments                                            |                                
|Loss on disposition of equipment                                       |                                
|Restructuring costs                                                    |                                
|Other                                                                  |                                
|Changes in operating assets and liabilities:                           |                                
|Accounts and unbilled receivables                                      |                                
|Prepaid expenses and other assets                                      |                                
|Deferred contract costs                                                |                                
|Accounts payable and accrued expenses                                  |                                
|Federal and state income taxes                                         |                                
|Deferred revenue                                                       |                                
|                                                                       |                                
|Net cash provided by operating activities from continuing operations   |                                
|Investing Activities:                                                  |                                
|Purchase of property and equipment, net                                |                                
|Purchase of marketable securities                                      |                                
|Proceeds from sale of marketable securities                            |                                
|Proceeds from sale of equity investment                                |                                
|Proceeds from the sale of EDiX Corporation, net                        |                                
|Other assets                                                           |                                
|                                                                       |                                
|Net cash used in investing activities from continuing operations       |                                
|Financing Activities:                                                  |                                
|Proceeds from sale of common stock                                     |                                
|Proceeds from debt issuance                                            |                                
|Repayment of debt issuance                                             |                                
|Other                                                                  |                                
|                                                                       |                                
|Net cash provided by (used in) financing activities from               |                                
|continuing operations                                                  |                                
|Effect of exchange rate fluctuations on cash and cash equivalents      |                                
|                                                                       |                                
|Net cash provided by (used in) continuing operations                   |                                
|Net cash provided by discontinued operations                           |                                
|                                                                       |                                
|Net increase (decrease) in cash and cash equivalents                   |                                
|Cash and cash equivalents at beginning of period                       |                                
|                                                                       |                                
|Cash and cash equivalents at end of period                             |                                
|                                                                       |                                

# See Notes to Condensed
Consolidated Financial Statements (unaudited)

5

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# Notes to Condensed
Consolidated Financial Statements (unaudited)

# Note 1  Nature of
Business and Basis of Presentation

IDX Systems Corporation
(IDX or the Company) provides healthcare information systems and
services to large integrated healthcare delivery enterprises located in the United States,
the United Kingdom and Canada. Revenues are derived from the licensing of software,
hardware sales, and providing maintenance and services related to system sales.

On June 18, 2003, the Company
completed the sale of its wholly owned subsidiary EDiX Corporation (EDiX) to
Spheris, formerly Total eMed, Inc. (TEM), a medical transcription company
based in Franklin, Tennessee. EDiX was accounted for as a discontinued operation, and
therefore, EDiXs results of operations and cash flows have been removed from the
Companys results of continuing operations and cash flows for all periods presented
in this Quarterly Report on Form 10-Q. See Note 3 for further information on the sale of
EDiX.

The interim unaudited condensed
consolidated financial statements have been prepared by the Company pursuant to the rules
and regulations of the United States Securities and Exchange Commission (the
SEC) and in accordance with accounting principles generally accepted in the
United States. Accordingly, certain information and footnote disclosures normally included
in annual financial statements have been omitted or condensed. In the opinion of
management, all necessary adjustments (consisting of normal recurring accruals) have been
made to provide a fair presentation. The operating results for the three and nine month
periods ended September 30, 2004 are not necessarily indicative of the results that may be
expected for the year ending December 31, 2004. For further information, refer to the
consolidated financial statements and footnotes included in the Companys latest
annual report on Form 10-K filed with the SEC on March 15, 2004.

Certain reclassifications of prior
period data have been made to conform to the current reporting period.

# Note 2 
Significant Accounting Policies

# Principles of Consolidation

The condensed consolidated financial
statements include the accounts of the Company and its wholly owned subsidiaries. All
significant inter-company balances and transactions have been eliminated in consolidation.

# Significant Estimates
and Assumptions

The preparation of financial
statements in conformity with accounting principles generally accepted in the United
States requires management to make significant estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting periods. Significant estimates and assumptions by
management affect the Companys revenue recognition, allowance for doubtful accounts,
deferred tax assets, certain accrued expenses, amortization periods, capitalized software
and intangible and long-lived assets. Actual results could differ from those estimates.

# Revenue Recognition

IDX enters into contracts to license
software and sell hardware and related ancillary products to customers through its direct
sales force. The majority of the Companys system sales attributable to software
license revenue are earned from software that does not require significant customization
or modification. The Company recognizes revenue for the licensing of software in
accordance with American Institute of Certified Public Accountants Statement of Position
(SOP) 97-2, as amended by SOP No. 98-4, SOP 98-9 and clarified by Staff
Accounting Bulletin (SAB) No. 101, Revenue Recognition in Financial
Statements and SAB No. 104, Revenue Recognition and Emerging Issues Task
Force 00-21, Accounting for Revenue Arrangements with Multiple Deliverables(EITF 00-21) and, accordingly, the Company recognizes revenue from
software licenses, hardware, and related ancillary products when:

| | persuasive
evidence of an arrangement exists, which is typically when a customer has signed a
non-cancelable sales and software license agreement;
|- | --------------------------------------------------------------------------------------------------------------------------------------------------

| | delivery, which
is typically FOB shipping point for perpetual licenses, and for term base licenses the
later of FOB shipping point or the commencement of the term, is complete
for the software (either  physically
or electronically), hardware and related ancillary products;
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

6

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| | the customer's fee is deemed to be fixed or determinable and free of contingencies or significant
          uncertainties; and
|- | ------------------------------------------------------------------------------------------------------------------------------

| | collectibility is probable.
|- | ---------------------------

Judgment is required in assessing the
probability of collection and the current creditworthiness of each customer. For example,
if the financial condition of our customers were to deteriorate, it could affect the
timing and the amount of revenue the Company recognizes on a contract to the extent of
cash collected. In addition, in certain instances judgment is required in assessing if
there are uncertainties in determining the fee. If there are significant uncertainties,
the revenue is not recognized until the fee is determinable.

The Company uses the residual method
to recognize revenue when a contract includes one or more elements to be delivered at a
future date and vendor specific objective evidence (VSOE) of the fair value of
all undelivered elements (typically maintenance and professional services) exists. Under
the residual method, the Company defers revenue recognition of the fair value of the
undelivered elements and allocates the remaining portion of the arrangement fee to the
delivered elements and recognizes it as revenue, assuming all other conditions for revenue
recognition have been satisfied. The Company recognizes substantially all of its product
revenue in this manner. If the Company cannot determine the fair value of any undelivered
element included in an arrangement, the Company will defer revenue recognition until all
elements are delivered, services are performed or until fair value can be objectively
determined.

As part of an arrangement, the
Company typically sells maintenance contracts as well as professional services to
customers. Maintenance services include telephone and web-based support as well as rights
to unspecified upgrades and enhancements, when and if the Company makes them generally
available. Professional services are deemed to be non-essential and typically are for
implementation planning, loading of software, installation of hardware, training, building
simple interfaces, running test data, assisting in the development and documentation of
process rules, and best practices consulting.

The Company recognizes revenues from
maintenance services ratably over the term of the maintenance contract period based on
VSOE of fair value. VSOE of fair value is based upon the amount charged for maintenance
when purchased separately, which is typically the contracts renewal rate.
Maintenance services are typically stated separately in an arrangement. The allocated fair
value of revenues pertaining to contractual maintenance obligations are classified as a
current liability, since they are typically for the twelve-month period subsequent to the
balance sheet date.

The Company recognizes revenues from
professional services based on VSOE of fair value when: (1) a non-cancelable agreement for
the services has been signed or a customers purchase order has been received; and
(2) the professional services have been delivered. VSOE of fair value is based upon the
price charged when professional services are sold separately and is typically based on an
hourly rate for professional services.

The Companys arrangements with
customers generally include acceptance provisions. However, these acceptance provisions
are typically based on our standard acceptance provision, which provides the customer with
a right to a refund if the arrangement is terminated because the product did not meet our
published specifications. This right generally expires 30 days after installation is
completed. The product is deemed accepted unless the customer notifies the Company
otherwise. Generally, the Company determines that these acceptance provisions are not
substantive and historically have not been exercised, and therefore should be accounted
for as a warranty in accordance with Statement of Financial Accounting Standards No. 5. In
addition, for IDX Carecast system, IDX specifications include a 99.9% uptime
guarantee and subsecond response time. The length of the guarantee typically ranges from
one to three years. Historically, the Company has not
incurred substantial costs relating to this guarantee and the Company currently accrues
for such costs as they are incurred. The Company reviews these costs on a regular basis as
actual experience and other information becomes available; and should they become more
substantial, the Company would accrue an estimated exposure. The Company has not accrued
any costs related to these warranties in the accompanying consolidated financial
statements.

At the time the Company enters into
an arrangement, the Company assesses the probability of collection of the fee and the
terms granted to the customer. The Companys typical payment terms include a deposit
and subsequent payments based on specific milestone events and dates. If the Company
considers the payment terms for the arrangement to be extended or if the arrangement
includes a substantive acceptance provision, the Company defers revenue not meeting the
criterion for recognition under SOP 97-2 and classifies this revenue as deferred revenue,
including deferred product revenue. The Companys payment terms are generally fewer
than 90 days and payments from customers are typically due within 30 days of invoice date.
If payment terms for an arrangement are considered extended or if the arrangement contains
a substantive acceptance provision, the Company defers the recognition of revenue,
including product revenue, not meeting the criterion under SOP 97-2. The Company
recognizes this

7

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revenue, assuming all other conditions for revenue recognition have been
satisfied, when the payment of the arrangement fee becomes due and/or when the uncertainty
regarding acceptance is resolved as generally evidenced by written acceptance or payment
of the arrangement fee.

Additionally, the Company enters into
certain arrangements for the sale of software that require significant customization. In
these instances, the Company accounts for the contract in accordance with Accounting
Research Bulletin No. 45, Long-term Construction-Type Contractsand SOP 81-1,
Accounting for Performance of Construction-Type and Certain Production-Type
Contracts. The Company generally recognizes revenue on a percentage of completion
basis using labor input measures, which involves the use of estimates. Labor input
measures are used because they reasonably measure the stage of completion of the contract.
Revisions to cost estimates, which could be material, are recorded to income in the period
in which the facts that give rise to the revision become known. The Company also follows
the completed-contract method of accounting for one contract. Revenues and costs are
included in operations in the year during which they are completed. This contract is
expected to be completed during the fourth quarter of 2004 and the Company is currently
expecting to realize revenues of approximately $13.5 million and costs that approximate
revenues during the fourth quarter of 2004. The Company recognizes losses, if any, on
fixed price contracts when the amount of the loss is determined. The complexity of the
estimation process and the assumptions inherent in the application of the percentage of
completion method of accounting affect the amounts of revenue and related expenses
reported in the Companys consolidated financial statements. The Company records
revenues earned in excess of billings on uncompleted contracts as an asset with unbilled
receivables and records billings in excess of revenue earned on uncompleted contracts as
deferred revenues until revenue recognition criteria are met. Deferred contract costs
represent costs incurred for the acquisition of goods or services associated with
contracts, including contracts accounted for under the percentage-of-completion method of
accounting, and certain pre-contract costs for which revenue has not yet been earned.

The Company also enters into
arrangements that involve the delivery or performance of multiple products and services
that include the development and customization of software, implementation services, and
licensed software and support services. For these contracts, the Company applies the
consensus of EITF 00-21 to determine whether the deliverables specified in a multiple
element arrangement should be treated as separate units of accounting for revenue
recognition purposes. Accordingly, if the elements qualify as separate units of
accounting, and fair value exists for the elements of the contract that are unrelated to
the customization services, these elements are accounted for separately, and the related
revenue is recognized as the products are delivered or the services are rendered.

The Company also enters into
arrangements under which the Company provides a hosted software application. The Company
recognizes revenue for these arrangements based on the provisions of Emerging Issues Task
Force (EITF) Issue No. 00-3, Application of AICPA SOP 97-2 to
Arrangements That Include the Right to Use Software Stored on Another Entitys
Hardware(EITF-00-3), and the provisions of SAB No. 101, as amended by SAB
No. 104, when there is persuasive evidence of an arrangement, collection of the resulting
receivable is probable, the fee is fixed or determinable and acceptance has occurred. The
Companys revenues related to these arrangements consist of system implementation
service fees and software subscription fees. The Company has determined that the system
implementation services represent set-up services that do not qualify as separate units of
accounting from the software subscriptions as the customer would not purchase these
services without the purchase of the software subscription. As a result, the Company
recognizes system implementation fees ratably over a period of time from when the system
implementation services are completed and accepted by the customer to the end of the
contractual life of the customers subscription agreement. The Company recognizes
software subscription fees, which commence upon completion of the related system
implementation, ratably over the applicable subscription period. Amounts billed prior to
satisfying the Companys revenue recognition policy are reflected as deferred
revenue.

The application of SOP 97-2 and EITF
00-21 require judgment, including whether a software arrangement includes multiple
elements, and if so, whether fair value exists for those elements. Typically the
Companys contracts contain multiple elements, and while the majority of the
Companys contracts contain standard terms and conditions, there are instances where
our contracts contain non-standard terms and conditions. As a result, contract
interpretation is sometimes required to determine the appropriate accounting, including
whether the deliverables specified in a multiple element arrangement should be treated as
separate units of accounting for revenue recognition purposes in accordance with SOP 97-2
or EITF 00-21, and if so, the relative fair value that should be allocated to each of the
elements and when to recognize revenue for each element. Interpretations would not affect
the amount of revenue recognized but could impact the timing of recognition.

The Company records reimbursable
out-of-pocket expenses in both maintenance and services revenues and as a direct cost of
maintenances and services in accordance with EITF Issue No. 01-14, Income
Statement Characterization of Reimbursements Received for Out-of-Pocket
Expenses Incurred(EITF 01-14). EITF 01-14 requires reimbursable
out-of-pocket expenses incurred to be characterized as revenue in the income statement.
For the three months ended September 30, 2004 and 2003,

8

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reimbursable out-of-pocket expenses were $2.1 million
and $1.9 million, respectively. For the nine months ended
September 30, 2004 and 2003, reimbursable out-of-pocket expenses were $5.8 million and
$5.3 million, respectively.

# Accounting for Stock
Based Compensation

The Company accounts for its
stock-based compensation plan under Accounting Principles Board Opinion No. 25 (APB
No. 25), Accounting for Stock Issued to Employees, and related
interpretations in accounting for its stock-based compensation plans. Accordingly, the
Company records expense for employee stock compensation plans equal to the excess of the
market price of the underlying IDX shares at the date of grant over the exercise price of
the stock-related award, if any (known as the intrinsic value). In general, all employee
stock options are issued with the exercise price equal to the market price of the
underlying shares at the grant date and therefore, no compensation expense is recorded. In
addition, no compensation expense is recorded for purchases under the 1995 Employee Stock
Purchase Plan (the ESPP), as the plan is non-compensatory under the provisions
of APB No. 25. The intrinsic value of restricted stock units and certain other stock-based
compensation issued to employees as of the date of grant is amortized to compensation
expense over the vesting period.

Statement of Financial Accounting
Standards No. 123 (SFAS 123) establishes the fair value based method of
accounting for stock-based compensation plans. The Company has adopted the disclosure-only
alternative for stock options granted to employees and directors and for employee stock
purchases under the ESPP under SFAS 123. The table below summarizes the pro forma
operating results of the Company had compensation cost been determined in accordance with
the fair value based method prescribed by SFAS 123.

|                                                              | Three months ended
September 30, | Nine months ended
September 30,
|------------------------------------------------------------- | -------------------------------- | -------------------------------
|
|
|Net income as reported                                        |                                  |                                
|Add stock-based compensation expense included in reported net |                                  |                                
|income, net of tax                                            |                                  |                                
|Deduct total stock-based compensation under fair value based  |                                  |                                
|methods, net of tax                                           |                                  |                                
|                                                              |                                  |                                
|Pro forma net income - SFAS 123                               |                                  |                                
|                                                              |                                  |                                
|Basic net income per share:                                   |                                  |                                
|As reported                                                   |                                  |                                
|Pro forma - SFAS 123                                          |                                  |                                
|Diluted net income per share:                                 |                                  |                                
|As reported                                                   |                                  |                                
|Pro forma - SFAS 123                                          |                                  |                                

Subsequent to the quarter ended
September 30, 2004, the Company entered into Executive Retention Agreements with certain
key executives that provide, if certain conditions exist subsequent to a change in control
of the Company,
that the executives will receive both acceleration of vesting and extension of the
exercise period on their stock-based awards. In accordance with APB Opinion No. 25, the
Company has measured the intrinsic value of these individuals stock awards as of the
modification date, which totaled approximately $37.0 million. If the acceleration of
vesting and the extension of the exercise period occurs pursuant to the Executive
Retention Agreements, this intrinsic value of any outstanding awards as of the date of
separation will be recorded as compensation expense in the Companys Consolidated
Statements of Income. If the award vests and is exercised prior to the separation, the
intrinsic value as of the date of modification is not recognized.

# Foreign Currency
Translation

The financial statements of the
Companys foreign subsidiary are translated in accordance with SFAS No. 52,
Foreign Currency Translation.The reporting currency for the Company is the U.S.
dollar (dollar). The functional currency of the Companys subsidiary in the United
Kingdom is the local currency of that country. Accordingly, the assets and liabilities of
the Companys subsidiary are translated into U.S. dollars using the exchange rate in
effect at each balance sheet date. Revenue and expense accounts are generally translated
using an average rate of exchange during the period. Foreign currency translation
adjustments are accumulated as a component of other comprehensive loss as a separate
component of stockholders equity. Gains and losses arising from transactions
denominated in foreign currencies are primarily related to inter-company accounts that
have been determined to be temporary in nature and cash, accounts receivable and accounts
payable denominated in nonfunctional

9

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currencies. During the three and nine month
periods ended September 30, 2004, the Company recorded net foreign currency transaction
gains of $83,000 and $101,000, respectively.

