UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the Quarterly Period Ended September 30, 2006

OR

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

Commission File Number 001-12111

PEDIATRIX MEDICAL GROUP, INC.

(Exact name of registrant as specified in its charter)

Florida		65-0271219
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1301 Concord Terrace
Sunrise, Florida 33323
(Address of principal executive offices)
(Zip Code)

(954) 384-0175
(Registrant’s telephone number, including area code)

Not Applicable
(Former name, former address and fiscal year, if changed since last report)

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 o      No x

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

Large accelerated filer x                     Accelerated filer o                     Non-accelerated filer o

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date:

Shares of Common Stock outstanding as of July 20, 2007: 49,020,190.

 

 

PEDIATRIX MEDICAL GROUP, INC.

INDEX

					Page
EXPLANATORY NOTE					3
PART I — FINANCIAL INFORMATION
ITEM 1.		Financial Statements			6
		Condensed Consolidated Balance Sheets as of September 30, 2006 (Unaudited) and December 31, 2005			6
		Condensed Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2006 and 2005 (Unaudited)			7
		Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2006 and 2005 (Unaudited)			8
		Notes to Condensed Consolidated Financial Statements (Unaudited)			9
ITEM 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			26
ITEM 3.		Quantitative and Qualitative Disclosures About Market Risk			32
ITEM 4.		Controls and Procedures			32
PART II — OTHER INFORMATION
ITEM 1.		Legal Proceedings			33
ITEM 1A.		Risk Factors			35
ITEM 6.		Exhibits			36
SIGNATURES					37
EXHIBIT INDEX					38
EX-31.1 Section 302 Certification of CEO
EX-31.2 Section 302 Certification of CFO
EX-32 Section 906 Certification of CEO and CFO

EXPLANATORY NOTE

     In this Form 10-Q, Pediatrix Medical Group, Inc (the “Company”) is restating its Condensed Consolidated Balance Sheet as of December 31, 2005, the related Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2005 and the Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2005. This Form 10-Q also reflects the amendment of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” presented in this Form 10-Q for the three and nine month periods ended September 30, 2005.

     Immediately prior to the filing of this Form 10-Q, the Company filed a quarterly report on Form 10-Q for the quarter ended June 30, 2006. Immediately after the filing of this Form 10-Q, the Company will file an annual report on Form 10-K for the year ended December 31, 2006 (the “2006 Form 10-K”). In the 2006 Form 10-K, the Company will restate its Consolidated Balance Sheet as of December 31, 2005, and the related consolidated Statements of Operations, Changes in Shareholders’ Equity and Cash Flows for each of the fiscal years ended December 31, 2005 and 2004 and quarterly financial information for the quarter ended March 31, 2006 and each of the four quarters in 2005. The 2006 Form 10-K will also reflect the restatement of “Selected Financial Data” in Item 6 for the years ended December 31, 2005, 2004, 2003, and 2002. In addition, Item 7 of “Management’s discussion and Analysis of Financial Condition and Results of Operations” presented in the Company’s Form 10-K for the year ended December 31, 2006 will reflect the restatement as it relates to the fiscal years ended December 31, 2005 and 2004.

     Previously filed annual reports on Form 10-K and quarterly reports on Form 10-Q (other than for the quarter ended June 30, 2006) have not been amended and should not be relied upon.

Background of Restatement

     In June 2006, management of the Company began an informal limited review of its past stock option grant practices in response to a shareholder inquiry following various media reports regarding option granting practices at other companies. Management apprised the Audit Committee of the Company’s Board of Directors of this informal limited review and the Audit Committee provided guidance with respect to the scope of the review. In August 2006, findings from this limited review were presented to the Audit Committee and the Company’s independent certified registered public accounting firm. Based on these findings, the Audit Committee decided to initiate a comprehensive review to be undertaken by the Audit Committee with the assistance of independent legal counsel and forensic accounting experts. The review covered all stock options granted by the Company from the date of its initial public offering in September 1995 through the Company’s option issuances in June 2006 (the “Relevant Period”).

     In July 2007, the Audit Committee completed its review. The key findings, based on the evidence reviewed, are as follows:

	•		The Audit Committee identified 56 grants made on seven dates between April 1997 and August 2000 which the Audit Committee found were backdated. No instances of backdating were identified after August 2000. The Audit Committee used the term “backdating” to connote deliberate selection of grant measurement dates to obtain an option exercise price that was lower than would otherwise be the case. The Audit Committee used this term to describe grants which apparently involved deliberate, opportunistic use of market prices.
	•		The Audit Committee did not find evidence establishing intentional misconduct by any of the Company’s current executive officers.
	•		The Audit Committee believes that it received full cooperation from all of the Company’s current executive officers.
	•		The Audit Committee did not find evidence establishing that the Board, any committee of the Board, or any non-executive director participated in backdating or was aware of backdating during the time that it occurred.
	•		During the time period from April 1997 to August 2000 when backdating occurred, the administration and processing of option grants was directed by a former officer who later became a director of the Company. This individual continued to direct the Company’s options program after resigning as an officer in May 2000, while remaining with the Company to work on special projects. During this time period, this individual appears to have been responsible for selecting favorable dates for option grants in all but one instance where a record was located regarding favorable date selection. The Audit Committee concluded that this individual knew or should have known the accounting implications of his actions. Further, the Audit Committee identified three occasions on which this individual was able to benefit by affecting the measurement date of options that were granted to him. The Audit Committee found that this individual realized approximately $12,000 from the backdating of these options based on the revised measurement dates assigned to them.

