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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-K
  þ
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the Fiscal Year Ended December 31, 2007
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 Commission File Number 1-14316
 APRIA HEALTHCARE GROUP INC.
  Delaware
(State of Incorporation)
    
    33-0488566
(I.R.S. Employer Identification Number)
 26220 Enterprise Court, Lake Forest, CA
(Address of Principal Executive Offices)
    
    92630-8405
(Zip Code)
 
 Common Stock, $0.001 par value per share
(Title of each class)
    
    New York Stock Exchange
(Name of each exchange on which registered)
  þ o
 o þ
 þ o
 þ
  Large accelerated filer þ
    
    Accelerated filer o
    
    Non-accelerated filer   o
(Do not check if a smaller reporting company)
    
    Smaller Reporting Company o
 o þ
  Documents Incorporated by Reference:




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APRIA HEALTHCARE GROUP INC.
TABLE OF CONTENTS
  
 PagePART IItem 1 Business
    
    
    4Strategy
    
    
    4Service Lines
    
    
    5Organization and Operations
    
    
    7Marketing
    
    
    8Sales
    
    
    8Competition
    
    
    9Government Regulation
    
    
    10Employees
    
    
    17Website Access to Reports
    
    
    17Executive Officers of the Registrant
    
    
    17Item 1A Risk Factors
    
    
    18Item 1B Unresolved Staff Comments
    
    
    21Item 2 Properties
    
    
    21Item 3 Legal Proceedings
    
    
    21Item 4 Submission of Matters to a Vote of Security Holders
    
    
    21PART IIItem 5 Market for Registrants Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
    
    
    22Item 6 Selected Financial Data
    
    
    23Item 7 Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    24Item 7A Quantitative and Qualitative Disclosures about Market Risk
    
    
    41Item 8 Financial Statements and Supplementary Data
    
    
    42Item 9 Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
    
    
    42Item 9A Controls and Procedures
    
    
    42Managements Report on Internal Control over Financial Reporting
    
    
    43Item 9B Other Information
    
    
    44PART IIIItem 10 Directors, Executive Officers and Corporate Governance
    
    
    44Item 11 Executive Compensation
    
    
    44Item 12 Stockholder Matters
    
    
    44Item 13 Certain Relationships and Related Transactions, and Director Independence
    
    
    44Item 14 Principal Accounting Fees and Services
    
    
    44PART IVItem 15 Exhibits, Financial Statement Schedule
    
    
    44Report of Independent Registered Public Accounting Firm
    
    
    F-1Consolidated Financial Statements
    
    
    F-2Consolidated Financial Statement Schedule
    
    
    S-1SIGNATURESEXHIBIT INDEXExhibit 3.2Exhibit 4.1Exhibit 10.7Exhibit 10.29Exhibit 21.1Exhibit 23.1Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit 32.2
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EXPLANATORY NOTE
    Background of Restatement
 Accounting for
Leases.
 Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct
Costs of Leases.
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
    
    Part II  Item 6  Selected Financial Data
    
    Part II  Item 7  Managements Discussion and Analysis of Financial Condition and
Results of Operations
    
    Part II 
Item 8  Financial Statement and Supplementary Data
 Forward Looking Statements
 This Annual Report on Form 10-K contains forward-looking statements that are not based on
historical facts. All such forward-looking statements are uncertain. We have based the
forward-looking statements on, among other things, projections and estimates regarding the economy
in general, the healthcare industry and other factors that impact our results of operations. These
statements involve known and unknown risks, uncertainties and other factors that may cause our
actual results, levels of activity, performance or achievements to be materially different from any
results, levels of activity, performance or achievements expressed or implied by any
forward-looking statements. In some cases, forward-looking statements that involve risks and
uncertainties contain terminology such as may, should, could, expects, intends, plans,
anticipates, believes, estimates, predicts, potential, or continue or variations of
these terms or other comparable terminology. See Item 1A  Risk Factors.
 
 PART I
 
 Item 1. BUSINESS
  Service Line
    
    Examples of Services and ProductsHome respiratory therapy
    
    Provision of oxygen systems, stationary and
portable ventilators, obstructive sleep apnea
equipment, nebulizers, respiratory medications
and related clinical/administrative support
servicesHome infusion therapy
    
    Intravenous or injectable administration of
anti-infectives, pain management, chemotherapy,
nutrients (also administered through a feeding
tube), immune globulin (IVIG), coagulant and
blood clotting factors, antitrypsin deficiency
(Alpha-I) medication, other medications and
related clinical/administrative support servicesHome medical equipment
    
    Provision of patient safety items, ambulatory
aids and in-home equipment, such as wheelchairs
and hospital beds
 Recent Developments
  
 Strategy
  
    
    Grow revenue and market share.We are focused on growing revenues and increasing our
market share in our core home respiratory therapy and home infusion therapy service lines.
Accordingly, in the fourth quarter of 2006 we began to expand our sales force by 25% and
segmented it to focus on these two lines. This focus has allowed us to better penetrate key
geographic markets and to more efficiently market our products and services to physicians,
hospital discharge planners and managed care organizations.
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
    
    Leverage nationwide infrastructure.With our 550 locations and our robust platform
supporting shared national services, we believe that we can efficiently add products,
services and patients to our systems to grow our revenues at lower costs. We seek to achieve
margin improvements through operational initiatives focused on the continual reduction of
costs and delivery of incremental efficiencies.
    
    Deliver superior customer service. We believe that it is essential in our industry to
consistently deliver superior customer service in order to increase referrals and retain
existing patients. Performance improvement initiatives are underway in all aspects of our
operations including customer service, patient satisfaction, logistics and
billing/collections. We believe that by being responsive to our patients and payors needs
we can gain a greater proportion of the growth in the industry than our competitors and gain
market share.
    
    Focus on our people. We believe it is crucial to invest in the development and training
of our employees to enable them to develop their business and management skills while they
continue to deliver high quality, cost-efficient care to our patients. As part of these
efforts, we have developed branch manager training programs, an annual, formal human
resources planning/review process, formal mentoring programs, e-learning initiatives and
focused employee development and retention programs.
    
    Operate our business ethically. We are focused on operating an ethical business by
complying with all applicable laws, rules and regulations relating to our business. We
operate a formal corporate compliance program which includes a hotline, audits, employee
training and compliance policies. As evidence of our system-wide commitment to compliance
and ethics, we were awarded the Ethics in America award in 2006 by the independent
Passkeys Foundation in the Large Public Company category.
    
    Maintain independent accreditation at all locations. We were the first homecare provider
to seek and obtain voluntary accreditation from the Joint Commission on Accreditation of
Healthcare Organizations or by the Accreditation Commission of Healthcare (collectively, the
Commissions) almost 20 years ago. All of our locations are currently accredited by the
Commissions.
 
 Service Lines
  
    
    providing in-home clinical respiratory care, infusion and respiratory pharmacy management and
high-tech infusion nursing;
    
    educating patients and their caregivers about illnesses and providing them with written
instructions about home safety, self-care and the proper use of their equipment;
    
    monitoring patients individualized treatment plans;
    
    reporting patient progress and status to the physician and/or managed care organization;
    
    providing in-home delivery and set-up of equipment and/or supplies;
    
    maintaining and repairing equipment; and
    
    processing claims to third-party payors, billing and collecting patient co-pays and deductibles.
  Year Ended December 31,2007
    
    
    2006
    
    
    2005Home respiratory therapy
    
    
    67
    %
    
    
    68
    %
    
    
    69
    %Home infusion therapy
    
    
    20
    %
    
    
    18
    %
    
    
    17
    %Home medical equipment/other
    
    
    13
    %
    
    
    14
    %
    
    
    14
    %Total net revenues
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
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Home Respiratory Therapy.
 
    
    chronic obstructive pulmonary diseases such as emphysema, chronic bronchitis and asthma;
    
    nervous system-related respiratory conditions such as Lou Gehrigs disease and
quadriplegia;
    
    obstructive sleep apnea;
    
    congestive heart failure; and
    
    lung cancer.
   Home Infusion Therapy.
  
    
    total parenteral (intravenous) nutrition;
    
    anti-infective and anti-fungal medications;
    
    blood clotting factors;
    
    Alpha-1 medication;
    
    cardiac inotropic medications;
    
    chemotherapy;
    
    enteral nutrition; and
    
    pain management.
  Home Medical Equipment/Other.
 
    
    ambulatory equipment, such as canes, crutches and walkers;
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
    
    hospital room equipment, such as hospital beds and bedside commodes;
    
    bathroom equipment, such as bath and shower benches, elevated toilet seats and toilet,
tub or wall grab bars;
    
    phototherapy systems, cabinets, blankets or wraps for babies with jaundice; and
    
    support surfaces, such as pressure pads and mattresses, for patients at risk for
developing pressure sores or decubitus ulcers.
 
 Organization and Operations
 Organization.
 Corporate Compliance.
  Internal Audit.
 Operating Systems and Controls. Operating
Systems and Controls.
  Payors. Medicare/Medicaid Reimbursement Rates.
 Receivables Management.
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Marketing
  Automated Call Routing Through Toll-Free Numbers.
 Nationwide Accreditation.
 Essential Care Model.
 Patient Satisfaction and Complaint Resolution Process.
 Apria Great Escapes ® Travel Program.
 Comprehensive Clinical and Therapy Management Programs. tm tm
 
 Sales
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Pricing Pressures
 
 Competition
  
    
    reputation with referral sources, including local physicians and hospital-based
professionals;
    
    accessibility and responsiveness;
    
    price of services;
    
    overall ease of doing business;
    
    quality of patient care and associated services; and
    
    range of home healthcare services and products.
  
    
    ability to service a wide geographic area;
    
    ability to develop and maintain contractual relationships with managed care
organizations;
    
    access to capital;
    
    information systems capabilities; and
    
    accreditation by the Commissions or a similar accrediting body.
  Pricing Pressures.
 Acquisition and Development Activities
 Recent Developments
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Government Regulation
 Government Regulation; Healthcare Reform.
 Medicare and Medicaid Reimbursement.
 Medicare Reimbursement.
    
    
    A freeze on annual payment increases for most durable medical equipment  The freeze
commenced in 2004 and will continue through 2008. After 2008, the payment update for
equipment not subject to competitive bidding will be equal to the Consumer Price Index for urban consumers.
    
    Reimbursement reductions for five durable medical equipment categories  Reimbursement
for most oxygen and oxygen equipment, standard wheelchairs (including standard power
wheelchairs), nebulizers, diabetic supplies consisting of lancets and testing strips,
hospital beds, and air mattresses, became based on the median price paid for such items on
behalf of beneficiaries of federal employee health benefit plans. Subsequent
legislation has further modified some reimbursement methodology for certain items, such as
power wheelchairs and oxygen and oxygen equipment, as described below.
    
    Reimbursement reductions for inhalation drugs  Beginning January 2005, Medicare Part B
reimbursement for most drugs, including inhalation drugs, became based upon the
manufacturer-reported average sales price (ASP) (subject to adjustment each quarter), plus
6%, plus a separate dispensing fee per patient episode. CMS publishes the ASP plus 6%
payment levels several weeks before the first day of each quarter, and we have no way of
knowing if the quarterly ASPs will increase or decrease since manufacturers report
applicable sales price information directly to CMS. Since 2006, dispensing fees have
remained at $57.00 for a 30-day supply for a new patient, $33.00 for each 30-day supply
thereafter, and $66.00 for each 90-day supply. Effective July 1, 2007, Medicare no longer
reimburses providers for compounded inhalation drugs. Because our compounding levels are
minimal, this change has no significant effect on us. Subsequent regulations and legislation
have further modified reimbursement methodologies for certain inhalation therapies, as
described below.
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The reimbursement methodology for non-compounded, infused drugs administered through Durable
Medical Equipment (DME), such as infusion pumps, was not affected by this change. It
remains based upon either 95% of the October 1, 2003 Average Wholesale Price (AWP) or, for
those drugs whose AWPs were not published in the applicable 2003 compendia, at 95% of the
first published AWP.
    
    Establishment of a competitive bidding program for Medicare Part B  The MMA required
implementation of a competitive bidding program for certain DME, and on April 10, 2007, CMS
published a final rule implementing such a Medicare Part B competitive bidding program. By
statute, CMS is required to implement the DME competitive bidding program over time, with the
first phase establishing competitive bidding in 10 of the largest metropolitan statistical
areas (MSAs), for 2008, with 70 additional markets to be added in 2009, and nationwide
implementation in 2010. Our bids for the first round have been submitted. On January 8,
2008, CMS announced the 70 MSAs and product categories for the second round of the competitive
bidding program. The exact Competitive Bidding Areas (CBAs) will be further clarified in
early 2008. CMS anticipates the formal bid process for the second round will begin in the
summer of 2008, with implementation in 2009.Competitive bidding imposes a significant risk to suppliers of DME. If a DME supplier
operating in a CBA, is not awarded a contract for that CBA, the supplier generally will not be
able to bill and be reimbursed by Medicare for DME items supplied in that CBA for the time
period covered by the competitive bidding program (unless a supplier is covered by the
grandfathering provision for existing oxygen or capped rental patients discussed below).
Because the applicable statute mandates savings and CMS bidding rules require that bids must
be less than current Medicare allowable rates, a DME supplier awarded one of the winning bids
for the CBA will receive lower Medicare payment rates than those in existence prior to
competitive bidding. In addition, there is a risk that the new competitive bidding prices will
become a new benchmark for reimbursement from private payors. As competitive bidding is phased
in across the country, we and most DME suppliers will likely experience a substantial
reduction in reimbursement.Based upon criteria described in the final rule governing competitive bidding, CMS identified
both the ten MSAs and product categories for the initial phase of the program. We service all
nine of the domestic markets included in the list of initial ten CBAs (Puerto Rico markets
excluded). Nine of the ten product categories selected for the first phase are common to all
nine domestic markets. The tenth product category is specific to the Miami and Puerto Rico
markets only. In the first phase, CMS accepted bids from suppliers for the following product
categories: Oxygen Supplies and Equipment; Standard Power Wheelchairs, Scooters and Related
Accessories; Complex Rehabilitative Power Wheelchairs and Related Accessories; Mail-Order
Diabetic Supplies; Enteral Nutrients, Equipment and Supplies; Continuous Positive Airway
Pressure Devices, Respiratory Assist Devices and Related Supplies and Accessories; Hospital
Beds and Related Accessories; Negative Pressure Wound Therapy Pumps and Related Supplies and
Accessories; Walkers and Related Accessories; and (Miami and Puerto Rico only) Support
Surfaces (group 2 mattresses and overlays).The bidding process for the first round of competitive bidding was complex and subject to
deadline extensions. The deadline for suppliers to submit bids for participation in the first
round of the program was originally 60 days after issuance of the Request for Bids (RFBs).
However, after issuing the RFBs in mid-May 2007, CMS and its Competitive Bidding
Implementation Contractor, extended the deadline for bid submission three times in
response to concerns raised by individual suppliers, industry associations and Congress about
difficulties experienced with the bid process and Internet-based application process. The
revised deadline for submission was September 25, 2007, and we submitted timely bids.
Suppliers also must be accredited entities to take part in the program. The accreditation
deadline was October 31, 2007; we already are an accredited entity. CMS anticipates that it
will announce the winning bidders by March 2008 and expects that the new payment levels will
go into effect for the selected DME product categories in the initial ten CBAs beginning
July 1, 2008. Contracts with winning bidders for the first round of competitive bidding are
expected to be three years in length, except for diabetic supplies, which are expected to be
21 months in length. Consequently, the contract period for mail order diabetic supplies is
expected to be from July 1, 2008 to March 31, 2010 and the contract period for all other first
round product categories is expected to be from July 1, 2008 to June 30, 2011. New
competitive bidding periods in the initial ten markets are expected to begin after the initial
contracts end.
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The final rule governing competitive bidding, among other things, generally requires Medicare
beneficiaries who live in a CBA to receive equipment and services that are included within the
competitive bidding program exclusively from suppliers who are awarded contracts by CMS, with
a few exceptions. The reimbursement rate for the items and services will be the single payment
rate that is determined through the bid process. The revenue associated with the items subject
to competitive bidding
in the initial year of the program represents less than 2% of our 2007 total net revenue. If
we become a winning contract supplier in each of the nine initial CBAs serviced by us, and
assuming that the CMS estimation of the 10% to 15% reduction in payment for these services is
realized, then we estimate this would have caused less than a 0.3% decline in our 2007 total
net revenue, if 2007 had been the initial year of competitive bidding. However, the actual
impact of the initial year of competitive bidding on our total net revenue will likely be
different. Likewise, we cannot predict or guarantee that the reimbursement rates in the CBAs
will be reduced as CMS has estimated, or will not be even lower than the CMS projections.In the second and subsequent years of competitive bidding, we expect that the adverse
financial impact will increase substantially in amounts that cannot currently be determined. If we are selected as a winning contract supplier in any CBA during any of the
competitive bidding periods, we believe that our geographic coverage, clinical marketing
programs and purchasing strength provide competitive advantages to maintain and enhance market
share, but at lower reimbursement rates. However, there is no guarantee that we will be
selected as a winning contract supplier and be awarded a competitive bidding contract by CMS
in any of the initial or subsequent CBAs. If we are not selected as a contract supplier for a
particular CBA, we will generally not be allowed to supply Medicare beneficiaries with
products subject to competitive bidding within that CBA, unless we elect to continue providing
service to existing patients under the grandfathering provision of the final rule. Under
this provision, a supplier may continue to supply certain existing patients that were serviced
prior to the implementation of competitive bidding even if the supplier was not awarded a
contract, provided certain conditions are met. Because of our combination of both managed care
and traditional business, we believe we can nevertheless maintain a favorable overall market
position even if we are not selected as a contract supplier for a particular CBA.
    