# New Accounting Standards

In October 2004, the Financial
Accounting Standards Board (FASB) concluded that the proposed Statement 123R,
Share-Based Payment, which would require all companies to measure compensation cost
for all share-based payments, including employee stock options, at fair value, would be
effective for public companies (except small business issuers as defined in SEC Regulation
S-B) for interim or annual periods beginning after June 15, 2005. The FASB has tentatively
concluded that companies could adopt the new standard using either the modified
prospective transition method or the modified retrospective transition method.
Under the modified prospective transition method, a company would recognize share-based
employee compensation cost from the beginning of the fiscal period in which the
recognition provisions are first applied as if the fair-value-based accounting method had
been used to account for all employee awards granted, modified, or settled after the
effective date and to any awards that were not fully vested as of the effective date.
Measurement and attribution of compensation cost for awards that are not vested as of the
effective date of the proposed Statement would be based on the same estimate of the
grant-date fair value and the same attribution method used previously under Statement 123
(either for recognition or pro forma purposes). Under the modified retrospective
transition method, a company would recognize employee compensation cost for periods
presented prior to the adoption of Statement 123R in accordance with the original
provisions of Statement 123; that is, an entity would recognize employee compensation cost
in the amounts reported in the pro forma disclosures provided in accordance with Statement
123. A company would not be permitted to make any changes to those amounts upon adoption
of the proposed Statement unless those changes represent a correction of an error (and are
disclosed accordingly). For periods after the date of adoption of Statement 123R, the
modified prospective transition method described above would be applied. The Company is in
the process of determining the impact of this statement on its condensed consolidated
financial statements.

# Note 3  Business
Combinations and Divestitures

On June 18, 2003, the Company sold
its wholly owned subsidiary, EDiX, to TEM resulting in a net gain on the sale of
discontinued operations of $27.2 million. The Company received approximately $64.0 million
in cash from TEM in exchange for all the capital stock of EDiX. The Company transferred
approximately $8.2 million of cash to TEM as part of the sale of EDiX, resulting in a net
cash inflow related to the EDiX sale of $53.6 million, net of transaction costs. EDiX
represented the Companys medical transcription services segment (See Note 7).

Summarized operating results for
discontinued operations is as follows (in thousands):

|                                                        | Three months
ended
September 30,
2003 | Nine months
ended
September 30,
2003
|------------------------------------------------------- | ------------------------------------- | ------------------------------------
|Revenues                                                |                                       |                                     
|                                                        |                                       |                                     
|Pre-tax loss  from discontinued operations              |                                       |                                     
|Pre-tax gain on disposal of discontinued operations     |                                       |                                     
|Benefit (provision) for income taxes from income (loss) |                                       |                                     
|from discontinued operations                            |                                       |                                     
|Benefit (provision) for income taxes from gain on       |                                       |                                     
|disposal of discontinued operations                     |                                       |                                     
|                                                        |                                       |                                     
|Income from discontinued operations, net of tax         |                                       |                                     
|                                                        |                                       |                                     

The provision for income taxes on
loss from discontinued operations was significantly higher than statutory provision
primarily due to certain state tax payments.

The gain on the disposal of EDiX
resulted in an income tax benefit of $2.2 million. The Companys tax basis in the
stock of EDiX exceeded the net proceeds from the sale, resulting in a capital loss on the
sale for tax purposes. A tax benefit arises from this deductible temporary difference,
which more likely than not will reverse in the foreseeable future and be realized.

# Note 4  Investments

On January 8, 2001, the Company sold
certain of the net assets and operations of its majority owned subsidiary, ChannelHealth
Incorporated (ChannelHealth), to Allscripts Healthcare Solutions, Inc.
(Allscripts), a public company providing point-of-care

10

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e-prescribing and
productivity solutions for physicians. In exchange for the Companys 87% ownership of
ChannelHealth, the Company received approximately 7.5 million shares (with restrictions as
to resale as discussed below) of Allscripts common stock, which represented approximately
a 20% ownership interest in Allscripts. In addition to the sale, the Company entered into
a ten-year strategic alliance (the Alliance Agreement) whereby Allscripts is
the exclusive provider of point-of-care clinical applications sold by IDX to physician
practices.

Previously, the Company accounted for
its investment in Allscripts under the equity method of accounting. Under the equity
method of accounting, the Company recognized its pro-rata share of Allscripts losses
during the 2001 fiscal year resulting in the elimination of the carrying value of this
investment. Through September 30, 2004, the Company has sold approximately 168,000 shares
of Allscripts common stock and at September 30, 2004, the Company owned approximately
19.1% of the outstanding shares of common stock of Allscripts. Due to the fact that the
Companys equity interest in Allscripts has fallen below 20% and that the Company no
longer significantly influences the financial or operating policies of Allscripts, the
equity method was discontinued during the third quarter of 2004. The Company accounts for
its investment in Allscripts as available-for-sale securities in accordance with SFAS No.
115, Accounting for Certain Investments in Debt and Equity Securities. Under SFAS
No. 115, available-for-sale investments, which have readily determinable fair values, are
reported at fair value with unrealized gains and losses, net of taxes, reported in Other
Comprehensive Income as part of shareholders equity. The fair market value of this
stock is affected by the Companys contractual restriction that it is allowed to sell
only 25% of its initial Allscripts shares in any one year. Restricted stock does not meet
the readily determinable fair value criterion under SFAS 115; however, any portion of the
security holding that can be reasonably expected to qualify for sale within one year is
not considered restricted.

At September 30, 2004, the estimated
market value of the Companys investment in Allscripts is approximately $66.0
million, based on the last reported sales price per share of Allscripts common stock on
the NASDAQ National Market on that date. Of this amount, $25.3 million is reported in
Marketable Securities, which represents the fair value at September 30, 2004 of Allscripts
shares that can be sold within one year.

Certain information relative to the
Companys marketable securities at September 30, 2004 and December 31, 2003 is as
follows (in thousands):

|                        | September 30,
2004 | December 31,
2003
|----------------------- | ------------------ | -----------------
|Cost                    |                    |                  
|Gross unrealized gains  |                    |                  
|Gross unrealized losses |                    |                  
|                        |                    |                  
|Market value            |                    |                  
|                        |                    |                  

# Note 5  Derivative
Financial Instruments and Hedging Agreements

From time to time, the Company enters
into forward foreign exchange contracts to hedge, on a net basis, the foreign currency
exposure of a portion of the Companys assets and liabilities denominated in the
British pound sterling, including inter-company accounts. Inter-company transactions are
denominated in the functional currency of our foreign subsidiary in order to centralize
foreign exchange risk in the parent company in the United States. Increases or decreases
in our foreign currency exposures are partially offset by gains and losses on the forward
contracts, so as to mitigate foreign currency transaction gains and losses. The terms of
these forward contracts are generally for one month. The Company does not use forward
contracts for trading or speculative purposes. The forward contracts are not designated as
cash flow or fair value hedges under Statement of Financial Accounting Standards
No. 133, Accounting for Derivative Instruments and Hedging Activities
(SFAS 133), as amended. All outstanding forward contracts are marked to market
at the end of the period and recorded on the balance sheet at fair value in other current
assets and other current liabilities. The changes in fair value from these contracts and
from the underlying hedged exposures are generally offsetting and are recorded in other
income, net in the accompanying Consolidated Statement of Income.

During the three months ended
September 30, 2004, the Company settled its 3.6 million outstanding forward foreign
exchange contracts outstanding to exchange British pounds for US dollars outstanding as of
June 30, 2004 for a nominal loss. At September 30, 2004, the Company had no forward
foreign exchange contracts outstanding.

# Note 6 
Restructuring Costs and Other Charges

Restructuring costs

11

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On September 28, 2001, the Company
announced its plan to restructure and realign its large physician group practice
businesses. The Company implemented a workforce reduction and restructuring program
affecting approximately four percent of the Companys employees. The restructuring
program resulted in a charge to earnings of approximately $19.5 million during the fourth
quarter of 2001, in connection with costs associated with employee severance arrangements
of approximately $5.5 million, lease payment costs of approximately $5.2 million,
equipment and leasehold improvement write-offs related to the leased facilities of $8.6
million and other restructuring costs, primarily related to professional and consulting
fees related to the restructuring. Workforce related accruals, consisting principally of
employee severance costs, were based on specific identification of employees to be
terminated, along with their job classification and functions, and their location.
Approximately 200 employees were terminated primarily in the Flowcast operating unit and
certain corporate services functions. Substantially all workforce related actions were
completed during the fourth quarter of 2001, with the exception of a minimal number of
staff assigned to transition teams. As of December 31, 2003, the Company had an accrual
balance of $1.4 million related to lease payments through the end of the lease term in
2006.

On June 1, 2004, the Company entered
into an agreement to terminate its contractual commitments under the remaining lease. Such
termination was in part, related to the restructuring. The Company paid $1.5 million to
terminate the lease, which was approximately $387,000 higher than the amount accrued at
the date of termination.

Lease abandonment charges

In 1999, the Company entered into a
lease commitment for new office space in Seattle, Washington under a lease that commenced
in 2003. The Company continued to utilize its existing space and an active search for a
sublessee was initiated and has been ongoing. In 2002, the Company made the decision to
consolidate its Seattle operations into the new office space. Due to the depressed Seattle
real estate market and the inability to obtain a sublessee, the Company recorded a lease
abandonment charge of $9.2 million in the fourth quarter of 2002. The lease abandonment
charge is related to lease payments of approximately $7.9 million through the end of the
lease term in 2005 and non-cash write-offs of certain leasehold improvements of
approximately $1.3 million. As of December 31, 2003, the Company had an accrued liability
of $5.1 million. During the first nine months of 2004, lease payments of $1.9 million were
made. Of the $3.2 million accrual remaining at September 30, 2004, approximately $600,000
will be paid during the remainder of 2004 and approximately $2.6 million thereafter. In
the event that the Company is able to secure a sub-lessee to assume its prior lease in a
future reporting period or is able to negotiate lease terminations with the landlord, the
present value of the savings generated from the future sub-lease income or lease
terminations would be recorded as a reduction in lease abandonment expense in the period
in which the sub-lease or termination agreements are signed.

# Note 7  Segment
and Geographic Information

Segment Information

Statement of Financial Accounting
Standards No. 131, Disclosures about Segments of an Enterprise and Related
Information (SFAS 131), establishes standards for reporting
information about operating segments. SFAS 131 also establishes standards for related
disclosures about major customers, products and services, and geographic areas. Operating
segments are identified as components of an enterprise about which separate discrete
financial information is available for evaluation by the chief operating decision maker,
or decision-making group, in making decisions how to allocate resources and assess
performance. The Company internally identifies operating segments by the type of products
produced and markets served, and in accordance with SFAS 131, the Company has aggregated
similar operating segments into one segment: Information Systems and Services.

Information Systems and Services
consist of IDXs healthcare information solutions that include software, hardware and
related services. IDX solutions are designed to enable healthcare organizations to
redesign patient care and other workflow processes in order to improve efficiency and
quality. The principal markets for this segment include physician groups, management
service organizations, hospitals and integrated delivery networks primarily located in the
United States, United Kingdom and Canada.

Through the first quarter of 2003,
the Company reported results of an additional segment, Medical Transcription Services
(EDiX), which provided medical transcription outsourcing services for hospitals and large
physician group practices primarily located in the United States. This segment was
reported as discontinued operations (see Note 3) effective the second quarter of 2003 due
to the sale of EDiX to TEM. Accordingly, because the Company currently operates under one
business segment, segment information is no longer being disclosed separately. Operating
results for the discontinued Medical Transcription Services segment have been reclassified
to exclude general corporate overhead previously allocated to the segment and interest
charged on certain inter-company loans, net of income taxes.

12

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Geographic Information

Revenues are attributed to countries
based on the location of the client. The following table represents percentage of total
revenues of principal geographic areas:

|                         | Three months
ended
September 30,
2004 | Nine months
ended
September 30,
2004
|------------------------ | ------------------------------------- | ------------------------------------
|United States and Canada |                                       |                                     
|UK                       |                                       |                                     
|                         |                                       |                                     
|Total                    |                                       |                                     
|                         |                                       |                                     

No significant revenues were
generated from customers in foreign countries outside the US and Canada for the comparable
periods in 2003.

During the three months ended
September 30, 2004 there was one customer who accounted for approximately 14.3% of
consolidated revenues from continuing operations. During the nine months ended September
30, 2004, there were no customers who accounted for more than 10% of our consolidated
revenues from continuing operations. No single customer accounted for more than 10% of our
consolidated revenues from continuing operations for comparable periods in 2003.

# Note 8  Accounts
Payable, Accrued Expenses and Other Liabilities

Accounts payable, accrued expenses
and other liabilities consist of the following (in thousands):

|                                      | September 30,
2004 | December 31,
2003
|------------------------------------- | ------------------ | -----------------
|Accounts payable                      |                    |                  
|Employee compensation and benefits    |                    |                  
|Accrued expenses                      |                    |                  
|Reserve for lease abandonment charges |                    |                  
|Restructuring costs                   |                    |                  
|Income taxes                          |                    |                  
|Other                                 |                    |                  
|                                      |                    |                  
|                                      |                    |                  
|                                      |                    |                  

During the three months ended
September 30, 2004, the Company decreased its accrual related to performance-based
incentives by $950,000 based upon a review of current and forecasted metrics compared to
the Companys plan. In addition, during the three months ended September 30, 2004,
the Company decreased its allowance of doubtful accounts by $780,000 as a result of
a reduction in specifically identified collection risks combined with improved collection
experience.

# Note 9  Deferred
Revenues

Deferred revenues consists of the
following (in thousands):

|                                         | September 30,
2004 | December 31,
2003
|---------------------------------------- | ------------------ | -----------------
|Maintenance and services                 |                    |                  
|Systems                                  |                    |                  
|Billings in excess of revenues earned on |                    |                  
|uncompleted contracts                    |                    |                  
|                                         |                    |                  
|                                         |                    |                  
|                                         |                    |                  

|                             | September 30,
2004 | December 31,
2003
|---------------------------- | ------------------ | -----------------
|Short-term deferred revenues |                    |                  
|Long-term deferred revenues  |                    |                  
|                             |                    |                  
|                             |                    |                  
|                             |                    |                  

13

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# Note 10  Income
Taxes

The Companys 2004 and 2003
effective tax rate for continuing operations was lower than the Companys statutory
rate of 40.0%. For 2004, the lower effective tax rate of 38.0% is due to the utilization
of research and experimentation credits to offset income taxes. For 2003, the lower
effective tax rate of 9.3% was due to the utilization of previously reserved net operating
losses and research and experimentation credits to offset income taxes and a decline in
the deferred tax asset valuation allowance of approximately $4.4 million during the three
months ended September 30, 2003. The Company currently expects to realize net recorded
deferred tax assets as of September 30, 2004 of approximately $4.5 million.
Managements conclusion that such assets will be recovered is based upon its
expectation that future earnings of the Company combined with tax planning strategies
available to the Company will provide sufficient taxable income to realize recorded tax
assets. Such tax strategies include estimates and involve judgment relating to unrealized
gains on the Companys investment in publicly traded common stock. While the
realization of the Companys net recorded deferred tax assets cannot be assured, to
the extent that future taxable income against which these tax assets may be applied is not
sufficient, some or all of the Companys net recorded deferred tax assets would not
be realizable.

# Note 11 Earnings
Per Share

The following sets forth the
computation of basic and diluted earnings per share:

|                                                   | Three Months Ended
September 30, | Nine Months Ended
September 30,
|-------------------------------------------------- | -------------------------------- | -------------------------------
|
|
|Numerator for basic and diluted earnings per share |                                  |                                
|Continuing operations                              |                                  |                                
|Discontinued operations                            |                                  |                                
|                                                   |                                  |                                
|Total                                              |                                  |                                
|                                                   |                                  |                                
|Denominator:                                       |                                  |                                
|Basic weighted average shares outstanding          |                                  |                                
|Effect of employee stock options                   |                                  |                                
|                                                   |                                  |                                
|Denominator for diluted earnings per share         |                                  |                                
|                                                   |                                  |                                
|Basic earnings per share                           |                                  |                                
|Continuing operations                              |                                  |                                
|Discontinued operations                            |                                  |                                
|                                                   |                                  |                                
|Total                                              |                                  |                                
|                                                   |                                  |                                
|Diluted earnings per share                         |                                  |                                
|Continuing operations                              |                                  |                                
|Discontinued operations                            |                                  |                                
|                                                   |                                  |                                
|Total                                              |                                  |                                
|                                                   |                                  |                                

Options to acquire 909,713 and
1,051,398 shares for the three months ended September 30, 2004 and 2003, respectively,
were excluded from the calculation of diluted earnings per share, as the effect would not
have been dilutive. Options to acquire 473,347 and 1,875,278 shares for the nine months
ended September 30, 2004 and 2003, respectively, were excluded from the calculation of
diluted earnings per share, as the effect would not have been dilutive.

14

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# Note 12 
Comprehensive Income

Components of other comprehensive
income consisted of unrealized gains (losses) on marketable securities and foreign
currency translation adjustments as follows:

|                                                    | Three Months Ended
September 30, | Nine Months Ended
September 30,
|--------------------------------------------------- | -------------------------------- | -------------------------------
|
|
|Net income                                          |                                  |                                
|Other comprehensive income, net of tax:             |                                  |                                
|Unrealized gain (loss) on marketable securities     |                                  |                                
|Unrealized gains (losses) arising during the period |                                  |                                
|Foreign currency translation adjustments            |                                  |                                
|                                                    |                                  |                                
|Comprehensive income                                |                                  |                                
|                                                    |                                  |                                

# Note 13 
Commitments and Contingencies

Leases:

At September 30, 2004, minimum lease payments
for certain facilities and equipment under noncancelable leases commitments are as follows
(in thousands):

|Year                                                                                                                                                                                                                                            | Total                                                                                              
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------------------
|2004 remaining               
2005                         
2006                         
2007                         
2008                         
Thereafter                   
                 
            
Total minimum lease payments | $     3,602
     14,334
     13,494
     13,794
     14,128
     79,298
_______________ 
 $ 138,650

Of the $138.7 million in
non-cancelable operating lease obligations, approximately $3.0 million is included in
accrued expenses at September 30, 2004 relating to a lease abandonment charge. See Notes 6
and 8.

