Form 10-Q Amendment no. 1 for period ended 03/31/2003

(Former name, former address and former 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 x No

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

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. ¨

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

The purpose of this Amendment No. 1 on Form 10-Q/A to the Quarterly Report on Form 10-Q of IMPAC Medical Systems, Inc. (the “Company”) for the quarter ended March 31, 2003 is to restate our consolidated financial statements at and for the three and six months ended March 31, 2003 and 2002, and related disclosures, including the selected financial data included herein as of and for the three and six months ended March 31, 2003 and 2002.

Generally, no attempt has been made in this Amendment No. 1 to modify or update other disclosures presented in the original report on Form 10-Q except as required to reflect the effects of the restatement. This Form 10-Q/A generally does not reflect events occurring after the filing of the original Form 10-Q or modify or update those disclosures affected by subsequent events. Information not affected by the restatement is unchanged and reflects the disclosures made at the time of the original filing of the Form 10-Q on April 25, 2003. Accordingly, this Form 10-Q/A should be read in conjunction with our filings made subsequent to the filing of the original Form 10-Q, including any amendments to those filings. The following items have been amended as a result of the restatement:

Our Chief Executive Officer and Chief Financial Officer have also reissued their certifications required by Sections 302 and 906 of the Sarbanes-Oxley Act.

We have restated our financial results for the three and six months ended March 31, 2003 and 2002 to conform certain of our revenue recognition policies to Statement of Position (SOP) 97-2 “Software Revenue Recognition.” As a result of the restatement, some previously recognized revenues have been shifted to later quarters and others have been reclassified to deferred revenue and will be recognized in periods subsequent to March 31, 2003 in accordance with SOP 97-2. The restatement does not impact previously reported total cash flows from operations. As a result of the impact of changes in the timing of revenue recognition, net sales decreased by $2.6 million and $2.3 million in the three months ended March 31, 2003 and 2002, respectively, and by $3.7 million and $2.1 million in the six months ended March 31, 2003 and 2002, respectively, with corresponding increases in deferred revenue. We also deferred the recognition of the related direct incremental commission expense and certain direct incremental travel expenses associated with installations at customer sites as well as the federal income tax provision (benefit) and allowance for doubtful accounts. Net income decreased by $1.4 million and $1.3 million in the three months ended March 31, 2003 and 2002, respectively, and by $2.0 million and $1.2 million in the six months ended March 31, 2003 and 2002, respectively.

Additional detail regarding the restatement is included in Note 7 of the Notes to the Condensed Consolidated Financial Statements included in Part I – Item 1 of this Amendment No. 1 on Form 10-Q/A.

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995.

The statements contained in this Form 10-Q/A that are not purely historical are forward looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934, including statements regarding the Company’s expectations, beliefs, hopes, intentions or strategies regarding the future. Forward looking statements include statements regarding the Company’s business strategy, timing of, and plans for, the introduction of new products and enhancements, future sales, market growth and direction, competition, market share, revenue growth, operating margins and profitability. All forward looking statements included in this document are based upon information available to the Company as of the date hereof, and the Company assumes no obligation to update any such forward looking statement. Actual results could differ materially from the Company’s current expectations. Factors that could cause or contribute to such differences include the Company’s ability to expand outside the radiation oncology market or expand into international markets, lost sales or lower sales prices due to competitive pressures, ability to integrate its products successfully with related products and systems in the medical services industry, reliance on distributors and manufacturers of oncology equipment to market its products, and other factors and risks discussed in the Company’s reports filed by the Company from time to time with the Securities and Exchange Commission.

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

The accompanying unaudited condensed consolidated financial statements of IMPAC Medical Systems, Inc. and its subsidiaries (the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three and six month periods ended March 31, 2003 are not necessarily indicative of the results that may be expected for the year ending September 30, 2003, or for any future period. The balance sheet at September 30, 2002 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. These financial statements and notes should be read with the financial statements and notes thereto for the year ended September 30, 2002 included in the Company’s Form 10-K/A for the fiscal year ended September 30, 2003.

On November 20, 2002, the Company completed an initial public offering in which it sold 1,875,000 shares of common stock at $15.00 per share for net cash proceeds of approximately $24,400,000, net of underwriting discounts, commissions and other offering costs. Upon the closing of the offering, all of the Company’s outstanding shares of redeemable convertible preferred stock automatically converted into 1,238,390 shares of common stock. In addition to the shares sold by the Company, an additional 312,500 shares were sold by selling stockholders on the date of the offering and 328,125 shares were sold by selling stockholders in the exercise of the underwriters’ over-allotment option during December 2002.

The Company’s significant accounting policies are disclosed in the Company’s Form 10-K/A for the fiscal year ended September 30, 2003. With the exception of the new significant accounting policies set forth below, the Company’s significant accounting policies have not materially changed as of March 31, 2003.

Inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market. As of March 31, 2003 and September 30, 2002, inventories are comprised entirely of finished goods.

Goodwill and other intangible assets, including customer lists and acquired workforce, are stated at cost and were amortized on a straight-line basis over their estimated useful lives of generally two to five years. Effective October 1, 2002, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets,” which establishes financial accounting and reporting for acquired goodwill and other intangible assets and supersedes Accounting Principles Board Opinion No. 17 (“APB No. 17”), “Intangible Assets.” In accordance with SFAS No. 142, the Company has ceased amortizing goodwill and instead performs an assessment for impairment at least annually by applying a fair-value based test. The Company has also reclassified the unamortized balance of acquired workforce to goodwill. Accordingly, no goodwill or acquired or acquired workforce amortization was recognized during the three and six months ended March 31, 2003. The provisions of SFAS No. 142 also required the completion of a transitional impairment test within 12 months of adoption, with any impairment treated as a cumulative effect of change in accounting principle. During the first quarter of fiscal 2003, the Company completed the transitional impairment test, which did not result in impairment of recorded goodwill.

For comparative purposes, the following table illustrates the Company’s net income (loss) available for common stockholders adjusted to exclude goodwill and acquired workforce amortization expense as if amortization had ceased October 1, 2001 (in thousands, except per share data):

Upon the closing of the Company’s initial public offering in November 2002, all outstanding shares of redeemable convertible preferred stock automatically converted into shares of common stock. Prior to the initial public offering, the carrying value of the redeemable convertible preferred stock was increased by periodic accretions using the effective interest method, so that the carrying amount would equal the redemption value at the redemption date. These increases were effected through charges against retained earnings.

In December 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — an amendment of FASB Statement No. 123” (“SFAS No. 148”) which amends FASB Statement No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”), to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The transition and annual disclosure requirements of SFAS No. 148 are effective for fiscal years ended after December 15, 2002. The interim disclosure requirements are effective for interim periods ending after December 15, 2002.

The Company uses the intrinsic value method of APB Opinion No. 25 (“APB No. 25”), “Accounting for Stock Issued to Employees,” in accounting for its employee stock options, and presents disclosure of pro forma information required under SFAS No. 123, as amended by SFAS No. 148. No compensation expense is included in the net income (loss) available for common stockholders as reported during the three and six months ended March 31, 2003 and 2002.

Had compensation costs been determined based upon the fair value at the grant date, consistent with the methodology prescribed under SFAS No. 123, the Company’s total stock-based compensation cost, pro forma net loss attributable to common stockholders and pro forma net loss per common share, basic and diluted, would have been as follows (in thousands, except per share data):

The determination of fair value of all options granted after the Company’s initial public offering include an expected volatility factor in addition to the risk free interest rate, expected term and expected dividends.

The Company’s revenue is derived primarily from two sources: (i) software license revenue, from sales to distributors and end users, and (ii) maintenance and services revenue from providing software support, education and consulting services to end users. The Company typically requires deposits upon the receipt of a signed purchase and license agreement, which are classified as customer deposit liabilities on the Company’s consolidated balance sheet.

The Company accounts for sales of software and maintenance revenue under the provisions of Statement of Position 97-2, (“SOP 97-2”), “Software Revenue Recognition,” as amended. SOP 97-2 requires revenue earned on software arrangements involving multiple elements to be allocated to each element based on vendor-specific objective evidence (“VSOE”) of the fair value of the delivered and/or undelivered elements. For hardware transactions where no software is involved, the Company applies the provisions of Staff Accounting Bulletin 101 “Revenue Recognition.”

