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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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



For the quarterly period ended June 30, 2005



OR



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



For the transition period from
 to



Commission file number 0-23946



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PEDIATRIC SERVICES OF AMERICA, INC.

(Exact name of Registrant as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 58-1873345                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



310 Technology
Parkway, Norcross GA 30092-2929

(Address of principal executive offices, including zip code)



(770) 441-1580

(Registrants telephone number, including area code)



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



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



As of August 2, 2005, the Registrant had 7,255,813
shares of Common Stock, $0.01 par value, outstanding.



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##### Table of Contents

FORM 10-Q

PEDIATRIC SERVICES OF AMERICA, INC.



INDEX



|                               |  |                                                                                                            |  |           
|------------------------------ |  | ---------------------------------------------------------------------------------------------------------- |  | ----------
|                               |  |                                                                                                            |  | PageNumber
|PART I  FINANCIAL INFORMATION |  |                                                                                                           
|                               |  |                                                                                                           
|ITEM 1:                        |  | Financial Statements                                                                                       |  |           
|                               |  |                                                                                                           
|                               |  | Condensed Consolidated Balance Sheets as of June 30, 2005 and September 30, 2004                           |  | 3         
|                               |  |                                                                                                           
|                               |  | Condensed Consolidated Statements of Operations for the three and nine months ended June 30, 2005 and 2004 |  | 5         
|                               |  |                                                                                                           
|                               |  | Condensed Consolidated Statements of Cash Flows for the nine months ended June 30, 2005 and 2004           |  | 6         
|                               |  |                                                                                                           
|                               |  | Notes to Condensed Consolidated Financial Statements                                                       |  | 7         
|                               |  |                                                                                                           
|ITEM 2:                        |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                      |  | 17        
|                               |  |                                                                                                           
|ITEM 3:                        |  | Quantitative and Qualitative Disclosures about Market Risk                                                 |  | 28        
|                               |  |                                                                                                           
|ITEM 4:                        |  | Controls and Procedures                                                                                    |  | 28        
|                               | 
|PART II  OTHER INFORMATION    |  |                                                                                                           
|                               |  |                                                                                                           
|ITEM 1:                        |  | Legal Proceedings                                                                                          |  | 29        
|                               |  |                                                                                                           
|ITEM 6:                        |  | Exhibits                                                                                                   |  | 29        
|                               | 
|SIGNATURES                     |  | 30                                                                                                        





2



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##### Table of Contents

PART I  FINANCIAL INFORMATION



|ITEM 1. | FINANCIAL STATEMENTS
|------- | --------------------



PEDIATRIC SERVICES OF AMERICA, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)



|                                                                                                      |  |              |         |   |                   |   |         |  
|----------------------------------------------------------------------------------------------------- |  | ------------ | ------- | - | ----------------- | - | ------- | -
|                                                                                                      |  | June 30,2005 |         |   | September 30,2004 |  
|ASSETS                                                                                                |  | (Unaudited)  |         |   |                   |  
|Current assets:                                                                                       |  |              |         |   |                   |   |         |  
|Cash and cash equivalents                                                                             |  | $            | 14,157  |   |                   | $ | 8,159   |  
|Accounts receivable, less allowances for doubtful accounts of $4,193 and $4,840, respectively         |  |              | 38,861  |   |                   |   | 40,403  |  
|Prepaid expenses                                                                                      |  |              | 2,029   |   |                   |   | 1,102   |  
|Deferred income taxes                                                                                 |  |              | 8,131   |   |                   |   | 6,557   |  
|Workers compensation loss fund                                                                       |  |              | 3,690   |   |                   |   | 3,327   |  
|Inventory                                                                                             |  |              | 3,779   |   |                   |   | 2,893   |  
|Insurance recoveries                                                                                  |  |              | 1,465   |   |                   |   | 3,473   |  
|Other current assets                                                                                  |  |              | 239     |   |                   |   | 630     |  
|                                                                                                      |  |              |         |   |                   |   |         |  
|Total current assets                                                                                  |  |              | 72,351  |   |                   |   | 66,544  |  
|                                                                                                      |  |             
|Property and equipment:                                                                               |  |              |         |   |                   |   |         |  
|Home care equipment held for rental                                                                   |  |              | 33,887  |   |                   |   | 32,438  |  
|Furniture and fixtures                                                                                |  |              | 13,272  |   |                   |   | 12,200  |  
|Vehicles                                                                                              |  |              | 500     |   |                   |   | 505     |  
|Leasehold improvements                                                                                |  |              | 3,185   |   |                   |   | 3,102   |  
|                                                                                                      |  |              |         |   |                   |   |         |  
|                                                                                                      |  |              | 50,844  |   |                   |   | 48,245  |  
|Accumulated depreciation and amortization                                                             |  |              | (40,370 | ) |                   |   | (38,207 | )
|                                                                                                      |  |              |         |   |                   |   |         |  
|                                                                                                      |  |              | 10,474  |   |                   |   | 10,038  |  
|                                                                                                      |  |             
|Other assets:                                                                                         |  |              |         |   |                   |   |         |  
|Goodwill, less accumulated amortization of approximately $9,613                                       |  |              | 36,540  |   |                   |   | 36,540  |  
|Certificates of need, less accumulated amortization of approximately $644 and $627, respectively      |  |              | 29      |   |                   |   | 46      |  
|Deferred financing fees, less accumulated amortization of approximately $775 and $594, respectively   |  |              | 596     |   |                   |   | 777     |  
|Noncompete agreements, less accumulated amortization of approximately $1,249 and $1,220, respectively |  |              | 31      |   |                   |   | 60      |  
|Deferred income taxes                                                                                 |  |              |        |   |                   |   | 1,301   |  
|Workers compensation bond collateral                                                                 |  |              | 1,514   |   |                   |   | 2,311   |  
|Insurance cash surrender value and recoveries                                                         |  |              | 5,080   |   |                   |   | 9,742   |  
|Other                                                                                                 |  |              | 318     |   |                   |   | 302     |  
|                                                                                                      |  |              |         |   |                   |   |         |  
|                                                                                                      |  |              | 44,108  |   |                   |   | 51,079  |  
|                                                                                                      |  |              |         |   |                   |   |         |  
|Total assets                                                                                          |  | $            | 126,933 |   |                   | $ | 127,661 |  
|                                                                                                      |  |              |         |   |                   |   |         |  



See accompanying
notes.



3



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##### Table of Contents

PEDIATRIC SERVICES OF AMERICA, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS(Continued)

(In thousands)



|                                                                                                                                                           |  |              |         |                   |   |        
|---------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ------- | ----------------- | - | -------
|                                                                                                                                                           |  | June 30,2005 |         | September 30,2004
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                       |  | (Unaudited)  |         |                  
|Current liabilities:                                                                                                                                       |  |              |         |                   |   |        
|Accounts payable                                                                                                                                           |  | $            | 5,240   |                   | $ | 4,672  
|Accrued compensation                                                                                                                                       |  |              | 5,331   |                   |   | 6,029  
|Income taxes payable                                                                                                                                       |  |              |        |                   |   | 281    
|Accrued insurance                                                                                                                                          |  |              | 5,107   |                   |   | 6,935  
|Refunds payable                                                                                                                                            |  |              | 1,273   |                   |   | 1,489  
|Accrued interest                                                                                                                                           |  |              | 489     |                   |   | 998    
|Other accrued liabilities                                                                                                                                  |  |              | 3,295   |                   |   | 3,032  
|Deferred revenue                                                                                                                                           |  |              | 796     |                   |   | 800    
|Current maturities of long-term obligations                                                                                                                |  |              | 43      |                   |   | 157    
|                                                                                                                                                           |  |              |         |                   |   |        
|Total current liabilities                                                                                                                                  |  |              | 21,574  |                   |   | 24,393 
|                                                                                                                                                           |  |             
|Long-term accrued insurance                                                                                                                                |  |              | 10,563  |                   |   | 14,046 
|Deferred compensation                                                                                                                                      |  |              | 1,678   |                   |   | 2,386  
|Deferred income taxes                                                                                                                                      |  |              | 686     |                   |   |       
|Long-term obligations, net of current maturities                                                                                                           |  |              | 20,354  |                   |   | 20,385 
|                                                                                                                                                           |  |              |         |                   |   |        
|                                                                                                                                                           |  |             
|Total liabilities                                                                                                                                          |  |              | 54,855  |                   |   | 61,210 
|                                                                                                                                                           |  |             
|Redeemable preferred stock, $.01 par value, 2,000 shares authorized, no shares issued and outstanding                                                      |  |              |        |                   |   |       
|                                                                                                                                                           |  |             
|Stockholders equity:                                                                                                                                      |  |              |         |                   |   |        
|Common stock, $.01 par value, 80,000 shares authorized 7,254 and 7,031 shares issued and outstanding at June 30, 2005 and September 30, 2004,
respectively |  |              | 73      |                   |   | 70     
|Additional paid-in capital                                                                                                                                 |  |              | 52,139  |                   |   | 50,621 
|Retained earnings                                                                                                                                          |  |              | 19,866  |                   |   | 15,760 
|                                                                                                                                                           |  |              |         |                   |   |        
|Total stockholders equity                                                                                                                                 |  |              | 72,078  |                   |   | 66,451 
|                                                                                                                                                           |  |              |         |                   |   |        
|Total liabilities and stockholders equity                                                                                                                 |  | $            | 126,933 |                   | $ | 127,661
|                                                                                                                                                           |  |              |         |                   |   |        



See accompanying
notes.



4



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##### Table of Contents

PEDIATRIC SERVICES OF AMERICA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)