Richard E. Tarrant, Chairman of the
Companys Board of Directors, is the President and a director of LBJ Real Estate
Inc., a Vermont corporation (LBJ Real Estate). Certain executive officers of
LBJ Real Estate are also directors or executive officers of the Company, including Robert
H. Hoehl, a director of the Company, and John A. Kane, the Companys Chief Financial
Officer, who also serves as a director of LBJ Real Estate. The stockholders of LBJ Real
Estate include Messrs. Tarrant and Hoehl and an independent individual. LBJ Real Estate
holds a 1% general partnership interest in LBJ Limited Partnership, a Vermont limited
partnership and an affiliate of the Company (LBJ), and Messrs. Hoehl, Tarrant,
Kane and Robert F. Galin, President of IDX Global Business Development and Executive Vice
President of the Company, and two other employees of the Company hold in the aggregate a
72.95% limited partnership interest. Through September 30, 2003, the Company leased an
office building from LBJ. On September 30, 2003, LBJ sold the real estate leased by the
Company to an unrelated third party. The Company is continuing to lease the real estate
from the new owners under a new lease agreement, which has been approved by certain
independent members of the Board of Directors of the Company who have no financial
interest in the transaction.

Total rent expense from continuing
operations amounted to $3.9 million and $2.9 million during the three months ended
September 30, 2004 and 2003, respectively. Total rent expense from continuing operations
amounted to $11.8 million and $9.0 million during the nine months ended September 30, 2004
and 2003, respectively. Total rent paid to LBJ was approximately $138,000 and $414,000
during the three and nine-month periods ended September 30, 2003, respectively.

15

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The Company leases office space to
Allscripts in Burlington, Vermont. Total rent received from Allscripts was approximately
$51,000 for each of the three month periods ended September 30, 2004 and 2003 and $152,000
and $173,000 for the nine months ended September 30, 2004 and 2003, respectively.

Contingencies:

Federal regulations issued in
accordance with the Health Insurance Portability and Accountability Act of 1996,
(HIPAA), impose national health data standards on health care providers that
conduct electronic health transactions, health care clearinghouses that convert health
data between HIPAA-compliant and non-compliant formats, and health plans. Collectively,
these groups, including most of IDXs customers and IDXs eCommerce Services
clearinghouse business, are known as covered entities. These HIPAA standards include:

| | transaction and code set standards (the TCS Standards) that prescribe specific
transaction formats and data code sets for certain electronic health care transactions;
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | privacy standards (the Privacy Standards) that protect individual privacy by
limiting the uses and disclosures of individually identifiable health information; and
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | data security standards (the Security Standards) that require covered entities
to implement administrative, physical and technological safeguards to ensure the
confidentiality, integrity, availability and security of individually identifiable health
information in electronic form.
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

All covered entities were required to
comply with the TCS Standards by October 16, 2003. The Privacy Standards imposed by
HIPAA have been in effect for most covered entities since April 14, 2003, while the
compliance deadline for the Security Standards is April 21, 2005.

Many covered entities, including some
of IDXs customers, IDXs eCommerce Services clearinghouse business, and trading
partners of IDXs clearinghouse business, were not fully compliant with the TCS
Standards as of October 16, 2003. However, IDX has deployed contingency plans to accept
non-standard transactions. Because the entire healthcare system, including IDXs
eCommerce Services clearinghouse business and the business of IDXs customers who use
our information systems to generate claims data, has not operated at full capacity using
the newly-mandated standard transactions, it is possible that currently undetected errors
may cause rejection of claims, extended payment cycles, system implementation delays and
cash flow reduction, with the attendant risk of liability and claims against IDX.

The Privacy Standards place on
covered entities specific limitations on the use and disclosure of individually
identifiable health information. IDX has made certain changes in products and services to
comply with the Privacy Standards. The effect of the Privacy Standards on IDXs
business is difficult to predict and there can be no assurances that IDX will adequately
address the risks created by the Privacy Standards and their implementation or that IDX
will be able to take advantage of any resulting opportunities.

Failure to comply with these
standards under HIPAA may subject IDX to civil monetary penalties and, in certain
circumstances, criminal penalties. Under HIPAA, covered entities may be subject to civil
monetary penalties in the amount of $100 per violation, capped at a maximum of $25,000 per
year for violation of any particular standard. Also, the U.S. Department of Justice
(DOJ), may seek to impose criminal penalties for certain violations of HIPAA.
Criminal penalties under the statute vary depending upon the nature of the violation but
could include fines of not more than $250,000 and/or imprisonment.

The effect of HIPAA on IDXs
business is difficult to predict and there can be no assurances that IDX will adequately
address the business risks created by HIPAA and its implementation, or that IDX will be
able to take advantage of any resulting business opportunities. Furthermore, IDX is unable
to predict what changes to HIPAA, or the regulations issued pursuant to HIPAA, might be
made in the future or how those changes could affect IDXs business or the costs of
compliance with HIPAA.

Indemnifications:

IDX includes indemnification
provisions in software license agreements with its customers. These indemnification
provisions include provisions indemnifying the customer against losses, expenses, and
liabilities from damages that could be awarded against the customer in the event that
IDXs software is found to infringe upon a patent or copyright of a third party. The
scope of remedies available under these indemnification obligations is limited by the
software license agreements. IDX believes that its internal business practices and
policies and the ownership of information, works and rights agreements signed by all
employees, limits IDXs risk in paying out any claims under these indemnification
provisions. To date IDX has not been subject to any litigation and has not had to
reimburse any customers for any losses associated with these indemnification provisions.

16

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# Note 14  Legal
Proceedings

In late 2001, the Company finalized a
Cooperative Agreement with a non-regulatory federal agency within the U.S.
Commerce Departments Technology Administration, NIST, whereby the Company agreed to
lead a $9.2 million, multi-year project awarded by NIST to a joint venture composed of the
Company and four other joint venture partners (the SAGE Project). The project
entails research and development to be conducted by the Company and its partners in the
grant. Subsequently, an employee of the Company made allegations that the Company had
illegally submitted claims for labor expenses and license fees to NIST and that the
Company never had a serious interest in researching the technological solutions described
in the proposal to NIST.

On March 31, 2004, IDX submitted
certain information to NIST, which NIST requested in conjunction with a proposed amendment
to the Cooperative Agreement. As a result of the Amendment, payment on the award is
discontinued until IDX demonstrates regulatory compliance relating to certain aspects of
its grant accounting and reporting procedures and relating to an in-kind contribution of
software IDX made to the project. In issuing the Amendment, NIST made no finding of
regulatory noncompliance by IDX in connection with the award. In connection with
NISTs Amendment, the U.S. Commerce Department, Office of Inspector General
(OIG), is presently conducting an audit of the SAGE Project. IDX is
cooperating with OIG auditors, and continues to be in discussions to resolve the issues
raised by the Amendment. IDX has developed a plan with its joint venture partners to
continue to conduct certain research on the SAGE project during the audit period and while
funding is suspended.

The Company believes the employee has
likely filed an action under the Federal False Claims Act under seal in the Federal
District Court for the Western District of Washington with respect to his claims,
sometimes referred to as a qui tam complaint. The Company has no information
regarding the specific allegations in the qui tam complaint. Further, the Company has no
information concerning the actual amount of money at issue in the qui tam complaint. The
Company has not yet been served with legal process detailing the allegations. Prompted by
the employees allegations, the Civil Division of the U.S. Attorneys office in
Seattle, Washington, in conjunction with the U.S. Commerce Department, OIG, is
investigating whether the Company made false statements in connection with the application
for the project award from NIST. The Company is cooperating in the governments
ongoing investigation.

In April 2003, the Company filed a
complaint against the employee with the United States District Court for the Western
District of Washington, entitledIDX Systems Corporation v. Mauricio Leon (case no.
C03-972R). The Companys lawsuit asks the Court to grant a declaratory judgment
stating that, should the Company terminate the employees employment, such action
would not constitute retaliation for alleged whistle-blowing activities in violation of
the Federal False Claims Act or the Sarbanes-Oxley Act and would not constitute a
violation of the employees rights under other laws. On June 10, 2004, the Company
terminated the employee based upon, among other things, information obtained during the
litigation and, as a result, the Company dismissed the aforementioned declaratory relief
action.

In May 2003, the employee filed a
complaint against the Company with the Federal District Court for the Western District of
Washington, entitled Mauricio A. Leon, M.D. v. IDX Systems Corporation (case no.
CV03-1158P) asserting that the Company had knowledge that the employee engaged in
protected activity and retaliated against the employee in violation of the
False Claims Act. In addition, the employee alleges that the Company violated the
Americans with Disabilities Act and its Washington State counterpart in part through
retaliation against the employee for exercising the employees rights under the
federal and state discrimination laws. The employee also asserts other causes of action
including (a) wrongful termination in violation of public policy (which has since been
dismissed), (b) fraudulent inducement to enter into an employment contract with the
Company (which has since been dismissed), and (c) negligent and intentional infliction of
emotional distress (as to which the employee did not oppose the dismissal). The employee
requests relief including, but not limited to, an injunction against the Company enjoining
and restraining the Company from the alleged harassment and discrimination, wages,
damages, attorneys fees, interest and costs. In addition, the employees
complaint alleges that the Company submitted false statements to the government to obtain
the grant and to obtain reimbursement from the government for project costs.

On September 30, 2004, the U.S.
District Court issued an order dismissing all of the employees claims. The dismissal
was based on the Courts finding that the employee acted in bad faith in destroying
evidence that he had a duty to preserve. The Court also awarded the Company $65,000 as
sanctions, reflecting the cost of investigating and litigating the destruction of
evidence. The Company has received notice that the employee has appealed the dismissal.
The Company intends to vigorously argue in support of the District
Courts ruling.

In May 2003, the employee filed a
complaint against the Company with the U.S. Department of Labor, pursuant to Section 1514A
of the Sarbanes-Oxley Act of 2002. The employees complaint asserts that,
notwithstanding alleged notice to the Company of the employees allegations, Company
management conspired to continue to defraud the government by allowing fraudulent
activities to continue uncorrected and by concealing and avoiding its obligations to
report any and all fraudulent activities to the proper

17

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authorities.
 In addition, the
employees complaint alleges that the Company acted to retaliate, harass and
intimidate the employee in contravention of the Sarbanes-Oxley Acts whistleblower
provisions. The employees complaint requests relief including, but not limited to,
reinstatement, back-pay, with interest, compensation for any damages sustained by the
employee as a result of the alleged discrimination, and attorneys fees. The
Occupational Health and Safety Administration (OSHA) is investigating the
employees complaint on behalf of the U.S. Department of Labor, and the Company
intends to cooperate in the investigation. On October 14, 2004, the Company requested the
U.S. District Court that dismissed the employees retaliation claims under the False
Claims Act, as noted above, to enter an order enjoining the employee and OSHA from further
processing the employees retaliation claim filed with the Department of Labor based
on the doctrine of resjudicata. OSHA has opposed the motion. The Court has not yet ruled
on this motion.

The Company intends to continue to
vigorously defend against all of the employees claims, which the Company continues
to maintain are without merit. However, the outcome or the impact these claims may have on
the Companys operations cannot currently be predicted.

From time to time, the Company is a
party to or may be threatened with other litigation in the ordinary course of its
business. The Company regularly analyzes current information, including, as applicable,
the Companys defenses and insurance coverage and, as necessary, provides accruals
for probable and estimable liabilities for the eventual disposition of these matters. The
ultimate outcome of these matters is not expected to materially affect the Companys
business, financial condition or results of operations.

Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations

You should read the following
discussion together with the condensed consolidated financial statements and related notes
appearing elsewhere in this Quarterly Report on Form 10-Q. This Item contains
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933
and Section 21E of the Securities and Exchange Act of 1934 that involve risks and
uncertainties. Actual results may differ materially from those included in such
forward-looking statements. Factors which could cause actual results to differ materially
include those set forth under Forward-Looking Information and Factors Affecting
Future Performance commencing on page 35, as well as those otherwise discussed in
this section and elsewhere in this Quarterly Report on Form 10-Q. Unless otherwise
specified or the context requires otherwise, the terms we, us,
our and the Company refer to IDX Systems Corporation and its
subsidiaries. There are a number of important factors that could cause results to differ
materially from those indicated by these forward-looking statements, including among
others, statements regarding the health care industry, statements regarding our products,
product development and information technology, statements regarding future revenue or
other financial trends, statements regarding future acquisitions, strategic alliances, or
other agreement, including our agreements in the UK and statements regarding our
intellectual property. If any risk or uncertainty identified in the following factors
actually occurs, our business, financial condition and operating results would likely
suffer. In that event, the market price of our common stock could decline.

We undertake no obligation to update or revise forward-looking statements to reflect
changed assumptions, the occurrence of unanticipated events or changes in future operating
results, financial condition or business over time.

Because of these and other
factors, past financial performance should not be considered an indicator of future
performance. Investors should not use historical trends to anticipate future results.

# INTRODUCTION

Founded in 1969, IDX Systems
Corporation provides information technology (software and services) solutions designed to
maximize value in the delivery of healthcare by improving the quality of patient service
and reducing the costs of care. We offer business performance and clinical software
solutions. Healthcare providers purchase IDX systems to improve their patients
experience through simpler access, safer care delivery and more streamlined accounting.

We generate revenues from system
sales and from maintenance and service fees for the implementation and support of system
sales. Our system sales are comprised of a combination of IDX software licensed under the
IDX®Flowcast, IDX® Groupcast, IDX®Carecast System, and IDX® Imagecastbrands to
primarily end-user customers, as well as bundled third party hardware and software. IDX
patient access, financial and business intelligence products for hospitals, integrated
delivery networks and group practices are packaged under Flowcast and Groupcast.
Clinical solutions are generally packaged as the CarecastClinical EnterpriseSystem, which require more configurations and have a longer install period than our
business performance solutions. Specialty care products, which include IDXs
radiology and imaging products, are marketed under Imagecast. Our maintenance

18

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and
service fees consist of software maintenance fees, installation fees, development fees,
professional and technical service fees, consulting fees and other miscellaneous fees.
Maintenance and service fees also include outsourcing services and our IDX eCommerce
Services business, which offers web-based electronic data interchange (EDI)
claims, remittance and statement services. Costs relating to system sales consist
primarily of external costs for bundled third party hardware and software purchases. Costs
relating to maintenance and service fees consist primarily of employee costs and related
infrastructure costs incurred in providing installation services, post-installation
support and training and consulting services.

Our revenue growth is driven by
demand for new healthcare information technology systems and services as well as
installation, maintenance and service to our existing customers. Our ability to increase
earnings is driven primarily by IDX software sales, which yield significantly higher gross
profit margins than our hardware and services revenue components. Our ability to maintain
or increase our services revenue in the future depends primarily on our ability to
increase our installed customer base, to resubscribe existing customers to maintenance
agreements and to maintain or increase current levels of our professional services
business.

Matters Affecting Analysis

In June 2003, we completed the
disposition of our wholly owned subsidiary, EDiX, to TEM, a medical transcription company
based in Franklin, Tennessee. With the sale of EDiX, we no longer provide medical
transcription outsourcing services. Our condensed consolidated financial statements have
been reclassified to reflect EDiX as a discontinued operation for all periods presented in
this Quarterly Report on Form 10-Q. As a result, we no longer discuss EDiX as a separate
segment. For purposes of this Quarterly Report on Form 10-Q, the discussion will relate to
our only segment, Information Systems and Services, which is discussed under the
Results from Continuing Operations section below. The results of EDiX are discussed
under the Results of Discontinued Operationssection below.

Overview

During the first quarter of 2004, we
finalized our subcontract agreement with British Telecommunications PLC (BT)
to provide our clinical information technology systems to BT. BT is the local service
provider for the London region contract awarded by the United Kingdom National Health
Service (NHS). In December 2003, we reached a binding agreement in principle
with Fujitsu Services, which is the local service provider for the Southern region
contract awarded by the NHS. We continue to work on finalizing our definitive subcontract
agreement to provide our clinical information technology systems to Fujitsu Services.

On March 31, 2004, we released
Flowcast 3.0. Flowcast3.0 represents a next-generation, revenue cycle
management solution for hospitals, integrated delivery networks and large physician
organizations and was the culmination of a two-year development effort.

During the second quarter of this
year, we launched Flowcast Business Services Outsourcing (BSO).
Flowcast BSO provides a revenue cycle management outsourcing solution for large
physician organizations, hospitals and integrated delivery networks. The Flowcast
BSO solution provides the technology, services, human resources and best practices for key
processes in the revenue cycle.

Total revenues increased 34.2% to
$136.1 million during the three months ended September 30, 2004 from $101.4 million for
the same period in 2003. System sales and maintenance and service fees increased by 2.8%
and 50.9%, respectively, driven largely from revenues generated from our subcontract
arrangement with BT. Total operating expenses increased 30.1% resulting in operating
income of $14.6 million or an operating margin of 10.8% for the three months ended
September 30, 2004 as compared to an operating margin of 8.0% for the same period in 2003.
For the three months ended September 30, 2004, we reported income from continuing
operations of $9.8 million, or $0.31 diluted earnings per share, and at September 30,
2004, cash and marketable securities totaled $153.2 million.

A more detailed discussion of our
results is presented in the Results from Continuing Operations section below.

# CRITICAL ACCOUNTING
POLICIES

The discussion and analysis of our
financial condition and results of operations are based upon our condensed consolidated
financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amount of assets and
liabilities, revenues and expenses, and related disclosures of contingent assets and
liabilities. We base our estimates and judgments on our experience, our current knowledge,
including terms of existing contracts, and our beliefs of what could occur in the future,
based on our observation of trends in the industry, information provided by our customers
and information available from other sources. Actual results may differ from these
estimates under different assumptions or conditions.

19

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The following critical accounting
policies affect the more significant judgments and estimates used in the preparation of
our consolidated financial statements and could potentially create materially different
results under different assumptions and conditions.

| | revenue recognition,
|- | --------------------

| | allowance for doubtful accounts and credits,
|- | --------------------------------------------

| | capitalization of software development
costs,
|- | ---------------------------------------------

| | income taxes, and
|- | -----------------

| | accounting for contingencies.
|- | -----------------------------

This is not a comprehensive list of
all of IDXs accounting policies. For a detailed discussion on the application of
these and other accounting policies, see Note 1 of Notes to Consolidated Financial
Statements in the Companys Annual Report on Form 10-K for the year ended December
31, 2003.