The fee for multiple-element arrangements is allocated to each element of the arrangement, such as maintenance and support services, based on the relative fair values of the elements. The Company determines the fair value of each element in multi-element arrangements based on vendor-specific objective evidence for each element which is based on the price charged when the same element is sold separately. If evidence of fair value of all undelivered elements exists but evidence does not exist for one or more delivered elements, then revenue is recognized using the residual method. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is recognized as revenue.

The Company recognizes revenue from the sale of software licenses when persuasive evidence of an arrangement exists, the product has been accepted, the fee is fixed or determinable, and collection of the resulting receivable is probable. Acceptance generally occurs after the product has been installed, training has occurred and the product is in clinical use at the customer site. For distributor related transactions, acceptance occurs with delivery of software registration keys to the distributor’s order fulfillment department.

The first year of maintenance and support, which includes updates and support, for the Company’s software products is included in the purchase price. Upon revenue recognition, the Company defers 12% of the list price, which is the renewal rate, and recognize that portion over the remaining term of the included maintenance and support period. Fair value of services, such as training or consulting, are based upon separate sales by the Company of these services to other customers. Payments received for maintenance and services are deferred and recognized as revenue ratably over the contract term. Training and consulting services are billed based on hourly rates, and are generally recognized as revenue as these services are performed. Amounts deferred for installed and accepted software products under multiple element arrangements where VSOE of the fair value for all undelivered elements does not exist, maintenance services and term software license agreements comprise the main components of deferred revenue.

For direct software sales licensed on a term basis, the initial term lasts from three to five years with annual renewals after the initial term. The customer pays a deposit typically equal to the initial annual fee upon signing the license agreement, and the Company invoices the customer for subsequent annual fees 60 days before the anniversary date of the signed agreement. The Company recognizes revenue for the annual fees under these term license agreements ratably over the applicable twelve-month period. The annual fee includes maintenance and support.

The Company recognizes revenue from third-party products and related configuration and installation services sold with its licensed software upon acceptance by the customer. The Company recognizes revenue from third-party products sold separately from its licensed software upon delivery.

The Company has also entered into an application service provider agreement whereby the Company provides all software, equipment and support during the term of the agreement. Revenues are recognized ratably over the term of the agreement, generally 60 months. Under the terms of these agreements, the customers must pay for the final two months of the term up front. These deposits are classified as long term customer deposit liabilities on the Company’s consolidated balance sheet.

Comprehensive loss generally represents all changes in stockholders’ equity except those resulting from investments or contributions by stockholders. The Company’s unrealized gains and losses on available-for-sale securities and cumulative translation adjustments represent the components of comprehensive loss that were excluded from the net income (loss) available for common stockholders.

During the three and six months ended March 31, 2002, the only component of accumulated other comprehensive loss was the change in unrealized gains (losses) on available-for-sale securities, which was not significant. The following table lists the beginning balance, the change during the six months ended March 31, 2003 and ending balance of each component of accumulated other comprehensive loss (in thousands):

During the three and six months ended March 31, 2003, the total comprehensive net income (loss), comprised of net income (loss) available for common stockholders and accumulated other comprehensive loss, was $1,009,000 and $(534,000) respectively.

Basic net income (loss) per common share is computed by dividing net income (loss) available for common stockholders by the weighted-average number of vested common shares outstanding for the period. Diluted net income (loss) per common share is computed giving effect to all potential dilutive common stock, including options and redeemable convertible preferred stock.

A reconciliation of the numerator and denominator used in the basic and diluted net loss per share follows (in thousands).

The following outstanding options and redeemable convertible preferred stock were excluded from the computation of diluted net income (loss) per share as their effect is antidilutive (in thousands):

In November 2002, the FASB issued FASB Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” FIN 45 requires that upon issuance of a guarantee, a guarantor must recognize a liability for the fair value of an obligation assumed under a guarantee. FIN 45 also requires additional disclosures by a guarantor in its interim and annual financial statements about the obligations associated with guarantees issued. The recognition provisions of FIN 45 are effective for any guarantees issued or modified after December 31, 2002. These consolidated financial statements comply with the disclosure requirements of this interpretation.

In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF Issue No. 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF Issue No. 00-21 will apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. As the Company accounts for multiple element arrangements under the higher-level authoritative literature of Statement of Position No. 97-2, “Software Revenue Recognition,” as amended, the Company expects that the adoption of EITF Issue No. 00-21 will have no material impact on its financial position or on its results of operations.

In January 2003, the FASB issued FASB Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.” FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 is effective immediately for all new variable interest entities created or acquired after January 31, 2003. For variable interest entities created or acquired prior to February 1, 2003, the provisions of FIN 46 must be applied for the first interim or annual period beginning after June 15, 2003. The Company expects that the adoption of FIN 46 will have no material impact on its financial position or on its results of operations.

In December 2002, the Company entered into a sublease agreement to lease additional office space in Cambridge, Massachusetts. The term of the sublease is three years from the commencement date of April 4, 2003. At the time of signing, total obligations under the sublease amounted to $1,077,180 or $359,060 per year, payable in equal monthly installments.

In February 2003, the Company executed an addendum to the existing facility lease to expand the corporate headquarters facility. The addendum terminates concurrently with the original lease in March 2007. At the time of signing, total obligations under the addendum amounted to $1,717,307, or $431,424 per year, payable in equal monthly installments.

Prior to the effectiveness of the Company’s registration statement for its initial public offering, an officer of the Company sent an email to 15 friends whom he had designated as potential purchasers of common stock in a directed share program in connection with the initial public offering. The email requested that the recipients send an indication of interest to the officer. The email was not accompanied by a preliminary prospectus and may have constituted a prospectus that does not meet the requirements of the Securities Act of 1933. The email was promptly followed by telephone conversations advising recipients that they could indicate an interest in purchasing shares only after they had received a preliminary prospectus. If the email did constitute a violation of the Securities Act of 1933, the recipients of the letter who purchased common stock in the Company’s initial public offering could have the right, for a period of one year from the date of their purchase of common stock, to obtain recovery of the consideration paid in connection with their purchase of common stock or, if they had already sold the stock, sue the Company for damages resulting from their purchase of common stock. As of March 31, 2003, the Company has classified a total of 6,500 shares of common stock which have these rescission rights outside of stockholders’ equity, as the redemption features are not within the control of the Company.

On October 29, 2002, the Company’s Board of Directors and stockholders approved the reincorporation of the Company in the state of Delaware, which became effective on November 13, 2002. Under the terms of its Certificate of Incorporation, the Company is authorized to issue 60,000,000 shares of $0.001 par value common stock and 5,000,000 shares of $0.001 par value preferred stock. The Board of Directors has the authority to issue the undesignated preferred stock in one or more series and to fix the rights preferences, privileges and restrictions thereof. The accompanying condensed consolidated financial statements have been retroactively restated to give effect to the reincorporation.

The Company adopted Statement of Position (SOP) 97-2 “Software Revenue Recognition” which became effective for the Company in October 1999 for the purposes of revenue recognition. Subsequent to filing the Form 10-Q for the quarter ended March 31, 2003, management determined that the Company had recognized revenue for certain transactions prematurely. Accordingly, the Company has restated its financial statements for the three and six months ended March 31, 2003 and 2002 to shift some previously recognized revenues to later quarters and to defer other previously recorded revenues to periods subsequent to March 31, 2003.

The accounting issues that gave rise to the restatement fell into three categories. First, the Company recognized revenue from certain multiple element software contracts once individual elements had been installed, accepted and were in clinical use at the customer site. The Company has now determined that the Company did not have vendor specific objective evidence (“VSOE”) of the fair value of the undelivered elements. Accordingly, the Company should have deferred the recognition of revenue on those contracts until the Company had VSOE of the fair value for all the undelivered elements, the elements for which VSOE of the fair value did not exist had subsequently been delivered or the elements for which VSOE did not exist had been canceled.

Second, the Company recognized revenue as of the date of first clinical use, unless a customer objected in writing within five business days after first clinical use. The Company has now determined that formal acceptance could not have occurred without the passage of five days, and, hence, the Company must adjust the date of revenue recognition of delivered and accepted products forward five business days from the date of first clinical use.

Third, the Company recognized revenue for maintenance and support of perpetually licensed software products during the first year by deferring 12% of the purchase price and recognizing this amount over the 12 months following the customer’s acceptance. The Company has now determined that the Company should have deferred 12% of the current list price rather than purchase price.

