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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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|x | Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ---------------------------------------------------------------------------------

for the quarterly period ended June 30, 2006

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 0-9972



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HOOPER HOLMES, INC.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|New York                                                       |  | 22-1659359                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|170 Mt. Airy Road, Basking Ridge, NJ                           |  | 07920                               
|(Address of principal executive offices)                       |  | (Zip code)                          

Registrants telephone number, including area code (908) 766-5000



Former name, former address and former fiscal year, if changed since last
report



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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 twelve 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 a large accelerated filer, an
accelerated filer or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12B-2 of the Exchange Act.

Large Accelerated Filer ̈Accelerated Filer  x    Non-accelerated Filer ̈

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

The number of shares outstanding on the Registrants common stock as of July 31, 2006 were:

Common Stock, $.04 par value  66,576,779 shares



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HOOPER HOLMES, INC. AND SUBSIDIARIES

INDEX



|                                                                                                |  |         
|----------------------------------------------------------------------------------------------- |  | --------
|                                                                                                |  | Page No.
|PART I - Financial Information (unaudited)                                                      |  |         
|                                                                                                | 
|ITEM 1 - Financial Statements                                                                   |  |         
|                                                                                                | 
|Consolidated Balance Sheets as of June 30, 2006 and December 31, 2005                           |  | 1       
|                                                                                                | 
|Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2006 and 2005 |  | 2       
|                                                                                                | 
|Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2006 and 2005           |  | 3       
|                                                                                                | 
|Notes to Unaudited Consolidated Financial Statements                                            |  | 4-20    
|                                                                                                | 
|ITEM 2 -
Managements Discussion and Analysis of Financial Condition and Results of Operations  |  | 21-39   
|                                                                                                | 
|ITEM 3 
Quantitative and Qualitative Disclosures About Market Risk                             |  | 39      
|                                                                                                | 
|ITEM 4 
Controls and Procedures                                                                |  | 40-41   
|                                                                                                | 
|PART II 
Other Information                                                                     |  |         
|                                                                                                | 
|ITEM 1 
Legal Proceedings                                                                      |  | 42      
|                                                                                                | 
|ITEM 1A 
Risk Factors                                                                          |  | 42-45   
|                                                                                                | 
|ITEM 2 
Unregistered Sales of Equity Securities and Use of Proceeds                            |  | 45      
|                                                                                                | 
|ITEM 3 -
Defaults upon Senior Securities                                                        |  | 45      
|                                                                                                | 
|ITEM 4 
Submission of Matters to a Vote of Security Holders                                    |  | 45      
|                                                                                                | 
|ITEM 5 
Other Information                                                                      |  | 46      
|                                                                                                | 
|ITEM 6 
Exhibits                                                                               |  | 46      
|                                                                                                | 
|
Signatures                                                                                    |  | 47      



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Hooper Holmes, Inc.

Consolidated Balance Sheets

(unaudited)

(In thousands, except share data)



|                                                                                                                                   |  |               |         |                   |   |        
|---------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ------- | ----------------- | - | -------
|                                                                                                                                   |  | June 30, 2006 |         | December 31, 2005
|ASSETS                                                                                                                             |  |               |         |                   |   |        
|Current Assets:                                                                                                                    |  |               |         |                   |   |        
|Cash and cash equivalents                                                                                                          |  | $             | 4,720   |                   | $ | 11,683 
|Marketable securities                                                                                                              |  |               | 192     |                   |   | 383    
|                                                                                                                                   |  |              
|Accounts receivable, net                                                                                                           |  |               | 43,249  |                   |   | 42,121 
|Deferred income taxes                                                                                                              |  |               | 1,318   |                   |   | 1,295  
|                                                                                                                                   |  |              
|Income tax receivable                                                                                                              |  |               | 8,806   |                   |   | 5,612  
|                                                                                                                                   |  |              
|Other current assets                                                                                                               |  |               | 4,878   |                   |   | 4,907  
|                                                                                                                                   |  |               |         |                   |   |        
|Total current assets                                                                                                               |  |               | 63,163  |                   |   | 66,001 
|                                                                                                                                   |  |               |         |                   |   |        
|Property, plant and equipment, at cost                                                                                             |  |               | 44,039  |                   |   | 40,563 
|Less: Accumulated depreciation and amortization                                                                                    |  |               | 28,994  |                   |   | 27,085 
|                                                                                                                                   |  |               |         |                   |   |        
|Property, plant and equipment, net                                                                                                 |  |               | 15,045  |                   |   | 13,478 
|Goodwill                                                                                                                           |  |               | 42,426  |                   |   | 40,038 
|                                                                                                                                   |  |              
|Intangible assets, net                                                                                                             |  |               | 10,865  |                   |   | 12,203 
|                                                                                                                                   |  |              
|Deferred income taxes                                                                                                              |  |               | 28,575  |                   |   | 30,269 
|Other assets                                                                                                                       |  |               | 478     |                   |   | 342    
|                                                                                                                                   |  |               |         |                   |   |        
|Total assets                                                                                                                       |  | $             | 160,552 |                   | $ | 162,331
|                                                                                                                                   |  |               |         |                   |   |        
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                               |  |               |         |                   |   |        
|Current liabilities:                                                                                                               |  |               |         |                   |   |        
|Current maturities of long-term debt                                                                                               |  | $             |        |                   | $ | 1,000  
|                                                                                                                                   |  |              
|Accounts payable                                                                                                                   |  |               | 12,679  |                   |   | 13,706 
|                                                                                                                                   |  |              
|Accrued expenses                                                                                                                   |  |               | 18,280  |                   |   | 17,523 
|                                                                                                                                   |  |               |         |                   |   |        
|Total current liabilities                                                                                                          |  |               | 30,959  |                   |   | 32,229 
|                                                                                                                                   |  |               |         |                   |   |        
|Other long-term liabilities                                                                                                        |  |               | 1,469   |                   |   | 1,200  
|                                                                                                                                   |  |               |         |                   |   |        
|Commitments and Contingencies                                                                                                      |  |               |         |                   |   |        
|Stockholders equity:                                                                                                              |  |               |         |                   |   |        
|                                                                                                                                   |  |              
|Common stock, par value $.04 per share; authorized 240,000,000 shares, issued 67,499,074 as of June 30, 2006 and December 31,
2005 |  |               | 2,700   |                   |   | 2,700  
|                                                                                                                                   |  |              
|Additional paid-in capital                                                                                                         |  |               | 120,571 |                   |   | 121,278
|                                                                                                                                   |  |              
|Accumulated other comprehensive income                                                                                             |  |               | 984     |                   |   | 354    
|Retained earnings                                                                                                                  |  |               | 12,759  |                   |   | 14,574 
|                                                                                                                                   |  |               |         |                   |   |        
|                                                                                                                                   |  |               | 137,014 |                   |   | 138,906
|Less: Treasury stock, at cost 1,180,795 shares and 1,328,795 shares as of June 30, 2006 and December 31, 2005,
respectively        |  |               | 8,890   |                   |   | 10,004 
|                                                                                                                                   |  |               |         |                   |   |        
|Total stockholders equity                                                                                                         |  |               | 128,124 |                   |   | 128,902
|                                                                                                                                   |  |               |         |                   |   |        
|Total liabilities and stockholders equity                                                                                         |  | $             | 160,552 |                   | $ | 162,331
|                                                                                                                                   |  |               |         |                   |   |        

See accompanying notes to unaudited consolidated financial statements.



1



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Hooper Holmes, Inc.

Consolidated Statements of Operations

(Unaudited)

(In thousands, except share data)



|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|-------------------------------------------- |  | --------------------------- | ---------- | - | ------------------------- | - | ---------- | ---- |  | - | --------------- | - |  | - | ---------- | -
|                                             |  | Three Months Ended June 30, |            |   | Six Months Ended June 30, |  
|                                             |  | 2006                        |            |   | 2005 (Restated)           |   |            | 2006 |  |   | 2005 (Restated) |  
|Revenues                                     |  | $                           | 75,637     |   |                           | $ | 84,389     |      |  | $ | 152,438         |   |  | $ | 166,418    |  
|Cost of operations                           |  |                             | 56,864     |   |                           |   | 60,689     |      |  |   | 115,172         |   |  |   | 119,561    |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Gross profit                                 |  |                             | 18,773     |   |                           |   | 23,700     |      |  |   | 37,266          |   |  |   | 46,857     |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Selling, general and administrative expenses |  |                             | 19,192     |   |                           |   | 18,458     |      |  |   | 38,545          |   |  |   | 36,944     |  
|Restructuring and other charges              |  |                             | 463        |   |                           |   |           |      |  |   | 1,732           |   |  |   | 1,041      |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Operating income (loss)                      |  |                             | (882       | ) |                           |   | 5,242      |      |  |   | (3,011          | ) |  |   | 8,872      |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Other income (expense):                      |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Interest expense                             |  |                             | (98        | ) |                           |   | (112       | )    |  |   | (186            | ) |  |   | (292       | )
|Interest Income                              |  |                             | 47         |   |                           |   | 76         |      |  |   | 85              |   |  |   | 123        |  
|Other expense, net                           |  |                             | (87        | ) |                           |   | (131       | )    |  |   | (202            | ) |  |   | (227       | )
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|                                             |  |                             | (138       | ) |                           |   | (167       | )    |  |   | (303            | ) |  |   | (396       | )
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Income (loss) before income taxes            |  |                             | (1,020     | ) |                           |   | 5,075      |      |  |   | (3,314          | ) |  |   | 8,476      |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Income tax (benefit) provision               |  |                             | (556       | ) |                           |   | 1,982      |      |  |   | (1,499          | ) |  |   | 3,351      |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Net income (loss)                            |  | $                           | (464       | ) |                           | $ | 3,093      |      |  | $ | (1,815          | ) |  | $ | 5,125      |  
|                                             |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Earnings (loss) per share:                   |  |                             |            |   |                           |   |            |      |  |   |                 |   |  |   |            |  
|Basic                                        |  | $                           | (0.01      | ) |                           | $ | 0.05       |      |  | $ | (0.03           | ) |  | $ | 0.08       |  
|Diluted                                      |  | $                           | (0.01      | ) |                           | $ | 0.05       |      |  | $ | (0.03           | ) |  | $ | 0.08       |  
|Weighted average shares - basic              |  |                             | 66,288,345 |   |                           |   | 65,283,711 |      |  |   | 66,242,798      |   |  |   | 65,261,409 |  
|Weighted average shares - diluted            |  |                             | 66,288,345 |   |                           |   | 66,255,343 |      |  |   | 66,242,798      |   |  |   | 66,358,120 |  

See accompanying notes to unaudited consolidated financial statements.



2



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Hooper Holmes, Inc.

Consolidated Statements of Cash Flows

(unaudited)

(In thousands)



|                                                                                                   |  |                           |        |   |                 |   |        |  
|-------------------------------------------------------------------------------------------------- |  | ------------------------- | ------ | - | --------------- | - | ------ | -
|                                                                                                   |  | Six months ended June 30, |       
|                                                                                                   |  | 2006                      |        |   | 2005 (Restated) |  
|Cash flows from operating activities:                                                              |  |                           |        |   |                 |   |        |  
|Net income (loss)                                                                                  |  | $                         | (1,815 | ) |                 | $ | 5,125  |  
|                                                                                                   |  |                          
|Adjustments to reconcile net income (loss) to net cash (used in) provided by operating activities: |  |                           |        |   |                 |   |        |  
|Depreciation expense                                                                               |  |                           | 1,810  |   |                 |   | 1,643  |  
|Amortization expense                                                                               |  |                           | 1,461  |   |                 |   | 2,582  |  
|Provision for bad debt expense                                                                     |  |                           | 77     |   |                 |   | 67     |  
|Deferred income taxes                                                                              |  |                           | 1,691  |   |                 |   | (440   | )
|Net realized losses on marketable securities available for sale                                    |  |                           |       |   |                 |   | 10     |  
|FAS 123R compensation expense for stock options & employee stock purchase plan                     |  |                           | 40     |   |                 |   |       |  
|Issuance of directors stock awards                                                                |  |                           |       |   |                 |   | 152    |  
|Loss on sale of fixed assets                                                                       |  |                           | 55     |   |                 |   | 79     |  
|Change in assets and liabilities, net of effect from acquisition of business:                      |  |                           |        |   |                 |   |        |  
|Accounts receivable                                                                                |  |                           | (299   | ) |                 |   | (6,218 | )
|Other assets                                                                                       |  |                           | 6      |   |                 |   | (1,247 | )
|Income tax receivable                                                                              |  |                           | (3,194 | ) |                 |   |       |  
|Accounts payable and accrued expenses                                                              |  |                           | (825   | ) |                 |   | 1,222  |  
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Net cash (used in) provided by operating activities                                                |  |                           | (993   | ) |                 |   | 2,975  |  
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Cash flows from investing activities:                                                              |  |                           |        |   |                 |   |        |  
|Purchases of marketable securities                                                                 |  |                           |       |   |                 |   | (1,204 | )
|Redemptions of marketable securities                                                               |  |                           | 193    |   |                 |   | 6,009  |  
|Business acquisitions, net of cash acquired                                                        |  |                           | (1,963 | ) |                 |   | (4,202 | )
|Capital expenditures                                                                               |  |                           | (3,348 | ) |                 |   | (2,275 | )
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Net cash used in investing activities                                                              |  |                           | (5,118 | ) |                 |   | (1,672 | )
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Cash flows from financing activities:                                                              |  |                           |        |   |                 |   |        |  
|Principal payments on long-term debt                                                               |  |                           | (1,000 | ) |                 |   | (973   | )
|Seller financed debt                                                                               |  |                           | (100   | ) |                 |   | (1,796 | )
|Proceeds related to the exercise of stock options                                                  |  |                           | 301    |   |                 |   | 336    |  
|Excess tax benefits from stock option exercises                                                    |  |                           | 67     |   |                 |   |       |  
|Treasury stock acquired                                                                            |  |                           |       |   |                 |   | (80    | )
|Dividends paid                                                                                     |  |                           |       |   |                 |   | (1,957 | )
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Net cash used in financing activities                                                              |  |                           | (732   | ) |                 |   | (4,470 | )
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Effect of exchange rate changes on cash                                                            |  |                           | (120   | ) |                 |   | (161   | )
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Net decrease in cash and cash equivalents                                                          |  |                           | (6,963 | ) |                 |   | (3,328 | )
|Cash and cash equivalents at beginning of period                                                   |  |                           | 11,683 |   |                 |   | 16,973 |  
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Cash and cash equivalents at end of period                                                         |  | $                         | 4,720  |   |                 | $ | 13,645 |  
|                                                                                                   |  |                           |        |   |                 |   |        |  
|Supplemental disclosure of non-cash investing activity:                                            |  |                           |        |   |                 |   |        |  
|Change in net unrealized gain on marketable securities                                             |  | $                         | 1      |   |                 | $ | 10     |  
|Supplemental disclosure of cash flow information:                                                  |  |                           |        |   |                 |   |        |  
|Cash paid during the year for:                                                                     |  |                           |        |   |                 |   |        |  
|Interest                                                                                           |  | $                         | 67     |   |                 | $ | 138    |  
|Income taxes                                                                                       |  | $                         | 194    |   |                 | $ | 2,674  |  
|                                                                                                   |  |                           |        |   |                 |   |        |  

See accompanying notes to the unaudited consolidated financial statements



3



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HOOPER HOLMES, INC.

Notes to Unaudited Consolidated Financial Statements

June 30, 2006

(unaudited)

(in thousands, except share data, unless otherwise noted)

Note 1: Basis of Presentation

The unaudited interim consolidated financial statements have been prepared in accordance with instructions
for Form 10-Q and the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles
generally accepted in the United States of America (US GAAP) have been condensed or omitted pursuant to such rules and regulations. The unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated
financial statements and notes thereto included in the Companys 2005 annual report on Form 10-K.

Financial statements prepared in accordance with
U.S. GAAP require management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses and other disclosures. The financial information included herein is unaudited however, such
information reflects all adjustments (consisting solely of normal recurring adjustments) that are, in the opinion of the management of Hooper Holmes, Inc. (the Company), necessary for a fair statement of results for the interim periods
presented.

The results of operations for the three and six month periods ended June 30, 2006 are not necessarily indicative of the results to be
expected for any other interim period or the full year. See Managements Discussion and Analysis of Financial Condition and Results of Operations for additional information.

Certain reclassifications have been made to the prior years financial statements in order to conform to the current years presentation.

Note 2: Restatement of Financial Statements

As
previously reported in the Companys 2005 annual report on Form 10-K, the Company restated its previously reported consolidated financial statements for the year ended December 31, 2004 (and the four quarterly periods of 2004), and the
first three quarterly periods of 2005.

As a result of the restatement, originally reported net income for the three month period ended
June 30, 2005 was increased by $218 ($0.00 per diluted share). For the six month period ended June 30, 2005 originally reported net income was reduced by $125 ($0.00 per diluted share).

The following discussion describes the nature and impact of the restatement items on the June 30, 2005 relevant financial statement captions.



4



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(a) Revenue Recognition

During the three and six month periods ended June 30, 2005, the Company incorrectly recorded certain revenue transactions as follows:

The Company recognized revenue related to medical information gathering services at the time the services were rendered, although payment for the services
was contingent upon the successful outcome of the legal disputes in connection with which such services were obtained. An adjustment of $89 and $17 was recorded to increase revenue and accounts receivable as of and for the three and six month
periods ended June 30, 2005, respectively. These adjustments were to record the effect on revenue for services where the contingency had been resolved during the applicable period.