Revenue Recognition  We
enter into contracts to license software and sell hardware and related ancillary products
to customers through our direct sales force. The majority of our system sales attributable
to software license revenue are earned from software that does not require significant
customization or modification. We recognize revenue for the licensing of software in
accordance with American Institute of Certified Public Accountants Statement of Position
(SOP) 97-2, as amended by SOP No. 98-4, SOP 98-9 and clarified by Staff
Accounting Bulletin (SAB) No. 101, Revenue Recognition in Financial
Statements and SAB No. 104, Revenue Recognition and Emerging Issues Task
Force 00-21, Accounting for Revenue Arrangements with Multiple Deliverables(EITF 00-21) and, accordingly, we recognize revenue from software
licenses, hardware, and related ancillary products when:

| | persuasive evidence of an arrangement exists, which is typically when a customer has
signed a non-cancelable sales and software license agreement;
|- | --------------------------------------------------------------------------------------------------------------------------------------------------

| | delivery, which is typically FOB shipping point for perpetual licenses, and for term base
licenses the later of FOB shipping point or the commencement of the term, is
complete for the software (either physically or electronically), hardware and related
ancillary products;
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | the customer's fee is deemed to be fixed or determinable and free of contingencies or significant
          uncertainties; and
|- | ------------------------------------------------------------------------------------------------------------------------------

| | collectibility is probable.
|- | ---------------------------

We must exercise our judgment when we
assess the probability of collection and the current creditworthiness of each customer.
For example, if the financial condition of our customers were to deteriorate, it could
affect the timing and the amount of revenue we recognize on a contract to the extent of
cash collected. In addition, in certain instances judgment is required in assessing if
there are uncertainties in determining the fee. If there are significant uncertainties,
the revenue is not recognized until the fee is determinable.

We use the residual method to
recognize revenue when a contract includes one or more elements to be delivered at a
future date and vendor specific objective evidence (VSOE) of the fair value of
all undelivered elements (typically maintenance and professional services) exists. Under
the residual method, we defer revenue recognition of the fair value of the undelivered
elements and we allocate the remaining portion of the arrangement fee to the delivered
elements and recognize it as revenue, assuming all other conditions for revenue
recognition have been satisfied. We recognize substantially all of our product revenue in
this manner. If we cannot determine the fair value of any undelivered element included in
an arrangement, we will defer revenue recognition until all elements are delivered,
services are performed or until fair value can be objectively determined.

As part of an arrangement, we
typically sell maintenance contracts as well as professional services to customers.
Maintenance services include telephone and web-based support as well as rights to
unspecified upgrades and enhancements, when and if we make them generally available.
Professional services are deemed to be non-essential and typically are for implementation
planning, loading of software, installation of hardware, training, building simple
interfaces, running test data, assisting in the development and documentation of process
rules, and best practices consulting.

We recognize revenues from
maintenance services ratably over the term of the maintenance contract period based on
VSOE of fair value. VSOE of fair value is based upon the amount charged for maintenance
when purchased separately, which is typically the contracts renewal rate.
Maintenance services are typically stated separately in an arrangement. We classify the
allocated fair value of revenues pertaining to contractual maintenance obligations as a
current liability, since they are typically for the twelve-month period subsequent to the
balance sheet date.

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We recognize revenues from
professional services based on VSOE of fair value when: (1) a non-cancelable agreement for
the services has been signed or a customers purchase order has been received; and
(2) the professional services have been delivered. VSOE of fair value is based upon the
price charged when professional services are sold separately and is typically based on an
hourly rate for professional services.

Our arrangements with customers
generally include acceptance provisions. However, these acceptance provisions are
typically based on our standard acceptance provision, which provides the customer with a
right to a refund if the arrangement is terminated because the product did not meet our
published specifications. This right generally expires 30 days after installation is
completed. The product is deemed accepted unless the customer notifies us otherwise.
Generally, we determine that these acceptance provisions are not substantive and
historically have not been exercised, and therefore should be accounted for as a warranty
in accordance with Statement of Financial Accounting Standards No. 5. In addition, for our
Carecast system, our specifications include a 99.9% uptime guarantee and subsecond
response time. The length of the guarantee typically ranges from one to three years.
Historically, we have not incurred substantial costs relating to
this guarantee and we currently accrue for such costs as they are incurred. We review
these costs on a regular basis as actual experience and other information becomes
available; and should they become more substantial, we would accrue an estimated exposure.
We have not accrued any costs related to these warranties in our consolidated financial
statements.

At the time we enter into an
arrangement, we assess the probability of collection of the fee and the terms granted to
the customer. Our typical payment terms include a deposit and subsequent payments based on
specific milestone events and dates. If we consider the payment terms for the arrangement
to be extended or if the arrangement includes a substantive acceptance provision, we defer
revenue not meeting the criterion for recognition under SOP 97-2 and classify this revenue
as deferred revenue, including deferred product revenue. Our payment terms are generally
fewer than 90 days and payments from customers are typically due within 30 days of invoice
date. If payment terms for an arrangement are considered extended or if the arrangement
contains a substantive acceptance provision, we defer the recognition of revenue,
including product revenue, not meeting the criterion under SOP 97-2. We recognize this
revenue, assuming all other conditions for revenue recognition have been satisfied, when
the payment of the arrangement fee becomes due and/or when the uncertainty regarding
acceptance is resolved as generally evidenced by written acceptance or payment of the
arrangement fee.

Additionally, we enter into certain
arrangements for the sale of software that require significant customization. In these
instances, we account for the contract in accordance with Accounting Research Bulletin No.
45, Long-term Construction-Type Contractsand SOP 81-1, Accounting for
Performance of Construction-Type and Certain Production-Type Contracts. In those
situations, we generally recognize revenue on a percentage of completion basis using labor
input measures, which involves the use of estimates. Labor input measures are used because
they reasonably measure the stage of completion of the contract. Revisions to cost
estimates, which could be material, are recorded to income in the period in which the
facts that give rise to the revision become known. We also follow the completed-contract
method of accounting for one contract. Revenues and costs are included in operations
in the year during which they are completed. We recognize losses, if any, on fixed price
contracts when the amount of the loss is determined. This contract is expected to be
completed during the fourth quarter of 2004 and the Company is currently expecting to
realize revenues of approximately $13.5 million and costs that approximate revenues during
the fourth quarter of 2004. The complexity of the estimation process and the assumptions
inherent in the application of the percentage of completion method of accounting affect
the amounts of revenue and related expenses reported in our consolidated financial
statements. We record revenue earned in excess of billings on uncompleted contracts as an
asset with unbilled receivables. We record billings in excess of revenue earned on
uncompleted contracts as deferred revenue until revenue recognition criteria are met.
Deferred contract costs represent costs incurred for the acquisition of goods or services
associated with contracts, including contracts accounted for under the
percentage-of-completion method of accounting, and certain pre-contract costs for which
revenue has not yet been earned.

We also enter into arrangements that
involve the delivery or performance of multiple products and services that include the
development and customization of software, implementation services, and licensed software
and support services. For these contracts, we apply the consensus of EITF 00-21 to
determine whether the deliverables specified in a multiple element arrangement should be
treated as separate units of accounting for revenue recognition purposes. Accordingly, if
the elements qualify as separate units of accounting, and fair value exists for the
elements of the contract that are unrelated to the customization services, these elements
are accounted for separately, and the related revenue is recognized as the products are
delivered or the services are rendered.

We also enter into arrangements under
which we provide hosted software applications. We recognize revenue for these arrangements
based on the provisions of Emerging Issues Task Force Issue No. 00-3, Application
of AICPA SOP 97-2 to Arrangements That Include the Right to Use Software Stored on Another
Entitys Hardware(EITF-00-3), and the provisions of Staff Accounting
Bulletin No. 101, Revenue Recognition in Financial Statements, as amended by SAB
No. 104, when there is

21

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persuasive evidence of an arrangement, collection of the resulting
receivable is probable, the fee is fixed or determinable and acceptance has occurred. Our
revenues related to these arrangements consist of system implementation service fees and
software subscription fees. We have determined that the system implementation services
represent set-up services that do not qualify as separate units of accounting from the
software subscriptions as the customer would not purchase these services without the
purchase of the software subscription. As a result, we recognize system implementation
fees ratably over a period of time from when the system implementation services are
completed and accepted by the customer to the end of the contractual life of the
customers subscription agreement. We recognize software subscription fees, which
commence upon completion of the related system implementation, ratably over the applicable
subscription period. Amounts billed prior to satisfying our revenue recognition policy are
reflected as deferred revenue.

The application of SOP 97-2 and EITF
00-21 require judgment, including whether a software arrangement includes multiple
elements, and if so, whether fair value exists for those elements. Typically our contracts
contain multiple elements, and while the majority of our contracts contain standard terms
and conditions, there are instances where our contracts contain non-standard terms and
conditions. As a result, contract interpretation is sometimes required to determine the
appropriate accounting, including whether the deliverables specified in a multiple element
arrangement should be treated as separate units of accounting for revenue recognition
purposes in accordance with SOP 97-2 or EITF 00-21, and if so, the relative fair value
that should be allocated to each of the elements and when to recognize revenue for each
element. Interpretations would not affect the amount of revenue recognized but could
impact the timing of recognition.

We record reimbursable out-of-pocket
expenses in both maintenance and services revenues and as a direct cost of maintenances
and services in accordance with EITF Issue No. 01-14, Income Statement
Characterization of Reimbursements Received for Out-of-Pocket Expenses
Incurred(EITF 01-14). EITF 01-14 requires reimbursable
out-of-pocket expenses incurred to be characterized as revenue in the income statement.

Allowance for Doubtful Accounts
and Credits  We maintain an allowance for doubtful accounts to reflect estimated
losses resulting from the inability of customers to make required payments. We record an
allowance for receivables based on a percentage of revenues. We review individual overdue
accounts and record an additional allowance when we determine it necessary to state the
specific receivable at realizable value. We base our allowance on estimates after
consideration of factors such as the composition of the accounts receivable aging, bad
debt experience and our evaluation of the financial condition of the customers. If the
financial condition of customers were to deteriorate, resulting in an impairment of their
ability to make payments, additional allowances and bad debt expense may be required. We
typically do not require collateral from our customers. Historically, our estimates have
been adequate to cover accounts receivable exposures.

We also record a provision for
estimated credits on product and service related sales in the same period the related
revenues are recorded. These estimates are based on an analysis of historical credits
issued and other known factors. If the historical data we use to calculate these estimates
does not properly reflect the future credits, then a change in the credit reserve would be
made in the period in which such a determination is made and revenues in that period would
be affected.

Capitalization of Software
Development Costs  We expense all costs incurred in the research, design and
development of software for sale to others until technological feasibility is established.
Technological feasibility is established when planning, designing, coding and testing
activities have been completed so that the working model is consistent with the product
design as confirmed by testing. Thereafter, we capitalize and amortize software
development costs to software development expense on a straight-line basis over the lesser
of 18 months or the estimated lives of the respective products, beginning when the
products are offered for sale. We capitalize software acquired if the related software
under development has reached technological feasibility or if there are alternative future
uses for the software. We evaluate the recoverability of capitalized software based on
estimated future gross revenues reduced by the estimated cost of completing the products
and of performing maintenance and customer support. If our gross revenues were to be
significantly less than our estimates, the net realizable value of our capitalized
software intended for sale would be impaired.

While we believe that our current
estimates and the underlying assumptions regarding capitalized software development costs
are appropriate, future events could necessitate adjustments to these estimates, resulting
in additional software development expense in the period of adjustment.

We expense costs incurred in the
development of software for internal use until we have completed the conceptual
formulation, design, and testing of possible project alternatives, including the process
of vendor selection for purchased software, if any. We capitalize and amortize certain
costs; principally external direct costs and payroll and payroll related costs directly
associated with the internal-use computer software project, incurred subsequent to the
preliminary project stage, to operating expense on a

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straight-line basis over the lesser
of seven years or the estimated economic life of the software.

Income Taxes  We account
for income taxes under the liability method. We determine deferred tax assets and
liabilities based on differences between the financial reporting and tax basis of assets
and liabilities, measured using the enacted tax rates that will be in effect when these
differences are expected to reverse. We have typically had net deferred tax assets at our
reporting dates. In assessing the realization of our net deferred tax assets, we evaluated
certain relevant criteria, including future taxable income, and tax planning strategies
designed to generate future taxable income. We currently believe that future earnings and
current tax planning strategies will be sufficient to recover substantially all of our net
recorded deferred tax assets. These strategies include estimates and involve judgments
relating to certain unrealized gains in our investment in common stock of an equity
investee. To the extent that facts and circumstances change  for example, if there
is a decline in the fair value of the equity method investment  this tax-planning
strategy may no longer be sufficient to support certain deferred tax assets and we may be
required to increase the valuation allowance. Furthermore, to the extent that future
taxable income against which these tax assets may be applied is not sufficient, some
portion or all of our recorded deferred tax assets would not be realizable.

Accounting for Contingencies
 We are currently involved in certain legal proceedings, which, if unfavorably
determined, could have a material adverse effect on our operating results and financial
condition. In connection with our assessment of these legal proceedings, we must determine
if an unfavorable outcome is probable and evaluate the costs for resolution of these
matters, if reasonably estimable. We have developed these determinations and related
estimates in consultation with outside counsel handling our defense in these matters, and
through an analysis of potential results assuming a combination of litigation and defense
strategies. See Part II, Item 1, Legal Proceedings and Note 14 of Notes to
Consolidated Financial Statements included in this Quarterly Report on 10-Q.

The above listing is not intended to
be a comprehensive list of all of our accounting policies. In many cases, the accounting
treatment of a particular transaction is specifically dictated by generally accepted
accounting principles, with no need for managements judgment in their application.
There are also areas in which managements judgment in selecting any available
alternative would not produce a materially different result. See our audited consolidated
financial statements and notes thereto contained in our Annual Report on Form 10-K for the
year ended December 31, 2003 which contain accounting policies and other disclosures
required by generally accepted accounting principles.

# NEW ACCOUNTING STANDARDS

In October 2004, the Financial
Accounting Standards Board (FASB) concluded that the proposed Statement 123R,
Share-Based Payment, which would require all companies to measure compensation cost
for all share-based payments, including employee stock options, at fair value, would be
effective for public companies (except small business issuers as defined in SEC Regulation
S-B) for interim or annual periods beginning after June 15, 2005. The FASB has tentatively
concluded that companies could adopt the new standard using either the modified
prospective transition method or the modified retrospective transition method.
Under the modified prospective transition method, a company would recognize share-based
employee compensation cost from the beginning of the fiscal period in which the
recognition provisions are first applied as if the fair-value-based accounting method had
been used to account for all employee awards granted, modified, or settled after the
effective date and to any awards that were not fully vested as of the effective date.
Measurement and attribution of compensation cost for awards that are not vested as of the
effective date of the proposed Statement would be based on the same estimate of the
grant-date fair value and the same attribution method used previously under Statement 123
(either for recognition or pro forma purposes). Under the modified retrospective
transition method, a company would recognize employee compensation cost for periods
presented prior to the adoption of Statement 123R in accordance with the original
provisions of Statement 123; that is, an entity would recognize employee compensation cost
in the amounts reported in the pro forma disclosures provided in accordance with Statement
123. A company would not be permitted to make any changes to those amounts upon adoption
of the proposed Statement unless those changes represent a correction of an error (and are
disclosed accordingly). For periods after the date of adoption of Statement 123R, the
modified prospective transition method described above would be applied. We are in the
process of determining the impact of this statement on our condensed consolidated
financial statements.

# RESULTS OF CONTINUING
OPERATIONS

# THREE MONTHS ENDED
SEPTEMBER 30, 2004 AS COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 2003

The following table indicates the
percentage of total revenues and the dollar and percentage of period over period change
represented by line items in our condensed consolidated statements of income from
continuing operations:

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|                                  |  |  |   |         | Change Three Months
Ended September 30,
2004 Over Three Months
Ended September 30, 2003
|--------------------------------- |  |  | - | ------- | ---------------------------------------------------------------------------------------
|
|
|System sales                      |  |  | $ | 36,334  |                                                                                        
|Maintenance and service fees      |  |  |   | 99,747  |                                                                                        
|                                  |  |  |   |         |                                                                                        
|Total revenues                    |  |  |   | 136,081 |                                                                                        
|Cost of system sales              |  |  |   | 15,047  |                                                                                        
|Cost of maintenance and services  |  |  |   | 62,909  |                                                                                        
|Selling, general and              |  | 
|administrative                    |  |  |   | 27,940  |                                                                                        
|Software development costs        |  |  |   | 15,542  |                                                                                        
|                                  |  |  |   |         |                                                                                        
|Total operating expenses          |  |  |   | 121,438 |                                                                                        
|                                  |  |  |   |         |                                                                                        
|Operating income                  |  |  |   | 14,643  |                                                                                        
|Other income (expense), net       |  |  |   | 1,080   |                                                                                        
|Income tax provision (benefit)    |  |  |   | (5,949  | )                                                                                      
|                                  |  |  |   |         |                                                                                        
|Income from continuing operations |  |  | $ | 9,774   |                                                                                        
|                                  |  |  |   |         |                                                                                        
|Diluted earnings per share from   |  | 
|continuing operations             |  |  | $ | 0.31    |                                                                                        
|                                  |  |  |   |         |                                                                                        

_________________

+Does not total due to
rounding. * Not meaningful.

# Total Revenues

Total revenues consist of system
sales and maintenance and service fees. Our system sales consist of our software licensed
to primarily end-user customers, along with third party hardware and software. Maintenance
and service fees represent services to implement and support our system sales. More
specifically, our maintenance and service fees consist of software maintenance fees,
installation fees, professional and technical service fees, training fees, outsourcing
services, and other miscellaneous fees.

Our eCommerce Services revenues have
been historically classified with system sales. These revenues are now included with
maintenance and service fees, since a large component of these revenues are service
driven. In addition, royalty revenues, which historically have been classified with
maintenance and service fees, are now included with system sales, since typically
royalties are associated with related system sales. Prior period data have been
reclassified to conform to the current reporting period.

