UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

Commission File No.: 001-13457

OCA, INC.

3850 N. Causeway Boulevard, Suite 800
Metairie, Louisiana 70002
(504) 834-4392

(Address, including zip code, of principal executive offices and
Registrant’s telephone number, including area code)

Orthodontic Centers of America, Inc.

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 [ ]

At December 20, 2004 there were approximately 50,345,000 outstanding shares of the Registrant’s Common Stock, $.01 par value per share.

OCA, INC.
TABLE OF CONTENTS

FORWARD-LOOKING STATEMENTS

Certain statements contained in this Report may not be based on historical facts and are “forward looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements may be identified by reference to a future period(s) or by the use of forward looking terminology, such as “anticipate,” “estimate,” “believe,” “expect,” “foresee,” “may,” “would,” “could” or “will.” These forward-looking statements include, without limitation, statements regarding the collection of patient receivables, patient revenue, financial results attributable to base practices, critical accounting policies, net operating loss carryforwards and income tax liability, effects of changes in accounting, amounts payable to affiliated practices under incentive programs, liquidity, capital resources, cash needs, use of the Company’s services and payment of service fees by inactive practices, buy-outs of Service Agreements, transitions of affiliated practices, pending litigation, advancement of funds to affiliated practices, recoverability of assets related to certain practices, updates to internal controls and hiring additional personnel, results of internal controls testing, preparation for and compliance with disclosure requirements under Section 404 of the Sarbanes-Oxley Act of 2002, repayment of outstanding indebtedness, future debt financing, capital expenditures and operating losses for development of de novo centers, capital expenditures for remodeling of existing centers, investment activities, OCA OutSource, stock repurchases, deferred tax assets, future growth and operating results. We caution you not to place undue reliance on these forward-looking statements, in that they involve certain risks and uncertainties that could cause actual results to differ materially from anticipated results. These risks and uncertainties include potential adverse changes in the Company’s financial results and condition, disruption of the Company’s relationships with its affiliated practices or loss of a significant number of the Company’s affiliated practices, failure or delay in integrating OrthAlliance’s affiliated practices, adverse outcomes of litigation pending against the Company and OrthAlliance, competition, inability to effectively manage an increasing number of affiliated practices, changes in the general economy of the United States and the specific markets in which the Company operates, difficulties in staffing and managing foreign offices, foreign currency exchange fluctuations and other risks relating to international expansion and the Company’s foreign operations, changes in the Company’s operating or expansion strategy, inability of the Company to attract and retain qualified management, personnel and affiliated practitioners, inability of the Company to effectively market its services and those of its affiliated practices, changes in regulations affecting the Company’s business, and other factors identified in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003, other filings with the Securities and Exchange Commission or in other public announcements by the Company. We undertake no obligation to update these forward-looking statements to reflect events or circumstances that occur after the date of this Report.

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PART I. FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

OCA, Inc.

See accompanying notes to condensed consolidated financial statements.

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OCA, Inc.

See accompanying notes to condensed consolidated financial statements.

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OCA, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

September 30, 2004

1. DESCRIPTION OF BUSINESS

     OCA, Inc. and its subsidiaries (“OCA”) provide purchasing, financial, marketing, administrative and other business services to orthodontic, pediatric and general dental practices operated by licensed practitioners and/or their wholly-owned professional entities (“Affiliated Practices”) in 43 states and five foreign markets. OCA changed its name from Orthodontic Centers of America, Inc. in August 2004. References to the “Company” are to OCA and the Affiliated Practices required to be consolidated pursuant to FIN 46R (as defined below), unless the context otherwise requires. OCA does not hold any ownership interest in the Affiliated Practices and does not employ the licensed practitioners in the Affiliated Practices. OCA does not practice orthodontics or other forms of dentistry, and is prohibited from doing so by the laws of each jurisdiction in which it operates.

     OCA generally provides business services to Affiliated Practices under long-term service, consulting and management service agreements (“Service Agreements”), through which OCA obtained the exclusive right to provide business services to the Affiliated Practices. OCA has affiliated with existing orthodontic or pediatric dental practices by entering into Service Agreements and acquiring substantially all of the non-professional assets of the practices. The Service Agreements generally provide that the practitioner and/or professional entity is responsible for providing orthodontic or pediatric dental services and for employing all orthodontists or pediatric dentists. The terms of the Service Agreements range from 20 to 40 years, with most ranging from 20 to 25 years. In many cases, the practitioner has the option to terminate the Service Agreement after a certain number of years (typically seven) as prescribed in the Service Agreement. If the practitioner terminates his or her affiliation with OCA, he or she generally is required to pay OCA for the tangible and intangible assets associated with the practice at their current book value or sell his or her interest in the practice to another licensed practitioner who signs a similar agreement with OCA.

     Beginning in 2004, OCA began providing business services through its new division, OCA OutSource. OCA OutSource is initially focusing on general dental practices, and intends to expand to provide business services to other dental specialties and medical practices as well. OCA OutSource provides business services to its Affiliated Practices (“OutSource Practices”) under relatively short-term agreements (“OutSource Agreements”), with terms as short as two years. Unlike OCA’s traditional affiliations, OCA OutSource does not acquire the assets of an Affiliated Practice upon entering into an OutSource Agreement. The services provided by OCA OutSource otherwise are similar to those provided under OCA’s traditional affiliations, tailored to the particular needs of the practice’s dental or medical specialty. The Company’s experience has been that OCA OutSource generally enables practitioners to focus on quality care, while increasing their profitability and providing better information about the financial performance of their practice. OCA OutSource intends to continue to market its services to general and pediatric dentists at association meetings, through direct mail and through open houses at OCA’s corporate headquarters in Metairie, Louisiana. OCA OutSource also intends to begin marketing its services to medical practices during 2005.

     The following table provides information about OCA’s Affiliated Practices (including OutSource Practices) as of the dates indicated. These amounts exclude “Inactive Practices,” which are practices that were parties to Service Agreements but were engaged in litigation with OCA or its subsidiary, OrthAlliance, Inc., and/or had ceased paying service fees to OCA or OrthAlliance as of September 30, 2004 or as of September 30, 2003, respectively.

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2. BASIS OF PRESENTATION

     The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The preparation of these financial statements requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. The year-end condensed consolidated balance sheet was derived from the audited financial statements, but does not include all of the information and footnotes required by generally accepted accounting principles in the United States for financial statements. In the opinion of management, all normal and recurring adjustments, except for the adjustments resulting from the adoption of FIN 46R (as defined below), considered necessary for a fair presentation have been included. While all available information has been considered, actual amounts could differ from those estimates. Operating results for the three- and nine-month periods ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. For further information, refer to the consolidated financial statements and footnotes thereto included in OCA’s Annual Report on Form 10-K for the year ended December 31, 2003.