	•		The Audit Committee identified numerous instances in which applicable accounting principles were misapplied and/or process deficiencies or administrative errors occurred resulting in the application of inappropriate measurement dates to option grants. The Audit Committee also identified inadequate record keeping, documentation, disclosure and systems with respect to the stock option grant process, including records of meetings, which in some cases, could not be corroborated in support of option grants on measurement dates that corresponded to periodic low points in the Company’s stock price.
	•		The Audit Committee determined that, although these matters did not establish that senior management engaged in intentional misconduct, current senior management did not adequately ensure that these processes and systems were proper, including the Company’s current President and Chief Operating Officer and Chief Financial Officer, who were also found to have played a role in the granting of stock options to others that involved errors and process deficiencies.
	•		With respect to the Company’s current executive officers, the Audit Committee found that senior management should not have permitted the individual described above to continue to manage the options program after his resignation as a Company officer in May 2000. The Audit Committee found that, during the period in which backdating occurred, Roger J. Medel, M.D., the Company’s CEO, was actively involved in determining grant recipients and amounts and was also party to e-mail correspondence concerning the selection of favorable dates for option grants; however, Dr. Medel was not the recipient of any of the grants found to be backdated. In addition, the Audit Committee found that on one occasion in 1997, Dr. Medel directed the selection of a favorable grant date for a group of regional medical officers, one of whom was his spouse, a founding physician of the Company and a full-time employee at the time of the grant. Based on its review, however, the Audit Committee believes that Dr. Medel was not aware of the accounting implications of such grants. Further, based on its review, the Audit Committee believes that Dr. Medel reasonably relied upon senior Company executives as to the administration of the Company’s equity compensation plans and the accounting for awards. The Audit Committee found, however, that Dr. Medel bore overall responsibility for assuring that management’s implementation of its compensation programs was appropriate but that he did not adequately assure such appropriate implementation.
	•		In light of the evidence reviewed, the Audit Committee found that 640 grants in total required revised measurement dates, variable accounting or the recognition of compensation expense.

Audit Committee Conclusions

     In connection with its investigation, the Audit Committee reviewed evidence to determine whether correct measurement dates had been used under generally accepted accounting principles (“GAAP”) for the Company’s stock option grants during the Relevant Period. The “measurement date” means the date, under APB Opinion No. 25, “Accounting for Stock Issued to Employees” and its related interpretations (“APB 25”), on which all of the following are first known: (i) the individual employee who is entitled to receive the option grant, (ii) the number of options that an individual employee is entitled to receive, and (iii) the option’s exercise price.

     Based on the evidence reviewed, the Audit Committee concluded that: (i) in certain instances, available documentation was insufficient to support or inconsistent with the measurement date or exercise price which was originally assigned to the relevant stock option grant, (ii) certain stock option grants which required variable accounting were inappropriately accounted for as fixed awards, and (iii) modifications to certain stock option grants were not accounted for properly. In many cases, more than one of the foregoing conclusions was reached with respect to a single stock option grant.

     Consistent with APB 25 and the January 2007 illustrative letter from the Chief Accountant of the SEC (the “SEC Letter”), grants made with incorrect measurement dates during the Relevant Period were organized into categories based on types of errors. The Audit Committee and its advisors reviewed evidence related to each grant in these categories, including electronic and physical documents, such as meeting minutes of the Compensation Committee or Board of Directors, unanimous written consents of the Compensation Committee, contemporaneous e-mails, personnel files, payroll records and various other records maintained by the Company, and the results of interviews. Based on the relevant facts and circumstances and the evidence reviewed, the Audit Committee applied relevant GAAP and its judgment to determine, for each grant within each category, the measurement date which was most appropriate. If the Audit Committee concluded that (i) the available documentation was insufficient to support or inconsistent with the measurement date or exercise price which was originally assigned to the relevant stock option grant, (ii) the stock option grant was inappropriately accounted for as a fixed award, and/or (iii) a modification to the stock option grant was not accounted for properly, then accounting adjustments were made as required, resulting in non-cash stock-based compensation expense and related tax effects. The Audit Committee and its advisors were unable to locate the supporting documentation for option grants in many instances. In these situations, the measurement date was determined using judgment as to the most likely granting action taken by the Company and the related date based upon the available information, consistent with the SEC Letter.

     In addition, in some instances, grants were made through May 2001 by officers in exercise of authority apparently delegated to the Chief Executive Officer, but no documentation of such delegated authority has been located.

     The Audit Committee concluded, based on the evidence reviewed, that options to purchase approximately 2.3 million shares of common stock — 56 grants on seven dates — were “backdated” — as that term was used by the Audit Committee as described more fully above. The Audit Committee further concluded that options to purchase an additional 12.1 million shares of common stock — 584 grants on 78 dates prior to 2006 — had erroneous measurement dates or required variable accounting or recognition of additional expense.

     For more information regarding the Audit Committee’s review and the Company’s restatement, refer to Note 3, “Restatement of Consolidated Financial Statements” in Notes to Consolidated Financial Statements in this Form 10-Q.

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements.

PEDIATRIX MEDICAL GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)

		September 30,				December 31,
		2006				2005
		(Unaudited)				As Restated (1)
ASSETS
Current assets:
Cash and cash equivalents		$	62,498			$	11,192
Short-term investments			13,781				10,920
Accounts receivable, net			119,943				111,725
Prepaid expenses			5,673				4,459
Income taxes receivable			2,660				—
Deferred income taxes			15,910				24,400
Other assets			2,948				1,928
Total current assets			223,413				164,624
Investments			7,580				4,071
Property and equipment, net			27,565				27,855
Goodwill			761,244				680,097
Other assets, net			24,845				23,756
Total assets		$	1,044,647			$	900,403
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable and accrued expenses		$	173,943			$	175,619
Current portion of long-term debt and capital lease obligations			451				882
Income taxes payable			—				1,157
Total current liabilities			174,394				177,658
Long-term debt and capital lease obligations			490				622
Deferred income taxes			31,945				29,617
Deferred compensation			12,219				10,372
Total liabilities			219,048				218,269
Commitments and contingencies
Shareholders’ equity:
Preferred stock; par value $.01 per share; 1,000 shares authorized; none issued			—				—
Common stock; par value $.01 per share; 100,000 shares authorized; 48,788 and
47,458 shares issued and outstanding, respectively			488				475
Additional paid-in capital			508,598				472,817
Unearned compensation			—				(15,621	)
Retained earnings			316,513				224,463
Total shareholders’ equity			825,599				682,134
Total liabilities and shareholders’ equity		$	1,044,647			$	900,403

The accompanying notes are an integral part of these condensed consolidated financial statements.