As a result of the impact of changes in the timing of revenue recognition, net sales decreased by $2.6 million and $2.3 million in the three months ended March 31, 2003 and 2002, respectively, and by $3.7 million and $2.1 million in the six months ended March 31, 2003 and 2002, respectively, with a corresponding increase in deferred revenue. The Company also deferred the recognition of the related direct incremental commission expense and certain direct incremental travel expenses associated with revenue now being deferred until the related revenue is recognized and considered the deferred revenue in the determination of its allowance for doubtful accounts. The Company also revised its provision for income taxes for the effect of these matters.

As a result, the accompanying condensed consolidated financial statements have been restated from the amounts previously reported. A summary of the significant effects of the restatement is as follows:

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our consolidated financial statements and the related notes appearing in our Form 10K/A for the fiscal year ended September 30, 2003. Our discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth elsewhere in this Form 10-Q/A.

The Management’s Discussion and Analysis of Financial Condition and Results of Operations presented below reflects the effects of the restatement of our condensed consolidated financial statements for the three and six months ended March 31, 2002 and 2003, as discussed in Note 7 to the condensed consolidated financial statements.

We provide information technology systems for cancer care. Our systems provide electronic medical record, imaging, decision support, scheduling and billing applications in an integrated platform to manage the complexities of cancer care, from detection and diagnosis through treatment and follow-up. We were founded in 1990, and our growth has been primarily organic, supplemented by several product and small company acquisitions.

We sell our products directly throughout the world and primarily in North America, Europe and the Pacific Rim countries. In addition, we use non-exclusive distributors to augment our direct sales efforts. Sales through distributors represented 7.5% and 8.7% of our total net sales in the three and six months ended March 31, 2003, respectively, and 12.5% and 13.9% for the same periods in fiscal 2002, respectively, all of which were sold through Siemens Medical Systems, Inc. The decline in distributor sales as a percentage of net sales is primarily attributable to a higher growth rate in our direct sales. We have signed agreements with other distributors, which have not yet generated sales. Revenues from the sale of our products and services outside the United States accounted for 5.6% and 5.9% of our net sales in the three and six months ended March 31, 2003, respectively, and 7.8% and 9.3% of our net sales for the same periods in fiscal 2002, respectively. The decline in international sales as a percentage of net sales is primarily attributable to a higher growth rate in our domestic sales.

We license point-of-care and registry software products. Our point-of-care products are comprised of modules that process administrative, clinical, imaging and therapy delivery information. Our registry products aggregate data on patient outcomes for regulatory and corporate reporting purposes. Currently, a majority of our point-of-care software is licensed on a perpetual basis, and a majority of our registry sales is licensed on a term basis.

Our focus with regard to software licensing and maintenance and support service is to provide flexibility in the structure and pricing of our product offerings to meet the unique functional and financial needs of our customers. For those customers who license on a perpetual basis, we promote annual maintenance and support service agreements as an incremental investment designed to preserve the value of the customer’s initial investment. For those customers who license on a term basis, annual maintenance and support contributes greatly to the value of the annual license, and the two cannot be segregated from each other. For those customers using our application service provider option, independent of the licensing method, these annual fees allow the customer to outsource, in a cost effective manner, support and connectivity functions that are normally handled by internal resources.

The decision to implement, replace, expand or substantially modify an information system is a significant commitment for healthcare organizations. In addition, our systems typically require significant capital expenditures by the customer. Consequently, we experience long sales and implementation cycles. The sales cycle for our systems ranges from six to twenty-four months or more from initial contact to contract execution. Our implementation cycle generally ranges from three to nine months from contract execution to completion of implementation. In addition to the core system, approximately one-third of our customers purchase additional product modules along with the core system that they intend to implement over a period of time greater than beyond the typical implementation cycle of three to nine months.

We record orders for products licensed on a perpetual basis upon the receipt of a signed purchase and license agreement, purchase order, and a substantial deposit. We record orders for products licensed on a term basis upon

receipt of a signed purchase and license agreement, purchase order and a deposit typically equal to the first year’s fees. All contract deposits are held as a liability as outlined in the terms and conditions set forth in the purchase and license agreement. Maintenance and support is recorded as deferred revenue upon the invoice date and held as a current liability on the balance sheet. Under the terms of the original purchase and license agreement, maintenance and support automatically renews on an annual basis unless the customer provides a written cancellation. We recognize revenue from these sales ratably over the underlying maintenance period.

For direct software sales licensed on a perpetual basis, we include one year of maintenance and support as part of the purchase price. Standard annual fees for maintenance and support after the first year equal 12% of the then current list price unless the customer negotiates other terms or service levels.

We recognize revenue once software products have been installed, accepted and are in clinical use at the customer site. When a customer accepts only a subset of the products outlined in a multiple-element purchase and license agreement and we have not established vendor specific objective evidence, or VSOE, of the fair value of the undelivered elements, we invoice the customer for the accepted products and record the transaction as deferred software license revenue. We recognize the deferred revenue when all elements in a multiple-element arrangement have been accepted, VSOE of the fair value is established on the remaining undelivered elements, or the undelivered elements for which VSOE of the fair value does not exist have been canceled, whichever occurs first.

The first year of maintenance and support for our software products is included in the purchase price. Upon revenue recognition, we defer 12% of the list price and recognize that portion over the remaining term of the included maintenance and support period. For example, if revenue recognition occurs four months subsequent to product acceptance, we would recognize one-third of the 12% maintenance and support deferral as revenue and recognize the remaining two-thirds of the deferral over the following eight months. In situations where the first phase of software products are installed more than one year before our ability to recognize the related revenue, it is not necessary to defer 12% of the list price and recognize that portion over the included maintenance and support period as the first year maintenance and support obligation is no longer applicable. In these cases, however, 12% of the list price is classified as maintenance and services revenue at the time of revenue recognition.

For direct software sales licensed on a term basis, the initial term lasts from three to five years with annual renewals after the initial term. The customer pays a deposit typically equal to the initial annual fee upon signing the license agreement, and we invoice the customer for subsequent annual fees 60 days before the anniversary date of the signed agreement. We recognize revenue for the annual fees under these term license agreements ratably over the applicable twelve-month period. The purchase price includes annual maintenance and support.

We recognize revenue from third-party products and related configuration and installation services sold with our licensed software upon acceptance by the customer. We recognize revenue from third-party products sold separately from our licensed software upon delivery. Third-party products represented 5.4% and 4.9% of our total net sales in the three and six months ended March 31, 2003, respectively, and 6.0% and 4.5% for the same period in fiscal 2002, respectively. The increase in third-party sales as a percentage of net sales is attributable to a higher growth rate in our third-party product sales.

We recognize distributor related revenues upon the receipt of a completed purchase order and the related customer information needed to generate software registration keys, which allow us to distribute the software to the end user and satisfy our regulatory information tracking requirements. We provide maintenance and support to our primary distributor. The distributor’s cost of the first year’s support is included in the transfer fee. Renewal support is purchased for 5% of the transfer price. For software licenses sold to their customers, we defer the distributor’s first year post-contract support, based on the renewal rate, and recognize that portion of the revenue ratably over the support period. We invoice renewal maintenance and support annually to our distributor at the beginning of each fiscal year and recognize the revenue ratably over the applicable twelve-month period.

A large part of our company cost structure is driven by the number of employees and all related benefit and facility costs. As a result, a significant amount of strategic and fiscal planning is focused on this area, so we can develop internal resources at a controlled and sustainable rate. Since revenue recognition happens subsequent to all implementation and training activities, we incur the costs of labor, travel and some third-party product expenses in advance.

System installations require several phases of implementation in the process of accepting product delivery and have led to our development of a highly specialized client service organization. All new orders require multiple site visits from our personnel to properly install, configure and train customer personnel. In transactions where we are required to defer the recognition of software license revenue, the associated incremental direct travel expenses are recorded as a prepaid expense until the associated revenue is recognized. Several point-of-care products are used with various third-party hardware and software products that are also sold and configured during the implementation process. After the initial implementation process, our application support staff provides phone support and any applicable system updates. A substantial percentage of engineering costs are allocated to client services due to continuing engineering efforts related to the support and enhancement of our products. Historically, cost of sales has increased at approximately the same rate as net sales. However, as newly developed products and acquired product lines are released to the customers, additional investments in client service staff could cause gross margins to fluctuate.

Research and development expenses include costs associated with the design, development and testing of our products. These costs consist primarily of:

We currently expense all research and development costs as incurred. Our research and development efforts are periodically subject to significant non-recurring costs that can cause fluctuations in our quarterly research and development expense trends. We expect that research and development expenses will increase in absolute dollars for the foreseeable future as we continue to invest in product development.