During the three months ended
September 30, 2004 as compared to the same period in 2003, total revenues increased 34.2%
driven principally from maintenance and service fees, which increased 50.9% due primarily
to our development efforts in the UK. This resulted in maintenance and service fees
representing a larger portion of our total revenues. We currently anticipate this trend to
continue with our development work in the UK and as we market more comprehensive clinical
systems the time and effort required to implement these systems is typically more
extensive.

System Sales

Software license and subscription
revenues and hardware and third party software sales increased minimally during the three
months ended September 30, 2004 as compared to the same period last year. The overall
increase in system sales was primarily attributable to increases of $1.1 in royalty
revenue. Under certain royalty and revenue-sharing arrangements, we recognize royalty
revenue from sales by third parties that incorporate technology licensed from IDX, or we
share in revenues received by third parties from IDX customers. The increase in royalty
and revenue sharing income was primarily due to the increased level of third party sales.

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Maintenance and Service
Fees

The following table indicates the percentage
of total revenues and the dollar and percentage of period over period change by line items
comprising maintenance and service fees as represented in our condensed consolidated
statements of income from continuing operations:

|                                   |  |  |   |        | Change Three Months
Ended September 30,
2004 Over Three Months
Ended September 30, 2003
|---------------------------------- |  |  | - | ------ | ---------------------------------------------------------------------------------------
|
|
|Maintenance fees                   |  |  | $ | 40,335 |                                                                                        
|Installation fees                  |  |  |   | 20,682 |                                                                                        
|Development services               |  |  |   | 16,089 |                                                                                        
|Consulting, professional           |  | 
|and other fees                     |  |  |   | 22,641 |                                                                                        
|                                   |  |  |   |        |                                                                                        
|Total maintenance and service fees |  |  | $ | 99,747 |                                                                                        
|                                   |  |  |   |        |                                                                                        

_________________

+ Does not total due to rounding.

The increase in maintenance and
service fees was driven largely from our efforts in the UK. The increases in development
services, which represent revenues for our development efforts associated with the
production and customization of certain product functionalities required under our UK
contracts, and installation fees were both primarily related to work performed for our UK
customers. The increase in maintenance fees for software and hardware support was
primarily due to an increase in our installed base of $3.8 million combined with annual
maintenance price increases of approximately $1.2 million. Consulting, professional and
other fees increased 24.0% primarily attributable to growth in our services, principally
eCommerce, mailing services and business outsourcing. The growth in our eCommerce revenues
was primarily from our medical and physician group practice customers as a result of HIPAA
regulation requirements. Increases in our revenues from mailing services typically follow
increases in our eCommerce revenues. BSO is a new offering that was launched during the
second quarter of 2004.

# Cost of Sales

The following table indicates the
total cost of system sales and maintenance and service fees as a percentage of total
revenues and the cost of system sales and maintenance and service fees as a percentage of
their respective revenues:

|                                                                        | Three Months Ended
September 30,
|----------------------------------------------------------------------- | --------------------------------
|
|
|Total revenues                                                          |                                 
|Total cost of system sales and maintenance and service fees             |                                 
|Total cost of system sales and maintenance and service fees as a        |                                 
|percentage of total revenues                                            |                                 
|System sales:                                                           |                                 
|System sales                                                            |                                 
|Cost of system sales                                                    |                                 
|Cost of system sales as a percentage of system sales                    |                                 
|Maintenance and service fees:                                           |                                 
|Maintenance and service fees                                            |                                 
|Cost of maintenance and service fees                                    |                                 
|Cost of maintenance and service fees as a percentage of maintenance and |                                 
|service fees                                                            |                                 

The cost components of our total
revenues vary based on the type of products and services we provide, namely system sales
and maintenance and service fees. Our cost of system sales consists primarily of external
costs relating to third party hardware and

25

---

software purchases, while the costs of
maintenance and service fees are employee-driven and consist primarily of employee and
related infrastructure costs incurred in providing maintenance and installation services,
post-installation support and training and consulting services. These costs as a
percentage of total revenues typically have varied as the mix of revenue (software,
bundled third party software, hardware, maintenance and service fees) components carry
different margin rates from period to period. In addition, fluctuations in our cost of
system sales typically result from the revenue mix of our software license revenue, which
has a lower cost percentage and higher margins, and third party hardware and software
sales, which have higher cost percentages and lower margins.

Cost of System Sales

For the three months ended September
30, 2004 as compared to the same period in 2003, our cost of system sales as a percentage
of system sales decreased principally as a result of the change in the product mix between
our software license revenue and third party hardware and software sales. IDX software
sales, which carry a lower cost of revenue percentage, represented a larger portion of
system sales during the nine months ended September 30, 2004 as compared to the same
period in 2003. The shift in product mix was attributable to the increase in our royalty
and revenue sharing income as described under system sales above combined with a decrease
in royalties paid due to the restructuring of certain of our royalty arrangements.

Cost of Maintenance and
Service Fees

The cost of maintenance and service
fees increased $20.3 million or 47.6% during the three months ended September 30, 2004 as
compared to the same period in 2003 to support the growth in our installed base of
software applications and is in line with the increase of 50.9% in maintenance and service
fees revenue. The increase was primarily attributable to increases of $9.1 million in
subcontractor consulting expenses, $6.1 million in employee compensation and benefit
costs, $1.3 million in third party maintenance contract costs and $1.1 million in
professional fees. Subcontractor consulting expenses, professional fees and employee
compensation and benefit costs increased primarily to support the growth in our revenues
from our operations in the UK. A portion of our research and development costs,
principally employee compensation and benefit costs, were allocated to the cost of
maintenance and services that relate to the development work in the UK. Certain third
party maintenance contract costs increased as customers upgraded to new systems, which
have a higher support cost per user. The cost of maintenance and service fees as a
percentage of maintenance and service fee revenue for the three months ended September 30,
2004 as compared to the same period in 2003 decreased to 63.1% from 64.5% due to
operational efficiencies achieved in employee and infrastructure costs.

As the demand for services from new
and existing customers for installation, maintenance and consulting services increases in
future periods, we anticipate that our cost of services will also increase. In addition,
we expect the cost of maintenance and service fees to increase in future periods,
primarily due to classification of development costs related to services provided in the
UK as costs of maintenance and service fees. The use of specialized professional outside
services may increase as well, further increasing cost of services, which may reduce our
overall margin.

# Selling, General and
Administrative Expenses

The increase of $6.6 million in
selling, general and administrative expenses was principally due to increases of $3.1
million in employee compensation and benefit costs, $2.0 million in outside professional
fees, $1.5 million in occupancy related expenses, $1.2 million in travel related expenses
and $800,000 in depreciation charges offset with a decrease in bad debt expense of $1.1
million and in performance driven incentives of $950,000.

The increase in employee compensation
and benefit costs was due primarily to expansion in our operations in the UK. Professional
fees increased principally due to litigation matters as described in Note 14 of Notes to
Condensed Consolidated Financial Statements, audit and accounting fees incurred in
conjunction with the enhanced testing and the general expansion of our UK operations, and
consulting fees incurred in conjunction with the Sarbanes-Oxley Act of 2002. Occupancy
related expenses and travel increased primarily as a result of the expansion of our UK
operations. The increase in depreciation charges was primarily attributable to the
Enterprise Resource Planning (ERP) system, of which a significant portion went
live in fourth quarter 2003. Bad debt expense decreased by $1.1 million this quarter
primarily as a result of a reduction in specifically identified collection risks combined
with improved collection experience.

We expect our selling, general and
administrative expenses to increase in future periods as we increase our administrative
and accounting staff to support our growth. In addition, we anticipate that we will
continue to incur higher professional fees in 2004 in conjunction with current litigation
matters and increased use of outside professional accounting and consulting firms and
outside legal counsel to assist us in our continued compliance efforts with the
requirements of the Sarbanes-Oxley Act of 2002.

26

---

# Software Development
Costs

Software development costs consist
primarily of costs related to our software developers, associated infrastructure costs
required to fund product development initiatives and amortization of such costs. As
described in Note 1 to the Notes to Consolidated Financial Statements and notes thereto
contained in our Annual Report on Form 10-K for the year ended December 31, 2003, which
contain accounting policies and other disclosures required by generally accepted
accounting principles, software development costs incurred subsequent to the establishment
of technological feasibility until general release of the related products are
capitalized. Technological feasibility is established upon the completion of a working
model or detail program design. Historically, costs incurred after establishment of
technological feasibility have not been significant; however, as we develop products that
use more complex technologies as well as more comprehensive clinical systems, the time and
effort required to complete testing after technological feasibility has been established
may become significantly more extensive. Consequently, we anticipate that as we continue
to focus our development efforts on enhancing functionality and developing new
applications for our current product suites, capitalized software development costs may
become more significant in future reporting periods. Approximately $889,000 and $811,000
of software development costs were capitalized during the three months ended September 30,
2004 and 2003, respectively. Amortization of software development costs was approximately
$770,000 and $298,000 during the three months ended September 30, 2004 and 2003,
respectively.

The following table indicates
software development costs as a percentage of system sales:

|                                                           | Three Months Ended
September 30,
|---------------------------------------------------------- | --------------------------------
|
|
|Software development costs:                                |                                 
|System sales                                               |                                 
|Software development costs                                 |                                 
|Software development costs as a percentage of system sales |                                 

The $1.6 million increase in software
development costs was due primarily to increases of $1.2 million in employee compensation
and benefit cost and subcontractor consulting costs and $500,000 in capitalized software
development costs amortization primarily attributable to costs previously capitalized
during the three months ended March 31, 2004 for Flowcast3.0, which was released
on March 31, 2004.

# Total Other Income
(Expense), Net

The following table sets forth the
components of total other income, net:

|                                                 | Three Months Ended
September 30,
|------------------------------------------------ | --------------------------------
|
|
|Other income (expense)                           |                                 
|Interest income                                  |                                 
|Interest expense                                 |                                 
|Gain on sale of equity investment                |                                 
|Foreign currency transaction gains (losses), net |                                 
|                                                 |                                 
|Total other income, net                          |                                 
|                                                 |                                 

Interest Income

The increase in interest income was
due to higher domestic interest rates for the three months ended September 30, 2004 as
compared to the same period in 2003 and higher average invested balances in the UK, which
yield higher interest rates than domestic balances.

Gain on Sale of Equity
Investment

During the three months ended
September 30, 2004, we realized a gain of approximately $248,000 on the sale of 29,000
shares of our equity investment in Allscripts common stock.

27

---

Foreign Currency
Transaction Gains (Losses), net

Revenues generated from our
operations in the UK are primarily denominated in pounds sterling, the local foreign
currency. In addition, certain expenses to service our UK contracts are incurred in pounds
sterling. As such, we are exposed to foreign exchange rate fluctuations from these
transactions. For the three months ended September 30, 2004, we incurred a net foreign
currency transaction gain of $83,000.

# Income Tax Provision

Our effective income tax rate was
38.0% for the three months ended September 30, 2004 resulting in an income tax provision
of $5.9 million. Our effective income tax rate for 2004 was lower than our historical tax
rate of 40.0% primarily due to our use of research and development credits to offset
income taxes. We recorded an income tax benefit of approximately $1.9 million during the
three months ended September 30, 2003, resulting in an effective tax rate from continuing
operations for the quarter of (23.0%). This is lower than our historical tax rate of 40.0%
due to the utilization of previously reserved net operating losses and research and
experimentation credits to offset income taxes and a decline in the deferred tax asset
valuation allowance. The valuation allowance declined $4.4 million during the three months
ended September 30, 2003 as a result of management expectations that the Company will more
likely than not realize future tax benefits through tax planning strategies related to
unrealized gains on the Companys investment in publicly traded common stock that the
Company, at that time, accounted for using the equity method of accounting.

# NINE MONTHS ENDED
SEPTEMBER 30, 2004 AS COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 2003

The following table indicates the
percentage of total revenues and the dollar and percentage of period over period change
represented by line items in our condensed consolidated statements of income from
continuing operations:

|                                  |  |  |   |         | Change Nine Months
Ended September 30,
2004 Over Nine Months
Ended September 30, 2003
|--------------------------------- |  |  | - | ------- | -------------------------------------------------------------------------------------
|
|
|System sales                      |  |  | $ | 112,557 |                                                                                      
|Maintenance and service fees      |  |  |   | 256,459 |                                                                                      
|                                  |  |  |   |         |                                                                                      
|Total revenues                    |  |  |   | 369,016 |                                                                                      
|Cost of system sales              |  |  |   | 44,741  |                                                                                      
|Cost of maintenance and services  |  |  |   | 167,608 |                                                                                      
|Selling, general and              |  | 
|administrative                    |  |  |   | 82,831  |                                                                                      
|Software development costs        |  |  |   | 44,688  |                                                                                      
|Lease abandonment charges         |  |  |   | 387     |                                                                                      
|                                  |  |  |   |         |                                                                                      
|Total operating expenses          |  |  |   | 340,255 |                                                                                      
|                                  |  |  |   |         |                                                                                      
|Operating income                  |  |  |   | 28,761  |                                                                                      
|Other income                      |  |  |   | 2,540   |                                                                                      
|Income tax provision              |  |  |   | (11,869 | )                                                                                    
|                                  |  |  |   |         |                                                                                      
|Income from continuing operations |  |  | $ | 19,432  |                                                                                      
|                                  |  |  |   |         |                                                                                      
|Diluted earnings per share from   |  | 
|continuing operations             |  |  | $ | 0.62    |                                                                                      
|                                  |  |  |   |         |                                                                                      

_________________

+Does not total due to
rounding. * Not meaningful.

28

---

# System Sales

The increase in system sales during
the nine months ended September 30, 2004 as compared to the same period in 2003 was
attributable to increases of $7.9 million in software license and subscription revenues
and $1.4 million in hardware and third party software sales. The increases were primarily
attributable to system sales relating to Imagecast radiology contracts.

# Maintenance and Service
Fees

The following table indicates the
percentage of total revenues and the dollar and percentage of period over period change by
line items comprising maintenance and service fees as represented in our condensed
consolidated statements of income from continuing operations:

|                                   |  |  |   |         | Change Nine Months
Ended September 30,
2004 Over Nine Months
Ended September 30, 2003
|---------------------------------- |  |  | - | ------- | -------------------------------------------------------------------------------------
|
|
|Maintenance fees                   |  |  | $ | 114,805 |                                                                                      
|Installation fees                  |  |  |   | 51,227  |                                                                                      
|Development services               |  |  |   | 29,710  |                                                                                      
|Consulting, professional and       |  | 
|other fees                         |  |  |   | 60,717  |                                                                                      
|                                   |  |  |   |         |                                                                                      
|Total maintenance and service fees |  |  | $ | 256,459 |                                                                                      
|                                   |  |  |   |         |                                                                                      

_________________

+ Does not total due to rounding.

The increase in maintenance and
service fees was driven largely from our efforts in the UK. The increases in development
services, which represent revenues for our development efforts associated with the
production and customization of certain product functionalities required under our UK
contracts, and installation fees were both primarily related to work performed for our UK
customers. The increase in maintenance fees for software and hardware support was
primarily due to an increase in our installed base of $9.8 million combined with annual
maintenance price increases of approximately $3.6 million. Consulting, professional and
other fees increased 17.2% primarily attributable to increases in services revenues,
principally eCommerce, mailing services and BSO. The growth in our eCommerce revenues was
primarily from our medical and physician group practice customers as a result of HIPAA
regulation requirements. Increases in our revenues from mailing services typically follow
increases in our eCommerce revenues. Consulting revenues were down for the nine months
ended September 30, 2004 as compared to the same period in 2003 due to several large
consulting engagements in 2003.

# Cost of Sales

The following table indicates the
total cost of system sales and maintenance and service fees as a percentage of total
revenues and the cost of system sales and the cost of maintenance and service fees as a
percentage of their respective revenues:

29

---

|                                                                        | Nine months ended
September 30,
|----------------------------------------------------------------------- | -------------------------------
|
|
|Total revenues                                                          |                                
|Total cost of system sales and maintenance and service fees             |                                
|Total cost of system sales and maintenance and service fees as a        |                                
|percentage of total revenues                                            |                                
|System sales:                                                           |                                
|System sales                                                            |                                
|Cost of system sales                                                    |                                
|Cost of system sales as a percentage of system sales                    |                                
|Maintenance and service fees:                                           |                                
|Maintenance and service fees                                            |                                
|Cost of maintenance and service fees                                    |                                
|Cost of maintenance and service fees as a percentage of maintenance and |                                
|service fees                                                            |                                

Cost of System Sales

For the nine months ended September
30, 2004 as compared to the same period in 2003, our cost of system sales as a percentage
of system sales decreased principally as a result of the change in the product mix between
our software license revenue and third party hardware and software sales. IDX software
sales, which carry a lower cost of revenue percentage, represented a larger portion of
system sales during the nine months ended September 30, 2004 as compared to the same
period in 2003. The shift in product mix was attributable to the increase in our royalty
and revenue sharing income as described under system sales above and the increase in IDX
software licenses relating primarily to Imagecast radiology contracts.

Cost of Maintenance and
Service Fees

The cost of maintenance and service
fees increased $42.9 million or 34.4% during the nine months ended September 30, 2004 as
compared to the same period in 2003 to support the growth in our installed base of
software applications and is in line with the increase of 35.5% in maintenance and service
fees revenue. The increase was primarily attributable to increases of $23.1 million in
subcontractor consulting expenses, $11.1 million in employee compensation and benefit
cost, $3.2 million in cost of mailing services, $3.1 million in the cost of maintenance
and $1.2 million in professional fees. Subcontractor consulting expenses, professional
fees and employee compensation and benefit costs increased primarily to support the growth
in our revenues from our operations in the UK. A portion of our research and development
costs, principally employee compensation and benefit costs, were allocated to the cost of
maintenance and services that relate to the development work in the UK. Mailing services
costs increased to support the growth in mailing services revenues. Certain third party
maintenance contract costs increased as customers upgraded to new systems, which have a
higher support cost per user.