The Company over-billed two clients for certain expenses, namely postage expenses, as a result of a clerical error. During the three month period
June 30, 2005, the Company incorrectly recorded an adjustment that included the impact of the over-billing error relative to previous periods. An adjustment of $544 and $336 was recorded to increase revenue and accounts receivable for the three
and six month periods ended June 30, 2005, respectively, to record the billings in the correct periods.

One of the Companys
subsidiaries improperly recognized revenue prior to the service being completed. The subsidiary recorded revenue based on the number of applications received during the month, as opposed to the number of applications completed during the month. This
revenue recognition practice was in effect prior to the Company acquiring the subsidiary. An adjustment of $96 and $292 was recorded to reduce revenue and increase deferred revenue as of and for the three and six month periods ended June 30,
2005, respectively.

(b) Lease Accounting

The Company recorded rent expense related to its branch offices based on the amount of the lease payments as opposed to on a straight line basis. An adjustment of $24 and $50 was recorded to increase rent expense and
accrued expenses as of and for the three and six month periods ended June 30, 2005, respectively.

(c) Compensation Expense

In 2004, the Company recorded certain earn-out provisions related to acquisitions which should have been recorded ratably through
2005, as the earn-out criteria required continued employment as a condition of receiving the consideration. An adjustment of $68 and $135 was recorded to increase compensation expense and increase accrued expenses as of and for the three and six
month periods ended June 30, 2005, respectively.

(d) Income Tax Effect of Restatement Adjustments

Represents tax effect of the restatement adjustments. An adjustment for the three month period ended June 30, 2005 of $110 was recorded to increase
income tax expense and accrued expenses. For the six month period ended June 30, 2005 an adjustment for $116 was made to decrease income tax expense and accrued expenses.

(e) Business Acquisitions

In
the first half of 2005, acquisition related payments of $3,388 were improperly reflected as a decrease in accrued expenses within cash used in operating activities in the consolidated statement of cash flows as opposed to cash used in investing
activities.

(f) Accounts Receivable Credit Balances

In the second quarter of 2005, accounts receivable credit balances were written off and improperly recorded as revenue. These balances pertained to prior
years and therefore an adjustment to reduce revenue and accounts receivable by $117 was recorded for the three and six month periods ended June 30, 2005, respectively.



5



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(g) Seller-Financed Debt

For the six month period ended June 30, 2005 seller financed debt payments totaling $1,796 in connection with the Companys acquisition of
Heritage Labs, Inc. and Michigan Evaluation Group, Inc. were improperly reflected as a decrease in accrued expenses within cash used in operating activities in the consolidated statement of cash flows as opposed to cash flows used in financing
activities.

As a result of various adjustments discussed above, modifications were required to previously filed footnotes: Note 5, Note 6 and Note 10.

The following tables present the effect of the restatement on the unaudited consolidated statements of operations for the three and six month periods
ended June 30, 2005 and on the statement of cash flows for the six month period ended June 30, 2005.

Consolidated Statements of Operations



|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|-------------------------------------------- |  | -------------------------------- | ---------- | - | ------------------------------ | - | --------------------- |  | ----------- |  | - | ----------- | - |  | -------------------- | ---------- | - | --------------------- | - | ----------- | - |  | ------- |  | - | ---------- | -
|                                             |  | Three months ended June 30, 2005 |            |   | Six months ended June 30, 2005 |  
|                                             |  | As Reported                      |            |   | Effect ofRestatement           |   | AdjustmentDescription |  | As Restated |  |   | As Reported |   |  | Effect ofRestatement |            |   | AdjustmentDescription |   | As Restated |  
|Revenues                                     |  | $                                | 83,969     |   |                                |   | 420                   |  | (a) (f)     |  |   | 84,389      |   |  | $                    | 166,474    |   |                       |   | (56         | ) |  | (a) (f) |  |   | 166,418    |  
|Cost of operations                           |  |                                  | 60,665     |   |                                |   | 24                    |  | (b)         |  |   | 60,689      |   |  |                      | 119,511    |   |                       |   | 50          |   |  | (b)     |  |   | 119,561    |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Gross profit                                 |  |                                  | 23,304     |   |                                |   | 396                   |  |             |  |   | 23,700      |   |  |                      | 46,963     |   |                       |   | (106        | ) |  |         |  |   | 46,857     |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Selling, general and administrative expenses |  |                                  | 18,390     |   |                                |   | 68                    |  | (c)         |  |   | 18,458      |   |  |                      | 36,809     |   |                       |   | 135         |   |  | (c)     |  |   | 36,944     |  
|Restructuring and other charges              |  |                                  |           |   |                                |   |                      |  |             |  |   |            |   |  |                      | 1,041      |   |                       |   |             |   |  |         |  |   | 1,041      |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Operating income                             |  |                                  | 4,914      |   |                                |   | 328                   |  |             |  |   | 5,242       |   |  |                      | 9,113      |   |                       |   | (241        | ) |  |         |  |   | 8,872      |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Interest/ other income (expense)             |  |                                  | (167       | ) |                                |   |                       |  |             |  |   | (167        | ) |  |                      | (396       | ) |                       |   |             |   |  |         |  |   | (396       | )
|Income tax expense (benefit)                 |  |                                  | 1,872      |   |                                |   | 110                   |  | (d)         |  |   | 1,982       |   |  |                      | 3,467      |   |                       |   | (116        | ) |  | (d)     |  |   | 3,351      |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Net income/ (loss)                           |  | $                                | 2,875      |   |                                | $ | 218                   |  |             |  | $ | 3,093       |   |  | $                    | 5,250      |   |                       | $ | (125        | ) |  |         |  | $ | 5,125      |  
|                                             |  |                                  |            |   |                                |   |                       |  |             |  |   |             |   |  |                      |            |   |                       |   |             |   |  |         |  |   |            |  
|Earnings per share  Basic*                  |  | $                                | 0.04       |   |                                | $ | 0.00                  |  |             |  | $ | 0.05        |   |  | $                    | 0.08       |   |                       | $ | (0.00       | ) |  |         |  | $ | 0.08       |  
|Earnings per share  Diluted*                |  | $                                | 0.04       |   |                                | $ | 0.00                  |  |             |  | $ | 0.05        |   |  | $                    | 0.08       |   |                       | $ | (0.00       | ) |  |         |  | $ | 0.08       |  
|Weighted average shares  Basic              |  |                                  | 65,283,711 |   |                                |   |                       |  |             |  |   | 65,283,711  |   |  |                      | 65,261,409 |   |                       |   |             |   |  |         |  |   | 65,261,409 |  
|Weighted average shares  Diluted            |  |                                  | 66,255,343 |   |                                |   |                       |  |             |  |   | 66,255,343  |   |  |                      | 66,358,120 |   |                       |   |             |   |  |         |  |   | 66,358,120 |  

---

|* | The sum of the As Reported and the Effect of Restatement Earnings Per Share amounts may not equal the As Restated Earnings Per Share due to
rounding.
|- | -----------------------------------------------------------------------------------------------------------------------------------------------------------



6



---

Consolidated Statement of Cash Flows



|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|------------------------------------------------------------------------------------------- |  | ------------------------- | ------ | - | -------------------- | - | ------ | ----------- |  | ----------------------- |  | - | ------ | -
|                                                                                            |  | Six months ended June 30, |       
|                                                                                            |  | 2005 As Reported          |        |   | Effect ofRestatement |   |        | Description |  | 2005Restated            | 
|Cash flows from operating activities:                                                       |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Net income                                                                                  |  | $                         | 5,250  |   |                      | $ | (125   | )           |  | (a) (b) (c) (d) (f)     |  | $ | 5,125  |  
|Adjustments to reconcile net income to net cash (used in) provided by operating activities: |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|                                                                                            |  |                           |        |  
|Depreciation expense                                                                        |  |                           | 1,643  |   |                      |   |        |             |  |                         |  |   | 1,643  |  
|Amortization expense                                                                        |  |                           | 2,582  |   |                      |   |        |             |  |                         |  |   | 2,582  |  
|Provision for bad debt expense                                                              |  |                           | 67     |   |                      |   |        |             |  |                         |  |   | 67 15  |  
|Deferred income taxes                                                                       |  |                           | (440   | ) |                      |   |        |             |  |                         |  |   | (440   | )
|                                                                                            |  |                           |        |  
|Net realized losses on marketable securities available for sale                             |  |                           | 10     |   |                      |   |        |             |  |                         |  |   | 10     |  
|                                                                                            |  |                           |        |  
|Issuance of directors stock awards                                                         |  |                           | 152    |   |                      |   |        |             |  |                         |  |   | 152    |  
|                                                                                            |  |                           |        |  
|Loss on sale of fixed assets                                                                |  |                           | 79     |   |                      |   |        |             |  |                         |  |   | 79     |  
|Change in assets and liabilities, net of effect from acquisition of business:               |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Accounts receivable                                                                         |  |                           | (5,981 | ) |                      |   | (237   | )           |  | (a) (f)                 |  |   | (6,218 | )
|Other assets                                                                                |  |                           | (1,247 | ) |                      |   |        |             |  |                         |  |   | (1,247 | )
|                                                                                            |  |                           |        |  
|Accounts payable and accrued expenses                                                       |  |                           | (4,324 | ) |                      |   | 5,546  |             |  | (a) (b) (c) (d) (e) (g) |  |   | 1,222  |  
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Net cash (used in) provided by operating activities                                         |  |                           | (2,209 | ) |                      |   | 5,184  |             |  |                         |  |   | 2,975  |  
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Cash flows from investing activities:                                                       |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|                                                                                            |  |                           |        |  
|Purchases of marketable securities                                                          |  |                           | (1,204 | ) |                      |   |        |             |  |                         |  |   | (1,204 | )
|                                                                                            |  |                           |        |  
|Redemptions of marketable securities                                                        |  |                           | 6,009  |   |                      |   |        |             |  |                         |  |   | 6.009  |  
|                                                                                            |  |                           |        |  
|Business acquisitions, net of cash acquired                                                 |  |                           | (814   | ) |                      |   | (3,388 | )           |  | (e)                     |  |   | (4,202 | )
|Capital expenditures                                                                        |  |                           | (2,275 | ) |                      |   |        |             |  |                         |  |   | (2,275 | )
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Net cash (used in) provided by investing activities                                         |  |                           | 1,716  |   |                      |   | (3,388 | )           |  |                         |  |   | (1,672 | )
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Cash flows from financing activities:                                                       |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Principal payments on long-term debt                                                        |  |                           | (973   | ) |                      |   |       |             |  |                         |  |   | (973   | )
|Seller financed debt                                                                        |  |                           |        |   |                      |   | (1,796 | )           |  | (g)                     |  |   | (1,796 | )
|Proceeds related to the exercise of stock options                                           |  |                           | 336    |   |                      |   |        |             |  |                         |  |   | 336    |  
|Treasury stock acquired                                                                     |  |                           | (80    | ) |                      |   |        |             |  |                         |  |   | (80    | )
|Dividends paid                                                                              |  |                           | (1,957 | ) |                      |   |        |             |  |                         |  |   | (1,957 | )
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Net cash used in financing activities                                                       |  |                           | (2,674 | ) |                      |   | (1.796 | )           |  |                         |  |   | (4,470 | )
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Effect of exchange rate changes on cash                                                     |  |                           | (161   | ) |                      |   |        |             |  |                         |  |   | (161   | )
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Net decrease in cash and cash equivalents                                                   |  |                           | (3,328 | ) |                      |   |       |             |  |                         |  |   | (3,328 | )
|Cash and cash equivalents at beginning of period                                            |  |                           | 16,973 |   |                      |   |        |             |  |                         |  |   | 16,973 |  
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  
|Cash and cash equivalents at end of period                                                  |  | $                         | 13,645 |   |                      | $ |       |             |  |                         |  | $ | 13,645 |  
|                                                                                            |  |                           |        |   |                      |   |        |             |  |                         |  |   |        |  



7



---

Note 3: Liquidity

At
June 30, 2006, the Company had $4,720 in cash and cash equivalents and no debt outstanding under its Amended and Restated Revolving Credit and Term Loan Agreement, as amended, (which is described more fully in Note 12). As reported in Note 12,
the Company is currently, and anticipates in the future being, in violation of certain financial covenants under the credit agreement. The Company has requested a waiver from its lenders of such violations. This resulted in the Companys
agreeing to the terms of a Notice of Default, Reservation of Rights and Amendatory Letter (Amended and Restated), dated July 31, 2006, provided by Wachovia Bank, National Association, as agent and lender under the credit agreement. Under the
terms of the letter, the Company and the lenders have agreed to the following:



| | (1) | During the period from July 13, 2006 to October 10, 2006 (referred to in the letter as the Forbearance Period) (a) the maximum amount the Company may
borrow under the revolving credit facility provided under the credit agreement is reduced to $3.0 million from $15.0 million, and (b) the aggregate amount of all loans or advances to any subsidiary or affiliate of the Company under the credit
agreement is increased from $0.5 million to $1.5 million. These revised terms are to apply to the revolving credit facility during the Forbearance Period unless the lenders provide the Company with written notice stating that these terms shall no
longer apply.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Although the lenders are not granting a waiver of the covenant violations, they have agreed to forbear from terminating the credit commitments under the credit agreement, declaring
all credit obligations immediately due and payable, and exercising their rights and remedies under the credit agreement, until the earlier of (i) the expiration of the Forbearance Period, or the occurrence of an event of default under the
credit agreement other than the actual or anticipated violations of the financial covenants for which the Company sought a waiver.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
Company is currently reviewing alternative long-term financing options to replace its existing revolving credit facility. If alternative financing options can be arranged, such financing may entail a lower amount of permitted borrowings, higher
interest rates or more restrictive covenants than under the terms of our existing credit agreement.

There can be no assurance that alternative financing
options will be available on terms acceptable to the Company. In the event the Company is unable to obtain long-term financing, the Companys ability to finance its operations may be constrained by its operating cash flows and existing holdings
of cash and cash equivalents. A continuation of the decline in the Companys operating results will result in a decline in such operating cash flows, further limiting the Companys ability to finance its operations and meet its contractual
obligations. The Company has reported a net decrease in cash and cash equivalents of $ 6,963 for the first half of 2006. For the same period in the prior year, $3,328 was reported as a net decrease in cash and cash equivalents.

Based on projected cash flows from operations, existing cash and cash equivalents, and other potential sources of borrowings, the Company believes that it will have
sufficient funds to meet its cash needs through June 30, 2007.



8



---

Note 4: Earnings Per Share

Basic earnings (loss) per share equals net income (loss) divided by the weighted average common shares outstanding during the period. Diluted earnings (loss) per share equals net income (loss) divided by the sum of
the weighted average common shares outstanding during the period plus dilutive common stock equivalents. Common stock equivalents were 0, and 971,632 for the three months ended June 30, 2006 and 2005, respectively. Common Stock equivalents were
0 and 1,096,711 for the six months ended June 30, 2006 and 2005, respectively. These shares are assumed to be issued if outstanding stock options were exercised.

Our net loss and weighted average shares outstanding used for computing diluted loss per share were the same as that used for computing basic loss per share for the three months and six month periods ended
June 30, 2006, because the inclusion of common stock equivalents would be antidilutive. Specifically, options to purchase 8,411,300 shares of the Companys common stock were excluded from the calculation of diluted loss per share for the
three and six month periods ended June 30, 2006. Options to purchase 9,487,718 and 9,362,639 shares of the Companys common stock were excluded from the calculation of diluted earnings per share for the three and six month periods ended
June 30, 2005, because their exercise prices exceeded the average market price of outstanding common shares for such periods and were, therefore, antidilutive.

Note 5: Share-Based Compensation

In December, 2004 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 revised 2004, Share-Based Payment (SFAS 123R). SFAS 123R addresses the accounting for transactions in which an enterprise receives employee services in exchange for (a) equity
instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprises equity instruments or that may be settled by the issuance of such equity instruments. SFAS 123R supersedes Accounting Principles Board
Opinion No. 25, Accounting for Stock Issued to Employees, (APB No. 25) and requires companies to recognize compensation cost in an amount equal to the fair value of the share-based payments, such as stock options
granted to employees.

On January 1, 2006, the Company adopted SFAS 123R using the modified prospective method. Under this method, the Company is
required to record compensation cost for the unvested portion of previously granted awards that remain outstanding as of January 1, 2006. We previously accounted for our share-based compensation under the recognition and measurement principle
of APB No. 25 and related interpretations. Prior to our adoption of SFAS 123R, no share-based compensation cost was reflected in net income for stock options, as all stock options granted had an exercise price equal to the market value of the
underlying common stock on the date of the grant. Also, prior to our adoption of SFAS 123R, compensation cost for restricted (non-vested) stock was recorded based on the market value of the underlying common stock on the date of the
grant.



9



---

Stock Option Plans  The Companys stockholders approved stock option plans providing for the grant of
options exercisable for up to 4,000,000 shares of common stock in 1992 and 1994, 2,400,000 shares in 1997, 2,000,000 shares in 1999 and 3,000,000 shares in 2002, which provide that options may be granted to management. Options are granted at fair
value on the date of grant and are exercisable as follows: 25% after two years and 25% on each of three anniversary dates thereafter, with contract lives of 10 years from the date of grant. At June 30, 2006, the Company is authorized to grant
options exercisable for approximately 1,555,200 shares under the plans.

On January 31, 2005, the Company accelerated the vesting of all of the
Companys unvested stock options awarded to officers and employees under the 1992, 1994, 1997 and 1999 Stock Option Plans, which had an exercise price greater than $5.05, the closing price of the Companys common stock on January 31,
2005. As a result of the acceleration, options to acquire approximately 1.6 million shares of the Companys common stock, with exercise prices ranging from $5.47 to $10.47, which would have otherwise vested over the next 48 months, became
immediately exercisable.