We have recently expanded our sales force, made significant investments in marketing communications and increased trade show activities to enhance market awareness of our products. We expect that sales and marketing expenses will increase in absolute dollars for the foreseeable future as we continue to expand our sales and marketing capabilities. In transactions where we are required to defer the recognition of software license revenue, the associated incremental direct commission expense is recorded as a prepaid expense until the associated revenue is recognized.

A significant portion of facility, infrastructure and maintenance costs are allocated as overhead to other functions based on distribution of headcount. Our general and administrative expenses increased after our initial public offering, and we expect these expenses will remain higher in absolute dollars in the future.

Our property and equipment is recorded at our cost minus accumulated depreciation and amortization. We depreciate the costs of our tangible capital assets on a straight-line basis over the estimated economic life of the asset, which is generally three to seven years. Acquisition related intangible assets have historically been amortized based upon the estimated economic life, which is generally two to five years. Leasehold improvements and equipment purchased through a capital lease are amortized over the life of the related asset or the lease term, if shorter. If we sell or retire an asset, the cost and accumulated depreciation is removed from the balance sheet and the appropriate gain or loss is recorded. We expense repair and maintenance costs as incurred.

From September 27, 2002 until our initial public offering, the holders of a majority of our then outstanding redeemable convertible preferred stock could have required us to redeem the preferred shares by paying in cash an amount equal to the greater of $3.23 per share or the fair market value plus all declared or accumulated but unpaid dividends within thirty days. These shares automatically converted to common stock upon the closing of our initial public offering in November 2002. We accreted charges that reflected the increase in market value of the redeemable convertible preferred stock as an adjustment to retained earnings and, as a result, increased the amount of net loss attributable to common stockholders. After the initial public offering, no further accretion has been required. The redemption value of the redeemable convertible preferred stock was $16.7 million at the time of the initial public offering. This amount was reclassified on our balance sheet from redeemable convertible preferred stock to common stock and additional paid-in capital upon the closing of the initial public offering.

We adopted Statement of Position (SOP) 97-2 “Software Revenue Recognition” which became effective for us in October 1999 for the purposes of revenue recognition. Subsequent to filing the Form 10-Q for the quarter ended March 31, 2003, management determined that we recognized revenue for certain transactions prematurely. Accordingly we have restated our financial statements for the three and six months ended March 31, 2002 and 2003 to shift some previously recognized revenues to later quarters and to defer other previously recorded revenues to periods subsequent to March 31, 2003.

The accounting issues that gave rise to the restatement fell into three categories. First, we recognized revenue from certain multiple element software contracts once individual elements had been installed, accepted and were in clinical use at the customer site. We have now determined that we did not have vendor specific objective evidence (“VSOE”) of the fair value of the undelivered elements. Accordingly, we should have deferred the recognition of revenue on those contracts until we had VSOE of the fair value for all the undelivered elements, the elements for which VSOE of the fair value did not exist had subsequently been delivered or the elements for which VSOE did not exist had been canceled.

Second, we recognized revenue as of the date of first clinical use, unless a customer objected in writing within five business days after first clinical use. We have now determined that formal acceptance could not have occurred without the passage of five days, and, hence, we must adjust the date of revenue recognition of delivered and accepted products forward five business days from the date of first clinical use.

Third, we recognized revenue for maintenance and support of perpetually licensed software products during the first year by deferring 12% of the purchase price and recognizing this amount over the 12 months following the customer’s acceptance. We have now determined that we should have deferred 12% of the current list price rather than purchase price.

Details regarding the restatement are discussed further in Note 7 to the condensed consolidated financial statements.

The following table sets forth certain operating data as a percentage of net sales for the periods indicated:

Net Sales. Net sales increased 32.9% to $12.7 million in the three months ended March 31, 2003 from $9.6 million for the same period in fiscal 2002. Net software related sales increased 26.6% to $7.8 million in the three months ended March 31, 2003 from $6.2 million for the same period in fiscal 2002. Sales of additional new products in oncology accounted for $931,000 of the $1.6 million increase, sales of imaging systems accounted for $799,000, and the remaining increase is attributed to new sales in registry and laboratory software. Maintenance and services sales also increased 44.3% to $4.9 million for the three months ended March 31, 2003 from $3.4 million for the same period in fiscal 2002. Maintenance and support contracts contributed $1.3 million of the $1.5 million increase and additional training and installation contributed $114,000. Our continued high customer retention on maintenance and support contracts, the general price increase, and expansion of our service offerings all contributed to the growth of maintenance and services as a percentage of net sales. For a discussion of Deferred Revenue, see Backlog below.

Cost of Sales. Total cost of sales increased 41.3% to $4.0 million for the three months ended March 31, 2003 from $2.8 million for the same period in fiscal 2002. Our gross margin decreased to 68.2% for the three months ended March 31, 2003 from 70.1% for the same period in fiscal 2002. Cost of sales relating to net software sales increased 23.9% to $2.4 million for the three months ended March 31, 2003 from $1.9 million for the same period in fiscal 2002. Our gross margin associated with net software sales increased slightly at 69.8% for the three months ended March 31, 2003 compared to 69.1% for the same period in fiscal 2002. The increase in expenses was related to $278,000 in employee costs and $153,000 in supplies and materials. Cost of sales relating to maintenance and services increased 76.2% to $1.7 million for the three months ended March 31, 2003 from $950,000 for the same period in fiscal 2002. Our gross margin associated with maintenance and services decreased to 65.6% for the three months ended March 31, 2003 from 71.9% for the same period in fiscal 2002. The increase in expenses of $724,000 was related to $296,000 in employee related expenses, $201,000 in telecommunication costs associated with our data center operations, $149,000 in continuing engineering costs, and $57,000 in travel expenses. Planned investment in our support organization to accommodate the application service provider agreement signed with US Oncology and continued development of our direct international support presence for the three months ended March 31, 2003 contributed to the decline in our gross margin associated with maintenance and services. During the three months ended March 31, 2003, we deferred $174,000 in direct incremental travel expenses associated with software installation and training trips compared to $128,000 during the same period in fiscal 2002. We expect to recognize the deferred travel expenses once the associated product revenues are recognized.

Research and Development. Research and development expenses increased 16.8% to $2.4 million for the three months ended March 31, 2003 from $2.0 million for the same period in fiscal 2002. As a percentage of total net sales, research and development expenses decreased to 18.6% for the three months ended March 31, 2003 from 21.1% for the same period in fiscal 2002. Additional engineering headcount and the associated personnel expenses were the primary factors for the increase in absolute dollars. The decrease as a percentage of total net sales in the three months ended March 31, 2003 was due to increased net sales relative to research and development expenses.

Sales and Marketing. Sales and marketing expenses increased 12.3% to $3.3 million for the three months ended March 31, 2003 from $3.0 million for the same period in fiscal 2002. As a percentage of total net sales, sales and marketing expenses decreased to 26.2% for the three months ended March 31, 2003 from 31.0% for the same period in fiscal 2002. The increase in expenses related to $166,000 in travel expenses, $137,000 in employee related costs, $85,000 in commission expense, $16,000 in advertising expense, and $7,000 in telephone costs partially offset by a $24,000 reduction in outside services for marketing communications and a $19,000 reduction in sponsorships. The decrease as a percentage of total net sales in the three months ended March 31, 2003 was due to increased net sales relative to sales and marketing expenses. During the three months ended March 31, 2003, we deferred $93,000 in direct incremental commission expenses compared to $136,000 during the same period in fiscal 2002. We expect to recognize the deferred commission expenses once the associated product revenues are recognized.

General and Administrative. General and administrative expenses increased 21.2% to $1.4 million for the three months ended March 31, 2003 from $1.2 million for the same period in fiscal 2002. As a percentage of total net sales, general and administrative expenses decreased to 11.3% for the three months ended March 31, 2003 from 12.3% for the same period in fiscal 2002. The increase in absolute dollars was primarily due to increases in business insurance premiums of $161,000, an increase in our allowance for doubtful accounts of $136,000, an increase in outside professional service fees of $64,000 and regulatory fees of $17,000 offset by a decrease in travel expenses of $20,000, a decrease in telephone expenses of $6,000 and a decrease in maintenance expenses of $3,000. The increase in the allowance for doubtful accounts was related to the overall increase in our accounts receivable balance at March 31, 2003.