|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|------------------------------------- |  | -------------------------- | ------ | - | ------------------------- | - | ------ | ----------- |  | - | ----------- | - |  | - | ------- | -
|                                      |  | Three Months EndedJune 30, |        |   | Nine Months EndedJune 30, |  
|                                      |  | 2005                       |        |   | 2004                      |   |        | 2005        |  |   | 2004        |  
|                                      |  | (Unaudited)                |        |   | (Unaudited)               |   |        | (Unaudited) |  |   | (Unaudited) |  
|                                      |  |                            |        |  
|Net revenue                           |  | $                          | 63,271 |   |                           | $ | 58,413 |             |  | $ | 191,555     |   |  | $ | 179,276 |  
|Costs and expenses:                   |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Costs of goods and services           |  |                            | 35,989 |   |                           |   | 33,236 |             |  |   | 110,669     |   |  |   | 100,854 |  
|Other operating costs and expenses    |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Salaries, wages and benefits          |  |                            | 10,777 |   |                           |   | 10,858 |             |  |   | 32,983      |   |  |   | 31,685  |  
|Business insurance                    |  |                            | 2,003  |   |                           |   | 1,613  |             |  |   | 5,577       |   |  |   | 5,891   |  
|Overhead                              |  |                            | 4,487  |   |                           |   | 4,291  |             |  |   | 12,809      |   |  |   | 12,410  |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Other operating costs and expenses    |  |                            | 17,267 |   |                           |   | 16,762 |             |  |   | 51,369      |   |  |   | 49,986  |  
|Corporate, general and administrative |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Salaries, wages and benefits          |  |                            | 3,533  |   |                           |   | 3,074  |             |  |   | 10,211      |   |  |   | 10,219  |  
|Business insurance                    |  |                            | 62     |   |                           |   | 40     |             |  |   | 152         |   |  |   | 127     |  
|Professional services                 |  |                            | 1,227  |   |                           |   | 605    |             |  |   | 3,029       |   |  |   | 1,759   |  
|Overhead                              |  |                            | 745    |   |                           |   | 701    |             |  |   | 2,214       |   |  |   | 2,288   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Corporate, general and administrative |  |                            | 5,567  |   |                           |   | 4,420  |             |  |   | 15,606      |   |  |   | 14,393  |  
|Provision for doubtful accounts       |  |                            | 794    |   |                           |   | 792    |             |  |   | 2,436       |   |  |   | 2,831   |  
|Depreciation and amortization         |  |                            | 1,098  |   |                           |   | 958    |             |  |   | 3,242       |   |  |   | 2,762   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Total costs and expenses              |  |                            | 60,715 |   |                           |   | 56,168 |             |  |   | 183,322     |   |  |   | 170,826 |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Operating income                      |  |                            | 2,556  |   |                           |   | 2,245  |             |  |   | 8,233       |   |  |   | 8,450   |  
|Other income                          |  |                            |       |   |                           |   |       |             |  |   | 65          |   |  |   | 5       |  
|Interest income                       |  |                            | 56     |   |                           |   | 63     |             |  |   | 149         |   |  |   | 112     |  
|Interest expense                      |  |                            | (628   | ) |                           |   | (604   | )           |  |   | (1,873      | ) |  |   | (1,719  | )
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Income before income tax expense      |  |                            | 1,984  |   |                           |   | 1,704  |             |  |   | 6,574       |   |  |   | 6,848   |  
|Income tax expense                    |  |                            | 510    |   |                           |   | 661    |             |  |   | 2,468       |   |  |   | 2,656   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Net income                            |  | $                          | 1,474  |   |                           | $ | 1,043  |             |  | $ | 4,106       |   |  | $ | 4,192   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|                                      |  |                            |        |  
|Net income per share data:            |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Basic                                 |  | $                          | 0.20   |   |                           | $ | 0.15   |             |  | $ | 0.57        |   |  | $ | 0.61    |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Diluted                               |  | $                          | 0.19   |   |                           | $ | 0.14   |             |  | $ | 0.54        |   |  | $ | 0.57    |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|                                      |  |                            |        |  
|Weighted average shares outstanding:  |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Basic                                 |  |                            | 7,252  |   |                           |   | 6,973  |             |  |   | 7,185       |   |  |   | 6,925   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  
|Diluted                               |  |                            | 7,697  |   |                           |   | 7,488  |             |  |   | 7,598       |   |  |   | 7,389   |  
|                                      |  |                            |        |   |                           |   |        |             |  |   |             |   |  |   |         |  



See accompanying
notes.



5



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##### Table of Contents

PEDIATRIC SERVICES OF AMERICA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)



|                                                                                            |  |                           |        |   |             |   |        |  
|------------------------------------------------------------------------------------------- |  | ------------------------- | ------ | - | ----------- | - | ------ | -
|                                                                                            |  | Nine Months EndedJune 30, |       
|                                                                                            |  | 2005                      |        |   | 2004        |  
|                                                                                            |  | (Unaudited)               |        |   | (Unaudited) |  
|Operating activities:                                                                       |  |                           |        |   |             |   |        |  
|Net income                                                                                  |  | $                         | 4,106  |   |             | $ | 4,192  |  
|Adjustments to reconcile net income to net cash provided by (used in) operating activities: |  |                           |        |   |             |   |        |  
|Depreciation and amortization                                                               |  |                           | 3,242  |   |             |   | 2,762  |  
|Provision for doubtful accounts                                                             |  |                           | 2,436  |   |             |   | 2,831  |  
|Amortization of deferred financing fees                                                     |  |                           | 181    |   |             |   | 125    |  
|Nonqualified and disqualifying disposition of stock options                                 |  |                           | 504    |   |             |   | 265    |  
|Changes in operating assets and liabilities:                                                |  |                           |        |   |             |   |        |  
|Accounts receivable                                                                         |  |                           | (894   | ) |             |   | (7,825 | )
|Prepaid expenses                                                                            |  |                           | (927   | ) |             |   | (1,286 | )
|Inventory                                                                                   |  |                           | (886   | ) |             |   | 177    |  
|Other assets                                                                                |  |                           | 310    |   |             |   | 4      |  
|Workers compensation loss fund                                                             |  |                           | (363   | ) |             |   | (1,709 | )
|Workers compensation bond collateral                                                       |  |                           | 797    |   |             |   | 474    |  
|Accounts payable                                                                            |  |                           | 568    |   |             |   | 149    |  
|Income taxes payable                                                                        |  |                           | (281   | ) |             |   | (741   | )
|Accrued insurance, liabilities, refunds, interest and deferred taxes                        |  |                           | (100   | ) |             |   | 538    |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Net cash provided by (used in) operating activities                                         |  |                           | 8,693  |   |             |   | (44    | )
|                                                                                            |  |                          
|Investing activities:                                                                       |  |                           |        |   |             |   |        |  
|Purchases of property and equipment                                                         |  |                           | (3,567 | ) |             |   | (3,908 | )
|                                                                                            |  |                           |        |   |             |   |        |  
|Net cash used in investing activities                                                       |  |                           | (3,567 | ) |             |   | (3,908 | )
|                                                                                            |  |                          
|Financing activities:                                                                       |  |                           |        |   |             |   |        |  
|Principal payments of long-term debt                                                        |  |                           | (145   | ) |             |   | (146   | )
|Deferred financing fees                                                                     |  |                           |       |   |             |   | (329   | )
|Proceeds from exercise of stock options                                                     |  |                           | 1,017  |   |             |   | 576    |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Net cash provided by financing activities                                                   |  |                           | 872    |   |             |   | 101    |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Increase (decrease) in cash and cash equivalents                                            |  |                           | 5,998  |   |             |   | (3,851 | )
|Cash and cash equivalents at beginning of period                                            |  |                           | 8,159  |   |             |   | 9,171  |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Cash and cash equivalents at end of period                                                  |  | $                         | 14,157 |   |             | $ | 5,320  |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Supplemental disclosure of cash flow information:                                           |  |                           |        |   |             |   |        |  
|Cash paid for interest                                                                      |  | $                         | 2,234  |   |             | $ | 2,251  |  
|                                                                                            |  |                           |        |   |             |   |        |  
|Cash paid for taxes                                                                         |  | $                         | 1,850  |   |             | $ | 3,165  |  
|                                                                                            |  |                           |        |   |             |   |        |  



See accompanying
notes.



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



1. Basis of Presentation



The accompanying unaudited condensed consolidated financial statements of Pediatric Services
of America, Inc. (the Company) and its majority-owned subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form
10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all information and notes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all
adjustments considered necessary for a fair presentation have been included. Results of operations for the three and nine months ended June 30, 2005 are not necessarily indicative of the results to be expected for the entire fiscal year ending
September 30, 2005. These condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements for the year ended September 30, 2004 which are included in our Annual Report on Form
10-K for such year filed with the Securities and Exchange Commission. Principal accounting policies are set forth in our 2004 Annual Report.



2. Summary of Significant Accounting Policies



Description of Business



We provide a broad range of pediatric health care services and equipment including nursing, respiratory therapy, rental and sale of durable medical
equipment, pharmaceutical services and infusion therapy services. In addition, we provide pediatric rehabilitation services, day treatment centers for medically fragile and chronically ill children and pediatric well care and immunization services.
We also provide case management services in order to assist the family and patient by coordinating the provision of services between the insurer or other payor, the physician, the hospital and other health care providers. Our services are designed
to provide a high quality, lower cost alternative to prolonged hospitalization for medically fragile children. As a complement to our pediatric respiratory and infusion therapy services, we also provide respiratory and infusion therapy and related
services for adults. For financial reporting purposes, our branch offices are aggregated into three reportable segments based on their predominant line of net revenue in accordance with the Statement of Financial Accounting Standards No. 131
Disclosures about Segments of an Enterprise and Related Information (see Note 7).



Use of Estimates



The
preparation of the condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of net revenue and expenses during the reporting periods. Actual results could differ from those estimates and the
differences could be material. For example, due to the nature of the industry and the reimbursement environment in which we operate, certain estimates are required in recording net revenues and determining provisions for doubtful accounts. Inherent
in these estimates is the risk that they will have to be revised or updated as additional information becomes available to management.



Concentration of Credit Risk



Our principal financial instruments subject to potential concentration of credit risk are cash and cash equivalents and accounts receivable. Cash and cash
equivalents are held primarily in one financial institution. We perform periodic evaluations of the relative credit standing of this financial institution. The concentration of credit risk with respect to accounts receivable, which are primarily
health care industry related, represent a risk to us given the current health care environment. The risk is somewhat limited due to the large number of payors including Medicaid and Medicare, insurance companies and individuals, and the diversity of
geographic locations in which we operate. However, we have substantial geographic density in the eastern United States, which we believe exposes us to payor initiated reimbursement changes. In addition, we are exposed to risk for a substantial
amount of accounts receivable for a small number of hemophilia factor patients and disruptions to cash collections due to the inability of some payors to process claims.



7



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##### Table of Contents

PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Summary of Significant Accounting Policies  continued



Accounts Receivable



Accounts receivable are recorded based upon the amount of net revenue expected to be reimbursed by private and third party payors. Interest income is not
recorded on trade accounts receivable. Accounts receivable include approximately $7.0 million for which services have been rendered but the amounts were unbilled as of June 30, 2005 and September 30, 2004. Such unbilled amounts are
primarily a result of the time required to process bills for services rendered.



Workers Compensation Loss Fund



Our workers compensation insurance carrier, Argonaut Insurance Company, rated A by AM Best Company, requires a twelve month estimated loss reserve to be funded entirely with cash each fiscal year which is then
reduced by the monthly loss fund payments. The net balance at June 30, 2005 was $3.7 million. The insurance carrier has the right to increase this cash requirement at the end of each fiscal year if the claim experience is greater than
anticipated, but to date has not indicated the need to do so. The policy for fiscal 2005 will be funded in a similar manner with the cash requirement estimated to be $1.0 million.



Identifiable Intangible Assets



Amortization expense on identifiable intangible assets was approximately $0.04 million for the three months ended
June 30, 2005 and 2004, and $0.1 million for the nine months ended June 30, 2005 and 2004. Estimated amortization expense of identifiable intangible assets for each of the fiscal years ending September 30, is presented below:



|     |  |                                  |        
|---- |  | -------------------------------- | -------
|     |  | For The Year EndingSeptember 30,
|2005 |  | $                                | 147,000
|2006 |  | $                                | 126,000
|2007 |  | $                                | 84,000 
|2008 |  | $                                | 83,000 
|2009 |  | $                                | 83,000 



Workers
Compensation Bond Collateral



We have secured surety bonds
of $1.7 million to satisfy our workers compensation program requirements for our former insurance carrier. As of June 30, 2005, the surety bonds were collateralized by $1.5 million cash posted to a third party escrow account.



Accrued Insurance/Insurance Recoveries



We retain the services of an independent actuary to prepare an actuarial
analysis of our development of reported and incurred but not reported claims for workers compensation, medical malpractice and employee medical benefit plans. These estimates are updated quarterly based on recent claims history and other
events. Inherent in these estimates is the risk that they will need to be revised or updated, with the changes recorded in subsequent periods, as additional information becomes available to management. Accrued workers compensation and medical
malpractice losses have been discounted at 6%.



We renewed our
insurance program on October 1, 2004 for medical malpractice, commercial and general liability coverage with Arch Specialty Insurance Company, rated A- by AM Best Company. Our workers compensation carrier, Argonaut Insurance Company, is
rated A by AM Best Company.



Lillie Axelrod, spouse of director
Michael Axelrod, is an employee of Acordia Inc. Acordia provides insurance brokerage services to us. Mrs. Axelrod is paid a commission based on the fees paid to Acordia. The fees paid by us to Acordia during fiscal 2004 were approximately
$0.156 million and are expected to be approximately $0.175 million for fiscal 2005.