# Selling, General and
Administrative Expenses

The increase of $20.0 million in
selling, general and administrative expenses was principally due to increases of $6.8
million in employee compensation and benefit costs, $5.6 million in outside professional
fees, $3.2 million in occupancy expenses, $2.9 million in depreciation charges and $1.9
million in travel related expenses.

The increase in employee compensation
and benefit costs was primarily due to the start-up efforts of our UK operations.
Professional fees increased principally due to litigation matters as described in Note 14
of Notes to Condensed Consolidated Financial Statements, audit and accounting fees
incurred in conjunction with the enhanced testing and analysis surrounding our 2003
year-end audit and the expansion of our UK operations, and consulting fees incurred in
conjunction with the Sarbanes-Oxley Act of 2002. Occupancy expenses increased as a result
of the expansion of our facilities in Seattle, WA and the expansion of our UK operations.
The increase in depreciation charges was primarily attributable to the ERP system, of
which a significant portion went live in fourth quarter 2003. The increase in travel
related expenses were primarily a result of our expansion in the UK.

30

---

# Software Development
Costs

The following table indicates
software development costs as a percentage of system sales:

|                                                           | Nine Months Ended
September 30,
|---------------------------------------------------------- | -------------------------------
|
|
|Software development costs:                                |                                
|System sales                                               |                                
|Software development costs                                 |                                
|Software development costs as a percentage of system sales |                                

The $3.1 million increase in software
development costs was primarily due to increases in personnel costs and subcontractor
consulting fees of approximately $3.2 million and travel related expenses of $700,000,
offset with an increase in capitalized software development costs, net of amortization, of
$1.0 million. Travel related expenses increased due to our expansion in the UK. The
increase in capitalized software development costs, net of amortization, was primarily
related to costs capitalized during the three months ended March 31, 2004 relating to
Flowcast3.0.

The decrease in software development
costs as a percentage of system sales during the nine months ended September 30, 2004 as
compared to the same period in 2003 was a result of an allocation of a portion of our
research and development employee compensation and benefit costs to the cost of
maintenance and services that relate to the development work in the UK.

Approximately $3.4 million and $1.5
million of software development costs were capitalized during the nine months ended
September 30, 2004 and 2003, respectively. Amortization of software development costs was
approximately $2.1 million and $1.3 million during the nine months ended September 30,
2004 and 2003, respectively.

# Restructuring Costs

During the fourth quarter of 2001, we
implemented a workforce reduction and restructuring program affecting approximately four
percent of our employees. The restructuring program resulted in a charge to earnings of
approximately $19.5 million during the fourth quarter of 2001, in connection with costs
associated with employee severance arrangements of approximately $5.5 million, lease
payment costs of approximately $5.2 million, equipment and leasehold improvement
write-offs related to the leased facilities of $8.6 million and other restructuring costs,
principally professional and consulting fees related to the restructuring.

On June 1, 2004, we entered into an
agreement to terminate our contractual commitments under the remaining lease. Such
termination was in part, related to the restructuring. We paid $1.5 million to terminate
the lease, which was approximately $387,000 higher than the amount accrued at the date of
lease termination.

# Total Other Income, Net

The following table sets forth the
components of total other income, net:

|                                                 | Nine Months Ended
September 30,
|------------------------------------------------ | -------------------------------
|
|
|Other income (expense)                           |                                
|Interest income                                  |                                
|Interest expense                                 |                                
|Gain on sale of equity investment                |                                
|Foreign currency transaction gains (losses), net |                                
|                                                 |                                
|Total other income, net                          |                                
|                                                 |                                

Interest Income

The increase in interest income was
due to higher domestic interest rates and higher average domestic invested balances
resulting from the proceeds received from the sale of EDiX in June 2003, as well as to
higher average invested balances in the UK, which earn greater interest rates than
domestic balances.

31

---

Interest Expense

The increase in interest expense for
the nine months ended September 30, 2004 as compared to the same period in 2003 was due to
the write-off of loan origination fees on the line of credit.

Gain on Sale of Equity
Investment

During the nine months ended
September 30, 2004, we realized a gain of approximately $1.3 million on the sale of
154,000 shares of our equity investment in Allscripts common stock.

Foreign Currency
Transaction Gains (Losses), net

Revenues generated from our
operations in the UK are primarily denominated in pounds sterling, the local foreign
currency. In addition, certain expenses to service our UK contracts are incurred in pounds
sterling. As such, we are exposed to foreign exchange rate fluctuations from these
transactions. For the nine months ended September 30, 2004, we incurred a net foreign
currency transaction gain of $101,000.

# Income Tax Provision

Our effective income tax rate was
38.0% for the nine months ended September 30, 2004 resulting in an income tax provision of
$11.9 million. Our effective income tax rate for 2004 was lower than our historical tax
rate of 40.0% primarily due to our use of research and development credits to offset
income taxes. We recorded total income tax expense of approximately $2.0 million during
the nine months ended September 30, 2003, resulting in an effective tax rate from
continuing operations of 9.3%. This is lower than our historical tax rate of 40.0% due to
the utilization of previously reserved net operating losses and research and
experimentation credits to offset income taxes and a decline in the deferred tax asset
valuation allowance. The valuation allowance declined $4.4 million during the nine months
ended September 30, 2003 as a result of management expectations that the Company will more
likely than not realize future tax benefits through tax planning strategies related to
unrealized gains on the Companys investment in publicly traded common stock that the
Company, at that time, accounted for using the equity method of accounting.

# RESULTS OF DISCONTINUED
OPERATIONS

The following is a summary of the
results of discontinued operations:

|                                                        | Three months
ended September 30,
2003 | Nine months
ended September 30,
2003
|------------------------------------------------------- | ------------------------------------- | ------------------------------------
|
|Revenues                                                |                                       |                                     
|                                                        |                                       |                                     
|Pre-tax loss  from discontinued operations              |                                       |                                     
|Pre-tax gain on disposal of discontinued operations     |                                       |                                     
|Benefit (provision) for income taxes from income (loss) |                                       |                                     
|from discontinued operations                            |                                       |                                     
|Benefit (provision) for income taxes from gain on       |                                       |                                     
|disposal of discontinued operations                     |                                       |                                     
|                                                        |                                       |                                     
|Income from discontinued operations, net of tax         |                                       |                                     
|                                                        |                                       |                                     

The Stock Purchase and Sale Agreement
dated April 10, 2003 between the Company and TEM, as amended, provided for an adjustment
of the purchase price to the extent the amount of working capital (current assets less
current liabilities) of EDiX as of June 18, 2003 did not equal $20,796,000. The working
capital adjustment was finalized as of October 22, 2003 as mutually agreed upon by the
Company and TEM. An additional net gain of $814,000 was reflected during the third quarter
of 2003 as a gain on the sale of discontinued operations resulting in a net gain on the
sale of discontinued operations of $27.2 million. The gain was offset by an additional net
loss during the third quarter of 2003 from discontinued operations of $814,000 due to the
reclassification of operating expenses previously charged against the gain. The provision
for income taxes on loss from discontinued operations was significantly higher than
statutory provision primarily due to certain state tax payments.

32

---

The gain on the disposal of EDiX
resulted in an income tax benefit of $2.2 million. The Companys tax basis in the
stock of EDiX exceeded the net proceeds from the sale, resulting in a capital loss on the
sale for tax purposes. A tax benefit arises from this deductible temporary difference,
which more likely than not will reverse in the foreseeable future and be realized.

# LIQUIDITY AND CAPITAL
RESOURCES

We primarily generate cash from the
sale of our software, maintenance fees, which are typically paid on a monthly basis,
implementation services and providing professional and consulting services. We primarily
use cash to pay employees salaries, commissions and benefits, pay rent for office
facilities, procure insurance, pay taxes and pay vendors for services and supplies. We
also use cash to procure capital assets to support our business. We principally have
funded our operations, working capital needs and capital expenditures from operations. At
September 30, 2004, we had no debt, $54.0 million in cash and cash equivalents, $99.2
million in short-term investments, consisting of investments in equities and highly liquid
debt securities of corporations and municipalities and $180.3 million of working capital.

Net cash provided by or used in
continuing operations is principally comprised of net income or loss and is primarily
affected by the net change in accounts and unbilled receivables, deferred contract costs,
accounts payable and accrued expenses, deferred revenues and non-cash items relating to
depreciation and amortization, deferred taxes, and certain components of lease abandonment
and restructuring charges. Due to the nature of our business, accounts and unbilled
receivables, deferred contract costs, deferred revenue, and accounts payable can fluctuate
considerably due to, among other things, the length of installation efforts, which is
dependent upon the size of the transaction, the changing business plans of the customer,
the effectiveness of customers management and general economic conditions. As we
continue to market more comprehensive clinical systems, the required amount of
customization and length of the delivery cycle has also increased.

The increase in accounts receivable
of $25.2 million is primarily due to our expansion in the UK. Our Days Sales Outstanding
(DSO), which is the average number of days sales in accounts receivable, was
87 days during the nine months ended September 30, 2004 as compared to 84 days during the
same period in 2003 and 86 days for the year ended December 31, 2003. Our DSO was 80 days
during the three months ended September 30, 2004 as compared to 82 days during the same
period in 2003. Our year-to-date DSO is higher than historical DSO due primarily to
billings under certain of our UK contracts in excess of revenue recognized. However,
management continues to focus efforts on reducing the average time to collect payments on
sales, and our DSO for the quarter ended September 30, 2004 is improved over the quarter
ended September 30, 2003. Deferred contract costs, which represent costs incurred on
revenues not yet recognized, increased $37.1 million primarily due to payments for goods
and services related to future deliverables under certain of our UK contracts. Billings
are expected to occur according to the contract terms on contracts where costs have been
incurred in excess of billings. Deferred revenues increased $46.3 million during the nine
months ended September 30, 2004 due primarily to billings in excess of revenues earned
relating to our UK contracts.

Cash flows related to investing
activities are principally related to the purchase of computer and office equipment,
leasehold improvements and the purchase and sale of investment grade marketable
securities. During the nine months ended September 30, 2004, we invested approximately
$2.6 million in equipment and leasehold improvements related to our UK facilities. We
invested approximately $20.1 million through December 31, 2003 on the acquisition and
implementation of the ERP system and have invested an additional $3.6 million in the ERP
system during the nine months ended September 30, 2004. We anticipate investing an
additional $1.2 million in 2004 and an additional $6.0 million in 2005 related to this
system implementation. In addition, in 2005 we currently expect to begin the second phase
of the expansion of our principal corporate offices in South Burlington, Vermont. We
currently anticipate investing approximately $4.3 million in 2005 and $4.3 million in 2006
related to the expansion project.

Investing activities may also include
purchases of, interests in, loans to and acquisitions of businesses for access to
complementary products and technologies. We expect these activities to continue, but there
can be no assurance that we will be able to successfully complete any such purchases or
acquisitions in the future.

In April 2002, we acquired a minority
interest in Stentor, Inc. (Stentor), one of our strategic partners, by
exercising a warrant to purchase 562,069 shares of preferred stock of Stentor for
$7.5 million. Each preferred share is convertible, at any time at our option, into
one share of common stock of Stentor, subject to certain adjustments. In addition, the
preferred shares are not entitled to dividends but are entitled to a liquidation
preference equal to the amount we paid to purchase such shares.

33

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Cash flows from financing activities
historically relate to the issuance of shares of our common stock through the exercise of
employee stock options and in connection with the employee stock purchase plan and
proceeds from our line of credit.

We currently own, through a wholly
owned subsidiary, approximately 7.3 million shares of common stock of Allscripts
Healthcare Solutions, Inc., a public company listed on the NASDAQ National Market under
the symbol MDRX. This investment had a quoted market value of approximately $66.0 million
as of September 30, 2004, and is subject to certain sale restrictions that may
significantly impact the market value. See Note 4 of Notes to Condensed Consolidated
Financial Statements.

We expect that our requirements for
office facilities and other office equipment will grow as staffing requirements dictate.
Our operating lease commitments consist primarily of office leases for our operating
facilities. We plan to increase our professional staff during the remainder of 2004 and
2005 as needed to meet anticipated sales volume and to support research and development
efforts for certain products. To the extent necessary to support increases in staffing, we
may obtain additional office space. We do not have any present intention to pay cash
dividends on our capital stock.

# Contractual Obligations

The following table summarizes our
contractual obligations at September 30, 2004, and the effect such obligations are
expected to have on our liquidity and cash in the future periods:

|(in thousands)    | 2004
Remaining | 2005 | 2006 | 2007  | 2008 | Thereafter | Total 
|----------------- | -------------- | ---- | ---- | ----- | ---- | ---------- | ------
|Non-cancelable    |                |      |      |       |      |            |       
|operating leases  |                |      | $    | 3,602 |      | $          | 14,334
|Capital leases    |                |      |      | 7     |      |            | 30    
|                  |                |      |      |       |      |            |       
|Total contractual |                |     
|obligations       |                |      | $    | 3,609 |      | $          | 14,364
|                  |                |      |      |       |      |            |       

Of the $138.7 million in
non-cancelable operating lease obligations, approximately $3.0 million is included in
accrued expenses at September 30, 2004 relating to a lease abandonment charge. See Notes 6
and 8 of the Notes to the Condensed Consolidated Financial Statements.

We believe that the level of our cash
and investment balances and anticipated cash flow from operations will be sufficient to
satisfy our cash requirements for at least the next twelve to eighteen months. To date,
inflation has not had a material impact on our revenues or income.

# OFF-BALANCE SHEET
ARRANGEMENTS

During the nine months ended
September 30, 2004 and 2003, we did not engage in:

| | Material off-balance sheet activities, including the use of structured finance or special
purpose entities;
|- | -----------------------------------------------------------------------------------------------------------

| | Trading activities in non-exchange traded contracts; or
|- | -------------------------------------------------------

| | Transactions with persons or entities that benefit from their non-independent relationship
with IDX, other than as described below.
|- | -----------------------------------------------------------------------------------------------------------------------------------

Richard E. Tarrant, the Chairman of
our Board of Directors, is the President and a director of LBJ Real Estate Inc., a Vermont
corporation (LBJ Real Estate). Certain executive officers of LBJ Real Estate
are also members of our Board of Directors or executive officers of the Company, including
Robert H. Hoehl, a member of our Board of Directors, and John A. Kane, our Chief Financial
Officer, who also serves as a director of LBJ Real Estate. The stockholders of LBJ Real
Estate include Messrs. Tarrant and Hoehl. LBJ Real Estate holds a 1% general partnership
interest in 4901 LBJ Limited Partnership, a Vermont limited partnership (LBJ),
and Messrs. Hoehl, Tarrant, Kane and Robert F. Galin, President of IDX Global Business
Development and Executive Vice President of the Company, and two other employees hold in
the aggregate a 72.95% limited partnership interest.

Through September 30, 2003, we leased
an office building from LBJ, a real estate partnership owned by certain stockholders and
key employees of the Company. On September 30, 2003, LBJ sold the real estate leased by
the Company to an unrelated third

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party. We continue to lease the real estate from the new

owners under a new lease agreement. Lease agreements are based on fair market value rents
and are reviewed and approved by independent members of our Board of Directors. Total rent
paid to LBJ was approximately $138,000 and $414,000 for the three and nine-month periods
ended September 30, 2003.

# FORWARD-LOOKING
INFORMATION AND FACTORS AFFECTING FUTURE PERFORMANCE

The following important factors
affect our business and operations:

QUARTERLY OPERATING RESULTS MAY
VARY.Our quarterly operating results have varied in the past and may vary in the
future. We expect our quarterly results of operations to continue to fluctuate. Because a
significant percentage of our expenses are relatively fixed, the following factors could
cause these fluctuations:

| | delays in customers purchasing decisions due to a variety of factors such as
consideration and management changes;
|- | -------------------------------------------------------------------------------------------------------------------

| | long sales cycles;
|- | ------------------

| | long installation and implementation cycles for the larger, more complex and costlier systems;
|- | ----------------------------------------------------------------------------------------------

| | recognizing revenue at various points during the installation process, typically based on milestones;
          and
|- | -------------------------------------------------------------------------------------------------------------------

| | timing of new product and service introductions and product upgrade releases.
|- | -----------------------------------------------------------------------------

In light of the above, we believe
that our results of operations for any particular quarter or fiscal year are not
necessarily meaningful or reliable indicators of future performance.

RISKS ASSOCIATED WITH OPERATIONS
IN THE UNITED KINGDOM.We have been awarded contracts to perform services in the UK,
which require the expansion of our operations in the UK. Significant management attention
and financial resources are required to develop our UK operations. International
operations are subject to inherent risks, and our future results could be adversely
affected by a variety of changing factors. These include:

| | significant start-up costs, resulting in initial lower operating margins for our UK
operations;
|- | -----------------------------------------------------------------------------------------------

| | unanticipated difficulties with respect to the conversion of our products to UK standards,
including UK regulatory standards;
|- | -----------------------------------------------------------------------------------------------------------------------------

| | difficulties and costs of staffing and managing foreign operations;
|- | -------------------------------------------------------------------

| | foreign currency exchange risk;
|- | -------------------------------

| | unexpected changes in UK regulatory requirements;
|- | -------------------------------------------------

| | changes in the relationship between our prime contractors, BT and Fujitsu Services, and the NHS;
|- | ------------------------------------------------------------------------------------------------

| | changes in our relationships with our prime contractors or our sub-contractors, including
difficulties in finalizing the documentation of these relationships, or pressure to
re-negotiate the terms of these relationships; and
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | difficulties in the development of any new products contemplated by our subcontract
arrangements.
|- | -------------------------------------------------------------------------------------------------

INTERNAL CONTROLS.Our
management has reviewed our internal controls and procedures and we continue to monitor
controls for any weaknesses or deficiencies. No evaluation can provide complete assurance
that our internal controls will detect or uncover all failures of persons within IDX to
disclose material information otherwise required to be reported. The effectiveness of our
controls and procedures could also be limited by simple errors or faulty judgments. In
addition, if we continue to expand globally, the challenges involved in implementing
appropriate internal controls will increase and will require that we continue to improve
our internal controls.