Amortization of Intangible Assets. Amortization expenses decreased 20.8% to $103,000 for the three months ended March 31, 2003 from $130,000 for the same period in fiscal 2002. Our acquisition of Intellidata, Inc. in April 2002 increased amortization expense as it relates to developed/core technology, customer base and a covenant-not-to-compete. No goodwill is included in the amortization related to this transaction. In compliance with Statement of Financial Accounting Standards (“SFAS”) No. 142 “Goodwill and other Intangible Assets,” we have ceased amortization of goodwill and acquired workforce effective October 1, 2002 and this has resulted in an overall decline in total amortization expense for the three month period.

Operating Income. Operating income increased 253.8% to $1.4 million for the three months ended March 31, 2003 from $407,000 for the same period in fiscal 2002. Operating income increased significantly due to the higher rate of increase in net sales relative to the rate of increase in operating expenses.

Interest and Other Income, Net. Interest and other income, net increased 68.3% to $138,000 for the three months ended March 31, 2003 from $82,000 for the same period in fiscal 2002. The increase is primarily related to additional cash balances being invested from our public offering proceeds.

Income Taxes. Our effective tax rate was increased slightly to 34.9% during the three months ended March 31, 2003 from 34.6% during the same period in fiscal 2002. The increase in absolute dollars was due primarily to higher operating income.

Accretion of Redeemable Convertible Preferred Stock. Historically, each reporting period, the carrying value of the redeemable convertible preferred stock has been increased by periodic accretions, using the effective interest method, so that the carrying amount would equal the redemption value at the redemption date. These increases were effected through charges against retained earnings. Several factors have influenced our determination of the value of the redeemable convertible preferred stock. These factors included plans for the initial public offering, the performance of our business, changes in our business model and significant product introductions, current market conditions and the performance of the stock price of our comparable companies. During the three months ended March 31, 2002, we recorded accretion charges of $3.2 million, representing the increase in the redemption value of the Series A redeemable convertible preferred stock. Upon the closing of our initial public offering in November 2002, all shares of our redeemable convertible preferred stock automatically converted into an equal number of shares of common stock. Therefore, we did not incur accretion charges related to the Series A redeemable convertible preferred stock during the three months ended March 31, 2003.

Net Sales. Net sales increased 29.9% to $23.8 million in the six months ended March 31, 2003 from $18.4 million for the same period in fiscal 2002. Net software related sales increased 25.9% to $14.5 million in the six months ended March 31, 2003 from $11.5 million for the same period in fiscal 2002. New system sales in oncology accounted for $1.1 million of the $3.0 million increase, sales of imaging systems accounted for $844,000 sales of additional new products in oncology accounted for $906,000, and the remaining increase was attributed to new sales in registry, urology and laboratory software. Maintenance and services also increased 36.6% to $9.3 million for the six months ended March 31, 2003 from $6.8 million for the same period in fiscal 2002. Maintenance and support contracts contributed $2.2 million of the $2.5 million increase and additional training and installation contributed $193,000. Our continued high customer retention on maintenance and support contracts, the general price increase, and expansion of our service offerings all contributed to the growth of maintenance and services as a percentage of net sales. For a discussion of Deferred Revenue, see Backlog below.

Cost of Sales. Total cost of sales increased 42.1% to $7.7 million for the six months ended March 31, 2003 from $5.4 million for the same period in fiscal 2002. Our gross margin decreased to 67.5% for the six months ended March 31, 2003 from 70.3% for the same period in fiscal 2002. Cost of sales relating to net software sales increased 19.5% to $4.4 million for the six months ended March 31, 2003 from $3.6 million for the same period in fiscal 2003. Our gross margin associated with net software sales increased to 70.0% for the six months ended March 31, 2003 from 68.4% for the same period in fiscal 2002. The increase in expenses related to $431,000 in employee costs and $264,000 in supplies and materials. The improvement in gross margins associated with net software sales relates to stronger demand for implementation of new systems during the six months ended March 31, 2003, a slight delay in recruiting qualified personnel, as well as efficiencies gained by organizational improvements during fiscal 2002. Cost of sales relating to maintenance and services increased 87.7% to $3.4 million for the six months ended March 31, 2003 from $1.8 million for the same period in fiscal 2002. Our gross margin associated with maintenance and services decreased to 63.8% for the six months ended March 31, 2003 from 73.7% for the same period in fiscal 2002. The increase in expenses was associated with $674,000 in employee related expenses, $350,000 in continuing engineering costs, $400,000 in telecommunication costs associated with our data center operations, $109,000 in travel expenses, and $43,000 in supplies. Planned investment in our support organization to accommodate the application service provider agreement signed with US Oncology and continued development of our direct international support presence for the six months ended March 31, 2003 contributed to the decline in our gross margin associated with maintenance and services. During the six months ended March 31, 2003, we deferred $221,000 in direct incremental travel expenses associated with software installation and training trips compared to $89,000 during the same period in fiscal 2002. We expect to recognize the deferred travel expenses once the associated product revenues are recognized.

Research and Development. Research and development expenses increased 19.7% to $4.5 million for the six months ended March 31, 2003 from $3.7 million for the same period in fiscal 2002. As a percentage of total net sales, research and development expenses decreased to 18.7% for the six months ended March 31, 2003 from 20.4%

for the same period in fiscal 2002. Additional engineering headcount and the associated personnel expenses were the primary factors for the increase in absolute dollars. The decrease as a percentage of total net sales in the six months ended March 31, 2003 was due to increased net sales relative to research and development expenses.

Sales and Marketing. Sales and marketing expenses increased 11.7% to $6.5 million for the six months ended March 31, 2003 from $5.8 million for the same period in fiscal 2002. As a percentage of total net sales, sales and marketing expenses decreased to 27.2% for the six months ended March 31, 2003 from 31.6% for the same period in fiscal 2002. The increase in expenses related to $299,000 in commissions due to higher sales, $272,000 in employee related costs, $244,000 in travel expenses, $27,000 in telephone costs and $14,000 in trade show expenses offset by a $129,000 reduction in outside services for marketing communications and $41,000 in sponsorships. The decrease as a percentage of total net sales in the six months ended March 31, 2003 was due to increased net sales relative to sales and marketing expenses, the cyclical nature of trade show spending and a slight delay in recruiting qualified sales staff. During the six months ended March 31, 2003, we deferred $105,000 in direct incremental commission expenses compared to $123,000 during the same period in fiscal 2002. We expect to recognize the deferred commission expenses once the associated product revenues are recognized.

General and Administrative. General and administrative expenses increased 28.3% to $2.5 million for the six months ended March 31, 2003 from $2.0 million for the same period in fiscal 2002. As a percentage of total net sales, general and administrative expenses decreased slightly to 10.6% for the six months ended March 31, 2003 from 10.8% for the same period in fiscal 2002. The increase in absolute dollars was primarily due to increases in business insurance premiums of $223,000, an increase in our allowance for doubtful accounts of $186,000, employee related expenses of $114,000, professional service fees of $75,000, travel expenses of $58,000, rent expense of $50,000, depreciation expense of $36,000, outside services of $27,000, and regulatory fees of $27,000. The increase in the allowance for doubtful accounts was related to the overall increase in our accounts receivable balance at March 31, 2003.

Amortization of Intangible Assets. Amortization expenses decreased 7.2% to $205,000 for the six months ended March 31, 2003 from $221,000 for the same period in fiscal 2002. Our acquisition of Intellidata in April 2002 increased amortization expense as it relates to developed/core technology, customer base and a covenant-not-to-compete. No goodwill is included in the amortization related to this transaction. In compliance with SFAS No. 142, we have ceased amortization of goodwill and acquired workforce effective October 1, 2002 and this has resulted in an overall decline in total amortization expense for the six month period.

Operating Income. Operating income increased 105.9% to $2.4 million for the six months ended March 31, 2003 from $1.2 million for the same period in fiscal 2002. Operating income increased significantly due to the higher rate of increase in net sales relative to the rate of increase in operating expenses.

Interest and Other Income, Net. Interest and other income, net increased 13.2% to $215,000 for the six months ended March 31, 2003 from $190,000 for the same period in fiscal 2002. The increase is primarily related to additional cash balances being invested from our public offering proceeds offset by lower interest income from investments in short and long-term marketable securities resulting from lower interest rates in the 2003 period.

Income Taxes. Our effective tax rate was increased slightly to 34.9% during the six months ended March 31, 2003 from 34.6% during the same period in fiscal 2002. The increase in absolute dollars was due primarily to higher operating income.