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##### Table of Contents

PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Summary of Significant Accounting Policies  continued



Income Taxes



The liability method is used in accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The tax provision for the nine months ended June 30,
2005 was increased by approximately $0.2 million due to a discrete event in the second quarter in a certain state jurisdiction disallowing certain deductions for state income tax purposes and decreased approximately $0.2 million in the third quarter
due to the application of newly enacted rates to existing deferred balances.



Reclassifications



Certain amounts for prior periods have been reclassified to conform to the current presentation.



Impact of Recently Issued Accounting Standards



On December 16, 2004, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 123(R) (revised 2004), Share-Based Payment,
which is a revision of FASB Statement No. 123, Accounting for Stock-Based Compensation. Statement 123(R) supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends FASB Statement No. 95,
Statement of Cash Flows. Generally, the approach in Statement 123(R) is similar to the approach described in Statement 123. However, Statement 123(R) requires all share-based payments to employees, including grants of employee stock
options, to be recognized in the income statement based on their fair values. Pro forma disclosure is no longer an alternative.



Statement 123(R) must be adopted by us no later than the first fiscal year beginning after June 15, 2005. We expect to adopt Statement 123(R) on
October 1, 2005.



Statement 123(R) permits public
companies to adopt its requirements using one of two methods:



| | 1. | A modified prospective method in which compensation cost is recognized beginning with the effective date (a) based on the requirements of Statement 123(R) for all
share-based payments granted after the effective date and (b) based on the requirements of Statement 123(R) for all that remain unvested on the effective date.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | 2. | A modified retrospective method which includes the requirements of the modified prospective method described above, but also permits entities to restate based on the
amounts previously recognized under Statement 123 for purposes of pro forma disclosures either (a) all prior periods presented or (b) prior interim periods of the year of adoption.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We plan to adopt Statement 123(R) using the modified prospective method.



As permitted by Statement 123, we currently account for
share-based payments to employees using Opinion 25s intrinsic value method and, as such, generally recognize no compensation cost for employee stock options. Accordingly, the adoption of Statement 123(R)s fair value method will have a
significant impact on our results of operations, although it will have no impact on our overall financial position. The impact of adoption of Statement 123(R) on our future financial statements cannot be predicted at this time because it will depend
on levels of share-based payments granted in the future and the fluctuation in our share price. However, had we adopted Statement 123(R) in prior periods, the impact of that standard would have approximated the impact of Statement 123 as described
in the disclosure of pro forma net income and earnings per share described below. Statement 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as financing cash flow, rather than as an
operating cash flow as required under current literature. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after adoption. While we cannot estimate what those amounts will be in the future
(because they depend on, among other things, when employees exercise stock options), the amount of operating cash flows recognized in the nine months ended June 30, 2005 and 2004 for such excess tax deductions were $0.5 million and $0.3
million, respectively.



Pro forma information regarding net
income and earnings per share, required by SFAS 123 and as amended by SFAS 148, was determined as if we had accounted for our employee stock options granted subsequent to December 31, 1994 under the fair value method. The fair value of these
options was estimated at the date of grant using a Black-Scholes option pricing model.



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Summary of Significant Accounting Policies  continued



For purposes of the pro forma disclosures, the estimated fair value of the options is amortized over the options
vesting period. Our pro forma information follows (in thousands, except for net income per share information):



|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|-------------------------------------------------------- |  | -------------------------- | ----- | - | ------------------------- | - | ----- | ---- |  | - | ------ | - |  | - | ----- | -
|                                                         |  | Three MonthsEnded June 30, |       |   | Nine Months EndedJune 30, |  
|                                                         |  | 2005                       |       |   | 2004                      |   |       | 2005 |  |   | 2004   |  
|Net Income                                               |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|As reported                                              |  | $                          | 1,474 |   |                           | $ | 1,043 |      |  | $ | 4,106  |   |  | $ | 4,192 |  
|Fair value based method compensation expense, net of tax |  |                            | (688  | ) |                           |   | (292  | )    |  |   | (1,764 | ) |  |   | (851  | )
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|Pro forma net income                                     |  | $                          | 786   |   |                           | $ | 751   |      |  | $ | 2,342  |   |  | $ | 3,341 |  
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|Basic income per share                                   |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|As reported                                              |  | $                          | 0.20  |   |                           | $ | 0.15  |      |  | $ | 0.57   |   |  | $ | 0.61  |  
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|Pro forma                                                |  | $                          | 0.11  |   |                           | $ | 0.11  |      |  | $ | 0.33   |   |  | $ | 0.48  |  
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|Diluted income per share                                 |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|As reported                                              |  | $                          | 0.19  |   |                           | $ | 0.14  |      |  | $ | 0.54   |   |  | $ | 0.57  |  
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  
|Pro forma                                                |  | $                          | 0.10  |   |                           | $ | 0.10  |      |  | $ | 0.31   |   |  | $ | 0.45  |  
|                                                         |  |                            |       |   |                           |   |       |      |  |   |        |   |  |   |       |  



3. Long-Term Borrowing Arrangements



On January 27, 2004, we entered into a credit
agreement with General Electric Capital Corporation (Credit Agreement). Subject to the terms and conditions of the Credit Agreement, the Lender made available a credit facility consisting of a $10.0 million revolving line of credit and a
$10.0 million line of credit for acquisitions. Availability in both components is subject to a borrowing base calculation against our accounts receivable. Borrowings under the revolving line of credit bear interest at LIBOR plus 3.00% or the Index
Rate plus 1.50%. Borrowings under the acquisition line of credit bear interest at LIBOR plus 3.50% or the Index Rate plus 2.00%. The Credit Agreement provides for unused line fees of 0.50% for the revolving line of credit and 0.75% for the
acquisition line of credit. The Credit Agreement contains several financial and non-financial covenants including, but not limited to, certain leverage, coverage, days sales outstanding and maximum capital expenditures requirements.



On May 12, 2004, we amended the Credit Agreement to clarify a definition
and increase the maximum capital expenditures covenant. We have made no borrowings under this agreement since its inception.



On April 16, 1998, we issued, in a private placement, $75 million aggregate principal amount of 10% Senior Subordinated Notes due 2008, which were
subsequently exchanged on May 12, 1998 for $75 million aggregate principal amount of 10% Senior Subordinated Notes due 2008, Series A, registered with the Securities and Exchange Commission (the Notes). The Indenture under which the
Notes were issued allows us to repurchase the Notes at our discretion. All bids to repurchase have been based upon a number of factors including cash availability, interest rates on invested cash, other capital investment alternatives, and relative
ask prices quoted by the market maker. Each decision to repurchase the Notes has been arrived at independently using the above criteria and we do not have a formal plan in place to repurchase the Notes. At June 30, 2005, approximately $20.4
million in aggregate principal amount of the Notes remained outstanding.



Our Notes are general unsecured obligations, subordinated in right of payment to all existing and future senior debt. The Notes are fully and unconditionally guaranteed, jointly and severally, on a senior subordinated
basis by the parent and all existing and future restricted subsidiaries (as defined in the Indenture). Condensed consolidating financial information for the subsidiary guarantors for the three and nine months ended June 30, 2005 is not included
because the parent and all subsidiaries are guarantors, the guarantees are full and unconditional and joint and several.





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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



4. Commitments and Contingencies



As a result of operating in the health care industry, our business entails an inherent risk of lawsuits alleging malpractice, product liability or related
legal theories, which can involve large claims and significant defense costs. From time to time, we are subject to such suits arising in the ordinary course of business. We currently maintain professional and commercial liability insurance intended
to cover such claims. As of June 30, 2005, this insurance coverage is provided under a claims-made policy which provides, subject to the terms and conditions of the policy, coverage for certain types of claims made against us during
the term of the policy and does not provide coverage for losses occurring during the terms of the policy for which a claim is made subsequent to the termination of the policy. Should the policy not be renewed or replaced with equivalent insurance,
claims based on occurrences during its term but asserted subsequently would be uninsured. There can be no assurance that our coverage limits of insurance will be adequate.



In addition, we are subject to claims and lawsuits arising in the ordinary course of business. Based upon information
available to date, management believes it has provided adequate reserves if needed for any unfavorable settlement; however, there can be no assurance that the ultimate resolution of such current pending legal proceedings would not have a material
adverse effect on our consolidated financial or liquidity position.



We have entered into employment agreements with certain of our employees which provide, among other things, salary, benefits and perquisites, as well as additional compensation for certain changes in control of the Company or a failure of
the Company to comply with any material terms of the agreements.



5. Stock Option Plans



During the three months ended June 30, 2005 and 2004, respectively 3,375 and 44,250 options to acquire our Common Stock were exercised. During the nine months ended June 30, 2005 and 2004, respectively 222,501 and 119,708 options
to acquire Common Stock were exercised.



6. Basic and Diluted Income Per
Share



Basic income per share is computed using the
weighted average number of shares of Common Stock outstanding during the period. Diluted income per share is computed using the weighted average number of shares of Common Stock outstanding and the dilutive effect of common equivalent shares
(calculated using the treasury stock method).



The following
table sets forth the reconciliation of denominators used in the computation of the basic and diluted net income per share:



|                                                                          |  |                            |  |                           |  |       |  |      
|------------------------------------------------------------------------- |  | -------------------------- |  | ------------------------- |  | ----- |  | -----
|                                                                          |  | Three Months EndedJune 30, |  | Nine Months EndedJune 30,
|                                                                          |  | 2005                       |  | 2004                      |  | 2005  |  | 2004 
|Denominator for basic income per share-weighted average shares            |  | 7,252                      |  | 6,973                     |  | 7,185 |  | 6,925
|Effect of dilutive securities:                                            |  |                            |  |                           |  |       |  |      
|Options                                                                   |  | 445                        |  | 515                       |  | 413   |  | 464  
|                                                                          |  |                            |  |                           |  |       |  |      
|Denominator for diluted income per shareadjusted weighted average shares |  | 7,697                      |  | 7,488                     |  | 7,598 |  | 7,389
|                                                                          |  |                            |  |                           |  |       |  |      
|                                                                          |  |                            |  |                          
|Antidilutive securities:                                                  |  |                            |  |                           |  |       |  |      
|Options                                                                   |  | 251                        |  | 290                       |  | 285   |  | 300  
|                                                                          |  |                            |  |                           |  |       |  |      



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



7. Segments



We have three reportable segments: Nursing and PPEC; Pharmacy and Respiratory Therapy Equipment and Services (RTES). Our Nursing and PPEC division
consists primarily of private duty home nursing care for predominately pediatric patients as well as Prescribed Pediatric Extended Care Centers which provide daily medical care for medically fragile children. Our Pharmacy division provides
pharmaceutical products and services for our patients in the home or physicians office. Our RTES division provides respiratory therapy equipment and services to patients in the home.



The accounting policies of the operating segments are the same as those
described in the Summary of Significant Accounting Policies (see Note 2). We evaluate performance based on profit or loss from operating income, excluding corporate, general and administrative expenses. Asset information by segment, including
capital expenditures and net income (loss) beyond operating contribution margins are not provided to our Chief Operating Decision Maker (CODM). Inter-segment allocations have been eliminated.



Our reportable segments are defined based on the predominant line of net
revenue which is reviewed by the CODM. The reportable segments are managed separately.