VOLATILITY OF STOCK PRICE.We
have experienced, and expect to continue to experience, fluctuations in our stock price
due to a variety of factors, including:

| | actual or anticipated quarterly variations in operating results;
|- | ----------------------------------------------------------------

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| | changes in expectations of future financial performance;
|- | --------------------------------------------------------

| | changes in estimates of securities analysts;
|- | --------------------------------------------

| | market conditions, particularly in the computer software, healthcare, and Internet industries;
|- | ----------------------------------------------------------------------------------------------

| | announcements of technological innovations, including Internet delivery of information,
clinical information systems advances and use of application service provider technology;
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | new product introductions by us or our competitors;
|- | ---------------------------------------------------

| | delay in customers' purchasing decisions due to a variety of factors;
|- | ---------------------------------------------------------------------

| | market prices of competitors;
|- | -----------------------------

| | healthcare reform measures and healthcare regulation; and
|- | ---------------------------------------------------------

| | changes in laws and regulations, including changes in accounting standards.
|- | ---------------------------------------------------------------------------

These fluctuations have had a
significant impact on the market price of our common stock, and may have a significant
impact on the future market price of our common stock.

These fluctuations may affect our
operating results by affecting:

| | our ability to transact stock acquisitions; and
|- | -----------------------------------------------

| | our ability to retain and incent key employees.
|- | -----------------------------------------------

GOVERNMENT REGULATION IN THE
UNITED STATES.Virtually all of our customers and the other entities with which we
have a business relationship operate in the healthcare industry and, as a result, are
subject to governmental regulation. Because our products and services are designed to
function within the structure of the healthcare financing and reimbursement systems
currently in place in the United States, and because we are pursuing a strategy of
developing and marketing products and services that support our customers regulatory
and compliance efforts, we may become subject to the reach of, and liability under, these
regulations.

# Anti-Kickback Law

The federal Anti-Kickback Law, among
other things, prohibits the direct or indirect payment or receipt of any remuneration for
Medicare, Medicaid and certain other federal or state healthcare program patient
referrals, or arranging for or recommending referrals or other business paid for in whole
or in part by these federal health care programs. If the activities of one of the entities
with which we have a business relationship were found to constitute a violation of the
federal Anti-Kickback Law and, as a result of the provision of products or services to the
customer or entity which engaged in these activities, we were found to have knowingly
participated in such activities, we could be subject to sanction or liability, including
exclusion from government health programs. As a result of exclusion from government health
programs, our customers would not be permitted to make any payments to us.

# HIPAA and Related
Regulations

Federal regulations issued in
accordance with the Health Insurance Portability and Accountability Act of 1996
(HIPAA) impose national health data standards on health care providers that
conduct electronic health transactions, health care clearinghouses that convert health
data between HIPAA-compliant and non-compliant formats, and health plans. Collectively,
these groups, including most of our customers and our e-Commerce Services clearinghouse
business, are known as covered entities. These HIPAA standards include:

| | transaction and code set standards, which we refer to as TCS Standards, that prescribe
specific transaction formats and data code sets for certain electronic health care
transactions;
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Privacy Standards that protect individual privacy by limiting the uses and disclosures of
individually identifiable health information; and
|- | -------------------------------------------------------------------------------------------------------------------------------------------

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| | data security standards, which we refer to as Security Standards, that require covered
entities to implement administrative, physical and technological safeguards to ensure the
confidentiality, integrity, availability and security of individually identifiable health
information in electronic form.
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Failure to comply with these
standards under HIPAA may subject us to civil monetary penalties and, in certain
circumstances, criminal penalties. Under HIPAA, covered entities may be subject to civil
monetary penalties in the amount of $100 per violation, capped at a maximum of $25,000 per
year for violation of any particular standard. Also, the U.S. Department of Justice, or
DOJ, may seek to impose criminal penalties for certain violations of HIPAA. Criminal
penalties under the statute vary depending upon the nature of the violation but could
include fines of not more than $250,000 and/or imprisonment.

The effect of HIPAA on our business
is difficult to predict, and there can be no assurances that we will adequately address
the business risks created by HIPAA and its implementation, or that we will be able to
take advantage of any resulting business opportunities. Furthermore, we are unable to
predict what changes to HIPAA, or the regulations issued pursuant to HIPAA, might be made
in the future or how those changes could affect our business or the costs of compliance
with HIPAA.

# HIPAA  Transaction
and Code Set Standards

Many covered entities, including some
of our customers, our eCommerce Services clearinghouse business, and trading partners of
our clearinghouse business, were not fully compliant with the TCS Standards as of October
16, 2003. However, we have deployed contingency plans to accept non-standard transactions,
as contemplated in the Guidance on Compliance with HIPAA Transactions and Code Sets
after the October 16, 2003 Implementation Deadline (which we refer to as the CMS
Guidance) issued by the Centers for Medicare & Medicaid Services, or CMS, on July 24,
2003.

Although the CMS Guidance indicates
that CMS will follow a complaint-driven approach, we cannot provide any assurances
regarding how CMS would apply the CMS Guidance in general or to our e-Commerce Services
clearinghouse business in particular. In the event of enforcement action by CMS against
us, there can be no assurances that we will be able to establish good faith efforts
sufficient to protect us from liability for the civil monetary penalties described above.
There can be no assurances that CMS would be willing to extend the 30-day time period for
us to remedy our non-compliance, or that we would be able to remedy our non-compliance
within the 30-day time period or any extended period granted by CMS. There can also be no
assurances that the DOJ will not seek the criminal penalties described above for our
failure to comply with the TCS Standards.

Because the entire healthcare system,
including customers who use our information systems to generate claims data, has not
operated at full capacity using the newly-mandated standard transactions, it is possible
that currently undetected errors may cause rejection of claims, extended payment cycles,
system implementation delays and cash flow reduction, with the attendant risk of liability
and claims against us.

The CMS Guidance also indicates that
in connection with its enforcement activities, CMS might require non-compliant covered
entities to submit and implement corrective action plans to achieve compliance in a time
and manner acceptable to CMS. In the event that we were required to submit and implement a
corrective action plan, we could be required to take steps and incur costs to achieve
compliance in a different manner or shorter timeframe than we would otherwise choose,
which could have an adverse impact on our business operations.

# HIPAA  Privacy
Standards

The Privacy Standards place on
covered entities specific limitations on the use and disclosure of individually
identifiable health information. We made certain changes in our products and services to
comply with the Privacy Standards. The effect of the Privacy Standards on our business is
difficult to predict and there can be no assurances that we will adequately address the
risks created by the Privacy Standards and their implementation or that we will be able to
take advantage of any resulting opportunities.

# HIPAA  Security
Standards

The Security Standards establish
detailed requirements for safeguarding patient information that is electronically
transmitted or electronically stored. Most participants in the healthcare industry must be
in compliance with the Security Standards by April 21, 2005.

Some of the Security Standards are
technical in nature, while others may be addressed throughpolicies and procedures
for using information systems. The Security Standards may require us to incur significant
costs in evaluating our products and in ensuring that our systems meet all of the
implementation specifications. We are unable to predict what changes might be made to the

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Security Standards prior to the 2005 implementation deadline or how those changes might
impact our business. The effect of the Security Standards on our business is difficult to
predict and there can be no assurances that we will adequately address the risks created
by the Security Standards and their implementation or that we will be able to take
advantage of any resulting opportunities.

# Medical Device
Regulations

We expect that the United States Food
and Drug Administration, or FDA, is likely to become increasingly active in regulating
computer software intended for use in healthcare settings. The FDA has increasingly
focused on the regulation of computer products and computerassisted products as
medical devices under the Food, Drug, and Cosmetic Act, or the FDC Act. If computer
software is considered to be a medical device under the FDC Act, as a manufacturer of such
products, we could be required, depending on the product, to:

| | register and list our products with the FDA;
|- | --------------------------------------------

| | notify the FDA and demonstrate substantial equivalence to other products on the market before marketing
         our products; or
|- | ---------------------------------------------------------------------------------------------------------------------------------

| | obtain FDA approval by demonstrating safety and effectiveness before marketing a product.
|- | -----------------------------------------------------------------------------------------

LIMITED PROTECTION OF PROPRIETARY
TECHNOLOGY.Our success and competitiveness are dependent to a significant degree on
the protection of our proprietary technology. We rely primarily on a combination of
copyrights, trade secret laws, patent laws and restrictions on disclosure to protect our
proprietary technology. Despite these precautions, others may be able to copy or reverse
engineer aspects of our products, to obtain and use information that we regard as
proprietary or to independently develop similar technology. Litigation may continue to be
necessary to enforce or defend our proprietary technology or to determine the validity and
scope of the proprietary rights of others. This litigation, whether successful or
unsuccessful, could result in substantial costs and diversion of management and technical
resources.

FINANCIAL TRENDS. In the past,
some of our customers delayed making purchasing decisions with respect to some of our
software systems, resulting in longer sales cycles for such systems. We believe these
delays were due to a number of factors, including customer organization changes,
government approvals, pressure to reduce expenses, product complexity, competition and
terrorist attacks on the United States. While we believe these factors were temporary,
reductions or delays in spending for new systems and services could reoccur in the future.
If these delays reoccur, they may cause unanticipated revenue volatility, decreased
revenue visibility and affect our future financial performance.

NEW PRODUCT DEVELOPMENT AND
RAPIDLY CHANGING TECHNOLOGY.To be successful, we must continuously enhance our
existing products, respond effectively to technology changes, and help our customers adopt
new technologies. In addition, we must introduce new products and technologies to meet the
evolving needs of our customers in the healthcare information systems market. We may have
difficulty in accomplishing these tasks because of:

| | the continuing evolution of industry standards, such as standards pursuant to HIPAA; and
|- | ----------------------------------------------------------------------------------------

| | the creation of new technological developments, such as Internet and application service
provider technologies.
|- | ---------------------------------------------------------------------------------------------------------------

We devote significant resources
toward the development of enhancements to our existing products. However, we may not
successfully complete these product developments or their adaptation in a timely fashion,
and our current or future products may not satisfy the needs of the healthcare information
systems market. Any of these developments may adversely affect our competitive position or
render our products or technologies noncompetitive or obsolete.

CHANGES AND CONSOLIDATION IN THE
HEALTHCARE INDUSTRY.We currently derive substantially all of our revenues from sales
of financial, administrative and clinical healthcare information systems, and other
related services within the healthcare industry. As a result, our success is dependent in
part on the political and economic conditions in the healthcare industry.

Virtually all of our customers and
the other entities with which we have a business relationship operate in the healthcare
industry and, as a result, are subject to governmental regulation, including Medicare and
Medicaid regulation. Accordingly, our customers and the other entities with which we have
a business relationship are affected by changes in such regulations and limitations in
governmental spending for Medicare and Medicaid programs. Recent actions by Congress have
limited governmental spending for the Medicare and Medicaid programs, limited payments to
hospitals and other providers under Medicare and Medicaid

38

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programs, and increased emphasis

on competition and other programs that potentially could have an adverse effect on our
customers and the other entities with which we have a business relationship. In addition,
federal and state legislatures have considered proposals to reform the U.S. healthcare
system at both the federal and state level. If enacted, these proposals could increase
government involvement in healthcare, lower reimbursement rates and otherwise change the
business environment of our customers and the other entities with which we have a business
relationship. Our customers and the other entities with which we have a business
relationship could react to these proposals and the uncertainty surrounding these
proposals by curtailing or deferring investments, including those for our products and
services.

In addition, many healthcare
providers are consolidating to create integrated healthcare delivery systems with greater
market power. These providers may try to use their market power to negotiate price
reductions for our products and services. If we are forced to reduce our prices, our
operating margins would likely decrease. As the healthcare industry consolidates,
competition for customers will become more intense and the importance of acquiring each
customer will increase.

COMPETITION FOR HEALTHCARE
INFORMATION SYSTEMS.The market for healthcare information systems is intensely
competitive, rapidly evolving and subject to rapid technological change. We believe that
the principal competitive factors in this market include the breadth and quality of system
and product offerings, the features and capabilities of the systems, the price of the
system and product offerings, the ongoing support for the systems, the potential for
enhancements and future compatible products.

Some of our competitors have greater
financial, technical, product development, marketing and other resources than we do, and
some of our competitors offer products that we do not offer. Our principal existing
competitors include Eclipsys Corporation, McKesson Corporation, Siemens AG, Epic Systems
Corporation, GE Medical and Cerner Corporation. Each of these competitors offers a suite
of products that competes with many of our products. There are other competitors that
offer a more limited number of competing products. We may be unable to compete
successfully against these organizations. In addition, we expect that major software
information systems companies, large information technology consulting service providers
and system integrators, Internet-based start-up companies and others specializing in the
healthcare industry may offer competitive products or services.

PRODUCT LIABILITY CLAIMS.Any
failure by our products that provide applications relating to patient treatment could
expose us to product liability claims for personal injury and wrongful death. These
potential claims may exceed our current insurance coverage. Unsuccessful claims could be
costly to defend and divert our managements time and resources. In addition, we
cannot make assurances that we will continue to have appropriate insurance available to us
in the future at commercially reasonable rates.

PRODUCT MALFUNCTION FINANCIAL
CLAIMS. Any failure by our eCommerce electronic claims submission service, or by
elements of our systems that provide administrative and financial management applications
could expose us to liability claims for incorrect billing and electronic claims. These
potential claims may exceed our current insurance coverage. Unsuccessful claims could be
costly to defend and divert management time and resources. In addition, we cannot make
assurances that we will continue to have appropriate insurance available to us in the
future at commercially reasonable rates.

KEY PERSONNEL.Our success is
dependent to a significant degree on our key management, sales, marketing, and technical
personnel. To be successful we must attract, motivate, and retain highly skilled
managerial, sales, marketing, consulting and technical personnel, including programmers,
consultants and systems architects skilled in the technical environments in which our
products operate. Competition for such personnel in the software and information services
industries is intense. We do not maintain key man life insurance policies on
any of our executives. Not all of our personnel have executed noncompetition agreements.
Noncompetition agreements, even if executed, are difficult and expensive to enforce, and
enforcement efforts could result in substantial costs and diversion of our management and
technical resources.

SYSTEM ERRORS, SECURITY BREACHES
AND WARRANTIES.Our healthcare information systems are very complex. As with all
complex information systems, our healthcare information systems may contain errors,
especially when first introduced. Our healthcare information systems are intended to
provide information to healthcare providers for use in the diagnosis and treatment of
patients. Therefore, users of our products may have a greater sensitivity to system errors
than the market for software products generally. Failure of a customers system to
perform in accordance with its documentation could constitute a breach of warranty and
require us to incur additional expenses in order to make the system comply with the
documentation. If such failure is not timely remedied, it could constitute a material
breach under a contract allowing our customer to cancel the contract and subject us to
liability.

A security breach could damage our
reputation or result in liability. We retain and transmit confidential information,
including patient health information, in our processing centers and other facilities. It
is critical that these facilities and infrastructure remain secure and be perceived by the
marketplace as secure. We may be required to expend significant capital and other resources to

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protect against security breaches and hackers or to alleviate problems caused
by breaches. Despite the implementation of security measures, this infrastructure or other
systems that we interface with, including the Internet and related systems, may be
vulnerable to physical break-ins, hackers, improper employee or contractor access,
computer viruses, programming errors, attacks by third parties or similar disruptive
problems. Any compromise of our security, whether as a result of our own systems or
systems with which they interface, could reduce demand for our services and products.

Customer satisfaction and our
business could be harmed if our business experiences delays, failures or loss of data in
its systems. The occurrence of a major catastrophic event or other system failure at any
of our facilities or at any third-party facility, including telecommunications provider
facilities, could interrupt data processing or result in the loss of stored data, which
could harm our business.

POTENTIAL INFRINGEMENT OF
PROPRIETARY RIGHTS OF OTHERS.If any of our products violate third-party proprietary
rights, we may be required to re-engineer our products or seek to obtain licenses from
third parties to continue offering our products without substantial re-engineering. Any
efforts to reengineer our products or obtain licenses from third parties may not be
successful, in which case we may be forced to stop selling the infringing product or
remove the infringing functionality or feature. We may also become subject to damage
awards as a result of infringing the proprietary rights of others, which could cause us to
incur additional losses and have an adverse impact on our financial position. We do not
conduct comprehensive patent searches to determine whether the technologies used in our
products infringe patents held by others. In addition, product development is inherently
uncertain in a rapidly evolving technological environment in which there may be numerous
patent applications pending, many of which are confidential when filed, with regard to
similar technologies.

RISKS ASSOCIATED WITH ACQUISITION
STRATEGY.We may decide to meet business objectives in part through either
acquisitions of complementary products, technologies and businesses or alliances with
complementary businesses. We may not be successful in these acquisitions or alliances, or
in integrating any such acquired or aligned products, technologies or businesses into our
current business and operations. Factors which may affect our ability to expand
successfully include:

| | the generation of sufficient financing to fund potential acquisitions and alliances;
|- | ------------------------------------------------------------------------------------

| | the successful identification and acquisition of products, technologies or businesses;
|- | --------------------------------------------------------------------------------------

| | effective integration and operation of the acquired or aligned products, technologies or
          businesses despite technical difficulties, geographic limitations and personnel issues;
          and
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | our ability to overcome significant competition for acquisition and alliance opportunities
          from companies that have significantly greater financial and management resources.
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

STRATEGIC ALLIANCE WITH ALLSCRIPTS
HEALTHCARE SOLUTIONS.In 2001, we entered into a ten-year strategic alliance with
Allscripts to cooperatively develop, market and sell integrated clinical and practice
management products.

During the term of the alliance, we
are prohibited from cooperating with direct competitors of Allscripts to develop or
provide any products similar to or in competition with Allscripts products in the practice
management systems market. If the strategic alliance is not successful, or the
restrictions placed on us during the term of the strategic alliance prohibit us from
successfully marketing and selling certain products and services, our operating results
may suffer. Additionally, if either Allscripts or we breach the strategic alliance, we may
be left without critical clinical components for our information systems offerings in the
physician group practice markets.