Reclassifications

     Certain reclassifications have been made to prior period asset and expense categories in order to conform the prior period presentation to the current period presentation. This presentation primarily relates to the reclassification of “Assets associated with inactive practices” (Note 5) and to the reclassification of corporate expenses to “General and Administrative” and all expenses directly associated with the operation of the practices in practice-related expenses to their respective line items within “Practice-related expenses” in the Company’s condensed consolidated statements of income (loss). The reclassifications had no impact on previously reported shareholders’ equity, operating income or net income.

Adoption of New Accounting Standard

     Effective January 1, 2004, OCA adopted, as required, the provisions of Financial Accounting Standards Board (“FASB”) Interpretation No. 46R, “Consolidation of Variable Interest Entities — an Interpretation of ARB No. 51” (“FIN 46R”). FIN 46R was issued by the FASB on December 24, 2003 and replaced Interpretation No. 46, which was issued in January 2003. FIN 46R requires the consolidation of a variable interest entity (“VIE”), as defined in FIN 46R, when an enterprise absorbs a majority of the VIE’s expected losses, receives a majority of the VIE’s expected residual returns, or both, as a result of ownership, contractual or other financial interests in the VIE.

     OCA evaluated its contractual and economic relationships with its Affiliated Practices in light of FIN 46R, and concluded that the Affiliated Practices (other than Inactive Practices and OutSource Practices) are VIEs for purposes of FIN 46R. OCA also concluded that it is the primary beneficiary of these Affiliated Practices for purposes of FIN 46R, in that OCA absorbs a majority of the VIEs’ expected losses, receives a majority of the VIEs’ expected residual returns, or both, as a result of contractual or

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other financial interests in the Affiliated Practices. Accordingly, effective January 1, 2004, OCA is consolidating the assets, liabilities, equity and financial results of the Affiliated Practices (other than Inactive Practices and OutSource Practices) in the Company’s consolidated financial statements. OCA was not required to consolidate the Affiliated Practices for financial reporting purposes prior to January 1, 2004, in accordance with Emerging Issues Task Force (“EITF”) Issue No. 97-2.

     Under FIN 46R, the Company is required to reevaluate whether it continues to be the primary beneficiary of the Affiliated Practices that it consolidates for financial reporting purposes in the event that certain events occur. During 2004, certain practices that were consolidated by the Company pursuant to FIN 46R ceased paying service fees to OCA or OrthAlliance, initiated litigation against OCA or OrthAlliance and/or alleged a breach by OCA or OrthAlliance of their Service Agreement and gave notice of their intentions to terminate the Service Agreement. (See Note 5). The Company believes that these events required the Company to reconsider whether it is the primary beneficiary of these practices under FIN 46R. The Company determined that, under these circumstances, it was no longer the primary beneficiary of these practices and ceased to consolidate these practices.

     The Company’s adoption of FIN 46R and consolidation of the Affiliated Practices for financial reporting purposes does not change the legal and contractual relationships between OCA and the Affiliated Practices. OCA does not hold any ownership interest in the Affiliated Practices and does not employ the orthodontists or other practitioners in the Affiliated Practices. The patients who are parties to patient contracts with Affiliated Practices are the patients of the Affiliated Practices, not patients of OCA. OCA does not practice orthodontics or other forms of dentistry, and is prohibited from doing so by the laws of each jurisdiction in which the Company operates.

     The Company’s consolidation of Affiliated Practices for financial reporting purposes effective January 1, 2004 has resulted in significant changes to the Company’s accounting policies and financial reporting. The Company now presents patient revenues and patient receivables associated with the activities of its Affiliated Practices in its consolidated financial statements. The Company’s revenue recognition policy now is reflective of the services performed by the Affiliated Practices for their patients rather than of the services performed by OCA on behalf of and for the Affiliated Practices. Service fees and service fees receivable now are eliminated upon consolidation of the Affiliated Practices. In addition, the Company now presents as practice-related expenses in its consolidated statements of income (loss) the amounts retained by practitioners under its Service Agreements. The Company has also changed its accounting for excess distributions to Affiliated Practices that are consolidated under FIN 46R, as well as its accounting for identifiable intangible assets and goodwill. The Company’s new accounting policies effective January 1, 2004 are summarized below following the analysis of the impact of FIN 46R.

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     The table below presents the impact to the Company’s condensed consolidated balance sheet at January 1, 2004, including elimination of intercompany transactions, as a result of the Company’s adoption of FIN 46R (in thousands):

     The following discusses the more significant adjustments to certain line items of the Company’s condensed balance sheet as a result of adopting FIN 46R effective January 1, 2004:

     (a) Patient Receivables and Service Fees Receivable. Effective January 1, 2004, the Company records patient receivables of Affiliated Practices in its consolidated balance sheets. Patient receivables represent amounts owed to Affiliated Practices by their patients or by third-party payors, as calculated under the Company’s revenue recognition policy (as discussed below). Patient receivables reflects amounts yet to be received after being recognized as patient revenue. These receivables are expected to be collected within 12 months. Because the Company now consolidates Affiliated Practices, the Company no longer records service fees receivable in its consolidated balance sheets, including the current and financed practice-related expense portion of service fees receivable.

     (b) Advances to Affiliated Practices and Amounts Payable to Affiliated Practices. Effective January 1, 2004, the Company does not record in its consolidated balance sheets cash advances to Affiliated Practices against future distributions. Because the Company now consolidates Affiliated Practices, at January 1, 2004, the Company made the following adjustments with respect to advances to Affiliated Practices: (A) eliminated advances to Affiliated Practices that related to cash advances to Affiliated Practices against future distributions, (B) reclassified advances related to amounts due under

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Service Agreements with Inactive Practices to assets associated with inactive practices, and (C) eliminated advances to Affiliated Practices related to amounts due under Service Agreements. The Company will continue to record receivables and payables related to short-term differences between amounts distributed as monthly or biweekly draws to practitioners and the amounts that the practitioners are entitled to retain under their Service Agreements, until those amounts are reconciled.

     (c) Goodwill and Identifiable Intangibles. Pursuant to the consolidation provisions of FIN 46R, effective January 1, 2004, the Company accounts for affiliations with practices as business combinations and therefore was required to reclassify certain identifiable intangible assets related to Service Agreements with Affiliated Practices as goodwill. Prior to the adoption of FIN 46R, the Company recorded these amounts as identifiable intangible assets and amortized these assets. In addition, the Company determined that Affiliated Practices are its reporting units for purposes of Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets”. Therefore, the Company now allocates goodwill, including goodwill associated with the OrthAlliance merger, to its practice-level reporting units based on management’s estimate of the fair values of the reporting units. Also, as of January 1, 2004, the Company reclassified identifiable intangible assets related to Inactive Practices into “Assets associated with inactive practices,” because the Company does not consolidate these practices. (See Note 5.) Goodwill and the identifiable intangible assets are not amortized but are tested for impairment under provisions of SFAS No. 142 by assessing the carrying amount of goodwill at the practice reporting unit level.