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Segments - continued



Our quarterly results may vary significantly depending primarily on factors such as re-hospitalizations of patients, seasonality and usage levels of
pharmaceutical products and respiratory services, the timing of new branch office openings and pricing pressures due to legislative and regulatory initiatives to contain health care costs. Because of these factors, our operating results for any
particular quarter may not be indicative of the results for the full fiscal year. The following table summarizes certain information for each of our companys operating segments:



|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|------------------------------------------------------------ |  | --------------- | ------ | -------- | - | --------------------- |  | ----------------- | ------ |  | - | ------
|                                                             |  |                 |        |          |   | RespiratoryTherapy,   |  |                  
|                                                             |  | Nursing andPPEC |        | Pharmacy |   | Equipmentand Services |  | ConsolidatedTotal
|Three Months Ended June 30, 2005                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|                                                             |  |                 |        |         
|Net revenue                                                  |  | $               | 28,700 |          | $ | 21,296                |  | $                 | 13,275 |  | $ | 63,271
|                                                             |  |                 |        |         
|Costs of goods and services                                  |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Nursing and therapist salaries, wages, benefits and supplies |  |                 | 16,906 |          |   | 250                   |  |                   | 242    |  |   | 17,398
|Pharmacy product and supplies                                |  |                 | 1      |          |   | 14,490                |  |                   | 924    |  |   | 15,415
|Disposables/supplies                                         |  |                 | 17     |          |   | 100                   |  |                   | 3,059  |  |   | 3,176 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Total cost of goods and services                             |  |                 | 16,924 |          |   | 14,840                |  |                   | 4,225  |  |   | 35,989
|Other operating costs and expenses                           |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Administrative and marketing salaries, wages and benefits    |  |                 | 4,822  |          |   | 2,341                 |  |                   | 3,614  |  |   | 10,777
|Business insurance                                           |  |                 | 1,117  |          |   | 255                   |  |                   | 631    |  |   | 2,003 
|Overhead                                                     |  |                 | 1,768  |          |   | 774                   |  |                   | 1,945  |  |   | 4,487 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Total operating costs and expenses                           |  |                 | 7,707  |          |   | 3,370                 |  |                   | 6,190  |  |   | 17,267
|Provision for doubtful accounts                              |  |                 | 188    |          |   | 116                   |  |                   | 490    |  |   | 794   
|Depreciation                                                 |  |                 | 88     |          |   | 95                    |  |                   | 758    |  |   | 941   
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|                                                             |  |                 |        |         
|Branch office contribution margin                            |  | $               | 3,793  |          | $ | 2,875                 |  | $                 | 1,612  |  | $ | 8,280 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|                                                             |  |                 |        |         
|Three Months Ended June 30, 2004                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|                                                             |  |                 |        |         
|Net revenue                                                  |  | $               | 26,674 |          | $ | 19,294                |  | $                 | 12,445 |  | $ | 58,413
|                                                             |  |                 |        |         
|Costs of goods and services                                  |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Nursing and therapist salaries, wages, benefits and supplies |  |                 | 15,913 |          |   | 235                   |  |                   | 239    |  |   | 16,387
|Pharmacy product and supplies                                |  |                 |       |          |   | 13,128                |  |                   | 846    |  |   | 13,974
|Disposables/supplies                                         |  |                 | 17     |          |   | 148                   |  |                   | 2,710  |  |   | 2,875 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Total cost of goods and services                             |  |                 | 15,930 |          |   | 13,511                |  |                   | 3,795  |  |   | 33,236
|Other operating costs and expenses                           |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Administrative and marketing salaries, wages and benefits    |  |                 | 4,835  |          |   | 2,110                 |  |                   | 3,913  |  |   | 10,858
|Business insurance                                           |  |                 | 1,093  |          |   | 158                   |  |                   | 362    |  |   | 1,613 
|Overhead                                                     |  |                 | 1,816  |          |   | 816                   |  |                   | 1,659  |  |   | 4,291 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|Total operating costs and expenses                           |  |                 | 7,744  |          |   | 3,084                 |  |                   | 5,934  |  |   | 16,762
|Provision for doubtful accounts                              |  |                 | 189    |          |   | 239                   |  |                   | 364    |  |   | 792   
|Depreciation                                                 |  |                 | 94     |          |   | 58                    |  |                   | 665    |  |   | 817   
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       
|                                                             |  |                 |        |         
|Branch office contribution margin                            |  | $               | 2,717  |          | $ | 2,402                 |  | $                 | 1,687  |  | $ | 6,806 
|                                                             |  |                 |        |          |   |                       |  |                   |        |  |   |       



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Segments  continued



|                                        |  |                             |        |   |      |   |        |  
|--------------------------------------- |  | --------------------------- | ------ | - | ---- | - | ------ | -
|                                        |  | Three Months Ended June 30, |       
|                                        |  | 2005                        |        |   | 2004 |  
|Total profit for reportable segments    |  | $                           | 8,280  |   |      | $ | 6,806  |  
|                                        |  |                            
|Corporate, general and administrative   |  |                             | (5,567 | ) |      |   | (4,420 | )
|Corporate depreciation and amortization |  |                             | (157   | ) |      |   | (141   | )
|Interest income                         |  |                             | 56     |   |      |   | 63     |  
|Interest expense                        |  |                             | (628   | ) |      |   | (604   | )
|                                        |  |                             |        |   |      |   |        |  
|                                        |  |                            
|Income before income tax expense        |  | $                           | 1,984  |   |      | $ | 1,704  |  
|                                        |  |                             |        |   |      |   |        |  



14



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Segments  continued



|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|------------------------------------------------------------ |  | --------------- | ------ | -------- | - | ---------------------------------------- |  | ----------------- | ------ |  | - | -------
|                                                             |  | Nursing andPPEC |        | Pharmacy |   | RespiratoryTherapy,Equipmentand Services |  | ConsolidatedTotal
|Nine Months Ended June 30, 2005                              |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Net revenue                                                  |  | $               | 86,043 |          | $ | 65,796                                   |  | $                 | 39,716 |  | $ | 191,555
|                                                             |  |                 |        |         
|Costs of goods and services                                  |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|                                                             |  |                 |        |         
|Nursing and therapist salaries, wages, benefits and supplies |  |                 | 51,209 |          |   | 920                                      |  |                   | 808    |  |   | 52,937 
|Pharmacy product and supplies                                |  |                 | 1      |          |   | 45,772                                   |  |                   | 2,633  |  |   | 48,406 
|Disposables/supplies                                         |  |                 | 58     |          |   | 399                                      |  |                   | 8,869  |  |   | 9,326  
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Total cost of goods and services                             |  |                 | 51,268 |          |   | 47,091                                   |  |                   | 12,310 |  |   | 110,669
|Other operating costs and expenses                           |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Administrative and marketing salaries, wages and benefits    |  |                 | 14,713 |          |   | 6,917                                    |  |                   | 11,353 |  |   | 32,983 
|Business insurance                                           |  |                 | 3,327  |          |   | 728                                      |  |                   | 1,522  |  |   | 5,577  
|Overhead                                                     |  |                 | 5,224  |          |   | 2,441                                    |  |                   | 5,144  |  |   | 12,809 
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Total operating costs and expenses                           |  |                 | 23,264 |          |   | 10,086                                   |  |                   | 18,019 |  |   | 51,369 
|                                                             |  |                 |        |         
|Provision for doubtful accounts                              |  |                 | 615    |          |   | 166                                      |  |                   | 1,655  |  |   | 2,436  
|Depreciation                                                 |  |                 | 279    |          |   | 272                                      |  |                   | 2,217  |  |   | 2,768  
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|                                                             |  |                 |        |         
|Branch office contribution margin                            |  | $               | 10,617 |          | $ | 8,181                                    |  | $                 | 5,515  |  | $ | 24,313 
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|                                                             |  |                 |        |         
|Nine Months Ended June 30, 2004                              |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Net revenue                                                  |  | $               | 79,290 |          | $ | 62,781                                   |  | $                 | 37,205 |  | $ | 179,276
|                                                             |  |                 |        |         
|Costs of goods and services                                  |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|                                                             |  |                 |        |         
|Nursing and therapist salaries, wages, benefits and supplies |  |                 | 46,972 |          |   | 705                                      |  |                   | 746    |  |   | 48,423 
|Pharmacy product and supplies                                |  |                 | 2      |          |   | 41,325                                   |  |                   | 2,473  |  |   | 43,800 
|Disposables/supplies                                         |  |                 | 55     |          |   | 461                                      |  |                   | 8,115  |  |   | 8,631  
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Total cost of goods and services                             |  |                 | 47,029 |          |   | 42,491                                   |  |                   | 11,334 |  |   | 100,854
|Other operating costs and expenses                           |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Administrative and marketing salaries, wages and benefits    |  |                 | 14,184 |          |   | 5,993                                    |  |                   | 11,508 |  |   | 31,685 
|Business insurance                                           |  |                 | 3,851  |          |   | 669                                      |  |                   | 1,371  |  |   | 5,891  
|Overhead                                                     |  |                 | 5,352  |          |   | 2,294                                    |  |                   | 4,764  |  |   | 12,410 
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|Total operating costs and expenses                           |  |                 | 23,387 |          |   | 8,956                                    |  |                   | 17,643 |  |   | 49,986 
|                                                             |  |                 |        |         
|Provision for doubtful accounts                              |  |                 | 704    |          |   | 759                                      |  |                   | 1,368  |  |   | 2,831  
|Depreciation                                                 |  |                 | 282    |          |   | 158                                      |  |                   | 1,896  |  |   | 2,336  
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        
|                                                             |  |                 |        |         
|Branch office contribution margin                            |  | $               | 7,888  |          | $ | 10,417                                   |  | $                 | 4,964  |  | $ | 23,269 
|                                                             |  |                 |        |          |   |                                          |  |                   |        |  |   |        



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PEDIATRIC SERVICES OF AMERICA, INC

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  Unaudited



Segments  continued



|                                        |  |                            |         |   |      |   |         |  
|--------------------------------------- |  | -------------------------- | ------- | - | ---- | - | ------- | -
|                                        |  | Nine Months Ended June 30, |        
|                                        |  | 2005                       |         |   | 2004 |  
|Total profit for reportable segments    |  | $                          | 24,313  |   |      | $ | 23,269  |  
|                                        |  |                           
|Corporate, general and administrative   |  |                            | (15,606 | ) |      |   | (14,393 | )
|Corporate depreciation and amortization |  |                            | (474    | ) |      |   | (426    | )
|Other income                            |  |                            | 65      |   |      |   | 5       |  
|Interest income                         |  |                            | 149     |   |      |   | 112     |  
|Interest expense                        |  |                            | (1,873  | ) |      |   | (1,719  | )
|                                        |  |                            |         |   |      |   |         |  
|                                        |  |                           
|Income before income tax expense        |  | $                          | 6,574   |   |      | $ | 6,848   |  
|                                        |  |                            |         |   |      |   |         |  



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##### Table of Contents

|ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------



Forward-Looking Statements



This Form 10-Q contains certain forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) relating
to future financial performance of our company. When used in this Form 10-Q, the words may, targets, goal, could, should, would, believe, feel,
expects, anticipate, confident, estimate, intend, plan, potential and similar expressions may be indicative of forward-looking statements. These statements by their
nature involve substantial risks and uncertainties, certain of which are beyond our control. We caution that various factors, including the factors described below and elsewhere in this report, and including those set forth in Item 1 under the
caption Risk Factors in our 2004 Annual Report on Form 10-K, as well as those discussed in our other filings with the Securities and Exchange Commission, could cause actual results or outcomes to differ materially from those expressed in
any forward-looking statements made by us or on our behalf. The following are among the important factors that could cause actual results to differ materially from the results discussed herein:



| |  | changes in reimbursement rates or policies;
| | - | -------------------------------------------



| |  | payor relationships;
| | - | --------------------



| |  | changes in health care regulations, including changes resulting from the recently enacted Medicare Prescription Drug Act of 2003 (MMA) and the Health Insurance
Portability and Accountability Act (HIPAA);
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the ability to collect for equipment sold or rented;
| | - | ----------------------------------------------------



| |  | the ability to assimilate and manage previously acquired field operations;
| | - | --------------------------------------------------------------------------



| |  | the ability to collect accounts receivable for products and services we provide, including receivables related to acquired businesses and receivables under appeal;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the ability to comply with and respond to billing requirements issues, including those related to our billing and collection system;
| | - | ------------------------------------------------------------------------------------------------------------------------------------



| |  | reduced state funding levels and nursing hours authorized by Medicaid programs;
| | - | -------------------------------------------------------------------------------



| |  | adverse litigation results;
| | - | ---------------------------



| |  | competitive factors;
| | - | --------------------



| |  | ability to hire and retain qualified health care professionals;
| | - | ---------------------------------------------------------------



| |  | the availability and cost of medical malpractice, workers compensation and employee medical benefit insurance;
| | - | ---------------------------------------------------------------------------------------------------------------



| |  | changes in industry practices; and
| | - | ----------------------------------



| |  | general economic condition and industry trends.
| | - | -----------------------------------------------



Any forward-looking statement speaks only as of the date on which such statement is made, and we undertake no obligation to update any forward-looking
statement or statements to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of an unanticipated event. New factors emerge from time to time, and it is not possible for management to predict
all of such factors. Further, management cannot assess the impact of each such factor on the business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any
forward-looking statements.