ANTI-TAKEOVER DEFENSES.Our
Second Amended and Restated Articles of Incorporation and Second Amended and Restated
Bylaws contain certain anti-takeover provisions, which could deter an unsolicited offer to
acquire our company. For example, our board of directors is divided into three classes,
only one of which will be elected at each annual meeting. These provisions may delay or
prevent a change in control of our company.

LITIGATION.    
          We are involved in litigation matters which are described in greater detail in
          Part II, Item 1, Legal Proceedings. An unfavorable resolution of pending
          litigation could have a material adverse effect on our financial condition.
          Litigation may result in substantial costs and expenses and significantly divert
          the attention of our management regardless of the outcome. There can be no
          assurance that we will be able to achieve a favorable settlement of pending
          litigation or obtain a favorable resolution of litigation if it is not settled.
          In addition, current litigation could lead to increased costs or interruptions
          of our normal business operations.

No charges of wrongdoing have been
brought against us in connection with the U.S. Attorneys investigation, described in
greater detail in Part II, Item 1, Legal Proceedings, and we do not believe that we have engaged in any wrongdoing in connection

40

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with this matter. However, because this
investigation is or may still be underway and investigations of this type customarily are
conducted in whole or in part in secret, we lack sufficient information to determine with
certainty its ultimate scope and whether the government authorities will assert claims
resulting from this investigation that could implicate or reflect adversely upon us.
Because our reputation for integrity is an important factor in our business dealings with
NIST and other governmental agencies, if a government authority were to make an
allegation, or if there were to be a finding, of improper conduct on the part of or
attributable to us in any matter, including in respect of the U.S. Attorneys
investigation, such an allegation or finding could have a material adverse effect on our
business, including our ability to retain existing contracts and to obtain new or renewal
contracts. In addition, continuing adverse publicity resulting from this investigation and
related matters could have such a material adverse effect.

# Item 3. Quantitative and
Qualitative Disclosures about Market Risk

Foreign Currency Exchange
Risk

Internationally, we currently operate
in Canada and the United Kingdom. Our international business is subject to risks,
including, but not limited to: unique economic conditions, changes in political climate,
differing tax structures, other regulations and restrictions, and foreign exchange rate
volatility. Accordingly, our future results could be materially adversely impacted by
changes in these or other factors.

We invoice Canadian customers in
United States dollars. Our United Kingdom customers are invoiced in British pounds
sterling, and to a lesser extent in US dollars. Expenses to service our UK contracts are
incurred both by our UK subsidiary in the local currency and by the parent company in US
dollars. As such, our operating results and certain assets and liabilities that are
denominated in the British pound sterling are affected by changes in the relative strength
of the United States dollar against the British pound sterling. Our revenues are adversely
affected when the United States dollar strengthens against the British pound sterling and
are positively affected when the United States dollar weakens. Conversely our expenses are
positively affected when the United States dollar strengthens against the British pound
sterling and adversely affected when the United States dollar weakens.

As described in Note 5 in Notes to
Consolidated Financial Statements contained in Part I; Item 1 of this Quarterly Report on
Form 10-Q, from time to time we use forward foreign exchange contracts to mitigate our
foreign currency exchange rate exposures related to our foreign currency denominated
assets and liabilities, and more specifically, to hedge, on a net basis, the foreign
currency exposure of a portion of our assets and liabilities denominated in the British
pound sterling. The terms of these forward contracts are for periods matching the
underlying exposures and generally are for one month. At September 30, 2004, we had no
outstanding forward contracts. We do not use forward contracts for trading or speculative
purposes.

The market risk associated with the
forward foreign exchange contracts resulting from currency exchange rate or interest rate
movements is expected to mitigate the market risk of the underlying assets and liabilities
being hedged. Our foreign currency denominated net assets were approximately $39.5 million
at September 30, 2004. A hypothetical 10 percent movement in the foreign currency exchange
rate would increase or decrease net assets by approximately $3.6 million with a
corresponding charge to operations. During the nine months ended September 30, 2004,
fluctuations in foreign currency exchange rates have not had a material impact on our
results of operations.

Interest Rate Risk

Investments in both fixed rate and
floating rate interest earning instruments carry a degree of interest rate risk. Fixed
rate securities may have their fair market value adversely impacted due to a rise in
interest rates, while floating rate securities may produce less income than expected if
interest rates fall. Due in part to these factors, our future investment income may fall
short of expectations due to changes in interest rates or we may suffer losses in
principal if forced to sell securities that experience a decline in market value due to
changes in interest rates. A hypothetical 10% increase or decrease in interest rates,
however, would not have a material adverse effect on our financial condition. Interest
income on our investments is included in Other Income.

Interest rates on short-term
borrowings with floating rates carry a degree of interest rate risk. Our future interest
expense may increase if interest rates fluctuate. A hypothetical 10% increase or decrease
in interest rates, however, would not have a material adverse effect on our financial
condition. Interest expense was not material during the first nine months of 2004 and
2003.

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Equity Price Risk

We account for cash equivalents and
marketable securities in accordance with Statement of Financial Accounting Standards No.
115, Accounting for Certain Investments in Debt and Equity Securities. Cash
equivalents are short-term highly liquid investments with original maturity dates of three
months or less. Cash equivalents are carried at cost, which approximates fair market
value. Our marketable securities are classified as available-for-sale and are recorded at
fair value with any unrealized gain or loss recorded as an element of stockholders
equity. We generally place our marketable securities in high credit quality instruments:
primarily U.S. Government and federal agency obligations, tax-exempt municipal obligations
and corporate obligations with contractual maturities of a year or less. Although these
investments in available-for-sale securities are subject to price risk, we do not expect
any material loss from our marketable security investments.

The only significant equity
investment that we hold is our investment in Allscripts Healthcare Solutions, Inc. The
fair value of the available-for-sale portion of our investment in Allscripts recorded in
marketable securities as of September 30, 2004 was $25.3 million. An adverse change in the
stock price of Allscripts would result in a reduction in the fair value of our investment;
however, would not result in a loss since our investment in Allscripts was previously
accounted for under the equity method of accounting, which resulted in the elimination of
the carrying value of the investment.

# Item 4. Controls and
Procedures.

# Evaluation of disclosure
controls and procedures

The Companys management, with
the participation of the Companys chief executive officer and chief financial
officer, evaluated the effectiveness of the Companys disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act
of 1934 (the Exchange Act)) as of September 30, 2004. Based on this
evaluation, the Companys chief executive officer and chief financial officer
concluded that, as of September 30, 2004, the Companys disclosure controls and
procedures were (1) designed to ensure that material information relating to the Company,
including its consolidated subsidiaries, is made known to the Companys chief
executive officer and chief financial officer by others within those entities,
particularly during the period in which this report was being prepared and (2) effective,
in that they provide reasonable assurance that information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the SECs
rules and forms.

# Changes in internal
controls

During 2002, the Company began
implementation of an enterprise resource planning (ERP) system, designed to
align and integrate the Companys employees, processes and technology through
software applications. The ERP system includes enterprise financial reporting
applications, of which the Company implemented the core applications for general ledger,
accounts receivable, billing, accounts payable and fixed assets during the fourth quarter
of 2002. During the fourth quarter of 2003, the Company implemented additional
applications principally including payroll and benefits, contract management, order
management, project management, resource management, and time and expense reporting. The
applications implemented during the fourth quarter of 2003 represent a culmination of over
a year of preparation, including five months of testing and three months of training.
Management believes that the ongoing implementation of the ERP system will ultimately
enhance our internal controls over financial reporting. However, the Companys
financial controls in the fourth quarter of 2003 were adversely impacted by this
conversion to the ERP system and the assignment of Company personnel responsible for
overseeing such controls to additional special projects. At that time, the Companys
independent auditors, Ernst & Young, determined that the Company had significant
deficiencies in the design or operation of the Companys internal control which, if
not addressed, could adversely affect the assertions of management in the financial
statements as to particular accounts. The Company addressed these conditions with enhanced
testing and analysis, and it believes these procedures were adequate to permit us to
report appropriate results in our Annual Report on Form 10-K for 2003.

In 2004, the Company has taken steps
to improve its internal controls and believes that these steps have adequately addressed
the significant deficiencies identified during the fourth quarter of 2003. These steps
included the re-assignment of Company personnel responsible for overseeing such controls,
increased scrutiny of account reconciliations related to revenue recognition issues and
closer monitoring of financial results. We have also further enhanced our internal finance
staff. In addition, as part of our ongoing efforts to further refine and improve our
internal controls, we have enhanced the standardization of and increased the oversight
with respect to our contracting process during the fourth quarter of 2004. The Company
believes the measures it has taken and additional measures it continues to implement will
enhance our internal controls over financial reporting. In addition, we are

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currently in
the process, with the assistance of qualified outside consultants, of evaluating our
internal controls and we may make other modifications or take other corrective actions if
our reviews identify any deficiencies or weaknesses in our controls.

# PART II. OTHER
INFORMATION

# Item 1. Legal Proceedings

In late 2001, the Company finalized a
Cooperative Agreement with a non-regulatory federal agency within the U.S.
Commerce Departments Technology Administration, NIST, whereby the Company agreed to
lead a $9.2 million, multi-year project awarded by NIST to a joint venture composed of the
Company and four other joint venture partners. The project entails research and
development to be conducted by the Company and its partners in the grant. Subsequently, an
employee of the Company made allegations that the Company had illegally submitted claims
for labor expenses and license fees to NIST and that the Company never had a serious
interest in researching the technological solutions described in the proposal to NIST.

On March 31, 2004, IDX submitted
certain information to NIST, which NIST requested in conjunction with a proposed amendment
to the Cooperative Agreement. As a result of the Amendment, payment on the award is
discontinued until IDX demonstrates regulatory compliance relating to certain aspects of
its grant accounting and reporting procedures and relating to an in-kind contribution of
software IDX made to the project. In issuing the Amendment, NIST made no finding of
regulatory noncompliance by IDX in connection with the award. In connection with
NISTs Amendment, the U.S. Commerce Department, Office of Inspector General
(OIG), is presently conducting an audit of the SAGE Project. IDX is
cooperating with OIG auditors, and continues to be in discussions to resolve the issues
raised by the Amendment. IDX has developed a plan with its joint venture partners to
continue to conduct certain research on the SAGE project during the audit period and while
funding is suspended.

The Company believes the employee has
likely filed an action under the Federal False Claims Act under seal in the Federal
District Court for the Western District of Washington with respect to his claims,
sometimes referred to as a qui tam complaint. The Company has no information
regarding the specific allegations in the qui tam complaint. Further, the Company has no
information concerning the actual amount of money at issue in the qui tam complaint. The
Company has not yet been served with legal process detailing the allegations. Prompted by
the employees allegations, the Civil Division of the U.S. Attorneys office in
Seattle, Washington, in conjunction with the U.S. Commerce Department, OIG, is
investigating whether the Company made false statements in connection with the application
for the project award from NIST. The Company is cooperating in the governments
ongoing investigation.

In April 2003, the Company filed a
complaint against the employee with the United States District Court for the Western
District of Washington, entitledIDX Systems Corporation v. Mauricio Leon (case no.
C03-972R). The Companys lawsuit asks the Court to grant a declaratory judgment
stating that, should the Company terminate the employees employment, such action
would not constitute retaliation for alleged whistle-blowing activities in violation of
the Federal False Claims Act or the Sarbanes-Oxley Act and would not constitute a
violation of the employees rights under other laws. On June 10, 2004, the Company
terminated the employee based upon, among other things, information obtained during the
litigation and, as a result, the Company dismissed the aforementioned declaratory relief
action.

In May 2003, the employee filed a
complaint against the Company with the Federal District Court for the Western District of
Washington, entitled Mauricio A. Leon, M.D. v. IDX Systems Corporation (case no.
CV03-1158P) asserting that the Company had knowledge that the employee engaged in
protected activity and retaliated against the employee in violation of the
False Claims Act. In addition, the employee alleges that the Company violated the
Americans with Disabilities Act and its Washington State counterpart in part through
retaliation against the employee for exercising the employees rights under the
federal and state discrimination laws. The employee also asserts other causes of action
including (a) wrongful termination in violation of public policy (which has since been
dismissed), (b) fraudulent inducement to enter into an employment contract with the
Company (which has since been dismissed), and (c) negligent and intentional infliction of
emotional distress (as to which the employee did not oppose the dismissal). The employee
requests relief including, but not limited to, an injunction against the Company enjoining
and restraining the Company from the alleged harassment and discrimination, wages,
damages, attorneys fees, interest and costs. In addition, the employees
complaint alleges that the Company submitted false statements to the government to obtain
the grant and to obtain reimbursement from the government for project costs.

On September 30, 2004, the U.S.
District Court issued an order dismissing all of the employees claims. The dismissal
was based on the Courts finding that the employee acted in bad faith in destroying
evidence that he had a duty to preserve. The Court also

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awarded the Company $65,000 as
sanctions, reflecting the cost of investigating and litigating the destruction of
evidence. The Company has received notice that the employee has appealed the dismissal.
 The Company intends to vigorously argue in support of the District
Courts ruling.

In May 2003, the employee filed a
complaint against the Company with the U.S. Department of Labor, pursuant to Section 1514A
of the Sarbanes-Oxley Act of 2002. The employees complaint asserts that,
notwithstanding alleged notice to the Company of the employees allegations, Company
management conspired to continue to defraud the government by allowing fraudulent
activities to continue uncorrected and by concealing and avoiding its obligations to
report any and all fraudulent activities to the proper authorities. In addition, the
employees complaint alleges that the Company acted to retaliate, harass and
intimidate the employee in contravention of the Sarbanes-Oxley Acts whistleblower
provisions. The employees complaint requests relief including, but not limited to,
reinstatement, back-pay, with interest, compensation for any damages sustained by the
employee as a result of the alleged discrimination, and attorneys fees. The
Occupational Health and Safety Administration (OSHA) is investigating the
employees complaint on behalf of the U.S. Department of Labor, and the Company
intends to cooperate in the investigation. On October 14, 2004, the Company requested the
U.S. District Court that dismissed the employees retaliation claims under the False
Claims Act, as noted above, to enter an order enjoining the employee and OSHA from further
processing the employees retaliation claim filed with the Department of Labor based
on the doctrine of res judicata. OSHA has opposed the motion. The Court has not yet ruled
on this motion.

The Company intends to continue to
vigorously defend against all of the employees claims, which the Company continues
to maintain are without merit. However, the outcome or the impact these claims may have on
the Companys operations cannot currently be predicted.

# Item 2. Unregistered
Sales of Equity Securities and Use of Proceeds

None.

# Item 3. Defaults Upon
Senior Securities

Not applicable.

# Item 4.  Submission of Matters to a Vote of Security Holders

None.

# Item 5. Other Information

Stockholders
Proposal for 2005 Annual Meeting

As set forth in the Companys
Proxy Statement for its 2004 Annual Meeting of Stockholders, proposals of stockholders
intended to be included in the Companys proxy statement for the 2005 Annual Meeting
of Stockholders must be received by the Company at its principal office in South
Burlington, Vermont not later than December 24, 2004.

Stockholders who wish to make a
proposal at the 2005 Annual Meeting  other than one that will be included in the
Companys proxy materials  must notify the Company no later than March 9, 2005.
If a stockholder who wishes to present a proposal fails to notify the Company by this
date, the proxies that management solicits for the meeting will have discretionary
authority to vote on the stockholders proposal if it is properly brought before the
meeting.

The Company has entered into
Executive Retention Agreements dated as of November 1, 2004 (the Agreements ),
with each of James H. Crook, Jr., Chief Executive Officer, Thomas W. Butts, Chief
Operating Officer, Stephen Gorman, President and General Manager, Groupcast, John A. Kane,
Senior Vice President, Chief Financial Officer and Treasurer, Robert F. Galin, President
of IDX Global Business Development and Executive Vice President, and certain other
executives of the Company. The Agreement provides that if, within a two-year period
commencing with a change of control of the Company, the executive is terminated without
cause or for good reason (each as defined therein), certain additional benefits shall be
paid to the executive. For all executive officers other than the Chief Executive Officer
and the Chief Operating Officer, these benefits include the payment of a sum equal to the
higher amount of annual compensation received within the five year period preceding the
change in control date and either the executives annual bonus either during the
current fiscal year (actual and projected) of the change in control date or the last
fiscal year prior to the change in control date, whichever is highest. The Chief Executive
Officer and Chief Operating Officer would be entitled to one and a half times such amount
upon such change of control and subsequent termination.

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In addition, for all executive officers, stock option awards outstanding as of the date of
separation would accelerate upon such change of control and subsequent termination. Forms
of the Agreements are attached hereto as Exhibit 10.1 (with respect to executives other than
the Chief Executive Officer and Chief Operating Officer) and Exhibit 10.2 (with respect to
the Chief Executive Officer and Chief Operating Officer) and are incorporated by
reference herein.

# Item 6. Exhibits

The exhibits filed as part of this
Form 10-Q are listed on the Exhibit Index immediately preceding such exhibits, which
Exhibit Index is incorporated herein by reference.

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# SIGNATURES

Pursuant to the requirements of the
Securities Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.

|                          |                                                                                                                                                                                                                                                                               
|------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Date:    November 2, 2004 | IDX SYSTEMS CORPORATION
        /S/ JOHN A. KANE
By:  ____________________________ 
       John A. Kane,
       Sr. Vice President, Finance and
       Administration, Chief Financial
       Officer and Treasurer
       (Principal Financial and
       Accounting Officer)

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# EXHIBIT INDEX

The following exhibits are filed as
part of this Quarterly Report on Form 10-Q:

|Exhibit No. | Description                                                                                                          
|----------- | ---------------------------------------------------------------------------------------------------------------------
|10.1        | Form of Executive Retention Agreement for Executive Officers                                                         
|10.2        | Form of Executive Retention Agreement for Chief Executive Officer and Chief Operating Officer                        
|31.1        | Certification of the CEO of the Company pursuant to Rule 13a-14(a) of the
Securities Exchange Act of 1934, as amended
|31.2        | Certification of the CFO of the Company pursuant to Rule 13a-14(a) of the Securities Exchange
Act of 1934, as amended
|32.1        | Certification of CEO and CFO of the Company pursuant to 18 U.S.C. Section 1350                                       

47