     (d) Deferred Revenue and Service Fee Prepayments. Effective January 1, 2004, the Company records deferred revenue in its condensed consolidated balance sheets. Deferred revenue represents amounts which Affiliated Practices receive from their patients or third party payors prior to the recognition of the related patient revenue, as calculated under the Company’s revenue recognition policy. The Company no longer records related service fee prepayments in its condensed consolidated balance sheets.

     (e) Cumulative Effect of Change in Accounting Principle. As a result of adopting FIN 46R, the Company recorded a cumulative effect charge of $74.7 million, net of income tax benefit of $41.4 million, during the first quarter of 2004. The charge was primarily due to the change in the Company’s revenue recognition policy, the reclassification of certain advances to Affiliated Practices as amounts retained by practitioners (as described above) and the reversal of previously-recorded amortization of identifiable intangible assets.

Summary of Significant Accounting Policies

     For a summary of the Company’s significant accounting policies, see OCA’s Annual Report on Form 10-K for the year ended December 31, 2003. New accounting policies resulting from the adoption of FIN 46R are outlined below.

Principles of Consolidation

     The accompanying condensed consolidated financial statements include the accounts of OCA, Inc. and its subsidiaries and other entities required to be consolidated pursuant to FIN 46R. Patient revenue is presented in the accompanying condensed consolidated statements of income (loss) because the Company consolidates the assets, liabilities, equity and financial results of Affiliated Practices (other than Inactive Practices and OutSource Practices) for financial reporting purposes. All significant intercompany accounts and transactions, including service fees, have been eliminated in consolidation.

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Revenue Recognition

     The Company generally recognizes patient revenues related to services provided to patients on a straight-line basis over the term of treatment (which typically averages about 23 months). Revenues related to retainers (teeth retention appliances) are recognized in the final month of treatment when braces are removed and retainers are provided to the patients, in accordance with EITF No. 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.”

     The Company charges OutSource Practices a monthly service fee based on a percentage of the practice’s cash collections or a fixed monthly service fee. These amounts are recorded as revenue when earned.

Amounts Retained by Practitioners

     Amounts retained by practitioners represents amounts retained in accordance with contractual terms of the Service Agreements. Amounts retained by practitioners includes cash advances provided to practitioners to fund certain practice-related matters or to provide practices with unsecured financing which will be repaid from future distributions and which are reflected as an expense in the period such amounts are advanced. Amounts retained by practitioners are reduced by repayments in the period in which repaid. On a monthly or biweekly basis, the Company generally distributes cash draws to practitioners that are intended to approximate calculated amounts retained by the practitioners under their Service Agreements. At the end of each quarter, the Company calculates the actual amounts which the practitioners are entitled to retain in accordance with the Service Agreements. The Company then records a receivable or payable, as applicable, for any overpayment or underpayment. To the extent amounts are payable to the Company, the Company generally reduces the next monthly or biweekly draw to the practitioners.

Patient Receivables

     Effective January 1, 2004, patient receivables represent amounts owed to Affiliated Practices by their patients or by third-party payors, as calculated under the Company’s revenue recognition policy. The Company provides an allowance for uncollectible amounts based upon a percentage estimate of patient receivables that may not be collected by Affiliated Practices. The allowance percentage is based on the Company’s historical experience in collecting patient receivables on behalf of the Affiliated Practices and the Company’s write-off experience.

Advances and Other Amounts Due from OutSource Practices

     Advances and other amounts due from OutSource Practices represent advances relating to amounts due to OCA from OutSource Practices under OutSource Agreements. These amounts primarily represent funds that OCA has paid to third party vendors on behalf of OutSource Practices for capital expenditures and expenses associated with the operations of the OutSource Practices.

Deferred Revenue

     Deferred revenue represents down payments, prepayments and other cash received under patient contracts prior to the related services being provided by Affiliated Practices. The Company defers recognition of such amounts until they are recognized under the Company’s revenue recognition policy.

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Goodwill and Identifiable Intangibles

     Pursuant to the consolidation provisions of FIN 46R, effective January 1, 2004, the Company generally accounts for affiliations with Affiliated Practices (other than Inactive Practices and OutSource Practices) as business combinations and has reclassified identifiable intangible assets as goodwill. Prior to the adoption of FIN 46R, the Company amortized the identifiable intangible assets over the lesser of the expected life of the Service Agreement or 25 years. In addition, the Company determined that Affiliated Practices are its reporting units and, therefore, the Company now allocates goodwill, including goodwill associated with the OrthAlliance merger, to its practice-level reporting units based on management’s estimate of the fair values of the reporting units. The Company now tests goodwill in accordance with SFAS No. 142 by assessing the carrying amount of goodwill at the practice reporting unit level.

Assets Associated with Inactive Practices

     Assets associated with inactive practices consist of goodwill and identifiable intangible assets property, equipment, improvements, inventory, service fees receivable and advances associated with practices that were parties to Service Agreements but which were engaged in litigation with OCA or its subsidiary, OrthAlliance, Inc. (“OrthAlliance”), and/or which had ceased paying service fees to OCA or OrthAlliance as of September 30, 2004. The Company assesses the recoverability of these assets on a quarterly basis based on, among other things, the status and results of pending litigation, recent settlements and buyouts, the lack of financial information about these practices, the uncertainty of these practices fulfilling their contractual obligations to OCA and the estimated amounts expected to be received from these practices in a buyout, settlement or under the terms of their Service Agreements. The Company estimates the amounts to be received from these practices using historical data, such as the Company’s experience in resolving these situations and the particular practitioner’s willingness to resolve the matter.

Rent Expense

     Facilities for OCA’s Affiliated Practices and administrative offices are generally rented under long-term leases accounted for as operating leases. These leases are not uniform and include varying provisions, including scheduled rent increases. Rent expense is recorded on a straight-line basis over the term of the original lease plus renewal terms.

New Accounting Pronouncement

     In December 2003, the FASB issued revised SFAS No. 132, “Employers Disclosures about Pensions and Other Postretirement Benefits —an amendment of FASB Statements No. 87, 88, and 106.” This statement revises employers’ disclosures about pension plans and other postretirement benefit plans. It does not change the measurement or recognition of those plans required by SFAS No. 87, “Employers’ Accounting for Pensions,” SFAS No. 88, “Employers Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits” and SFAS No. 106, “Employers Accounting for Postretirement Benefits Other Than Pensions.” Except as noted, this statement was effective for financial statements with fiscal years ending after December 15, 2003. The adoption of revised SFAS No. 132 on January 1, 2004 had no impact on the Company’s financial condition or results of operations.