    Incentives for the expansion of Medicare Part C (Medicare Advantage)  The MMA included
financial incentives for managed care plans to expand their provision of Medicare Advantage
plans in 2006 in an effort to attract more Medicare beneficiaries to managed care models. We
maintain contracts to provide respiratory therapy, infusion and medical equipment and
related services to a significant number of managed care plans nationwide.
    
    Reimbursement for home infusion therapy under Medicare Part D  A limited number of
infusion therapies, supplies and equipment are covered by Medicare Part B. The MMA, through
the new Medicare Part D program, provided expanded coverage for certain home infusion
therapy drugs, but excluded coverage for the corresponding supplies and clinical services
needed to safely and effectively administer these drugs. We have contracted with a limited
number of Medicare Part D prescription drug plans in order to provide continuity of care for
certain patients. Due to nationwide Part D implementation issues experienced by home
infusion providers, the industry is continuing to work with CMS and Congress to rectify the
coverage and payment limitations that are causing implementation challenges for providers,
patients and referral sources. A bill was introduced in Congress in the summer of 2006 to
consolidate home infusion therapy coverage under Part B, and a similar bill was reintroduced
in 2007. This legislation would provide for infusion benefit coverage in a more
comprehensive manner that is analogous to how the therapy is covered by the managed care
sector. At this time, we cannot assess whether any of the proposed legislation, or similar
legislation that may be introduced in 2008, will become law in 2008 or subsequent years.
  
    
    Beginning with patients who received products and services as of January 2006, ownership
of durable medical equipment currently categorized in the capped rental category by CMS,
such as hospital beds, wheelchairs, nebulizers, patient lifts and continuous positive airway
pressure devices, automatically transfers to the Medicare beneficiary at the end of a
maximum rental period. As of January 1, 2006, the maximum rental period became 13 months.
Therefore the first month in which the new policy had an impact on our revenue was February
2007. In addition, the service and maintenance fee, which had been paid to suppliers twice
yearly after the rental period ended in order to cover various non-equipment service costs
for patients who require use of the equipment, was eliminated for those patients who
commenced service on or after January 1, 2006. Implementing regulations also imposed other
repair and replacement obligations on suppliers with respect to equipment that does not last
the useful lifetime of the equipment, which CMS has generally defined as being five years.
We estimate that the reduction in rental revenues for impacted DME products and the loss of
the service and maintenance fees in 2007 was approximately $4.0 million and $0.9 million,
respectively. The 2007 estimate assumes the loss of the service and maintenance fee
component for one quarter as the effect of the loss impacted the latter part of the year
primarily. This estimate is subject to assumptions and uncertainties and the actual
negative impact on revenue and fees may be greater or less.
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
    
    Reimbursement for oxygen equipment converted from an ongoing rental method to a capped
rental and rent-to-purchase method. Reimbursement for rental of oxygen equipment is limited
to 36 months, after which time the ownership of the
equipment transfers to the patient, who assumes primary responsibility for identifying when
repairs or preventive maintenance are needed. The 36-month rental period was retroactively
applied to January 1, 2006 for all beneficiaries requiring oxygen as of December 31, 2005.
Accordingly, January 2009 is the first month in which the transfer of ownership for oxygen
equipment and the new repair and maintenance policy will impact us. The implementing DRA
regulations also established new payment classes for oxygen equipment, including transfilling
and portable equipment, new monthly rental reimbursement rates, and new reimbursement rates
for the delivery of oxygen contents for patient-owned equipment after title to the equipment
transfers. The new reimbursement amounts went into effect January 1, 2007. CMS will annually
review the utilization patterns and fee schedule rates and consider whether an adjustment to
the payment rates is needed in order to satisfy the statutory mandate of budget neutrality.Regarding repairs and maintenance of beneficiary-owned oxygen equipment, the implementing DRA
regulations permit payment to suppliers for general maintenance and servicing of certain
patient-owned oxygen equipment every six months, beginning after the first six months the
patient owns the equipment. The first beneficiaries to whom this policy will apply will take
title to their equipment in January 2009 and become eligible for maintenance and servicing
under this policy beginning in June 2009. The final rule governing repairs and maintenance of
oxygen equipment limits payment for general maintenance and servicing visits to 30 minutes of
labor based on rates the Medicare contractors establish. CMS declined to offer general
maintenance and servicing payments for beneficiary-owned liquid and gas equipment with the
exception of a single payment for pick-up and storage or disposal of such equipment that a
beneficiary no longer needs. Once title to the oxygen equipment transfers, CMS will also pay
for certain other reasonable and necessary but non-routine repairs which remain as yet
unspecified by the agency, but CMS will not make separate payment for certain patient support
services, which are currently covered by and included in the monthly bundled payment rate for
oxygen therapy. We may or may not continue to provide repair and maintenance service on
patient-owned equipment and are in the process of evaluating the impact of these changes.The implementing regulations also limit supplier replacement of oxygen equipment during the
rental period, and require suppliers to replace beneficiary-owned equipment that does not last
the useful lifetime of the equipment, which CMS has generally defined as being five years.Other issues that have had, will or could have an impact on Medicare reimbursement levels to
us are summarized as follows:
    
    In January 2006, CMS published a final regulation that shifted payment for certain
respiratory assist devices from the current frequent and substantial payment category to
the capped rental category. Under frequent and substantial payment, Medicare payment
continues for the duration of time the beneficiary requires the device, while capped
rental payment continues for 13 months. The change in the payment category became
effective April 1, 2006. The policy applies to those respiratory assist devices (known as
BiPAP STs) that have a backup rate feature that delivers pressure whenever the users
spontaneous breathing efforts are insufficient. The first claims received for each Medicare
beneficiary with a date of service on or after April 1, 2006, including beneficiaries with
existing rental equipment, are counted as the first rental month in the capped rental
period. Thus, the first month in which the new categorization impacted our revenue was May
2007. Our estimate for this change in payment categories is a reduction in 2007 revenues of
approximately $2.5 million.
    
    In January 2006, CMS announced the designation of four specialty contractors, Durable
Medical Equipment Medicare Administrative Contractors (DME MACs), which are responsible
for handling the administration of all Medicare claims from suppliers of durable medical
equipment. CIGNA Government Services, LLC (CGS), protested the contract awards made in
Regions C and D. The Government Accountability Office denied CGS protest for Region D but
CMS ultimately authorized CGS for Region C on January 16, 2007. The following DME MACs are
currently processing claims: National Heritage Insurance Company (NHIC), for Region A
(effective July 1, 2006), AdminaStar Federal for Region B (effective July 1, 2006), CGS for
Region C (effective January 16, 2007), and Noridian Administrative Services for Region D
(effective September 30, 2006). The transition caused several challenges for all DME
suppliers, such as a slight slowdown in payments from the governments new DME MACs and an
increase in certain denials due to a lack of training resources at the new DME MACs.
Industry representatives met with the DME MACs and largely resolved transaction processing
challenges by year-end. It is difficult at this time to predict whether other changes in
claims administration made by the DME MACs may affect DME suppliers in the future, nor can
we predict or estimate the potential impact of such changes on collection of our accounts
receivable.
    
    In 2007, there were numerous legislative and executive branch efforts to further reduce
the maximum rental period for oxygen therapy, equipment and related services. The industry
has actively shared its concerns with Congress, CMS, and others on these issues. Legislative
proposals were introduced in Congress in 2007 that would have repealed the current oxygen
reimbursement cap and equipment ownership mandate of the DRA, as well as amended or modified
existing laws and regulations pertaining to the competitive bidding program and coverage of
infusion therapy services. The Presidents 2007 healthcare proposals sought to reduce the
maximum rental period for oxygen equipment from the now-mandated 36 months to 13 months,
which was recommended by the OIG. The Presidents fiscal year 2008 and 2009 budgets included
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such a recommendation. There are other initiatives to reduce the rental period to 13 months or to
implement a reduction to the monthly payment rate, but it is uncertain whether any of these
initiatives will ultimately be approved by Congress. For example, in September 2006, the OIG
published a report entitled Medicare Home Oxygen: Equipment Cost and Servicing. The report
was the result of an audit survey conducted by the OIG beginning in the fall of 2005. The
surveys stated objective was to study the average acquisition cost of oxygen concentrators
and the nature and frequency of servicing. The final report included a recommendation that
Congress consider further reductions to oxygen payment levels, including the possibility of
limiting the maximum rental period for oxygen equipment from the DRA-mandated 36 months to
13 months. The industry has analyzed the report and shared concerns about the narrow scope of
the report and its findings with the OIG, CMS, members of Congress and other government
agencies. It is uncertain whether or when any of these efforts will be repeated or successful
in 2008.
  
    
    In October 2006, CMS issued the 2007 Healthcare Procedure Coding System (HCPCS) list
for Medicare Part B medications. The 2007 list included new codes for certain compounded
medications. The coding and reimbursement changes did not have a material impact on us due
to the extremely low volume of patient-specific, physician-prescribed compounding that was
performed by our inhalation pharmacies. According to the state licensing agencies associated
with the states in which our inhalation pharmacies operate, the pharmacies conform to
current quality and sterility standards. CMS stated that patient safety and sterility
issues were found at other providers pharmacies, which motivated it to change the policies
concerning compounded medications.
    
    In response to the 2006 efforts of three Program Safeguard Contractors that oversee DME
suppliers, CMS considered issuing a National Coverage Decision (NCD), for certain
inhalation drug therapies. In the third quarter of 2007, CMS concluded that it would not
issue an NCD. Rather, CMS will continue to defer decisions about the medical necessity of
individual respiratory drugs to the local contractors. We cannot predict if or when CMS may
reconsider this issue and how any subsequent local or national coverage limitation might
impact our operations. Future decisions with respect to the coverage of inhalation drugs may
have a materially adverse impact on us.In 2007, there also were changes to the reimbursement methodology for certain inhalation
drugs. CMS announced in the second quarter of 2007 that beginning in the third quarter of
2007, it would reimburse providers of inhalation drugs a blended average sales price for the
drugs albuterol and
Xopenex®
(1). On December 29, 2007, the President signed into law
the Medicare, Medicaid, and State Childrens Health Insurance Program (SCHIP) Extension Act
of 2007, which partially reversed the CMS regulatory decision
regarding Xopenex and albuterol. Beginning on April 1, 2008,
Medicare will reimburse for Xopenex in the same manner as in the third quarter of 2007 by blending the average sales price of
Xopenex and albuterol  but it will no longer reimburse albuterol at the blended
price. The new law is expected to reduce reimbursement for albuterol to approximately the
same payment level as in the second quarter of 2007. This provision may have a material and
adverse impact on our 2008 results, but we are unable to quantify this impact at this time
due to the fluctuation of ASP reimbursement and the fact that the second quarter 2008 ASPs
will not be published until mid-March 2008. We have undertaken strategies intended to
mitigate in part any potential negative impact associated with this policy change.
    
    In late 2006, CMS revised the Local Coverage Determination (LCD) for power mobility
devices resulting in reductions to the Medicare power mobility devices fee schedule. The
revised fee schedule imposes reductions for certain power mobility devices of about 15%. The
initial changes took effect November 15, 2006. The reduction in our revenues
for 2007 resulting from these fee schedule changes was approximately $1 million. The industry is
continuing work with CMS to obtain clarification and modification of the LCD. The industry
also believes that Medicare beneficiary access to power mobility will be restricted by this
LCD and therefore has requested revisions to the fee schedule.
  
    
    On July 2, 2007, the Secretary of HHS announced a two-year effort designed to further
protect Medicare beneficiaries from fraudulent suppliers of Competitive Acquisition for
Certain Durable Medical Equipment, Prosthetics, Orthotics, and Supplies (DMEPOS). The
initiative is focused on preventing deceptive companies from operating in South Florida and
Southern California. Based on the results of the project, it could be expanded nationwide.
Subsequently, on July 27, 2007, CMS issued a proposed rule requiring all DMEPOS suppliers to
provide CMS with a surety bond of at least $65,000 for each National Provider Identifier
(NPI), the supplier holds. The rule would ensure that Medicare can recover any erroneous
payment amounts or civil money penalties up to $65,000 that result from fraudulent or
abusive supplier billing practices. In addition, in August 2007, CMS announced that it
would require infusion therapy providers in certain South Florida counties to resubmit
applications to be enrolled as qualified Medicare suppliers. We fully support the elimination
of fraudulent suppliers and are working with CMS to support these initiatives.
 (1)
    
    Xopenex is a registered
trademark of Sepracor, Inc.
  14




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
    
    On January 25, 2008, CMS proposed regulations expanding and strengthening enrollment
requirements that DME suppliers must meet to establish and maintain Medicare billing
privileges. These revisions would impose additional requirements in the areas of provider
insurance, marketing practices, document retention, facility location, and hours of
operation. We intend to submit comments prior to the March 25, 2008 deadline. Although we
have not yet had sufficient time to fully evaluate the proposed revisions and their
potential impact on our operations, an initial review suggests that there will be no impact
if the proposal was finalized in its current form. It is uncertain whether any or all of
these proposed regulations will be finalized, however, and we cannot predict or estimate the
impact of the final changes, if any.Accreditation is becoming mandatory as a condition of enrollment and continuing
participation as a Medicare DME supplier, not just for those DME suppliers participating in
the competitive bidding program. We and all of our branches are accredited. DME suppliers
enrolling in Medicare for the first time between January 1, 2008 and February 28, 2008, must
obtain approved accreditation by January 1, 2009. DME suppliers enrolled in the Medicare
program prior to January 1, 2008, must obtain approved accreditation by September 30, 2009.
If we or any of our branches lose accreditation, or if any of our new branches are unable to
become accredited, that could have a material adverse effect on our results of operations,
cash flow and capital resources.
    
    On February 7, 2008, the Medicare Fraud Prevention Act of 2008 was introduced in the
U.S. Senate. The bill would increase financial penalties and prison sentences for certain
civil and criminal violations of the Social Security Act, including making false statements
and violating the federal anti-kickback statute. We cannot predict whether this Act, or some revised form of it, will or
will not become law.
  Medicaid Reimbursement.
 HIPAA.
 Anti-Kickback Statutes.
   15




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##### Table of Contents



Government Regulation; Healthcare Reform.
 Physician Self-Referrals.
 Government Regulation; Healthcare Reform.
 False Claims. qui tam
  Government Regulation;
Healthcare Reform.
 Other Fraud and Abuse Laws.
  16




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##### Table of Contents



Government Regulation;
Healthcare Reform.
 Healthcare Reform Legislation. Government Regulation; Healthcare
Reform.
 Facility and Clinician Licensure. Government Regulation; Healthcare Reform.
 