PEDIATRIX MEDICAL GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited — in thousands, except for per share data)

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2006				2005				2006				2005
						As Restated (1)								As Restated (1)
Net patient service revenue		$	215,755			$	178,099			$	607,241			$	516,005
Operating expenses:
Practice salaries and benefits			120,836				99,201				347,824				295,472
Practice supplies and other operating expenses			8,092				7,015				24,498				20,109
General and administrative expenses			27,971				25,105				80,183				76,196
Depreciation and amortization			2,308				2,339				7,060				7,515
Total operating expenses			159,207				133,660				459,565				399,292
Income from operations			56,548				44,439				147,676				116,713
Investment income			1,173				267				2,101				643
Interest expense			(122	)			(367	)			(942	)			(2,053	)
Income before income taxes			57,599				44,339				148,835				115,303
Income tax provision			22,434				16,646				56,785				43,294
Net income		$	35,165			$	27,693			$	92,050			$	72,009
Per share data:
Net income per common and common equivalent share:
Basic		$	0.73			$	0.59			$	1.93			$	1.56
Diluted		$	0.71			$	0.57			$	1.87			$	1.51
Weighted average shares used in computing net income per common and common equivalent share:
Basic			48,184				46,876				47,807				46,170
Diluted			49,515				48,305				49,283				47,749

The accompanying notes are an integral part of these condensed consolidated financial statements.

PEDIATRIX MEDICAL GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited — in thousands)

		Nine Months Ended
		September 30,
		2006				2005
						As Restated (1)
Cash flows from operating activities:
Net income		$	92,050			$	72,009
Adjustments to reconcile net income to net cash provided from operating activities:
Depreciation and amortization			7,060				7,515
Stock-based compensation expense			15,289				6,028
Deferred income taxes			10,578				957
Gain on sale of assets			(1,630	)			—
Changes in assets and liabilities:
Accounts receivable			(8,218	)			(2,014	)
Prepaid expenses and other current assets			(2,234	)			773
Other assets			22				(822	)
Accounts payable and accrued expenses			(1,676	)			9,433
Income taxes			(2,899	)			20,714
Net cash provided from operating activities			108,342				114,593
Cash flows from investing activities:
Acquisition payments, net of cash acquired			(81,941	)			(85,720	)
Purchase of short-term investments			(15,570	)			(15,465	)
Maturities of short-term investments			9,200				10,500
Purchase of property and equipment			(9,210	)			(5,572	)
Proceeds from sale of assets			6,102				—
Net cash used in investing activities			(91,419	)			(96,257	)
Cash flows from financing activities:
Borrowings on line of credit			123,000				195,000
Payments on line of credit			(123,000	)			(249,000	)
Payments on long-term debt and capital lease obligations			(826	)			(562	)
Payments to refinance line of credit			—				(172	)
Excess tax benefit from exercises of stock options and vesting of restricted stock			8,066				—
Proceeds from issuance of common stock			27,143				34,165
Net cash provided from (used in) financing activities			34,383				(20,569	)
Net increase (decrease) in cash and cash equivalents			51,306				(2,233	)
Cash and cash equivalents at beginning of period			11,192				7,011
Cash and cash equivalents at end of period		$	62,498			$	4,778

The accompanying notes are an integral part of these condensed consolidated financial statements.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2006

(Unaudited)

1.		Basis of Presentation:
		The accompanying unaudited condensed consolidated financial statements of Pediatrix Medical Group, Inc. and the notes thereto presented in this Form 10-Q have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) applicable to interim financial statements, and do not include all disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, these financial statements include all adjustments, consisting only of normal recurring adjustments (other than as described in Note 3), necessary for a fair presentation of the results of interim periods. The financial statements include all the accounts of Pediatrix Medical Group, Inc. and its consolidated subsidiaries (collectively, “PMG”) together with the accounts of PMG’s affiliated professional associations, corporations and partnerships (the “affiliated professional contractors”). PMG has contractual management arrangements with its affiliated professional contractors, which are separate legal entities that provide physician services in certain states and Puerto Rico. The terms “Pediatrix” and the “Company” refer collectively to Pediatrix Medical Group, Inc., its subsidiaries, and the affiliated professional contractors.
		On April 4, 2006, the Company announced that its Board of Directors authorized a two-for-one stock split of the Company’s common stock. Shareholders of record at the close of business on April 13, 2006 received one additional share of Pediatrix common stock for each share held of record on that date. The shares were issued on April 27, 2006. In order to complete the stock split, the Company’s Articles of Incorporation were amended to increase the number of authorized shares from 50 million to 100 million. Following the effective date of the stock split, the par value of the Company’s common stock remained at $.01 per share. As a result, the Company increased common stock presented in the condensed consolidated balance sheet and the condensed consolidated statement of shareholders’ equity as of December 31, 2005 by $238,000 with a corresponding decrease in additional paid-in capital. Share and per share amounts for all periods presented in the condensed consolidated financial statements and notes thereto have been adjusted to reflect the effect of the two-for-one stock split.
		The consolidated results of operations for the interim periods presented are not necessarily indicative of the results to be experienced for the entire fiscal year. In addition, the accompanying unaudited condensed consolidated financial statements and the notes thereto should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006 to be filed with the SEC.
2.		Summary of Significant Accounting Policies:
		Stock Incentive Plans and Employee Stock Purchase Plans
		The Company awards restricted stock and grants stock options to key employees under its stock incentive plans (the “Stock Incentive Plans”). As permitted under Statement of Financial Accounting Standards No. 123 (“FAS 123”), “Accounting for Stock-Based Compensation,” the Company accounted for stock-based compensation to employees using the intrinsic value method prescribed by APB Opinion No. 25 “Accounting for Stock Issued to Employees” and its related interpretations (“APB 25”) through December 31, 2005. The Company recognizes compensation cost for stock-based compensation over the requisite service period using the graded vesting attribution method.
		Compensation cost related to restricted stock awards through September 30, 2005 was based on the number of shares awarded and the quoted market price of the Company’s common stock on the date of award in accordance with the intrinsic value method prescribed by APB 25. Since the Company awarded restricted stock for the first time on July 14, 2005, the Company’s reported net income for the three and nine months ended September 30, 2005 includes compensation expense related to restricted stock awards calculated in accordance with APB 25.
		Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123(R) (“FAS 123(R)”) “Share-Based Payment” using the modified prospective application method. This statement is a revision to FAS 123, supersedes APB 25, amends Statement of Financial Accounting Standards No. 95, “Statement of Cash Flows,” and requires companies to expense stock-based awards issued to employees. The modified prospective