Accretion of Redeemable Convertible Preferred Stock. Historically, each reporting period, the carrying value of the redeemable convertible preferred stock has been increased by periodic accretions, using the effective interest method, so that the carrying amount would equal the redemption value at the redemption date. These increases were effected through charges against retained earnings. Several factors have influenced our determination of the value of the redeemable convertible preferred stock. These factors included plans for the initial public offering, the performance of our business, changes in our business model and significant product introductions, current market conditions and the performance of the stock price of our comparable companies. During the six months ended March 31, 2003, we recorded accretion charges of $2.2 million, all of which was incurred during the first quarter in the time period leading up to the initial public offering. This represents a 55.3% decrease from the accretion charges incurred in the six months ended March 31, 2002 of $5.0 million. Upon the closing of our initial public offering in November 2002, all shares of our redeemable convertible preferred stock automatically converted into an equal number of shares of common stock. Therefore, we have not incurred, nor will we incur, accretion charges related to the Series A redeemable convertible preferred stock after our initial public offering.

Our backlog is comprised of customer deposits, deferred software license revenue, other deferred revenue and unearned revenue. Customer deposits represent required deposits paid by our customers when they place orders. These deposits are held as a liability until revenue recognition. Deferred software license revenue represents the revenues on installed, accepted and invoiced products that we cannot yet recognize because the products installed were only a subset of the products outlined in a multiple element arrangement for which we do not have VSOE of the fair value on all of the undelivered elements. The amounts classified as deferred software license revenue will be recognized as revenue once we establish VSOE of the fair value on the remaining undelivered elements, the remaining elements for which VSOE of the fair value does not exist have been installed and accepted or the remaining elements for which VSOE of the fair value does not exist have been canceled, whichever occurs first. Other deferred revenue represents maintenance and support services and term licenses which are generally recognized ratably over the support period and license term, respectively. Unearned revenue represents the value of products ordered but not installed or accepted in excess of the contract deposit. Orders are recognized only once we have received a signed purchase and license agreement, an authorized purchase order and a deposit check. Therefore, amounts in our sales pipeline that have not met all three order recognition criteria are not included in our backlog.

The components of backlog as of March 31, 2003 and 2002 are as follows (amounts in thousands):

Of the total $53.3 million of backlog at March 31, 2003, we expect to recognize approximately $50.0 million of our backlog during the twelve months following March 31, 2003 with the remaining portion to be completed in subsequent periods. We cannot assure you that contracts included in backlog will generate the specified revenues or that these revenues will be fully recognized within the specified time periods.

Deferred revenue increased $8.5 million to $23.4 million for the twelve months ended March 31, 2003 from $14.9 million at March 31, 2002. Of the $8.5 million increase, deferred software license revenue and the related deferred maintenance and support contributed $6.1 million. This increase was comprised of $3.5 million of new installations in oncology, $1.5 million in imaging systems and $529,000 in new products to existing customers. The remaining $2.5 million was associated with other deferred revenue related to term licenses and post contract maintenance and support.

After giving effect to the restatement, we continue to experience a seasonal pattern in our revenues, with our first quarter typically having the lowest revenues followed by increasing revenue growth in the subsequent quarters of our fiscal year. Although our seasonality is less pronounced after the restatement, we believe the seasonality of our revenue continues to be influenced by the year end of many of our customers’ budgetary cycles. As much of the labor and indirect expense associated with software systems for which revenue has been deferred are not matched with the subsequent revenue recognition, net income does not display a clear and predictable seasonal pattern.

In addition, the implementation of a significant contract previously included in backlog, or a contract intended to be installed in a phased manner over a longer than average time period, could generate a large increase in revenue and net income for any given quarter or fiscal year, which may prove unusual when compared to changes in revenue and net income in other periods. Furthermore, we typically experience long sales cycles for new customers, which may extend over several quarters before a sale is consummated and a customer implementation occurs. As a result, we believe that quarterly results of operations will continue to fluctuate and that quarterly results may not be indicative of future periods. The timing of revenues is influenced by a number of factors, including the timing of individual orders, customer implementations and seasonal customer buying patterns.

We have financed our operations since inception primarily through cash from operating activities, a $4.0 million private placement of equity in 1996 and in November 2002, we received net proceeds of $24.4 million from our initial public offering of common stock. Cash, cash equivalents and available-for-sale securities were $52.0 million at March 31, 2003.

During the six months ended March 31, 2003, net cash provided by operating activities was $1.1 million compared to $3.4 million for the same period in fiscal 2002. In the six months ended March 31, 2003, cash provided by operations was primarily attributable to increases in sales leading to a higher net income after adjustment for the non-cash charges relating to depreciation and amortization, a decrease in prepaid expenses and other current assets and an increase in deferred revenue, offset by an increase in accounts receivable due to higher sales and a decrease in income taxes payable. In the six months ended March 31, 2002, cash provided by operations was primarily attributable to increases in sales leading to a higher net income after adjustment for the non-cash charges relating to depreciation and amortization, an increase in customer deposits and increases in income taxes payable and deferred revenue, offset by an increase in accounts receivable due to higher sales and a decrease in accrued liabilities.

In determining average days’ sales outstanding and accounts receivable turnover, we use our gross annual invoicing and gross accounts receivable balances in each calculation as we believe this provides a more conservative and relevant measurement basis due to the significance of our deferred revenue. Our accounts receivable turnover decreased to 4.5 for the six months ended March 31, 2003 from 5.3 for the same period in fiscal 2002. Our days’ sales outstanding at March 31, 2003 increased to 79 from 68 at March 31, 2002. We believe that the overall increase in sales for the six months ended March 31, 2003 as compared to the same period in fiscal 2002 have impacted the calculation of accounts receivable turnover and days sales outstanding ratios. We continue our efforts to improve collections by maintaining appropriate staffing levels, formalizing escalation procedures, and improving internal communications. Revenue is only recognized when all of the criteria for revenue recognition have been met which is upon acceptance and invoicing of the final balance of the fee unless the invoice has payment terms extending longer than 60 days. Any invoice that has payment terms longer than 60 days is considered to have extended payment terms and is not be recognized as a receivable or revenue until it is due and payable.

Net cash used in investing activities was $1.3 million for the six months ended March 31, 2003 and $1.0 million for the same period in fiscal 2002. During the six months ended March 31, 2003, cash used in investing activities primarily related to the purchase of $1.1 million of capital equipment to support ongoing operations. During the six months ended March 31, 2002, cash used in investing activities primarily related to the purchase of $560,000 in capital assets and $500,000 in payments relating to the acquisition of MC².

Net cash provided by financing activities was $25.0 million for the six months ended March 31, 2003, compared to net cash used in financing activities of $11,000 for the same period in fiscal 2002. Cash provided by financing activities during the six months ended March 31, 2003 can be attributed primarily to net proceeds of $24.4 million received in our initial public offering during November 2002. During the six months ended March 31, 2002, cash used in financing activities can be attributed to principal payments on our capital lease of $28,000 and repurchases of common stock in the amount of $21,000, offset from proceeds received from stock option exercises of $38,000.

In fiscal 2000, we entered a capital lease for the purchase of furniture for our corporate headquarters. This capital lease is scheduled to be fully repaid in February 2005. The interest rate for this financing is 13.54% per year and equates to an aggregate monthly payment of $7,000. As of March 31, 2003, the principal balance outstanding on the capital lease totaled $148,000. We have granted a security interest to the lenders in all furniture covered by this lease.

The following table describes our commitments to settle contractual obligations in cash not recorded on the balance sheet as of March 31, 2003 (in thousands). The telecommunications contracts with AT&T include wireless, frame-relay, voice/data and internet transport services.

We expect to increase capital expenditures consistent with our anticipated growth in infrastructure and personnel. We also may increase our capital expenditures as we expand our product lines or invest in new markets. We believe that the net proceeds from the common stock sold in the initial public offering, together with available funds and cash generated from operations will be sufficient to meet our operating requirements, assuming no change in the operations of our business, for at least the next 18 months.

In November 2002, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” FIN 45 requires that upon issuance of a guarantee, a guarantor must recognize a liability for the fair value of an obligation assumed under a guarantee. FIN 45 also requires additional disclosures by a guarantor in its interim and annual financial statements about the obligations associated with guarantees issued. The recognition provisions of FIN 45 are effective for any guarantees issued or modified after December 31, 2002. These consolidated financial statements comply with the disclosure requirements of this interpretation.