The following discussion
should be read in conjunction with the unaudited condensed consolidated financial statements included in this quarterly report.



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EXECUTIVE SUMMARY



Recent Developments



Home Healthcare Industry Events & Updates



Historically, Medicare reimbursement for covered drugs has been limited to 95 percent of the published average wholesale price (AWP) for the drug. The
Medicare Prescription Drug, Improvement and Modernization Act of 2003 (MMA) established new payment limits and procedures for drugs reimbursed under Medicare Part B, including drugs used for inhalation therapy. The final rule, as the MMA required,
provides that Medicare beneficiaries will be reimbursed at a rate of 106 percent of the volume-weighted average selling price (the ASP). In addition, providers of inhalation therapy drugs, including our company, will receive a dispensing fee for
supplying such drugs. The calendar year 2005 dispensing fee will be $57 for thirty (30) days of therapy or $80 for ninety (90) days. Within the Pharmacy segment, we are continuing to assess the impact of these changes to our unit dose
respiratory products to determine the viability of our long term profitability. While the long term impact of the MMA reforms cannot yet be determined because the recently promulgated regulations are transitional in nature, these and other changes
may have a material adverse effect on our operations and financial results. For fiscal year 2005, the impact of these regulations is expected to substantially reduce our profitability in the Pharmacy segment. There can be no assurance that we will
not face increased margin pressures from subsequent reimbursement changes beyond 2005.



A number of other pilot programs and demonstrations which are mandated by the MMA signal the likelihood of continued re-design of certain aspects of the Medicare program. While the more immediately visible changes
mandated by the MMA relate to extension of the Medicare benefit to prescription drug coverage, other aspects may impact the operations and profitability of health care providers, including our company. Among other things, the MMA mandates a
phased-in competitive bidding process for Medicare procurement of certain durable medical equipment (DME), commencing in the ten (10) largest Metropolitan Statistical Areas (MSAs) in 2007, followed by the next eighty (80) largest MSAs in
2009. Moreover, the Secretary of the United States Department of Health & Human Services has the authority to apply competitive bidding nationally for the highest cost, highest volume items and services and those items and services that the
Secretary determines to have the largest savings potential. There will also be at least a five (5) year freeze in the Consumer Price Index update for reimbursement rates for DME where competitive bidding prices are not applicable.
In addition, commencing in calendar year 2005, reimbursement for certain items and services (e.g., oxygen and oxygen equipment) that are not subject to competitive bidding will be capped at the 2002 rate or the Median Federal Employee Health
Plan Price established in 2002, whichever is lower. For fiscal year 2005, the impact of these regulations will be to reduce our profitability in the RTES segment. There can be no assurance that we will not face increased margin pressures from
subsequent reimbursement changes beyond 2005.



Under the MMA,
there are major changes in the Medicare payment rates for hemophilia products beginning in calendar year 2005. Currently, Medicare reimburses for blood clotting factor at 95 percent of AWP. Effective January 1, 2005, we are reimbursed for blood
clotting factor based on the new ASP methodology. We expect that the resulting payment rates will be lower than the current rates for these products. In addition, the Centers for Medicare & Medicaid Services (CMS) will make a separate
payment to the entity that provides blood clotting factor to a Medicare beneficiary for items and services related to the furnishing of such products. The amount of this separate payment is capped so that the total of the ASP payment rate and the
separate payment amount cannot exceed 95 percent of AWP. It is possible that the proposed separate payment amount will be inadequate for the service level requirements of the Medicare beneficiary with hemophilia. While our current census of Medicare
beneficiary hemophilia patients is quite low, the potential for select state Medicaid programs to adopt changes to their payment rates based upon these Medicare changes exists. Such changes could result in a payment amount that would be inadequate
for the required service level. We have addressed these proposed reductions, as well as the potential for further reimbursement reductions from selected commercial payors, by reducing administrative and overhead costs where possible and continuing
to search for further opportunities to reduce our cost structure.



As described in our prior SEC filings, Georgia Medicaids contractor missed the original implementation date of October 1, 2002 and delayed the go live date until April 1, 2003 for its new Multi Health Network
system. Georgia Medicaid is an important customer of ours and represents approximately 6% of our annual billed revenue. Some of



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the continuing problems we are trying to resolve with Georgia Medicaid include: correcting conflicts between provider
numbers, categories of service, membership identification, units of measure, authorized duration of service and corresponding procedure codes within its authorization module. Given the States continued delays in agreeing to a timely settlement
on a large number of claims from our RTES segment, we are working with external legal counsel on the range of alternatives available to us, including initiating legal action. Nevertheless, we have been in communication with other contacts in the
States government and have received somewhat limited assistance to date. Based upon the information available to date, we believe we have recorded an adequate allowance against these receivable balances.



While certain states are realizing relief from prior revenue shortfalls and
some are reporting surpluses, concern over a reduction in the future level of Federal Medical Assistance Percentages dampens the likelihood that Medicaid payment limitations will be abated at any time in the near future. While many of the states in
which we operate are discussing alternatives which could have the effect of restricting eligibility for Medicaid benefits or increasing the use of managed care organizations in the administration of benefits, we are not aware of any specific
proposals being actively evaluated which would have a material adverse impact upon our operations or financial results. However, in an effort to impact these legislative issues, we have engaged consultants in selected markets to directly present our
cost saving strategies and related rate requests to the Medicaid programs. During the third quarter of fiscal 2005, we received a rate increase for our Private Duty Nursing services from two states. In addition, our local market staff routinely
collaborates with the appropriate community and regulatory authorities on our behalf as well as our patients.



The HIPAA transactions and code set standards, mandate that Covered Entities, including our company, transmit claims and certain related healthcare
information in standardized formats and data sets. Compliance was required on October 16, 2003, but many payors, including most state Medicaid agencies, were not in compliance by that date. To date, many Medicaid agencies are running dual
systems to accommodate HIPAA compliant transactions as well as non-compliant transactions. Some states, however, are running only HIPAA compliant systems and other states are not yet HIPAA compliant. There is uncertainty as to when those states
using dual systems will discontinue their non-HIPAA compliant systems. These uncertainties surrounding claims processing as a result of HIPAAs transactions and code set standards, which uncertainties are outside our control, have resulted in
delayed reimbursement by some payors, including Medicaid agencies. We expect that the impact to our cash collections from non-HIPAA compliant payors should continue to decline throughout fiscal 2005.



Company Events & Updates



During the second quarter of fiscal year 2005, we performed a strategic
review of our business. The purpose of this review was to conduct a rigorous evaluation of all possible strategic alternatives; select a strategic path that maximizes long-term shareholder value; assess the management teams capabilities and
identify any gaps in needed talents and skill sets; provide clarity to the tactical actions necessary to maximize the value of each segment of the business; and implement a communication plan which supports the chosen strategic path. During the
third quarter of fiscal 2005, we continued the implementation of several of the critical elements of the agreed strategic path. In addition, the Vice President of PPEC Operations resigned. A decision was made not to replace this position and to have
these operations report to the Vice President of Nursing.



With
respect to compliance with Section 404 of the Sarbanes-Oxley Acts (SOX 404) requirements related to internal controls over financial reporting, we continue to work with our consultants and have substantially completed the
documentation process and are well underway with the required testing. Although our estimated expense has increased, we believe that our project is on schedule which allows for adequate time to perform the required testing and potential remediation
tasks prior to the required testing by our external auditors.



On December 16, 2004, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 123(R) (revised 2004), Share-Based Payment, which is a revision of FASB Statement No. 123, Accounting for Stock-Based
Compensation. Statement 123(R) supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends FASB Statement No. 95, Statement of Cash Flows. Generally, the approach in Statement 123(R) is similar to
the approach described in Statement 123. However, Statement 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Pro forma
disclosure is no longer an alternative.



Statement 123(R) must
be adopted by us no later than the first fiscal year beginning after June 15, 2005. We expect to adopt Statement 123(R) on October 1, 2005.



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Statement 123(R) permits public companies to adopt its requirements using one of two
methods:



| | 1. | A modified prospective method in which compensation cost is recognized beginning with the effective date (a) based on the requirements of Statement 123(R) for all
share-based payments granted after the effective date and (b) based on the requirements of Statement 123(R) for all that remain unvested on the effective date.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | 2. | A modified retrospective method which includes the requirements of the modified prospective method described above, but also permits entities to restate based on the
amounts previously recognized under Statement 123 for purposes of pro forma disclosures either (a) all prior periods presented or (b) prior interim periods of the year of adoption.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We plan to adopt Statement 123(R) using the modified prospective method.



As permitted by Statement 123, we currently account for
share-based payments to employees using Opinion 25s intrinsic value method and, as such, generally recognize no compensation cost for employee stock options. Accordingly, the adoption of Statement 123(R)s fair value method will have a
significant impact on our results of operations, although it will have no impact on our overall financial position. The impact of adoption of Statement 123(R) on our future financial statements cannot be predicted at this time because it will depend
on levels of share-based payments granted in the future and the fluctuation in our share price. However, had we adopted Statement 123(R) in prior periods, the impact of that standard would have approximated the impact of Statement 123 as described
in the disclosure of pro forma net income and earnings per share described below. Statement 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as financing cash flow, rather than as an
operating cash flow as required under current literature. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after adoption. While we cannot estimate what those amounts will be in the future
(because they depend on, among other things, when employees exercise stock options), the amount of operating cash flows recognized in the nine months ended June 30, 2005 and 2004 for such excess tax deductions were $0.5 million and $0.3
million, respectively.



Risk Management



We have spent significant time and resources to move
towards a fully implemented Enterprise Risk Management Model. This approach to risk management emphasizes assessment of risk from a broader perspective and relies upon significant employee education initiatives and awareness of a variety of risk
exposures. Our full time risk manager, who possesses extensive homecare and occupational medicine experience, has strengthened the initial incident reporting and investigation process and actively monitors claim adjustment activities. Our Risk
Committee, which is comprised of members of the Compliance, Legal, Human Resources, Internal Audit and Risk Management Departments, continues to monitor incident reporting and claim adjustment activity, review existing patient census and discharge
high-risk cases where legally permissible. Our Risk Committee employs a multi-functional approach to its decision making process. We continue to educate branch office staff on risk management procedures including appropriate nurse staffing
decisions. In addition, our third party actuary analyzes our medical malpractice loss history and quantifies liability recognition under the policy terms. Under our medical malpractice policy, we have a $1.0 million per year per claim self-insured
retention and an annual aggregate self-insured retention of $8.0 million. If our loss experience worsens it could have a material adverse effect on our financial results and liquidity position.