On December 20, 2005, the Company accelerated the vesting of options for all grants which had an exercise price equal to or
greater than $2.65, the closing price of the Companys common stock on December 20, 2005. As a result of the acceleration, options to acquire 2,060,000 shares of the Companys common stock, with exercise prices ranging from $3.46 to
$5.02, which would have otherwise vested over the next 5 years, became immediately exercisable.

The Companys decision to accelerate the vesting of
these options (which represented all remaining unvested stock options outstanding) was in response to a review of the Companys long term incentive compensation programs in light of changes in market practices and changes in accounting rules
resulting from the issuance of SFAS 123R. Management believes that accelerating the vesting of these options prior to the adoption of SFAS 123R, will result in the Company not being required to recognize compensation expense of $0.9 million in 2006
and $0.8 million in subsequent years through 2010.

As discussed above, the Company accelerated the vesting of all unvested stock options. As a result, the
adoption of SFAS 123R had no impact on stock option awards that were outstanding as of January 1, 2006. However, the adoption of SFAS 123R resulted in the Company recording $32 and $40 of compensation cost in selling, general and administrative
expenses, for the three and six month periods ended June 30, 2006, respectively, related to stock-based compensation granted during 2006. The effect on net loss, cash flows used in operations and cash flows from financing activities from the
adoption of SFAS 123R for the three month period ended June 30, 2006, was ($18), ($44) and $44, respectively. For the six month period ended June 30, 2006, the effect on net loss, cash flows used in operations and cash flows from financing
activities was ($22), ($67) and $67, respectively. There was no material effect on basic and diluted loss per share for the three and six month periods ended June 30, 2006 from the adoption of SFAS 123R.

Stock Purchase Plan  In 2003, the Companys shareholders approved the 2004 Employee Stock Purchase Plan, which provides for granting of purchase rights
for up to 2,000,000 shares of Company stock. The plan provides for the purchase of shares on the date 13 months from the grant date (the purchase date). During the period between the grant date and the purchase date, up to 10% of a participating
employees compensation is withheld to fund the purchase of shares under the plan. Employees can cancel their purchases at any time during the period without penalty. The purchase price is 95% of the closing price of the common stock on the
grant date. In February 2004, the Company granted purchase rights for approximately 69,874 shares with the aggregate purchase price payable for such shares being approximately $416. The February 2004 plan offering terminated in February 2005 in
accordance with the plans automatic termination provision. In February 2005, the Company granted purchase rights for approximately 62,790 shares with the aggregate purchase price payable for such shares being approximately $264. The February
2005 plan offering terminated in February 2006 in accordance with the plans automatic termination provision. In February 2006, purchase rights for 94,435 shares were granted with an aggregate fair value of $65, based on a Black Scholes pricing
model.



10



---

Stock Awards  On January 28, 2003, the Companys Board of Directors passed a
resolution to award non-employee directors of the Company up to a maximum of 15,000 shares of the Companys common stock as compensation. Each non-employee director was awarded 5,000 shares on January 31, 2005, 2004 and 2003, which vested
immediately. All shares awarded are restricted under SEC Rule 144, and may not be sold or transferred by the director until four years from the date of issue. In January 2006, the Board adopted a resolution removing all contractual restrictions with
respect to any such shares held by a director who retires from the Board and is not removed with cause.

The following table illustrates the effect on net
income and earnings per share if we had applied the fair value recognition provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation to all share-based employee compensation for the
three months and six months ended June 30, 2005. Option forfeitures were accounted for as they occurred and no amounts of compensation expense have been capitalized, but instead were considered period expenses in the pro forma amounts below.



|                                                                                                                                            |  |                                 |       |                               |   |      
|------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | ----- | ----------------------------- | - | -----
|                                                                                                                                            |  | Three months endedJune 30, 2005 |       | Six months endedJune 30, 2005
|Net income (loss) as restated                                                                                                               |  | $                               | 3,093 |                               | $ | 5,125
|Add: Stock based employee compensation expense included in reported net income, net of related tax effects                                  |  |                                 |      |                               |   | 91   
|Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax
effects |  |                                 | 182   |                               |   | 1,604
|                                                                                                                                            |  |                                 |       |                               |   |      
|Pro forma net income (loss)                                                                                                                 |  | $                               | 2,911 |                               | $ | 3,612
|                                                                                                                                            |  |                                 |       |                               |   |      
|Earnings per share:                                                                                                                         |  |                                 |       |                               |   |      
|Basic, as reported                                                                                                                          |  | $                               | .05   |                               | $ | .08  
|Basic, pro forma                                                                                                                            |  |                                 | .04   |                               |   | .06  
|Diluted, as reported                                                                                                                        |  |                                 | .05   |                               |   | .08  
|Diluted, pro forma                                                                                                                          |  |                                 | .04   |                               |   | .05  

The fair value of the 2005 and 2006 stock option grants were estimated on the date of grant using the
Black-Scholes pricing model with the following assumptions:



|                                                  |  |                                    |         |   |                                  |   |         |      |  |   |         |   |  |   |         |  
|------------------------------------------------- |  | ---------------------------------- | ------- | - | -------------------------------- | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                  |  | For the three months endedJune 30, |         |   | For the six months endedJune 30, |  
|                                                  |  | 2006                               |         |   | 2005                             |   |         | 2006 |  |   | 2005    |  
|Expected life (years)                             |  |                                    | 6.32    |   |                                  |   | 6.65    |      |  |   | 6.54    |   |  |   | 6.59    |  
|Expected volatility                               |  |                                    | 46.74   | % |                                  |   | 51.71   | %    |  |   | 46.30   | % |  |   | 51.78   | %
|Risk-free interest rate                           |  |                                    | 5.03    | % |                                  |   | 4.1     | %    |  |   | 4.71    | % |  |   | 4.08    | %
|                                                  |  |                                    |         |   |                                  |   |         |      |  |   |         |   |  |   |         |  
|Dividend Yield                                    |  |                                    | 0.00    | % |                                  |   | 1.42    | %    |  |   | 0.00    | % |  |   | 1.40    | %
|                                                  |  |                                    |         |   |                                  |   |         |      |  |   |         |   |  |   |         |  
|Weighted average grant date fair value of options |  | $                                  | 1.64    |   |                                  | $ | 1.90    |      |  | $ | 1.72    |   |  | $ | 1.95    |  
|                                                  |  |                                    |         |   |                                  |   |         |      |  |   |         |   |  |   |         |  
|Options issued                                    |  |                                    | 100,000 |   |                                  |   | 255,000 |      |  |   | 200,000 |   |  |   | 305,000 |  
|                                                  |  |                                    |         |   |                                  |   |         |      |  |   |         |   |  |   |         |  



11



---

The expected life of options granted is derived from our historical experience and represents the period of time that
options granted are expected to be outstanding. Expected volatility is based on our long-term historical volatility. The risk-free interest rate for periods within the contractual life of the options is based on the U.S. Treasury yield curve in
effect at the time of the grant. SFAS 123R specifies that initial accruals be based on the estimated number of instruments for which the requisite service is expected to be rendered. Therefore, we are required to incorporate the probability of
pre-vesting forfeitures in determining the number of vested options. The forfeiture rate is based on the historical forfeiture experience.

The following table summarizes stock option activity for the six month period ended June 30, 2006:



|                                       |  |            |   |  |                                        |      |                                                |     |                         |   |      
|-------------------------------------- |  | ---------- | - |  | -------------------------------------- | ---- | ---------------------------------------------- | --- | ----------------------- | - | -----
|                                       |  | Shares     |   |  | WeightedAverageExercisePrice Per Share |      | WeighedAverageRemainingContractual Life(years) |     | AggregateIntrinsicValue
|Outstanding Balance, December 31, 2005 |  | 9,533,125  |   |  | $                                      | 5.75 |                                                |     |                         |   |      
|                                       |  |            |   |  |                                        |      |                                                |     |                         |   |      
|Granted                                |  | 200,000    |   |  | $                                      | 3.24 |                                                |     |                         |   |      
|Exercised                              |  | (148,000   | ) |  |                                        | 2.03 |                                                |     |                         |   |      
|Cancelled                              |  | (1,100,550 | ) |  |                                        | 7.38 |                                                |     |                         |   |      
|Forfeitures                            |  | (73,275    | ) |  |                                        | 4.38 |                                                |     |                         |   |      
|                                       |  |            |   |  |                                        |      |                                                |     |                         |   |      
|Outstanding Balance, June 30, 2006     |  | 8,411,300  |   |  | $                                      | 5.56 |                                                | 4.3 |                         | $ | 1,195
|                                       |  |            |   |  |                                        |      |                                                |     |                         |   |      
|Options exercisable - June 30, 2006    |  | 8,211,300  |   |  | $                                      | 5.61 |                                                | 4.3 |                         | $ | 1,195

At January 1, 2006, and June 30, 2006, 90,000 shares of stock awards were outstanding with a weighted
average grant date fair value of $5.80 per share. For the three and six month periods ended June 30, 2005 the Company recorded $0 and $152, respectively, of compensation expense related to the grant of stock awards. No grants of stock awards
were made during the three or six month periods ended June 30, 2006.

The total intrinsic value of stock options exercised during the three and six
month periods ended June 30, 2006 was $106 and $164, respectively, and for the three and six month periods ended June 30, 2005 was $686 and $767, respectively. Treasury shares have been utilized and reissued upon stock option exercises.
There were no stock options vested during the three and six month periods ended June 30, 2006. The fair value of shares vested in the three and six month periods ended June 30, 2005 was $0 and $7,860, respectively. As of June 30,
2006, there was approximately $317 of total unrecognized compensation cost related to stock options. The cost is expected to be recognized over 4.7 years.



12



---

Prior to the adoption of SFAS 123R, we presented all tax benefits of deductions resulting from the exercise of stock
options as operating cash flows in the Statement of Cash Flows. SFAS 123R requires that the cash flows resulting from tax benefits resulting from tax deductions in excess of the compensation cost recognized for those options (excess tax benefits) be
classified as financing cash flows. Cash received and the tax benefit realized from stock options exercised were $301 and $67 for the six month period ended June 30, 2006 and $336 and $287 for the six month period ended June 30, 2005,
respectively.

In November 2005, the FASB issued FASB Staff Position 123R-3, Transition Election Related to Accounting for the Tax Effects of
Share-based Payment Awards (FSP 123R-3). FSP 123R-3 provides an elective alternative transition method of calculating the additional paid-in capital pool (APIC Pool) of excess tax benefits available to absorb tax deficiencies
recognized subsequent to the adoption of SFAS 123R to the method otherwise required by paragraph 81 of SFAS 123R. We have elected to adopt the alternative transition method.

During the second quarter of 2006, the Company granted a total of 100,000 options to its newly hired Chief Financial Officer. The fair value of the stock options granted was determined on the date of grant using the
Black-Scholes option pricing model. The fair value of the stock options granted was $1.64 per share.

Note 6: Comprehensive Income (Loss)

Comprehensive income (loss) includes net income (loss) and other comprehensive income (loss) which refers to those revenues, expenses, gains and losses
which are excluded from net income (loss). Other comprehensive income (loss) includes unrealized gains and losses on marketable securities classified as available-for-sale and the effects of foreign currency translation adjustments.



|                                                                            |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  
|--------------------------------------------------------------------------- |  | ---------------------------------- | ---- | - | -------------------------------- | - | ----- | ---- |  | - | ------------- | - |  | - | ----- | -
|                                                                            |  | For the three months endedJune 30, |      |   | For the six months endedJune 30, |  
|                                                                            |  | 2006                               |      |   | 2005 Restated                    |   |       | 2006 |  |   | 2005 Restated |  
|Net income (loss)                                                           |  |                                    | (464 | ) |                                  | $ | 3,093 |      |  | $ | (1,815        | ) |  | $ | 5,125 |  
|Other comprehensive income:                                                 |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  
|Unrealized holding gains on marketable securities arising during the period |  |                                    |     |   |                                  |   |      |      |  |   | 1             |   |  |   | 1     |  
|Less: reclassification adjustment for Losses included in net income         |  |                                    |     |   |                                  |   |      |      |  |   |              |   |  |   | 5     |  
|                                                                            |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  
|Net unrealized gain on securities, net of tax                               |  |                                    |     |   |                                  |   |      |      |  |   | 1             |   |  |   | 6     |  
|                                                                            |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  
|Foreign currency translation                                                |  |                                    | 468  |   |                                  |   | (539  | )    |  |   | 629           |   |  |   | (704  | )
|                                                                            |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  
|Total other comprehensive income (loss)                                     |  | $                                  | 4    |   |                                  | $ | 2,554 |      |  | $ | (1,185        | ) |  | $ | 4,427 |  
|                                                                            |  |                                    |      |   |                                  |   |       |      |  |   |               |   |  |   |       |  



13



---

Note 7: Marketable Securities

The amortized cost, gross unrealized holding gains, gross unrealized holding losses and fair value of available-for-sale-sale securities by major security type and class of security at June 30, 2006 and December 31, 2005, were as
follows:



|                             |  |               |     |                             |   |                              |  |   |            |   |  |   |    
|---------------------------- |  | ------------- | --- | --------------------------- | - | ---------------------------- |  | - | ---------- | - |  | - | ---
|                             |  | AmortizedCost |     | GrossUnrealizedHoldingGains |   | GrossUnrealizedHoldingLosses |  |   | Fair Value
|At June 30, 2006             |  |               |     |                             |   |                              |  |   |            |   |  |   |    
|Bank certificates of deposit |  | $             | 192 |                             | $ |                             |  | $ |           |   |  | $ | 192
|                             |  |               |     |                             |   |                              |  |   |            |   |  |   |    
|At December 31, 2005         |  |               |     |                             |   |                              |  |   |            |   |  |   |    
|Bank certificates of deposit |  | $             | 385 |                             | $ |                             |  | $ | (2         | ) |  | $ | 383
|                             |  |               |     |                             |   |                              |  |   |            |   |  |   |    

Proceeds from the sale of investment securities available-for-sale were $193 in the six months ended June 30,
2006 and $6,009 for the six months ended June 30, 2005. Gross realized gains included in income for the six months ended June 30, 2006 and 2005 were $0 for both years, and gross realized losses included in income for the six months ended
June 30, 2006 and 2005 were $0 and $10, respectively.

Note 8: Goodwill and Intangible Assets

The changes in the carrying amount of goodwill by operating segment for the period from December 31, 2005 to June 30, 2006 are as follows:



|                                        |  |     |        |     |     |   |       |       |  |   |       
|--------------------------------------- |  | --- | ------ | --- | --- | - | ----- | ----- |  | - | ------
|                                        |  | HID |        |     | CED |   |       | Total
|Balance at December 31, 2005            |  | $   | 33,438 |     |     | $ | 6,600 |       |  | $ | 40,038
|Acquisition goodwill                    |  |     | 1,427  | (a) |     |   | 500   | (b)   |  |   | 1,927 
|Foreign currency translation adjustment |  |     | 461    |     |     |   |      |       |  |   | 461   
|                                        |  |     |        |     |     |   |       |       |  |   |       
|Balance at June 30, 2006                |  | $   | 35,326 |     |     | $ | 7,100 |       |  | $ | 42,426
|                                        |  |     |        |     |     |   |       |       |  |   |       

---

|(a) | Represents goodwill associated with the first quarter 2006 acquisition by our U.K. subsidiary, Medicals Direct Group, of Doctors Direct. See Note 9.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------

|(b) | Represents a performance-related payment related to the Companys acquisition of Michigan Evaluation Group, Inc. that was earned during the three months ended June 30,
2006.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------



14



---

The following table presents certain information regarding the Companys intangible assets as of
June 30, 2006 and December 31, 2005. All identifiable intangible assets are being amortized over their useful lives, as indicated below, with no residual values.



|                           |  |                                   |  |                     |        |                         |   |            |  |   |       
|-------------------------- |  | --------------------------------- |  | ------------------- | ------ | ----------------------- | - | ---------- |  | - | ------
|                           |  | WeightedAverageUsefulLife (years) |  | GrossCarryingAmount |        | AccumulatedAmortization |   | NetBalance
|At June 30, 2006           |  |                                   |  |                     |        |                         |   |            |  |   |       
|Non-Competition agreements |  | 4.5                               |  | $                   | 9,265  |                         | $ | 8,682      |  | $ | 583   
|Customer relationships     |  | 9.6                               |  |                     | 15,847 |                         |   | 9,626      |  |   | 6,221 
|Contractor network         |  | 7.0                               |  |                     | 5,700  |                         |   | 5,548      |  |   | 152   
|Trademarks and tradename   |  | 13.7                              |  |                     | 4,342  |                         |   | 433        |  |   | 3,909 
|                           |  |                                   |  |                     |        |                         |   |            |  |   |       
|                           |  |                                   |  | $                   | 35,154 |                         | $ | 24,289     |  | $ | 10,865
|                           |  |                                   |  |                     |        |                         |   |            |  |   |       
|At December 31, 2005       |  |                                   |  |                     |        |                         |   |            |  |   |       
|Non-Competition agreements |  | 4.5                               |  | $                   | 9,265  |                         | $ | 8,441      |  | $ | 824   
|Customer relationships     |  | 9.7                               |  |                     | 15,794 |                         |   | 8,882      |  |   | 6,912 
|Contractor network         |  | 7.0                               |  |                     | 5,700  |                         |   | 5,319      |  |   | 381   
|Trademarks and tradenames  |  | 13.7                              |  |                     | 4,342  |                         |   | 256        |  |   | 4,086 
|                           |  |                                   |  |                     |        |                         |   |            |  |   |       
|                           |  |                                   |  | $                   | 35,101 |                         | $ | 22,898     |  | $ | 12,203
|                           |  |                                   |  |                     |        |                         |   |            |  |   |       

The aggregate intangible amortization expense for the six months ended June 30, 2006 and 2005 was
approximately $1,461 and $2,582, respectively. The decrease for the six months ended June 30, 2006 is a result of the intangible asset impairment charge recorded during the fourth quarter of 2005. A further discussion of the intangible asset
charge can be found in Note 3 of the Notes to the Consolidated Financial Statements contained in our 2005 Annual Report on Form 10-K. Assuming no change in the gross carrying amount of intangible assets, the estimated acquired intangible
amortization expense for fiscal year 2006 is $2,641 and for fiscal years 2007 through 2010 is $1,943, $1,644, $1,129 and $1,105, respectively.