 Employees
  
 Website Access to Reports
 www.apria.com
 
 Executive Officers of the Registrant
  First Elected asName
    
    Age
    
    Position
    
    Executive OfficerLawrence M. Higby
    
    
    62
    
    
    Chief Executive Officer and Director
    
    
    2002Lawrence A. Mastrovich
    
    
    45
    
    
    President and Chief Operating Officer
    
    
    2002Chris A. Karkenny
    
    
    39
    
    
    Executive Vice President and
Chief Financial Officer
    
    
    2006William E. Monast
    
    
    48
    
    
    Executive Vice President, Sales
    
    
    2007
 Mr. Higby
  17




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##### Table of Contents



Mr. Mastrovich
 Mr. Karkenny
 Mr. Monast
 
 Item 1A. RISK FACTORS
   Collectibility of Accounts Receivable  Our Failure to Maintain Controls and Processes Over Billing
and Collecting or the Deterioration of the Financial Condition of Our Payors Could Have a
Significant Negative Impact on Our Results of Operations and Financial Condition.
  Operating Systems and Controls  Our Failure to Successfully Design and Implement Computer and
Other System Modifications to Maximize Productivity Could Ultimately Have a Significant Negative
Impact on Our Results of Operations and Financial Condition.
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##### Table of Contents



Medicare/Medicaid Reimbursement Rates  Continued Reductions in Medicare and Medicaid Reimbursement
Rates Could Have a Material Adverse Effect on Our Results of Operations and Financial Condition.
 Medicare
Reimbursement Reductions. Medicare
Reimbursement Medicare Reimbursement
  Medicaid
Reimbursement Reductions.
  Medicare Reimbursement Medicare and Medicaid Reimbursement.
 Other Pricing Pressures  We Believe That Continued Pressure to Reduce Healthcare Costs Could Have
a Material Adverse Effect on Us.
    19




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##### Table of Contents



Government Regulation; Healthcare Reform  Non-Compliance with Laws and Regulations Applicable to
Our Business and Future Changes in Those Laws and Regulations Could Have a Material Adverse Effect
on Us.
  Facility and Clinician Licensure  Our Failure to Maintain Required Licensure for Our Facilities
and Clinical Employees Could Impact Our Operations.
  Economic and Political Events, International Conflicts and Natural Disasters  Significant Global
or Regional Developments That Are Out of the Companys Control Could Have a Material Adverse Effect
on Us.
  Our Variable Rate Indebtedness Subjects Us to Interest Rate Risk, Which Could Cause Our Debt
Service Obligations to Increase Significantly.
  Our Strategic Growth Plan, Which Involves the Acquisition of Other Companies, Including Coram, May
Not Succeed.
  
    
    difficulties related to combining previously separate businesses into a single unit,
including product and service offerings, distribution and operational capabilities and
business cultures;
    
    customer loss and other general business disruption;
    
    managing the integration process while completing other independent acquisitions or
dispositions;
    
    minimizing the diversion of managements attention from day-to-day operations;
    
    assumption of liabilities of an acquired business, including unforeseen or contingent
liabilities or liabilities in excess of the amounts estimated;
    
    failure to realize anticipated benefits and synergies, such as cost savings and revenue
enhancements;
    
    potentially substantial costs and expenses associated with acquisitions and dispositions;
    
    failure to retain and motivate key employees;
  20




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##### Table of Contents




    
    coordinating research and development activities to enhance the introduction of new
products and services;
    
    dilution of existing stockholders and convertible note holders due to the issuance of
equity securities, utilization of cash reserves, or incurrence of debt in order to fund the
acquisitions; and
    
    difficulties in applying our internal control over financial reporting and disclosure
controls and procedures to an acquired business.
 We
May Not Realize Benefits from the Acquisition of Coram Because of Integration and Other
Challenges.
  We
May Not Have the Funds Necessary to Repurchase our 33/8% Convertible Senior Notes on
September 1, 2008.
 3 8
 
 Item 1B. UNRESOLVED STAFF COMMENTS
  
 Item 2. PROPERTIES
   
 Item 3. LEGAL PROCEEDINGS
   
 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
   21




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##### Table of Contents



PART II
 
 Item 5.
    
    MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES
 Market for the Registrants Common Equity
  High
    
    
    LowYear ended December 31, 2007First quarter
    
    $
    33.11
    
    
    $
    26.36Second quarter
    
    
    34.36
    
    
    
    27.84Third quarter
    
    
    31.57
    
    
    
    22.23Fourth quarter
    
    
    27.93
    
    
    
    20.11Year ended December 31, 2006First quarter
    
    $
    24.76
    
    
    $
    21.69Second quarter
    
    
    22.92
    
    
    
    17.37Third quarter
    
    
    22.95
    
    
    
    17.38Fourth quarter
    
    
    27.70
    
    
    
    19.25
  Equity Compensation Plans
  Number ofSecurities
    
    
    
    
    
    
    Number ofto be Issued Upon
    
    
    Weighted Average
    
    
    Securities RemainingExercise of
    
    
    Exercise Price of
    
    
    Available for FutureOutstanding
    
    
    Outstanding
    
    
    Issuance UnderOptions,
    
    
    Options,
    
    
    EquityWarrants and
    
    
    Warrants and
    
    
    CompensationPlan Category
    
    Rights
    
    
    Rights
    
    
    PlansEquity compensation plans approved by stockholders
    
    
    3,838,133
    
    
    $
    25.42
    
    
    
    2,760,957Equity compensation plans not approved by stockholders
    
    
    172,250
    
    
    $
    20.97
    
    
    
    Totals
    
    
    4,010,383
    
    
    $
    25.23
    
    
    
    2,760,957
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##### Table of Contents



Item 6. SELECTED FINANCIAL DATA
  Year Ended December 31,(in thousands, except per share data)
    
    2007(1)
    
    
    2006(2)
    
    
    2005(3)
    
    
    2004(4)
    
    
    2003(5)(As Restated)
    
    
    (As Restated)
    
    
    (As Restated)
    
    
    (As Restated)Statements of Income Data:Net revenues
    
    $
    1,631,801
    
    
    $
    1,516,691
    
    
    $
    1,475,670
    
    
    $
    1,448,631
    
    
    $
    1,378,907Net income
    
    
    86,039
    
    
    
    74,263
    
    
    
    68,483
    
    
    
    112,017
    
    
    
    114,839Basic net income per common share
    
    $
    1.98
    
    
    $
    1.75
    
    
    $
    1.42
    
    
    $
    2.27
    
    
    $
    2.15Diluted net income per common share
    
    $
    1.95
    
    
    $
    1.73
    
    
    $
    1.40
    
    
    $
    2.23
    
    
    $
    2.13Balance Sheet Data (As of December 31):Total assets
    
    $
    1,597,802
    
    
    $
    1,154,636
    
    
    $
    1,198,461
    
    
    $
    1,120,253
    
    
    $
    1,055,198Long-term obligations, including
current maturities
    
    
    687,283
    
    
    
    487,145
    
    
    
    645,320
    
    
    
    480,858
    
    
    
    500,763Stockholders equity
    
    
    512,025
    
    
    
    399,693
    
    
    
    311,651
    
    
    
    389,129
    
    
    
    350,884
 (1)
    
    We acquired Coram on December 3, 2007 for an aggregate cash payment of
approximately $350 million. This acquisition affects the
comparability of 2007 financial information to prior fiscal years.
The results of operations and financial condition of Coram have been
included in our consolidated financial statements since the
acquisition date. See Note 5  Business Combinations, contained in
the Notes to the Consolidated Financial Statements for a detailed
discussion of this acquisition.(2)
    
    Net revenue for 2006 reflects $15.0 million in incremental Medicare
reimbursement reductions for respiratory drugs, oxygen and oxygen
equipment.(3)
    
    Net income for 2005 reflects $16.3 million in settlement costs and
legal fees associated with the disposition of the previously-reported
federal investigation and qui tamlawsuits, net of taxes. Net revenues
for 2005 were reduced by an incremental $27.4 million in Medicare
reimbursement reductions on respiratory medications, certain durable
medical equipment items and oxygen-related equipment. The balance
sheet data at December 31, 2005 reflects the repurchase of common
stock with $175.0 million in debt borrowed from Aprias revolving line
of credit.(4)
    
    Net income for 2004 reflects the write-off of deferred debt issuance
costs of $2.7 million associated with the November 2004 refinancing of
the Companys bank loans. Net revenues for 2004 were reduced by
$15.2 million in Medicare reimbursement reductions on respiratory
medications.(5)
    
    The balance sheet data at December 31, 2003 reflects the issuance of
convertible senior notes in the aggregate principal amount of
$250 million and the concurrent repurchase of common stock with
$100.0 million of the proceeds.
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##### Table of Contents



Item 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
  Overview.
 Disclosures about Segments of an
Enterprise and Related Information.
 Strategy
 
    
    achieve strong organic sales growth and increase market share;
    
    leverage our nationwide infrastructure to reduce costs and expand profits;
    
    deliver superior customer service;
    
    attract, develop and advance leaders within the Company;
    
    operate our business ethically; and
    
    maintain independent accreditation at all locations.
 Recent Events.
 Critical Accounting Policies.
 Revenue and Accounts Receivable.
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##### Table of Contents



Revenue Arrangements with Multiple
Deliverables,
  Deferred Revenue and Deferred Expenses. Accounting for Leases.
 Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct
Costs of Leases.
 Goodwill and Long-Lived Assets. Goodwill and Other Intangible Assets,
 Share-Based Compensation. Share-Based Payment, Accounting for Stock Issued to Employees, Accounting for
Stock-Based Compensation, Accounting for Stock-Based Compensation 
Transition and Disclosure.
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##### Table of Contents



Expected option term(1)
    
    4.6 yearsExpected volatility(2)
    
    
    29.9
    %Risk-free interest rate(3)
    
    
    4.5
    %Expected annual dividend yield
    
    
    0
    %
 
 (1)
    
    The expected option term is based on historical exercise and post-vesting termination patterns.(2)
    
    Expected volatility represents a combination of historical stock price volatility and implied
volatility from publicly-traded options on our common stock.(3)
    
    The risk-free interest rate is based on the implied yield on a U.S. Treasury zero coupon issue
with a remaining term equal to the expected term of the option.
  Income Taxes . Accounting for Income Taxes.
 Accounting for Uncertainty in Income Taxes
 Accounting for Contingencies.
   26




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##### Table of Contents



Government Regulation
 Government Regulation; Healthcare Reform.
 Medicare and Medicaid Reimbursement.
 Medicare Reimbursement.
    
    
    A freeze on annual payment increases for most durable medical equipment  The freeze
commenced in 2004 and will continue through 2008. After 2008, the payment update for
equipment not subject to competitive bidding will be equal to the Consumer Price Index for urban consumers.
    
    Reimbursement reductions for five durable medical equipment categories  Reimbursement
for most oxygen and oxygen equipment, standard wheelchairs (including standard power
wheelchairs), nebulizers, diabetic supplies consisting of lancets and testing strips,
hospital beds, and air mattresses, became based on the median price paid for such items on
behalf of beneficiaries of federal employee health benefit plans. Subsequent
legislation has further modified some reimbursement methodology for certain items, such as
power wheelchairs and oxygen and oxygen equipment, as described below.
    
    Reimbursement reductions for inhalation drugs  Beginning January 2005, Medicare Part B
reimbursement for most drugs, including inhalation drugs, became based upon the
manufacturer-reported average sales price (ASP) (subject to adjustment each quarter), plus
6%, plus a separate dispensing fee per patient episode. CMS publishes the ASP plus 6%
payment levels several weeks before the first day of each quarter, and we have no way of
knowing if the quarterly ASPs will increase or decrease since manufacturers report
applicable sales price information directly to CMS. Since 2006, dispensing fees have
remained at $57.00 for a 30-day supply for a new patient, $33.00 for each 30-day supply
thereafter, and $66.00 for each 90-day supply. Effective July 1, 2007, Medicare no longer
reimburses providers for compounded inhalation drugs. Because our
compounding levels are minimal, this change has no significant effect on us. Subsequent
regulations and legislation have further modified reimbursement methodologies for certain
inhalation therapies, as described below.
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##### Table of Contents



The reimbursement methodology for non-compounded, infused drugs administered through Durable
Medical Equipment (DME), such as infusion pumps, was not affected by this change. It
remains based upon either 95% of the October 1, 2003 Average Wholesale Price (AWP) or, for
those drugs whose AWPs were not published in the applicable 2003 compendia, at 95% of the
first published AWP.
    
    Establishment of a competitive bidding program for Medicare Part B  The MMA required
implementation of a competitive bidding program for certain DME, and on April 10, 2007, CMS
published a final rule implementing such a Medicare Part B competitive bidding program. By
statute, CMS is required to implement the DME competitive bidding program over time, with the
first phase establishing competitive bidding in 10 of the largest metropolitan statistical
areas (MSAs), for 2008, with 70 additional markets to be added in 2009, and nationwide
implementation in 2010. Our bids for the first round have been submitted. On January 8,
2008, CMS announced the 70 MSAs and product categories for the second round of the competitive
bidding program. The exact Competitive Bidding Areas (CBAs) will be further clarified in
early 2008. CMS anticipates the formal bid process for the second round will begin in the
summer of 2008, with implementation in 2009.Competitive bidding imposes a significant risk to suppliers of DME. If a DME supplier
operating in a CBA, is not awarded a contract for that CBA, the supplier generally will not be
able to bill and be reimbursed by Medicare for DME items supplied in that CBA for the time
period covered by the competitive bidding program (unless a supplier is covered by the
grandfathering provision for existing oxygen or capped rental patients discussed below).
Because the applicable statute mandates savings and CMS bidding rules require that bids must
be less than current Medicare allowable rates, a DME supplier awarded one of the winning bids
for the CBA will receive lower Medicare payment rates than those in existence prior to
competitive bidding. In addition, there is a risk that the new competitive bidding prices will
become a new benchmark for reimbursement from private payors. As competitive bidding is phased
in across the country, we and most DME suppliers will likely experience a substantial
reduction in reimbursement.Based upon criteria described in the final rule governing competitive bidding, CMS identified
both the ten MSAs and product categories for the initial phase of the program. We service all
nine of the domestic markets included in the list of initial ten CBAs (Puerto Rico markets
excluded). Nine of the ten product categories selected for the first phase are common to all
nine domestic markets. The tenth product category is specific to the Miami and Puerto Rico
markets only. In the first phase, CMS accepted bids from suppliers for the following product
categories: Oxygen Supplies and Equipment; Standard Power Wheelchairs, Scooters and Related
Accessories; Complex Rehabilitative Power Wheelchairs and Related Accessories; Mail-Order
Diabetic Supplies; Enteral Nutrients, Equipment and Supplies; Continuous Positive Airway
Pressure Devices, Respiratory Assist Devices and Related Supplies and Accessories; Hospital
Beds and Related Accessories; Negative Pressure Wound Therapy Pumps and Related Supplies and
Accessories; Walkers and Related Accessories; and (Miami and Puerto Rico only) Support
Surfaces (group 2 mattresses and overlays).The bidding process for the first round of competitive bidding was complex and subject to
deadline extensions. The deadline for suppliers to submit bids for participation in the first
round of the program was originally 60 days after issuance of the Request for Bids (RFBs).
However, after issuing the RFBs in mid-May 2007, CMS and its Competitive Bidding
Implementation Contractor, extended the deadline for bid submission three times in
response to concerns raised by individual suppliers, industry associations and Congress about
difficulties experienced with the bid process and Internet-based application process. The
revised deadline for submission was September 25, 2007, and we submitted timely bids.
Suppliers also must be accredited entities to take part in the program. The accreditation
deadline was October 31, 2007; we already are an accredited entity. CMS anticipates that it
will announce the winning bidders by March 2008 and expects that the new payment levels will
go into effect for the selected DME product categories in the initial ten CBAs beginning
July 1, 2008. Contracts with winning bidders for the first round of competitive bidding are
expected to be three years in length, except for diabetic supplies, which are expected to be
21 months in length. Consequently, the contract period for mail order diabetic supplies is
expected to be from July 1, 2008 to March 31, 2010 and the contract period for all other first
round product categories is expected to be from July 1, 2008 to June 30, 2011. New
competitive bidding periods in the initial ten markets are expected to begin after the initial
contracts end.The final rule governing competitive bidding, among other things, generally requires Medicare
beneficiaries who live in a CBA to receive equipment and services that are included within the
competitive bidding program exclusively from suppliers who are awarded contracts by CMS, with
a few exceptions. The reimbursement rate for the items and services will be the single payment
rate that is determined through the bid process. The revenue associated with the items subject
to competitive bidding in the initial year of the program represents less than 2% of our 2007
total net revenue. If we become a winning contract supplier in each of the nine initial CBAs
serviced by us, and assuming that the CMS estimation of the 10% to 15% reduction in
payment for these services is realized, then we estimate this would have caused less than a
0.3% decline in our 2007 total net revenue, if 2007 had been the initial year of competitive
bidding. However, the actual impact of the initial year of competitive bidding on our total
net revenue will likely be different. Likewise, we cannot predict or guarantee that the
reimbursement rates in the CBAs will be reduced as CMS has estimated, or will not be even
lower than the CMS projections.
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In the second and subsequent years of competitive bidding, we expect that the adverse
financial impact will increase substantially in amounts that cannot
currently be determined. If we are selected as a winning contract supplier in any CBA during any of the
competitive bidding periods, we believe that our geographic coverage, clinical marketing
programs and purchasing strength provide competitive advantages to maintain and enhance market
share, but at lower reimbursement rates. However, there is no guarantee that we will be
selected as a winning contract supplier and be awarded a competitive bidding contract by CMS
in any of the initial or subsequent CBAs. If we are not selected as a contract supplier for a
particular CBA, we will generally not be allowed to supply Medicare beneficiaries with
products subject to competitive bidding within that CBA, unless we elect to continue providing
service to existing patients under the grandfathering provision of the final rule. Under
this provision, a supplier may continue to supply certain existing patients that were serviced
prior to the implementation of competitive bidding even if the supplier was not awarded a
contract, provided certain conditions are met. Because of our combination of both managed care
and traditional business, we believe we can nevertheless maintain a favorable overall market
position even if we are not selected as a contract supplier for a particular CBA.
    