Operations



We have three reportable segments: (i) Nursing and PPEC,
(ii) Pharmacy and (iii) RTES (see Notes to the Condensed Consolidated Financial Statements-Note 7).



In the Nursing and PPEC segment, we continue to see pressures on both reimbursement levels and wage rates in key markets. We have expanded our local
market recruiting efforts and we are recruiting for one additional position for a total of ten recruiters.



In the Pharmacy segment, we experienced an increase in gross margin rates due to the seasonal decline of low margin Synagis product as well as improved
payor mix within the hemophilia factor and growth hormone products. Within the hemophilia factor product, clinical changes in a patients condition can dictate rapid changes to the specific type and amount of drugs provided. These alternative
drugs may have relatively higher or lower acquisition costs and reimbursement levels based on the payor. Given the expanded, though increasingly concentrated census, changes of this type expose the Pharmacy segment revenue and contribution margin to
significant volatility. Payor initiated reductions to reimbursement levels with no corresponding reduction to acquisition costs pose a significant threat to future contribution margin levels. In response to these changing market conditions we have
undertaken a series of initiatives including recruiting for a National Hemophilia Director to coordinate our existing programs and provide dedicated focus on expansion. In addition, we have increased development



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##### Table of Contents

of marketing materials that highlight our clinical and service expertise as integral components of our pharmacy programs. We have also explored potential
business relationships with hemophilia treatment centers to manage their patient populations, and we continue to refine operational best practices to assure maximized clinical compliance and efficiency.



As anticipated, our unit dose pharmacy experienced a significant reduction in
Medicare reimbursement. With the transition in the Vice President of Pharmacy Operations position, the planned operating cost reductions were delayed until late in the second quarter of fiscal 2005. During the third quarter, as expected, our
contribution margin improved as the transition to manufactured products and operating cost reductions were in full effect.



Our start up pharmacy in the Orlando, Florida market received its required licenses late in the first quarter of fiscal 2005, later than we had
anticipated. This delay contributed to start up losses of approximately $0.2 million in the nine months ended June 30, 2005. Start up losses attributable to the Denver, Colorado start up pharmacy were approximately $0.3 million in the nine
months ended June 30, 2005. A decision was made to close the Denver, Colorado pharmacy effective in the fourth quarter of fiscal 2005. We determined that we have not made enough progress and the prospects for profitability were moving past a
reasonable timeframe.



In the RTES segment, we are focusing our
sales and marketing efforts on higher acuity respiratory patients to leverage our clinical competencies and more actively manage the core product mix. As a result, we have begun to see increases in target referrals from managed care payors in select
markets. However, we have experienced an increased rate of capital expenditures in connection with the replacement of several equipment items in our core rental fleet. These increasing capital expenditures reflect growing market acceptance of
improved versions of these core products. Many of those items have become smaller and more portable and are increasingly requested by patients and referring physicians. These items have higher acquisition costs and, to date, reimbursement levels
have not increased. In addition, we are experiencing decreased reimbursement for certain disposable and supply items, as well as the elimination of reimbursement for other select items (see Home Healthcare Industry Events &
Updates above for additional discussion). In order to address the continued margin pressures on our RTES segment, our Product Review Committee continues to standardize product selections, aggregate product volumes and decrease our number of
vendors in an attempt to maximize purchasing power. With the Divisional Vice President position vacant, execution of these initiatives will be critical to achieving the desired objectives.



Source & Availability of Clinical Personnel



During the 13 weeks ending June 25, 2005, our case hours staffed
increased to approximately 798,000 as compared to 795,000 in the 13 weeks ended March 26, 2005. We continue to aggressively compete for nurses to staff hours ordered, retain nurses with select wage and benefit improvements and implement
employee satisfaction initiatives. To help reduce un-staffed hours, we have made additional investments in nine new local market nurse recruiters, with one open position remaining. We believe that case hours staffed is the most appropriate
measurement of nursing activity. To date, we have seen inconsistent results in a number of markets and we will continue to assess and respond accordingly. We anticipate that over time, our nurse scheduling system, SHINE, will help to improve both
un-staffed hours and gross margin levels; however, there can be no assurance that this will occur.





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##### Table of Contents

RESULTS OF OPERATIONS



The following table is derived from our unaudited condensed consolidated statements of operations for the periods indicated
and presents results of operations as a percentage of net revenue and the percentage change in the dollar of each item from the comparative prior period:



|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|--------------------------------------------------------- |  | ------------------------- | - |  | ------------------- | - |  | -------------- | - |  | -------------- | - |  | --------------------------- | - |  | ----- | -
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  | Period-to-Period Percentage |  
|                                                          |  | Percentage of Net Revenue |   |  | Increase (Decrease) |  
|                                                          |  | Three Months              |   |  | Nine Months         |   |  | Three Months   |   |  | Nine Months    |  
|                                                          |  | ended June 30,            |   |  | ended June 30,      |   |  | ended June 30, |   |  | ended June 30, |  
|                                                          |  | 2005                      |   |  | 2004                |   |  | 2005           |   |  | 2004           |   |  | 2005                        |   |  | 2005  |  
|Net Revenue                                               |  | 100.0                     | % |  | 100.0               | % |  | 100.0          | % |  | 100.0          | % |  | 8                           |   |  | 7     |  
|Costs of goods and services                               |  | 56.9                      |   |  | 56.9                |   |  | 57.8           |   |  | 56.3           |   |  | 8                           |   |  | 10    |  
|Other operating costs and expenses                        |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Administrative and marketing salaries, wages and benefits |  | 17.0                      |   |  | 18.6                |   |  | 17.2           |   |  | 17.7           |   |  | (1                          | ) |  | 4     |  
|Business insurance                                        |  | 3.2                       |   |  | 2.8                 |   |  | 2.9            |   |  | 3.3            |   |  | 24                          |   |  | (5    | )
|Overhead                                                  |  | 7.1                       |   |  | 7.3                 |   |  | 6.7            |   |  | 6.9            |   |  | 5                           |   |  | 3     |  
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Other operating costs and expenses                        |  | 27.3                      |   |  | 28.7                |   |  | 26.8           |   |  | 27.9           |   |  | 3                           |   |  | 3     |  
|Corporate, general and administrative                     |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Salaries, wages and benefits                              |  | 5.6                       |   |  | 5.3                 |   |  | 5.3            |   |  | 5.7            |   |  | 15                          |   |  | (0    | )
|Business insurance                                        |  | 0.1                       |   |  | 0.1                 |   |  | 0.1            |   |  | 0.1            |   |  | 56                          |   |  | 20    |  
|Professional services                                     |  | 1.9                       |   |  | 1.0                 |   |  | 1.6            |   |  | 1.0            |   |  | 103                         |   |  | 72    |  
|Overhead                                                  |  | 1.2                       |   |  | 1.2                 |   |  | 1.2            |   |  | 1.3            |   |  | 6                           |   |  | (3    | )
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Corporate, general and administrative                     |  | 8.8                       |   |  | 7.6                 |   |  | 8.2            |   |  | 8.1            |   |  | 26                          |   |  | 8     |  
|Provision for doubtful accounts                           |  | 1.3                       |   |  | 1.4                 |   |  | 1.3            |   |  | 1.6            |   |  | 0                           |   |  | (14   | )
|Depreciation and amortization                             |  | 1.7                       |   |  | 1.6                 |   |  | 1.7            |   |  | 1.5            |   |  | 15                          |   |  | 17    |  
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Operating income                                          |  | 4.0                       |   |  | 3.8                 |   |  | 4.2            |   |  | 4.6            |   |  | 14                          |   |  | (3    | )
|Other income                                              |  |                          |   |  |                    |   |  |               |   |  |               |   |  |                            |   |  | 1,061 |  
|Interest income                                           |  | 0.1                       |   |  | 0.1                 |   |  | 0.1            |   |  | 0.1            |   |  | (11                         | ) |  | 34    |  
|Interest expense                                          |  | (1.0                      | ) |  | (1.0                | ) |  | (1.0           | ) |  | (1.0           | ) |  | 4                           |   |  | 9     |  
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  
|Income before income tax expense                          |  | 3.1                       | % |  | 2.9                 | % |  | 3.3            | % |  | 3.7            | % |  | 17                          |   |  | (4    | )
|                                                          |  |                           |   |  |                     |   |  |                |   |  |                |   |  |                             |   |  |       |  



22



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We provide a broad range of health care services and products principally for children and, to a lesser extent, young
adults and geriatric patients. The following table summarizes both services and products based upon estimated percentages of net billings of each major category for the periods indicated:



|                                           |  |                    |   |  |                   |   |  |         |   |  |         |  
|------------------------------------------ |  | ------------------ | - |  | ----------------- | - |  | ------- | - |  | ------- | -
|                                           |  | Three Months Ended |   |  | Nine Months Ended |  
|                                           |  | June 30,           |   |  | June 30,          |  
|                                           |  | 2005               |   |  | 2004              |   |  | 2005    |   |  | 2004    |  
|                                           |  | % Total            |   |  | % Total           |   |  | % Total |   |  | % Total |  
|Pediatric Home Health Care                 |  |                    |   |  |                   |   |  |         |   |  |         |  
|Nursing and PPEC                           |  | 41.7               | % |  | 41.8              | % |  | 41.4    | % |  | 40.4    | %
|Respiratory Therapy Equipment and Services |  | 8.5                | % |  | 8.5               | % |  | 8.2     | % |  | 8.2     | %
|Pharmacy                                   |  | 29.9               | % |  | 28.8              | % |  | 29.6    | % |  | 29.5    | %
|                                           |  |                    |   |  |                   |   |  |         |   |  |         |  
|Total Pediatric Home Health Care           |  | 80.1               | % |  | 79.1              | % |  | 79.2    | % |  | 78.1    | %
|                                           |  |                    |   | 
|Adult Home Health Care                     |  |                    |   |  |                   |   |  |         |   |  |         |  
|Nursing                                    |  | 4.5                | % |  | 4.7               | % |  | 4.5     | % |  | 4.6     | %
|Respiratory Therapy Equipment and Services |  | 8.4                | % |  | 8.9               | % |  | 8.5     | % |  | 8.8     | %
|Pharmacy                                   |  | 7.0                | % |  | 7.3               | % |  | 7.8     | % |  | 8.5     | %
|                                           |  |                    |   |  |                   |   |  |         |   |  |         |  
|Total Adult Home Health Care               |  | 19.9               | % |  | 20.9              | % |  | 20.8    | % |  | 21.9    | %
|                                           |  |                    |   |  |                   |   |  |         |   |  |         |  
|Total                                      |  | 100.0              | % |  | 100.0             | % |  | 100.0   | % |  | 100.0   | %
|                                           |  |                    |   |  |                   |   |  |         |   |  |         |  



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Three Months Ended June 30, 2005 Compared to Three Months Ended June 30, 2004



Net revenue increased $4.9 million, or 8%, to $63.3 million in the three
months ended June 30, 2005 from $58.4 million in the three months ended June 30, 2004. For the Nursing and PPEC segment net revenue increased $2.0 million, or 8%, to $28.7 million in the three months ended June 30, 2005 from $26.7
million in the three months ended June 30, 2004. Of this growth, $0.4 million was attributable to the Macon start up PPEC branch office and $0.3 million was from PPEC same store growth. The increase of $1.3 million in Nursing net revenue was
broad based throughout our service areas. Pharmacy net revenue increased $2.0 million, or 10%, to $21.3 million in the three months ended June 30, 2005 from $19.3 million in the three months ended June 30, 2004. This increase in Pharmacy
net revenue is attributable to increased deliveries of hemophilia factor and growth hormone products. These increases were offset by net revenue declines in unit dose respiratory medications. RTES net revenue increased $0.8 million, or 7% to $13.3
million in the three months ended June 30, 2005 from $12.4 million in the three months ended June 30, 2004. The increase was across all core products. In the three months ended June 30, 2005, we derived approximately 51% of our net
revenue from commercial insurers and other private payors, 43% from Medicaid and 6% from Medicare.