Note 9 -
Acquisitions

On January 3, 2006, Medicals Direct Group, the Companys UK subsidiary, purchased Doctors Direct, a primary care
provider located in the U.K. for $1,107 in cash, which included the repayment on the date of acquisition of $574 of loans assumed. The acquisition of Doctors Direct compliments MDGs existing Clinics and Screenings businesses and provides an
entry into the servicing of private patient care.

As of June 30, 2006, the Company was in the process of finalizing the fair value of
certain assets acquired, thus the preliminary allocation of the purchase price may change. The preliminary allocation of the purchase price for this acquisition is set forth below:



|                                          |  |        |       |   |                            |        
|----------------------------------------- |  | ------ | ----- | - | -------------------------- | -------
|                                          |  | Amount |       |   | WeightedAverageUseful Life
|Current assets                            |  | $      | 301   |   |                            |        
|Intangible assets (customer relationship) |  |        | 53    |   |                            | 9 years
|Goodwill                                  |  |        | 1,427 |   |                            |        
|Current liabilities                       |  |        | (674  | ) |                            |        
|                                          |  |        |       |   |                            |        
|Total                                     |  | $      | 1,107 |   |                            |        
|                                          |  |        |       |   |                            |        

The Company recorded goodwill of $1,427 in connection with the acquisition, all of which is
expected to be deductible for tax purposes. The goodwill was allocated to the HID segment.

The acquisition has been accounted for using
the purchase method of accounting and the purchase price has been assigned to the net assets acquired based on the fair value of such assets and liabilities at the date of acquisition. The unaudited consolidated financial statements include the
results of operations from Doctors Direct since the date of acquisition. No pro forma financial information has been presented, as the effect on the Companys 2005 financial statements would not have been material.



15



---

For the six months ended June 30, 2006 and 2005 the Company made the following payments related to prior year
acquisitions:



|                                |  |      |     |     |      |   |       |    
|------------------------------- |  | ---- | --- | --- | ---- | - | ----- | ---
|                                |  | 2006 |     |     | 2005 |  
|D & D Associates                |  |      |     |     |      | $ | 1,550 | (c)
|Michigan Evaluation Group, Inc. |  |      | 500 | (a) |      |   | 300   | (f)
|                                |  |      | 100 | (e) |      |   | 100   | (e)
|                                |  |      | 50  | (c) |      |   |      |    
|Allegiance Health, Inc.         |  |      | 56  | (b) |      |   | 1,000 | (c)
|                                |  |      |    |     |      |   | 427   | (b)
|Medimax, Inc.                   |  |      | 250 | (c) |      |   | 925   | (c)
|Heritage Labs, Inc.             |  |      |     |     |      |   | 1,696 | (d)
|                                |  |      |     |     |      |   |       |    
|Total                           |  | $    | 956 |     |      | $ | 5,998 |    
|                                |  |      |     |     |      |   |       |    

---

|(a)   | Represents additional consideration that was recorded as additional purchase price during the three months ended June 30, 2006 upon the achievement of certain performance
criteria.
|------ | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(b)   | Represents additional purchase price recorded in 2005 to reimburse the seller for certain tax consequences of the acquisition.
|------ | ------------------------------------------------------------------------------------------------------------------------------

|(c)   | Represents additional consideration that was recorded as additional purchase price in 2004 upon the achievement of certain performance criteria.
|------ | ------------------------------------------------------------------------------------------------------------------------------------------------

|(d)   | Represents the payment of seller financed debt which was recorded as additional purchase price in 2003 upon acquisition.
|------ | ------------------------------------------------------------------------------------------------------------------------

|(e)   | Represents the payment of seller financed debt which was recorded as additional purchase price in 2004 upon acquisition.
|------ | ------------------------------------------------------------------------------------------------------------------------

|(f)   | Represents additional consideration that was recorded as additional purchase price in 2005 upon the achievement of certain performance criteria.
|------ | ------------------------------------------------------------------------------------------------------------------------------------------------

Note 10: Operating Segments

The Company has two
reportable operating segments: the Health Information Division (HID) and the Claims Evaluation Division (CED). The HID operating segment includes our core health information operations: Portamedic, Infolink, Heritage Labs, Medicals Direct and
Mid-America Agency Services (MAAS). It provides a full range of paramedical services to the life insurance industry in the U.S. and the United Kingdom. The CED operating segment, which consists of Hooper Evaluations, Inc., provides independent
medical examinations (IME) and case management services primarily for property and casualty insurers and claims handlers.

The
segments accounting policies are the same as those described in Note 1 in the Companys 2005 annual report on Form 10-K, except that interest expense and non-operating income and expenses are not allocated to the individual operating
segment when determining segment profit or loss.

Each of the Companys subsidiaries operates in only one of our two operating
segments. The total assets of each segment are comprised of the assets of the subsidiaries operating in that segment. Corporate related assets, including goodwill, intangible assets and deferred taxes, and corporate related expenses are included in
the Health Information Division.



16



---

A summary of segment information for the three and six month periods ended June 30, 2006 and 2005 is
presented below:



|                        |  |                                           |        |   |                                         |   |        |  |   |        |   |  |     |         |       |  |   |        |  |   |         |  
|----------------------- |  | ----------------------------------------- | ------ | - | --------------------------------------- | - | ------ |  | - | ------ | - |  | --- | ------- | ----- |  | - | ------ |  | - | ------- | -
|                        |  | Three months ended June 30, 2006          |        |   | Six months ended June 30, 2006          |  
|                        |  | HID                                       |        |   | CED                                     |   | Total  |  |   | HID    |   |  | CED |         | Total | 
|Revenue                 |  | $                                         | 67,474 |   |                                         | $ | 8,163  |  | $ | 75,637 |   |  | $   | 136,031 |       |  | $ | 16,407 |  | $ | 152,438 |  
|Operating income (loss) |  |                                           | (1,426 | ) |                                         |   | 544    |  |   | (882   | ) |  |     | (3,745  | )     |  |   | 735    |  |   | (3,011  | )
|                        |  |                                          
|                        |  | Three months ended June 30, 2005 restated |        |   | Six months ended June 30, 2005 restated |  
|                        |  | HID                                       |        |   | CED                                     |   | Total  |  |   | HID    |   |  | CED |         | Total | 
|Revenue                 |  | $                                         | 74,182 |   |                                         | $ | 10,207 |  | $ | 84,389 |   |  | $   | 145,632 |       |  | $ | 20,786 |  | $ | 166,418 |  
|Operating income (loss) |  |                                           | 4,512  |   |                                         |   | 730    |  |   | 5,242  |   |  |     | 7,412   |       |  |   | 1,460  |  |   | 8,872   |  

Note 11: Restructuring and Other Charges

During the three and six month periods ended June 30, 2006 the Company recorded restructuring and other charges totaling $0.5 million and $1.7
million, respectively, which consisted primarily of employee severance, branch office closure costs and legal/audit costs associated with the restatement of the Companys prior years consolidated financial statements (see Note 2).

The restructuring charges totaled $0.5 million and $0.9 million for the three and six month periods ended June 30, 2006, respectively and were recorded as a
result of the ongoing reorganization in the core Portamedic business in the HID segment.

A summary of the first and second quarters of 2006 restructuring
charges and related payments are outlined in the table below:



|                 |  |         |     |          |   |      |                          |  |         |     |          |   |     |                         |   |      |   |  |   |    
|---------------- |  | ------- | --- | -------- | - | ---- | ------------------------ |  | ------- | --- | -------- | - | --- | ----------------------- | - | ---- | - |  | - | ---
|                 |  | Charges |     | Payments |   |      | Balance atMarch 31, 2006 |  | Charges |     | Payments |   |     | Balance atJune 30, 2006
|Severance        |  | $       | 0.3 |          | $ | (0.3 | )                        |  | $       |    |          | $ | 0.2 |                         | $ | (0.2 | ) |  | $ |   
|Lease Obligation |  |         | 0.1 |          |   |     |                          |  |         | 0.1 |          |   | 0.3 |                         |   | (0.2 | ) |  |   | 0.2
|                 |  |         |     |          |   |      |                          |  |         |     |          |   |     |                         |   |      |   |  |   |    
|Total            |  | $       | 0.4 |          | $ | (0.3 | )                        |  | $       | 0.1 |          | $ | 0.5 |                         | $ | (0.4 | ) |  | $ | 0.2
|                 |  |         |     |          |   |      |                          |  |         |     |          |   |     |                         |   |      |   |  |   |    

For the year ended December 31, 2005, the Company recorded restructuring and other charges of $6.6 million,
which included employee severance packages totaling $4.6 million, branch office closure costs of $0.6 million, and the write-off of certain purchased business application software of $1.4 million.

A roll-forward of the December 31, 2005 restructuring liability is outlined in the table below:



|                       |  |                             |     |          |   |      |                          |  |          |     |  |                         |      |   |  |   |    
|---------------------- |  | --------------------------- | --- | -------- | - | ---- | ------------------------ |  | -------- | --- |  | ----------------------- | ---- | - |  | - | ---
|                       |  | Balance atDecember 31, 2005 |     | Payments |   |      | Balance atMarch 31, 2006 |  | Payments |     |  | Balance atJune 30, 2006
|Severance  HID        |  | $                           | 1.8 |          | $ | (0.8 | )                        |  | $        | 1.0 |  | $                       | (0.1 | ) |  | $ | 0.9
|Lease Obligation  CED |  |                             | 0.3 |          |   | (0.3 | )                        |  |          |    |  |                         |     |   |  |   |   
|                       |  |                             |     |          |   |      |                          |  |          |     |  |                         |      |   |  |   |    
|Total                  |  | $                           | 2.1 |          | $ | (1.1 | )                        |  | $        | 1.0 |  |                         | (0.1 | ) |  |   | 0.9
|                       |  |                             |     |          |   |      |                          |  |          |     |  |                         |      |   |  |   |    



17



---

Note 12: Long-Term Debt

On October 29, 1999, the Company entered into a $100.0 million Amended and Restated Revolving Credit and Term Loan Agreement with three banks. The senior credit facility initially consisted of a $65.0 million,
six-year term loan, and a $35.0 million, three-year revolving loan, both unsecured. During 2001, the three-year revolving loan expiration date was extended for one year to October 31, 2003. During 2003, the revolving loan expiration date was
extended for three years to October 31, 2006. As of June 30, 2006 and December 31, 2005, $-0- and $1.0 million were outstanding under the term loan, respectively. The final principal payment under the term loan of $1.0 million was
paid in January 2006; there are no additional borrowings available under the term loan.

Prior to the amendment of the credit agreement in
April 2006 (described below), the revolving loan bore interest at either the prime rate minus 1/2% to plus 1/4% or LIBOR plus 3/4% to 13/4%, depending on the ratio of our consolidated funded
debt, as defined, to earnings before interest, taxes, depreciation and amortization, or EBITDA. As of June 30, 2006 and 2005, interest was payable at effective average annual interest rates of 5.11% and 4.29%, respectively. Also,
commitment fees of up to 0.3% are charged on the unused revolving loan, and the agreement contains certain financial covenants, including covenants related to the incurrence of consolidated net losses, the payment of dividends, fixed charge coverage
and funded debt to EBITDA ratio, and stock re-purchases.

For the year ended December 31, 2005, the Company
was not in compliance with a reporting requirement that required the Company to deliver its 2005 audited consolidated financials statements to the lenders within 100 days of its fiscal year-end. In addition, the Company was not in compliance with
two financial covenants: (i) that the Company will not incur a consolidated net loss in any two fiscal quarters in any twelve consecutive months; and (ii) that the Company will not permit its consolidated fixed charge coverage ratio to be
less than 1.50 to 1.0 for the period ended December 31, 2005. The Company recognized a consolidated net loss for the quarters ended September 30, 2005 and December 31, 2005. At December 31, 2005, the Companys consolidated
fixed charge coverage ratio was 1.10 to 1.00. On April 25, 2006, the Company obtained a waiver of the above-described issues of non-compliance from the lenders.

On April 25, 2006, the Company entered into an amendment to the Amended and Restated Credit Agreement with the lenders. In conjunction with this amendment, one of the lenders withdrew from the credit facility.
The significant terms of this amendment are as follows:



| | i) | the maximum available revolving credit amount was reduced from $35.0 million to $15.0 million;
| | -- | ----------------------------------------------------------------------------------------------



| | ii) | the expiration date of the revolving loan was extended from October 31, 2006 to January 2, 2007;
| | --- | ------------------------------------------------------------------------------------------------



| | iii) | indebtedness incurred under the revolving loan will bear interest at either the prime rate plus 0.25% or LIBOR plus 1.50% and commitment fees of up to 0.25% are charged on the
unused portion of the facility;
| | ---- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | iv) | the Companys consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, $0.8 million for June and July 2006, and $0.9 million in the months
thereafter;
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | v) | the consolidated fixed charge coverage ratio cannot be less than 0.65 to 1.00 for the quarter ended March 31, 2006, 1.20 to 1.00 for the quarter ending June 30, 2006 and
1.50 to 1.00 for each quarter thereafter, measured on an actual year-to-date basis;
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



18



---

| | vi) | the consolidated funded debt to EBITDA ratio cannot exceed 2.50 to 1.00 at any time, measured on a quarterly basis and year-to-date cumulatively for 2006;
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------



| | vii) | the Company cannot convey, lease, sell, transfer or assign any assets or properties owned or later acquired except in the ordinary course of business;
| | ---- | ------------------------------------------------------------------------------------------------------------------------------------------------------



| | viii) | the Company cannot declare or make any dividend payments or other distribution of assets;
| | ----- | -----------------------------------------------------------------------------------------



| | ix) | the Company cannot purchase, redeem or otherwise acquire the value of any share of any class of stock of the Company; and
| | --- | -------------------------------------------------------------------------------------------------------------------------



| | x) | the Company cannot make loans or advances to any subsidiary or affiliate of the Company unless the subsidiary is a guarantor of the obligations under the agreement, and if not,
advances or loans cannot exceed $0.5 million.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

To secure the Companys obligations under the credit facility, as
amended, the Company granted to the lenders a security interest in and lien upon all property and assets of the Company and its domestic subsidiaries under the terms of a security agreement.

The Company paid a waiver and modification fee of $0.1 million in connection with the amendment and the waiver.

As of June 30, 2006, and as of the date of filing this Form 10-Q, the Company has no debt outstanding under its revolving credit facility.

Under the terms of the Companys Amended and Restated Credit Agreement, as amended on April 25, 2006, the Companys
consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, and $0.8 million for June and July 2006, and $0.9 million in the months thereafter. For April, May and June 2006, the Company was not in compliance with the
monthly consolidated pre-tax income requirement. Additionally, the Company was not in compliance with the consolidated fixed charge coverage ratio as of June 30, 2006. Accordingly, the Company requested a waiver from its lenders of such
violations and anticipated future violations of certain financial covenants. This resulted in the Companys agreeing to the terms of a Notice of Default, Reservation of Rights and Amendatory Letter (Amended and Restated) dated July 31,
2006, provided by Wachovia Bank, National Association, as agent and lender under the credit agreement. Under the terms of the letter, the Company and the lenders have agreed to the following:



| | (1) | During the period from July 13, 2006 to October 10, 2006 (referred to in the letter as the Forbearance Period) (a) the maximum amount the Company may
borrow under the revolving credit facility provided under the credit agreement is reduced to $3.0 million from $15.0 million, and (b) the aggregate amount of all loans or advances to any subsidiary or affiliate of the Company under the credit
agreement is increased from $0.5 million to $1.5 million. These revised terms are to apply to the revolving credit facility during the Forbearance Period unless the lenders provide the Company with written notice stating that these terms shall no
longer apply.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Although the lenders are not granting a waiver of the covenant violations, they have agreed to forbear from terminating the credit commitments under the credit agreement, declaring
all credit obligations immediately due and payable, and exercising their rights and remedies under the credit agreement, until the earlier of (i) the expiration of the Forbearance Period, or the occurrence of an event of default under the
credit agreement other than the actual or anticipated violations of the financial covenants for which the Company sought a waiver.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



19



---

The Company is currently reviewing alternative long-term financing options to replace its existing
revolving credit facility. If alternative financing options can be arranged, such financing may entail a lower amount of permitted borrowings, higher interest rates or more restrictive covenants than under the terms of our existing credit agreement.

Note 13: Commitments and Contingencies

A life insurance company client has informed the Company that, after investigation, it has determined that certain life insurance policies that it issued were procured by fraudulent means employed by insurance applicants, the clients
agents, the Companys sub-contracted examiners and others. No claim has been asserted against the Company by the client, nor has the client produced any evidence pertaining to the matter. The service agreement between the Company and client
contains certain indemnification provisions which may be applicable. While the Company believes that it is probable that the client will assert a claim against it for partial indemnification, it also believes that it has meritorious defenses to any
such claim. The amount of the unasserted claim cannot be reasonably estimated by the Company at this time.