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

2.		Summary of Significant Accounting Policies, Continued:
		application method of adoption applies to new stock-based awards, changes in stock-based awards and the unvested portion of outstanding stock-based awards on the effective date.
		In accordance with FAS 123(R), the Company measures the cost of employee services received in exchange for stock-based awards based on grant-date fair value. As prescribed under FAS 123(R), the Company estimates the grant-date fair value of stock option grants using a valuation model known as the Black-Scholes-Merton formula or the “Black-Scholes Model” and allocates the resulting compensation expense over the corresponding requisite service period associated with each grant. The Black-Scholes Model requires the use of several variables to estimate the grant-date fair value of stock options including expected term, expected volatility, expected dividends and risk-free interest rate. The Company performs significant analyses to calculate and select the appropriate variable assumptions used in the Black-Scholes Model. The Company also performs significant analyses to estimate forfeitures of stock-based awards as required by FAS 123(R). The Company is required to adjust its forfeiture estimates on at least an annual basis based on the number of share-based awards that ultimately vest. The selection of assumptions and estimated forfeiture rates is subject to significant judgment and future changes to these assumptions and estimates may have a material impact on the Consolidated Financial Statements.
		The condensed consolidated statements of income for the three and nine months ended September 30, 2006 include stock-based compensation expense calculated in accordance with FAS 123(R) for the Company’s Stock Incentive Plans and the Company’s employee stock purchase plans (the “Stock Purchase Plans”). In addition, the Company’s condensed consolidated statement of cash flows for the nine months ended September 30, 2006 includes the excess tax benefits related to the exercise of stock options and the vesting of restricted stock as a cash inflow from financing activities. This change in cash flow presentation had the effect of decreasing cash flows from operating activities and increasing cash flows from financing activities by $8.1 million. In accordance with Financial Accounting Standards Board (“FASB”) Staff Position No. FAS 123(R)-3, “Transition Election to Accounting for the Tax Effects of Share-Based Payment Awards,” the Company has elected to use the short-cut method to account for its historical pool of excess tax benefits related to stock-based awards. See Note 6 to the Condensed Consolidated Financial Statements for more information on the Company’s Stock Incentive Plans and Stock Purchase Plans.
		Had compensation expense been determined based on the fair value accounting provisions of FAS 123 for the three and nine months ended September 30, 2005, the Company’s net income and net income per share would have been reduced to the pro forma amounts below (in thousands, except per share data):

		Three Months Ended				Nine Months Ended
		September 30, 2005				September 30, 2005
		As Restated (1)				As Restated (1)
Net income, as restated		$	27,693			$	72,009
Add: Stock based compensation expense related to stock options and restricted stock included in restated net income, net of related tax effects			3,213				3,837
Deduct: Total stock-based employee compensation expense related to stock options and restricted stock determined under fair value accounting rules net of related tax effect			(4,300	)			(8,924	)
Pro forma net income, as restated		$	26,606			$	66,922
Net income per share:
As restated:
Basic		$	0.59			$	1.56
Diluted		$	0.57			$	1.51
Pro forma, as restated:
Basic		$	0.57			$	1.45
Diluted		$	0.55			$	1.40

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

2.		Summary of Significant Accounting Policies, Continued:
		Accounting Pronouncements
		In July 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return, and also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The provisions of FIN 48 are effective for the Company as of the beginning of 2007 with the cumulative effect of the change in accounting principles recorded as an adjustment to opening retained earnings. Based on the Company’s assessment, it anticipates that it will record a decrease to opening retained earnings during the first quarter of 2007 to increase reserves for uncertain tax positions by approximately $7.7 million.
		In September 2006, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin No. 108 (“SAB No. 108”), “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB No. 108 addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements and is effective for fiscal years ending after November 15, 2006. SAB No. 108 requires companies to quantify misstatements using a balance sheet and income statement approach and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. SAB No. 108 permits existing public companies to initially apply its provisions either by (i) restating prior financial statements as if the “dual approach” had always been used or (ii) recording the cumulative effect of initially applying the “dual approach” as adjustments to the carrying value of assets and liabilities as of January 1, 2006 with an offsetting adjustment recorded to the opening balance of retained earnings. The adoption of the provisions of SAB No. 108 had no impact on the Company’s Consolidated Financial Statements at September 30, 2006.
		In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157 (“FAS 157”), “Fair Value Measures.” FAS 157 creates a common definition for fair value for recognition or disclosure purposes under generally accepted accounting principles (“GAAP”). FAS 157 also establishes a framework for measuring fair value and enhances disclosures about fair value measures required under other accounting pronouncements, but does not change existing guidance as to whether or not an instrument is carried at fair value. FAS 157 is effective for fiscal years beginning after November 15, 2007. The Company has not yet completed its evaluation of the potential impact of FAS 157.
3.		Restatement of Consolidated Financial Statements:
		The Company has restated its consolidated financial statements to reflect additional non-cash stock-based compensation expense and related tax effects with regard to past stock option grants.
		Background
		In June 2006, management of the Company began an informal limited review of its past stock option grant practices in response to a shareholder inquiry following various media reports regarding option granting practices at other companies. Management apprised the Audit Committee of the Company’s Board of Directors of this informal limited review and the Audit Committee provided guidance with respect to the scope of the review. In August 2006, findings from this limited review were presented to the Audit Committee and the Company’s independent certified registered public accounting firm. Based on these findings, the Audit Committee decided to initiate a comprehensive review to be undertaken by the Audit Committee with the assistance of independent legal counsel and forensic accounting experts. The review covered all stock options granted by the Company from the date of its initial public offering in September 1995 through the Company’s option issuances in June 2006 (the “Relevant Period”).
		In July 2007, the Audit Committee completed its review. The key findings, based on the evidence reviewed, are as follows:

•

The Audit Committee identified 56 grants made on seven dates between April 1997 and August 2000 which the Audit Committee found were backdated. No instances of backdating were identified after August 2000. The Audit Committee used the term “backdating” to connote deliberate selection of grant measurement dates to obtain an option exercise price that was lower than would otherwise be the case. The Audit Committee used this term to describe grants which apparently involved deliberate, opportunistic use of market prices.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.