Costs of goods and services consist primarily of branch office nursing compensation and benefits, medical equipment, pharmaceuticals and related supplies.
Costs of goods and services increased $2.8 million, or 8%, to $36.0 million in the three months ended June 30, 2005 from $33.2 million in the three months ended June 30, 2004. Costs of goods and services of the Nursing and PPEC segment
increased $1.0 million, or 6%, to $16.9 million in the three months ended June 30, 2005 from $15.9 million in the three months ended June 30, 2004. Costs of goods and services as a percentage of the Nursing and PPEC segment net revenue
decreased to 59% in the three months ended June 30, 2005 compared to 60% in the three months ended June 30, 2004. The Pharmacy segment cost of goods and services increased $1.3 million, or 10%, to $14.8 million in the three months ended
June 30, 2005 from $13.5 million in the three months ended June 30, 2004. The RTES segment cost of goods and services increased $0.4 million, or 11%, to $4.2 million in the three months ended June 30, 2005 from $3.8 million in the
three months ended June 30, 2004. Costs of goods and services as a percentage of net revenue increased to 32% in the three months ended June 30, 2005 from 30% in the three months ended June 30, 2004.



Other operating costs and expenses include branch office administrative and
marketing compensation and benefits, allocated business insurance costs, facility and overhead costs. Other operating costs and expenses increased $0.5 million, or 3%, to $17.3 million in the three months ended June 30, 2005 from $16.8 million
in the three months ended June 30, 2004. In the Nursing and PPEC segment, other operating costs and expenses remained relatively constant at $7.7 million in the three months ended June 30, 2005 as compared to the three months ended
June 30, 2004. As a percentage of net revenue, the Nursing and PPEC segment costs decreased to 27% in the three months ended June 30, 2005 from 29% in the three months ended June 30, 2004. In the Pharmacy segment, other operating
costs and expenses increased $0.3 million, or 9%, to $3.4 million in the three months ended June 30, 2005 from $3.1 million in the three months ended June 30, 2004. As a percentage of net revenue these costs remained relatively constant at
16% in the three months ended June 30, 2005 as compared to the three months ended June 30, 2004. This increase includes administrative salaries of approximately $0.1 million attributable to start up operations in the Orlando and Denver
markets. In the RTES segment, costs and expenses increased $0.3 million, or 4%, to $6.2 million in the three months ended June 30, 2005 compared to $5.9 million in the three months ended June 30, 2004. As a percentage of net revenue these
costs decreased to 47% in the three months ended June 30, 2005 from 48% in the three months ended June 30, 2004.



Corporate, general and administrative costs increased $1.1 million, or 26%, to $5.6 million in the three months ended June 30, 2005 from $4.4 million
in the three months ended June 30, 2004. As a percentage of net revenue, corporate, general and administrative costs increased to 9% in the three months ended June 30, 2005 compared to 8% in the three months ended June 30, 2004. Of
the $1.1 million increase, $0.6 million was attributable to increased professional fees, specifically increased SOX 404 costs and increased audit fees.



Provision for doubtful accounts remained relatively constant at $0.8 million in the three months ended June 30, 2005 as compared to the three months
ended June 30, 2004. Cash collections as a percentage of net revenue were 106% and 107% in the three months ended June 30, 2005 and 2004, respectively.



Depreciation and amortization increased $0.1 million, or 15%, to $1.1 million in the three months ended June 30, 2005
as compared to $1.0 million in the three months ended June 30, 2004.



Interest expense remained relatively constant at $0.6 million in the three months ended June 30, 2005 compared to the three months ended June 30, 2004. Our average debt outstanding remained constant.



Income tax expense decreased $0.2 million, or 23%, to $0.5
million in the three months ended June 30, 2005 from $0.7 million in the three months ended June 30, 2004. The tax provision for the quarter ended June 30, 2005 includes a reduction in provision of approximately $0.2 million due to
the application of newly enacted rates to existing deferred balances.



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Nine Months Ended June 30, 2005 Compared to Nine Months Ended June 30, 2004



Net revenue increased $12.3 million, or 7%, to $191.6 million in the nine
months ended June 30, 2005 from $179.3 million in the nine months ended June 30, 2004. For the Nursing and PPEC segment, net revenue increased $6.8 million, or 9%, to $86.0 million in the nine months ended June 30, 2005 from $79.3
million in the nine months ended June 30, 2004. Of this growth, $0.8 million was attributable to the Macon PPEC start-up branch office and $1.0 million was from PPEC same store growth. The increase of $5.0 million in the nursing segment was
broad based throughout our service areas. Pharmacy net revenue increased $3.0 million, or 5%, to $65.8 million in the nine months ended June 30, 2005 from $62.8 million in the nine months ended June 30, 2004. RTES net revenue increased
$2.5 million, or 7%, to $39.7 million in the nine months ended June 30, 2005 from $37.2 million in the nine months ended June 30, 2004. In the nine months ended June 30, 2005, we derived approximately 52% of our net revenue from
commercial insurers and other private payors, 42% from Medicaid and 6% from Medicare.



Costs of goods and services consist primarily of branch office nursing compensation and benefits, medical equipment, pharmaceuticals and related supplies. Costs of goods and services increased $9.8 million, or 10%, to
$110.7 million in the nine months ended June 30, 2005 from $100.9 million in the nine months ended June 30, 2004. Costs of goods and services of the Nursing and PPEC segment increased $4.2 million, or 9%, to $51.3 million in the nine
months ended June 30, 2005 from $47.0 million in the nine months ended June 30, 2004. Costs of goods and services as a percentage of the Nursing and PPEC segment net revenue was relatively constant at 60% in the nine months ended
June 30, 2005 as compared to the nine months ended June 30, 2004. For the Pharmacy segment, cost of goods and services increased $4.6 million, or 11%, to $47.1 million in the nine months ended June 30, 2005 from $42.5 million in the
nine months ended June 30, 2004. Pharmacy costs of goods and services as a percentage of net revenue increased to 72% in the nine months ended June 30, 2005 from 68% in the nine months ended June 30, 2004. For the RTES segment, cost
of goods and services increased $1.0 million, or 9%, to $12.3 million in the nine months ended June 30, 2005 from $11.3 million in the nine months ended June 30, 2004. Costs of goods and services as a percentage of net revenue increased to
31% in the nine months ended June 30, 2005 from 30% in the nine months ended June 30, 2004. This increase is primarily attributable to higher consumption of disposals and supplies.



Other operating costs and expenses include branch office administrative and
marketing compensation and benefits, allocated business insurance costs, facility and overhead costs. Other operating costs and expenses increased $1.4 million, or 3%, to $51.4 million in the nine months ended June 30, 2005 from $50.0 million
in the nine months ended June 30, 2004. In the Nursing and PPEC segment, other operating costs and expenses decreased $0.1 million, or 1%, to $23.3 million in the nine months ended June 30, 2005 from $23.4 million in the nine months ended
June 30, 2004. As a percentage of net revenue, the Nursing and PPEC segment costs decreased to 27% in the nine months ended June 30, 2005 from 29% in the nine months ended June 30, 2004. The primary factor was decreased allocated
business insurance costs. In the Pharmacy segment, other operating costs and expenses increased $1.1 million, or 13%, to $10.1 million in the nine months ended June 30, 2005 from $9.0 million in the nine months ended June 30, 2004. This
increase includes administrative salaries of approximately $0.5 million attributable to start up operations in the Orlando and Denver markets. As a percentage of net revenue these costs increased to 15% in the nine months ended June 30, 2005
from 14% in the nine months ended June 30, 2004. In the RTES segment, costs and expenses increased $0.4 million, or 2%, to $18.0 million in the nine months ended June 30, 2005 from $17.6 million in the nine months ended June 30, 2004.
As a percentage of net revenue these costs decreased to 45% in the nine months ended June 30, 2005 from 47% in the nine months ended June 30, 2004.



Corporate, general and administrative costs increased $1.2 million, or 8%, to $15.6 million in the nine months ended June 30, 2005 as compared $14.4
million in the nine months ended June 30, 2004. As a percentage of net revenue, corporate, general and administrative costs remained relatively constant at 8% in the nine months ended June 30, 2005 compared to the nine months ended
June 30, 2004. Of the $1.2 million increase, $1.3 million was attributable to increased professional fees, specifically increased SOX 404 costs and increased audit fees.



Provision for doubtful accounts decreased $0.4 million, or 14%, to $2.4 million in the nine months ended June 30, 2005
from $2.8 million in the nine months ended June 30, 2004. Cash collections as a percentage of net revenue were 101% and 97% in the nine months ended June 30, 2005 and 2004, respectively.



Depreciation and amortization increased $0.5 million, or 17%, to $3.2 million
in the nine months ended June 30, 2005 as compared to $2.8 million in the nine months ended June 30, 2004.



Interest expense increased $0.2 million, or 9%, to $1.9 million in the nine months ended June 30, 2005 from $1.7 million in the nine months ended
June 30, 2004. Our average debt outstanding remained constant.



Income tax expense decreased $0.2 million, or 7%, to $2.5 million in the nine months ended June 30, 2005 from $2.7 million in the nine months ended June 30, 2004. The tax provision for the nine months ended June 30, 2005 was
increased by



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approximately $0.2 million due to a discrete event in the second quarter in a certain state jurisdiction disallowing certain deductions for state income tax
purposes and decreased approximately $0.2 million in the third quarter due to the application of newly enacted rates to existing deferred balances.



LIQUIDITY AND CAPITAL RESOURCES



Operations



On January 27, 2004, we entered into a credit agreement with General Electric Capital Corporation (Credit Agreement). Subject to the
terms and conditions of the Credit Agreement, the Lender made available a credit facility consisting of a $10.0 million revolving line of credit and a $10.0 million line of credit for acquisitions. Availability in both components is subject to a
borrowing base calculation against our accounts receivable. Borrowings under the revolving line of credit bear interest at LIBOR plus 3.00% or the Index Rate plus 1.50%. Borrowings under the acquisition line of credit bear interest at LIBOR plus
3.50% or the Index Rate plus 2.00%. The Credit Agreement provides for unused line fees of 0.50% for the revolving line of credit and 0.75% for the acquisition line of credit. The Credit Agreement contains several financial and non-financial
covenants including, but not limited to, certain leverage, coverage, DSO and maximum capital expenditures requirements.



On May 12, 2004, we amended the Credit Agreement to clarify a definition and increase the maximum capital expenditures covenant. We have made no
borrowings under the Credit Agreement since its inception.



Cash collections as a percentage of net revenue for the three months ended June 30, 2005 and 2004 was 106% and 107%, respectively. While we anticipate that we will continue to achieve our cash collection targets, there can be no
assurance that disruptions to cash flow will not occur.