    Incentives for the expansion of Medicare Part C (Medicare Advantage)  The MMA included
financial incentives for managed care plans to expand their provision of Medicare Advantage
plans in 2006 in an effort to attract more Medicare beneficiaries to managed care models. We
maintain contracts to provide respiratory therapy, infusion and medical equipment and
related services to a significant number of managed care plans nationwide.
    
    Reimbursement for home infusion therapy under Medicare Part D  A limited number of
infusion therapies, supplies and equipment are covered by Medicare Part B. The MMA, through
the new Medicare Part D program, provided expanded coverage for certain home infusion
therapy drugs, but excluded coverage for the corresponding supplies and clinical services
needed to safely and effectively administer these drugs. We have contracted with a limited
number of Medicare Part D prescription drug plans in order to provide continuity of care for
certain patients. Due to nationwide Part D implementation issues experienced by home
infusion providers, the industry is continuing to work with CMS and Congress to rectify the
coverage and payment limitations that are causing implementation challenges for providers,
patients and referral sources. A bill was introduced in Congress in the summer of 2006 to
consolidate home infusion therapy coverage under Part B, and a similar bill was reintroduced
in 2007. This legislation would provide for infusion benefit coverage in a more
comprehensive manner that is analogous to how the therapy is covered by the managed care
sector. At this time, we cannot assess whether any of the proposed legislation, or similar
legislation that may be introduced in 2008, will become law in 2008 or subsequent years.
  
    
    Beginning with patients who received products and services as of January 2006, ownership
of durable medical equipment currently categorized in the capped rental category by CMS,
such as hospital beds, wheelchairs, nebulizers, patient lifts and continuous positive airway
pressure devices, automatically transfers to the Medicare beneficiary at the end of a
maximum rental period. As of January 1, 2006, the maximum rental period became 13 months.
Therefore the first month in which the new policy had an impact on our revenue was February
2007. In addition, the service and maintenance fee, which had been paid to suppliers twice
yearly after the rental period ended in order to cover various non-equipment service costs
for patients who require use of the equipment, was eliminated for those patients who
commenced service on or after January 1, 2006. Implementing regulations also imposed other
repair and replacement obligations on suppliers with respect to equipment that does not last
the useful lifetime of the equipment, which CMS has generally defined as being five years.
We estimate that the reduction in rental revenues for impacted DME products and the loss of
the service and maintenance fees in 2007 was approximately $4.0 million and $0.9 million,
respectively. The 2007 estimate assumes the loss of the service and maintenance fee
component for one quarter as the effect of the loss impacted the latter part of the year
primarily. This estimate is subject to assumptions and uncertainties and the actual
negative impact on revenue and fees may be greater or less.
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##### Table of Contents




    
    Reimbursement for oxygen equipment converted from an ongoing rental method to a capped
rental and rent-to-purchase method. Reimbursement for rental of oxygen equipment is limited
to 36 months, after which time the ownership of the equipment transfers to the patient, who
assumes primary responsibility for identifying when repairs or preventive maintenance are
needed. The 36-month rental period was retroactively applied to January 1, 2006 for all
beneficiaries requiring oxygen as of
December 31, 2005. Accordingly, January 2009 is the first month in which the transfer of
ownership for oxygen equipment and the new repair and maintenance policy will impact us. The
implementing DRA regulations also established new payment classes for oxygen equipment,
including transfilling and portable equipment, new monthly rental reimbursement rates, and new
reimbursement rates for the delivery of oxygen contents for patient-owned equipment after
title to the equipment transfers. The new reimbursement amounts went into effect January 1,
2007. CMS will annually review the utilization patterns and fee schedule rates and consider
whether an adjustment to the payment rates is needed in order to satisfy the statutory mandate
of budget neutrality.Regarding repairs and maintenance of beneficiary-owned oxygen equipment, the implementing DRA
regulations permit payment to suppliers for general maintenance and servicing of certain
patient-owned oxygen equipment every six months, beginning after the first six months the
patient owns the equipment. The first beneficiaries to whom this policy will apply will take
title to their equipment in January 2009 and become eligible for maintenance and servicing
under this policy beginning in June 2009. The final rule governing repairs and maintenance of
oxygen equipment limits payment for general maintenance and servicing visits to 30 minutes of
labor based on rates the Medicare contractors establish. CMS declined to offer general
maintenance and servicing payments for beneficiary-owned liquid and gas equipment with the
exception of a single payment for pick-up and storage or disposal of such equipment that a
beneficiary no longer needs. Once title to the oxygen equipment transfers, CMS will also pay
for certain other reasonable and necessary but non-routine repairs which remain as yet
unspecified by the agency, but CMS will not make separate payment for certain patient support
services, which are currently covered by and included in the monthly bundled payment rate for
oxygen therapy. We may or may not continue to provide repair and maintenance service on
patient-owned equipment and are in the process of evaluating the impact of these changes.The implementing regulations also limit supplier replacement of oxygen equipment during the
rental period, and require suppliers to replace beneficiary-owned equipment that does not last
the useful lifetime of the equipment, which CMS has generally defined as being five years.Other issues that have had, will or could have an impact on Medicare reimbursement levels to
us are summarized as follows:
    
    In January 2006, CMS published a final regulation that shifted payment for certain
respiratory assist devices from the current frequent and substantial payment category to
the capped rental category. Under frequent and substantial payment, Medicare payment
continues for the duration of time the beneficiary requires the device, while capped
rental payment continues for 13 months. The change in the payment category became
effective April 1, 2006. The policy applies to those respiratory assist devices (known as
BiPAP STs) that have a backup rate feature that delivers pressure whenever the users
spontaneous breathing efforts are insufficient. The first claims received for each Medicare
beneficiary with a date of service on or after April 1, 2006, including beneficiaries with
existing rental equipment, are counted as the first rental month in the capped rental
period. Thus, the first month in which the new categorization impacted our revenue was May
2007. Our estimate for this change in payment categories is a reduction in 2007 revenues of
approximately $2.5 million.
    
    In January 2006, CMS announced the designation of four specialty contractors, Durable
Medical Equipment Medicare Administrative Contractors (DME MACs), which are responsible
for handling the administration of all Medicare claims from suppliers of durable medical
equipment. CIGNA Government Services, LLC (CGS), protested the contract awards made in
Regions C and D. The Government Accountability Office denied CGS protest for Region D but
CMS ultimately authorized CGS for Region C on January 16, 2007. The following DME MACs are
currently processing claims: National Heritage Insurance Company (NHIC), for Region A
(effective July 1, 2006), AdminaStar Federal for Region B (effective July 1, 2006), CGS for
Region C (effective January 16, 2007), and Noridian Administrative Services for Region D
(effective September 30, 2006). The transition caused several challenges for all DME
suppliers, such as a slight slowdown in payments from the governments new DME MACs and an
increase in certain denials due to a lack of training resources at the new DME MACs.
Industry representatives met with the DME MACs and largely resolved transaction processing
challenges by year-end. It is difficult at this time to predict whether other changes in
claims administration made by the DME MACs may affect DME suppliers in the future, nor can
we predict or estimate the potential impact of such changes on collection of our accounts
receivable.
    
    In 2007, there were numerous legislative and executive branch efforts to further reduce
the maximum rental period for oxygen therapy, equipment and related services. The industry
has actively shared its concerns with Congress, CMS, and others on these issues. Legislative
proposals were introduced in Congress in 2007 that would have repealed the current oxygen
reimbursement cap and equipment ownership mandate of the DRA, as well as amended or modified
existing laws and regulations pertaining to the competitive bidding program and coverage of
infusion therapy services. The Presidents 2007 healthcare proposals sought to reduce the
maximum rental period for oxygen equipment from the now-mandated 36 months to 13 months,
which was recommended by the OIG. The Presidents fiscal year 2008 and 2009 budgets included
such a recommendation. There are other initiatives to reduce the rental period to 13 months
or to implement a reduction to the monthly payment rate, but it is uncertain whether any of
these initiatives will ultimately be approved by Congress. For
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example, in September 2006, the OIG published a report entitled Medicare Home Oxygen:
Equipment Cost and Servicing. The report was the result of an audit survey conducted by the
OIG beginning in the fall of 2005. The surveys stated objective was to study the average
acquisition cost of oxygen concentrators and the nature and frequency of servicing. The final
report included a recommendation that Congress consider further reductions to oxygen payment
levels, including the possibility of limiting the maximum rental period for oxygen equipment
from the DRA-mandated 36 months to 13 months. The industry has analyzed the report and shared
concerns about the narrow scope of the report and its findings with the OIG, CMS, members of
Congress and other government agencies. It is uncertain whether or when any of these efforts
will be repeated or successful in 2008.
  
    
    In October 2006, CMS issued the 2007 Healthcare Procedure Coding System (HCPCS) list
for Medicare Part B medications. The 2007 list included new codes for certain compounded
medications. The coding and reimbursement changes did not have a material impact on us due
to the extremely low volume of patient-specific, physician-prescribed compounding that was
performed by our inhalation pharmacies. According to the state licensing agencies associated
with the states in which our inhalation pharmacies operate, the pharmacies conform to
current quality and sterility standards. CMS stated that patient safety and sterility
issues were found at other providers pharmacies, which motivated it to change the policies
concerning compounded medications.
    
    In response to the 2006 efforts of three Program Safeguard Contractors that oversee DME
suppliers, CMS considered issuing a National Coverage Decision (NCD), for certain
inhalation drug therapies. In the third quarter of 2007, CMS concluded that it would not
issue an NCD. Rather, CMS will continue to defer decisions about the medical necessity of
individual respiratory drugs to the local contractors. We cannot predict if or when CMS may
reconsider this issue and how any subsequent local or national coverage limitation might
impact our operations. Future decisions with respect to the coverage of inhalation drugs may
have a materially adverse impact on us.In 2007, there also were changes to the reimbursement methodology for certain inhalation
drugs. CMS announced in the second quarter of 2007 that beginning in the third quarter of
2007, it would reimburse providers of inhalation drugs a blended average sales price for the
drugs albuterol and Xopenex® (1). On December 29, 2007, the President signed into law
the Medicare, Medicaid, and State Childrens Health Insurance Program (SCHIP) Extension Act
of 2007, which partially reversed the CMS regulatory decision
regarding Xopenex and albuterol. Beginning on April 1, 2008,
Medicare will reimburse for Xopenex in the same manner as in the third quarter of 2007 by blending the average sales price of
Xopenex and albuterol  but it will no longer reimburse albuterol at the blended
price. The new law is expected to reduce reimbursement for albuterol to approximately the
same payment level as in the second quarter of 2007. This provision may have a material and
adverse impact on our yearly results, but we are unable to quantify this impact at this time
due to the fluctuation of ASP reimbursement and the fact that the second quarter 2008 ASPs
will not be published until mid-March 2008. We have undertaken strategies intended to
mitigate in part any potential negative impact associated with this policy change.
    
    In late 2006, CMS revised the Local Coverage Determination (LCD) for power mobility
devices resulting in reductions to the Medicare power mobility devices fee schedule. The
revised fee schedule imposes reductions for certain power mobility devices of about 15%. The
initial changes took effect November 15, 2006. Our estimate of the reduction in our revenues
for 2007 resulting from these fee schedule changes is $1 million. The industry is
continuing work with CMS to obtain clarification and modification of the LCD. The industry
also believes that Medicare beneficiary access to power mobility will be restricted by this
LCD and therefore has requested revisions to the fee schedule.
  
    
    On July 2, 2007, the Secretary of HHS announced a two-year effort designed to further
protect Medicare beneficiaries from fraudulent suppliers of Competitive Acquisition for
Certain Durable Medical Equipment, Prosthetics, Orthotics, and Supplies (DMEPOS). The
initiative is focused on preventing deceptive companies from operating in South Florida and
Southern California. Based on the results of the project, it could be expanded nationwide.
Subsequently, on July 27, 2007, CMS issued a proposed rule requiring all DMEPOS suppliers to
provide CMS with a surety bond of at least $65,000 for each National Provider Identifier, the supplier holds. The rule would ensure that Medicare can recover any erroneous
payment amounts or civil money penalties up to $65,000 that result from fraudulent or
abusive supplier billing practices. In addition, in August 2007, CMS announced that it
would require infusion therapy providers in certain South Florida counties to resubmit
applications to be enrolled as qualified Medicare suppliers. We fully support the
elimination of fraudulent suppliers and are working with CMS to support these initiatives.
 (1)
    
    Xopenex is a registered
trademark of Sepracor, Inc.
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
    
    On January 25, 2008, CMS proposed regulations expanding and strengthening enrollment
requirements that DME suppliers must meet to establish and maintain Medicare billing
privileges. These revisions would impose additional requirements in the areas of provider
insurance, marketing practices, document retention, facility location, and hours of
operation. We intend to submit comments prior to the March 25, 2008 deadline. Although we
have not yet had sufficient time to fully evaluate the proposed revisions and their
potential impact on our operations, an initial review suggests that there will be no impact
if the proposal was finalized in its current form. It is uncertain whether any or all of
these proposed regulations will be finalized, however, and we cannot predict or estimate the
impact of the final changes, if any.Accreditation is becoming mandatory as a condition of enrollment and continuing
participation as a Medicare DME supplier, not just for those DME suppliers participating in
the competitive bidding program. We and all of our branches are accredited. DME suppliers
enrolling in Medicare for the first time between January 1, 2008 and February 28, 2008, must
obtain approved accreditation by January 1, 2009. DME suppliers enrolled in the Medicare
program prior to January 1, 2008, must obtain approved accreditation by September 30, 2009.
If we or any of our branches lose accreditation, or if any of our new branches are unable to
become accredited, that could have a material adverse effect on our results of operations,
cash flow and capital resources.
    