Restatement of Consolidated Financial Statements, Continued:

	•		The Audit Committee did not find evidence establishing intentional misconduct by any of the Company’s current executive officers.
	•		The Audit Committee believes that it received full cooperation from all of the Company’s current executive officers.
	•		The Audit Committee did not find evidence establishing that the Board, any committee of the Board, or any non-executive director participated in backdating or was aware of backdating during the time that it occurred.
	•		During the time period from April 1997 to August 2000 when backdating occurred, the administration and processing of option grants was directed by a former officer who later became a director of the Company. This individual continued to direct the Company’s options program after resigning as an officer in May 2000, while remaining with the Company to work on special projects. During this time period, this individual appears to have been responsible for selecting favorable dates for option grants in all but one instance where a record was located regarding favorable date selection. The Audit Committee concluded that this individual knew or should have known the accounting implications of his actions. Further, the Audit Committee identified three occasions on which this individual was able to benefit by affecting the measurement date of options that were granted to him. The Audit Committee found that this individual realized approximately $12,000 from the backdating of these options based on the revised measurement dates assigned to them.
	•		The Audit Committee identified numerous instances in which applicable accounting principles were misapplied and/or process deficiencies or administrative errors occurred resulting in the application of inappropriate measurement dates to option grants. The Audit Committee also identified inadequate record keeping, documentation, disclosure and systems with respect to the stock option grant process, including records of meetings, which in some cases, could not be corroborated in support of option grants on measurement dates that corresponded to periodic low points in the Company’s stock price.
	•		The Audit Committee determined that, although these matters did not establish that senior management engaged in intentional misconduct, current senior management did not adequately ensure that these processes and systems were proper, including the Company’s current President and Chief Operating Officer and Chief Financial Officer, who were also found to have played a role in the granting of stock options to others that involved errors and process deficiencies.
	•		With respect to the Company’s current executive officers, the Audit Committee found that senior management should not have permitted the individual described above to continue to manage the options program after his resignation as a Company officer in May 2000. The Audit Committee found that, during the period in which backdating occurred, Roger J. Medel, M.D., the Company’s CEO, was actively involved in determining grant recipients and amounts and was also party to e-mail correspondence concerning the selection of favorable dates for option grants; however, Dr. Medel was not the recipient of any of the grants found to be backdated. In addition, the Audit Committee found that on one occasion in 1997, Dr. Medel directed the selection of a favorable grant date for a group of regional medical officers, one of whom was his spouse, a founding physician of the Company and a full-time employee at the time of the grant. Based on its review, however, the Audit Committee believes that Dr. Medel was not aware of the accounting implications of such grants. Further, based on its review, the Audit Committee believes that Dr. Medel reasonably relied upon senior Company executives as to the administration of the Company’s equity compensation plans and the accounting for awards. The Audit Committee found, however, that Dr. Medel bore overall responsibility for assuring that management’s implementation of its compensation programs was appropriate but that he did not adequately assure such appropriate implementation.
	•		In light of the evidence reviewed, the Audit Committee found that 640 grants in total required revised measurement dates, variable accounting or the recognition of compensation expense.