     On December 16, 2004, the FASB issued SFAS No. 123R, “Share-Based Payment,” which requires that all forms of share-based payments to employees, including employee stock options and employee stock purchase plans, be treated the same as other forms of compensation by recognizing the related cost in the income statement. This statement would replace the existing requirements under SFAS No. 123 and APB No. 25. This statement would also eliminate the ability to account for stock-based compensation transactions using the intrinsic value method of APB No. 25 and generally would require that such transactions be accounted for using a fair-value option pricing model, either a binomial model or the Black-Scholes valuation model. The statement would apply to awards that are granted, modified or settled in cash in interim or annual periods beginning after June 15, 2005. The Company is currently analyzing the impact that adoption of the statement will have on its financial position and results of operations.

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3. PROPERTY, EQUIPMENT AND IMPROVEMENTS

     Property, equipment and improvements, net, consisted of the following as of the dates indicated:

     Property, equipment and improvements are recorded at cost. All repair and maintenance expenses are recognized and expensed as incurred. Depreciation expense is provided using the straight-line method over the estimated useful lives of the assets, which range from five to 10 years. Leasehold improvements are amortized over the term of the original lease plus renewal terms, which generally range from five to 15 years.

     Depreciation expense on property, equipment and improvements was $4.0 million and $11.6 million for the three and nine months ended September 30, 2004, respectively, compared to $3.8 million and $10.8 million for the three and nine months ended September 30, 2003, respectively.

4. IDENTIFIABLE INTANGIBLE ASSETS AND GOODWILL

     The consolidation provisions under FIN 46R generally requires that the Company treat affiliations with Affiliated Practices (other than Inactive Practices and OutSource Practices) as business combinations for financial reporting purposes from commencement of the affiliation. As a result, upon adoption of FIN 46R, the Company reclassified certain identifiable intangible assets associated with Affiliated Practices to goodwill. In addition, the Company determined that Affiliated Practices are its reporting units and, therefore, the Company now allocates goodwill, including goodwill associated with the OrthAlliance merger, to its practice-level reporting units based on management’s estimate of the fair values of the reporting units. SFAS No. 142 requires that goodwill and intangible assets with indefinite lives, including such assets recorded in past business combinations, not be amortized, but instead be tested for impairment by measuring the reporting unit at fair value. SFAS No. 142 requires that the impairment test be performed at least annually with interim testing required if circumstances warrant.

     See Note 5 for discussion on the provision the Company recorded related to its review of assets associated with inactive practices.

     As of December 31, 2003, the Company’s goodwill related solely to the OrthAlliance merger.

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5. INACTIVE PRACTICES

     At September 30, 2004 and December 31, 2003, the Company recorded the following assets in its condensed consolidated balance sheets related to Inactive Practices (in thousands):

     At September 30, 2004 and December 31, 2003, there were 112 and 100 Inactive Practices, respectively. The Company had generally ceased to record patient revenue and fee revenue with respect to all of these Inactive Practices as of the respective dates. OCA has commenced litigation and/or taken other actions to recover the amounts due to OCA from these practices.

     At September 30, 2004, the Company provided an allowance of $15.5 million for potential impairment of assets associated with inactive practices. At December 31, 2003, the allowance for these assets was $2.2 million. During the three months ended September 30, 2004, the Company performed an assessment of the recoverability of its assets associated with inactive practices. The Company increased the allowance due in part to certain recent settlement payments to OCA and a recent court award to OCA that were significantly less than the net book value of the goodwill, identifiable intangibles and other assets associated with the relevant Inactive Practices. The increase also reflected the Company’s renewed efforts to attempt to resolve pending litigation on mutually agreeable settlement terms. The Company has resolved disputes with some other Inactive Practices by permitting the practices to buy out of their Service Agreements for amounts in excess of the net book value of the assets associated with those practices. The Company performs this assessment on a practice-by-practice basis to determine whether the Company’s carrying value of assets and relative fair value of goodwill associated with a particular Inactive Practice exceeds the estimated amounts to be recovered from that practice. In performing this assessment, the Company is required to make significant judgments and estimates, including the outcome of litigation, settlements and buyouts and amounts expected to be received from these Inactive Practices, among other factors. Providing an allowance for assets associated with inactive practices does not reflect a belief by management that Inactive Practices will ultimately prevail in litigation pending between the practices and OCA or its subsidiary, OrthAlliance, that the Inactive Practices’ claims and allegations in these lawsuits have merit or that the Service Agreements with Inactive Practices are not binding. OCA believes that generally it will receive payment from these practices by either litigation settlement or permitting such practices to buy out of their Service Agreements. However, adverse changes in litigation pending between Inactive Practices and OCA or OrthAlliance could significantly affect the recoverability of these assets and may result in additional provisions related to these assets in the future.

6. DEBT

     The Company has a $125.0 million credit facility comprised of a $100.0 million revolving line of credit and a $25.0 million term loan. At September 30, 2004, approximately $79.6 million was outstanding under the revolving line of credit and $10.2 million under the term loan. The credit facility requires the Company to maintain certain financial and nonfinancial covenants under the terms of the agreement, including a maximum leverage ratio, minimum fixed charge coverage ratio, minimum

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consolidated net worth and maximum funded debt to total patient contract balances. The credit facility also contains positive and negative covenants that restrict certain activities of the Company, including limitations on the payment of cash dividends, repurchases of OCA common stock, acquisitions, investments, incurrence of other indebtedness and other transactions that may affect the Company’s liquidity. If the Company were to experience an event or matter that has, or is reasonably likely to have, a material adverse effect or an event of default (each as defined in the credit facility), then the Company would be unable to borrow additional amounts under the credit facility without a waiver by its lenders or an amendment to the credit facility. The Company cannot assure you that it would be able to obtain such a waiver or amendment, which could have a material adverse impact on the Company’s liquidity and capital resources.

7. STOCK COMPENSATION ARRANGEMENTS

     As permitted by SFAS No. 123, “Accounting for Stock-Based Compensation,” the Company accounts for its stock compensation arrangements with employees under the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under these plans have an exercise price equal to the market value of the underlying common stock on the date of grant. The Company accounts for stock options granted to non-employees, primarily affiliated orthodontists, at fair value determined according to SFAS No. 123. The Company accounts for the incentive programs implemented in connection with the OrthAlliance merger in accordance with EITF Issue No. 96-18 and Issue No. 00-18. The Company accounts for its restricted stock purchase program for affiliated orthodontists in accordance with EITF Issue No. 00-19.

8. INCOME TAXES

     The Company has deferred tax assets primarily relating to net operating loss carryforwards and the future tax benefit of the cumulative effect from the adoption of FIN 46R. The net operating loss carryforwards primarily relate to the cumulative effect of (A) a change in accounting method for recognizing revenue for income tax purposes previously approved by the Internal Revenue Service (“IRS”) and (B) a change in accounting method related to applicable class lives for certain long-lived assets. At September 30, 2004, the Company reduced the deferred tax assets by the Company’s income taxes for the first three quarterly estimated tax installments for 2004, resulting in no current tax liability recorded by the Company. The Company expects that the remaining net operating loss carryforwards will offset the Company’s income tax liability in 2004. If the net operating loss carryforwards are not used, they will expire between 2017 and 2023.