    On February 7, 2008, the Medicare Fraud Prevention Act of 2008 was introduced in the
U.S. Senate. The bill would increase financial penalties and prison sentences for certain
civil and criminal violations of the Social Security Act, including making false statements
and violating the federal anti-kickback statute. We cannot predict whether this Act, or some revised form of it, will or
will not become law.
  Medicaid Reimbursement.
 Results of Operations
 2007 Results Compared to 2006 Results
 Net Revenues
 
    
    the reduction in the equipment rental period from 15 to 13 months for certain
respiratory equipment such as Continuous Positive Air Pressure Units, Nebulizer Units,
Hospital Beds and Wheelchairs;
    
    changing the maximum rental period on certain equipment such as bi-level airway
pressure devices from an unlimited rental period to 13 months; and
    
    transfer of equipment
ownership from us to the patient at the end of the 13-month rental
period.
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##### Table of Contents



Medicare Reimbursement .
  Year Ended December 31,Percentage(in thousands)
    
    2007
    
    
    2006
    
    
    Increase
    
    
    ChangeHome respiratory therapy
    
    $
    1,087,126
    
    
    $
    1,032,651
    
    
    $
    54,475
    
    
    
    5.3
    %Home infusion therapy
    
    
    334,182
    
    
    
    274,723
    
    
    
    59,459
    
    
    
    21.6Home medical equipment/other
    
    
    210,493
    
    
    
    209,317
    
    
    
    1,176
    
    
    
    0.6Total net revenues
    
    $
    1,631,801
    
    
    $
    1,516,691
    
    
    $
    115,110
    
    
    
    7.6
    %
 Home Respiratory Therapy .
 Home Infusion Therapy .
 Home Medical Equipment/Other .
 Gross Profit.
 Provision for Doubtful Accounts.
 Selling, Distribution and Administrative.
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
    
    increased costs in our sales department due to the planned headcount increases in our
sales area;
    
    increases in our intake, billing and operations area costs due to increases in sales
volume;
    
    increases in stock based
compensation expense due to new stock awards in 2007;
    
    increases in home
respiratory therapist administrative costs due to increases in sales
volume; and an
    
    increase in incentive based compensation plans based on the 2007 results.
 Amortization of Intangible Assets.
 Interest Expense. - Long Term Debt
 Interest Income.
 Income Tax Expense.
 2006 Results Compared to 2005 Results
 Net Revenues
  Year Ended December 31,Increase
    
    
    Percentage(in thousands)
    
    2006
    
    
    2005
    
    
    (Decrease)
    
    
    ChangeHome respiratory therapy
    
    $
    1,032,651
    
    
    $
    1,011,321
    
    
    $
    21,330
    
    
    
    2.1
    %Home infusion therapy
    
    
    274,723
    
    
    
    256,225
    
    
    
    18,498
    
    
    
    7.2Home medical equipment/other
    
    
    209,317
    
    
    
    208,124
    
    
    
    1,193
    
    
    
    0.6Total net revenues
    
    $
    1,516,691
    
    
    $
    1,475,670
    
    
    $
    41,021
    
    
    
    2.8
    %
 Home Respiratory Therapy .
 Home Infusion Therapy .
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##### Table of Contents



Home Medical Equipment/Other .
 Gross Profit.
 Provision for Doubtful Accounts.
 Selling, Distribution and Administrative.
   
    
    increases in our intake, billing and operations area costs due to increases in sales
volume;
    
    increase in incentive based
compensation plans based on the 2006 results;
    
    increases in delivery, warehouse, repairs and logistics costs due to increased sales
volume;
    
    increases in legal costs due
to various legal settlements;
    
    increases in stock based
compensation expense due to new stock awards in 2006;
    
    decreases in home
respiratory therapist administrative costs; and a
    
    decrease in 401k costs due
to the suspension of matching contributions in 2006.
 Qui Tam Settlement and Related Costs. qui
tam qui tam
 Amortization of Intangible Assets.
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##### Table of Contents



Interest Expense. Liquidity and Capital
Resources  Long-term Debt
 Interest Income.
 Income Tax Expense.
 Liquidity and Capital Resources
    3 8
 Cash Flow.
 Year Ended December 31,2007
    
    
    2006
    
    
    2005(in thousands)Net cash provided by operating
activities
    
    $
    294,006
    
    
    $
    280,914
    
    
    $
    206,299Net cash used in investing
activities
    
    
    (483,235
    )
    
    
    (132,932
    )
    
    
    (223,571
    )Net cash provided by (used in) financing
activities
    
    
    203,023
    
    
    
    (156,629
    )
    
    
    1,177Net increase (decrease) increase in cash and
equivalents
    
    
    13,794
    
    
    
    (8,647
    )
    
    
    (16,095
    )Cash and equivalents at beginning of period
    
    
    14,657
    
    
    
    23,304
    
    
    
    39,399Cash and equivalents at end of period
    
    $
    28,451
    
    
    $
    14,657
    
    
    $
    23,304
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##### Table of Contents



Years Ended December 31, 2007 and 2006
   
    
    $5.3 million was due to an increase in cash provided by the change in accrued payroll
and related taxes and benefits, to a $0.5 million provision of cash in 2007 from a $4.8
million use of cash in 2006 primarily due to a $2.6 million increase related to an
additional accrual day in 2007, an increase of $2.0 million related to accrued vacation,
and a $1.9 million increase related to the 401(k) match.
    
    $14.7 million increase in cash provided by accrued expenses to a $20.1 million provision
of cash in 2007 from a $5.4 million provision of cash in 2006. The increase was primarily
due to $1.7 million related to accrued interest, $1.5 million in
accrued legal settlements, $3.4 million in accrued incentive compensation and $2.6 million
related to an additional software contract.
    
    $18.2 million increase in cash provided by income taxes payable to a $20.4 million
provision of cash in 2007 from a $2.2 million provision of cash in 2006. The increase in
income taxes payable was primarily due to the recognition of unrecognized tax benefits under FIN 48 and income tax due to various tax authorities.
  
    
    $10.4 million increase in cash used in accounts receivable, to a $33.7 million use of
cash in 2007 from a $23.3 million use of cash in 2006. This increase in use of cash was
primarily due to a net increase in accounts receivable.
    
    $7.1 million increase in cash used in prepaid expenses and other current assets to a
$0.05 million use of cash in 2007 from a $7.1 million provision of cash in 2006. The
increase was primarily due to increases in the prepaid service contracts balance of $1.7
million and the prepaid intravenous inventory balance of $1.2 million from the prior year. In 2006,
$3.9 million in prepaid insurance was financed. This did not recur in 2007.
   Years Ended December 31, 2006 and 2005
   
    
    $30.9 million was due to a decrease in cash used in accounts receivable, to a $23.3
million use of cash in 2006 from a $54.2 million use of cash in 2005, primarily due to a
decrease in accounts receivable.
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##### Table of Contents




    
    $8.6 million was due to a decrease in cash used by income taxes payable, to a $2.2
million provision of cash in 2006 from a $6.4 million use of cash in 2005, and
    
    $4.8 million increase
in cash was provided by the increase in accounts payable to a $7.7
million provision of cash in 2006 from a $2.9 million provision of cash in 2005.
   Contractual Cash Obligations.
 Less than
    
    
    1-3
    
    
    3-5
    
    
    More than1 yr.
    
    
    yrs.
    
    
    yrs.
    
    
    5 yrs.
    
    
    Totals(Dollars in millions)Revolving loan(1)
    
    $
    
    
    
    $
    
    
    
    $
    424
    
    
    $
    
    
    
    $
    424Convertible senior notes (3 3/8%)(2)
    
    
    280
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    280Interest on convertible senior notes(3)
    
    
    9
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9Operating leases
    
    
    66
    
    
    
    97
    
    
    
    46
    
    
    
    21
    
    
    
    230Software licenses and related maintenance
    
    
    4
    
    
    
    2
    
    
    
    2
    
    
    
    
    
    
    
    8Unrecognized tax benefits under FIN 48(4)
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Notes
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Capitalized leases
    
    
    2
    
    
    
    4
    
    
    
    1
    
    
    
    
    
    
    
    7Total contractual cash obligations
    
    $
    363
    
    
    $
    103
    
    
    $
    473
    
    
    $
    21
    
    
    $
    960
 
 (1)
    
    Interest on outstanding borrowings is payable quarterly. The effective interest rate at December 31, 2007 was 6.1%.(2)
    
    The holders of the
convertible senior notes will first have the option to require us to
repurchase all or a portion of their notes in September 2008.
Included in this amount is a $30 million tax payment as a result of
the note conversion.(3)
    
    Interest on these notes is paid bi-annually in March and September. Unless the notes are earlier converted, redeemed or repurchased, such interest
payments will total $8.4 million annually until the notes mature in 2033. Amounts presented above in the footnoted line item assume notes are not
earlier converted, redeemed or repurchased.(4)
    
    The contractual cash obligations table solely reflects future cash tax settlements for which we can make a reliable estimate as to the timing of cash
payment for our liability for unrecognized tax benefits under FIN 48. Gross current unrecognized tax benefits of $852,000 are included within
Income Taxes Payable in the current liabilities section of our balance sheet. Gross non-current unrecognized tax benefits of $32.6 million are
included within Income Taxes Payable and Other Non-current Liabilities in the total liabilities section of our balance sheet. The entire $32.6
million amount has been excluded from the contractual cash obligations table since we cannot make a reliable estimate on the period in which cash
payments will occur. See Note 9  Income Taxes, contained in the Notes to the Consolidated Financial Statements for further discussion of our liability
for unrecognized tax benefits under FIN 48.
 Accounts Receivable.
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##### Table of Contents



December 31,
    
    
    December 31,2007
    
    
    2006Total
    
    
    21.1
    %
    
    
    19.8
    %Medicare
    
    
    23.9
    %
    
    
    19.2
    %Medicaid
    
    
    23.2
    %
    
    
    28.6
    %Patient Self pay
    
    
    40.7
    %
    
    
    36.5
    %Managed care/other
    
    
    19.3
    %
    
    
    19.1
    %
 Unbilled Receivables .
 Inventories and Patient Service Equipment.
  Long-term Debt. Hedging Activities
  Convertible Senior Notes .
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##### Table of Contents



3 8
 Hedging Activities .
 During 2007, we had one interest rate swap agreement in effect to fix our LIBOR-based variable rate debt. The
agreement, a forward-starting contract with a three-year term, became effective in January 2006, and has a notional
amount of $25,000,000 that fixes an equivalent amount of our variable rate debt at 4.44%.  In 2006, we had two interest
rate swap agreements.  Each agreement had a notional amount of $25,000,000, with one agreement expiring in December
2006 and the other agreement expiring in January 2009.   In 2005, we had two interest rate swap agreements. Each
agreement had a notional amount of $25,000,000, with one agreement expiring in December 2005 and the other agreement
expiring in December 2006.  For the years ended December 31, 2007, 2006 and 2005, we received net settlement amounts of
$233,000, $540,000, and $11,000, respectively. At December 31, 2007, the aggregate fair value of the swap agreement was
a liability of $105,000 and is reflected in the accompanying consolidated balance sheets in current liabilities. At
December 31, 2006, the aggregate fair value of the swap agreements was an asset of $356,000, and is reflected in other
assets. The swap agreements are being accounted for in accordance with SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities.  Unrealized gains and losses on the fair value of the swap agreements are
reflected, net of taxes, in operating income, as the transactions no longer qualify for hedge accounting treatment. Our
exposure to credit loss under the swap agreement is limited to the interest rate spread in the event of counterparty
nonperformance. We do not anticipate losses due to counterparty nonperformance as our counterparties to the swap
agreement are nationally recognized financial institutions with strong credit ratings. Treasury Stock.
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##### Table of Contents



Business Combinations.
  Inflation.
 Off-Balance Sheet Arrangements
   
 Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
  Long-term Debt.
 Long-term Debt -
Hedging Activities.
 Long-term Debt  Hedging Activities.
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##### Table of Contents



Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
  
 Item 9.
    
    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
  
 Item 9A. CONTROLS AND PROCEDURES
 Disclosure Controls and Procedures
  Changes in Internal Control Over Financial Reporting
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##### Table of Contents



MANAGEMENTS REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
  Internal Control 
Integrated Framework
    /s/ LAWRENCE M. HIGBY

Lawrence M. HigbyChief Executive Officer/s/ CHRIS A. KARKENNY

Chris A. KarkennyExecutive Vice President and Chief Financial
Officer
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##### Table of Contents



Item 9B. OTHER INFORMATION
  
 PART III
 
 Item 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
  
 Item 11. EXECUTIVE COMPENSATION
  
 Item 12.
    
    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
  
 Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
  
 Item 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
  
 PART IV
 
 Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE
 (a)
    
    
    1.
    
    
    The financial statements described in the Index to
Consolidated Financial Statements and Financial Statement
Schedule are included in this Annual Report on Form 10-K
starting at page F-1.2.
    
    
    The financial statement schedule is included on page S-1.All other schedules for which provision is made in the
applicable accounting regulations of the Securities and
Exchange Commission are not required under the related
instructions or are inapplicable, and therefore have been
omitted.3.
    
    
    Exhibits included or incorporated by reference herein:See Exhibit Index.
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##### Table of Contents



INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULE
 PageCONSOLIDATED FINANCIAL STATEMENTSReport of Independent Registered Public Accounting Firm
    
    
    F-1Consolidated Balance Sheets  December 31, 2007 and 2006 (As Restated)
    
    
    F-2Consolidated Statements of Income  Years ended December 31, 2007, 2006 (As Restated) and 2005 
(As Restated)
    
    
    F-3Consolidated Statements of Stockholders Equity  Years ended December 31, 2007, 2006 (As Restated) and 2005 (As Restated)
    
    
    F-4Consolidated Statements of Cash Flows  Years ended December 31, 2007, 2006 (As Restated) and 2005 
(As Restated)
    
    
    F-5Notes
to Consolidated Financial Statements
    
    
    F-6FINANCIAL STATEMENT SCHEDULESchedule II  Valuation and Qualifying Accounts
    
    
    S-1




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##### Table of Contents



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 Internal Control  Integrated
Framework
    Internal Control  Integrated Framework .
 Share-Based Payment Accounting for Uncertainty in Income Taxes  an interpretation of
FASB Statement No. 109
 DELOITTE & TOUCHE LLP
 
  F-1




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##### Table of Contents



APRIA HEALTHCARE GROUP INC.
 
 CONSOLIDATED BALANCE SHEETS
 December 31,(in thousands, except share data )
    
    2007
    
    
    2006(As Restated See Note 2)ASSETSCURRENT ASSETSCash and cash equivalents
    
    $
    28,451
    
    
    $
    14,657Accounts receivable, less allowance for doubtful
accounts of $47,823 and $27,324 at December 31,
2007 and 2006, respectively
    
    
    284,141
    
    
    
    211,097Inventories, net
    
    
    52,079
    
    
    
    40,681Deferred income taxes
    
    
    66,198
    
    
    
    42,480Deferred expenses
    
    
    3,102
    
    
    
    3,020Prepaid expenses and other current assets
    
    
    23,364
    
    
    
    19,142TOTAL CURRENT ASSETS
    
    
    457,335
    
    
    
    331,077PATIENT SERVICE EQUIPMENT, less accumulated
depreciation of $453,324 and $445,608 at December 31,
2007 and 2006, respectively
    
    
    200,180
    
    
    
    212,068PROPERTY, EQUIPMENT AND IMPROVEMENTS, NET
    
    
    102,827
    
    
    
    52,975GOODWILL
    
    
    715,235
    
    
    
    539,187INTANGIBLE ASSETS, NET
    
    
    107,757
    
    
    
    6,551DEFERRED DEBT ISSUANCE COSTS, NET
    
    
    2,834
    
    
    
    4,612OTHER ASSETS
    
    
    11,634
    
    
    
    8,166$
    1,597,802
    
    
    $
    1,154,636LIABILITIES AND STOCKHOLDERS EQUITYCURRENT LIABILITIESAccounts payable
    
    $
    120,360
    
    
    $
    66,969Accrued payroll and related taxes and benefits
    
    
    66,625
    
    
    
    46,532Income taxes payable
    
    
    3,076
    
    
    
    10,793Other accrued liabilities
    
    
    73,835
    
    
    
    44,804Deferred revenue
    
    
    29,704
    
    
    
    29,158Current portion of long-term debt
    
    
    254,252
    
    
    
    2,145TOTAL CURRENT LIABILITIES
    
    
    547,852
    
    
    
    200,401LONG-TERM DEBT, net of current portion
    
    
    433,031
    
    
    
    485,000DEFERRED INCOME TAXES
    
    
    62,290
    
    
    
    60,815INCOME TAXES PAYABLE AND OTHER NON-CURRENT LIABILITIES
    
    
    42,604
    
    
    
    8,727TOTAL LIABILITIES
    
    
    1,085,777
    
    
    
    754,943COMMITMENTS AND CONTINGENCIES (Notes 11 and 13)STOCKHOLDERS EQUITYPreferred stock, $.001 par value:10,000,000 shares authorized; none issued
    
    
    
    
    
    
    Common stock, $.001 par value:150,000,000 shares authorized; 60,844,901 and
59,762,307 shares issued at December 31, 2007
and 2006, respectively; 43,794,492 and
42,789,450 outstanding at December 31, 2007
and 2006, respectively
    
    
    61
    
    
    
    60Additional paid-in capital
    
    
    514,848
    
    
    
    482,123Treasury stock, at cost; 17,050,409 and
16,972,857 shares at December 31, 2007 and 2006,
respectively
    
    
    (431,651
    )
    
    
    (429,573
    )Retained earnings
    
    
    428,538
    
    
    
    346,732Accumulated other comprehensive income
    
    
    229
    
    
    
    351TOTAL STOCKHOLDERS EQUITY
    
    
    512,025
    
    
    
    399,693$
    1,597,802
    
    
    $
    1,154,636
 See notes to consolidated financial statements.
  F-2




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##### Table of Contents



APRIA HEALTHCARE GROUP INC.
 