		Audit Committee Conclusions
		In connection with its investigation, the Audit Committee reviewed evidence to determine whether correct measurement dates had been used under generally accepted accounting principles (“GAAP”) for the Company’s stock option grants during the Relevant Period. The “measurement date” means the date, under APB 25, on which all of the following are first known: (i) the individual employee who is entitled to receive the option grant, (ii) the number of options that an individual employee is entitled to receive, and (iii) the option’s exercise price.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		Based on the evidence reviewed, the Audit Committee concluded that: (i) in certain instances, available documentation was insufficient to support or inconsistent with the measurement date or exercise price which was originally assigned to the relevant stock option grant, (ii) certain stock option grants which required variable accounting were inappropriately accounted for as fixed awards, and (iii) modifications to certain stock option grants were not accounted for properly. In many cases, more than one of the foregoing conclusions was reached with respect to a single stock option grant.
		Consistent with APB 25 and the January 2007 illustrative letter from the Chief Accountant of the SEC (the “SEC Letter”), grants made with incorrect measurement dates during the Relevant Period were organized into categories based on types of errors. The Audit Committee and its advisors reviewed evidence related to each grant in these categories, including electronic and physical documents, such as meeting minutes of the Compensation Committee or Board of Directors, unanimous written consents of the Compensation Committee, contemporaneous e-mails, personnel files, payroll records and various other records maintained by the Company, and the results of interviews. Based on the relevant facts and circumstances and the evidence reviewed, the Audit Committee applied relevant GAAP and its judgment to determine, for each grant within each category, the measurement date which was most appropriate. If the Audit Committee concluded that (i) the available documentation was insufficient to support or inconsistent with the measurement date or exercise price which was originally assigned to the relevant stock option grant, (ii) the stock option grant was inappropriately accounted for as a fixed award, and/or (iii) a modification to the stock option grant was not accounted for properly, then accounting adjustments were made as required, resulting in non-cash stock-based compensation expense and related tax effects. The Audit Committee and its advisors were unable to locate the supporting documentation for option grants in many instances. In these situations, the measurement date was determined using judgment as to the most likely granting action taken by the Company and the related date based upon the available information, consistent with the SEC Letter.
		In addition, in some instances, grants were made through May 2001 by officers in exercise of authority apparently delegated to the Chief Executive Officer, but no documentation of such delegated authority has been located.
		The Audit Committee concluded, based on the evidence reviewed, that options to purchase approximately 2.3 million shares of common stock — 56 grants on seven dates — were “backdated” — as that term was used by the Audit Committee as described more fully below. The Audit Committee further concluded that options to purchase an additional 12.1 million shares of common stock — 584 grants on 78 dates prior to 2006 — had erroneous measurement dates or required variable accounting or recognition of additional expense.
		Categories of Revised Measurement Dates
		The Audit Committee has categorized option grants with revised measurement dates based on types of errors. These categories are not mutually exclusive and therefore the aggregate number of grants detailed below will exceed the total number of grants with incorrect measurement dates as set forth above. The categories are as follows:
		Backdated Options. These options were found to be “backdated,” as such term was used by the Audit Committee. In the absence of an authoritative definition of “backdating,” the Audit Committee used the term to connote deliberately selecting grant measurement dates to obtain an option exercise price that is lower than would otherwise be the case. The Audit Committee used this term to describe grants which apparently involved deliberate, opportunistic use of market prices. On seven dates during the Relevant Period, 56 individual grants of Backdated Options to purchase a total of 2,299,200 shares of common stock were made with respect to which the Company concluded that the originally assigned grant dates should not be the measurement dates. These grants included instances in which it appears that the issuance of options was delayed while the stock price was monitored for downward trends and instances in which it appears that the exercise price for grants was selected by reviewing past stock performance to identify relatively low closing prices. No instances of backdating were identified after 2000.
		Unfinalized List Options. These options were found to relate to grants for which the documentation reviewed indicated that recipients were added to or removed from lists or grant amounts on such lists were modified after the purported grant date. On four dates during the Relevant Period prior to 2006, 113 individual grants of Unfinalized List Options to purchase a total of 1,408,000 shares of common stock were made. Where the documentation reviewed indicated use of a list of option recipients which was modified after the purported grant date and the changes to the list were deemed significant, all grants on that list were treated as Unfinalized List Options.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		Subsequent Granting Action Options. These options were found to relate to grants for which the documentation reviewed indicated that the granting actions most likely occurred after the purported award date or insufficient documentation was located to support the purported award date. On 77 dates during the Relevant Period prior to 2006, 564 individual grants of Subsequent Granting Action Options to purchase a total of 12,964,836 shares of common stock were made.
		New Hire Options. These option grants were found to have been made to employees on purported award dates which preceded such employees’ apparent employment commencement dates. On 18 dates during the Relevant Period prior to 2006, 24 individual grants of New Hire Options to purchase a total of 855,800 shares of common stock were made. In each of these instances, the individual hired subsequently became an employee.
		Shareholder Approval Options. These option grants were found to have been made subject to shareholder approval of an amendment to the Company’s stock option plan, which amendment was approved in 1996 following the purported award dates. On four dates during 1995 and 1996, six individual grants of Shareholder Approval Options to purchase a total of 614,000 shares of common stock were made.
		Administrative Error and Other Options. These option grants were found to have been issued with administrative delays or errors not otherwise described in the foregoing categories. On eight dates during the Relevant Period prior to 2006, 118 individual grants of Administrative Error and Other Options to purchase a total of 1,355,108 shares of common stock were made. This category includes grants which were made as of a grant date which, due to apparent administrative error, was different from the purported grant date, while the documentation for other grants contained typographical errors. This category also includes a few instances of options that were granted to recipients within six months of the cancellation of other options and required variable accounting.
		Tax Adjustments and Related Matters
		The restatement reflects the recognition of certain income tax benefits for 2005, 2004 and prior years as a result of the revision of measurement dates. In certain periods, a portion of the pre-tax stock-based compensation expense adjustment was excluded from the calculation of tax benefits due to limitations on the deductibility of compensation for certain executive officers under Section 162(m) of the Internal Revenue Code of 1986, as amended, (“162(m)”). Over the periods presented, the Company recognized approximately $12 million in additional compensation expense for which it did not record a tax benefit. In addition, the Company has recorded, as a component of the tax provision, approximately $723,000 for interest expense related to tax deductions previously taken for the exercise of stock options granted to executive officers which, as a result of the revision to measurement dates, no longer qualify as deductible performance-based compensation under Section 162(m).
		After considering the application of Section 409A of the Internal Revenue Code, in February 2007, the Company’s Board of Directors approved the Company’s election to participate in a compliance resolution program offered by the Internal Revenue Service for certain employees who exercised certain stock options in 2006. Under this program, the Company paid approximately $2.6 million to the Internal Revenue Service in June 2007 for taxes and related interest imposed on employees, other than executive officers, as a result of the revision of measurement dates. In connection with this program, the Company will reimburse these employees for any additional taxes resulting from the payment of the Section 409A taxes on their behalf.
		In February 2007, the Board of Directors adopted a program providing for increases in the exercise price of certain options that were subject to changes in measurement dates and authorizing the Company to make compensating payments for the difference to affected employees, other than executive officers, in 2008. In July 2007, the Board of Directors finalized the increase in the exercise price of these options and authorization of these compensating payments.
		The Company expects that the amount of payments relating to employees who exercised options in 2006 and 2007 and employees who hold options with increased exercise prices will not exceed $6.4 million in the aggregate.
		Restatement Adjustments
		In order to present the financial impact of each category described above, the Company’s management reviewed each grant for which more than one category of errors applied and, except with respect to “backdated” options, placed it in a single category based on the error that was the primary reason for its revised measurement date. For each “backdated” option, management recorded the impact of the revised measurement date in the “backdated” category.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		The following table presents the financial impact of recognizing additional non-cash stock based compensation expense by category of error. The expense has been recorded over the respective awards service periods and, in instances requiring variable accounting, until the awards were exercised, forfeited or expired unexercised (in thousands):

		Decrease to Income Before Income Taxes
										Subsequent																Administrative
		Backdated				Unfinalized List				Granting Action								Shareholder Action								Error and Other								Income				Decrease to
Period		Options				Options				Options				New Hire Options				Options								Options				Total				Tax Benefit				Net Income
1995		$	—			$	—			$	—			$	11			$	—							$	7			$	18			$	3			$	15
1996			—				—				1,250				63				5,201								32				6,546				445				6,101
1997			1,102				—				2,362				57				2,552								28				6,101				684				5,417
1998			2,330				—				2,196				102				947								2				5,577				1,859				3,718
1999			1,139				—				2,222				260				1								—				3,622				1,103				2,519
2000			389				—				669				104				—								387				1,549				508				1,041
2001			15				—				624				30				—								754				1,423				366				1,057
2002			15				142				951				13				—								565				1,686				410				1,276
2003			3				645				928				4				—								214				1,794				690				1,104
2004			—				394				2,495				2				—								85				2,976				892				2,084
Total impact through December 31, 2004			4,993				1,181				13,697				646				8,701								2,074				31,292				6,960				24,332
First quarter 2005			—				54				522				—				—								7				583				129				454
Second quarter 2005			—				21				317				—				—								3				341				1				340
Third quarter 2005			—				31				340				—				—								3				374				10				364
Fourth quarter 2005			—				28				324				—				—								3				355				(15	)			370
2005 full year			—				134				1,503				—				—								16				1,653				125				1,528
Total impact through 2005		$	4,993			$	1,315			$	15,200			$	646			$	8,701							$	2,090			$	32,945			$	7,085			$	25,860

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		The following table presents the effect of the restatement adjustments by financial statement line item for the Consolidated Balance Sheet as of December 31, 2005 (in thousands):