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9. SEGMENT INFORMATION

      OCA provides purchasing, financial, marketing, administrative and other business services under Service Agreements to Affiliated Practices operated by orthodontists, pediatric dentists and general dentists and/or their wholly-owned professional entities. OCA’s reportable segments as of September 30, 2004 are U.S. and “All Other,” which includes OCA’s foreign subsidiaries. All costs associated with OCA’s corporate headquarters have been allocated to U.S. The financial measures by which the Company evaluates segment performance and allocates resources is based on operating income (loss) of the segments. The Company’s primary measures of profit by which it formulates decisions and communicates to investors and analysts are net income (loss) and net income (loss) per share. The accounting policies of the reportable segments are the same as those described in Note 2. There are no intersegment sales. The Company’s segment financial information for the three and nine months ended September 30, 2004 and 2003 is as follows (in thousands):

⁽¹⁾  Long-lived assets represent net property, equipment and improvements.

     A reconciliation of total segment operating income (loss) to total income (loss) before income taxes and cumulative effect of change in accounting principle for the three and nine months ended September 30, 2004 and 2003 is as follows.

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10. NET INCOME (LOSS) PER SHARE

     The calculation of net income (loss) per share is performed using the treasury stock method. Computations of basic and diluted earnings (loss) per share are presented below:

     No options to purchase shares of OCA’s common stock were included in the computation of diluted loss per share for the three and nine months ended September 30, 2004, because the effects would have been anti-dilutive. Options to purchase approximately 2.2 million and approximately 2.1 million shares of common stock were not included in the computation of diluted earnings per share for the three and nine months ended September 30, 2003, respectively, because the exercise prices were greater than the average market price of OCA’s common stock during these periods. The exercise prices for these options range from $8.00 to $33.13. These options expire between 2009 and 2012.

11. CONTINGENCIES

     OCA and its subsidiary, OrthAlliance, are engaged in litigation with a number of Inactive Practices. Before OCA agreed to acquire OrthAlliance in November 2001, OCA anticipated that some portion of OrthAlliance’s affiliated practices would oppose the transaction. A description of actions brought by certain OrthAlliance affiliated practices and the claims in these actions is contained in Item 3 of Part I to OCA’s Annual Report on Form 10-K for the year ended December 31, 2003.

     On April 23, 2002, Dr. David C. Hobson filed an action in the U.S. District Court for the Eastern District of California against OCA and its subsidiary, alleging that OCA breached its business services agreement with Dr. Hobson, breached an alleged fiduciary duty to Dr. Hobson and committed allegedly unfair business practices. On August 9, 2002, OCA filed a counterclaim against Dr. Hobson seeking contract and equitable damages. The case was tried from July 13 to August 13, 2004. The jury in the case rendered a verdict in favor of OCA on Dr. Hobson’s claim that OCA breached its fiduciary duty, but found that OCA had breached a provision of Dr. Hobson’s business services agreement and awarded Dr. Hobson approximately $82,000 in damages. On September 14, 2004, the court entered an amended judgment awarding $301,000 in damages to OCA in connection with its counterclaims against Dr. Hobson. On November 23, 2004, the court granted Dr. Hobson’s motion for attorneys fees in the amount of approximately $485,000, and denied OCA’s motions for attorneys fees and changes in the amounts previously awarded to OCA and Dr. Hobson. The Company is considering an appeal of these rulings. On September 28, 2004, the Company filed an action against Dr. Hobson seeking payment of approximately $80,000 of indebtedness owed to the Company by Dr. Hobson under three promissory notes. The Company has provided an allowance for assets associated with Dr. Hobson’s practice as part of its review of the recoverability of assets associated with inactive practices (see Note 5) and believes it has adequately reserved for the estimated outcome of this lawsuit.

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     On May 22, 2001, Dr. T. Barry Clower, D.M.C. and his professional corporation filed an action in the U.S. District Court for the Northern District of Georgia against OrthAlliance, alleging OrthAlliance had breached its service agreement with Dr. Clower’s practice and that the agreement violated Georgia’s prohibition of the corporate practice of dentistry. On September 24, 2004, the court ruled in favor of OrthAlliance that the service agreement between OrthAlliance and Dr. Clower’s practice is legal and enforceable and does not violate Georgia law governing the practice of dentistry. The court also ruled that the parties’ covenants not to compete were reasonable and enforceable against Dr. Clower. In addition, the court held that Dr. Clower’s practice breached his service agreement with OrthAlliance and that OrthAlliance is owed damages for such breach. The court rejected Dr. Clower’s claim that OrthAlliance had breached his service agreement. The court also held that OrthAlliance could enforce over $200,000 of promissory notes owed by Dr. Clower’s practice to OrthAlliance. The Company had previously adjusted the book value of assets associated with this practice as part of the Company’s purchase accounting adjustments made in connection with the OrthAlliance merger in November 2001.

     Because litigation is inherently uncertain, the Company cannot assure you that OCA or its subsidiaries will prevail in any of these or other lawsuits, nor can the Company estimate with reasonable certainty the amount of damages it might incur or the amount of any award it might receive. OCA and its affiliated practices are, and from time to time may become, party to other litigation or administrative proceedings which arise in the normal course of business. Regardless of the outcome of such litigation and proceedings, they could be costly and time-consuming and could divert the time and attention of OCA’s senior management.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     The following discussion summarizes our financial condition at September 30, 2004 and results of operations for the three and nine months ended September 30, 2004, and should be read in conjunction with the condensed consolidated financial statements and accompanying notes included elsewhere in this Report. References to “OCA” are to OCA, Inc. and its subsidiaries and references to “us”, “we” or “our” are to OCA and its affiliated practices required to be consolidated pursuant to FIN 46R (as defined below), unless the context otherwise requires. OCA changed its name from Orthodontic Centers of America Inc. in August 2004.

OVERVIEW

     Founded in 1985, OCA is the leading provider of business services to orthodontic and pediatric dental practices. OCA provides affiliated practices operated by licensed practitioners and/or wholly-owned professional entities (“affiliated practices”) with a full range of operational, purchasing, financial, marketing, administrative and other business services, as well as capital and proprietary information systems. It generally provides its services to affiliated practices under long-term service, consulting or management service agreements (“Service Agreements”), with terms that typically range from 20 to 25 years. The Service Agreements generally provide that the affiliated practices will pay OCA monthly service fees based upon a percentage of the practices’ operating profit or practice revenue and reimbursement of practice-related expenses.

     At September 30, 2004, OCA was affiliated with 300 practices located throughout the United States and parts of Japan, Spain, Puerto Rico and Mexico. This number excludes 112 “Inactive Practices,” which are practices that were parties to Service Agreements but were engaged in litigation with OCA or its subsidiary, OrthAlliance, Inc. (“OrthAlliance”), and/or had ceased paying service fees to OCA or OrthAlliance as of September 30, 2004. We had generally ceased to record patient revenue with respect to all of these Inactive Practices at or before September 30, 2004. In October 2004, OCA affiliated with an orthodontic practice in Brazil.