 CONSOLIDATED STATEMENTS OF INCOME
 Year Ended December 31,(in thousands, except per share data)
    
    2007
    
    
    2006
    
    
    2005(As Restated
    
    
    (As Restated See Note 2)
    
    
     See Note 2)Net revenues:Fee for
service arrangements
    
    $
    1,465,303
    
    
    $
    1,355,202
    
    
    $
    1,329,346Capitation
    
    
    166,498
    
    
    
    161,489
    
    
    
    146,324TOTAL NET REVENUES
    
    
    1,631,801
    
    
    
    1,516,691
    
    
    
    1,475,670Costs and expenses:Cost of net revenues:Product and supply costs
    
    
    386,496
    
    
    
    345,693
    
    
    
    309,338Patient service equipment depreciation
    
    
    110,775
    
    
    
    113,177
    
    
    
    111,759Home respiratory therapy services
    
    
    38,886
    
    
    
    38,501
    
    
    
    34,669Nursing services
    
    
    11,353
    
    
    
    8,825
    
    
    
    9,078Other
    
    
    17,482
    
    
    
    15,384
    
    
    
    14,369TOTAL COST OF NET REVENUES
    
    
    564,992
    
    
    
    521,580
    
    
    
    479,213Provision for doubtful accounts
    
    
    43,138
    
    
    
    38,723
    
    
    
    46,948Selling, distribution and administrative
    
    
    862,062
    
    
    
    804,285
    
    
    
    792,031Qui tamsettlement and related costs (Note 13)
    
    
    
    
    
    
    
    
    
    
    19,258Amortization of intangible assets
    
    
    3,079
    
    
    
    5,080
    
    
    
    6,941TOTAL COSTS AND EXPENSES
    
    
    1,473,271
    
    
    
    1,369,668
    
    
    
    1,344,391OPERATING INCOME
    
    
    158,530
    
    
    
    147,023
    
    
    
    131,279Interest expense
    
    
    22,447
    
    
    
    31,205
    
    
    
    22,972Interest income and other
    
    
    (1,954
    )
    
    
    (1,742
    )
    
    
    (853
    )INCOME BEFORE TAXES
    
    
    138,037
    
    
    
    117,560
    
    
    
    109,160Income tax expense
    
    
    51,998
    
    
    
    43,297
    
    
    
    40,677NET INCOME
    
    $
    86,039
    
    
    $
    74,263
    
    
    $
    68,483Basic net income per common share
    
    $
    1.98
    
    
    $
    1.75
    
    
    $
    1.42Diluted net income per common share
    
    $
    1.95
    
    
    $
    1.73
    
    
    $
    1.40
 See notes to consolidated financial statements.
  F-3




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##### Table of Contents



APRIA HEALTHCARE GROUP INC.
 
 CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
 AccumulatedAdditional
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Other
    
    
    TotalCommon Stock
    
    
    Paid-In
    
    
    Treasury Stock
    
    
    Retained
    
    
    Comprehensive
    
    
    Stockholders(in thousands)
    
    Shares
    
    
    Par Value
    
    
    Capital
    
    
    Shares
    
    
    Cost
    
    
    Earnings
    
    
    (Loss)Income
    
    
    Equity(As Restated
    
    
    
    
    
    
    (As Restated See Note 2)
    
    
    
    
    
    
     See Note 2)Balance at January 1,
2005, as previously reported
    
    
    58,236
    
    
    $
    58
    
    
    $
    439,544
    
    
    
    9,628
    
    
    $
    (254,432
    )
    
    $
    221,041
    
    
    $
    (26
    )
    
    $
    406,185Restatement adjustments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (17,055
    )
    
    
    
    
    
    
    (17,055
    )Balance at January 1, 2005,
as restated
    
    
    58,236
    
    
    
    58
    
    
    
    439,544
    
    
    
    9,628
    
    
    
    (254,432
    )
    
    
    203,986
    
    
    
    (26
    )
    
    
    389,130Exercise of stock options
    
    
    937
    
    
    
    1
    
    
    
    21,179
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    21,180Tax benefits related to
stock options
    
    
    
    
    
    
    
    
    
    
    4,117
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,117Compensatory stock
options and awards
    
    
    43
    
    
    
    
    
    
    
    3,259
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,259Repurchases of common stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,337
    
    
    
    (175,000
    )
    
    
    
    
    
    
    
    
    
    
    (175,000
    )Unrealized gain on interest
rate swap agreements,
net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    482
    
    
    
    482Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    68,483
    
    
    
    
    
    
    
    66,483Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    68,483
    
    
    
    482
    
    
    
    68,965Balance at December 31,
2005, as restated
    
    
    59,216
    
    
    
    59
    
    
    
    468,099
    
    
    
    16,965
    
    
    
    (429,432
    )
    
    
    272,469
    
    
    
    456
    
    
    
    311,651Exercise of stock options
    
    
    508
    
    
    
    1
    
    
    
    8,244
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8,245Tax benefits related to
stock options
    
    
    
    
    
    
    
    
    
    
    403
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    403Tax
shortfalls on share-based compensation
    
    
    
    
    
    
    
    
    
    
    (386
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (386
    )Compensatory stock
options and awards
    
    
    38
    
    
    
    
    
    
    
    5,763
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,763Restricted stock retained in
treasury upon vesting
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8
    
    
    
    (141
    )
    
    
    
    
    
    
    
    
    
    
    (141
    )Unrealized loss on interest
rate swap agreements,
net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (105
    )
    
    
    (105
    )Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    74,263
    
    
    
    
    
    
    
    74,263Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    74,263
    
    
    
    (105
    )
    
    
    74,158Balance at December 31,
2006, as restated
    
    
    59,762
    
    
    
    60
    
    
    
    482,123
    
    
    
    16,973
    
    
    
    (429,573
    )
    
    
    346,732
    
    
    
    351
    
    
    
    399,693Cumulative effect
adjustment pursuant to
adoption of FIN 48
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (4,233
    )
    
    
    
    
    
    
    (4,233
    )Exercise of stock options
    
    
    887
    
    
    
    1
    
    
    
    17,617
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    17,618Tax benefits related to stock
options
    
    
    
    
    
    
    
    
    
    
    4,057
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,057Tax shortfalls on share-
based compensation
    
    
    
    
    
    
    
    
    
    
    (99
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (99
    )Compensatory stock
options and awards
    
    
    196
    
    
    
    
    
    
    
    11,150
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11,150Restricted stock retained in
treasury upon vesting
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    77
    
    
    
    (2,078
    )
    
    
    
    
    
    
    
    
    
    
    (2,078
    )Unrealized loss on interest
rate swap agreements,
net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (122
    )
    
    
    (122
    )Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    86,039
    
    
    
    
    
    
    
    86,039Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    86,039
    
    
    
    (122
    )
    
    
    85,917Balance at December 31, 2007
    
    
    60,845
    
    
    $
    61
    
    
    $
    514,848
    
    
    
    17,050
    
    
    $
    (431,651
    )
    
    $
    428,538
    
    
    $
    229
    
    
    $
    512,025
 See notes to consolidated financial statements.
  F-4




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##### Table of Contents



APRIA HEALTHCARE GROUP INC.
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
 Year Ended December 31,(in thousands)
    
    2007
    
    
    2006
    
    
    2005(As Restated
    
    
    (As Restated See Note 2)
    
    
     See Note 2)OPERATING ACTIVITIESNet income
    
    $
    86,039
    
    
    $
    74,263
    
    
    $
    68,483Items included in net income not requiring cash:Provision for doubtful accounts
    
    
    43,138
    
    
    
    38,723
    
    
    
    46,948Depreciation
    
    
    131,645
    
    
    
    133,563
    
    
    
    133,677Amortization of intangible assets
    
    
    3,079
    
    
    
    5,080
    
    
    
    6,941Amortization of deferred debt issuance costs
    
    
    1,778
    
    
    
    1,755
    
    
    
    1,729Deferred income taxes
    
    
    4,605
    
    
    
    24,712
    
    
    
    (4,962
    )Share-based compensation
    
    
    11,150
    
    
    
    5,763
    
    
    
    3,259Excess tax benefits from shared-based compensation
    
    
    (4,057
    )
    
    
    (403
    )
    
    
    Gain on disposition of assets and other
    
    
    (536
    )
    
    
    (81
    )
    
    
    Changes in operating assets and liabilities, exclusive of effects
of acquisitions:Accounts receivable
    
    
    (33,724
    )
    
    
    (23,342
    )
    
    
    (54,198
    )Inventories, net
    
    
    2,589
    
    
    
    2,025
    
    
    
    (561
    )Prepaid expenses and other assets
    
    
    (48
    )
    
    
    7,094
    
    
    
    3,452Accounts payable, exclusive of book cash overdraft
    
    
    7,043
    
    
    
    7,717
    
    
    
    2,907Accrued payroll and related taxes and benefits
    
    
    477
    
    
    
    (4,775
    )
    
    
    3,547Income taxes payable
    
    
    20,380
    
    
    
    2,145
    
    
    
    (6,427
    )Deferred revenue, net of deferred expenses
    
    
    289
    
    
    
    1,238
    
    
    
    (1,790
    )Accrued expenses
    
    
    20,159
    
    
    
    5,437
    
    
    
    3,294NET CASH PROVIDED BY OPERATING ACTIVITIES
    
    
    294,006
    
    
    
    280,914
    
    
    
    206,299INVESTING ACTIVITIESPurchases of patient service equipment and property,
equipment and improvements, exclusive of effects of
acquisitions
    
    
    (128,759
    )
    
    
    (125,628
    )
    
    
    (118,867
    )Proceeds from disposition of assets
    
    
    102
    
    
    
    778
    
    
    
    767Cash paid for acquisitions
    
    
    (354,578
    )
    
    
    (8,082
    )
    
    
    (105,471
    )NET CASH USED IN INVESTING ACTIVITIES
    
    
    (483,235
    )
    
    
    (132,932
    )
    
    
    (223,571
    )FINANCING ACTIVITIESProceeds from revolving credit facilities
    
    
    359,000
    
    
    
    29,800
    
    
    
    216,250Payments on revolving credit facilities
    
    
    (170,000
    )
    
    
    (184,800
    )
    
    
    (51,000
    )Payments on other long-term debt
    
    
    (3,264
    )
    
    
    (7,030
    )
    
    
    (7,854
    )Change in book cash overdraft included in accounts payable
    
    
    (4,291
    )
    
    
    (2,128
    )
    
    
    (2,384
    )Capitalized debt issuance costs
    
    
    
    
    
    
    (1,119
    )
    
    
    (15
    )Repurchases of common stock
    
    
    
    
    
    
    
    
    
    
    (175,000
    )Excess tax benefits from shared-based compensation
    
    
    4,057
    
    
    
    403
    
    
    
    Issuances of common stock
    
    
    17,521
    
    
    
    8,245
    
    
    
    21,180NET CASH
PROVIDED BY (USED IN) FINANCING ACTIVITIES
    
    
    203,023
    
    
    
    (156,629
    )
    
    
    1,177NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    
    
    13,794
    
    
    
    (8,647
    )
    
    
    (16,095
    )Cash and cash equivalents at beginning of year
    
    
    14,657
    
    
    
    23,304
    
    
    
    39,399CASH AND CASH EQUIVALENTS AT END OF YEAR
    
    $
    28,451
    
    
    $
    14,657
    
    
    $
    23,304
 
  See notes to consolidated financial statements.
  F-5




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##### Table of Contents



APRIA HEALTHCARE GROUP INC.
 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 NOTE 1  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 Basis of Presentation:
 Company Background: Disclosures about Segments of an Enterprise
and Related Information.
 Use of Accounting Estimates:
 Revenue
Recognition and Concentration of Credit Risk:
 Revenue Arrangements with Multiple
Deliverables,
 Deferred Revenue and Deferred Expense: Accounting for Leases.
 Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct
Costs of Leases.
 Cash and Cash Equivalents:
  F-6




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 Accounts Receivable:
    Inventories:
 Patient Service Equipment:
 Property, Equipment and Improvements:
 Capitalized Software: Accounting for the Costs of Computer Software Developed or Obtained for Internal Use
 Long-Lived Assets: Accounting for the Impairment or Disposal of Long-Lived Assets.
 
    
    significant underperformance relative to historical or projected future operating results;
    
    significant changes in the manner of use of the assets or the strategy for our overall business;
    
    significant decrease in the market value of the assets; and
    
    significant negative industry or economic trends.
  F-7




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##### Table of Contents



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Goodwill: Goodwill and Other Intangible Assets,
 Intangible Assets:
 Deferred Debt Issuance Costs
 Fair Value of Financial Instruments:
 Product
and Supply Costs:
 Home Respiratory Therapy Expenses:
 Distribution Expenses: Accounting for Shipping and Handling Fees and Costs,
 Self-Insurance
 Advertising:
  F-8




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##### Table of Contents



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 Income Taxes: Accounting for Income Taxes.
 Accounting for Uncertainty in Income Taxes Accounting for Contingencies
 Derivative Instruments and Hedging Activities: Accounting for Derivative
Instruments and Hedging Activities.
 Share-Based Compensation: Accounting for Stock Issued to Employees,
 Share-Based Payment
 Comprehensive
Income:
 Per Share Amounts:
 NOTE 2  RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS
 Accounting for
Leases.
 Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct
Costs of Leases.
   F-9




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##### Table of Contents



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
   CONSOLIDATED BALANCE SHEET ITEMS
 December 31, 2006(As Previously
    
    
    
    
    
    
    (As(in thousands)
    
    Reported)
    
    
    (Adjustments)
    
    
    Restated)Deferred income taxes
    
    $
    36,648
    
    
    $
    5,832
    
    
    $
    42,480Deferred expenses
    
    
    22,712
    
    
    
    (19,692
    )
    
    
    3,020Total current assets
    
    
    344,937
    
    
    
    (13,860
    )
    
    
    331,077Total assets
    
    
    1,168,496
    
    
    
    (13,860
    )
    
    
    1,154,636Deferred revenue
    
    
    32,280
    
    
    
    (3,122
    )
    
    
    29,158Total current liabilities
    
    
    203,523
    
    
    
    (3,122
    )
    
    
    200,401Total liabilities
    
    
    758,065
    
    
    
    (3,122
    )
    
    
    754,943Retained earnings
    
    
    357,470
    
    
    
    (10,738
    )
    
    
    346,732Total stockholders equity
    
    $
    410,431
    
    
    $
    (10,738
    )
    
    $
    399,693
 CONSOLIDATED STATEMENT OF INCOME ITEMS
 Year Ended December 31, 2006(As Previously
    
    
    
    
    
    
    (As(in thousands, except per share data)
    
    Reported)
    
    
    (Adjustments)
    
    
    Restated)Fee for
service arrangements
    
    $
    1,355,818
    
    
    $
    (616
    )
    
    $
    1,355,202Total net revenues
    
    
    1,517,307
    
    
    
    (616
    )
    
    
    1,516,691Product and supply costs
    
    
    345,552
    
    
    
    141
    
    
    
    345,693Total cost of net revenues
    
    
    521,439
    
    
    
    141
    
    
    
    521,580Selling, distribution and administrative
    
    
    804,365
    
    
    
    (80
    )
    
    
    804,285Total costs and expenses
    
    
    1,369,607
    
    
    
    61
    
    
    
    1,369,668Operating income
    
    
    147,700
    
    
    
    (677
    )
    
    
    147,023Income before taxes
    
    
    118,237
    
    
    
    (677
    )
    