		December 31, 2005
		As Reported				Adjustments				As Restated
ASSETS
Current assets:
Cash and cash equivalents		$	11,192			$	—			$	11,192
Short-term investments			10,920				—				10,920
Accounts receivable, net			111,725				—				111,725
Prepaid expenses			4,459				—				4,459
Deferred income taxes			24,400				—				24,400
Other assets			1,928				—				1,928
Total current assets			164,624				—				164,624
Investments			4,071				—				4,071
Property and equipment, net			27,855				—				27,855
Goodwill			680,097				—				680,097
Other assets, net			23,756				—				23,756
Total assets		$	900,403			$	—			$	900,403
LIABILITIES & SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable and accrued expenses		$	164,749			$	10,870			$	175,619
Current portion of long-term debt and capital lease obligations			882				—				882
Income taxes payable			1,157				—				1,157
Total current liabilities			166,788				10,870				177,658
Long-term debt and capital lease obligations			622				—				622
Deferred income taxes			30,830				(1,213	)			29,617
Deferred compensation			10,372				—				10,372
Total liabilities			208,612				9,657				218,269
Commitments and contingencies
Shareholders’ equity:
Preferred stock; $.01 par value; 1,000 shares authorized; none issued			—				—				—
Common stock; $.01 par value; 100,000 shares authorized; 47,458 shares issued and outstanding			475				—				475
Additional paid-in capital			456,614				16,203				472,817
Unearned compensation			(15,621	)			—				(15,621	)
Retained earnings			250,323				(25,860	)			224,463
Total shareholders’ equity			691,791				(9,657	)			682,134
Total liabilities and shareholders’ equity		$	900,403			$	—			$	900,403

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		The following table presents the effect of the restatement adjustments by financial statement line item for the Condensed Consolidated Statements of Income for the periods ended September 30, 2005 (in thousands, except for per share data):

		Three Months Ended September 30, 2005												Nine Months Ended September 30, 2005
		As Reported				Adjustments				As Restated				As Reported				Adjustments				As Restated
Net patient service revenue		$	178,099			$	—			$	178,099			$	516,005			$	—			$	516,005
Operating expenses:
Practice salaries and benefits			99,062				139				99,201				295,022				450				295,472
Practice supplies and other operating expenses			7,015				—				7,015				20,109				—				20,109
General and administrative expenses			24,870				235				25,105				75,348				848				76,196
Depreciation and amortization			2,339				—				2,339				7,515				—				7,515
Total operating expenses			133,286				374				133,660				397,994				1,298				399,292
Income from operations			44,813				(374	)			44,439				118,011				(1,298	)			116,713
Investment income			267				—				267				643				—				643
Interest expense			(367	)			—				(367	)			(2,053	)			—				(2,053	)
Income before income taxes			44,713				(374	)			44,339				116,601				(1,298	)			115,303
Income tax provision			16,656				(10	)			16,646				43,434				(140	)			43,294
Net income		$	28,057			$	(364	)		$	27,693			$	73,167			$	(1,158	)		$	72,009
Per share data:
Net income per common and common equivalent share:
Basic		$	0.60			$	(0.01	)		$	0.59			$	1.58			$	(0.02	)		$	1.56
Diluted		$	0.58			$	(0.01	)		$	0.57			$	1.54			$	(0.03	)		$	1.51
Weighted average shares used in computing net income per common and common equivalent share:
Basic			46,876				—				46,876				46,170				—				46,170
Diluted			48,178				127				48,305				47,601				148				47,749

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

3.		Restatement of Consolidated Financial Statements, Continued:
		The following table presents the effect of the restatement adjustments by financial statement line item for the Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2005 (in thousands):

		Nine Months Ended September 30, 2005
		As Reported				Adjustments				As Restated
Cash flows from operating activities:
Net income		$	73,167			$	(1,158	)		$	72,009
Adjustments to reconcile net income to net cash provided from operating activities:
Depreciation and amortization			7,515				—				7,515
Stock-based compensation expense			4,730				1,298				6,028
Deferred income taxes			718				239				957
Gain on sale of assets			—				—				—
Changes in assets and liabilities:
Accounts receivable			(2,014	)			—				(2,014	)
Prepaid expenses and other current assets			773				—				773
Other assets			(822	)			—				(822	)
Accounts payable and accrued expenses			6,222				3,211				9,433
Income taxes payable			24,304				(3,590	)			20,714
Net cash provided from operating activities			114,593				—				114,593
Cash flows from investing activities:
Acquisition payments, net of cash acquired			(85,720	)			—				(85,720	)
Purchase of investments			(15,465	)			—				(15,465	)
Maturities of investments			10,500				—				10,500
Purchase of property and equipment			(5,572	)			—				(5,572	)
Proceeds from sale of assets			—				—				—
Net cash used in investing activities			(96,257	)			—				(96,257	)
Cash flows from financing activities:
Borrowings on line of credit			195,000				—				195,000
Payments on line of credit			(249,000	)			—				(249,000	)
Payments on long-term debt and capital lease obligations			(562	)			—				(562	)
Payments to refinance line of credit			(172	)			—				(172	)
Excess tax benefit of stock option exercises and restricted stock vesting			—				—				—
Proceeds from issuance of common stock			34,165				—				34,165
Net cash used in financing activities			(20,569	)			—				(20,569	)
Net decrease in cash and cash equivalents			(2,233	)			—				(2,233	)
Cash and cash equivalents at beginning of period			7,011				—				7,011
Cash and cash equivalents at the end of period		$	4,778			$	—			$	4,778

4.		Business Acquisitions
		The Company acquired seven physician group practices during the nine months ended September 30, 2006. In connection with these acquisitions, the Company recorded goodwill of approximately $79.6 million, other identifiable intangible assets consisting of physician and hospital agreements, of approximately $1 million, and liabilities of approximately $240,000. The Company also recorded goodwill of $1.5 million during the nine months ended September 30, 2006 for the payment of contingent consideration related to prior-year acquisitions and based on volume and other performance measures. The Company may be required to pay similar contingent consideration under certain contract provisions relating to acquisitions completed during the nine months ended September 30, 2006, as well as other acquisitions completed in prior years; however, the amount to be paid, if any, is not determinable at this time.
		The results of operations of the seven practices acquired during the nine months ended September 30, 2006 have been included in the Company’s condensed consolidated financial statements from their respective dates of acquisition. The

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

4.		Business Acquisitions, Continued:
		following unaudited pro forma information combines the consolidated results of operations of the Company and the physician group practice operations acquired during 2006 and 2005 as if the transactions had occurred at the beginning of the respective periods, (in thousands, except for per share data):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2006				2005				2006				2005
						As restated (1)								As restated (1)
Net patient service revenue		$	216,449			$	190,516			$	615,977			$	560,294
Net income		$	35,344			$	30,650			$	94,002			$	82,683
Net income per share:
Basic		$	0.73			$	0.65			$	1.97			$	1.79
Diluted		$	0.71			$	0.63			$	1.91			$	1.73