     During the first quarter of 2004, OCA began providing business services through its new division, OCA OutSource. OCA OutSource is initially focusing on general dental practices, but intends to expand to providing business services for other dental specialties and medical practices as well. OCA OutSource provides business services to its affiliated practices (“OutSource Practices”) under relatively short-term agreements (“OutSource Agreements”), with terms as short as two years. OCA OutSource currently charges the OutSource Practices a monthly service fee generally based on a percentage of the practice’s cash collections or a fixed monthly service fee. In addition, OCA OutSource’s affiliations differ from OCA’s traditional affiliations in that, among other things, OCA OutSource generally does not lease the practice office space or own the practice’s fixed assets. The services provided by OCA OutSource otherwise are similar to those provided under OCA’s traditional affiliations, tailored to the particular needs of the practice’s dental or medical specialty. OCA’s experience has been that OCA Outsource generally enables practitioners to focus on quality care, while increasing their profitability and providing better information about the financial performance of their practice. OCA OutSource intends to continue to market its services to general and pediatric dentists at association meetings, through direct mail and through open houses at OCA’s corporate headquarters in Metairie, Louisiana. OCA OutSource also intends to begin marketing its services to medical practices during 2005.

     Affiliated practices reimburse OCA for practice-related expenses that it incurs on their behalf, including costs to treat patients of the affiliated practices. These practice-related expenses are recorded in our condensed consolidated statements of income (loss) when incurred. Affiliated practices typically incur approximately 30% to 35% of the total expense of treating a patient during the first month of the patient’s treatment.

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     We believe that the dollar amount of new patient contracts of our affiliated practices is the greatest predictor of our future patient revenue. During the nine months ended September 30, 2004, our affiliated orthodontic practices generated new patient contracts totaling approximately $496.5 million, which we expect to provide us with a future stream of patient revenue and cash flow.

ADOPTION OF FIN 46R

     We have made a number of changes in our accounting and financial statement presentation effective as of January 1, 2004, in connection with our adoption of Financial Accounting Standards Board (“FASB”) Interpretation No. 46R, “Consolidation of Variable Interest Entities — an Interpretation of ARB No. 51” (“FIN 46R”). FIN 46R was issued by the FASB in December 2003 and replaced Interpretation No. 46, which was issued by the FASB in January 2003.

     FIN 46R requires that we consolidate the assets, liabilities, equity and financial results of certain entities (known as variable interest entities or “VIEs”) if we are the primary beneficiary of the VIEs. Under FIN 46R, we are the primary beneficiary of a VIE if we absorb a majority of the VIE’s expected losses, receive a majority of the VIE’s expected residual returns, or both, as a result of ownership, contractual or other financial interests in the VIE.

     In connection with our required adoption of FIN 46R effective January 1, 2004, we evaluated our contractual and economic relationships with affiliated practices, including an economic analysis of these relationships with the assistance of third party consultants. We concluded that the affiliated practices (other than Inactive Practices and OutSource Practices) are VIEs for purposes of FIN 46R. We also concluded that we are the primary beneficiary of these affiliated practices for purposes of FIN 46R, in that we absorb a majority of the affiliated practices’ expected losses and/or receive a majority of the affiliated practices’ expected residual returns, as a result of contractual or other financial interests in the affiliated practices.

     Accordingly, effective January 1, 2004, we are consolidating the assets, liabilities, equity and financial results of our affiliated practices (other than Inactive Practices and OutSource Practices) in our consolidated financial statements. We did not consolidate the affiliated practices for financial reporting purposes prior to January 1, 2004, in accordance with EITF Issue No. 97-2. These changes resulted in a cumulative effect of change in accounting principle charge of $74.7 million (net of an income tax benefit of $41.4 million), which was recorded during the first quarter of 2004.

     We believe that the changes required under FIN 46R enhance the transparency and clarity of our financial reporting. With these changes, our reported earnings more closely reflect the net cash provided by operating activities reported on our consolidated statements of cash flows. These changes are described in more detail below and in the notes to our condensed consolidated financial statements included in this Report.

     Briefly, these changes include the following, effective as of January 1, 2004:

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     Our adoption of FIN 46R and consolidation of affiliated practices for financial reporting purposes did not change our business practices, nor did it change our legal and contractual relationships with affiliated practices. We continue to provide high-quality business services to orthodontic, pediatric dental and other practices under service and consulting agreements. We do not have any ownership interest in our affiliated practices and we do not employ the orthodontists, dentists or other practitioners in the affiliated practices. The patients who are parties to patient contracts with affiliated practices remain the patients of the affiliated practices.

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     The table below provides the impact to our condensed consolidated balance sheet at January 1, 2004, including elimination of intercompany transactions, as a result of our adoption of FIN 46R (in thousands).

     The following discusses the more significant adjustments to certain line items of our condensed balance sheet as a result of adopting FIN 46R.

     (a) Patient Receivables and Service Fees Receivable. Effective January 1, 2004, we record patient receivables of affiliated practices in our consolidated balance sheets. Patient receivables represent amounts owed to affiliated practices by their patients or third-party payors, as calculated under our revenue recognition policy. They reflect amounts yet to be received after being recognized as patient revenue. We no longer record service fees receivable in our consolidated balance sheets, including the current and financed practice-related expense portion of service fees receivable.

     (b) Advances to Practitioners and Amounts Payable to Practitioners. Effective January 1, 2004, we do not record in our condensed consolidated balance sheets cash advances to affiliated practices against future distributions. At January 1, 2004, we made the following adjustments with respect to advances to affiliated practices: (A) eliminated advances to affiliated practices that related to cash

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advances to affiliated practices against future distributions, (B) reclassified advances related to amounts due under Service Agreements with Inactive Practices to assets associated with Inactive Practices, and (C) eliminated advances to affiliated practices related to amounts due under Service Agreements. We will continue to record receivables and payables related to short-term differences between amounts distributed as monthly or biweekly draws to practitioners and the amounts that the practitioners are entitled to retain under their Service Agreements, until those amounts are reconciled.

     (c) Goodwill and Identifiable Intangibles. Pursuant to the consolidation provisions of FIN 46R, effective January 1, 2004, we account for affiliations with practices (other than Inactive Practices and OutSource Practices) as business combinations and reclassified certain identifiable intangible assets related to Service Agreements with affiliated practices to goodwill. Prior to the adoption of FIN 46R, we recorded these amounts as identifiable intangible assets and amortized these assets. In addition, we determined that affiliated practices are our reporting units for purposes of SFAS No. 142. Therefore, we now allocate goodwill, including goodwill associated with the OrthAlliance merger, to our practice-level reporting units based on management’s estimate of the fair values of the reporting units. Also, as of January 1, 2004, we reclassified identifiable intangible assets related to Inactive Practices into “Assets associated with inactive practices,” because we do not consolidate these practices. Goodwill and identifiable intangibles are not amortized but are tested for impairment under provisions of SFAS No. 142 by assessing the carrying amount of goodwill at the practice reporting unit level.