On January 25, 2005,
Sylvia Gayed, one of the Companys paramedical examiners in California, filed a lawsuit against the Company in the Superior Court of California, Los Angeles County, alleging violations of Californias wage and hour laws. The complaint
alleges that the Company failed to pay overtime wages, provide meal and rest periods and reimbursement for expenses incurred in performing examinations. The plaintiff is attempting to have the lawsuit certified as a class action on behalf of other
examiners who perform similar work for the Company in California. We currently employ approximately 450 examiners in California and have employed in excess of 1,200 examiners in California over the past 48 months. The Company believes that it has
properly paid its California examiners for overtime worked and intends to provide a vigorous defense to this litigation. However, we cannot predict the outcome of this lawsuit.

The Company is a party to a number of legal actions arising in the ordinary course of its business. In the opinion of management, the Company has
substantial legal defenses and/or insurance coverage with respect to all of its pending legal actions. Accordingly, none of these actions is expected to have a material adverse effect on the Companys liquidity, its consolidated results of
operations or its consolidated financial position.

Note 14: Recently Announced Accounting Pronouncements

In June 2006, the FASB issued FASB Interpretation No. 48, (Accounting for Uncertainty in Income Taxes. The Interpretation clarifies the accounting for
uncertainty in income taxes recognized in a companys financial statements in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes. The Interpretation prescribes a recognition
threshold and a measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The Interpretation also provides guidance on the related de-recognition, classification,
interest and penalties, accounting for interim periods, disclosure and transition of uncertain tax positions. The Interpretation is effective for fiscal years beginning after December 15, 2006, with the cumulative effect of the change in
accounting principle recorded as an adjustment to opening retained earnings. We are evaluating the impact of this new pronouncement on our consolidated financial statements.



20



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ITEM 2 Managements Discussion and Analysis of Financial Condition and Results of Operations

Cautionary
Statement Regarding Forward-Looking Statements

This quarterly report on Form 10-Q contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act of 1995. We intend that such forward-looking statements be subject to the
safe harbors created by this legislation.

In some cases, you can identify forward-looking statements by our use of terms such as
anticipate, believe, continue, could, should, estimate, expect, forecast, intend, goal, may, will,
plan, seek and variations of these words or similar expressions.

Forward-looking statements are based on
managements current assumptions, estimates and expectations of future events. We cannot guarantee that these assumptions and estimates are accurate or that the expectations will be realized. All of these forward-looking statements are subject
to risks and uncertainties. Some of the factors that could cause our actual results to differ materially from those projected in any such forward-looking statements include, without limitation:



| |  |  | our ability to implement the strategic plans being formulated in connection with our new management teams on-going strategic review of all aspects of the Companys
operations;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to effect several expense management initiatives, including (i) aligning our costs with existing levels of revenues, (ii) making better use of our assets,
particularly our branch offices and branch office personnel within our Portamedic paramedical examination business, and (iii) generating cost efficiencies through an enhanced information technology platform;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our meeting or exceeding our customers expectations with respect to the quality and timeliness of our services on a consistent basis;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to enhance and expand our technology and network infrastructure;
| | - |  | ----------------------------------------------------------------------------



| |  |  | our ability to finance our operations; and
| | - |  | ------------------------------------------



| |  |  | our ability to anticipate key trends and developments affecting our businesses, and proactively position ourselves to seize opportunities presented by these trends and developments.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to remediate the material weaknesses discussed in Item 4 contained in this report.
| | - |  | ----------------------------------------------------------------------------------------------

Our 2005 annual report on Form 10-K should be read in conjunction with this quarterly report on Form 10-Q. The section of the annual report and our quarterly report on Form 10-Q for the quarterly period ended
March 31, 2006 under the caption Risk Factors addresses some of the important risk factors that are affecting or may affect our business, results of operations and financial condition. See also the updating of our risk factor
disclosure in Part II, Item 1A of our Form 10-Q for the first quarter of 2006 and this Form 10-Q. These risk factors are not necessarily all of the factors that could cause actual results to differ materially from those expressed in any of our
forward-looking statements. Other unknown or unpredictable factors not identified could also have material adverse effects on our future results.

The forward-looking statements included in this quarterly report are made as of the date of this report. Other than as required by law, we expressly disclaim any intent or obligation to update any forward-looking statements to reflect
events or circumstances that subsequently occur or of which we hereafter become aware. Unless otherwise indicated, all references to the second quarter reflect our fiscal quarter that ends June 30, and all reference to the six months ended
reflect the six month period ended June 30.



21



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Restatement of Prior Period Financial Statements

As previously reported in the Companys 2005 annual report on Form 10-K, the Company restated its previously filed consolidated financial statements
for the year ended December 31, 2004 (and the four quarterly periods of 2004), and the first three quarterly periods of 2005. For more information on the nature and effects of the restatement, see Note 2 to the interim unaudited consolidated
financial statements included in this Form 10-Q. The information reflected in the discussion of our Results of Operations and Liquidity and Capital Resources that follows reflects the restated amounts with respect to the
prior period.

The restatement of our prior period financial statements was the principal cause of filing our 2005 Form 10-K with the SEC
in early May 2006, after the deadline for such filing to be timely. The delay in filing the Form 10-K, in turn, contributed to our inability to file in a timely manner our quarterly report on Form 10-Q for the quarterly period ended March 31,
2006. We filed the Form 10-Q on June 30, 2006. The non-timely filing of our 2005 Form 10-K and the first quarter 2006 Form 10-Q prompted the American Stock Exchange (Amex) in each case to notify us that we were not in compliance with the Amex
continued listing standards. However, upon filing the first quarter 2006 Form 10-Q the Company regained full compliance with the Amex continued listing standards.

Overview

Business Description

Hooper Holmes, Inc. and its subsidiaries currently engage in businesses that are managed as two separate divisions: the Health Information Division and the Claims Evaluation Division.

Our Health Information Division (HID) provides medical-related risk assessment information to life and health insurance carriers, information that
is integral to such carriers underwriting decisions. These services include:



| |  |  | arranging paramedical and medical examinations of individual insurance policy applicants - mainly life insurance policy applicants - throughout the United States (under the
Portamedic brand name) and in the United Kingdom (under the Medicals Direct brand name);
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | performing telephone interviews of applicants and collecting applicants medical records;
| | - |  | -----------------------------------------------------------------------------------------



| |  |  | testing the blood, urine and other specimens obtained in connection with a portion of the paramedical examinations we coordinate, as well as specimens provided by third-party health
information service providers; and
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | underwriting life insurance policies on an outsourced basis for life insurance companies.
| | - |  | -----------------------------------------------------------------------------------------

Our Health Information Division accounted for 89.2% and 87.9% of our total revenues in the second quarter of 2006 and 2005, respectively. Our core
Portamedic paramedical examination business accounted for 60.2% of our HID revenue and 53.7% of our total revenue in the second quarter of 2006 and 60.5% of our HID revenue and 53.2% of our total revenues in the second quarter of 2005. For the six
month periods ended June 30, 2006 and 2005, HID accounted for 89.2% and 87.5% of our total



22



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revenues, respectively. Our Portamedic paramedical examination business accounted for 61.1% of our HID revenue and 54.6%
of our total revenue in the first half of 2006 and 61.7% of our HID revenue and 54.0% of our total revenue in the first half of 2005.

Our
Claims Evaluation Division (CED) provides medical claims evaluation services to property and casualty (P&C) insurance carriers, law firms, self-insureds and third party administrators for use in processing personal injury accident claims.
The core activity of this business consists of arranging for independent medical exams (IMEs). An IME is a medical examination by a doctor (other than a claimants physician) for purposes of rendering an objective opinion regarding the nature,
origin, treatment and causal relationship of an injury, typically to establish whether the claimant needs further treatment or is disabled, or to determine what medical expenses are eligible for payment or reimbursement. We provide our claims
evaluation services in connection with automobile (particularly no-fault), liability, disability and workers compensation claims.

Our Claims Evaluation Division accounted for 10.8% of our total revenues in each of the three months and six month periods ended June 30, 2006, compared to 12.1% and 12.5% in the three months and six month periods ended June 30,
2005.

Status of Our Bottom-Up Review of Our Business Operations and Turnaround Program

In the first quarter of 2006, our new management team, under the leadership of our new chief executive officer, initiated a front to back office review of
all aspects of the Companys business. The review, which is expected to be completed in September 2006, continues, to prove helpful to our new management team in assessing our organizational strengths and challenges and in plotting our future
course of action. We presented a synopsis of our managements assessment of those organizational strengths and challenges in our 2005 annual report on Form 10-K. See Item 1 BusinessStrategy of the Form 10-K for further
information.

Our operating results for the three and six month periods ended June 30, 2006 reflect a continuation of the negative
trends we have identified in previous periodic reports , particularly with respect to our core Portamedic business. The decline in certain of our businesses has prompted managements formulation of what is envisioned as a two-year turnaround
program. Management anticipates that the Company will pursue the financial and other goals of this program in three phases:

Phase 1 -
Expense Management

Phase 2 - Revenue Enhancement

Phase 3 - Growth Investment

As we disclosed in our 2005 annual report on Form 10-K, we envision the Phase 1
activity will be completed within an eight-month period, Phase 2 in the following eight months and Phase 3 thereafter. We began Phase 1 in April 2006.

Expense Management

The focus of the first phase of the program is expense management. Key components
of Phase 1 include:



| |  |  | aligning our costs with existing (and for some of our businesses, declining) levels of revenues to restore operating margins;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------



23



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| |  |  | making better use of our assets, particularly our Portamedic branch offices and branch office personnel;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | completing the integration of operations of the acquired companies that comprise our Claims Evaluation Division to reduce overhead expenses;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | enhancing our operational controls on a Company-wide basis;
| | - |  | -----------------------------------------------------------



| |  |  | enhancing the Companys information technology platform to generate cost efficiencies; and
| | - |  | ------------------------------------------------------------------------------------------



| |  |  | consolidating regional service centers into a national service center.
| | - |  | ----------------------------------------------------------------------

The discussion of our operating results for the three and six month periods ended June 30, 2006 that follows (see Results of Operations) reveals that in both of our divisions revenues have declined
relative to the corresponding period of the prior year, while costs of operations and/or selling, general and administrative expenses (SG&A) as a percentage of revenues have increased. We completed several actions during the second quarter to
address this situation, including:



| |  |  | effecting a reduction in force of approximately 100 people, most of whom were in the Portamedic business. This was achieved, in part, through a delayering of one level of management
within Portamedic.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | closing seven of our Portamedic branch offices in April and May, 2006. These offices were located in relatively close proximity to other branch offices, such that we anticipate we
will experience minimal loss of paramedical exam volumes.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | completing the integration of operations of the acquired companies that comprise our Claims Evaluation Division to reduce overhead expenses.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | putting in effect certain cost-control measures (e.g., with respect to hiring, business travel).
| | - |  | ------------------------------------------------------------------------------------------------

We anticipate that the above-described measures will result in annualized cost savings of approximately $4.7 million. This amount will be partially
offset by the increased costs associated with increased staffing, particularly in our Infolink business (where we have experienced increased volumes of tele-interviews and orders for attending physician statements), which we anticipate to be
approximately $1.8 million on an annualized basis. We recorded restructuring charges of $0.5 million and $0.9 million for the three and six month periods ended June 30, 2006, respectively, in connection with the above listed cost savings
measures, such costs consisting primarily of employee severance and branch office closure costs. As we continue to implement our expense management initiatives, we anticipate additional restructuring changes in the third and/or fourth quarters of
2006.

We have retained EHS Partners, a management consulting firm, to assist in the identification of additional ways we can extract cost
savings within the organization. EHS Partners has an established track record in helping companies implement balanced revenue growth and cost cutting initiatives. EHS will be paid on a fee for success basis. These expense management efforts are
on-going.



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Revenue Enhancement

The focus of Phase 2 of the turnaround program will be revenue enhancement. The steps to be taken during this phase will be tailored to each of our two divisions.

In our Health Information Division, we must address the factors that have contributed to the decline in volumes, average revenue per paramedical exam and
operating margins we have experienced in our Portamedic business since 2003. In our prior periodic reports, we have identified what we perceive to be the more significant challenges facing this business, including:



| |  |  | the continuing decline in life insurance application activity in the United States, which we believe is reflective of the reported shift in consumers preferences away from
individual life insurance and toward accumulation and investments products, such as annuities and mutual funds, as well as the reported drop-off in the number of insurance agents selling life insurance; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the downward pricing pressure from our life insurance carrier customers, as well as our principal competitors.
| | - |  | --------------------------------------------------------------------------------------------------------------

Our management has little or no control over these external forces and developments. But there are a number of areas that we do have control over that
our management believes can be addressed and, if we are successful in doing so, should contribute to a reversal of the downward trend in Portamedics revenues and profitability.

Portamedics customers, consisting of insurance carriers, their agents, independent brokers and those entities that sell life and health insurance
through what we refer to as the alternative distribution channel (i.e., direct mail, telephone and the Internet) all seek the delivery of paramedical examination and ancillary medical informational gathering services that are characterized by
consistently high quality and speed. Both are critical to the underwriting process. If we are able to deliver on these two key parameters in a manner that is superior to our competitors, we expect to generate increased volumes notwithstanding the
decline in the overall market for medical-related risk assessment information services.

We also continue to focus on another key area: our
network of paramedical examiners. In general, paramedical examiners seek to maximize their income during the hours they provide their services. Factors that have a direct effect on their incomes include their order volume, ability to schedule
paramedical exams in a time-efficient manner, the length of the exam (which can depend on whether certain medical information has been gathered in advance of the exam through, for example, a tele-interview with the insurance applicant, and whether
the examiner is asked to obtain the applicants signature on various insurance forms), the distance between the locations where appointments are scheduled, and the fee arrangements with the coordinating company. To ensure that we work with our
paramedical examiners in a manner that is mutually beneficial, we are focused on the following areas:



| |  |  | Generate new business at the local level. While we have national contracts with a number of the leading insurance carriers, the majority of our Portamedic business is
generated locally  through our branch offices and the local insurance agents and brokers they serve. We will communicate closely with these customers and ensure we are satisfying their needs.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



25



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| |  |  | Enhance customers awareness of our one-stop shopping capabilities. We will increase our customers awareness of our ability to provide them with the complete
portfolio of medical-related risk assessment information services. In other words, we will do a more effective job of cross-selling our services.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Our management believes we have the resources and organizational strengths to more effectively further the interests and objectives of both our customers and our network of paramedical examiners. Upon doing so, we
anticipate that we will be able to grow our Portamedic revenues and improve the businesss operating margins. Although this process is part of Phase 2 of the turnaround program, our management has already begun to take certain steps to achieve
these objectives, such as the institution of a commission-based compensation system among sales personnel. In addition, at the end of June 2006, we hired a new Chief Marketing Officer, who is expected to be an integral part of our revenue
development and enhancement programs.

Claims Evaluation Division

As we have disclosed in prior period reports, our management perceives that the outsourced medical claims management market in the United States, including the market for our claims evaluation services (e.g.,
independent medical exams and peer reviews), may be contracting. Property and casualty insurance is largely regulated on a state level. Most of the demand for our claims evaluation services is a function of the insurers efforts to evaluate
claims and properly manage claim costs. Several states, including New York (where a significant portion of the CEDs revenues have been derived since the Company entered this business in 2002), have proposed or adopted reforms to manage claim
costs and more effectively combat fraud. While the Company is uncertain of the effect such reforms have had in combating fraud and lowering claims costs, our Claims Evaluation Division has observed a decline in the number of claims for which its
customers are seeking the divisions services, specifically with automobile insurance claims.

The CED has also experienced a drop-off
in the number of IMEs and peer reviews being performed per claim. We believe that the decreased use of IMEs and peer reviews may be attributable to insurers greater cost consciousness and their perception of the limited value of peer reviews
based on unfavorable experiences in litigating insurance claims.

Despite the above described market conditions, our management believes
there is growth potential in this business. The claims evaluation services market in the New York Tri-state area is still a fairly diffuse market. There are over 100 other IME providers serving the Tri-state area, many of which are small operations.
There is potential to obtain additional business from existing property and casualty insurers and the business of new clients in this market. To realize this potential will require more concerted sales efforts, as well as enhanced customer service
and turnaround times, the keys to customer satisfaction in this business.



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Results of Operations

Comparative Discussion and Analysis of Results of Operations for the three and six months ended June 30, 2006 and June 30, 2005, respectively.

The table below sets forth the Companys revenues by division and, in the case of HID, by component business for the periods indicated. Dollar
amounts (other than share and per share figures) contained in the narrative discussion are in thousands, unless otherwise noted.



|                            |  |                             |        |                |                           |         |  |       |      |  |                |         |         |   |         |  |       |  
|--------------------------- |  | --------------------------- | ------ | -------------- | ------------------------- | ------- |  | ----- | ---- |  | -------------- | ------- | ------- | - | ------- |  | ----- | -
|                            |  | Three months ended June 30, |        |                | Six months ended June 30, |        
|                            |  | 2006                        |        | 2005(Restated) |                           | %Change |  |       | 2006 |  | 2005(Restated) |         | %Change |  
|HID                         |  |                             |        |                |                           |         |  |       |      |  |                |         |         |   |         |  |       |  
|Portamedic                  |  | $                           | 40,622 |                | $                         | 44,897  |  | -9.5  | %    |  | $              | 83,235  |         | $ | 89,917  |  | -7.4  | %
|Infolink                    |  |                             | 8,796  |                |                           | 8,101   |  | 8.6   | %    |  |                | 16,835  |         |   | 15,084  |  | 11.6  | %
|Medicals Direct Group (MDG) |  |                             | 9,543  |                |                           | 11,238  |  | -15.1 | %    |  |                | 19,071  |         |   | 21,728  |  | -12.2 | %
|Other                       |  |                             | 8,513  |                |                           | 9,946   |  | -14.4 | %    |  |                | 16,890  |         |   | 18,903  |  | -10.6 | %
|                            |  |                             |        |                |                           |         |  |       |      |  |                |         |         |   |         |  |       |  
|Total HID                   |  |                             | 67,474 |                |                           | 74,182  |  | -9.0  | %    |  |                | 136,031 |         |   | 145,632 |  | -6.6  | %
|CED                         |  |                             | 8,163  |                |                           | 10,207  |  | -20.0 | %    |  |                | 16,407  |         |   | 20,786  |  | -21.1 | %
|                            |  |                             |        |                |                           |         |  |       |      |  |                |         |         |   |         |  |       |  
|Total                       |  | $                           | 75,637 |                |                           | 84,389  |  | -10.4 | %    |  | $              | 152,438 |         | $ | 166,418 |  | -8.4  | %
|                            |  |                             |        |                |                           |         |  |       |      |  |                |         |         |   |         |  |       |  

Revenues

Consolidated revenues for the three month period ended June 30, 2006 were $75,637, a decline of 10.4% from the corresponding period of the prior year. For the six month period ended June 30, 2006, our
consolidated revenues were $152,438 compared with $166,418 in the corresponding period of the prior year, a decrease of $13,980 or 8.4%. As explained in greater detail below, the revenues of each of our two divisions were lower than the three and
six month periods ended June 30, 2005.