In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF Issue No. 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF Issue No. 00-21 will apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. As we account for multiple element arrangements under the higher-level authoritative literature of Statement of Position No. 97-2, “Software Revenue Recognition,” as amended, we expect that the adoption of EITF Issue No. 00-21 will have no material impact on our financial position or on our results of operations.

In January 2003, the FASB issued FASB Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.” FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 is effective immediately for all new variable interest entities created or acquired after January 31, 2003. For variable interest entities created or acquired prior to February 1, 2003, the provisions of FIN 46 must be applied for the first interim or annual period beginning after June 15, 2003. We believe that the adoption of this FIN 46 will have no material impact on our financial position or on our results of operations.

The following discusses our exposure to market risk related to changes in interest rates and foreign currency exchange rates. These exposures may change over time as business practices evolve and could have a material adverse impact on our financial results.

We have been exposed to interest rate risk as it applies to our limited use of debt instruments and interest earned on holdings of long and short-term marketable securities. Interest rates that may affect these items in the future will depend on market conditions and may differ from the rates we have experienced in the past. A 10% change in interest rates would not be material to our results of operations. We reduce the sensitivity of our results of operations to these risks by maintaining an investment portfolio, which is primarily comprised of highly rated, short-term investments. We do not hold or issue derivative, derivative commodity instruments or other financial instruments for trading purposes.

We have operated mainly in the United States and greater than 99% of our sales were made in U.S. dollars in each of the six months ended March 31, 2003 and 2002. Accordingly, we have not had any material exposure to foreign currency rate fluctuations. Currently, all of our international distributors denominate all transactions in U.S. dollars. However, as we sell to customers in the United Kingdom and Europe through our recently formed UK subsidiary a majority of those sales may be denominated in euros or pounds sterling. The functional currency of our new UK subsidiary is pounds sterling. Thus, exchange rate fluctuations between the euro and pounds sterling will be recognized in the statements of operations as these foreign denominated sales are remeasured by our UK subsidiary. As exchange rate fluctuations occur between pounds sterling and the U.S. dollar, these fluctuations will be recorded as cumulative translation adjustments within stockholders’ equity as a component of accumulated other comprehensive income (loss) as our UK subsidiary is translated into U.S. dollars for consolidation purposes.

Joseph Jachinowski, our Chief Executive Officer, and Kendra Borrego, our Chief Financial Officer, conducted an evaluation of the effectiveness of IMPAC’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended) as of March 31, 2003. Based upon their evaluation, they each found the Company’s disclosure controls and procedures were adequate to ensure that information required to be disclosed in the reports that IMPAC files and submits under the Exchange Act is recorded, processed, summarized and reported as and when required, and that information required to be disclosed is accumulated and communicated to them as appropriate to allow timely decisions regarding required disclosure.

As described in Note 7 of the notes to the condensed consolidated financial statements included in Part I – Item 1 of this Form 10-Q/A, subsequent to the issuance of IMPAC’s condensed consolidated financial statements for the quarter ended March 31, 2002, our management determined to restate our consolidated financial statements as of and for the quarters ended March 31, 2003 and 2002, to shift some previously recognized revenues to later quarters or to defer recorded revenues and recognize them in periods subsequent to March 31, 2003.

In connection with restating our financial statements as provided in this report, our Chief Executive Officer and Chief Financial Officer, with the participation of other management, re-evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report and as of the date of this report. During the restatement, our independent auditors, PricewaterhouseCoopers LLP, advised management and the Audit Committee that it noted certain matters regarding software revenue recognition practices during the periods under review that it considered to be material weaknesses. As part of the re-evaluation, we have conducted an extensive internal review of our revenue recognition practices for all periods for which financial statements are included in this report. Among other things, this involved the review of each of the over 1,500 customer contracts entered into since October 1, 1999.

Based on the re-evaluation by our Chief Executive Officer and Chief Financial Officer, they concluded that, as of the end of the period covered by this report, there were deficiencies in our disclosure controls and procedures.

As part of our disclosure controls and procedures over the selection and application of accounting principles, in particular software revenue recognition under SOP 97-2, our accounting officers independently reviewed SOP 97-2 together with other accounting literature, consulted with our independent auditing firm regarding revenue recognition and accounting developments, attended continuing education courses for the accounting profession and reviewed various accounting journals and other literature with respect to the existence of new accounting pronouncements and their application to IMPAC.

These controls and procedures were found to be deficient in identifying the accounting issues which are the subject of the restatement. Specifically, the controls and procedures did not result in (i) our proper understanding of the application of SOP 97-2 for multiple element contracts, (ii) the identification of an improper usage of a retroactive acceptance clause resulting in revenue being recognized in the incorrect period and (iii) the deferral of 12% of the current list price of the software rather than 12% of the net purchase price.

In response to the matters identified, we have taken steps to strengthen control processes and procedures to identify, rectify and prevent the recurrence of the circumstances that resulted in our determination to restate prior period financial statements. We intend to correct the identified weaknesses in our disclosure controls and procedures that led to the restatement by taking the following steps, among others:

We believe changes to our system of internal controls and our disclosure controls and procedures will be adequate to provide reasonable assurance that the objectives of these control systems will be met. However, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake.

Our registration statement (Registration No. 333-89724) under the Securities Act of 1933, as amended, for our initial public offering became effective on November 19, 2002. A total of 2,515,625 shares of common stock were registered, and we sold 1,875,000 shares of our common stock to an underwriting syndicate. Thomas Weisel Partners LLC, SG Cowen Securities Corporation and U.S. Bancorp Piper Jaffray Inc. were the managing underwriters of the offering. An additional 640,625 shares of common stock were sold on behalf of selling stockholders as part of the same offering. All shares were sold to the public at a price of $15.00 per share. In connection with the offering, we paid approximately $2.0 million in underwriting discounts and commissions to the underwriters. Offering proceeds, net of aggregate costs to us of approximately $1.8 million, were approximately $24.4 million. We intend to use the net proceeds of the offering for working capital and to expand our business generally, including possible acquisitions.

The audit committee has reviewed the range of services provided by PricewaterhouseCoopers LLP to the Company for both historic and proposed projects. In addition to audit services for the Company and all wholly owned subsidiaries, PricewaterhouseCoopers LLP is authorized to provide services related to federal and state tax compliance and any transaction services that may be needed in connection with due diligence projects.

There were no reports on form 8-K filed during the three month period ended March 31, 2003.

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

IMPAC MEDICAL SYSTEMS, INC.

Registrant

Dated: April 16, 2004

/s/ JOSEPH K. JACHINOWSKI

Joseph K. Jachinowski

Chairman of the Board, President and

Chief Executive Officer

/s/ KENDRA A. BORREGO

Kendra A. Borrego

Chief Financial Officer


		Page
PART I. FINANCIAL INFORMATION

Item 1.	Condensed Consolidated Financial Statements (unaudited)	1

	Condensed Consolidated Balance Sheets as of March 31, 2003 and September 30, 2002	1

	Condensed Consolidated Statements of Operations for the Three and Six Months Ended March 31, 2003 and 2002	2

	Condensed Consolidated Statements of Cash Flows for the Six Months Ended March 31, 2003 and 2002	3

	Notes to Condensed Consolidated Financial Statements	4

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	21

Item 4.	Controls and Procedures	22

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	24

Item 2.	Changes in Securities and Use of Proceeds	24

Item 3.	Defaults Upon Senior Securities	24

Item 4.	Submission of Matter to a Vote of Securities Holders	24

Item 5.	Other Information	24

Item 6.	Exhibits and Reports on Form 8-K	24

Signatures		25


	March 31, 2003			September 30, 2002
(In thousands)	(Restated)
	(See Note 7)
Assets
Current assets:
Cash and cash equivalents	$	48,227		$	23,432
Available-for-sale securities		458			385
Accounts receivable, net		12,555			8,086
Inventories		64			86
Deferred income taxes, net		5,354			4,098
Income tax refund receivable		685			686
Prepaid expenses and other current assets		4,296			4,316

Total current assets		71,639			41,089

Available-for-sale securities		3,265			3,156
Property and equipment, net		3,565			3,379
Deferred income taxes		864			864
Goodwill and other intangible assets, net		1,704			1,892
Other assets		529			341

Total assets	$	81,566		$	50,721

Liabilities, Redeemable Convertible Preferred Stock, Common Stock Subject to Rescission Rights and Stockholders’ Equity
Current liabilities:
Customer deposits	$	9,585		$	9,829
Accounts payable		976			872
Accrued liabilities		3,197			3,252
Income taxes payable		998			1,950
Deferred revenue		23,384			18,043
Capital lease obligations		69			65