		The pro-forma results do not necessarily represent results which would have occurred if the acquisitions had taken place at the beginning of the period, nor are they indicative of the results of future combined operations.
5.		Investments:
		Investments consist of held-to-maturity securities issued primarily by the U.S. Treasury, other U.S. Government corporations and agencies and states of the United States. The Company intends and has the ability to hold its investments to maturity, and therefore carries such investments at amortized cost in accordance with the provisions of Financial Accounting Standards No. 115 (“FAS 115”), “Accounting for Certain Investments in Debt and Equity Securities.” At September 30, 2006 and December 31, 2005, the Company’s investments consisted of the following short-term investments with remaining maturities of less than one year and long-term investments with maturities of one to three years, (in thousands):

		September 30, 2006								December 31, 2005
		Short-Term				Long-Term				Short-Term				Long-Term
U.S. Treasury Securities		$	5,869			$	997			$	5,969			$	—
Federal Home Loan Securities			3,994				1,988				3,471				1,505
Municipal Debt Securities			3,419				4,095				—				2,566
Commercial Paper			—				—				497				—
Federal Farm Credit Bank Discount Note			499				500				983				—
		$	13,781			$	7,580			$	10,920			$	4,071

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

6.		Accounts Payable and Accrued Expenses:
		Accounts payable and accrued expenses consist of the following, (in thousands):

		September 30, 2006				December 31, 2005
						As restated (1)
Accounts payable		$	3,084			$	5,632
Accrued salaries and bonuses			76,119				69,089
Accrued payroll taxes and benefits			15,054				12,297
Accrued professional liability risks			51,226				39,390
Medicaid settlement reserve (Note 8)			—				25,100
Accrual for uncertain tax positions			17,772				16,701
Other accrued expenses			10,688				7,410
		$	173,943			$	175,619

		On September 21, 2006, the Company finalized its agreement in principle (the “Settlement Agreement”) with the U.S. Department of Justice to settle the government’s national Medicaid and TRICARE investigation. Under the terms of the Settlement Agreement, the Company paid the federal government $25.1 million related to neonatal services provided from January 1996 through December 1999.
7.		Stock Incentive Plans and Employee Stock Purchase Plans:
		The Company has a stock option plan (the “Option Plan”) under which stock options are presently outstanding but no new additional grants may be made. The Company also has a 2004 Incentive Compensation Plan (the “2004 Incentive Plan”) under which stock options, restricted stock, stock appreciation rights, deferred stock, other stock related and performance related awards may be made to key employees. To date, the Company has only awarded restricted stock and granted stock options under the 2004 Incentive Plan. Collectively, the Option Plan and the 2004 Incentive Plan are the Company’s Stock Incentive Plans. The Company also has Stock Purchase Plans under which employees may purchase the Company’s common stock at 85% of market value on designated dates.
		Under the 2004 Incentive Plan, options to purchase shares of common stock may be granted at a price not less than the fair market value of the shares on the date of grant. The options must be exercised within 10 years from the date of grant and generally become exercisable on a pro rata basis over a three-year period from the date of grant. Restricted stock awards generally vest over periods of three years upon the fulfillment of specified service-based conditions and in certain instances performance-based conditions. The Company recognizes compensation expense related to its restricted stock awards ratably over the corresponding vesting periods. During the nine months ended September 30, 2006, the Company granted 664,011 stock options and awarded 191,268 shares of restricted stock to key employees under the 2004 Incentive Plan. At September 30, 2006, the Company had approximately 1.9 million shares available for future grants and awards under the 2004 Incentive Plan.
		Effective January 1, 2006, the Company’s Stock Purchase Plans were amended such that employee purchases after December 31, 2005 are made at 85% of the closing price of the stock as of the purchase date. Effective October 1, 2006, the purchase dates for employees who participate in the Stock Purchase Plans are March 31st, June 30th, September 30th and December 31st of each year. Prior to October 1, 2006, the purchase dates under the Stock Purchase Plans were April 1st and October 1st. In accordance with the provisions of FAS 123(R), the Company recognizes stock-based compensation expense for the 15% discount received by participating employees. During the nine months ended September 30, 2006, approximately 46,000 shares were issued under the Company’s Stock Purchase Plans. At September 30, 2006, the Company had approximately 246,000 shares reserved under the Stock Purchase Plans.
		The Company recognized approximately $5.1 million and $15.3 million of stock-based compensation expense related to its Stock Incentive Plans and Stock Purchase Plans during the three and nine months ended September 30, 2006, respectively. During the three and nine months ended September 30, 2005, the Company recognized, inclusive of the restatement, approximately $5.1 million and $6.0 million of stock-based compensation expense, respectively, related to its Stock Incentive Plans.

PEDIATRIX MEDICAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

7.		Stock Incentive Plans and Employee Stock Purchase Plans, Continued:
		The activity related to the Company’s restricted stock awards and the corresponding weighted average grant-date fair values are as follows:

		Number of				Weighted Average
		Shares				Fair Value
Non-vested shares at December 31, 2005			675,128			$	38.26
Awarded			191,268			$	44.70
Forfeited			(5,504	)		$	39.11
Vested			(293,975	)		$	38.26
Non-vested shares at September 30, 2006			566,917			$	40.42

		The aggregate fair value of the 293,975 restricted shares that vested during the nine months ended September 30, 2006 was approximately $11.2 million.
		At September 30, 2006, the total stock-based compensation cost related to non-vested restricted stock remaining to be recognized as compensation expense over a weighted-average period of approximately 2.2 years is $12.4 million.
		Pertinent information covering stock option transactions related to the Company’s Stock Incentive Plans is summarized in the table below.

										Weighted
										Average
		Number of				Option Price				Exercise				Expiration
		Shares				Per Share (1)				Price (1)				Date
Outstanding at December 31, 2005			3,751,738			$	3.53-$37.30			$	22.51				2006-2015
Granted			664,011			$	43.15-$50.34			$	45.19
Canceled			(54,950	)		$	12.78-$44.70			$	29.63
Exercised			(1,099,086	)		$	3.53-$34.05			$	22.77
Outstanding at September 30, 2006			3,261,713			$	3.53-$50.34			$	27.00				2006-2016
Exercisable at September 30, 2006			1,961,269			$	3.53-$37.30			$	19.69