Health Information Division

Our Health Information Divisions (HID) revenues of $67,474 in the second quarter of 2006 were $6,708 lower (9%) than in the second quarter of
2005. For the six month period ended June 30, 2006, our HID revenues were $136,031 compared to $145,632 in the same period of prior year, a decrease of $9,601 or 6.6%.

Portamedic

The decline in revenues
of our Portamedic business (9.5% in the second quarter of 2006 and 7.4%



27



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in the six month period ended June 30, 2006) has been the primary reason for the decline in HID revenues. The
decline in Portamedic revenues in the three and six month periods ended June 30, 2006 reflected a combination of:



| |  |  | fewer paramedical examinations performed in the second quarter (580,000 in 2006 vs. 643,000 in 2005) and in the six month period ended June 30, ( 1,188,000 in 2006 vs.
1,283,000 in 2005); and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | lower average revenue per paramedical examination in the second quarter ($72.38 in 2006 vs. $73.62 in 2005) and in the six month period ended June 30, ($71.93 in 2006 vs.
$73.64 in 2005).
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We attribute a portion of the reduction in the number of paramedical examinations performed in the second
quarter and six month period ended June 30, 2006 to a decline in life insurance application activity in the United States and therefore the need for fewer paramedical examinations. In addition, the reduction in revenue reflects the continuing
effect of the loss of a significant customer which began in the first quarter of 2005, and accounted for approximately 1.1% and 1.6% of the HIDs revenues in the second quarter and first half of 2005. Looking ahead, we anticipate that
arrangements we entered into in the second quarter of 2006 with two insurers and a large brokerage firm will result in our arranging for paramedical examinations and conducting tele-interviews for these customers beginning in the third quarter of
2006. This new business, along with other initiatives currently underway to enhance revenues, are expected to increase future volume.

We
attribute the decline in Portamedics average revenue per paramedical examination to downward pricing pressure from our life insurance customers.

Infolink

As reflected in the table above, our Infolink business (APS retrieval and
tele-interviewing) continues to grow, with revenue increasing 8.6% to $8,796 in the second quarter of 2006 vs. $8,101 in the same period of the prior year. For the six month period ended June 30, 2006 Infolink revenues grew by 11.6% ($16,835
vs. $15,084 in the corresponding period of the prior year). The increase reflects the greater number of tele-interviewing reports generated for an increasing number of customers.

Tele-interviewing has become an increasingly accepted practice, particularly by insurance carriers, because of the time and cost advantages. For several
reasons, we do not perceive that the growth of tele-interviewing will adversely affect our paramedical examination business. First, for life insurance policies for which insurance carriers insist upon medical-related information as part of the
underwriting process, we see no signs of carriers relaxing their underwriting requirements with respect to the gathering of medical information through a paramedical exam, including fluid specimens. Second, the vast majority of such policies are now
subject to re-insurance arrangements. In general, re-insurers insist upon more stringent underwriting requirements than the primary insurers.

We believe the consolidation of our APS retrieval service centers into our operations center in Kansas City will continue to benefit our customers, by providing improved quality and service time.



28



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Medicals Direct Group

Medicals Direct Groups second quarter 2006 revenues were down $1,695 or 15.1%, compared to same period of the prior year. Of this amount,
approximately $147 was due to the change in the Pound Sterling/U.S.$ average exchange rate and approximately $1,548 (or 13.8%) represents a decline in MDGs revenues. For the six month period ended June 30, 2006 revenues declined to
$19,071 compared to $21,728 for the same period in the prior year, a decline of 12.2%. The impact of the change in the Pound Sterling/U.S. $ average exchange rate for the six month period ended June 30, 2006 accounted for a decline in revenues
of $883 (or 4.0%). Approximately $1,774 (or 8.2%) is as a result of a decline in MDGs revenues. The decline in MDGs revenues (excluding the foreign exchange impact) for the second quarter is primarily attributable to a decrease in the
outsourced underwriting business of $1,044 or 45.7% and a decrease in MDGs medical screenings business of $660 or 8.5%, partially offset by incremental business generated from the Doctors Direct acquisition of $385. The revenue decline
(excluding the foreign exchange impact) in the six month period ended June 30, 2006 is primarily attributable to a decrease in the outsourced underwriting business of $1,190 or 29.1% and a decrease in MDGs medical screenings business of
$749 or 5.0%, partially offset by the incremental business of Doctors Direct of $783.

The outsourced underwriting business represents approximately
12.0 % of MDGs total revenue both in the second quarter and the six month period ended June 30, 2006. Two of MDGs underwriting clients terminated their contracts in the first quarter of 2006 and one client anticipates
terminating its contract in the third quarter. A fourth client has significantly reduced its use of MDGs outsourced underwriting services as a result of declining life insurance policy sales and therefore, the need for MDGs services,
partially attributable to the decline in the U.K. housing market, among other factors, which is a key driver in purchasing life insurance policies in the UK.

MDG derives a significant portion of its revenues (73.6%) and (72.7%) in the second quarter and first half of 2006 from its screenings business (nurses and physicians medical exams). Revenues from this
business decreased by 8.5% in the second quarter of 2006 and 5.0% in the six month period ended June 30, 2006 primarily due to volume reductions by two customers.

In January 2006, MDG acquired Doctors Direct, a primary care provider located in the U.K., which services private patients who cannot use the national healthcare system, such as tourists and other private patients,
for approximately $1,107 in cash. Doctors Direct contributed $385 and $783 to MDGs revenues for the three and six month periods ended June 30, 2006.

Other

Our remaining HID revenues consist principally of the revenues derived by Heritage Labs and
Mid-America Agency Services (MAAS), our outsourced underwriting business in the U.S.

Heritage Labs revenues in the second quarter of
2006 were $4,512, a decline of $770 or 14.6%. For the six month period ended June 30, 2006, Heritage Labs revenues were $9,273 compared to $10,130 for the same period of the prior year, a decline of $857 or 8.5%. Heritage Labs tested
fewer specimens (209,000 vs. 238,000) in the second quarter of 2006 compared to the corresponding period of the prior year, and (434,000 vs. 458,000) in the first six months of 2006 and 2005, respectively.



29



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Heritages average revenue per specimen tested was higher in the second quarter and first half of 2006 ($14.56 vs.
$13.79) and ($14.46 vs. $14.00), respectively. Additionally, revenue generated from the sale of specimen testing kits decreased approximately $495 during the second quarter of 2006. This decrease is due to reduced demand for DNA testing kits and
reduced demand for Heritage specimen kits. The reduced demand for Heritage specimen kits is primarily attributable to the loss of a client as a result of that client being acquired by another insurance company, who is not a customer of Heritage.

MAASs revenues of $4,001 in the second quarter of 2006 were down $663 or 14.2% compared to the second quarter of 2005. For the six
month period ended June 30, 2006 revenues were down $1,156 or 13.2%. The reduction was primarily due to significantly lower life insurance applications.

Claims Evaluation Division

Our Claims Evaluation Division (CED) now operates under the name of
Hooper Evaluations, Inc. following the merger into Hooper Evaluations, Inc. of the four companies (i.e., D&D Associates, Medimax, Allegiance Health and Michigan Evaluation Group) we acquired between November 2002 and May 2004. The merger was
effected in February 2006.

Our Claims Evaluation Divisions revenues in the second quarter of 2006 were $8,163, down $2,044 (or
20.0%) compared to the second quarter of 2005. For the six month period ended June 30, 2006 revenues were $16,407, down $4,379 (or 21.1%) compared to the same period in the prior year. The decline is primarily attributable to the following:



| |  |  | a reduction in peer reviews, which we believe reflects increased cost consciousness on the part of property and casualty insurance carriers, self-insured and third-party
administrators and the perception that such reviews have been of limited value in litigating claims; and
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a decrease in the number of claims referred to the division by its customer base.
| | - |  | ---------------------------------------------------------------------------------

As discussed in the Overview above, our management perceives that the outsourced medical claims management market in the United States, including the market for the CEDs claims evaluation services, may be
contracting. However, the drop-off in the number of claims referred to the division in the second quarter and first six months of 2006 may be attributable to our customers losing market share to their competitors who are currently not customers of
the division, rather than an overall reduction in claims in the geographic markets we serve, most notably New York. The Company does not feel there is an overall reduction in claims in the geographic markets we serve. In that regard, the CED is
aware that certain P&C insurers have been experiencing increased claims activity. This reinforces the need for the CED to pursue the business of new clients. As a result, the Company has recently hired additional sales resources to address this
need.

Cost of Operations

Our
total cost of operations amounted to $56,864 in second quarter of 2006, compared to $60,689 for the second quarter of 2005. For the six months ended June 30, 2006, total cost of operations was $115,172 compared to $119,561 The following table
shows the cost of operations as a percentage of



30



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revenues (and, in the case of the HID, further broken down by certain of its component businesses) for the quarterly
periods ended June 30, 2006 and 2005, respectively and for the six month periods ended June 30, 2006 and 2005 respectively.



|                    |  |                             |        |                 |                           |   |                |   |                 |  |      |      |  |                 |         |  |                |   |                 |   |         |  |      |  
|------------------- |  | --------------------------- | ------ | --------------- | ------------------------- | - | -------------- | - | --------------- |  | ---- | ---- |  | --------------- | ------- |  | -------------- | - | --------------- | - | ------- |  | ---- | -
|                    |  | Three months ended June 30, |        |                 | Six months ended June 30, |  
|(in thousands)      |  | 2006                        |        | As % ofRevenues |                           |   | 2005(Restated) |   | As % ofRevenues |  |      | 2006 |  | As % ofRevenues |         |  | 2005(Restated) |   | As % ofRevenues |  
|HID                 |  |                             |        |                 |                           |   |                |   |                 |  |      |      |  |                 |         |  |                |   |                 |   |         |  |      |  
|Portamedic/Infolink |  | $                           | 39,072 |                 | 79.1                      | % |                | $ | 39,645          |  | 74.8 | %    |  | $               | 79,362  |  | 79.3           | % |                 | $ | 77,815  |  | 74.1 | %
|Medicals Direct     |  |                             | 7,217  |                 | 75.6                      | % |                |   | 8,356           |  | 74.4 | %    |  |                 | 14,414  |  | 75.6           | % |                 |   | 16,347  |  | 75.2 | %
|Other               |  |                             | 4,878  |                 | 57.3                      | % |                |   | 5,565           |  | 55.9 | %    |  |                 | 9,660   |  | 57.2           | % |                 |   | 10,890  |  | 57.6 | %
|                    |  |                             |        |                 |                           |   |                |   |                 |  |      |      |  |                 |         |  |                |   |                 |   |         |  |      |  
|Total HID           |  |                             | 51,167 |                 | 75.8                      | % |                |   | 53,566          |  | 72.2 | %    |  |                 | 103,435 |  | 76.0           | % |                 |   | 105,052 |  | 72.1 | %
|CED                 |  |                             | 5,697  |                 | 69.8                      | % |                |   | 7,123           |  | 69.8 | %    |  |                 | 11,736  |  | 71.5           | % |                 |   | 14,510  |  | 69.8 | %
|                    |  |                             |        |                 |                           |   |                |   |                 |  |      |      |  |                 |         |  |                |   |                 |   |         |  |      |  
|Total               |  | $                           | 56,864 |                 | 75.2                      | % |                | $ | 60,689          |  | 71.9 | %    |  | $               | 115,172 |  | 75.6           | % |                 | $ | 119,561 |  | 71.8 | %
|                    |  |                             |        |                 |                           |   |                |   |                 |  |      |      |  |                 |         |  |                |   |                 |   |         |  |      |  

Health Information Division

Cost of operations for the Health Information Division was $51,167 in second quarter of 2006, compared to $53,566 in the second quarter of 2005. As a
percentage of revenues, cost of operations increased to 75.8% in the second quarter of 2006, compared to 72.2% in the second quarter of 2005. The HIDs cost of operations for the six month period ended June 30, 2006 was $103,435 compared
to $105,052 for the same period in the prior year. As a percentage of revenues, cost of operations increased to 76.0% compared to 72.1% for the same period in the prior year. The increase in the cost of operations as a percentage of the revenues in
second quarter and first six months of 2006 was primarily attributable to:



| |  |  | the decline in revenues derived from our Portamedic, Medicals Direct and MAAS businesses, without a corresponding adjustment to the applicable cost structures; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | higher fees paid to contract paramedical examiners, reflecting the Companys efforts to retain and recruit qualified examiners.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------

Claims Evaluation Division

In the second quarter of
2006, the CEDs cost of operations totaled $5,697, compared to $7,123 in the second quarter of 2005. As a percentage of revenues, cost of operations represented 69.8% for both periods. For the six month period ended June 30, 2006, the
CEDs cost of operations was $11,736 compared to $14,510 for the same period in the prior year. As a percentage of revenues, cost of operations represented 71.5% and 69.8% in the first six months of 2006 and 2005, respectively. The increase in
the first six months of 2006 was primarily attributable to:



| |  |  | lower revenue levels, particularly in the State of New York; and
| | - |  | ----------------------------------------------------------------



| |  |  | higher costs associated with administering claims from Michigan and our upper New York State office requiring services to be performed in areas where the CEDs physician panels
are not as extensive and/or concentrated as in the CEDs principal geographic markets (which, in general, implies higher costs per evaluation).
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



31



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Selling, General and Administrative Expenses (Including Restructuring and Other Charges)



|               |  |                             |        |              |                           |   |      |   |              |  |      |      |  |              |        |  |      |   |              |   |        |  |      |  
|-------------- |  | --------------------------- | ------ | ------------ | ------------------------- | - | ---- | - | ------------ |  | ---- | ---- |  | ------------ | ------ |  | ---- | - | ------------ | - | ------ |  | ---- | -
|               |  | Three months ended June 30, |        |              | Six months ended June 30, |  
|(in thousands) |  | 2006                        |        | % ofrevenues |                           |   | 2005 |   | % ofrevenues |  |      | 2006 |  | % ofrevenues |        |  | 2005 |   | % ofrevenues |  
|HID            |  |                             | 17,733 |              | 26.3                      | % |      |   | 16,104       |  | 21.7 | %    |  |              | 36,341 |  | 26.7 | % |              |   | 33,169 |  | 22.8 | %
|CED            |  |                             | 1,922  |              | 23.5                      | % |      |   | 2,354        |  | 23.1 | %    |  |              | 3,936  |  | 24.0 | % |              |   | 4,816  |  | 23.2 | %
|               |  |                             |        |              |                           |   |      |   |              |  |      |      |  |              |        |  |      |   |              |   |        |  |      |  
|Total          |  | $                           | 19,655 |              | 26.0                      | % |      | $ | 18,458       |  | 21.9 | %    |  | $            | 40,277 |  | 26.4 | % |              | $ | 37,985 |  | 22.8 | %
|               |  |                             |        |              |                           |   |      |   |              |  |      |      |  |              |        |  |      |   |              |   |        |  |      |  

Health Information Division

SG&A expenses for the HID increased $1,629 to $17,733 for the three month period ended June 30, 2006, compared to $16,104 in the same period of the prior year. The HIDs SG&A expenses represented
26.3% and 21.7% of the divisions revenues in the second quarter of 2006 and 2005, respectively. For the six month period ended June 30, 2006 SG&A expenses increased $3,172 to $36,341 compared to $33,169 in the same period of the prior
year. The increase in the HIDs SG&A in the second quarter (which includes all corporate overhead) is primarily due to:



| |  |  | restructuring charges for employee severance and branch office closures totaling $463; and
| | - |  | ------------------------------------------------------------------------------------------



| |  |  | increased IT costs such as data transmission media upgrades, software licenses, maintenance fees and depreciation totaling $820.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------

The increase in the HIDs SG&A in the first six months of 2006 is primarily due to:



| |  |  | increased IT costs such as data transmission media upgrades, software licenses, maintenance fees, depreciation and increased compensation totaling $2,000.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | increased outside legal and audit fees related to the Companys restatement of its prior period financial statements and the filing of its 2005 annual report on Form 10-K,
totaling $867.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

During the three month period ended June 30, 2006, the Company recorded restructuring charges in the HID
totaling $463, which consisted primarily of employee severance and branch office closure costs. The restructuring charges were recorded as a result of the ongoing reorganization in the core Portamedic business. There were no restructuring charges in
the second quarter of 2005.