     (d) Deferred Revenue and Service Fee Prepayments. Effective January 1, 2004, we record deferred revenue in our condensed consolidated balance sheets. Deferred revenue represents amounts which affiliated practices receive from their patients or third party payors prior to recognition of the related patient revenue, as calculated under our revenue recognition policy. We no longer record service fee prepayments in our condensed consolidated balance sheets.

     (e) Cumulative effect of change in accounting principle. As a result of adopting FIN 46R, we recorded in the first quarter of 2004 a cumulative effect charge of $74.7 million, net of income tax benefit of $41.4 million. The charge was primarily due to the change in our revenue recognition policy, the reclassification of certain advances to affiliated practices as amounts retained by practitioners (as described above) and the reversal of previously-recorded amortization of identifiable intangible assets.

PATIENT RECEIVABLES AND DEFERRED REVENUE

     We now record patient receivables of affiliated practices in our condensed consolidated balance sheets, rather than service fee receivable. Patient receivables represent amounts owed to affiliated practices by their patients or third-party payors, as calculated under our revenue recognition policy. They reflect amounts yet to be received after being recognized as patient revenue under our revenue recognition policy.

     Patient receivables may occur due to several factors, including delay in payment by patients, delay in payment by third party payors, and timing differences between when the patient or third party payor is contractually obligated to remit payment for services and the straight-line calculation under our revenue recognition policy. Under our revenue recognition policy, we recognize patient revenue based upon a straight-line allocation of patient contract balances over the term of treatment (which averages about 23 months), except that a portion relating to retainers will be recognized in the final month of treatment when braces are removed and retainers are provided to patients. Most of our affiliated practices use our recommended payment plan for their patients, which provides for (a) no down payment, (b) an initial record fee, (c) equal monthly payments (ranging from $109 to $139, with most practices using $129 per month) over the term of treatment and (d) a final retainer payment that is typically four times the monthly payment.

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     Deferred revenue represents down payments, prepayments and other cash received under patient contracts prior to the related services being provided by affiliated practices and in advance of the straight-line calculation under our revenue recognition policy. We defer recognition of these amounts until they are recognized as patient revenue under our revenue recognition policy.

     Because patient receivables and deferred revenue generally relate to different affiliated practices, we generally do not have a right to offset amounts owed against amounts prepaid, and the patient receivables and deferred revenue are recorded separately in our condensed consolidated balance sheets and not on a net basis. At September 30, 2004, we had a total of $124.3 million of patient receivables and $91.8 million of deferred revenue.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

     OCA’s management is required to make estimates and assumptions in the preparation of our condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States. The following are critical accounting policies that resulted from our adoption of FIN 46R effective January 1, 2004. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 2 to our consolidated financial statements in OCA’s Annual Report on Form 10-K for the year ended December 31, 2003 for information about other critical accounting policies.

     These policies are important in portraying our financial condition and results of operations, and require management’s difficult, subjective or complex judgments due to the sensitivity of the methods, assumptions and estimates used in preparing our condensed consolidated financial statements. Actual results may differ from these estimates under different assumptions and estimates.

Consolidation

     FIN 46R requires the consolidation of entities known as variable interest entities (or VIEs) when an enterprise absorbs a majority of the VIEs’ expected losses, receives a majority of the VIEs’ expected residual returns, or both, as a result of ownership, contractual or other financial interests in the VIEs. Management must make assessments whether our affiliated practices are VIEs and whether we hold a controlling financial interest in the VIEs, as determined under FIN 46R. Accordingly, we will consolidate the assets, liabilities, equity and financial results of those affiliated practices in our consolidated financial statements if we determine that we do hold a controlling financial interest. We are required to reevaluate whether or not we consolidate our VIEs when an event occurs that requires reconsideration of consolidation under applicable accounting pronouncements. During 2004, certain practices that we consolidated pursuant to FIN 46R ceased paying service fees to OCA or OrthAlliance, initiated litigation against OCA or OrthAlliance and/or alleged a breach by OCA or OrthAlliance of their Service Agreement and gave notice of their intentions to terminate the Service Agreement. We believe that these events required that we reconsider whether OCA is the primary beneficiary of these practices under FIN 46R. We determined that, under these circumstances, OCA was no longer the primary beneficiary of these practices and we ceased to consolidate these practices. We do not consolidate the assets, liabilities, equity and financial results of the Inactive Practices and OutSource Practices.

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     The laws of each of the jurisdictions in which we operate prohibit OCA from owning orthodontic or pediatric dental practices. OCA enters into exclusive Service Agreements with practitioners and professional entities that operate orthodontic and pediatric dental practices. OCA does not have any ownership interest in affiliated practices and it does not employ the orthodontists, dentists or other practitioners in the affiliated practices. The patients who are parties to patient contracts with affiliated practices remain the patients of the affiliated practices.

Amounts Retained by Practitioners

     Amounts retained by practitioners represents amounts retained in accordance with contractual terms of the Service Agreements. Amounts retained by practitioners includes cash advances provided to practitioners to fund certain practice-related matters or to provide practices with unsecured financing which will be repaid from future distributions and which are reflected as an expense in the period such amounts are advanced. Amounts retained by practitioners is reduced by repayments in the period in which repaid. On a monthly or biweekly basis, we generally distribute cash draws to practitioners that are intended to approximate calculated amounts retained by the practitioners under their Service Agreements. At the end of each quarter, we calculate the actual amounts which the practitioners are entitled to retain in accordance with the Service Agreements. We then record a receivable or payable, as applicable, for any overpayment or under payment. To the extent amounts are owed to us, we generally reduce the next monthly or biweekly draw to the practitioners.

Advances to Affiliated Practices

     We apply the provisions of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” when assessing advances to affiliated practices and amounts retained by affiliated practices. Accordingly, we do not record cash advances against future distributions to affiliated practices in our consolidated financial statements as advances to affiliated practices. Such amounts are recorded as an expense, in amounts retained by affiliated practices, in the period in which the distributions are made. However, as these amounts are repaid from future earnings of the affiliated practices, we record the repayments as a reduction of amounts retained by affiliated practices. We record as advances to practitioners or amounts payable to practitioners the short-term differences between amounts distributed as monthly or bi-weekly draws to practitioners and the amounts that the practitioners are entitled to retain under their Service Agreements.

Revenue Recognition and Realization of Patient Receivables

     We generally recognize patient revenues related to services provided to patients on a straight-line basis over the term of treatment (which averages about 23 months). Revenues related to retainers, or teeth retention appliances, are recognized in the final month of treatment when braces are removed and retainers are provided to the patients, in accordance with EITF Issue No. 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.”