    
    117,560Income tax expense
    
    
    43,257
    
    
    
    40
    
    
    
    43,297Net income
    
    
    74,980
    
    
    
    (717
    )
    
    
    74,263Basic net income per common share
    
    
    1.77
    
    
    
    
    
    
    
    1.75Diluted net income per common share
    
    $
    1.75
    
    
    
    
    
    
    $
    1.73
  F-10




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 NOTE 2  RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS (continued)
 CONSOLIDATED STATEMENT OF INCOME ITEMS
 Year Ended December 31, 2005(As Previously
    
    
    
    
    
    
    (As(in thousands, except per share data)
    
    Reported)
    
    
    (Adjustments)
    
    
    Restated)Fee for
service arrangements
    
    $
    1,327,777
    
    
    $
    1,569
    
    
    $
    1,329,346Total net revenues
    
    
    1,474,101
    
    
    
    1,569
    
    
    
    1,475,670Product and supply costs
    
    
    309,413
    
    
    
    (75
    )
    
    
    309,338Total cost of net revenues
    
    
    479,288
    
    
    
    (75
    )
    
    
    479,213Selling, distribution and administrative
    
    
    792,177
    
    
    
    (146
    )
    
    
    792,031Total costs and expenses
    
    
    1,344,612
    
    
    
    (221
    )
    
    
    1,344,391Operating income
    
    
    129,489
    
    
    
    1,790
    
    
    
    131,279Income before taxes
    
    
    107,370
    
    
    
    1,790
    
    
    
    109,160Income tax expense
    
    
    40,429
    
    
    
    248
    
    
    
    40,677Net income
    
    
    66,941
    
    
    
    1,542
    
    
    
    68,483Basic net income per common share
    
    
    1.39
    
    
    
    
    
    
    
    1.42Diluted net income per common share
    
    $
    1.37
    
    
    
    
    
    
    $
    1.40
 CONSOLIDATED STATEMENT OF CASH FLOWS ITEMS
 Year Ended December 31, 2006(As Previously
    
    
    
    
    
    
    (As(in thousands)
    
    Reported)
    
    
    (Adjustments)
    
    
    Restated)Net income
    
    $
    74,980
    
    
    $
    (717
    )
    
    $
    74,263Deferred income taxes
    
    
    24,673
    
    
    
    39
    
    
    
    24,712Deferred revenue, net of deferred expenses
    
    $
    560
    
    
    $
    678
    
    
    $
    1,238
 CONSOLIDATED STATEMENT OF CASH FLOWS ITEMS
 Year Ended December 31, 2005(As Previously
    
    
    
    
    
    
    (As(in thousands)
    
    Reported)
    
    
    (Adjustments)
    
    
    Restated)Net income
    
    $
    66,941
    
    
    $
    1,542
    
    
    $
    68,483Deferred income taxes
    
    
    (5,210
    )
    
    
    248
    
    
    
    (4,962
    )Deferred revenue, net of deferred expenses
    
    $
    
    
    
    $
    (1,790
    )
    
    $
    (1,790
    )
  F-11




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 NOTE 3  RECENT ACCOUNTING PRONOUNCEMENTS
   Definition of Settlement in FASB Interpretation
No. 48
 Fair Value Measurements,
 The Fair Value Option for Financial Assets and
Financial Liabilities
 Business Combinations Business Combinations.
 Noncontrolling Interests in Consolidated
Financial StatementsAn Amendment of ARB No. 51
 Effective Date of FASB Statement No. 157
 NOTE 4  PROPERTY, EQUIPMENT AND IMPROVEMENTS
  December 31,(in thousands)
    
    2007
    
    
    2006Leasehold improvements
    
    $
    41,826
    
    
    $
    36,770Equipment and furnishings
    
    
    84,581
    
    
    
    56,696Information systems  hardware
    
    
    96,155
    
    
    
    88,396Information systems  software
    
    
    80,756
    
    
    
    51,753303,318
    
    
    
    233,615Less accumulated depreciation
    
    
    (200,491
    )
    
    
    (180,640
    )$
    102,827
    
    
    $
    52,975
  F-12




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##### Table of Contents



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  NOTE 5  BUSINESS COMBINATIONS
    Year Ended December 31,(in thousands)
    
    2007
    
    
    2006
    
    
    2005Fair value of patient service equipment acquired
    
    $
    7,014
    
    
    $
    1,923
    
    
    $
    7,453Fair value of property and equipment acquired
    
    
    24,916
    
    
    
    4
    
    
    
    985Fair value of other assets acquired
    
    
    132,070
    (1)
    
    
    641
    
    
    
    1,577Intangible assets
    
    
    104,284
    
    
    
    1,100
    
    
    
    7,613Goodwill
    
    
    176,048
    
    
    
    (1,112
    )
    
    
    85,362Total assets acquired
    
    
    444,332
    
    
    
    2,556
    
    
    
    102,990Liabilities assumed and accrued, net of payments from prior years acquisitions
    
    
    (89,754
    )(2)
    
    
    5,526
    
    
    
    2,481Net assets acquired
    
    $
    354,578
    
    
    $
    8,082
    
    
    $
    105,471
   (1)
    
    Consists primarily of $82.5
million in net accounts receivable, $14.0 million in net inventory
and $28.3 million in deferred tax assets.(2)
    
    Consists primarily of $44.9
million in accounts payable, $17.7 million in accrued compensation
and $9.4 million in other accrued liabilities.
 Year Ended December 31,(in thousands, except per share data )
    
    2007
    
    
    2006
    
    
    2005Net revenues
    
    $
    2,103,791
    
    
    $
    1,997,106
    
    
    $
    1,552,571Net income
    
    
    86,275
    
    
    
    61,558
    
    
    
    72,407Basic net income per common share
    
    $
    1.98
    
    
    $
    1.45
    
    
    $
    1.50Diluted net income per common share
    
    $
    1.95
    
    
    $
    1.43
    
    
    $
    1.48
 NOTE 6  GOODWILL AND INTANGIBLE ASSETS
 Business
Combinations,
  F-13




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
    December 31, 2007
    
    
    December 31, 2006Average
    
    
    Gross
    
    
    
    
    
    
    
    
    
    
    GrossLife in
    
    
    Carrying
    
    
    Accumulated
    
    
    Net Book
    
    
    Carrying
    
    
    Accumulated
    
    
    Net Book(dollars in thousands)
    
    Years
    
    
    Amount
    
    
    Amortization
    
    
    Value
    
    
    Amount
    
    
    Amortization
    
    
    ValueIntangible assets subject to
amortization:Covenants not to compete
    
    
    5.0
    
    
    $
    11,380
    
    
    $
    (7,744
    )
    
    $
    3,636
    
    
    $
    13,506
    
    
    $
    (7,313
    )
    
    $
    6,193Patient referral sources
    
    
    20.0
    
    
    
    34,300
    
    
    
    (143
    )
    
    
    34,157
    
    
    
    
    
    
    
    
    
    
    
    Customer lists
    
    
    1.0
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,283
    
    
    
    (925
    )
    
    
    358Favorable leases
    
    
    3.1
    
    
    
    584
    
    
    
    (20
    )
    
    
    564Total
    
    
    7.3
    
    
    
    46,264
    
    
    
    (7,907
    )
    
    
    38,357
    
    
    
    14,789
    
    
    
    (8,238
    )
    
    
    6,551Intangible assets not
subject to amortization:Trade names
    
    
    
    
    
    
    69,400
    
    
    
    
    
    
    
    69,400
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    
    7.3
    
    
    $
    115,664
    
    
    $
    (7,907
    )
    
    $
    107,757
    
    
    $
    14,789
    
    
    $
    (8,238
    )
    
    $
    6,551
  Year Ending December 31,
    
    (in thousands)2008
    
    $
    7,1942009
    
    
    4,4252010
    
    
    2,6112011
    
    
    2,1292012
    
    
    1,992
 NOTE 7  LONG-TERM DEBT
  December 31,(in thousands)
    
    2007
    
    
    2006Notes payable relating to revolving credit facilities
    
    $
    424,000
    
    
    $
    235,000Convertible senior notes
    
    
    250,000
    
    
    
    250,000Capital lease obligations (see Note 11)
    
    
    7,031
    
    
    
    Other
    
    
    6,252
    
    
    
    2,145687,283
    
    
    
    487,145Less: current maturities
    
    
    (254,252
    )
    
    
    (2,145
    )$
    433,031
    
    
    $
    485,000
  F-14




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 Revolving Credit Facility:
    Convertible Senior Notes:
 3 8
   Year Ending December 31,
    
    (in thousands)2008
    
    $
    254,2522009
    
    
    3,4362010
    
    
    2,6122011
    
    
    426,3042012
    
    
    679Thereafter
    
    
    $
    687,283
  F-15




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Hedging Activities:
  Accounting for Derivative
Instruments and Hedging Activities.
 NOTE 8  SHARE-BASED COMPENSATION AND STOCKHOLDERS EQUITY
 Accounting for Stock-Based
Compensation, Accounting for Stock-Based Compensation  Transition
and Disclosure
    F-16




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
   F-17




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Year Ended December 31,2007
    
    
    2006
    
    
    2005Expected option term in years (1)
    
    
    4.6
    
    
    
    4.8
    
    
    
    4.1Expected volatility (2)
    
    
    29.9
    %
    
    
    27.3
    %
    
    
    32.0
    %Risk-free interest rate (3)
    
    
    4.5
    %
    
    
    4.6
    %
    
    
    3.8
    %Expected annual dividend yield
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %
 (1)
    
    The expected option term is based on historical exercise and post-vesting termination patterns.(2)
    
    Expected volatility represents a combination of historical stock price volatility and implied
volatility from publicly-traded options on Aprias common stock.(3)
    
    The risk-free interest rate is based on the implied yield on a U.S. Treasury zero coupon issue
with a remaining term equal to the expected term of the option.
 2003 Performance Incentive Plan:
   
    
    grants of incentive stock options up to 2,000,000 shares,
    
    grants of options and SARs during any calendar year to any individual up to 500,000 shares,
    
    shares subject to all awards granted to an individual during any calendar year up to 1,000,000 shares,
    
    awards granted to non-employee directors up to 700,000 shares,
    
    awards granted, other than for stock options and SARs, up to 2,275,000 shares,
    
    performance-based awards, other than stock options and SARs, granted to an individual up to 500,000
shares in a calendar year, and
    
    performance-based awards,
payable in cash at the discretion of the Compensation Committee, granted to an individual up to $10,000,000 in a calendar year.
   Stock Options:
  F-18




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Weighted-RemainingWeighted-
    
    
    Contractual
    
    
    AggregateAverage
    
    
    Term
    
    
    IntrinsicOptions
    
    
    Exercise Price
    
    
    (in Years)
    
    
    ValueOutstanding at January 1, 2005
    
    
    5,114,145
    
    
    $
    24.84
    
    
    
    7.37
    
    
    $
    41,774,469Granted
    
    
    49,000
    
    
    
    32.45Exercised
    
    
    (920,385
    )
    
    
    22.49Forfeited
    
    
    (166,055
    )
    
    
    29.20Outstanding at December 31, 2005
    
    
    4,076,705
    
    
    $
    25.28
    
    
    
    6.60
    
    
    $
    7,881,252Granted
    
    
    1,056,000
    
    
    
    23.23Exercised
    
    
    (349,596
    )
    
    
    20.64Forfeited
    
    
    (726,795
    )
    
    
    29.48Outstanding at December 31, 2006
    
    
    4,056,314
    
    
    $
    24.59
    
    
    
    6.38
    
    
    $
    13,750,742Granted
    
    
    759,830
    
    
    
    30.84Exercised
    
    
    (863,693
    )
    
    
    20.23Forfeited
    
    
    (219,068
    )
    
    
    29.26Outstanding at December 31, 2007
    
    
    3,733,383
    
    
    $
    26.60
    
    
    
    6.28
    
    
    $
    1,690,040Vested or expected to vest as of December 31, 2007
    
    
    3,503,580
    
    
    $
    26.56
    
    
    
    6.12
    
    
    $
    1,680,053Exercisable at December 31, 2007
    
    
    2,581,277
    
    
    $
    26.21
    
    
    
    5.17
    
    
    $
    1,638,973
   Restricted Stock Purchase Rights:
  F-19




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  WeightedRestricted
    
    
    
    
    
    
    RemainingStock
    
    
    Weighted-
    
    
    Contractual
    
    
    AggregatePurchase
    
    
    Average
    
    
    Term
    
    
    IntrinsicRights
    
    
    Exercise Price
    
    
    (in Years)
    
    
    ValueOutstanding at January 1, 2005
    
    
    586,000
    
    
    $
    6.70
    
    
    
    8.71
    
    
    $
    15,385,350Granted
    
    
    
    
    
    
    Exercised
    
    
    (16,000
    )
    
    
    6.46Forfeited
    
    
    (24,000
    )
    
    
    6.46Outstanding at December 31, 2005
    
    
    546,000
    
    
    $
    6.71
    
    
    
    7.72
    
    
    $
    9,499,110Granted
    
    
    
    
    
    
    Exercised
    
    
    (158,500
    )
    
    
    6.49Forfeited
    
    
    (87,500
    )
    
    
    6.85Outstanding at December 31, 2006
    
    
    300,000
    
    
    $
    6.79
    
    
    
    6.76
    
    
    $
    5,957,820Granted
    
    
    
    
    
    
    Exercised
    
    
    (23,000
    )
    
    
    6.46Forfeited
    
    
    
    
    
    
    Outstanding at December 31, 2007
    
    
    277,000
    
    
    $
    6.82
    
    
    
    5.77
    
    
    $
    4,086,290Vested or expected to vest as of December 31, 2007
    
    
    211,718
    
    
    $
    6.79
    
    
    
    5.76
    
    
    $
    3,128,576Exercisable at December 31, 2007
    
    
    8,000
    
    
    $
    6.46
    
    
    
    5.61
    
    
    $
    120,880
   Restricted
Stock Awards and Units:
  Shares
    
    
    Weighted-Averageor
    
    
    Grant-DateShare Units
    
    
    Fair ValueNonvested restricted stock awards and units at January 1, 2005
    
    
    226,000
    
    
    $
    32.80Granted
    
    
    81,384
    
    
    
    34.98Vested and released
    
    
    (26,000
    )
    
    
    28.21Forfeited
    
    
    
    
    
    
    Nonvested restricted stock awards and units at December 31, 2005
    
    
    281,384
    
    
    
    33.86Granted
    
    
    339,000
    
    
    
    22.71Vested and released
    
    
    (38,462
    )
    
    
    33.95Forfeited
    
    
    (95,000
    )
    
    
    28.35Nonvested restricted stock awards and units at December 31, 2006
    
    
    486,922
    
    
    
    27.16Granted
    
    
    405,310
    
    
    
    29.82Vested and released
    
    
    (186,901
    )
    
    
    24.09Forfeited
    
    
    (64,460
    )
    
    
    27.32Nonvested restricted stock awards and units at December 31, 2007
    
    
    640,871
    
    
    $
    29.73
    F-20




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##### Table of Contents



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Year Ended December 312007
    
    
    2006
    
    
    2005Total fair value of stock awards vested
    
    $
    5,081,411
    
    
    $
    768,204
    
    
    $
    832,520
 Prior Period Pro Forma Presentation:
 Year Ended(in thousand, except per share data)
    
    December 31, 2005Net income as reported
    
    $
    68,483Add: stock-based compensation expense
included in reported net income, net
of related tax effects
    
    
    2,032Deduct: total stock-based compensation
expense determined for all awards
under fair value-based method, net of
related tax effects
    
    
    (13,070
    )Pro forma net income
    
    $
    57,445Basic net income per share:As reported
    
    $
    1.42Pro forma
    
    $
    1.19Diluted net income per share:As reported
    
    $
    1.40Pro forma
    
    $
    1.17
  Stock Option Acceleration:
  Treasury Stock:
    F-21




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  NOTE 9  INCOME TAXES
  Year Ended December 31,(in thousands)
    
    2007
    
    
    2006Deferred tax assets:Allowance for doubtful accounts
    
    $
    26,530
    
    
    $
    13,007Accruals
    
    
    15,367
    
    
    
    5,020Accrued vacation
    
    
    10,064
    
    
    
    9,001Asset valuation reserves
    
    
    6,768
    
    
    