For the six month period ended June 30, 2006 the Company incurred $1,732 of restructuring and other
charges including employee severance, branch office closure costs and legal/audit costs associated with the restatement of the Companys consolidated financial statements. During the six month period ended June 30, 2005 the Company
recorded restructuring charges totaling $1,041, (all in the three month period ended March 31, 2005) which consisted of employee severance and branch office closure costs.



32



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Claims Evaluation Division

The CEDs SG&A expenses in the second quarter of 2006 were approximately $432 or 18.4% lower than in the same period of the prior year. For the
six month period ended June 30, 2006, the CEDs SG&A expenses were approximately $3,936 or 18.3% lower than in the same period of the prior year. The savings resulted primarily from the consolidation of the CED companies into Hooper
Evaluations and the resultant headcount reductions.

Operating Income (Loss)

Consolidated operating loss for the second quarter of 2006 was ($882), or (1.2%) of consolidated revenues, compared to consolidated operating income
for the second quarter of 2005 of $5,242, or 6.2% of consolidated revenues. For the six month period ended June 30, 2006 consolidated operating loss was $(3,011), or (2.0%) of consolidated revenue compared to operating income for the six
month period ended June 30, 2005 of $8,872 or 5.3% of consolidated revenues.

Health Information Division. As a result of the
factors discussed above, the HID segment recorded an operating loss of ($1,426) in the second quarter of 2006, compared to operating income of $4,512 in the second quarter of 2005. For the six month period ended June 30, 2006, the HID segment
recorded an operating loss of ($3,745) compared to operating income of $7,412 for the same period in the prior year.

Claims Evaluation
Division. The CEDs operating income in the second quarter of 2006 was $544 compared to $730 in the second quarter of 2005. For the six month period ended June 30, 2006, the CED segment recorded operating income of $735 compared to
operating income of $1,460 for the same period in the prior year.

Income Taxes

The effective tax rate (benefit) for the three month periods ended June 30, 2006 and 2005 was (54.5%) and 39.1%, respectively. For the six month
periods ended June 30, 2006 and 2005 the effective tax rate (benefit) was (45.2%) and 39.5%. The increase in the tax rate is due to lower taxable income and the resultant impact of permanent differences.

Net Income (Loss)

Net loss for the second quarter of 2006 was ($464) or $ (0.01) per diluted share compared to net income of $3,093 or $0.05 per diluted share in the same period in the prior year. For the six month period ended June 30, 2006 net loss
was ($1,815) or $ (0.03) per diluted share compared to net income of $5,125 or $0.08 per diluted share for the same period in the prior year.

Liquidity
and Financial Resources

The Companys primary sources of cash are cash flows from operating activities and the Companys
holdings of cash and cash equivalents. At June 30, 2006, the Company had $4,720 in cash and cash equivalents, compared to $5,425 at March 31, 2006 and $11,683 at December 31, 2005. The decline in our cash and cash equivalents in the
first six months of 2006 is principally attributable to:



| |  |  | Restructuring payments related to employee severance and branch office closure costs totaling $1,900;
| | - |  | -----------------------------------------------------------------------------------------------------



| |  |  | capital expenditures in the first six months of 2006 of $3,348;
| | - |  | ---------------------------------------------------------------



| |  |  | seller financed debt, performance-related and other payments in connection with prior years acquisitions of $956;
| | - |  | ------------------------------------------------------------------------------------------------------------------



33



---

| |  |  | our acquisition of Doctors Direct for $1,107; and
| | - |  | -------------------------------------------------



| |  |  | principal payments under our credit agreement (specifically, to repay the remaining balance under the term loan in full) of $1,000.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------

For the balance of 2006, we anticipate that our major cash expenditures will include:



| |  |  | our payment of seller-financed debt (incurred in connection with our acquisition of Heritage Labs) of $1,413 in the third quarter, and a final payment with respect to such debt of
approximately $1,414 in the fourth quarter;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a portion of the restructuring charges expected to be recorded in the third and fourth quarters; and
| | - |  | ----------------------------------------------------------------------------------------------------



| |  |  | capital expenditures of approximately $2,000 in the third and fourth quarters.
| | - |  | ------------------------------------------------------------------------------

Our projections of cash flows from operations for the balance of the year have been adjusted to reflect the lower than budgeted levels of revenues and operating income for certain of our businesses. Based on our
current, revised projections, and taking into consideration our existing cash and cash equivalents, the potential receipt of tax refunds in the approximate amount of $5.0 million related to a carry-back of our 2005 operating loss and a refund of
estimated tax payments made in 2005, and potential sources of borrowing, we believe that we have sufficient funds to meet the Companys cash needs through June 30, 2007. However, as explained in the next paragraph, our ability to borrow
under our existing revolving credit facility may be limited.

Under the terms of the Companys Amended and Restated Credit Agreement,
as amended on April 25, 2006, the Companys consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, and $0.8 million for June and July 2006, and $0.9 million in the months thereafter. For the three
months ended June 30, 2006, the Company was not in compliance with the monthly consolidated pre-tax income requirement. Additionally, the Company was not in compliance with the consolidated fixed charge coverage ratio as of June 30, 2006.
Accordingly, the Company requested a waiver from its lenders of such violations and anticipated future violations of certain financial covenants. This resulted in the Companys agreeing to the terms of a Notice of Default, Reservation of Rights
and Amendatory Letter (Amended and Restated) provided by Wachovia Bank, National Association, as agent and lender under the credit agreement. Under the terms of the letter, the Company and the lenders have agreed to the following:



| | (1) | During the period from July 13, 2006 to October 10, 2006 (referred to in the letter as the Forbearance Period) (a) the maximum amount the Company may
borrow under the revolving credit facility provided under the credit agreement is reduced to $3.0 million from $15.0 million, and (b) the aggregate amount of all loans or advances to any subsidiary or affiliate of the Company under the credit
agreement is increased from $0.5 million to $1.5 million. These revised terms are to apply to the revolving credit facility during the Forbearance Period unless the lenders provide the Company with written notice stating that these terms shall no
longer apply.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Although the lenders are not granting a waiver of the covenant violations, they have agreed to forbear from terminating the credit commitments under the credit agreement, declaring
all credit obligations immediately due and payable, and exercising their rights and remedies under the credit agreement, until the earlier of (i) the expiration of the Forbearance Period, or the occurrence of an event of default under the
credit agreement other than the actual or anticipated violations of the financial covenants for which the Company sought a waiver.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In addition, the Company is currently reviewing alternative long-term financing options to replace its existing revolving credit facility. If alternative financing options can be arranged, such financing may entail a lower amount of
permitted borrowings, higher interest rates or more restrictive covenants than under the terms of our existing credit agreement.



34



---

There can be no assurance that alternative financing options will be available on terms acceptable to the
Company. In the event the Company is unable to Obtain long-term financing, our ability to finance our operations may be constrained by our operating cash flows and existing holdings of cash and cash equivalents. A continuation of the decline in our
operating results will result in a decline in our operating cash flows, further limiting our ability to finance our operations and meet our contractual obligations.

Based on projected cash flows from operations, existing cash and cash equivalents, and other potential sources of borrowings, the Company believes that it will have sufficient funds to meet its cash needs through
June 30, 2007.

Cash Flows (used in) provided by Operating Activities

For the six month period ended June 30, 2006, net cash used in operating activities was ($993) compared to $2,975 net cash provided by operations in
the same period of the prior year.

The net cash used in operating activities in the first half 2006 reflects a net loss of ($1,815), and
includes non-cash charges of $3,271 in depreciation and amortization and $1,691 in deferred income taxes. Changes in working capital items included:



| |  |  | an increase in accounts receivable of $299 (excluding the impact of foreign currency translation adjustments), reflecting a slight decline in cash collections. Consolidated days
sales outstanding (DSO), measured on a rolling 90-day basis was 51 days at June 30, 2006, March 31, 2006 and December 31, 2005. The DSO calculation has been revised to include the allowance for doubtful accounts for all periods
reported;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a decrease in accounts payable and accrued expenses of $825, primarily due to both lower accounts payable invoice accruals and increased restructuring payments; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | An increase in income tax receivable of $3,194 reflecting the tax impact of our operating loss in the first six months of 2006 which we may carry-back to recoup taxes paid in
previous years.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In the first six months of 2005, net cash provided by operating activities was $2,975. The significant
sources were net income of $5,125 adjusted for the non-cash expenses of $4,225 for depreciation and amortization. These items were offset by an increase in accounts receivable of $6,218 an increase in other assets of $1,247, partially offset by an
increase in accounts payable and accrued expenses of $1,222.

Cash Flows used in Investing Activities

During the first six month period of 2006, we used net cash of $5,118 in investing activities. The Company used net cash of $3,348 on capital
expenditures, including the upgrading of the Companys financial software system and branch operating system software and hardware.

In addition, the Company made required performance related payments related to the prior-year acquisitions totaling $856. The Company also acquired Doctors Direct-UK for $1,107 in cash in January 2006.

During the first six months of 2005, we used net cash of $1,672 in investing activities. During the



35



---

six month period ended June 30, 2005, the Company made payments totaling $4,202, pertaining to the acquisitions of D
& D Associates, Inc ($1,550), Allegiance Health, Inc. ($1,427), Medimax, Inc. ($925) and Michigan Evaluation Group, Inc. ($300). The Company also used net cash of $2,275 for capital expenditures.

The Company funded the business acquisition payments and the capital expenditures from existing cash balances.

Cash Flows used in Financing Activities

During the first six months of 2006, cash flows used in financing activities were $732, which included a $1,000 bank debt payment. Partially offsetting this use was $301 received in proceeds derived from the exercise
of stock options. During the third quarter of 2006, the Company made a payment of seller financed debt of $1,413 pertaining to the Heritage Labs acquisition. A final payment of seller financed debt for the Heritage Labs, Inc. acquisition will be
made in the fourth quarter of 2006 for approximately $1,414.

In the first six months of 2005, cash flows used in financing activities were
$4,470, which included $1,957 in dividends paid, $1,796 of seller financed debt payments for the Heritage Labs, Inc. and Michigan Evaluation Group acquisitions and $973 in debt payments.

Our Credit Facility

On October 29, 1999, the Company entered into a $100.0 million Amended and
Restated Revolving Credit and Term Loan Agreement with three banks. The senior credit facility initially consisted of a $65.0 million, six-year term loan, and a $35.0 million, three-year revolving loan, both unsecured. During 2001, the three-year
revolving loan expiration date was extended for one year to October 31, 2003. During 2003, the revolving loan expiration date was extended for three years to October 31, 2006. As of June 30, 2006 and December 31, 2005, $-0- and
$1.0 million were outstanding under the term loan, respectively. The final principal payment under the term loan of $1.0 million was paid in January 2006; there are no additional borrowings available under the term loan.

Prior to the amendment of the credit agreement in April 2006 (described below), the revolving loan bore interest at either the prime rate minus 1/2% to plus 1/4% or LIBOR plus 3/4% to 13/4%, depending on the ratio of our consolidated funded debt, as defined, to earnings before interest, taxes,
depreciation and amortization, or EBITDA. As of June 30, 2006 and 2005, interest was payable at effective average annual interest rates of 5.11% and 4.29%, respectively. Also, commitment fees of up to 0.3% are charged on the unused
revolving loan, and the agreement contains certain financial covenants, including covenants related to the incurrence of consolidated net losses, the payment of dividends, fixed charge coverage and funded debt to EBITDA ratio, and stock
re-purchases.

For the year ended December 31, 2005, the Company was not in compliance with a reporting
requirement that required the Company to deliver its 2005 audited consolidated financials statements to the lenders within 100 days of its fiscal year-end. In addition, the Company was not in compliance with two financial covenants: (i) that
the Company will not incur a consolidated net loss in any two fiscal quarters in any twelve consecutive months; and (ii) that the Company will not permit its consolidated fixed charge coverage ratio to be less than 1.50 to 1.0 for the period
ended December 31, 2005. The Company recognized a consolidated net loss for the quarters ended September 30, 2005 and December 31, 2005. At December 31, 2005, the Companys consolidated fixed charge coverage ratio was 1.10
to 1.00. On April 25, 2006, the Company obtained a waiver of the above-described issues of non-compliance from the lenders.

On
April 25, 2006, the Company entered into an amendment to the Amended and Restated Credit



36



---

Agreement with the lenders. In conjunction with this amendment, one of the lenders withdrew from the credit facility. The
significant terms of this amendment are as follows:



| | xi) | the maximum available revolving credit amount was reduced from $35.0 million to $15.0 million;
| | --- | ----------------------------------------------------------------------------------------------



| | xii) | the expiration date of the revolving loan was extended from October 31, 2006 to January 2, 2007;
| | ---- | ------------------------------------------------------------------------------------------------



| | xiii) | indebtedness incurred under the revolving loan will bear interest at either the prime rate plus 0.25% or LIBOR plus 1.50% and commitment fees of up to 0.25% are charged on the
unused portion of the facility;
| | ----- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | xiv) | the Companys consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, $0.8 million for June and July 2006, and $0.9 million in the months
thereafter;
| | ---- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | xv) | the consolidated fixed charge coverage ratio cannot be less than 0.65 to 1.00 for the quarter ended March 31, 2006, 1.20 to 1.00 for the quarter ending June 30, 2006 and
1.50 to 1.00 for each quarter thereafter, measured on an actual year-to-date basis;
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | xvi) | the consolidated funded debt to EBITDA ratio cannot exceed 2.50 to 1.00 at any time, measured on a quarterly basis and year-to-date cumulatively for 2006;
| | ---- | ----------------------------------------------------------------------------------------------------------------------------------------------------------



| | xvii) | the Company cannot convey, lease, sell, transfer or assign any assets or properties owned or later acquired except in the ordinary course of business;
| | ----- | ------------------------------------------------------------------------------------------------------------------------------------------------------



| | xviii) | the Company cannot declare or make any dividend payments or other distribution of assets;
| | ------ | -----------------------------------------------------------------------------------------



| | xix) | the Company cannot purchase, redeem or otherwise acquire the value of any share of any class of stock of the Company; and
| | ---- | -------------------------------------------------------------------------------------------------------------------------



| | xx) | the Company cannot make loans or advances to any subsidiary or affiliate of the Company unless the subsidiary is a guarantor of the obligations under the agreement, and if not,
advances or loans cannot exceed $0.5 million.
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

To secure the Companys obligations under the credit facility, as
amended, the Company granted to the lenders a security interest in and lien upon all property and assets of the Company and its domestic subsidiaries under the terms of a security agreement.

The Company paid a waiver and modification fee of $0.1 million in connection with the amendment and the waiver.

As of June 30, 2006, and as of the date of filing this Form 10-Q, the Company has no debt outstanding under its revolving credit facility.



37



---

Under the terms of the Companys Amended and Restated Credit Agreement, as amended on April 25,
2006, the Companys consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, and $0.8 million for June and July 2006, and $0.9 million in the months thereafter. For the three months ended June 30, 2006,
the Company was not in compliance with the monthly consolidated pre-tax income requirement. Additionally, the Company was not in compliance with the consolidated fixed charge coverage ratio as of June 30, 2006. Accordingly, the Company sought a
waiver from its lenders of such violations and anticipated future violations of certain financial covenants. This resulted in the Companys agreeing to the terms of a Notice of Default, Reservation of Rights and Amendatory Letter (Amended and
Restated), dated July 31, 2006, provided by Wachovia Bank, National Association, as agent and lender under the credit agreement. Under the terms of the letter, the Company and the lenders have agreed to the following:



| | (1) | During the period from July 13, 2006 to October 10, 2006 (referred to in the letter as the Forbearance Period) (a) the maximum amount the Company may
borrow under the revolving credit facility provided under the credit agreement is reduced to $3.0 million from $15.0 million, and (b) the aggregate amount of all loans or advances to any subsidiary or affiliate of the Company under the credit
agreement is increased from $0.5 million to $1.5 million. These revised terms are to apply to the revolving credit facility during the Forbearance Period unless the lenders provide the Company with written notice stating that these terms shall no
longer apply.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Although the lenders are not granting a waiver of the covenant violations, they have agreed to forbear from terminating the credit commitments under the credit agreement, declaring
all credit obligations immediately due and payable, and exercising their rights and remedies under the credit agreement, until the earlier of (i) the expiration of the Forbearance Period, or the occurrence of an event of default under the
credit agreement other than the actual or anticipated violations of the financial covenants for which the Company sought a waiver.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The Company is currently reviewing alternative long-term financing options to replace its existing revolving credit facility. If alternative financing options can be arranged, such financing may entail a lower amount of permitted
borrowings, higher interest rates or more restrictive covenants than under the terms of our existing credit agreement.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our
financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

Share Repurchases

In April 2005, our Board of Directors adopted a resolution authorizing the repurchase of up to
1.5 million shares of our common stock in any calendar year on the open market or through private transactions, provided that such purchases are for the purpose of funding the Stock Purchase Plan, stock option plans and other permissible
purposes. All share repurchases are to be made in compliance with applicable rules and regulations and may be discontinued at any time. The Company did not purchase any shares in first half 2006. In the first half of 2005, the Company acquired
approximately 24,800 shares of Treasury Stock for approximately $98.

As a result of the amendment to our credit agreement executed on April 25, 2006,
the Company is not permitted to purchase any shares of its common stock.



38



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Contractual Obligations

During the third quarter of 2006, the Company made a payment of seller financed debt of $1,413 pertaining to the Heritage Labs, Inc. acquisition. The remaining payment of seller financed debt will be made in the
fourth quarter of 2006 for approximately $1,414.

Inflation

Inflation has not had, nor is it expected to have, a material impact on our consolidated financial results.

Critical
Accounting Policies

There was only one change to the Companys critical accounting policies during the six months ended
June 30, 2006 related to the adoption of SFAS No. 123R Share-based Payment, which is described more fully in footnote 5 of the Notes to the Consolidated Financial Statements. All other critical accounting policies are described
in the Companys 2005 annual report on Form 10-K.