Total current liabilities		38,209			34,011

Customer deposits		92			92
Capital lease obligations, non-current		79			114

Total liabilities		38,380			34,217

Redeemable convertible preferred stock		—			14,489

Common stock subject to rescission rights		98			—

Stockholders’ equity:
Preferred stock		—			—
Common stock		9			6
Additional paid-in capital		42,748			1,144
Accumulated other comprehensive loss		(20	)		(1	)
Retained earnings		351			866

Total stockholders’ equity		43,088			2,015

Total liabilities, redeemable convertible preferred stock, common stock subject to rescission rights and stockholders’ equity	$	81,566		$	50,721


	Three Months Ended March 31,						Six Months Ended March 31,
(In thousands, except per share data)	2003			2002			2003			2002
	(Restated) (See Note 7)						(Restated) (See Note 7)
Sales:
Software license and other, net	$	7,818		$	6,176		$	14,525		$	11,536
Maintenance and services		4,872			3,376			9,325			6,825

Total net sales		12,690			9,552			23,850			18,361
Cost of sales:
Software license and other, net		2,363			1,907			4,357			3,645
Maintenance and services		1,674			950			3,375			1,798

Total cost of sales		4,037			2,857			7,732			5,443

Gross profit		8,653			6,695			16,118			12,918

Operating expenses:
Research and development		2,358			2,019			4,470			3,735
Sales and marketing		3,324			2,961			6,485			5,810
General and administrative		1,428			1,178			2,539			1,977
Amortization of intangible assets		103			130			205			221

Total operating expenses		7,213			6,288			13,699			11,743

Operating income		1,440			407			2,419			1,175
Interest expense		(5	)		(7	)		(11	)		(14	)
Interest and other income		143			89			226			204

Income before provision for income taxes		1,578			489			2,634			1,365
Provision for income taxes		(551	)		(169	)		(920	)		(472	)

Net income		1,027			320			1,714			893
Accretion of redeemable convertible preferred stock		—			(3,178	)		(2,229	)		(4,982	)

Net income (loss) available for common stockholders	$	1,027		$	(2,858	)	$	(515	)	$	(4,089	)

Net income (loss) per common share:
Basic	$	0.11		$	(0.47	)	$	(0.06	)	$	(0.68	)

Diluted	$	0.10		$	(0.47	)	$	(0.06	)	$	(0.68	)

Weighted-average shares used in computing net income (loss) per common share:
Basic		9,340			6,027			8,394			6,026

Diluted		9,913			6,027			8,394			6,026


	Six Months Ended March 31,
	2003			2002
(In thousands)	(Restated) (see Note 7)
Cash flows from operating activities:
Net income	$	1,714		$	893
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of property and equipment		811			698
Amortization of goodwill and other intangible assets		205			220
Provision for doubtful accounts		64			46
Deferred income taxes		—			51
Loss on disposal of property and equipment		101			—
Gain from sale of investment		—			(8	)
Changes in assets and liabilities, net of effects of acquisitions:
Accounts receivable		(4,550	)		(1,080	)
Inventories		21			—
Prepaid expenses and other current assets		24			(516	)
Other assets		(190	)		(2	)
Customer deposits		(244	)		639
Accounts payable		106			24
Accrued liabilities		(55	)		(513	)
Income tax payable/refund receivable		(2,217	)		(438	)
Deferred revenue		5,357			3,344

Net cash provided by operating activities		1,147			3,358

Cash flows from investing activities:
Acquisition of property and equipment		(1,149	)		(560	)
Proceeds from disposal of property and equipment		51			—
Payments for MC² acquisition, net		—			(500	)
Proceeds from sale of investment		—			44
Purchases of available-for-sale securities		(16,634	)		(4,271	)
Proceeds from sales of available-for-sale securities		16,387			3,790
Proceeds from maturities of available-for-sale securities		66			480

Net cash used in investing activities		(1,279	)		(1,017	)

Cash flows from financing activities:
Principal payments on capital leases		(31	)		(28	)
Proceeds from the issuance of common stock, net		24,986			38
Repurchase of common stock		—			(21	)

Net cash provided by (used in) financing activities		24,955			(11	)

Net increase in cash and cash equivalents		24,823			2,330
Effect of exchange rates on cash		(28	)		—
Cash and cash equivalents at beginning of period		23,432			12,456

Cash and cash equivalents at end of period	$	48,227		$	14,786


	Three Months Ended March 31,					Six Months Ended March 31,
	2003		2002			2003			2002
	(Restated) (See Note 7)					(Restated) (See Note 7)
Net income (loss) available for common stockholders as reported	$	1,027	$	(2,858	)	$	(515	)	$	(4,089	)
Amortization of goodwill		—		54			—			69

Adjusted net income (loss) available for common stockholders	$	1,027	$	(2,804	)	$	(515	)	$	(4,020	)

Net income (loss) per common share, basic
As reported	$	0.11	$	(0.47	)	$	(0.06	)	$	(0.68	)

As adjusted	$	0.11	$	(0.47	)	$	(0.06	)	$	(0.67	)

Net income (loss) per common share, diluted
As reported	$	0.10	$	(0.47	)	$	(0.06	)	$	(0.68	)

As adjusted	$	0.10	$	(0.47	)	$	(0.06	)	$	(0.67	)

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	Unrealized gains (losses) on securities			Foreign currency translation adjustments			Accumulated other comprehensive loss
Balances, October 1, 2002	$	(1	)	$	—		$	(1	)
Change during the three months ended December 31, 2002		5			(6	)		(1	)
Change during the three months ended March 31, 2003		(5	)		(13	)		(18	)

Balances, March 31, 2003	$	(1	)	$	(19	)	$	(20	)


	March 31,
	2003	2002
Options to purchase common stock	5,357	345,242
Redeemable convertible preferred stock	—	1,238,390


	Three Months Ended March 31,										Six Months Ended March 31,
	2003				2002						2003					2002
	As Reported		Restated		As Reported			Restated			As Reported		Restated			As Reported			Restated
	(in thousands except per share data)
Consolidated Statement of Operations Data:
Net sales	$	15,338	$	12,690	$	11,820		$	9,552		$	27,546	$	23,850		$	20,436		$	18,361
Gross profit		11,126		8,653		8,834			6,695			19,593		16,118			14,903			12,918
Operating income		3,716		1,440		2,436			407			5,665		2,419			3,084			1,175
Net income		2,428		1,027		1,586			320			3,704		1,714			2,063			893
Net income (loss) available to common stockholders		2,428		1,027		(1,592	)		(2,858	)		1,475		(515	)		(2,919	)		(4,089	)
Net income (loss) per common share:
Basic	$	0.26	$	0.11	$	(0.26	)	$	(0.47	)	$	0.18	$	(0.06	)	$	(0.48	)	$	(0.68	)

Diluted	$	0.24	$	0.10	$	(0.26	)	$	(0.47	)	$	0.16	$	(0.06	)	$	(0.48	)	$	(0.68	)


	As of March 31, 2003				As of September 30, 2002
	As Reported		Restated		As Reported		Restated
	(in thousands)
Consolidated Balance Sheet Data:
Allowance for doubtful accounts	$	706	$	288	$	520	$	224
Prepaid expenses and other current assets		2,934		4,296		3,281		4,316
Deferred income taxes, net		1,576		6,218		1,576		4,962
Deferred revenue		9,839		23,384		8,194		18,043
Retained earnings		7,474		351		5,999		866


Fiscal Year	Property Leases		Operating Leases		Telecommunications Contracts		Total Future Obligations
2003	$	1,411	$	31	$	545	$	1,987
2004		2,673		52		1,353		4,078
2005		2,713		27		1,232		3,972
2006		2,514		6		1,200		3,720
2007		1,011		—		930		1,941


10.3.2		Third Addendum dated February 5, 2003 to Lease Agreement dated September 1, 1999 between the Revocable Living Trust dated March 23, 1987, Hillview Management, Inc. and IMPAC for the premises in Mountain View, California (incorporated by reference from Exhibit 10.3.2 to IMPAC’s Registration Statement on Form S-1 (File No. 333-104739)).

31.1		Certification of Principal Executive Officer Pursuant to Section 302.

31.2		Certification of Principal Financial Officer Pursuant to Section 302.

32.1		Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350.

32.2		Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350.