    13,919Share-based payment
    
    
    5,108
    
    
    
    1,588Net operating loss carryforward and tax credits
    
    
    49,381
    
    
    
    8,448Intangible assets
    
    
    8,752
    
    
    
    8,994Deferred revenue and expenses
    
    
    9,632
    
    
    
    9,567Tax benefits related to unrecognized state tax
benefits and interest accrued
    
    
    5,817
    
    
    
    Other, net
    
    
    12,203
    
    
    
    7,676149,622
    
    
    
    77,220Less: valuation allowance
    
    
    (5,696
    )
    
    
    (904
    )Total deferred tax assets
    
    
    143,926
    
    
    
    76,316Deferred tax liabilities:Tax over book depreciation
    
    
    (21,538
    )
    
    
    (28,213
    )Tax over book goodwill amortization
    
    
    (58,649
    )
    
    
    (43,737
    )Separately identifiable intangibles
    
    
    (38,743
    )
    
    
    Contingent debt interest
    
    
    (17,703
    )
    
    
    (19,353
    )Other, net
    
    
    (3,385
    )
    
    
    (3,348
    )Total deferred tax liabilities
    
    
    (140,018
    )
    
    
    (94,651
    )Net deferred tax asset/(liabilities)
    
    $
    3,908
    
    
    $
    (18,335
    )
     F-22




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Year Ended December 31,(in thousands)
    
    2007
    
    
    2006
    
    
    2005Current:Federal
    
    $
    28,710
    
    
    $
    16,734
    
    
    $
    45,652State
    
    
    3,954
    
    
    
    2,490
    
    
    
    (719
    )32,664
    
    
    
    19,224
    
    
    
    44,933Deferred:Federal
    
    
    16,388
    
    
    
    21,062
    
    
    
    (4,979
    )State
    
    
    2,946
    
    
    
    3,011
    
    
    
    72319,334
    
    
    
    24,073
    
    
    
    (4,256
    )$
    51,998
    
    
    $
    43,297
    
    
    $
    40,677
   Year Ended December 31,(in thousands)
    
    2007
    
    
    2006
    
    
    2005Income tax expense at statutory rate
    
    $
    48,294
    
    
    $
    41,146
    
    
    $
    38,206Non-deductible expenses
    
    
    1,002
    
    
    
    711
    
    
    
    2,958State taxes, net of federal benefit and state loss carryforwards
    
    
    6,033
    
    
    
    5,134
    
    
    
    4,592Change in valuation allowance
    
    
    (336
    )
    
    
    (53
    )
    
    
    (2,218
    )Change in contingency reserve
    
    
    
    
    
    
    (4,063
    )
    
    
    (2,483
    )Change in liability for unrecognized tax benefits under FIN 48
    
    
    (1,405
    )
    
    
    
    
    
    
    Other
    
    
    (1,590
    )
    
    
    422
    
    
    
    (378
    )$
    51,998
    
    
    $
    43,297
    
    
    $
    40,677
   Balance at January 1, 2007 (included in Income Taxes Payable and Other Non-Current Liabilities)
    
    $
    17,687Balance at January 1, 2007 (included in Deferred Income Taxes)
    
    
    10,029Total gross unrecognized tax benefits at January 1, 2007
    
    
    27,716Additions for tax positions related to the current year
    
    
    3,630Additions for tax positions related to prior years
    
    
    6,661Reductions for tax positions related to prior years
    
    
    (941
    )Settlements
    
    
    (1,231
    )Reductions due to lapse in statute of limitations
    
    
    (3,078
    )Gross unrecognized tax benefits at December 31, 2007 (excluding Coram)
    
    
    32,757Corams Gross unrecognized tax benefits at December 31, 2007
    
    
    83,203Total Gross unrecognized tax benefits at December 31, 2007 (including Coram)
    
    $
    115,960
   F-23




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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
    
    
    Gross increase of $2,800,000 (net $2,600,000) related to the timing uncertainty for when
certain deductions should be recognized for tax return purposes. This uncertainty is
subject to review by taxing agencies.
    
    Gross increase of $1,100,000 (net $700,000) related to state tax uncertainties involving
tax filing positions and allocation of income among various jurisdictions. This
uncertainty is subject to review by state taxing agencies.
    
    Gross increase of $1,800,000 (net $1,200,000) for interest and penalties primarily
related to other tax uncertainties taken in prior years. The increase is an annual expense
which will be accrued until the associated tax uncertainties are extinguished through such
means as audit settlement, payment, or lapse in statutes of limitations.
    
    Gross decrease of $2,900,000 (net $1,900,000) related to state tax uncertainties.
Ultimate realization of this decrease is dependent upon the occurrence of certain events
(including the lapse in statutes of limitations).
     F-24




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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 NOTE 10  PER SHARE AMOUNTS
  Year Ended December 31,(in thousands, except per share data)
    
    2007
    
    
    2006
    
    
    2005Numerator:Net income
    
    $
    86,039
    
    
    $
    74,263
    
    
    $
    68,483Numerator for basic and diluted per share amounts  income
available to common stockholders
    
    $
    86,039
    
    
    $
    74,263
    
    
    $
    68,483Denominator:Denominator for basic per share amounts  weighted-average shares
    
    
    43,552
    
    
    
    42,462
    
    
    
    48,154Effect of dilutive securities:Employee stock options  dilutive potential common shares
    
    
    588
    
    
    
    473
    
    
    
    831Denominator for diluted per share amounts  adjusted
weighted-average shares
    
    
    44,140
    
    
    
    42,935
    
    
    
    48,985Basic net income per common share
    
    $
    1.98
    
    
    $
    1.75
    
    
    $
    1.42Diluted net income per common share
    
    $
    1.95
    
    
    $
    1.73
    
    
    $
    1.40Employee stock options excluded from the computation of diluted per
share amounts:Shares for which exercise price exceeds average market price
of common stock
    
    
    1,502
    
    
    
    3,145
    
    
    
    2,073Average exercise price per share that exceeds average market price
of common stock
    
    $
    31.75
    
    
    $
    26.71
    
    
    $
    30.21
 NOTE 11  LEASES
     F-25




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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  December 31,2007
    
    
    2006Information systems  hardware and software
    
    $
    
    
    
    $
    3,156Infusion pumps
    
    
    6,204
    
    
    
    Vehicles
    
    
    683
    
    
    
    Less accumulated depreciation
    
    
    (182
    )
    
    
    (1,734
    )$
    6,705
    
    
    $
    1,422
  Capital
    
    
    OperatingLeases
    
    
    Leases2008
    
    $
    2,745
    
    
    $
    66,2872009
    
    
    2,300
    
    
    
    55,2312010
    
    
    1,507
    
    
    
    43,2342011
    
    
    1,122
    
    
    
    31,9082012
    
    
    60
    
    
    
    14,912Thereafter
    
    
    
    
    
    
    21,542$
    7,734
    
    
    $
    233,114Less interest included in minimum lease payments
    
    
    703
    
    
    
    Present value of minimum lease payments
    
    
    7,031
    
    
    
    Less current portion
    
    
    2,353
    
    
    
    $
    4,678
    
    
    
    
 NOTE 12  EMPLOYEE BENEFIT PLANS
 4 01(k) Savings Plan:
 Deferred Compensation Plan:
 NOTE 13  COMMITMENTS AND CONTINGENCIES
 Litigation
  F-26




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NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
  Qui Tam Settlement and Related Costs: qui tam
 Medicare and Medicaid Reimbursement
 Supplier Concentration:
 Guarantees and Indemnities
  NOTE 14
 SERVICE/PRODUCT LINE DATA
  Year Ended December 31,(in thousands)
    
    2007
    
    
    2006
    
    
    2005Net revenues:Home respiratory therapy
    
    $
    1,087,126
    
    
    $
    1,032,651
    
    
    $
    1,011,321Home infusion therapy
    
    
    334,182
    
    
    
    274,723
    
    
    
    256,225Home medical equipment/other
    
    
    210,493
    
    
    
    209,317
    
    
    
    208,124Total net revenues
    
    $
    1,631,801
    
    
    $
    1,516,691
    
    
    $
    1,475,670
  F-27




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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
 NOTE
15  SELECTED QUARTERLY FINANCIAL DATA (unaudited)
  Quarter(in thousands, except per share data)
    
    First
    
    
    Second2007
    
    (As Previously Reported)
    
    
    (Adjustments)
    
    
    (As Restated)
    
    
    (As Previously Reported)
    
    
    (Adjustments)
    
    
    (As Restated)Net Revenues
    
    $
    389,290
    
    
    
    1,489
    
    
    $
    390,779
    
    
    $
    394,044
    
    
    
    (2,115
    )
    
    $
    391,929Gross Profit
    
    
    254,494
    
    
    
    1,668
    
    
    
    256,162
    
    
    
    259,559
    
    
    
    (2,061
    )
    
    
    257,498Operating Income
    
    
    37,225
    
    
    
    1,767
    
    
    
    38,992
    
    
    
    38,354
    
    
    
    (1,967
    )
    
    
    36,387Net Income
    
    $
    19,144
    
    
    
    1,706
    
    
    $
    20,850
    
    
    $
    20,829
    
    
    
    (1,578
    )
    
    $
    19,251Basic net income per common share
    
    $
    0.44
    
    
    
    
    
    
    $
    0.48
    
    
    $
    0.48
    
    
    
    
    
    
    $
    0.44Diluted net income per common share
    
    $
    0.44
    
    
    
    
    
    
    $
    0.47
    
    
    $
    0.47
    
    
    
    
    
    
    $
    0.44Third
    
    
    Fourth2007
    
    (As PreviouslyReported)
    
    
    (Adjustments)
    
    
    (As Restated)Net Revenues
    
    $
    396,116
    
    
    
    264
    
    
    $
    396,380
    
    
    $
    452,712Gross Profit
    
    
    262,316
    
    
    
    (25
    )
    
    
    262,291
    
    
    
    290,857Operating Income
    
    
    37,941
    
    
    
    (247
    )
    
    
    37,694
    
    
    
    45,457Net Income
    
    $
    21,269
    
    
    
    (349
    )
    
    $
    20,920
    
    
    $
    25,018Basic net income per common share
    
    $
    0.49
    
    
    
    
    
    
    $
    0.48
    
    
    $
    0.57Diluted net income per common share
    
    $
    0.48
    
    
    
    
    
    
    $
    0.47
    
    
    $
    0.57First
    
    
    Second2006
    
    (As PreviouslyReported)
    
    
    (Adjustments)
    
    
    (As Restated)
    
    
    (As PreviouslyReported)
    
    
    (Adjustments)
    
    
    (As Restated)Net Revenues
    
    $
    368,056
    
    
    
    (1,558
    )
    
    $
    366,498
    
    
    $
    376,079
    
    
    
    795
    
    
    $
    376,874Gross Profit
    
    
    241,082
    
    
    
    (1,347
    )
    
    
    239,735
    
    
    
    247,109
    
    
    
    621
    
    
    
    247,730Operating Income
    
    
    31,944
    
    
    
    (1,336
    )
    
    
    30,608
    
    
    
    37,355
    
    
    
    595
    
    
    
    37,950Net Income
    
    $
    16,123
    
    
    
    (1,646
    )
    
    $
    14,477
    
    
    $
    18,458
    
    
    
    1,030
    
    
    $
    19,488Basic net income per common share
    
    $
    0.38
    
    
    
    
    
    
    $
    0.34
    
    
    $
    0.44
    
    
    
    
    
    
    $
    0.46Diluted net income per common share
    
    $
    0.38
    
    
    
    
    
    
    $
    0.34
    
    
    $
    0.43
    
    
    
    
    
    
    $
    0.46Third
    
    
    Fourth2006
    
    (As PreviouslyReported)
    
    
    (Adjustments)
    
    
    (As Restated)
    
    
    (As PreviouslyReported)
    
    
    (Adjustments)
    
    
    (As Restated)Net Revenues
    
    $
    382,214
    
    
    
    (215
    )
    
    $
    381,999
    
    
    $
    390,958
    
    
    
    362
    
    
    $
    391,320Gross Profit
    
    
    251,120
    
    
    
    (369
    )
    
    
    250,751
    
    
    
    256,557
    
    
    
    338
    
    
    
    256,895Operating Income
    
    
    38,209
    
    
    
    (348
    )
    
    
    37,861
    
    
    
    40,192
    
    
    
    412
    
    
    
    40,604Net Income
    
    $
    19,306
    
    
    
    (401
    )
    
    $
    18,905
    
    
    $
    21,093
    
    
    
    300
    
    
    $
    21,393Basic net income per common share
    
    $
    0.45
    
    
    
    
    
    
    $
    0.45
    
    
    $
    0.50
    
    
    
    
    
    
    $
    0.50Diluted net income per common share
    
    $
    0.45
    
    
    
    
    
    
    $
    0.44
    
    
    $
    0.49
    
    
    
    
    
    
    $
    0.50
  F-28




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APRIA HEALTHCARE GROUP INC.
 
 SCHEDULE II  VALUATION AND QUALIFYING ACCOUNTS
 Balance at
    
    
    Increase Due
    
    
    Charged to
    
    
    
    
    
    
    Balance atBeginning
    
    
    to Coram
    
    
    Costs and
    
    
    
    
    
    
    End of(in thousands)
    
    of Period
    
    
    Acquisition
    
    
    Expenses
    
    
    Deductions
    
    
    PeriodYear ended December 31, 2007Deducted from asset accounts:Allowance for doubtful
accounts
    
    $
    27,324
    
    
    $
    21,557
    
    
    $
    43,138
    
    
    $
    44,196
    
    
    $
    47,823Reserve for inventory and
patient
service equipment shortages
    
    $
    4,420
    
    
    $
    195
    
    
    $
    3,351
    
    
    $
    2,600
    
    
    $
    5,366Year ended December 31, 2006Deducted from asset accounts:Allowance for doubtful
accounts
    
    $
    41,527
    
    
    
    
    
    
    $
    38,723
    
    
    $
    52,926
    
    
    $
    27,324Reserve for inventory and
patient
service equipment shortages
    
    $
    3,753
    
    
    
    
    
    
    $
    3,623
    
    
    $
    2,956
    
    
    $
    4,420Year ended December 31, 2005Deducted from asset accounts:Allowance for doubtful
accounts
    
    $
    45,064
    
    
    
    
    
    
    $
    46,948
    
    
    $
    50,485
    
    
    $
    41,527Reserve for inventory and
patient
service equipment shortages
    
    $
    3,230
    
    
    
    
    
    
    $
    2,309
    
    
    $
    1,786
    
    
    $
    3,753
  S-1




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SIGNATURES
   APRIA HEALTHCARE GROUP INC.By:
    /s/ LAWRENCE M. HIGBYChief Executive Officer  Signature
    
    Title
    
    Date/s/ LAWRENCE M. HIGBY
Lawrence M. Higby
    
    Chief Executive Officer and Director
(Principal Executive Officer)
    
    February
 29, 2008/s/ CHRIS A. KARKENNY
Chris A. Karkenny
    
    Executive Vice President and Chief
Financial Officer (Principal Financial
Officer)
    
    February
 29, 2008/s/ PETER A. REYNOLDS
Peter A. Reynolds
    
    Chief Accounting Officer and Controller
(Principal Accounting Officer)
    
    February
 29, 2008/s/ DAVID L. GOLDSMITH
David L. Goldsmith
    
    Director and Chairman of the Board
    
    February
 29, 2008/s/ VICENTE ANIDO, JR.
Vicente Anido, Jr.
    
    Director
    
    February
 29, 2008/s/ TERRY BAYER
Terry Bayer
    
    Director
    
    February
 29, 2008/s/ I. T. CORLEY
I. T. Corley
    
    Director
    
    February
 29, 2008/s/ RICHARD H. KOPPES
Richard H. Koppes
    
    Director
    
    February
 29, 2008/s/ PHILIP R. LOCHNER, JR.
Philip R. Lochner, Jr.
    
    Director
    
    February
 29, 2008/s/ NORMAN C. PAYSON
Norman C. Payson
    
    Director
    
    February
 29, 2008/s/ MAHVASH YAZDI
Mahvash Yazdi
    
    Director
    
    February
 29, 2008




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Lawrence A. Mastrovich dated October 20, 2005. (j)
          November 1, 2007. (r)
         Management contract or compensatory plan or arrangement.  * Filed herewith.




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