ITEM 3 Quantitative and Qualitative Disclosures About Market Risk

The Companys exposure to
market risk for changes in interest rates relates primarily to the Companys investment portfolio. The Company invests in securities with high quality issuers and, by policy, limits the amount of credit exposure to any one issuer. The Company
does not invest in portfolio equity securities or commodities or use financial derivatives for trading purposes. The Company mitigates this risk by investing in only high credit quality securities that it believes to be low risk and by positioning
its portfolio to be able to be responsive to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity.

The table below presents the principal amounts and related weighted average interest rates by year of maturity for our investment
portfolio as of June 30, 2006.

Estimated



|                       |  |      |      |   |      |   |      |  |      |   |      |   |                  |  |       |   |  |           |   |  |   |      |   |  |   |    
|---------------------- |  | ---- | ---- | - | ---- | - | ---- |  | ---- | - | ---- | - | ---------------- |  | ----- | - |  | --------- | - |  | - | ---- | - |  | - | ---
|(in thousands)         |  | 2006 |      |   | 2007 |   | 2008 |  | 2009 |   | 2010 |   | 2011 &Thereafter |  | Total |   |  | FairValue
|Fixed rate investments |  | $    | 192  |   |      | $ | 0    |  | $    | 0 |      | $ | 0                |  | $     | 0 |  | $         | 0 |  | $ | 192  |   |  | $ | 192
|Average interest rates |  |      | 3.88 | % |      |   |      |  |      |   |      |   |                  |  |       |   |  |           |   |  |   | 3.88 | % |  |   |    

The Company is also exposed to interest rate risk primarily through its borrowing activities,
under its credit facilities as described in Note 12 to the consolidated financial statements. The Companys borrowings are under variable rate instruments. In the first quarter of 2006, a debt repayment of $1.0 million was made at an average
interest rate of 5.11%. As of June 30, 2006 there were no borrowings outstanding.

We have foreign currency rate exposure to exchange
rate fluctuations with respect to the British pound. We anticipate that such foreign currency exchange rate risk will remain a market risk exposure for the foreseeable future. We assess our market risk based on changes in foreign currency exchange
rates by measuring the potential impact in earnings, fair values and cash flows. While our U.K. subsidiary results of operations and financial condition are subject to foreign exchange rate fluctuations, we do not consider the related risk to be
material to our financial condition or results of operations. If the exchange rate between the British Pound and the U.S. Dollar were to decrease 10%, the effect on net income would have been negligible.



39



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Based on the Companys market risk sensitive instruments (including investments and variable rate
debt) outstanding at June 30, 2006, the Company has determined that there was no material market risk exposure to the Companys consolidated financial position, results of operations or cash flows as of such date.

ITEM 4 Controls & Procedures

Evaluation of Disclosure Controls and Procedures

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports the Company
files or submits under the Securities Exchange Act of 1934, as amended (the Exchange Act), is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms, and that such information is
accumulated and communicated to the Companys management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required financial disclosure.

In connection with the preparation of this quarterly report on Form 10-Q, the Company carried out an evaluation under the supervision and with the
participation of the Companys management, including the Chief Executive Officer and the Chief Financial Officer, as of the end of the period covered by this Form 10-Q (the Evaluation Date), of the effectiveness of the design and
operation of the Companys disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based upon this evaluation, the Chief Executive Officer and the Chief Financial Officer concluded
that as of the Evaluation Date, the Companys disclosure controls and procedures were not effective because of:



| |  |  | the material weaknesses in the Companys internal control over financial reporting disclosed in Item 9A (Managements Report on Internal Control Over
Financial Reporting) in the Companys annual report on Form 10-K for the year ended December 31, 2005 (the 2005 Form 10-K);
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the additional matters disclosed in Part I, Item 4 (Controls and Procedures) in the Companys quarterly report on Form 10-Q for the quarterly period ended
March 31, 2006; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the Companys inability to file in a timely manner certain reports under the Exchange Act, including its 2005 Form 10-K and its quarterly report on Form 10-Q for the quarterly
period ended March 31, 2006.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Changes in Internal Control over Financial Reporting

Our 2005 Form 10-K identified the following material weaknesses in the Companys internal control over financial reporting:



| |  | inadequate financial statement preparation and review procedures;
| | - | -----------------------------------------------------------------



| |  | ineffective controls over the application of unapplied cash receipts;
| | - | ---------------------------------------------------------------------



| |  | inadequate management oversight of subsidiaries financial information;
| | - | -----------------------------------------------------------------------



| |  | inadequate review of customer contracts; and
| | - | --------------------------------------------



| |  | inadequate expertise in U.S. generally accepted accounting principles at subsidiary locations.
| | - | ----------------------------------------------------------------------------------------------



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A more complete description of these material weaknesses can be found in Item 9A of
the 2005 Form 10-K.

Our quarterly report on Form 10-Q for the quarterly period ended March 31, 2006, disclosed that a former
executive of the Company had alleged the existence of control deficiencies within the Company, some of which are subsumed within the material weaknesses identified in the 2005 Form 10-K (e.g., inadequate management oversight of subsidiaries
financial information and inadequate review of customer contracts). The Companys management believes that certain of the deficiencies identified indicate a need for the Company to undertake further steps to enhance its internal control over
financial reporting.

The Companys management is currently considering or is in the process of implementing actions to remediate the
significant deficiencies and material weaknesses in the Companys internal control over financial reporting including:



| |  | the development and documentation, and internal distribution to all Company business units, of the Companys financial and accounting policies and procedures;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | periodic on-site visits by the Companys senior financial staff and/or other experienced financial managers to Company business units to ensure that the Companys
financial and accounting policies and procedures have been implemented and are being followed; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the design and development of a contract review policy intended to ensure proper billing practices and timely identification and accurate accounting treatment of contracts entered
into by the Company and its affiliates.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Further, the Companys Chief Financial Officer, with assistance from the Companys senior
financial staff and an outside consultant (unaffiliated with the Companys independent registered public accounting firm), intends to initiate a review of the design of the Companys financial reporting structure and the roles and
responsibilities of its financial staff personnel, with the objective of improving the overall effectiveness and quality of the Companys financial reporting.

Management believes that the remediation measures described above will strengthen the Companys internal control over financial reporting and remediate the significant deficiencies and material weaknesses
described above. The Company is committed to continuing to improve its internal control processes and will continue to review its disclosure controls and procedures and internal control over financial reporting. As management continues to evaluate
and work to improve the Companys controls, additional control deficiencies may be identified. Further, management may determine to take additional measures to address control deficiencies.

During the second quarter of 2006, the Company continued with its implementation of a new financial accounting system to replace its legacy mainframe
system. During the first quarter of 2007, the Company expects to complete the implementation of this new system when it replaces its Accounts Receivable and Billing modules.

In addition, during the second quarter of 2006, the Company continued the roll-out of its new branch office operating system. This software application
will automate certain manual functions, which management believes will improve the quality and timeliness of its paramedical examinations. The implementation is on-going and is expected to be completed in the fourth quarter of 2006.

Other than as described above, there have been no changes in the Companys internal control over financial reporting during the quarter ended
June 30, 2006 and subsequent to the Evaluation Date that have materially affected, or are reasonably likely to materially affect, the Companys internal control over financial reporting.



41



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PART II  Other Information

ITEM 1 Legal Proceedings

A life insurance company client has informed the Company that, after
investigation, it has determined that certain life insurance policies that it issued were procured by fraudulent means employed by insurance applicants, the clients agents, the Companys sub-contracted examiners and others. No claim has
been asserted against the Company by the client, nor has the client produced any evidence pertaining to the matter. The service agreement between the Company and client contains certain indemnification provisions which may be applicable. While the
Company believes that it is probable that the client will assert a claim against it for partial indemnification, it also believes that it has meritorious defenses to any such claim. The amount of the unasserted claim cannot be reasonably estimated
by the Company at this time.

On January 25, 2005 Sylvia Gayed, one of the Companys examiners in California, filed a lawsuit
against the Company in the Superior Court of California, Los Angeles County, alleging violations of Californias wage and hour laws. The complaint alleges that the Company failed to pay overtime wages, provide meal and rest periods and
reimbursement for expenses incurred in performing examinations. The plaintiff is attempting to have the lawsuit certified as a class action on behalf of other examiners who perform similar work for the Company in California. We currently employ 441
examiners in California and have employed in excess of 1,200 examiners in California over the past 48 months. The Company believes that it has properly paid its California examiners for overtime worked and intends to provide a vigorous defense to
the litigation. However, we cannot predict the outcome of the lawsuit.

ITEM 1A Risk Factors

Readers should carefully consider, in connection with the other information in this Form
10-Q, the risk factors disclosed in Item 1A. Risk Factors in our 2005 annual report on Form 10-K. Certain of those risk factors are updated below.



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Risks Related to the Company Generally

The Company is not in compliance with its financial covenants under the recently amended credit agreement governing its revolving credit facility
and, as a result, has only a limited ability to borrow under such facility.

Under the terms of the Companys Amended and
Restated Credit Agreement, as amended on April 25, 2006, the Companys consolidated monthly pre-tax income cannot be less than $0.6 million for April and May 2006, and $0.8 million for June and July 2006, and $0.9 million in the months
thereafter. For the three months ended June 30, 2006, the Company was not in compliance with the monthly consolidated pre-tax income requirement. Additionally, the Company was not in compliance with the consolidated fixed charge coverage ratio
as of June 30, 2006. Accordingly, the Company sought a waiver from its lenders of such violations and anticipated future violations of certain financial covenants. This resulted in the Companys agreeing to the terms of a Notice of
Default, Reservation of Rights and Amendatory Letter (Amended and Restated) provided by Wachovia Bank, National Association, as agent and lender under the credit agreement. Under the terms of the letter, the Company and the lenders have agreed to
the following:



| | (1) | During the period from July 13, 2006 to October 10, 2006 (referred to in the letter as the Forbearance Period) (a) the maximum amount the Company may
borrow under the revolving credit facility provided under the credit agreement is reduced to $3.0 million from $15.0 million, and (b) the aggregate amount of all loans or advances to any subsidiary or affiliate of the Company under the credit
agreement is increased from $0.5 million to $1.5 million. These revised terms are to apply to the revolving credit facility during the Forbearance Period unless the lenders provide the Company with written notice stating that these terms shall no
longer apply.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Although the lenders are not granting a waiver of the covenant violations, they have agreed to forbear from terminating the credit commitments under the credit agreement, declaring
all credit obligations immediately due and payable, and exercising their rights and remedies under the credit agreement, until the earlier of (i) the expiration of the Forbearance Period, or the occurrence of an event of default under the
credit agreement other than the actual or anticipated violations of the financial covenants for which the Company sought a waiver.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The Company is currently reviewing alternative long-term financing options to replace its existing revolving credit facility. If alternative financing options can be arranged, such financing may entail a lower amount of permitted
borrowings, higher interest rates or more restrictive covenants than under the terms of our existing credit agreement. In the event that the Company is unable to obtain long-term financing, our ability to finance our operations may be constrained by
our operating cash flows and existing holding of cash and cash equivalents. A continuation of the decline in our operating results may contribute to a decline in our operating cash flows, further limiting our ability to finance our operations and
meet our contractual commitments.

Our management has determined that there are material weaknesses in our system of internal control
over financial reporting, such that we have determined that such internal control was not effective as of December 31, 2005. If we are unable to address these weaknesses in our internal controls, we may not be able to report our future
operating results and financial condition in an accurate and timely manner.

As disclosed in our 2005 annual report on Form 10-K,
our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2005. This



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assessment identified material weaknesses in our internal control over financial reporting as of that date. Accordingly,
our management determined that our internal control over financial reporting was not effective as of December 31, 2005. Item 4 of Part II of this Form 10-Q describes the steps we have taken, and plan to take, to remediate the identified
material weaknesses in our internal control over financial reporting and otherwise improve the overall design and operation of the Companys control environment. Determining whether these steps are efficacious will require continuing review and
testing. Further, these steps may not address other material weaknesses in our internal control over financial reporting that may exist but have not yet been identified. Any failure to maintain adequate internal control over financial reporting
could prevent us from reporting our financial results in a complete and accurate, and timely, manner. If we are not able to report our future operating results and financial condition in such a manner, we could face litigation or regulatory action.
Any of such consequences could adversely affect our business and result in a decline in the market price of our common stock.

Risks Related to Our
Health Information Division

Improper actions by our paramedical examiners or our physician practitioners could cause us to lose
business and result in claims against us or our incurring expenses to indemnify our life insurance carrier customers.

In the first
quarter of 2006, a life insurance company client informed us that, after investigation, the client has determined that it issued certain life insurance policies that were procured by fraudulent means employed by insurance applicants, the
clients agents, the Companys sub-contracted examiners and others. As of the date of filing this Form 10-Q, no claim has been asserted against the Company by the client, nor has the client produced any evidence pertaining to the matter.
The service agreement between the Company and the client contains certain indemnification provisions which may be applicable. While the Company believes it is probable that the client will assert a claim against the Company for partial
indemnification, it also believes that the Company has meritorious defenses to any such claim. However, the risk exists in this situation (and in other instances where allegations of wrongdoing are made regarding our paramedical examiners or
physician practitioners) that the client relationship may be damaged, such that we experience a drop-off in the volume of business from a client or the loss of a clients business.

Risks Related to Our Claims Evaluation Division

There are signs that the outsourced medical
claims management market in the United States may be contracting, which may limit the potential growth of our Claims Evaluation Divisions business.

As we disclosed in the 2005 annual report on Form 10-K, our management perceives that the outsourced medical claims management market in the United States, including the market for our claims evaluation services
(e.g., independent medical exams and peer reviews), may be contracting. Property and casualty insurance is largely regulated on a state level. Most of the demand for our claims evaluation services is a function of insurers efforts to evaluate
claims and properly manage claims cost. Several states, including New York (where a significant portion of the CEDs revenues have been derived since the Company entered this business in 2002), have proposed or adopted reforms intended to more
effectively combat fraud. While the Company is uncertain of the effect such reforms have had in combating fraud and lowering claims costs, our Claims Evaluation Division has observed a decline in the number of claims for which its customers are
seeking the divisions services. The CED has also experienced a drop-off in the number of IMEs and peer reviews being performed per claim. We believe that the decreased use of IMEs and peer reviews may be attributable to insurers greater
cost consciousness and their perception of the limited value



44



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of peer reviews based on unfavorable experiences in litigating insurance claims. In view of these developments, it
appears that the growth potential of the CEDs business may be limited. Further, the division may be at a competitive disadvantage in dealing with a contracting market as a result of the more narrow focus of its present business activities
relative to certain of its larger competitors that are engaged in other segments of the outsourced medical claims management market.

We may experience unintended negative consequences as a result of the realignment of the CED constituent companies into Hooper Evaluations, Inc.

Effective February 2006, we merged the four companies (i.e., D&D Associates, Medimax, Allegiance Health Inc. and Michigan Evaluation Group) into Hooper Evaluations, Inc. The restructuring of the CEDs
businesses was motivated by the objective of lowering the divisions operating costs. However, the restructuring could have unintended negative consequences, including a loss of customers, business disruptions and/or loss of employees. Further,
we may not realize the anticipated levels of cost improvements, greater efficiencies and improved synergies from this restructuring.

ITEM 2 Unregistered Sales of Equity Securities and Use of Proceeds

None

ITEM 3 Defaults Upon Senior Securities

None

ITEM 4 Submission of Matters to a Vote of Security Holders

At the Companys annual
meeting of shareholders on May 23, 2006, the Companys shareholders elected Quentin J. Kennedy, Paul W. Kolacki and Roy E. Lowrance to serve as directors until the 2009 annual meeting and ratified the selection of KPMG LLP to serve as the
Companys independent registered public accounting firm for 2006.

The chart below names each director nominated for election by the
shareholders at the 2006 annual meeting, the number of votes cast for, or withheld and the number of broker non-votes and abstentions, with respect to each such person:



|                   |  |            |  |                   |  |            |  |                  |  |          
|------------------ |  | ---------- |  | ----------------- |  | ---------- |  | ---------------- |  | ---------
|Nominee            |  | For        |  | Votes CastAgainst |  | Withheld   |  | Broker Non-votes |  | Abstained
|Quentin J. Kennedy |  | 57,085,014 |  |                  |  | 6,318,135  |  | 0                |  | 0        
|Paul W. Kolacki    |  | 48,579,390 |  |                  |  | 14,823,759 |  | 0                |  | 0        
|Roy E. Lowrance    |  | 57,984,842 |  |                  |  | 5,418,307  |  | 0                |  | 0        

The names of the directors whose terms of office continued after the annual 2006 meeting are as
follows:

Benjamin A. Currier

Elaine L. Rigolosi

Kenneth R. Rossano

G. Earle Wight

James D. Calver



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With respect to the ratification of KPMG LLP as independent registered public accounting firm, the number
of votes cast was 61,008,747 for, 2,374,938 against, 19,464 abstained and 0 broker non-votes.

ITEM 5 Other Information

None

ITEM 6 Exhibits



|            |  |                                                                                                                                          
|----------- |  | -----------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |  | Description of Exhibit                                                                                                                   
|31.1        |  | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934.                           
|            | 
|31.2        |  | Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934.                           
|            | 
|32.1        |  | Certification of Chief Executive Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.
|            | 
|32.2        |  | Certification of Chief Financial Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.



46



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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.

Hooper Holmes, Inc.

Dated: August 9, 2006



By:

/s/ James D. CalverJames D. CalverChief Executive Officer and PresidentBy:

/s/ Michael J. SheaMichael J. SheaSenior Vice President andChief Financial Officer




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