During
the nine months ended June 30, 2005, a significant portion of our purchases were for medical equipment to service existing patients and we made routine purchases of computer equipment to maintain and upgrade our technology infrastructure. We
anticipate future capital expenditures for maintenance, support and enhancements of existing technology, continued investments in new start up locations and continued durable medical equipment purchases. We anticipate funding these capital
expenditures with cash flow from operations.



HIPAAs
transactions and code set standards mandate that Covered Entities, including our company, transmit claims and certain related healthcare information in standardized formats and data sets. (See Recent Developments above.)



Risk Management



Our workers compensation insurance carrier, Argonaut Insurance Company, rated A by AM Best Company, requires a twelve
month estimated loss reserve to be funded entirely with cash each fiscal year which is then reduced by the monthly loss fund payments. This cash requirement is estimated to be $1.0 million for fiscal 2005. The net balance at June 30, 2005 and
September 30 2004 was $3.7 million and $3.3 million, respectively. The insurance carrier has the right to increase this cash requirement at the end of each fiscal year if the claim experience is greater than anticipated, but to date has not
indicated the need to do so.



We have secured surety bonds of
$1.7 million to satisfy our workers compensation program requirements for our former insurance carrier. As of June 30, 2005, the surety bonds were collateralized by $1.5 million cash posted to a third party escrow account.



We renewed our employee medical benefit plans effective January 1, 2005.
We determined it to be advantageous to continue to use a self insured model instead of a guaranteed minimum premium model. Claim history for calendar 2004 was positive and calendar 2005 pricing is within market inflation estimates. This plan
ultimately exposes us to greater risk as compared to the guaranteed minimum premium model coverage, although the self-insured models stop loss, aggregate loss and tail liability features provide sufficient protection such that it is more
likely than not that we will realize cost savings. In addition, the self-insured model carriers medical and disease management capabilities along with its pharmacy formulary protocols and wellness care programs should enable us to deliver to
our employees a more effective and competitive plan. We recognize that the features of our medical benefit plan are important to the recruiting and retention of clinical and administrative staff and we are committed to offering a plan that is fully
competitive with those offered by other home care providers.



As a result of operating in the health care industry, our business entails an inherent risk of lawsuits alleging malpractice, product liability or related legal issues, which can involve large claims and significant defense costs. From time
to time, we are subject to such suits arising in the ordinary course of business. We currently maintain professional and commercial liability insurance intended to cover such claims. As of June 30, 2005, this insurance coverage is provided
under



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a claims-made policy that provides, subject to the terms and conditions of the policy, coverage for certain types of claims made against us
during the term of the policy and does not provide coverage for losses occurring during the terms of the policy for which a claim is made subsequent to the termination of the policy. Should the policy not be renewed or replaced with equivalent
insurance, claims based on occurrences during its term but asserted subsequently would be uninsured. There can be no assurance that the coverage limits of our insurance policy will be adequate.



On October 1, 2004, we completed our annual renewal of our risk
management program and implemented several changes. We renewed our insurance program for medical malpractice, commercial and general liability coverage with Arch Specialty Insurance Company, rated A- by AM Best Company. Per claim self-insured
retention remained at $1.0 million with an annual aggregate self-insured retention of $8.0 million and an annual aggregate policy limit of $15.0 million. The premiums increased 16% for fiscal 2005 as compared to fiscal 2004.



In addition, we are subject to accident claims arising out of the normal
operation of our fleet of vans and small trucks, and we maintain insurance intended to cover such claims. A successful claim against us in excess of our insurance coverage could have a material adverse effect upon our business. Claims against us,
regardless of their merits or eventual outcome, also may have a material adverse effect upon our reputation and business.



We are, from time to time, subject to lawsuits arising in the ordinary course of business, some of which may allege damages that would not be covered
under our existing insurance policies. We establish our reserves for these lawsuits based upon the information available to date and we believe our reserves are adequate; however there can be no assurance that the ultimate resolution of these
lawsuits will not have a material adverse effect on our operations and financial results.



Capital Resources



We
currently believe that our liquidity position will be adequate to satisfy our working capital requirements, professional and commercial liability insurance loss funding, workers compensation collateral requirements, and income tax payments.
Our current source of liquidity is cash on hand, cash flow from operations and availability under the Credit Agreement. We are exposed to fluctuations in cash collection results.



CONTINGENT LIABILITIES AND COMMITMENTS



Our former workers compensation carrier requires the estimated loss reserve to be secured by surety bonds (see
Liquidity and Capital Resources).



On
October 1, 2004, we completed our annual renewal of our risk management programs and implemented several changes (see Liquidity and Capital Resources).



We have entered into employment agreements with certain employees that provide, among other things, salary, benefits and
perquisites, as well as additional compensation for certain changes in control or a failure to comply with any material terms of the agreements. We have a Non-Qualified Deferred Compensation Plan for certain of our employees. The Plans
deferred compensation liability as of June 30, 2005 was approximately $1.3 million.



The following table represents a schedule of our contractual obligations and commitments as of June 30, 2005:



|                         |  |                                       |        |                  |   |           |  |           |        |               |   |       |  |   |      
|------------------------ |  | ------------------------------------- | ------ | ---------------- | - | --------- |  | --------- | ------ | ------------- | - | ----- |  | - | -----
|                         |  | Payments Due by Period (In thousands)
|                         |  | Total                                 |        | Less Than 1 Year |   | 1-3 Years |  | 3-5 Years |        | After 5 Years
|Contractual Obligations: |  |                                       |        |                  |   |           |  |           |        |               |   |       |  |   |      
|Long-term debt           |  |                                       |        |                  |   |           |  |           |        |               |   |       |  |   |      
|Subordinated Notes       |  | $                                     | 20,350 |                  | $ |          |  | $         | 20,350 |               | $ |      |  | $ |     
|Other notes payable      |  |                                       | 47     |                  |   | 43        |  |           | 4      |               |   |      |  |   |     
|Operating leases         |  |                                       | 14,819 |                  |   | 4,162     |  |           | 5,207  |               |   | 2,922 |  |   | 2,528
|                         |  |                                       |        |                  |   |           |  |           |        |               |   |       |  |   |      
|                         |  | $                                     | 35,216 |                  | $ | 4,205     |  | $         | 25,561 |               | $ | 2,922 |  | $ | 2,528
|                         |  |                                       |        |                  |   |           |  |           |        |               |   |       |  |   |      



Variation in Quarterly Operating
Results



Our quarterly results may vary significantly
depending primarily on factors such as re-hospitalizations of patients, seasonality and usage levels of pharmaceutical products and respiratory services, the timing of new branch office openings and pricing pressures due to legislative and
regulatory initiatives to contain health care costs. Because of these factors, our operating results for any particular quarter may not be indicative of the results for the full fiscal year.



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##### Table of Contents

|ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
|------- | ----------------------------------------------------------



We face a number of market risk exposures including risks related to cash and cash equivalents, accounts receivable and interest rates. Cash and cash
equivalents are held primarily in one financial institution. We perform periodic evaluations of the relative credit standing of this financial institution. The concentration of credit risk with respect to accounts receivable, which are primarily
health care industry related, represent a risk to us given the current environment in the health care industry. The risk is somewhat limited due to the large number of payors including Medicare and Medicaid, insurance companies, individuals and the
diversity of geographic locations in which we operate. However, we have substantial geographic density in the eastern United States, which we believe exposes us to payor initiated reimbursement changes, substantial accounts receivable for a small
number of hemophilia factor patients and disruptions to cash collections due to the inability of some payors to process claims.



Our Notes, issued in 1998, have a fixed coupon rate of 10%. The fair value of our Notes is subject to change as a result of changes in market prices or
interest rates. We estimate potential changes in the fair value of interest rate sensitive financial instruments based on the hypothetical increase (or decrease) in interest rates. Our use of this methodology to quantify the market risk of such
instruments should not be construed as an endorsement of its accuracy or the accuracy of the related assumptions. The quantitative information about market risk is necessarily limited because it does not take into account other factors such as our
financial performance and credit ratings.



Based on a
hypothetical immediate 150 basis point increase in interest rates at June 30, 2005 and 2004, the market value of our Notes would be reduced by approximately $0.7 million and $0.9 million, respectively. Conversely, a 150 basis point decrease in
interest rates would result in a net increase in the market value of our Notes outstanding at June 30, 2005 and 2004 of approximately $0.7 million and $1.0 million, respectively.



|ITEM 4. | CONTROLS AND PROCEDURES
|------- | -----------------------



(a)Evaluation of disclosure controls and procedures. Our chief executive officer and chief financial officer, after evaluating the effectiveness
of our disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q, have concluded that our disclosure controls and
procedures are adequate and effective in timely alerting them to material information relating to our company (including our consolidated subsidiaries) required to be included in our periodic SEC filings.



(b)Changes in internal controls. There were no changes in our
internal controls over financial reporting that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.



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PART II  OTHER INFORMATION



|ITEM 1. | LEGAL PROCEEDINGS
|------- | -----------------



From time to time, we are involved in various pending or threatened legal actions, some of which seek relief or damages in amounts that are substantial.
These actions and proceedings arise in the ordinary course of our business and allege damages relating to personal injury torts, product liability, and other legal issues. Because of the complex nature of some of these actions and proceedings, it
may be a number of years before such matters ultimately are resolved. We currently maintain professional and commercial liability insurance intended to cover such actions and proceedings as discussed in Part I, Item 2  Managements
Discussion and Analysis of Financial Condition and Results of OperationsLiquidity and Capital Resources. In addition, some of these lawsuits may allege damages that may not be covered under our existing insurance polices. Based upon
information available to date, management believes it has provided adequate reserves if needed for any unfavorable resolution; however, there can be no assurance that the ultimate resolution of such current pending legal proceedings would not have a
material adverse effect on our consolidated financial or liquidity position.



|ITEM 6. | EXHIBITS.
|------- | ---------



The following exhibits are filed with this report:



| |  |          |  |                                                                                                                                                                                                                                   
| |  | -------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  |         
| |  | 10.9(x)  |  | Amended and Restated Employment Agreement by and between the Company and James M. McNeill (incorporated by reference to Exhibit 10.9(x) of the Companys Annual Report on Form 10-K for the
fiscal year ended September 30, 2002).
| |  |         
| |  | 10.9(ff) |  | Employment Agreement by and between the Company and Daniel J. Kohl (incorporated by reference to Exhibit 10.9(ff) of the Companys Annual Report on Form 10-K for the fiscal year ended
September 30, 2004).                      
| |  |         
| |  | 10.9(gg) |  | First Amendment to Employment Agreement by and between the Company and Daniel J. Kohl, effective July 29, 2005.                                                                                                                   
| |  |         
| |  | 10.9(hh) |  | Second Amendment to Employment Agreement by and between the Company and James M. McNeill, effective July 29, 2005.                                                                                                                
| |  |         
| |  | 31.1     |  | Rule 13a-14(a)/15d-14(a) Certification (CEO).                                                                                                                                                                                     
| |  |         
| |  | 31.2     |  | Rule 13a-14(a)/15d-14(a) Certification (CFO).                                                                                                                                                                                     
| |  |         
| |  | 32.1     |  | Section 1350 Certification (CEO).                                                                                                                                                                                                 
| |  |         
| |  | 32.2     |  | Section 1350 Certification (CFO).                                                                                                                                                                                                 





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SIGNATURES



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



|                     |  |                                                                                                                                                   
|-------------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------
|                     |  | PEDIATRIC SERVICES OF AMERICA, INC. (Registrant)                                                                                                  
|                     | 
|Date: August 9, 2005 |  | By:
                    /s/   JAMES M. MCNEILL                                                                                                    
|                     |  | James M. McNeill Senior Vice President, Chief Financial Officer, Treasurer and Secretary (Duly
authorized officer and Principal Financial Officer)



30