     Patient receivables represent amounts owed by patients or third-party payors to affiliated practices, as calculated under our revenue recognition policy. In addition, in some instances, management is required to estimate patient receivables from certain affiliated practices based upon information provided by those affiliated practices. Management provides an allowance for uncollectible amounts based upon a percentage estimate of patient receivables that may not be collected by affiliated practices. The allowance percentage is determined based upon our experience in collecting patient receivables on behalf of affiliated practices. Management’s estimates may change based on future conditions and circumstances.

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     We currently charge OutSource Practices a monthly service fee based on a percentage of the practice’s cash collections or a fixed monthly service fee. These amounts are recorded as revenue when earned.

Impairment of Goodwill and Identifiable Intangible Assets

     Typically, when OCA has affiliated with an established practice, it has entered into a long-term Service Agreement with the practice and/or the affiliated practitioner under which it provides business services to the practice in exchange for monthly service fee payments. We generally allocated a portion of the related costs of acquiring the Service Agreement to identifiable intangible assets. In addition, OCA’s balance sheet reflected approximately $87.6 million of goodwill related to the OrthAlliance merger as of December 31, 2003.

     Upon adopting the provisions of FIN 46R effective January 1, 2004, we now account for affiliations with practices as business combinations and, therefore, reclassified certain identifiable intangible assets related to Service Agreements as goodwill. In addition, we determined that affiliated practices are our reporting units for purposes of SFAS No. 142. Therefore, we now allocate the goodwill associated with the practice affiliations to our practice-level reporting units based on management’s estimate of the fair values of the reporting units. We now test goodwill in accordance with SFAS No. 142 by assessing the carrying amount of goodwill at the practice reporting unit level. For purposes of this assessment, fair value is measured by estimating future cash flows under the Service Agreements with the affiliated practices based on several factors, including current operational levels of the practice, expected growth in the practice based on management’s experience, the status of affiliation of the practice and the recoverability of assets associated with Inactive Practices. If the total projected cash flows of the affiliated practice exceed the carrying amount of goodwill associated with that practice, there would be no impairment. If the cash flows of the affiliated practice were to be less than the carrying amount of goodwill associated with that practice, the goodwill would be considered impaired and management would adjust the carrying value of the goodwill to estimated fair value. Management’s estimate may change based on future events, including adverse results in pending litigation and lawsuits that may be filed by or against OCA or OrthAlliance in the future.

Recoverability of Assets Related to Inactive Practices

     At September 30, 2004, we had recorded in our condensed consolidated balance sheets approximately $30.2 million of assets associated with Inactive Practices, net of an allowance of $15.5 million. These assets consisted of $26.8 million of goodwill and identifiable intangible assets, $3.2 million of property, equipment, and improvements, net of accumulated amortization and depreciation, $3.3 million of service fees receivable, $1.5 million of patient receivables, $0.7 million of inventory and $10.2 million of advances to affiliated practices. The assessment of the recoverability of these assets is complex and requires significant judgment by management due to a number of factors, including the status and results of pending litigation, recent settlements and buyouts, the lack of financial information about these practices, the uncertainty of these practices fulfilling their contractual obligations to us and the estimated amounts expected to be received from these practices in a buyout, settlement, judgment or under the terms of their Service Agreements. Management estimates the amounts to be received from these practices using, among other things, historical data and experience in resolving these situations and the particular practitioner’s willingness to resolve the matter. We have established allowances for assets associated with these practices and believe the net amounts recorded as assets associated with inactive practices are realizable as of September 30, 2004. However, adverse litigation results could significantly affect the recoverability of these assets and may require us to record additional provisions related to these assets in the future.

PRACTICE COLLECTIONS AND RESULTS

     Our financial success is dependent on the financial success of our affiliated practices. The following chart illustrates, by quarter, the increases in patient fees collected by affiliated practices during 2003 and the first nine months of 2004. The graph also illustrates the growth in collections of patient fees by Base Practices for which we were recording patient revenue at September 30, 2004, and the diminishing impact of Inactive Practices on total patient fees collected by affiliated practices during 2003 and the first nine months of 2004. The graph also illustrates patient revenue for these periods, calculated on a pro forma basis as if our adoption of FIN 46R was effective on January 1, 2003. As depicted in the graph below, our patient revenue generally parallels the patient fees collected by affiliated practices.

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AGREEMENTS WITH AFFILIATED PRACTICES

     OCA provides business services to an affiliated practice under an agreement with an affiliated licensed professional and/or his or her wholly-owned professional entity. The form of agreement used for a particular affiliated practice is based upon the dental regulatory provisions of the state in which the affiliated practice is located. In most states, we use a form of service agreement, with some minor variations from state to state. In a small number of states with particularly stringent laws relating to the practice of dentistry, we use a consulting agreement, which also varies somewhat from state to state. OrthAlliance and its affiliated practices are parties to service, management service and consulting agreements that differ in some respects from the service and consulting agreements that OCA has historically used. The terms of the Service Agreements typically range from 20 to 40 years, with most ranging from 20 to 25 years. The Service Agreements generally provide for monthly service fees based

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upon a percentage of the practice’s operating profit or practice revenue and reimbursement of practice-related expenses.

     OCA OutSource provides business services to a practice under agreements with terms as short as two years. Under an OutSource Agreement, affiliated practices currently are charged a monthly service fee based on a percentage of the practice’s cash collections or fixed monthly fee.

RESULTS OF OPERATIONS

     The following tables provide information about (1) the percentage of total revenue represented by certain items in our condensed consolidated statements of income (loss) for the periods indicated, (2) for those same items, the percentage of patient revenue for the three and nine months ended September 30, 2003 on a pro forma basis calculated as if our adoption of FIN 46R was effective as of January 1, 2003 (“Pro Forma Basis”), and (3) the percentage increase or decrease in those items from period to period on an actual and pro forma basis:

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Financial Results Attributable to Base Practices and Inactive Practices

     The following tables provide information about financial results attributable to Base Practices, Inactive Practices and our corporate operations for the three and nine months ended September 30, 2004 and 2003, and for the three and nine months ended September 30, 2003 on a Pro Forma Basis. “Base Practices” are affiliated practices for which we were recording patient revenue as of September 30, 2004. “Inactive Practices” are practices that were engaged in litigation with OCA or OrthAlliance and/or had ceased paying service fees and for which we had ceased to record patient revenue at September 30, 2004. At September 30, 2004, there were 300 Base Practices and 112 Inactive Practices that were parties to Service Agreements. At September 30, 2003, there were 327 Base Practices and 89 Inactive Practices that were parties to Service Agreements.

     As reflected in the following tables, during the three and nine months ended September 30, 2004, our financial results were almost entirely attributable to Base Practices, as the amount of patient revenue, expense and operating income (loss) attributable to Inactive Practices during the first nine months of 2004 was significantly less than during the same period in 2003 on a Pro Forma Basis. The tables also indicate the impact of de novo centers, which typically incur operating losses during their first 12 to 18 months of operation.

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